Annual Report (10-k)

Date : 02/22/2019 @ 11:05AM
Source : Edgar (US Regulatory)
Stock : American River Bankshares (AMRB)
Quote : 13.32  0.15 (1.14%) @ 9:30PM

Annual Report (10-k)

 

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

FORM 10-K

x   ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the fiscal year ended December 31, 2018

or

o   TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from     to   

Commission File No. 0-31525

AMERICAN RIVER BANKSHARES

 

(Exact name of registrant as specified in its charter)

     
California   68-0352144
State or other jurisdiction of   (IRS Employer Identification No.)
incorporation or organization    

 

3100 Zinfandel Drive, Rancho Cordova, California 95670
(Address of principal executive offices) (Zip code)

Registrant’s telephone number, including area code   916-851-0123

Securities registered pursuant to Section 12(b) of the Act:

Title of Each Class   Name of Each Exchange On Which Registered
Common Stock, no par value   NASDAQ Global Select Market

 

Securities registered pursuant to Section 12(g) of the Act:

None

 Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.

Yes o No x

 Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.

Yes o No x

 Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (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 o

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T(§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files).

Yes x No o

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (§229.405 of this chapter) is not contained herein, and will not be contained, to the best of the registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.  x

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer”, “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act.

Large accelerated filer o Accelerated filer x
Non-accelerated filer  o Smaller reporting company o
 

Emerging growth company o

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. o

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act). Yes  o No x

State the aggregate market value of the voting and non-voting common equity held by non-affiliates computed by reference to the price at which the common equity was last sold, or the average bid and asked price of such common equity, as of the last business day of the registrant’s most recently completed second fiscal quarter. $83,897,000.

Indicate the number of shares outstanding of each of the registrant’s classes of common stock, as of the latest practicable date. 

As of February 20, 2019, the registrant’s no par value Common Stock totaled 5,859,568 shares outstanding.

DOCUMENTS INCORPORATED BY REFERENCE

The following documents are incorporated by reference into this Form 10-K: Part III, Items 10 through 14 from Registrant’s definitive proxy statement for the 2019 annual meeting of shareholders.

 
 

AMERICAN RIVER BANKSHARES

INDEX TO
ANNUAL REPORT ON FORM 10-K

FOR YEAR ENDED DECEMBER 31, 2018

      Page
Part I.   3
Item 1. Business   3
Item 1A. Risk Factors   16
Item 1B. Unresolved Staff Comments   27
Item 2. Properties   27
Item 3. Legal Proceedings   28
Item 4. Mine Safety Disclosures   28
       
Part II.     28
       
Item 5. Market For Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities   28
Item 6. Selected Financial Data   31
Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations   32
Item 7A. Quantitative and Qualitative Disclosures About Market Risk   55
Item 8. Financial Statements and Supplementary Data   56
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure   115
Item 9A. Controls and Procedures   116
Item 9B. Other Information   116
       
Part III.     116
       
Item 10. Directors, Executive Officers and Corporate Governance   116
Item 11. Executive Compensation   116
Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters   117
Item 13. Certain Relationships and Related Transactions, and Director Independence   117
Item 14. Principal Accounting Fees and Services   117
       
Part IV.     117
       
Item 15. Exhibits and Financial Statement Schedules   117
Item 16. Form 10-K Summary   120
       
Signatures     121
       
Exhibits    
       
23.1 Consent of Independent Registered Public Accounting Firm   122
31.1 Certifications of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002   123
31.2 Certifications of the Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002   124
32.1 Certifications of Chief Executive Officer and Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002   125
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PART I

 

Item 1. Business.

 

Cautionary Statements Regarding Forward-Looking Statements

Certain matters discussed or incorporated by reference in this Annual Report on Form 10-K including, but not limited to, matters described in “Item 7 - Management’s Discussion and Analysis of Financial Condition and Results of Operations,” are “forward-looking statements” within the meaning of Section 21E of the Securities Exchange Act of 1934, as amended, Section 27A of the Securities Act of 1933, as amended, and subject to the safe-harbor provisions of the Private Securities Litigation Reform Act of 1995. Such forward-looking statements may contain words related to future projections including, but not limited to, words such as “believe,” “expect,” “anticipate,” “intend,” “may,” “will,” “should,” “could,” “would,” and variations of those words and similar words that are subject to risks, uncertainties and other factors that could cause actual results to differ significantly from those projected. Factors that could cause or contribute to such differences include, but are not limited to, the following:

· Current and future legislation and regulation promulgated by the United States Congress and actions taken by governmental agencies that may impact the U.S. financial system;
· the risks presented by economic volatility and recession, which could adversely affect credit quality, collateral values, including real estate collateral, investment values, liquidity and loan originations and loan portfolio delinquency rates;
· variances in the actual versus projected growth in assets and return on assets;
· potential loan and lease losses;
· potential expenses associated with resolving nonperforming assets;
· changes in the interest rate environment including interest rates charged on loans, earned on securities investments and paid on deposits and other borrowed funds;
· competitive effects;
· inadequate internal controls over financial reporting or disclosure controls and procedures;
· potential declines in fee and other noninterest income earned associated with economic factors;
· general economic conditions nationally, regionally, and within our operating markets could be less favorable than expected or could have a more direct and pronounced effect on us than expected and adversely affect our ability to continue internal growth at historical rates and maintain the quality of our earning assets;
· changes in the regulatory environment including increased capital and regulatory compliance requirements and government intervention in the U.S. financial system;
· changes in business conditions and inflation;
· changes in securities markets, public debt markets, and other capital markets;
· potential data processing, cybersecurity and other operational systems failures, breach or fraud;
· potential decline in real estate values in our operating markets;
· the effects of uncontrollable events such as terrorism, the threat of terrorism or the impact of military conflicts in connection with the conduct of the war on terrorism by the United States and its allies, natural disasters (including earthquakes and wildfires), and disruption of power supplies and communications;
· changes in accounting standards, tax laws or regulations and interpretations of such standards, laws or regulations;
· projected business increases following any future strategic expansion could be lower than expected;
· the goodwill we have recorded in connection with acquisitions could become impaired, which may have an adverse impact on our earnings;
· our ability to comply with any regulatory orders or requirements we may become subject to;
· the effects and costs of litigation and other legal developments;
· the reputation of the financial services industry could experience deterioration, which could adversely affect our ability to access markets for funding and to acquire and retain customers; and
· the efficiencies we may expect to receive from any investments in personnel and infrastructure may not be realized.
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The factors set forth under “Item 1A-Risk Factors” in this report and other cautionary statements and information set forth in this report should be carefully considered and understood as being applicable to all related forward-looking statements contained in this report, when evaluating the business prospects of the Company and its subsidiaries.

Forward-looking statements are not guarantees of performance. By their nature, they involve risks, uncertainties and assumptions. The future results and shareholder values may differ significantly from those expressed in these forward-looking statements. You are cautioned not to put undue reliance on any forward-looking statement. Any such statement speaks only as of the date of this report, and in the case of any documents that may be incorporated by reference, as of the date of those documents. We do not undertake any obligation to update or release any revisions to any forward-looking statements, to report any new information, future event or other circumstances after the date of this report or to reflect the occurrence of unanticipated events, except as required by law. However, your attention is directed to any further disclosures made on related subjects in our subsequent reports filed with the Securities and Exchange Commission (the “SEC”) on Forms 10-K, 10-Q and 8-K.

Introduction

American River Bankshares (the “Company”) is a bank holding company registered under the Bank Holding Company Act of 1956, as amended. The Company was incorporated under the laws of the State of California in 1995. As a bank holding company, the Company is authorized to engage in the activities permitted under the Bank Holding Company Act of 1956, as amended, and regulations thereunder. Its principal office is located at 3100 Zinfandel Drive, Suite 450, Rancho Cordova, California 95670 and its telephone number is (916) 851-0123.

The Company owns 100% of the issued and outstanding common shares of its banking subsidiary, American River Bank, and American River Financial, a California corporation which has been inactive since its incorporation in 2003.

American River Bank was incorporated and commenced business in Fair Oaks, California, in 1983 and thereafter moved its headquarters to Sacramento, California in 1985. American River Bank operates four full service offices in Sacramento County including the main office located at 1545 River Park Drive, Suite 107, Sacramento and branch offices in Sacramento and Gold River; one full service office in Placer County, located in Roseville; two full service offices in Sonoma County in Healdsburg and Santa Rosa; and three full service offices in Amador County in Jackson, Pioneer, and Ione. In 2000, North Coast Bank was acquired by the Company as a separate bank subsidiary. Effective December 31, 2003, North Coast Bank was merged with and into American River Bank. On December 3, 2004, the Company acquired Bank of Amador located in Jackson, California. Bank of Amador was merged with and into American River Bank.

American River Bank’s deposits are insured by the Federal Deposit Insurance Corporation (“FDIC”) up to applicable legal limits. On July 21, 2010, President Obama signed the Dodd-Frank Wall Street Reform and Consumer Protection Act (the “Dodd-Frank Act”). The Dodd-Frank Act includes an increase to $250,000 as the maximum FDIC insurance limit per depositor retroactive to January 1, 2008. On November 9, 2010, the FDIC implemented a final rule to permanently increase the maximum insurance limit to $250,000 under the Dodd-Frank Act.

American River Bank does not offer trust services or international banking services and does not plan to do so in the near future. American River Bank’s primary business is serving the commercial banking needs of small to mid-sized businesses within those counties listed above. American River Bank accepts checking and savings deposits, offers money market deposit accounts and certificates of deposit, makes secured and unsecured commercial, secured real estate, and other installment and term loans and offers other customary banking services. American River Bank also conducts lease financing for most types of business equipment, from computer software to heavy earth-moving equipment. American River Bank owns 100% of two inactive companies, ARBCO and American River Mortgage. ARBCO was formed in 1984 to conduct real estate development and has been inactive since 1995. American River Mortgage has been inactive since its formation in 1994.

During 2018, the Company conducted no significant activities other than holding the shares of its subsidiaries. However, it is authorized, with the prior approval of the Board of Governors of the Federal Reserve System (the “Board of Governors”), the Company’s principal regulator, to engage in a variety of activities which are deemed closely related to the business of banking.

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The common stock of the Company is registered under the Securities Exchange Act of 1934, as amended, and is listed and traded on the Nasdaq Global Select Market under the symbol “AMRB.”

At December 31, 2018, the Company had consolidated assets of $688 million, net loans of $319 million, deposits of $591 million and shareholders’ equity of $75 million.

General

 

The Company is a regional bank holding company headquartered in Sacramento County, California. The principal communities served are located in Sacramento, Placer, Yolo, El Dorado, Sonoma, and Amador counties. The Company generates most of its revenue by providing a wide range of products and services to small and middle-market businesses and individuals. The Company’s principal source of revenue comes from interest income. Interest income is derived from interest and fees on loans and leases, interest on investments (principally government securities), and Federal funds sold (funds loaned on a short-term basis to other banks). For the year ended December 31, 2018, these sources comprised 65.0%, 33.4%, and 1.6%, respectively, of the Company’s interest income.

American River Bank’s deposits are not received from a single depositor or group of affiliated depositors, the loss of any one of which would have a materially adverse effect on the business of the Company. A material portion of American River Bank’s deposits are not concentrated within a single industry or group of related industries.

As of December 31, 2018 and December 31, 2017, American River Bank held $29,000,000 in certificates of deposit for the State of California. In connection with these deposits, American River Bank is generally required to pledge securities to secure such deposits, except for the first $250,000 insured by the FDIC.

Based on the most recent information made available by the FDIC through June 30, 2018, American River Bank competes with approximately 31 other banking or savings institutions in Sacramento County, 24 in Placer County, 19 in Sonoma County and 6 in Amador County, in which American River Bank’s market share of FDIC insured deposits was approximately 0.9% in the service areas of Sacramento County, 0.5% in Placer County, 0.6% in Sonoma County, and 15.8% in Amador County.

Employees

At December 31, 2018, the Company and its subsidiaries employed 101 persons on a full-time equivalent basis. The Company believes its employee relations are good.

Website Access

The Company maintains a website where certain information about the Company is posted. Through the website, its Annual Report on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K, and amendments thereto, as well as Section 16 Reports and amendments thereto, are available as soon as reasonably practicable after such material is electronically filed with or furnished to the SEC. These reports are free of charge and can be accessed through the address www.americanriverbank.com by accessing the Investor Relations link, then the Company News link, then the SEC Filings link located at that address. Once you have selected the SEC Filings link you will have the option to access the Section 16 Reports or the reports filed on Forms 10-K, 10-Q and 8-K by the Company by selecting the appropriate link.

Competition

General Competitive Factors

In order to compete with the major financial institutions in its primary service areas, American River Bank uses to the fullest extent possible the flexibility which is accorded by their community bank status. This includes an emphasis on specialized services, local promotional activity, and personal contacts by their respective officers, directors and employees. American River Bank also seeks to provide special services and programs for individuals in their primary service area who are employed in the agricultural, professional and business fields, such as loans for equipment, furniture, tools of the trade or expansion of practices or businesses. In the event there are customers whose loan demands exceed their respective lending limits, they seek to arrange for such loans on a participation basis with other financial institutions. Furthermore, American River Bank also assists those customers requiring services not offered by either bank to obtain such services from correspondent banks.

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Commercial banks compete with savings and loan associations, credit unions, other financial institutions and other entities for funds. For instance, yields on corporate and government debt securities and other commercial paper affect the ability of commercial banks to attract and hold deposits. Commercial banks also compete for loans with savings and loan associations, credit unions, consumer finance companies, mortgage companies and other lending institutions.

Banking is a business that depends on interest rate differentials. In general, the difference between the interest rate paid by a bank to obtain their deposits and other borrowings and the interest rate received by a bank on loans extended to customers and on securities held in a bank’s portfolio comprise the major portion of a bank’s revenues.

The interest rate differentials of a bank, and therefore their revenues, are affected not only by general economic conditions, both domestic and foreign, but also by the monetary and fiscal policies of the United States as set by statutes and as implemented by federal agencies, particularly the Federal Reserve Board. The Federal Reserve Board can and does implement national monetary policy, such as seeking to curb inflation and combat recession, by its open market operations in United States government securities, adjustments in the amount of interest free reserves that banks and other financial institutions are required to maintain, and adjustments to the discount rates applicable to borrowing by banks from the Federal Reserve Board. These activities influence the growth of bank loans, investments and deposits and also affect interest rates charged on loans and paid on deposits. The nature and timing of any future changes in monetary policies and their impact on American River Bank is not predictable.

Competitive Data

At June 30, 2018, based on the most recent “Data Book Summary of Deposits in FDIC Insured Commercial and Savings Banks” report at that date, the competing commercial and savings banks had 168 offices in the cities of Rancho Cordova, Roseville and Sacramento, California, where American River Bank has its five Sacramento area offices, 61 offices in the cities of Healdsburg and Santa Rosa, California, where American River Bank has its two Sonoma County offices, and three offices in the cities of Jackson, Pioneer and Ione, California, where American River Bank has its three Amador County offices. Additionally, American River Bank competes with thrifts and, to a lesser extent, credit unions, finance companies and other financial service providers for deposit and loan customers.

Larger banks may have a competitive advantage because of higher lending limits and major advertising and marketing campaigns. They also perform services, such as trust services, international banking, discount brokerage and insurance services, which American River Bank is neither authorized nor prepared to offer currently. American River Bank has made arrangements with its correspondent banks and with others to provide some of these services for its customers. For borrowers requiring loans in excess of American River Bank’s legal lending limits, American River Bank has offered, and intends to offer in the future, such loans on a participating basis with its correspondent banks and with other community banks, retaining the portion of such loans which is within its lending limits. As of December 31, 2018, American River Bank’s aggregate legal lending limits to a single borrower and such borrower’s related parties were $11,946,000 on an unsecured basis and $19,910,000 on a fully secured basis based on capital and allowable reserves of $79,641,000.

American River Bank’s business is concentrated in its service area, which primarily encompasses Sacramento County, South Western Placer County, Sonoma County, and Amador County. The economy of American River Bank’s service area is dependent upon government, manufacturing, tourism, retail sales, agriculture, population growth and smaller service oriented businesses.

Based upon the most recent “Data Book Summary of Deposits in FDIC Insured Commercial and Savings Banks” report dated June 30, 2018, there were 215 operating commercial and savings bank offices in Sacramento County with total deposits of $35,096,311,000. This was an increase of $2,649,213,000 compared to the June 30, 2017 balances. American River Bank held a total of $315,498,000 in deposits, representing approximately 0.9% of total commercial and savings banks deposits in Sacramento County as of June 30, 2018.

Based upon the most recent “Data Book Summary of Deposits in FDIC Insured Commercial and Savings Banks” report dated June 30, 2018, there were 94 operating commercial and savings bank offices in Placer County with total deposits of $11,214,350,000. This was a decrease of $1,018,965,000 compared to the June 30, 2017 balances. American River Bank held a total of $57,285,000 in deposits, representing approximately 0.5% of total commercial and savings banks deposits in Placer County as of June 30, 2018.

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Based upon the most recent “Data Book Summary of Deposits in FDIC Insured Commercial and Savings Banks” report dated June 30, 2018, there were 122 operating commercial and savings bank offices in Sonoma County with total deposits of $14,792,617,000. This was an increase of $1,651,607,000 compared to the June 30, 2017 balances. American River Bank held a total of $86,220,000 in deposits, representing approximately 0.6% of total commercial and savings banks deposits in Sonoma County as of June 30, 2018.

Based upon the most recent “Data Book Summary of Deposits in FDIC Insured Commercial and Savings Banks” report dated June 30, 2018, there were 13 operating commercial and savings bank offices in Amador County with total deposits of $774,441,000. This was an increase of $7,812,000 compared to the June 30, 2017 balances. American River Bank held a total of $122,591,000 in deposits, representing approximately 15.8% of total commercial and savings bank deposits in Amador County as of June 30, 2018.

Supervision and Regulation

General

American River Bankshares is a bank holding company within the meaning of the Bank Holding Company Act of 1956, as amended (the “Bank Holding Company Act”), and is registered as such with, and subject to the supervision of, the Board of Governors. The Company is required to obtain the approval of the Board of Governors before it may acquire all or substantially all of the assets of any bank, or ownership or control of the voting shares of any bank if, after giving effect to such acquisition of shares, the Company would own or control more than 5% of the voting shares of such bank. The Bank Holding Company Act prohibits the Company from acquiring any voting shares of, or interest in, all or substantially all of the assets of, a bank located outside the State of California unless such an acquisition is specifically authorized by the laws of the state in which such bank is located. Any such interstate acquisition is also subject to applicable California and federal law.

The common stock of the Company is subject to the registration requirements of the Securities Act of 1933, as amended, and the qualification requirements of the California Corporate Securities Law of 1968, as amended. The Company is also subject to the periodic reporting requirements of Section 13 of the Securities Exchange Act of 1934, as amended, which include, but are not limited to, annual, quarterly and other current reports with the SEC.

The Company, and any subsidiaries which it may acquire or organize, are deemed to be “affiliates” within the meaning of that term as defined in the Federal Reserve Act. This means, for example, that there are limitations (a) on loans by American River Bank to affiliates, (b) on investments by American River Bank in affiliates’ stock as collateral for loans to any borrower, and (c) other transactions between any bank subsidiary and the Company. The Company and its subsidiaries are also subject to certain restrictions with respect to engaging in the underwriting, public sale and distribution of securities.

 

American River Bank is licensed by the California Commissioner (the “Commissioner”) of the Department of Business Oversight (the “DBO”), and its deposits are insured by the FDIC up to the applicable legal limits.  American River Bankshares and American River Bank are required to file reports with the Board of Governors, the Commissioner, and the FDIC and provide any additional information that the Board of Governors, the Commissioner, and the FDIC may require.

 

Capital Standards

 

Federal regulations require FDIC insured depository institutions, including state-chartered banks, to meet several minimum capital standards: a common equity Tier 1 capital to risk-based assets ratio, a Tier 1 capital to risk-based assets ratio, a total capital to risk-based assets and a Tier 1 capital to total assets leverage ratio. The existing capital requirements were effective January 1, 2015 and are the result of a final rule implementing regulatory amendments based on recommendations of the Basel Committee on Banking Supervision and certain requirements of the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 (the “Dodd-Frank Act”).

7
 

The capital standards require the maintenance of common equity Tier 1 capital, Tier 1 capital and total capital to risk-weighted assets of at least 4.5%, 6% and 8%, respectively, and a leverage ratio of at least 4% Tier 1 capital. Common equity Tier 1 capital is generally defined as common stockholders’ equity and retained earnings. Tier 1 capital is generally defined as common equity Tier 1 and Additional Tier 1 capital. Additional Tier 1 capital generally includes certain noncumulative perpetual preferred stock and related surplus and minority interests in equity accounts of consolidated subsidiaries. Total capital includes Tier 1 capital (common equity Tier 1 capital plus Additional Tier 1 capital) and Tier 2 capital. Tier 2 capital is comprised of capital instruments and related surplus meeting specified requirements, and may include cumulative preferred stock and long-term perpetual preferred stock, mandatory convertible securities, intermediate preferred stock and subordinated debt. Also included in Tier 2 capital is the allowance for loan and lease losses limited to a maximum of 1.25% of risk-weighted assets and, for institutions that have exercised an opt-out election regarding the treatment of Accumulated Other Comprehensive Income (“AOCI”), up to 45% of net unrealized gains on available-for-sale equity securities with readily determinable fair market values. Institutions that have not exercised the AOCI opt-out have AOCI incorporated into common equity Tier 1 capital (including unrealized gains and losses on available-for-sale-securities). We exercised the opt-out election regarding the treatment of AOCI. Calculation of all types of regulatory capital is subject to deductions and adjustments specified in the regulations.

 

In determining the amount of risk-weighted assets for purposes of calculating risk-based capital ratios, a bank’s assets, including certain off-balance sheet assets (e.g., recourse obligations, direct credit substitutes, residual interests), are multiplied by a risk weight factor assigned by the regulations based on perceived risks inherent in the type of asset. Higher levels of capital are required for asset categories believed to present greater risk. For example, a risk weight of 0% is assigned to cash and U.S. government securities, a risk weight of 50% is generally assigned to prudently underwritten first lien 1 – 4 family residential mortgages, a risk weight of 100% is assigned to commercial and consumer loans, a risk weight of 150% is assigned to certain past due loans and a risk weight of between 0% to 600% is assigned to permissible equity interests, depending on certain specified factors.

 

In addition to establishing the minimum regulatory capital requirements, the regulations limit capital distributions and certain discretionary bonus payments to management if the institution does not hold a “capital conservation buffer” consisting of 2.5% of common equity Tier 1 capital to risk-weighted assets above the amount necessary to meet its minimum risk-based capital requirements. The capital conservation buffer requirement was phased in beginning January 1, 2016 at 0.625% of risk-weighted assets and increasing each year until now fully implemented at 2.5% as of January 1, 2019.

 

Management believes that American River Bank is in compliance with the minimum capital requirements, including the fully phased-in capital conservation buffer requirement based upon its capital position at December 31, 2018.

In accordance with the Dodd-Frank Act and long-standing Federal Reserve policy, the Company must act as a source of financial and managerial strength to American River Bank. Under this policy, the Company must commit resources to support the Bank, including at times when the Company may not be in a financial position to provide it. The Company could be required to guarantee the capital plan of American River Bank if it becomes undercapitalized for purposes of banking regulations, as described below. Any capital loans by a bank holding company to its subsidiary bank are subordinate in right of payment to deposits and to certain other indebtedness of such subsidiary bank. The Bank Holding Company Act of 1956, as amended (the “BHC Act”) provides that, in the event of a bank holding company’s bankruptcy, any commitment by the bank holding company to a federal bank regulatory agency to maintain the capital of a bank subsidiary will be assumed by the bankruptcy trustee and entitled to priority of payment.

 

Safety and Soundness Standards

 

Each federal banking agency, including the FDIC, has adopted guidelines establishing general standards relating to internal controls, information and internal audit systems, loan documentation, credit underwriting, interest rate exposure, asset growth, asset quality, earnings, compensation, fees and benefits and information security standards. In general, the guidelines require appropriate systems and practices to identify and manage the risks and exposures specified in the guidelines. The guidelines prohibit excessive compensation as an unsafe and unsound practice and describe compensation as excessive when the amounts paid are unreasonable or disproportionate to the services performed by an executive officer, employee, director, or principal stockholder. The FDIC also has issued guidance on risks banks may face from third party relationships (e.g. relationships under which the third party provides services to the bank). The guidance generally requires the bank to perform adequate due diligence on the third party, appropriately document the relationship, and perform adequate oversight and auditing, in order to the limit the risks to the bank.

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Prompt Corrective Regulatory Action

 

Federal law requires that federal bank regulatory authorities take “prompt corrective action” with respect to institutions that do not meet minimum capital requirements. For these purposes, the statute establishes five capital tiers: well capitalized, adequately capitalized, undercapitalized, significantly undercapitalized and critically undercapitalized.

 

State banks that have insufficient capital are subject to certain mandatory and discretionary supervisory measures. For example, a bank that is “undercapitalized” (i.e. fails to comply with any regulatory capital requirement) is subject to growth limitations and is required to submit a capital restoration plan; a holding company that controls such a bank is required to guarantee that the bank complies with the restoration plan. A “significantly undercapitalized” bank is subject to additional restrictions. State banks deemed by the FDIC to be “critically undercapitalized” are subject to the appointment of a receiver or conservator.

 

The final rule that increased regulatory capital standards also adjusted the prompt corrective action tiers as of January 1, 2015 to conform to the new capital standards. The various categories now incorporate the newly adopted common equity Tier 1 capital requirement, an increase in the Tier 1 to risk-based assets requirement and other changes. Under the revised prompt corrective action requirements, insured depository institutions are required to meet the following in order to qualify as “well capitalized:” (1) a common equity Tier 1 risk-based capital ratio of 6.5% (new standard); (2) a Tier 1 risk-based capital ratio of 8% (increased from 6%); (3) a total risk-based capital ratio of 10% (unchanged) and (4) a Tier 1 leverage ratio of 5% (unchanged).

 

Additional Regulations

Under the Federal Deposit Insurance Corporation Improvement Act of 1991 (FDICIA), the federal financial institution agencies have adopted regulations which require institutions to establish and maintain comprehensive written real estate policies which address certain lending considerations, including loan-to-value limits, loan administrative policies, portfolio diversification standards, and documentation, approval and reporting requirements. The FDICIA further generally prohibits an insured state bank from engaging as a principal in any activity that is impermissible for a national bank, absent FDIC determination that the activity would not pose a significant risk to the Bank Insurance Fund, and that the bank is, and will continue to be, within applicable capital standards.

The Federal Financial Institution Examination Counsel (“FFIEC”) utilizes the Uniform Financial Institutions Rating System (“UFIRS”) commonly referred to as “CAMELS” to classify and evaluate the soundness of financial institutions. Bank examiners use the CAMELS measurements to evaluate capital adequacy, asset quality, management, earnings, liquidity and sensitivity to market risk. Effective January 1, 2005, bank holding companies such as the Company, were subject to evaluation and examination under a revised bank holding company rating system. The so-called BOPEC rating system implemented in 1979 was primarily focused on financial condition, consolidated capital and consolidated earnings. The rating system reflects the change toward analysis of risk management (as reflected in bank examination under the CAMELS measurements), in addition to financial factors and the potential impact of nondepository subsidiaries upon depository institution subsidiaries.

The federal financial institution agencies have established bases for analysis and standards for assessing a financial institution’s capital adequacy in conjunction with the risk-based and Basel III capital guidelines including analysis of interest rate risk, concentrations of credit risk, risk posed by non-traditional activities, and factors affecting overall safety and soundness. The safety and soundness standards for insured financial institutions include analysis of (1) internal controls, information systems and internal audit systems; (2) loan documentation; (3) credit underwriting; (4) interest rate exposure; (5) asset growth; (6) compensation, fees and benefits; and (7) excessive compensation for executive officers, directors or principal shareholders which could lead to material financial loss. If an agency determines that an institution fails to meet any standard, the agency may require the financial institution to submit to the agency an acceptable plan to achieve compliance with the standard. If the agency requires submission of a compliance plan and the institution fails to timely submit an acceptable plan or to implement an accepted plan, the agency must require the institution to correct the deficiency. The agencies may elect to initiate enforcement action in certain cases rather than rely on an existing plan particularly where failure to meet one or more of the standards could threaten the safe and sound operation of the institution.

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Community Reinvestment Act (“CRA”) regulations evaluate banks’ lending to low and moderate income individuals and businesses across a four-point scale from “outstanding” to “substantial noncompliance,” and are a factor in regulatory review of applications to merge, establish new branches or form bank holding companies. In addition, any bank rated in “substantial noncompliance” with the CRA regulations may be subject to enforcement proceedings. In its most recent exam for CRA compliance, American River Bank has a rating of “satisfactory.”

Limitations on Dividends, Repurchases and Redemptions

The Company’s ability to pay cash dividends is subject to restrictions set forth in the California General Corporation Law. Funds for payment of any cash dividends by the Company would be obtained from its investments as well as dividends and/or management fees from its subsidiaries. The payment of cash dividends and/or management fees by American River Bank is subject to restrictions set forth in the California Financial Code, as well as restrictions established by the FDIC. On January 25, 2017, the Board of Directors resumed the payment of cash dividends. The Company relies on distributions from American River Bank in the form of cash dividends in order to pay cash dividends to our shareholders. See Item 5. “Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities” for more information regarding cash dividends. We cannot provide any assurance that we will be able to pay dividends in the future.

It is an essential principle of safety and soundness that a banking organization’s redemption and repurchases of regulatory capital instruments, including common stock, from investors be consistent with the organization’s current and prospective capital needs. Consultation with the Federal Reserve before redeeming any equity or other capital instrument included in Tier 1 or Tier 2 capital is generally advisable in all circumstances and is required if such redemption could have a material effect on the level or composition of the organization’s capital base. Bank holding companies that are experiencing financial weaknesses, or that are at significant risk of developing financial weaknesses, must consult with the appropriate Federal Reserve supervisory staff before redeeming or repurchasing common stock or other regulatory capital instruments for cash or other valuable consideration. Similarly, any bank holding company considering expansion, whether through acquisitions or through organic growth and new activities, generally also must consult with the appropriate Federal Reserve supervisory staff before redeeming or repurchasing common stock or other regulatory capital instruments for cash or other valuable consideration. In evaluating the appropriateness of a bank holding company’s proposed redemption or repurchase of capital instruments, the Federal Reserve will consider the potential losses that the holding company may suffer from the prospective need to increase reserves and write down assets from continued asset deterioration and the holding company’s ability to raise additional common stock and other Tier 1 capital to replace capital instruments that are redeemed or repurchased. A bank holding company must inform the Federal Reserve of a redemption or repurchase of common stock or perpetual preferred stock for cash or other value resulting in a net reduction of the bank holding company’s outstanding amount of common stock or perpetual preferred stock below the amount of such capital instrument outstanding at the beginning of the quarter in which the redemption or repurchase occurs. In addition, a bank holding company must advise the Federal Reserve sufficiently in advance of such redemptions and repurchases to provide reasonable opportunity for supervisory review and possible objection should the Federal Reserve determine a transaction raises safety and soundness concerns.

Bank holding company that are not well capitalized or well managed, or that are subject to any unresolved supervisory issues, must provide prior notice to the Federal Reserve for any repurchase or redemption of its equity securities for cash or other value that would reduce by 10% or more the holding company’s consolidated net worth aggregated over the preceding 12-month period.

FDIC Insurance

On October 3, 2008, the Emergency Economic Stabilization Act of 2008 (the “EESA”) was signed into law. The EESA temporarily raised the limit on federal deposit insurance coverage provided by the FDIC from $100,000 to $250,000 per depositor.  On July 21, 2010, President Obama signed the Dodd-Frank Act into law. On November 9, 2010, the FDIC issued a final rule implementing section 343 of the Dodd-Frank Act that permanently raised the current standard maximum deposit insurance amount per depositor to $250,000. In addition, the Dodd-Frank Act also made other deposit insurance changes which may affect our insurance premium assessments to include (i) amendment of the assessment base used to calculate an insured depository institution’s deposit insurance premiums paid to the DIF by elimination of deposits and substitution of average consolidated total assets less average tangible equity during the assessment period as the revised assessment base; (ii) increasing the minimum designated reserve ratio of the DIF from 1.15 percent to 1.35 percent of the estimated amount of total insured deposits; (iii) eliminating the requirement that the FDIC pay dividends to depository institutions when the reserve ratio exceeds certain thresholds; and (iv) repeal of the prohibition upon the payment of interest on demand deposits to be effective one year after the date of enactment of the Dodd-Frank Act.

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On November 18, 2014, the FDIC adopted the Assessments Final Rule which revises the FDIC’s risk-based deposit insurance assessment system to reflect changes in the regulatory capital rules adopted by the federal banking agencies as part of the so-called Basel III capital regulations to conform the prompt corrective action capital ratios and ratio thresholds for “well capitalized” and “adequately capitalized” evaluations.

 

On June 16, 2015, the FDIC proposed changes to the deposit insurance assessments for small insured banks having total assets less than $10 Billion which have been insured for at least five years, based upon experience with bank failures. The changes, among other matters, revise the financial ratios method of determining assessments to reflect a statistical model estimating the probability of failure over three years and updating the financial measures used in the financial ratios method consistent with the statistical model. The FDIC proposed additional changes on October 22, 2015 to require banks with over $10 Billion in assets to be responsible for the recapitalization of the DIF to 1.35 percent of insured deposits after achieving a 1.15 percent reserve ratio. On January 21, 2016, the FDIC proposed further revisions to the small insured bank assessments as the result of comments and recommendations received in response to its earlier proposal. The FDIC proposed that a final rule would go into effect the quarter after adoption, but the amendments would not become operative until the quarter after the DIF reserve ratio reached 1.15 percent. The DIF achieved a reserve ratio of 1.17 as of June 30, 2016. Among the effects of the amendments was a reduction in the initial assessment rates for all banks. On September 30, 2018, the DIF reached 1.36%. Because the reserve ratio has exceeded 1.35%, two deposit insurance assessment changes occurred under the FDIC regulations: 1) surcharges on large banks (total consolidated assets of $10 billion or more) ended; the last surcharge on large banks was collected on December 28, 2018. and 2) small banks (total consolidated assets of less than $10 billion) were awarded assessment credits for the portion of their assessments that contributed to the growth in the reserve ratio from 1.15% to 1.35%, to be applied when the reserve ratio is at least 1.38%.

Although American River Bank’s recent assessments have declined as a result of the change to the deposit assessment system, it is uncertain what effect the implementation of the changes to the insurance assessments will have upon the Company’s cost of operations in the future, but a deterioration in the economic conditions impacting financial institutions or a significant number of failed institutions might necessitate increases in premium assessments to maintain the DIF which could adversely impact the Company’s earnings.

Impact of Certain Legislation and Regulation

Interstate Banking. The Dodd-Frank Act signed into law by President Obama on July 21, 2010, includes provisions authorizing national and state banks to establish branch offices in other states to the same extent as a bank chartered by that state would be permitted to branch.  Previously, banks could only establish branch offices in other states if the host state expressly permitted out-of-state banks to establish branch offices in that state.  Accordingly, banks may be able to enter new markets more freely.

Gramm-Leach-Bliley Act . In 1999, the Gramm-Leach-Bliley Act (the “GLB Act”) was signed into law. The GLB Act eliminated most of the remaining depression-era “firewalls” between banks, securities firms and insurance companies which were established by The Banking Act of 1933, also known as the Glass-Steagall Act (“Glass-Steagall”). Glass-Steagall sought to insulate banks as depository institutions from the perceived risks of securities dealing and underwriting, and related activities. The GLB Act permitted bank holding companies that could qualify as “financial holding companies” to acquire securities firms or create them as subsidiaries, and securities firms could acquire banks or start banking activities through a financial holding company. Prior to the GLB Act, banks were also (with minor exceptions) prohibited from engaging in insurance activities or affiliating with insurers. The GLB Act removed these restrictions and substantially eliminated the prohibitions under the Bank Holding Company Act on affiliations between banks and insurance companies. Consequently, the common ownership of banks, securities firms and insurance firms was possible, in addition to the conduct of commercial banking, merchant banking, investment management, securities underwriting and insurance within a single financial institution using a “financial holding company” structure authorized by the GLB Act.

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A bank holding company could qualify as a financial holding company if (i) its banking subsidiaries are “well capitalized” and “well managed” and (ii) it files with the Board of Governors a certification to such effect and a declaration that it elects to become a financial holding company. The Bank Holding Company Act was amended to permit financial holding companies to engage in activities, and acquire companies engaged in activities, that are financial in nature or incidental to such financial activities. Financial holding companies were also permitted to engage in activities that were complementary to financial activities if the Board of Governors determined that the activity did not pose a substantial risk to the safety or soundness of depository institutions or the financial system in general. These standards expanded upon the list of activities “closely related to banking” which have defined the permissible activities of bank holding companies under the Bank Holding Company Act. Neither the Company nor American River Bank has determined whether or when to seek to acquire and exercise powers or activities under the GLB Act.

Volcker Rule . On December 10, 2013, the federal banking agencies jointly issued a final rule implementing the so-called “Volcker Rule” (set forth in Section 619 of the Dodd-Frank Act). The Volcker Rule prohibits depository institutions, companies that control such institutions, bank holding companies, and the affiliates and subsidiaries of such banking entities, from engaging as principal for the trading account of the banking entity in any purchase or sale of one or more covered financial instruments (so-called “proprietary trading”) and imposes limitations upon retaining ownership interests in, sponsoring, investing in and transacting with certain investment funds, including hedge funds and private equity funds. Management believes the investment portfolio and activities of American River Bank and the Company are in compliance with the Volcker Rule and its implementing regulations.

Change in Bank Control Act . Subject to various exceptions, the BHC Act and the Change in Bank Control Act, together with related regulations, require Federal Reserve approval prior to any person’s or company’s acquiring “control” of a bank holding company. Under a rebuttable presumption established by the Federal Reserve pursuant to the Change in Bank Control Act, the acquisition of 10% or more of a class of voting stock of a bank holding company would constitute acquisition of control of the bank holding company if no other person will own, control, or hold the power to vote a greater percentage of that class of voting stock immediately after the transaction or the bank holding company has registered securities under the Exchange Act. In addition, any person or group of persons acting in concert must obtain the approval of the Federal Reserve under the BHC Act before acquiring 25% (5% in the case of an acquirer that is already a bank holding company) or more of the outstanding voting stock of a bank holding company, the right to control in any manner the election of a majority of the company’s directors, or otherwise obtaining control or a “controlling influence” over the bank holding company. The California Financial Code has similar regulations applicable to acquisition of securities of a California-chartered bank holding company and bank, such as the Company and American River Bank.

Patriot Act . On October 26, 2001, President Bush signed the USA Patriot Act (the “Patriot Act”), which includes provisions pertaining to domestic security, surveillance procedures, border protection, and terrorism laws to be administered by the Secretary of the Treasury. Title III of the Patriot Act entitled, “International Money Laundering Abatement and Anti-Terrorist Financing Act of 2001” includes amendments to the Bank Secrecy Act which expand the responsibilities of financial institutions in regard to anti-money laundering activities with particular emphasis upon international money laundering and terrorism financing activities through designated correspondent and private banking accounts.

The Patriot Act contains various provisions that affect the operations of financial institutions by encouraging cooperation among financial institutions, regulatory authorities and law enforcement authorities with respect to individuals, entities and organizations engaged in, or reasonably suspected of engaging in, terrorist acts or money laundering activities. The Company and American River Bank are not currently aware of any account relationships between American River Bank and any foreign bank or other person or entity which would not be in compliance with the Patriot Act.

The effects which the Patriot Act and any amendments to the Patriot Act or additional legislation enacted by Congress may have upon financial institutions is uncertain; however, such legislation could increase compliance costs and thereby potentially may have an adverse effect upon the Company’s results of operations.

Sarbanes-Oxley Act . On July 30, 2002, President Bush signed into law the Sarbanes-Oxley Act of 2002 (the “Act”) which responded to issues in corporate governance and accountability. Among other matters, key provisions of the Act and rules promulgated by the SEC pursuant to the Act include enhancement of financial disclosures and related certification requirements, rules related to audit committees, auditor independence, ethics requirements, securities trading prohibitions, securities reporting requirements, and securities listing requirements.

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The Company’s securities are listed on the Nasdaq Global Select Market. Consequently, in addition to the rules promulgated by the SEC pursuant to the Act, the Company must also comply with the listing standards applicable to Nasdaq listed companies. The Nasdaq listing standards applicable to the Company include standards related to (i) director independence, (ii) executive session meetings of the board, (iii) requirements for audit, nominating and compensation committee charters, membership qualifications and procedures, (iv) shareholder approval of equity compensation arrangements, and (v) code of conduct requirements that comply with the code of ethics under the Act.

The Company has incurred and it is anticipated that it will continue to incur increased costs to comply with the Act and the rules and regulations promulgated pursuant to the Act by the SEC, Nasdaq and other regulatory agencies having jurisdiction over the Company or the issuance and listing of its securities. The Company does not currently anticipate, however, that compliance with the Act and such rules and regulations will have a material adverse effect upon its financial position or results of its operations or its cash flows.

Fair and Accurate Credit Transactions Act . The Board of Governors, the FDIC, the other federal financial institution regulatory agencies, and the Federal Trade Commission issued final rules and guidelines effective January 1, 2008, subject to mandatory compliance as of November 1, 2008, implementing sections 114 and 315 of the Fair and Accurate Credit Transactions Act of 2003 to require financial institutions and other creditors to develop and implement a written identity theft prevention program. The program must include reasonable policies and procedures for detecting, preventing, and mitigating identity theft in connection with certain new and existing covered accounts. Covered accounts are defined as (i) an account primarily for personal, family, or household purposes (i.e., consumer accounts), or (ii) any other account for which there is a reasonably foreseeable risk to customers or the safety and soundness of the financial institution or creditor from identity theft. The program must be appropriate to the size and complexity of the financial institution or creditor and the nature and scope of its activities and should be designed to:

· identify relevant patterns, practices, and specific forms of activity that are “red flags” of possible identity theft and incorporate those red flags into the program;
· detect the occurrence of red flags incorporated into the program;
· respond appropriately to any red flags that are detected to prevent and mitigate identity theft; and
· ensure that the program is updated periodically to reflect changes in risks to customers or to the safety and soundness of the financial institution or creditor from identity theft.

The regulations include guidelines that each financial institution must consider and, to the extent appropriate, include in its program and steps that must be taken to administer the program including (i) obtaining approval of the program by the board of directors or a committee of the board, (ii) ensuring oversight of the development, implementation and administration of the program, (iii) training staff, and (iv) overseeing service provider arrangements. The guidelines contemplate that existing fraud prevention procedures may be incorporated into the program.

  Office of Foreign Assets Control Regulation. The United States has imposed economic sanctions that affect transactions with designated foreign countries, foreign nationals and others. These are typically known as the “OFAC” rules based on their administration by the U.S. Department of the Treasury Office of Foreign Assets Control (“OFAC”). The OFAC-administered sanctions targeting countries take many different forms. Generally, however, they contain one or more of the following elements: (i) restrictions on trade with or investment in a sanctioned country, including prohibitions against direct or indirect imports from and exports to a sanctioned country and prohibitions on “U.S. persons” engaging in financial transactions relating to making investments in, or providing investment-related advice or assistance to, a sanctioned country; and (ii) a blocking of assets in which the government or specially designated nationals of the sanctioned country have an interest, by prohibiting transfers of property subject to U.S. jurisdiction (including property in the possession or control of U.S. persons). Blocked assets (e.g., property and bank deposits) cannot be paid out, withdrawn, set off or transferred in any manner without a license from OFAC. American River Bank is responsible for, among other things, blocking accounts of, and transactions with, such targets and countries, prohibiting unlicensed trade and financial transactions with them and reporting blocked transactions after their occurrence. Failure to comply with these sanctions could have serious legal and reputational consequences.

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The Dodd-Frank Act.  On July 21, 2010, President Obama signed into law the Dodd-Frank Act. The Dodd-Frank Act is intended to restructure the regulation of the financial services sector by, among other things, (i) establishing a framework to identify systemic risks in the financial system implemented by a newly created Financial Stability Oversight Council and other federal banking agencies; (ii) expanding the resolution authority of the federal banking agencies over troubled financial institutions; (iii) authorizing changes to capital and liquidity requirements; (iv) changing deposit insurance assessments; and (v) enhancing regulatory supervision to improve the safety and soundness of the financial services sector. Below is a summary of certain provisions of the Dodd-Frank Act which, directly or indirectly, may affect us.

· Changes to Capital Requirements. The federal banking agencies are required to establish revised minimum leverage and risk-based capital requirements for banks and bank holding companies. The Dodd-Frank Act requires capital requirements to be counter cyclical so that the required amount of capital increases in times of economic expansion and decreases in times of economic contraction consistent with safety and soundness.
· Enhanced Regulatory Supervision. The Dodd-Frank Act increases regulatory oversight, supervision and examination of banks, bank holding companies and their respective subsidiaries by the appropriate regulatory agency.
· Consumer Protection. The Dodd-Frank Act created the Consumer Financial Protection Bureau (“CFPB”) within the Federal Reserve System. The CFPB is responsible for establishing and implementing rules and regulations under various federal consumer protection laws governing certain consumer products and services. The CFPB has primary enforcement authority over large financial institutions with assets of $10 Billion or more, while smaller institutions will be subject to the CFPB’s rules and regulations through the enforcement authority of the federal banking agencies. States are permitted to adopt consumer protection laws and regulations that are more stringent than those laws and regulations adopted by the CFPB and state attorneys general are permitted to enforce consumer protection laws and regulations adopted by the CFPB.
· Deposit Insurance. The Dodd-Frank Act permanently increased the deposit insurance limit for insured deposits to $250,000 per depositor. Other deposit insurance changes under the Dodd-Frank Act include (i) amendment of the assessment base used to calculate an insured depository institution’s deposit insurance premiums paid to the Deposit Insurance Fund (“DIF”) by elimination of deposits and substitution of average consolidated total assets less average tangible equity during the assessment period as the revised assessment base; (ii) increasing the minimum designated reserve ratio of the DIF from 1.15 percent to 1.35 percent of the estimated amount of total insured deposits; (iii) eliminating the requirement that the FDIC pay dividends to depository institutions when the reserve ratio exceeds certain thresholds; and (iv) repeal of the prohibition upon the payment of interest on demand deposits to be effective one year after the date of enactment of the Dodd-Frank Act. The FDIC has proposed further changes to the deposit insurance assessments applicable to small insured depository institutions with assets less than $10 Billion and additional DIF recapitalization obligations for insured depository institutions with more than $10 Billion in assets. See the discussion of these changes in “Supervision and Regulation - FDIC Insurance.”
· Transactions with Affiliates. The Dodd-Frank Act enhances the requirements for certain transactions with affiliates under Section 23A and 23B of the Federal Reserve Act, including an expansion of the definition of “covered transactions” and increasing the amount of time for which collateral requirements regarding covered transactions must be maintained.
· Transactions with Insiders. Insider transaction limitations are expanded through the strengthening of loan restrictions to insiders and the expansion of the types of transactions subject to the various limits, including derivative transactions, repurchase agreements, reverse repurchase agreements and securities lending or borrowing transactions. Restrictions are also placed on certain asset sales to and from an insider to an institution, including requirements that such sales be on market terms and, in certain circumstances, approved by the institution’s board of directors.
· Enhanced Lending Limitations. The Dodd-Frank Act strengthens the existing limits on a depository institution’s credit exposure to include credit exposure arising from derivative transactions, repurchase agreements, and securities lending and borrowing transactions.
· Debit Card Interchange Fees.   The Dodd-Frank Act requires that the amount of any interchange fee charged by a debit card issuer with respect to a debit card transaction must be reasonable and proportional to the cost incurred by the issuer.  The Federal Reserve Board was required to establish standards for reasonable and proportional fees which may take into account the costs of preventing fraud.  The restrictions on interchange fees, however, do not apply to banks that, together with their affiliates, have assets of less than $10 Billion.
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· Interstate Branching.   The Dodd-Frank Act authorizes national and state banks to establish branch offices in other states to the same extent as a bank chartered by that state would be permitted to branch.  Previously, banks could only establish branch offices in other states if the host state expressly permitted out-of-state banks to establish branch offices in that state.  Accordingly, banks may be able to enter new markets more freely.

 

Compensation Practices . The Dodd-Frank Act provides that the appropriate federal banking regulators must establish standards prohibiting as an unsafe and unsound practice any compensation plan of a bank holding company or other “covered financial institution” that provides an insider or other employee with “excessive compensation” or could lead to a material financial loss to such firm. In June 2016, several federal financial agencies (including the Federal Reserve and FDIC) re-proposed restrictions on incentive-based compensation pursuant to Section 956 of the Dodd-Frank Act for financial institutions with $1 billion or more in total consolidated assets. For institutions with at least $1 billion but less than $50 billion in total consolidated assets, the proposal would impose principles-based restrictions that are broadly consistent with existing interagency guidance on incentive-based compensation. Such institutions would be prohibited from entering into incentive compensation arrangements that encourage inappropriate risks by the institution (i) by providing an executive officer, employee, director, principal shareholder or individuals who are “significant risk takers” with excessive compensation, fees or benefits, or (ii) that could lead to material financial loss to the institution. Depending upon the outcome of the rule making process, the application of this rule to us if we were to cross the $1 billion threshold could require us to revise our compensation strategy, increase our administrative costs and adversely affect our ability to recruit and retain qualified associates.

In June 2010, prior to the enactment of the Dodd-Frank Act, the federal bank regulatory agencies jointly issued the Interagency Guidance on Sound Incentive Compensation Policies (“Guidance”), which requires that financial institutions establish metrics for measuring the risk to the financial institution of such loss from incentive compensation arrangements and implement policies to prohibit inappropriate risk taking that may lead to material financial loss to the institution. Together, the Dodd-Frank Act and the Guidance may impact our compensation policies and arrangements.

Requirements under the Dodd-Frank Act are anticipated to be implemented over an extended period of time, unless the implementation is changed as the result of additional legislation promulgated by Congress or as a result of actions taken by the administration of President Trump. Therefore, the nature and extent of regulations that will be issued by various regulatory agencies and the impact such regulations will have on the operations of financial institutions such as ours is unclear. Such regulations resulting from the Dodd-Frank Act may impact the profitability of our business activities, require changes to certain of our business practices, impose upon us more stringent capital, liquidity and leverage ratio requirements or otherwise adversely affect our business. These changes may also require us to invest significant management attention and resources to evaluate and make necessary changes in order to comply with new statutory and regulatory requirements.

2017 Tax Reform Law

On December 22, 2017, President Trump signed into law “H.R.1” commonly referred to as the Tax Cuts and Jobs Act, which among other matters reduced the federal corporate income tax rate to 21%, effective January 1, 2018. The lowering of the tax rate caused banks that carry net deferred tax assets on their balance-sheets (i.e., tax positions carried forward to offset against future taxes) to take charges against the valuation of their net deferred tax assets because the higher the tax rate, the more these net deferred tax assets are worth. Hence, the reduction of the federal corporate-tax rate from the Company’s 2017 rate of 34% to the projected future rate of 21%, reduced the value of these net deferred tax assets. Charges of $1,220,000 against the Company’s net deferred tax assets were recorded as additional income tax expense in the fourth quarter of 2017.

Future Legislation and Regulation

In addition to legislative changes, the various federal and state financial institution regulatory agencies frequently propose rules and regulations to implement and enforce already existing legislation. It cannot be predicted whether or in what form any such rules or regulations will be enacted or the effect that such regulations may have on American River Bankshares or American River Bank. The Company anticipates that additional regulations would likely increase the Company’s expenses, which may adversely impact the Company’s results of operations, financial condition, future prospects, profitability, and stock price.

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Item 1A. Risk Factors.

The Company and its subsidiary, American River Bank, conduct business in an environment that includes certain risks described below any of which could have a material adverse effect on the Company’s business, results of operations, financial condition, future prospects and stock price. You are also referred to the matters described under the heading “Cautionary Statements Regarding Forward-Looking Statements,” in Part I, Item 1 and Part II, Item 7 of this report on Form 10-K for additional information regarding factors that may affect the Company’s business.

· We are subject to extensive governmental regulation, which could adversely affect our business.
     

Our operations are subject to extensive regulation by federal, state and local governmental authorities and are subject to various laws and judicial and administrative decisions imposing requirements and restrictions on part or all of our operations. Because our business is highly regulated, the laws, rules and regulations applicable to us are subject to regular modification and change. The Dodd-Frank Act, among other things, imposed new capital requirements on bank holding companies; changed the base for FDIC insurance assessments to a bank’s average consolidated total assets minus average tangible equity, rather than upon its deposit base; permanently raised the current standard deposit insurance limit to $250,000; and expanded the FDIC’s authority to raise insurance premiums. The Dodd-Frank Act also established the Consumer Financial Protection Bureau as an independent entity within the Federal Reserve Board (FRB), which has broad rulemaking, supervisory and enforcement authority over consumer financial products and services, including deposit products, residential mortgages, home-equity loans and credit cards and contains provisions on mortgage-related matters, such as steering incentives, determinations as to a borrower’s ability to repay and prepayment penalties. Although the applicability of certain elements of the Dodd-Frank Act is limited to institutions with more than $10 billion in assets, there can be no guarantee that such applicability will not be extended in the future or that regulators or other third parties will not seek to impose such requirements on institutions with less than $10 billion in assets, such as the Company. Compliance with the Dodd-Frank Act and its implementing regulations has and will continue to result in additional operating and compliance costs that could have a material adverse effect on our business, financial condition, results of operations and growth prospects. Failure to comply with the Dodd-Frank Act and any other federal, state and local governmental regulation could also result in regulatory enforcement actions which could limit or restrict our ability to conduct our operations, require us to raise capital, increase our compliance costs and expose us to reputational risk.

In addition, new proposals for legislation continue to be introduced in the U.S. Congress that could further substantially increase regulation of the bank and non-bank financial services industries and impose restrictions on the operations and general ability of firms within the industry to conduct business consistent with historical practices. Federal regulatory agencies also frequently adopt changes to their regulations or change the manner in which existing regulations are applied. Certain aspects of current or proposed regulatory or legislative changes to laws applicable to the financial industry, if enacted or adopted, may impact the profitability of our business activities, require more oversight or change certain of our business practices, including the ability to offer products, obtain financing, attract deposits, make loans and achieve satisfactory interest spreads and could expose us to additional costs, including increased compliance costs. These changes also may require us to invest significant management attention and resources to make any necessary changes to operations to comply and could have a material adverse effect on our business, financial condition and results of operations.

· Deterioration of economic conditions could adversely affect our business.

Our business and operations, which primarily consist of lending money to customers in the form of loans, borrowing money from customers in the form of deposits and investing in securities, are sensitive to general business and economic conditions in the United States and in Northern California, in particular. If the U.S. or California economy weakens, our growth and profitability from our lending, deposit and investment operations could be constrained or impeded. Uncertainty about the federal fiscal policymaking process, the medium and long-term fiscal outlook of the federal government, and future tax rates is a concern for businesses, consumers and investors in the United States. In addition, economic conditions in foreign countries, including uncertainty over the stability of the euro currency, could affect the stability of global financial markets, which could hinder U.S. economic growth and affect our business and the businesses of our customers.

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The Company’s operating market has begun to show demand for credit products as the continued low rate environment and expectations for economic expansion have increased refinancing as well as new loan activity. However, deterioration in economic conditions locally, regionally or nationally could result in an economic downturn in Northern California with the following consequences, any of which could adversely affect our business:

· loan delinquencies and defaults may increase;
· problem assets and foreclosures may increase;
· demand for loans and other products and services may decline;
· low cost or noninterest bearing deposits may decrease;
· collateral for loans may decline in value, in turn reducing clients’ borrowing power, and reducing the value of assets and collateral as sources of repayment of existing loans;
· foreclosed assets may not be able to be sold;
· volatile securities market conditions could adversely affect valuations of investment portfolio assets; and
· reputational risk may increase due to public sentiment regarding the banking industry.

 

· Nonperforming assets take significant time to resolve and adversely affect our results of operations and financial condition.

At December 31, 2018, our nonperforming loans and leases had decreased to 0.01% of total loans and leases. At December 31, 2018, our nonperforming assets (which include foreclosed real estate) to total assets had decreased to 0.14%. While these nonperforming loans and leases and nonperforming assets have decreased since 2008, there is no guarantee that these levels will continue into the future, which could adversely affect our results of operations, financial condition and stock price. A significant decline in our stock price could result in substantial losses for individual shareholders.

Nonperforming assets adversely affect our net income in various ways. We generally do not record interest income on nonperforming loans or other real estate owned, thereby adversely affecting our income and increasing our loan administration costs. When we take collateral in foreclosures and similar proceedings, we are required to mark the related asset to the then fair market value of the collateral, which may ultimately result in a loss. An increase in the level of nonperforming assets increases our risk profile and may impact the capital levels our regulators believe are appropriate in light of the ensuing risk profile, which could result in a request to reduce our level of nonperforming assets and/or raise additional capital. When we reduce problem assets through loan sales, workouts, restructurings and otherwise, decreases in the value of the underlying collateral, or in these borrowers’ performance or financial condition, whether or not due to economic and market conditions beyond our control, could adversely affect our business, results of operations and financial condition. In addition, the resolution of nonperforming assets requires significant commitments of time from management and our directors, which can be detrimental to the performance of their other responsibilities. We may experience increases in nonperforming assets and the disposition of such nonperforming assets may adversely affect our profitability.

 

· Tightening of credit markets and liquidity risk could adversely affect our business, financial condition and results of operations.

A tightening of the credit markets or any inability to obtain adequate funds for asset growth at an acceptable cost could adversely affect our asset growth and liquidity position and, therefore, our earnings capability. In addition to core deposit growth, maturity of investment securities and loan and lease payments, we also rely on alternative funding sources including unsecured borrowing lines with correspondent banks, secured borrowing lines with the Federal Home Loan Bank of San Francisco and the Federal Reserve Bank of San Francisco, and public time certificates of deposits. Our ability to access these sources could be impaired by deterioration in our financial condition as well as factors that are not specific to us, such as a disruption in the financial markets or negative views and expectations for the financial services industry or serious dislocation in the general credit markets. In the event such a disruption should occur, our ability to access these sources could be adversely affected, both as to price and availability, which would limit or potentially raise the cost of the funds available to us.

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· We have a concentration risk in real estate related loans.

 

At December 31, 2018, $278.1 million, or 87.0% of our total loan and lease portfolio, consisted of real estate related loans. Of that amount, $199.9 million, or 71.9%, consisted of commercial real estate, $5.7 million, or 2.0% consisted of commercial and residential construction loans (including land acquisition and development loans) and $72.5 million, or 26.1%, consisted of residential mortgages and residential multi-family real estate. The majority of our real property collateral is located in our operating markets in Northern California. The deteriorating economic conditions in California and in our operating markets during the economic downturn of 2007 through 2010, contributed to an overall decline in commercial and residential real estate values. While property values have recovered somewhat, a substantial decline in commercial and residential real estate values in our primary operating markets could occur in the future as a result of any deterioration in economic conditions or other events including natural disasters such as earthquakes, droughts, floods, fires, and similar adverse weather occurrences. Such a decline in values could have an adverse impact on us by limiting repayment of defaulted loans through sale of commercial and residential real estate collateral and by a likely increase in the number of defaulted loans to the extent that the financial condition of our borrowers is adversely affected by such a decline in values.

 

· We may take title to real estate that exposes us to the risk of environmental liabilities.

Our loan and lease portfolio may include loans secured by real estate which could be subject to environmental liabilities. In the event that we foreclose upon and take title to such real estate, we may be held liable to a governmental entity or to third parties for property damage, personal injury, investigation and clean-up costs incurred by these parties in connection with environmental contamination, or we may be required to investigate or clean-up hazardous or toxic substances, or chemical releases at a property. The costs associated with investigation or remediation activities could be substantial. In addition, if we are the owner or former owner of a contaminated site, we may be subject to common law claims by third parties based on damages and costs resulting from environmental contamination emanating from the property. If we become subject to significant environmental liabilities, our business, financial condition, results of operations and cash flows could be materially adversely affected.

· Our allowance for loan and lease losses may not be adequate to cover actual losses.

Like all financial institutions, the Bank maintains an allowance for loan and lease losses to provide for loan defaults and nonperformance, but its allowance for loan and lease losses may not be adequate to cover actual loan and lease losses. In addition, future provisions for loan and lease losses could materially and adversely affect the Bank’s and therefore our Company’s operating results. The adequacy of the Bank’s allowance for loan and lease losses is based on prior experience, as well as an evaluation of the risks in the current portfolio. The amount of realizable future losses is susceptible to changes in economic, operating and other conditions, including changes in the local and general California real estate market and operating environment, as well as interest rates, employment levels and other economic factors that may be beyond our control, and these losses may exceed current estimates.

 

Federal regulatory agencies, as an integral part of the examination process, review the Bank’s loans and leases and allowance for loan and lease losses, as well as management’s policies and procedures for determining the adequacy of the allowance for loan and lease losses. We believe that our allowance for loan and lease losses policies are effective and that our allowance for loan and lease losses is adequate to cover current probable incurred losses. However, the Bank may have to further increase the allowance for loan and lease losses as a result of the effects of deterioration of economic conditions nationally and in the operating markets in which the Bank conducts business and/or as a result of changes in regulation or accounting methodologies.

· Our focus on lending to small to mid-sized community-based businesses may increase our credit risk.

As of December 31, 2018, our largest outstanding commercial business loan and largest outstanding commercial real estate loan amounted to $5.1 million and $7.4 million, respectively. At such date, our commercial real estate loans amounted to $199.9 million, or 61.9% of our total loan and lease portfolio, and our commercial business loans amounted to $29.7 million, or 9.2% of our total loan and lease portfolio. Commercial real estate and commercial business loans generally are considered riskier than single-family residential loans because they have larger balances to a single borrower or group of related borrowers. Commercial real estate and commercial business loans involve risks because the borrowers’ ability to repay the loans typically depends primarily on the successful operation of the businesses or the properties securing the loans. Most of the Bank’s commercial real estate and commercial business loans are made to small business or middle market customers who may have a heightened vulnerability to economic conditions. Moreover, a portion of these loans have been made by us in recent years and the borrowers may not have experienced a complete business or economic cycle. Furthermore, the deterioration of our borrowers’ businesses may hinder their ability to repay their loans with us, which could adversely affect our results of operations.

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· Our business is subject to interest rate risk, and variations in interest rates may negatively affect our financial performance.

Changes in the interest rate environment may reduce our net interest income. It is expected that we will continue to realize income from the differential or “margin” between the interest earned on loans, securities and other interest-earning assets, and interest paid on deposits, borrowings and other interest-bearing liabilities. Net interest margins are affected by the difference between the maturities and repricing characteristics of interest-earning assets and interest-bearing liabilities. In addition, loan volume and yields are affected by market interest rates on loans, and rising interest rates generally are associated with a lower volume of loan originations. We may be unable to minimize our interest rate risk. In addition, an increase in the general level of interest rates may adversely affect the ability of certain borrowers to pay the interest on and principal of their obligations. Accordingly, changes in levels of market interest rates could materially and adversely affect our net interest margin, asset quality, and loan origination volume.

· Governmental fiscal and monetary policies may affect our business and are beyond our control.

The business of banking is affected significantly by the fiscal and monetary policies of the federal government and its agencies. Such policies are beyond our control. We are particularly affected by the policies established by the Federal Reserve Board in relation to the supply of money and credit in the United States. The instruments of monetary policy available to the Federal Reserve Board can be used in varying degrees and combinations to directly affect the availability of bank loans and deposits, as well as the interest rates charged on loans and paid on deposits, and this can and does have a material effect on our business. The deterioration in economic conditions during the period of 2007 through 2010 resulted in government intervention and legislation intended to stabilize the U.S. financial system. Despite some improvement in economic conditions, the sustainability of the economic recovery is uncertain and a deterioration of economic conditions could result in further intervention and legislation beyond our control. Such deterioration could also limit our access to capital or sources of liquidity in amounts and at times necessary to conduct operations in compliance with applicable regulatory requirements.

· The Bank faces strong competition from banks, financial service companies and other companies that offer banking services, which could adversely affect our business.

Increased competition in our market areas may result in reduced loans and deposits or the rates charged or paid on these instruments and adversely affect our net interest margin. Ultimately, we may not be able to compete successfully against current and future competitors. Many competitors offer similar banking services compared to those that are offered by the Bank. These competitors include national and super-regional banks, finance companies, investment banking and brokerage firms, credit unions, government-assisted farm credit programs, other community banks and technology-oriented financial institutions offering online services. In particular, the Bank’s competitors include several major financial companies whose greater resources may afford them a marketplace advantage by enabling them to maintain numerous banking locations and mount extensive promotional and advertising campaigns. Additionally, banks and other financial institutions with larger capitalization and financial intermediaries not subject to bank regulatory restrictions have larger lending limits than we do and are thereby better able to serve the credit needs of larger customers. Areas of competition include interest rates for loans and deposits, efforts to obtain loans and deposits, as well as the range and quality of products and services provided, including new technology-driven products and services. Technological innovation continues to contribute to greater competition in domestic and international financial services markets as technological advances, such as Internet-based banking services that cross traditional geographic bounds, enable more companies to provide financial services. If the Bank is unable to attract and retain banking customers, we may be unable to maintain our historical levels of loans and leases and deposits or our net interest margin.

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· Our operations are dependent upon key personnel.

Our future prospects are and will remain highly dependent on our directors, executive officers and other key personnel, including our Chief Executive Officer, our Chief Financial Officer and our Chief Credit Officer.  From time to time, we have experienced changes in the membership of our board of directors and changes among the personnel serving as our executive officers.  Our success will, to some extent, depend on the continued service of our directors and executive officers, in addition to our ability to continue to attract and retain experienced banking professionals to serve us and the Bank as directors, executive officers and in other key positions.  The unexpected loss of the services of any of these individuals could have a detrimental effect on our business and future operations.

· Technology implementation problems or computer system failures could adversely affect us.

Our future growth prospects will be highly dependent on the ability of the Bank to implement changes in technology that affect the delivery of banking services such as the increased demand for computer access to bank accounts and the availability to perform banking transactions electronically. The Bank’s ability to compete will depend upon its ability to continue to adapt technology on a timely and cost-effective basis to meet such demands. In addition, our business and operations and those of the Bank could be susceptible to adverse effects from computer failures, communication and energy disruption, and activities such as fraud of unethical individuals with the technological ability to cause disruptions or failures of the Bank’s data processing system.

· Cybersecurity breaches or other technological difficulties could adversely affect us.

We cannot be certain that the continued implementation of safeguards will eliminate the risk of vulnerability to technological difficulties or failures or ensure the absence of a breach of information security, including as a result of cybersecurity breach.  The FDIC cited cybersecurity as a critical challenge facing the financial services industry and stated that the frequency and sophistication of cyber-attacks are increasing. The Bank will continue to enhance its information security programs consistent with regulatory requirements including reliance on the services of various vendors who provide data processing and communication services to the financial services industry.  Nonetheless, if information security is compromised or other technology difficulties or failures occur at the Bank or with one of our vendors, information may be lost or misappropriated, services and operations may be interrupted and the Bank could be exposed to claims from its customers as a result.

· Our controls over financial reporting and related governance procedures may fail or be circumvented.

Management regularly reviews and updates our internal control over financial reporting, disclosure controls and procedures, and corporate governance policies and procedures. We maintain controls and procedures to mitigate risks such as processing system failures or errors and customer or employee fraud, and we maintain insurance coverage for certain of these risks. Any system of controls and procedures, however well designed and operated, is based in part on certain assumptions and provides only reasonable, not absolute, certainty that the objectives of the system will be met. Events could occur which are not prevented or detected by our internal controls, are not insured against, or are in excess of our insurance limits. Any failure or circumvention of our controls and procedures, or failure to comply with regulations related to controls and procedures, could have an adverse effect on our business.

· We may not be successful in raising additional capital needed in the future.

If additional capital is needed in the future as a result of losses, our business strategy or regulatory requirements, our efforts to raise such additional capital may be unsuccessful or shares sold in the future may be sold at prices or on terms that are not equal to or better than the current market price.  The inability to raise additional capital when needed or at prices and terms acceptable to us could adversely affect our ability to implement our business strategies.

 

· The effects of legislation in response to credit conditions may adversely affect us.

 

Legislation that has or may be passed at the federal level and/or by the State of California in response to conditions affecting credit markets could cause us to experience higher credit losses if such legislation reduces the amount that the Bank’s borrowers are otherwise contractually required to pay under existing loan contracts. Such legislation could also result in the imposition of limitations upon the Bank’s ability to foreclose on property or other collateral or make foreclosure less economically feasible. Such events could result in increased loan and lease losses and require a material increase in the allowance for loan and lease losses.

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· The effects of changes to FDIC insurance coverage limits and assessments are uncertain and increased premiums may adversely affect us.

 

FDIC insurance premium assessments are uncertain and increased premium assessments may adversely affect our earnings. The FDIC charges insured financial institutions premiums to maintain the Deposit Insurance Fund (the “DIF”). Bank failures increased significantly during the economic downturn causing the FDIC to take control of failed institutions and guarantee payment from the DIF up to the insured limit for deposits held at such failed institutions. The sustainability of the economic recovery is uncertain and a deterioration of economic conditions may cause losses which require premium increases to replenish the DIF.

 

On November 9, 2010, the FDIC issued a final rule implementing section 343 of the Dodd-Frank Act that made permanent a $250,000 deposit insurance limit per depositor. In addition, the Dodd-Frank Act also made other deposit insurance changes which may affect our insurance premium assessments to include (i) amendment of the assessment base used to calculate an insured depository institution’s deposit insurance premiums paid to the DIF by elimination of deposits and substitution of average consolidated total assets less average tangible equity during the assessment period as the revised assessment base; (ii) increasing the minimum designated reserve ratio of the DIF; (iii) eliminating the requirement that the FDIC pay dividends to depository institutions when the reserve ratio exceeds certain thresholds; and (iv) repeal of the prohibition upon the payment of interest on demand deposits to be effective one year after the date of enactment of the Dodd-Frank Act.

On November 18, 2014, the FDIC adopted the Assessments Final Rule which revises the FDIC’s risk-based deposit insurance assessment system to reflect changes in the regulatory capital rules that were effective commencing January 1, 2015. For smaller financial institutions such as the Bank (with total assets less than $1 billion and which are not custodial banks), the Final Rule revises and conforms capital ratios and ratio thresholds to the new prompt corrective action capital ratios and ratio thresholds for “well capitalized” and “adequately capitalized” evaluations which were adopted by the federal banking agencies as part of the so-called Basel III capital regulations.

Although American River Bank’s recent assessments have declined as a result of the change to the deposit assessment system, it is uncertain what effect the implementation of the changes to the insurance assessments will have upon the Company’s costs of operations in the future, but a deterioration in the economic conditions impacting financial institutions or a significant number of failed institutions might necessitate increases in premium assessments to maintain the DIF which could adversely impact the Company’s earnings.

· In the future we may be required to recognize impairment with respect to investment securities, including the FHLB stock we hold.

Our securities portfolio currently includes securities with unrecognized losses.  We may continue to observe declines in the fair market value of these securities.  We evaluate the securities portfolio for any other than temporary impairment each reporting period, as required by generally accepted accounting principles, and as of December 31, 2018, we did not recognize any securities as other than temporarily impaired.  Future evaluations of the securities portfolio may require us to recognize an impairment charge with respect to these and other holdings. In addition, as a condition to membership in the Federal Home Loan Bank of San Francisco (the “FHLB”), we are required to purchase and hold a certain amount of FHLB stock. Our stock purchase requirement is based, in part, upon the outstanding principal balance of advances from the FHLB. At December 31, 2018, we held stock in the FHLB totaling $3.9 million. The FHLB stock held by us is carried at cost and is subject to recoverability testing under applicable accounting standards. The FHLB currently distributes cash dividends on its shares, however, past dividend paying practices are not a guarantee of future dividends. To date, we have not recognized any impairment charges related to our FHLB stock holdings. Any future negative changes to the financial condition of the FHLB may require us to recognize an impairment charge with respect to such holdings.

· If our enterprise risk management framework is not effective at mitigating risk and loss to us, we could suffer unexpected losses and our results of operations could be materially adversely affected .
     

Our enterprise risk management framework seeks to achieve an appropriate balance between risk and return, which is critical to optimizing shareholder value. We have established processes and procedures intended to identify, measure, monitor, report and analyze the types of risk to which we are subject, including credit, liquidity, operational, regulatory compliance and reputational. However, as with any risk management framework, there are inherent limitations to our risk management strategies as there may exist, or develop in the future, risks that we have not appropriately anticipated or identified. If our risk management framework proves ineffective, we could suffer unexpected losses and our business and results of operations could be materially adversely affected.

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· Our modest size makes it more difficult for us to compete.
     

Our modest size makes it more difficult to compete with other financial institutions which are generally larger and can more easily afford to invest in the marketing and technologies needed to attract and retain customers. Because our principal source of income is the net interest income we earn on our loans and investments after deducting interest paid on deposits and other sources of funds, our ability to generate the revenues needed to cover our expenses and finance such investments is limited by the size of our loan and investment portfolios. Accordingly, we are not always able to offer new products and services as quickly as our competitors. As a smaller institution, we are also disproportionately affected by the continually increasing costs of compliance with new banking and other regulations.

· We face risks related to our operational, technological and organizational infrastructure.

 

 Our ability to grow and compete is dependent on our ability to build or acquire the necessary operational and technological infrastructure and to manage the cost of that infrastructure as we expand. Similar to other corporations, operational risk can manifest itself in many ways, such as errors related to failed or inadequate processes, faulty or disabled computer systems, fraud by employees or outside persons and exposure to external events. As discussed below, we are dependent on our operational infrastructure to help manage these risks. In addition, we are heavily dependent on the strength and capability of our technology systems which we use both to interface with our customers and to manage our internal financial records and other systems. Our ability to develop and deliver new products that meet the needs of our existing customers and attract new ones depends on the functionality of our technology systems. Additionally, our ability to run our business in compliance with applicable laws and regulations is dependent on these infrastructures.

 

We monitor our operational and technological capabilities and make modifications and improvements when we believe it will be cost effective to do so. In some instances, we may build and maintain these capabilities ourselves. Specifically, we provide our own core systems processing and essential web hosting. We also outsource some of these functions to third parties. If we experience difficulties, fail to comply with banking regulations or keep up with increasingly sophisticated technologies, our operations could be interrupted. If an interruption were to continue for a significant period of time, our business, financial condition and results of operations could be adversely affected, perhaps materially. Even if we are able to replace them, it may be at a higher cost to us, which could materially adversely affect our business, financial condition and results of operations.

· Adherence to our internal policies and procedures by our employees is critical to our performance and how we are perceived by our regulators.
     

Our internal policies and procedures are a critical component of our corporate governance and, in some cases, compliance with applicable regulations. We adopt internal policies and procedures to guide management and employees regarding the operation and conduct of our business. Any deviation or non-adherence to these internal policies and procedures, whether intentional or unintentional, could have a detrimental effect on our management, operations or financial condition.

· We must keep pace with technological change to remain competitive and introduce new products and services.
     

Financial products and services have become increasingly technologically driven. Our ability to meet the needs of our customers competitively and introduce new products in a cost-efficient manner is dependent on the ability to keep pace with technological advances, to invest in new technology as it becomes available, and to obtain and maintain related essential personnel. Many of our competitors have already implemented critical technologies and have greater resources to invest in technology than we do and may be better equipped to market new technologically driven products and services. In addition, we may not have the same ability to rapidly respond to technological innovations as our competitors do. Furthermore, the introduction of new technologies and products by financial technology companies and “fintech” platforms may adversely affect our ability to obtain new customers and successfully grow our business. The ability to keep pace with technological change is important, and the failure to do so, due to cost, proficiency or otherwise, could have a material adverse impact on our business and therefore on our financial condition and results of operations.

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· Changes in accounting standards could materially impact our financial statements.
     

From time to time, the Financial Accounting Standards Board or the SEC may change the financial accounting and reporting standards that govern the preparation of our financial statements. Such changes may result in us being subject to new or changing accounting and reporting standards. In addition, the bodies that interpret the accounting standards (such as banking regulators, outside auditors or management) may change their interpretations or positions on how these standards should be applied. These changes may be beyond our control, can be hard to predict, and can materially impact how we record and report our financial condition and results of operations. In some cases, we could be required to apply a new or revised standard retrospectively, or apply an existing standard differently, also retrospectively, in each case resulting in our needing to revise or restate prior period financial statements.

· If the goodwill we have recorded in connection with our acquisition of Bank of Amador becomes impaired, it could have an adverse impact on our earnings and capital.

At December 31, 2018, we had approximately $16.3 million of goodwill on our balance sheet attributable to our merger with Bank of Amador in December 2004. In accordance with accounting principles generally accepted in the United States of America, our goodwill is not amortized but rather evaluated for impairment on an annual basis or more frequently if events or circumstances indicate that a potential impairment exists. Such evaluation is based on a variety of factors, including the quoted price of our common stock, market prices of the common stock of other banking organizations, common stock trading multiples, discounted cash flows, and data from comparable acquisitions. Future evaluations of goodwill may result in findings of impairment and write-downs, which could be material.

· We face a risk of noncompliance and enforcement action with the Bank Secrecy Act and other anti-money laundering statutes and regulations.

The Bank Secrecy Act, the Patriot Act and other laws and regulations require financial institutions, among other duties, to institute and maintain an effective anti-money laundering program and to file timely reports such as suspicious activity reports and currency transaction reports. We are required to comply with these and other anti-money laundering requirements. The federal banking agencies and Financial Crimes Enforcement Network are authorized to impose significant civil money penalties for violations of those requirements and have recently engaged in coordinated enforcement efforts against banks and other financial services providers with the U.S. Department of Justice, Drug Enforcement Administration and Internal Revenue Service. If our policies, procedures and systems are deemed deficient, we would be subject to liability, including fines and regulatory actions, which may include restrictions on our ability to pay dividends and the necessity to obtain regulatory approvals to proceed with certain aspects of our business plan.

Failure to maintain and implement adequate programs to combat money laundering and terrorist financing could also have serious reputational consequences for us. Any of these results could have a material adverse effect on our business, financial condition, results of operations and growth prospects.

· We are subject to the CRA and fair lending laws, and failure to comply with these laws could lead to material penalties.

The CRA, the Equal Credit Opportunity Act, the Fair Housing Act and other fair lending laws and regulations impose nondiscriminatory lending requirements on financial institutions. The Consumer Financial Protection Bureau, the United States Department of Justice and other federal agencies are responsible for enforcing these laws and regulations. A successful challenge to an institution’s performance under the CRA or fair lending laws and regulations could result in a wide variety of sanctions, including the required payment of damages and civil money penalties, injunctive relief, imposition of restrictions on mergers and acquisitions activity and restrictions on expansion activity. Private parties may also have the ability to challenge an institution’s performance under fair lending laws in private class action litigation.

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· Federal regulators periodically examine our business, and we may be required to remediate adverse examination findings.

The FDIC and DBO periodically examine our business, including our compliance with laws and regulations. If, as a result of an examination, a federal banking agency were to determine that our financial condition, capital resources, asset quality, earnings prospects, management, interest rate risk and liquidity or other aspects of any of our operations had become unsatisfactory, or that we were in violation of any law or regulation, it may take a number of different remedial actions as it deems appropriate. These actions include the power to enjoin “unsafe or unsound” practices, to require affirmative action to correct any conditions resulting from any violation or practice, to issue an administrative order that can be judicially enforced, to direct an increase in our capital, to restrict our growth, to assess civil monetary penalties against our officers or directors, to remove officers and directors and, if it is concluded that such conditions cannot be corrected or there is an imminent risk of loss to depositors, to terminate our deposit insurance and place us into receivership or conservatorship. If we become subject to any regulatory actions, including memorandums of understanding or cease and desist orders, it could have a material adverse effect on our business, results of operations, financial condition and growth prospects.

 

· As a result of the Dodd-Frank Act and recent rulemaking, we are subject to more stringent capital requirements.

 

In July 2013, the U.S. federal banking authorities approved new regulatory capital rules implementing the Basel III regulatory capital reforms effecting certain changes required by the Dodd-Frank Act. The new regulatory capital rules not only increase most of the required minimum regulatory capital ratios, but also introduce a new common equity Tier 1 capital ratio and the concept of a capital conservation buffer. The new regulatory capital rules also expand the current definition of capital by establishing additional criteria that capital instruments must meet to be considered additional Tier 1 and Tier 2 capital. In order to be a “well capitalized” depository institution under the new regime, an institution must maintain a common equity Tier 1 capital ratio of 6.5% or more; a Tier 1 capital ratio of 8% or more; a total capital ratio of 10% or more; and a leverage ratio of 5% or more. Institutions must also maintain a capital conservation buffer consisting of common equity Tier 1 capital. The regulatory capital rules became effective as applied to American River Bank on January 1, 2015 with a phase-in period that generally extends through January 1, 2019 for many of the changes.  The failure to meet applicable regulatory capital requirements could result in one or more of our regulators placing limitations or conditions on our activities, including our growth initiatives, or restricting the commencement of new activities, and could materially adversely affect customer and investor confidence, our costs of funds and FDIC insurance costs, our ability to pay dividends on our common stock, our ability to make acquisitions, and our business, results of operations and financial conditions, generally.

 

· The FASB has recently issued an accounting standard update that will result in a significant change in how we provide for credit losses and may have a material impact on our financial condition or results of operations.

In June 2016, the Financial Accounting Standards Board (“FASB”) issued an accounting standard update, “Financial Instruments-Credit Losses (Topic 326), Measurement of Credit Losses on Financial Instruments,” which replaces the current “incurred loss” model for recognizing credit losses with an “expected loss” model referred to as the Current Expected Credit Loss (“CECL”) model. Under the CECL model, we will be required to present certain financial assets carried at amortized cost, such as loans held for investment and held-to-maturity debt securities, at the net amount expected to be collected. The measurement of expected credit losses is to be based on information about past events, including historical experience, current conditions, and reasonable and supportable forecasts that affect the collectability of the reported amount. This measurement will take place at the time the financial asset is first added to the balance sheet and periodically thereafter. This differs significantly from the “incurred loss” model required under GAAP, which delays recognition until it is probable a loss has been incurred. Accordingly, we expect that the adoption of the CECL model will materially affect how we determine our allowance for loan losses and could require us to significantly increase our allowance. Moreover, the CECL model may create more volatility in the level of our allowance for loan losses. If we are required to materially increase our level of allowance for loan and lease losses for any reason, such increase could adversely affect our business, financial condition and results of operations.

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The new CECL standard will become effective for us for the fiscal year beginning January 1, 2020 and for interim periods thereafter. We are currently evaluating the impact the CECL model will have on our accounting, but we expect to recognize a one-time cumulative-effect adjustment to our allowance for loan and lease losses as of the beginning of the first reporting period in which the new standard is effective, consistent with regulatory expectations set forth in interagency guidance issued at the end of 2016. The one-time cumulative effect adjustment to allowance for loan and lease losses will be offset by a charge to retained earnings and therefore reduce equity capital. We have not yet determine the magnitude of any such one-time cumulative adjustment or of the overall impact of the new standard on our financial condition or results of operations.

 

· The effects of terrorism and other events beyond our control, including natural disasters, may adversely affect our customers and our results of operations.

 

The terrorist actions on September 11, 2001 and thereafter, as well as the military conflicts in the Middle East, have had significant adverse effects upon the United States economy. Whether terrorist activities in the future and the actions of the United States and its allies in combating terrorism on a worldwide basis will adversely impact us and the extent of such impact is uncertain. Similar events beyond our control including, but not limited to, financial and economic instability and governmental actions in response, natural disasters such as earthquakes, droughts, floods, fires, and similar adverse weather occurrences, disruption of power and energy supplies and communications equipment such as telephones, cellular phones, computers, and other forms of electronic equipment or media, and widespread, adverse public health occurrences, may adversely affect our future results of operations by, among other things, disrupting the conduct of our operations and those of our customers, which could result in a reduction in the demand for loans and other products and services offered by the Bank, increase nonperforming loans and the amounts reserved for loan and lease losses, or cause significant declines in our level of deposits.

 

· Future acquisitions and expansion activities may disrupt our business and adversely affect our operating results.

We periodically evaluate potential acquisitions and expansion opportunities. To the extent that we grow through acquisitions, we cannot ensure that we will be able to adequately or profitably manage this growth. Acquiring other banks, branches or other assets, as well as other expansion activities, involves various risks including the risks of incorrectly assessing the credit quality of acquired assets, encountering greater than expected costs of incorporating acquired banks or branches into the Bank, executing cost savings measures, and being unable to profitably deploy funds in an acquisition.

· We may raise additional capital, which could have a dilutive effect on the existing holders of our common stock and adversely affect the market price of our common stock.

Our articles of incorporation, as amended, provide the authority to issue without further shareholder approval, 20,000,000 shares of common stock, no par value per share, of which 5,858,428 shares were issued and outstanding at December 31, 2018. Pursuant to the Company’s 2010 Equity Incentive Plan and its 2000 Stock Option Plan, at December 31, 2018, employees and directors of the Company had outstanding options to purchase 41,098 shares of common stock. As of December 31, 2018, 1,287,096 shares of common stock remained available for awards under the 2010 Equity Incentive Plan.

We are not restricted from issuing additional shares of common stock or securities that are convertible into or exchangeable for, or that represent the right to receive, common stock. We frequently evaluate opportunities to access the capital markets taking into account our regulatory capital ratios, financial condition and other relevant considerations, and subject to market conditions, we may take further capital actions. Such actions could include, among other things, the issuance of additional shares of common stock in public or private transactions in order to further increase our capital levels above the requirements for a well capitalized institution established by the federal bank regulatory agencies as well as other regulatory targets.

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The issuance of any additional shares of common stock or securities convertible into or exchangeable for common stock or that represent the right to receive common stock, or the exercise of such securities including, without limitation, securities issued upon exercise of outstanding equity awards under our 2010 Equity Incentive Plan or outstanding options under our 2000 Stock Option Plan, could be substantially dilutive to shareholders of our common stock.  Holders of our shares of common stock have no preemptive rights that entitle holders to purchase their pro rata share of any offering of shares of any class or series and, therefore, such sales or offerings could result in increased dilution to our shareholders.  The market price of our common stock could decline as a result of sales of shares of our common stock or the perception that such sales could occur.

· Our common stock is subordinate to our existing and future indebtedness and preferred stock.
     

Shares of our common stock are equity interests and do not constitute indebtedness. As such, our common stock ranks junior to all our customer deposits and indebtedness, whether now existing or hereafter incurred, and other non-equity claims on us, with respect to assets available to satisfy claims. Additionally, holders of common stock are subject to the prior liquidation rights of the holders of any debt we may issue in the future and may be subject to the prior dividend and liquidation rights of any series of preferred stock we may issue in the future.

· The price of our common stock may fluctuate significantly, and this may make it difficult for shareholders to resell shares of common stock they own at times or at prices they find attractive.

The stock market and, in particular, the market for financial institution stocks, has experienced significant volatility. In some cases, the markets have produced downward pressure on stock prices for certain issuers without regard to those issuers’ underlying financial strength. As a result, the trading volume in our common stock may fluctuate more than usual and cause significant price variations to occur. This may make it difficult for shareholders to resell shares of common stock they own at times or at prices they find attractive. The low trading volume in our common shares on the NASDAQ Global Select Market means that our shares may have less liquidity than other publicly traded companies. We cannot ensure that the volume of trading in our common shares will be maintained or will increase in the future.

The trading price of the shares of our common stock will depend on many factors, which may change from time to time and which may be beyond our control, including, without limitation, our financial condition, performance, creditworthiness and prospects, future sales or offerings of our equity or equity related securities, and other factors identified above in the forward-looking statement discussion in Part I, Item 1 of this Annual Report on Form 10-K under the heading “Cautionary Statements Regarding Forward-Looking Statements” and below. These broad market fluctuations have adversely affected and may continue to adversely affect the market price of our common stock. Among the factors that could affect our stock price are:

· actual or anticipated quarterly fluctuations in our operating results and financial condition;
· changes in financial estimates or publication of research reports and recommendations by financial analysts or actions taken by rating agencies with respect to our common stock or those of other financial institutions;
· failure to meet analysts’ revenue or earnings estimates;
· speculation in the press or investment community generally or relating to our reputation, our market area, our competitors or the financial services industry in general;
· strategic actions by us or our competitors, such as acquisitions, restructurings, dispositions or financings;
· actions by our current shareholders, including sales of common stock by existing shareholders and/or directors and executive officers;
· fluctuations in the stock price and operating results of our competitors;
· future sales of our equity, equity-related or debt securities;
· changes in the frequency or amount of dividends or share repurchases;
· proposed or adopted regulatory changes or developments;
· anticipated or pending investigations, proceedings, or litigation that involves or affects us;
· trading activities in our common stock, including short-selling;
· domestic and international economic factors unrelated to our performance; and
· general U.S. and international market conditions and, in particular, developments related to market conditions for the financial services industry.
26
 

A significant decline in our stock price could result in substantial losses for our shareholders.

· We may be unable or choose not to pay cash dividends in the foreseeable future.

Our ability to pay dividends on our common stock depends on a variety of factors. The Company relies on distributions from the Bank in the form of cash dividends in order to pay cash dividends to our shareholders. Cash dividends may or may not be paid in the future since they are subject to regulatory restrictions and to evaluation by our Board of Directors of financial factors including, but not limited to, our earnings, financial condition and capital requirements.

· Anti-takeover provisions in our articles of incorporation and bylaws and California law could make a third party acquisition of us difficult.

Our articles of incorporation and bylaws contain provisions that could make it more difficult for a third party to acquire us (even if doing so would be beneficial to our shareholders) and for holders of our common stock to receive any related takeover premium for their common stock, including advance notice procedures for shareholder proposals and the authorization of 10,000,000 shares of blank-check preferred stock. We are also subject to certain provisions of California law and federal law that would delay, deter or prevent a change in control of the Company. These provisions could limit the price that investors might be willing to pay in the future for shares of our common stock.

Item 1B. Unresolved Staff Comments.

None.

Item 2. Properties.

The Company and American River Bank lease nine and own two of their respective premises. The Company’s headquarters office is located at 3100 Zinfandel Drive, Suite 450, Rancho Cordova, California. The office space is located in a six-story office building. The seven (7) year lease term was set to expire on July 31, 2017 but was renewed in 2016 for an additional seventy-nine (79) months to expire on December 31, 2022. The premises consist of approximately 12,218 square feet on the fourth floor of the building. The space is leased from Ethan Conrad Properties, Inc., successor to MSCP Capital Center Investors, LLC PGOCC, LLC, and One Capital Center.

American River Bank’s main office is located at 1545 River Park Drive, Suite 107, Sacramento, California, in a modern, five-story building which has off-street parking for its clients. American River Bank leases premises in the building from Hines VAF II Sacramento Properties, L.P., the successor to Spieker Properties. The lease term is for one-hundred and twenty-seven (127) months and expires on February 28, 2021. The premises consist of 1,643 square feet on the ground floor.

American River Bank leases premises at 9750 Business Park Drive, Sacramento, California. The premises are leased from Bradshaw Plaza, Associates, Inc., which is owned in part by Charles D. Fite, a director of the Company. The lease term is three (3) years and expires on November 30, 2019. The premises consist of 3,711 square feet on the ground floor.

American River Bank leases premises at 11220 Gold River Express Drive, Gold River, California. The premises are leased from Gold River Village Associates, a California Limited Partnership. The lease term is one-hundred and twenty-six (126) months and expires on November 30, 2024. The premises consist of 1,650 square feet on the ground floor.

American River Bank leases premises at 2150 Douglas Boulevard, Roseville, California. The premises are leased from DDS Properties, a California General Partnership. The lease term is one hundred and twenty-six (126) months and expires on May 31, 2027. The premises consist of 2,269 square feet on the ground floor.

American River Bank leases premises at 520 Capitol Mall, Sacramento, California. The premises are leased from 520 Capitol Mall, Inc. The lease term is one-hundred and twenty-five (125) months and expires on October 31, 2024. The premises consist of 2,143 square feet on the second floor.

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American River Bank owns premises at 412 Center Street, Healdsburg, California. The premises were purchased June 1, 1993. The purchase price for the land and building was $343,849. The building consists of 2,620 square feet. The land consists of 10,835 square feet.

American River Bank leases premises at 90 South E Street, Santa Rosa, California. The premises were subleased from Chicago Title Company through November 11, 2011 and then leased from 90 E Street, LLC until 90 E. Street SR, LLC purchased the building. The initial combined sublease and lease term is ten (10) years and expires on January 31, 2019. In September of 2018, the lease was amended and extended for another ten (10) year term and now expires on January 31, 2029. The premises consist of 3,600 square feet on the ground floor.

American River Bank leases premises at 422 Sutter Street, Jackson, California. The premises are leased from the United States Postal Service. The lease term is five (5) year and expires on May 31, 2022 and the premises consisted of 3,600 square feet on the ground floor.

American River Bank leases premises at 26395 Buckhorn Ridge Road, Pioneer, California. The premises are leased from Joseph T. Bellamy, Trustee of the Joseph T. Bellamy 2005 Trust. The lease term is five (5) years and expires on October 31, 2022. The premises consist of 1,757 square feet of office space on the ground floor, an attached garage consisting of approximately 400 square feet and 1,223 feet of office space on the second floor.

American River Bank, owns premises at 66 Main Street, Ione, California. The premises were purchased April 1, 1995. The purchase price for the land and building was $167,500. The building consists of 2,576 square feet. The land consists of 9,700 square feet.

The leases on the premises located at 1545 River Park Drive, 2150 Douglas Boulevard, 90 South E Street, 11220 Gold River Express Drive, 520 Capitol Mall, 422 Sutter Street, and 3100 Zinfandel Drive, contain options to extend for five years. Included in the above premises is a facility leased from a current director of the Company at terms and conditions which management believes are consistent with the commercial lease market. The foregoing summary descriptions of leased premises are qualified in their entirety by reference to the lease agreements listed as exhibits in Part IV, Item 15 of this Annual Report on Form 10-K.

Item 3. Legal Proceedings.

There are no material legal proceedings adverse to the Company and its subsidiaries to which any director, officer, affiliate of the Company, or 5% shareholder of the Company or its subsidiaries, or any associate of any such director, officer, affiliate or 5% shareholder of the Company or its subsidiaries are a party, and none of the above persons has a material interest adverse to the Company or its subsidiaries.

From time to time, the Company and/or its subsidiaries may be a party to claims and legal proceedings arising in the ordinary course of business. The Company’s management is not aware of any pending legal proceedings to which either it or its subsidiaries may be a party or has recently been a party, which will have a material adverse effect on the financial condition or results of operations of the Company or its subsidiaries.

Item 4. Mine Safety Disclosures.

Not applicable.

PART II

 

Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities.

 

Market Information

The Company’s common stock began trading on the NASDAQ National Stock Market (“Nasdaq”) under the symbol “AMRB” on October 26, 2000. Effective July 3, 2006, the Company’s common stock became listed and traded on the Nasdaq Global Select Market. The closing price for the Company’s common stock on February 20, 2019 was $14.05.

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Holders

As of February 7, 2019, there were approximately 2,446 shareholders of record of the Company’s common stock.

Dividends

The Company paid quarterly cash dividends on its common stock from the first quarter of 2004 through the second quarter of 2009. Prior to that, the Company paid cash dividends twice a year since 1992. On July 27, 2009, the Company announced that the Board of Directors had suspended the payment of cash dividends, until such time that it was prudent to reestablish the payment of cash dividends. On January 25, 2017, the Board reinstated the quarterly cash dividend and in each of 2018 and 2017 the Company paid four cash dividends per year in the aggregate amount of $0.20 per common share. The Company relies on distributions from the Bank in the form of cash dividends in order to pay cash dividends to our shareholders. We cannot provide any assurance as to whether any dividends will continue to be paid in the future since they are subject to regulatory and statutory restrictions and the evaluation by the Company’s Board of Directors of financial factors including, but not limited to earnings, financial condition and capital requirements of the Company and its subsidiaries.

As a California corporation, the Company’s ability to pay cash dividends is subject to restrictions set forth in the California General Corporation Law (the “Corporation Law”). The Corporation Law provides that neither a corporation nor any of its subsidiaries shall make a distribution to the corporation’s shareholders unless the board of directors has determined in good faith either of the following: (1) the amount of retained earnings of the corporation immediately prior to the distribution equals or exceeds the sum of (A) the amount of the proposed distribution plus (B) the preferential dividends arrears amount; or (2) immediately after the distribution, the value of the corporation’s assets would equal or exceed the sum of its total liabilities plus the preferential rights amount. The good faith determination of the board of directors may be based upon (1) financial statements prepared on the basis of reasonable accounting practices and principles, (2) a fair valuation, or (3) any other method reasonable under the circumstances; provided, that a distribution may not be made if the corporation or subsidiary making the distribution is, or is likely to be, unable to meet its liabilities (except those whose payment is otherwise adequately provided for) as they mature.

The Board of Governors generally prohibits a bank holding company from declaring or paying a cash dividend which would impose undue pressure on the capital of subsidiary banks or would be funded only through borrowing or other arrangements that might adversely affect a bank holding company’s financial position. The Board of Governors’ policy is that a bank holding company should not continue its existing rate of cash dividends on its common stock unless its net income is sufficient to fully fund each dividend and its prospective rate of earnings retention appears consistent with its capital needs, asset quality and overall financial condition.

The payment of cash dividends by American River Bank is subject to restrictions set forth in the California Financial Code (the “Financial Code”). The Financial Code provides that a bank may not make a cash distribution to its shareholders in excess of the lesser of (a) the bank’s retained earnings; or (b) the bank’s net income for its last three fiscal years, less the amount of any distributions made by the bank or by any majority-owned subsidiary of the bank to the shareholders of the bank during such period. However, a bank may, with the approval of the Commissioner, make a distribution to its shareholders in an amount not exceeding the greater of (a) its retained earnings; (b) its net income for its last fiscal year; or (c) its net income for its current fiscal year. In the event that the Commissioner determines that the shareholders’ equity of a bank is inadequate or that the making of a distribution by the bank would be unsafe or unsound, the Commissioner may order the bank to refrain from making a proposed distribution.

The FDIC may also restrict the payment of dividends by a subsidiary bank if such payment would be deemed unsafe or unsound or if after the payment of such dividends, the bank would be included in one of the “undercapitalized” categories for capital adequacy purposes pursuant to the FDIC Improvement Act of 1991.

29
 

Stock Repurchases

On January 24, 2018, the Company approved and authorized a stock repurchase program for 2018 (the “2018 Program”). The 2018 Program authorized the repurchase during 2018 of up to 5% of the outstanding shares of the Company’s common stock, or approximately 306,618 shares based on the 6,132,362 shares outstanding as of December 31, 2017. During 2018, the Company repurchased 308,618 shares of its common stock at an average price of $15.52 per share. Repurchases under the 2018 Program were made from time to time by the Company in the open market. All such transactions were structured to comply with Securities and Exchange Commission Rule 10b-18 and all shares repurchased under the 2018 Program were retired.

 

The following table lists shares repurchased during the quarter ended December 31, 2018 and the maximum amount available to repurchase under the repurchase plan.

    (a)     (b)     (c)     (d)  
Period   Total Number
of Shares (or
Units)
Purchased
    Average Price
Paid Per Share
(or Unit)
    Total Number of Shares
(or Units) Purchased as
Part of Publicly
Announced Plans or
Programs
    Maximum Number (or
Approximate Dollar Value) of
Shares (or Units) That May
Yet Be Purchased Under the
Plans or Programs
 
Month #1
October 1 through
October 31, 2018
                      7,840  
Month #2
November 1 through
November 30, 2018
    7,840       15.07       7,840        
Month #3
December 1 through
December 31, 2018
                       
Total     7,840       15.07       7,840        

 

The Company repurchased 574,748 shares in 2017, 716,897 shares in 2016, 790,989 shares in 2015, and 424,462 shares in 2014. Share amounts have been adjusted for stock dividends and/or splits.

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Item 6. Selected Financial Data.

 

FINANCIAL SUMMARY- The following table presents certain consolidated financial information concerning the business of the Company and its subsidiaries. This information should be read in conjunction with the Consolidated Financial Statements, the notes thereto, and Management’s Discussion and Analysis included in this report. All per share data has been retroactively restated to reflect stock dividends and stock splits.

As of and for the Years Ended December 31,

(In thousands, except per share amounts and ratios)

    2018     2017     2016     2015     2014  
Operations Data:                                        
Net interest income   $ 20,646     $ 19,353     $ 20,243     $ 20,007     $ 18,797  
Provision for loan and lease losses     175       450       (1,344 )           (541 )
Noninterest income     1,513       1,596       2,045       2,015       2,177  
Noninterest expenses     15,510       14,049       13,836       14,080       14,862  
Income before income taxes     6,474       6,450       9,796       7,942       6,653  
Income tax expense     1,574       3,252       3,392       2,674       2,292  
Net income   $ 4,900     $ 3,198     $ 6,404     $ 5,268     $ 4,361  
                                         
Share Data:                                        
Earnings per share – basic   $ 0.83     $ 0.50     $ 0.95     $ 0.70     $ 0.54  
Earnings per share – diluted   $ 0.83     $ 0.50     $ 0.94     $ 0.70     $ 0.54  
Cash dividends per share (1)   $ 0.20     $ 0.20     $ 0.00     $ 0.00     $ 0.00  
Book value per share   $ 12.75     $ 12.54     $ 12.59     $ 11.72     $ 11.08  
Tangible book value per share   $ 9.97     $ 9.88     $ 10.14     $ 9.50     $ 9.06  
                                         
Balance Sheet Data:                                        
Assets   $ 688,092     $ 655,622     $ 651,450     $ 634,640     $ 617,754  
Loans and leases, net     318,516       308,713       324,086       289,102       258,057  
Deposits     590,674       556,080       544,806       530,690       510,693  
Shareholders’ equity     74,721       76,921       83,850       86,075       89,647  
                                         
Financial Ratios:                                        
Return on average equity     6.77 %     3.91 %     7.60 %     6.03 %     4.98 %
Return on average tangible equity     8.74 %     4.88 %     9.43 %     7.42 %     6.12 %
Return on average assets     0.72 %     0.49 %     1.00 %     0.85 %     0.72 %
Efficiency ratio (2)     69.35 %     65.84 %     60.81 %     62.87 %     69.96 %
Net interest margin (2) (3)     3.41 %     3.39 %     3.62 %     3.63 %     3.54 %
Net loans and leases to deposits     53.92 %     55.52 %     59.49 %     54.48 %     50.53 %
Net charge-offs (recoveries) to average loans & leases     0.08 %     0.25 %     (0.39 %)     0.12 %     (0.20 %)
Nonperforming loans and leases to total loans and leases (4)     0.01 %     0.60 %     0.01 %     0.56 %     0.63 %
Allowance for loan and lease losses to total loans and leases     1.36 %     1.43 %     1.47 %     1.69 %     2.01 %
Average equity to average assets     10.62 %     12.53 %     13.20 %     14.02 %     14.47 %
Dividend payout ratio (1)     24 %     40 %     0 %     0 %     0 %
                                         
Capital Ratios:                                        
Leverage capital ratio     8.94 %     9.45 %     10.50 %     10.97 %     11.60 %
Tier 1 risk-based capital ratio     16.11 %     18.08 %     19.02 %     19.34 %     21.60 %
Total risk-based capital ratio     17.29 %     19.34 %     20.27 %     20.59 %     22.85 %
(1) On January 25, 2017, the Company reinstated the payment of quarterly cash dividends.
(2) Fully taxable equivalent.
(3) Excludes the amortization of intangible assets.
(4) Nonperforming loans and leases consist of loans and leases past due 90 days or more and still accruing and nonaccrual loans and leases.
31
 

Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations.

This discussion should be read in conjunction with “Item 1. Business-Cautionary Statements Regarding Forward-Looking Statements,” “Item 1A. Risk Factors,” and “Item 8. Financial Statements and Supplementary Data” of this report.

Use of Non-GAAP Financial Measures

 

This Annual Report on Form 10-K (“Form 10K”) contains certain non-GAAP (Generally Accepted Accounting Principles) financial measures in addition to results presented in accordance with GAAP.  These measures include tangible book value and taxable equivalent basis.  Management has presented these non-GAAP financial measures in this Form 10K because it believes that they provide useful and comparative information to assess trends in the Company’s financial position reflected in the results and facilitate comparison of our performance with the performance of our peers.

 

Net Interest Margin and Efficiency Ratio (non-GAAP financial measures)

 

In accordance with industry standards, certain designated net interest income amounts are presented on a

taxable equivalent basis, including the calculation of net interest margin and the efficiency ratio.  The Company believes the presentation of net interest margin on a taxable equivalent basis using a 21% effective tax rate for 2018 and 34% effective tax rate for 2017 and 2016 allows comparability of net interest margin with industry peers by eliminating the effect of the differences in portfolios attributable to the proportion represented by both taxable and tax-exempt loans and investments. The efficiency ratio is a measure of a banking company’s overhead as a percentage of its revenue. The Company derives this ratio Sby dividing total noninterest expense by the sum of the taxable equivalent net interest income and the total noninterest income.

 

Tangible Equity (non-GAAP financial measures)

 

Tangible common stockholders’ equity (tangible book value) excludes goodwill and other intangible assets.  The Company believes the exclusion of goodwill and other intangible assets to create “tangible equity” facilitates the comparison of results for ongoing business operations.  The Company’s management internally assesses its performance based, in part, on these non-GAAP financial measures. The following table sets forth a reconciliation of total shareholders' equity to tangible shareholder's equity for the periods presented.

 

Reconciliation to Tangible Common Shareholders’ Equity:

 

    December 31,  
    2018     2017     2016  
    (dollars in thousands)  
Total shareholders’ equity   $ 74,721     $ 76,921     $ 83,850  
Less:                        
Other intangible assets (goodwill)     (16,321 )     (16,321 )     (16,321 )
Tangible common shareholders’ equity   $ 58,400     $ 60,600     $ 67,529  

Critical Accounting Policies

General

The Company’s financial statements are prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”). The financial information contained within our statements is, to a significant extent, financial information that is based on measures of the financial effects of transactions and events that have already occurred. We use historical loss data and the economic environment as factors, among others, in determining the inherent loss that may be present in our loan and lease portfolio. Actual losses could differ significantly from the factors that we use. In addition, GAAP itself may change from one previously acceptable method to another method. Although the economics of our transactions would be the same, the timing of events that would impact our transactions could change.

32
 

Allowance for Loan and Lease Losses

The allowance for loan and lease losses is an estimate of probable credit losses inherent in the Company’s credit portfolio that have been incurred as of the balance-sheet date. The allowance is based on two basic principles of accounting: (1) “Accounting for Contingencies,” which requires that losses be accrued when it is probable that a loss has occurred at the balance sheet date and such loss can be reasonably estimated; and (2) the “Receivables” topic, which requires that losses be accrued on impaired loans based on the differences between the value of collateral, present value of future cash flows or values that are observable in the secondary market and the loan balance.

The allowance for loan and lease losses is determined based upon estimates that can and do change when the actual risk, loss events, or changes in other factors, occur. The analysis of the allowance uses a historical loss view as an indicator of future losses and as a result could differ from the actual losses incurred in the future. If the allowance for loan and lease losses falls below that deemed adequate (by reason of loan and lease growth, actual losses, the effect of changes in risk factors, or some combination of these), the Company has a strategy for supplementing the allowance for loan and lease losses, over the short-term. For further information regarding our allowance for loan and lease losses, see “Allowance for Loan and Lease Losses Activity.”

Stock-Based Compensation

The Company recognizes compensation expense over the service period in an amount equal to the fair value of all share-based payments which consist of stock options and restricted stock awarded to directors and employees. The fair value of each stock option award is estimated on the date of grant and amortized over the service period using a Black-Scholes-Merton based option valuation model that requires the use of assumptions.  Critical assumptions that affect the estimated fair value of each award include expected stock price volatility, dividend yields, option life and the risk-free interest rate. The fair value of each restricted award is estimated on the date of award and amortized over the service period.

 

Overview

 

The Company recorded net income in 2018 of $4,900,000, an increase of $1,702,000 (53.2%) from $3,198,000 in 2017. Diluted earnings per share were $0.83 for 2018 and $0.50 for 2017. For 2018, the Company realized a return on average equity of 6.77% and a return on average assets of 0.72%, compared to 3.91% and 0.49%, respectively, in 2017.

 

Net income for 2017 decreased $3,206,000 (50.1%) from $6,404,000 in 2016. Diluted earnings per share for 2016 were $0.94. For 2016, the Company realized a return on average equity of 7.60% and return on average assets of 1.00%. Table One below provides a summary of the components of net income for the years indicated (dollars in thousands):

 

Table One: Components of Net Income

 

    2018     2017     2016  
Interest income*   $ 22,449     $ 20,804     $ 21,618  
Interest expense     (1,596 )     (1,061 )     (910 )
Net interest income*     20,853       19,743       20,708  
Provision for loan and lease losses (expense) income     (175 )     (450 )     1,344  
Noninterest income     1,513       1,596       2,045  
Noninterest expense     (15,510 )     (14,049 )     (13,836 )
Provision for income taxes     (1,574 )     (3,252 )     (3,392 )
Tax equivalent adjustment     (207 )     (390 )     (465 )
Net income   $ 4,900     $ 3,198     $ 6,404  
                         
Average total assets   $ 681,630     $ 652,720     $ 638,276  
Net income as a percentage of average total assets     0.72 %     0.49 %     1.00 %
                         

* Fully taxable equivalent basis (FTE)

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During 2018, total assets of the Company increased $32,470,000 (5.0%) from $655,622,000 at December 31, 2017 to $688,092,000 at December 31, 2018. At December 31, 2018, net loans totaled $318,516,000, an increase of $9,803,000 (3.2%) from the ending balance of $308,713,000 at December 31, 2017. Deposits increased $34,594,000 or 6.2% from $556,080,000 at December 31, 2017 to $590,674,000 at December 31, 2018. Shareholders’ equity decreased $2,200,000 or 2.9% from $76,921,000 at December 31, 2017 to $74,721,000 at December 31, 2017. The Company ended 2018 with a leverage capital ratio of 8.9% and a total risk-based capital ratio of 17.3% compared to a leverage capital ratio of 9.5% and a total risk-based capital ratio of 19.3% at the end of 2017.

 

Results of Operations

Net Interest Income and Net Interest Margin

Net interest income represents the excess of interest and fees earned on interest earning assets (loans, securities, Federal funds sold and interest-bearing deposits in other banks) over the interest paid on deposits and borrowed funds. Net interest margin is net interest income expressed as a percentage of average earning assets.

 

The Company’s fully taxable equivalent net interest margin was 3.41% in 2018, 3.39% in 2017, and 3.62% in 2016. The fully taxable equivalent net interest income increased $1,110,000 (5.6%), from $19,743,000 in 2017 to $20,853,000 in 2018. The fully taxable equivalent net interest income decreased $965,000 (4.7%), from $20,708,000 in 2016 to $19,743,000 in 2017.

 

The fully taxable equivalent interest income component increased $1,645,000 (7.9%) from $20,804,000 in 2017 to $22,449,000 in 2018. The increase in the fully taxable equivalent interest income for 2018 compared to the same period in 2017 is comprised of two components - rate (up $1,764,000) and volume (down $119,000). The primary driver in this rate increase was an increase in the yield on loans which saw an increase from 4.57% in 2017 to 4.72% in 2018 and an increase in the yield on investments, which saw an increase from 2.36% in 2017 to 2.66% in 2018. The increased yield in 2018 compared to 2017 was due to the overall higher interest rate environment. The yield on earning assets increased from 3.57% during 2017 to 3.67% during 2018. The increase in yield from the loans and investments was partially offset by an increase in the balances of Federal funds sold. Federal funds sold balances increased from zero in 2017 to an average balance of $18,688,000 in 2018. However, the yield on these lower earning Federal fund balances was 1.86%, thus partially reducing the overall yield on earning assets. The volume decrease of $119,000 was primarily from a decrease in loans ($515,000), partially offset by an increase in investment balances ($391,000). Average loans balances decreased $11,266,000, (or 3.5%), from $319,631,000 during 2017 to $308,365,000 during 2018 and the average investment balances increased $21,344,000, (or 8.2%), from $261,554,000 during 2017 to $282,898,000 in 2018.

The fully taxable equivalent interest income component decreased $814,000 (3.8%) from $21,618,000 in 2016 to $20,804,000 in 2017. The decrease in the fully taxable equivalent interest income for 2017 compared to the same period in 2016 is comprised of two components - rate (down $1,337,000) and volume (up $523,000). The rate decrease primarily occurred in the loan and investment portfolios. While average loans increased by $12,894,000 (4.2%) from $306,737,000 during 2016 to $319,631,000 during 2017, due to the overall lower interest rate environment in 2017, the new loans added were at lower yields than the existing loans. The yield on loans decreased from 4.88% in 2016 to 4.57% in 2017 and contributed to a decrease of $961,000 in loan interest income. The investment portfolio also contributed to the decrease in interest income. The yield on the investments decreased from 2.51% in 2016 to 2.36% in 2017 and contributed to a decrease of $379,000 in interest income. This decrease in investment income due to rates can also be attributed to the lower overall rate environment as proceeds from paid down securities were invested at lower rates. The volume increase of $523,000 was primarily from the increase of $12,894,000 in average loans mentioned above contributing $600,000 in interest income and partially offset by the decrease in investments reducing interest income by $80,000. When compared to 2016, average investment securities decreased $2,622,000 (1.0%) from $264,176,000 in 2016 compared to $261,554,000 in 2017, as a portion of these funds helped fund the increase in loans.

Interest expense was $535,000 (or 50.4%) higher in 2018 compared to 2017, increasing from $1,061,000 to $1,596,000. The $535,000 increase in interest expense during 2018 compared to 2017 was due to higher rates (up $531,000) and higher volume (up $4,000). The increase in interest expense can be attributed to an increase in rates paid on deposit and borrowing balances during a higher interest rate environment. Rates paid on interest bearing liabilities increased 11 basis points from 0.30% to 0.41% for 2017 compared to 2018. The largest increase due to rates occurred in the time deposits. Some of these time deposits are indexed to the three- or six-month treasury rates which have increased over the past twelve months. Interest expense on time deposits increased by $367,000, (or 52.9%), from $694,000 in 2017 to $1,061,000 in 2018 while the average time deposit balances decreased by $1,634,000, (or 2.0%), from $81,056,000 in 2017 to $79,422,000 in 2018.

34
 

Interest expense was $151,000 (16.6%) higher in 2017 compared to 2016, increasing from $910,000 to $1,061,000. The primary increase in interest expense relates to higher rates (up $177,000). Rates paid on interest bearing liabilities increased four basis points from 0.26% to 0.30% in 2017 compared to 2016. The average balances on interest bearing liabilities were $358,756,000 (or $7,661,000 and 2.2% higher) in 2017 compared to $351,095,000 in 2016. Despite the slightly higher average balances, the Company experienced a slight decrease in interest expense of $26,000 due to volume as a result of a decrease in the higher cost time deposits and other borrowings. Time deposits decreased from $83,144,000 in 2016 to $81,056,000 in 2017 and had a $14,000 impact on the decrease in interest expense due to volume and other borrowings decreased from $17,201,000 in 2016 to $15,522,000 in 2017 and had an $18,000 impact on the decrease in interest expense due to volume.

Table Two, Analysis of Net Interest Margin on Earning Assets, and Table Three, Analysis of Volume and Rate Changes on Net Interest Income and Expenses, are provided to enable the reader to understand the components and past trends of the Company’s interest income and expenses. Table Two provides an analysis of net interest margin on earning assets setting forth average assets, liabilities and shareholders’ equity; interest income earned and interest expense paid and average rates earned and paid; and the net interest margin on earning assets. Table Three sets forth a summary of the changes in interest income and interest expense from changes in average asset and liability balances (volume), computed on a daily average basis, and changes in average interest rates.

Table Two: Analysis of Net Interest Margin on Earning Assets

Year Ended December 31,   2018     2017     2016  
(Taxable Equivalent Basis)
(dollars in thousands)
 

Avg
Balance

   

 

Interest

   

Avg
Yield

   

Avg
Balance

   

 

Interest

   

Avg
Yield

   

Avg
Balance

   

 

Interest

   

Avg
Yield

 
Assets:                                                                        
Earning assets:                                                                        
Taxable loans and leases (1)   $ 294,114     $ 13,924       4.73 %   $ 305,345     $ 13,947       4.57 %   $ 289,699     $ 14,008       4.84 %
Tax-exempt loans and leases (2)     14,251       632       4.43 %     14,286       667       4.67 %     17,038       967       5.68 %
Taxable investment Securities     264,247       6,901       2.61 %     238,710       5,287       2.21 %     240,149       5,755       2.40 %
Tax-exempt investment securities (2)     18,651       611       3.28 %     22,789       874       3.84 %     23,952       867       3.62 %
Corporate stock                       55       16       29.09 %     75       14       18.67 %
Federal funds sold     18,688       348       1.86 %                                    
Interest bearing deposits in other banks     1,745       33       1.89 %     1,258       13       1.03 %     996       7       0.70 %
Total earning assets     611,696       22,449       3.67 %     582,443       20,804       3.57 %     571,909       21,618       3.78 %
Cash & due from banks     34,535                       35,876                       33,806                  
Other assets     39,822                       39,201                       37,753                  
Allowance for loan & lease losses     (4,423 )                     (4,800 )                     (5,192 )                
                                                                         
    $ 681,630                     $ 652,720                     $ 638,276                  
                                                                         
Liabilities & Shareholders’ Equity:                                                                        
Interest bearing liabilities:                                                                        
NOW & MMDA   $ 219,742       272       0.12 %   $ 197,298       139       0.07 %   $ 190,237       146       0.08 %
Savings     71,742       26       0.04 %     64,880       22       0.03 %     60,543       19       0.03 %
Time deposits     79,422       1,061       1.34 %     81,056       694       0.86 %     83,114       565       0.68 %
Other borrowings     15,533       237       1.53 %     15,522       206       1.33 %     17,201       180       1.05 %
Total interest bearing liabilities     386,439       1,596       0.41 %     358,756       1,061       0.30 %     351,095       910       0.26 %
Demand deposits     215,721                       204,565                       196,434                  
Other liabilities     7,062                       7,583                       6,494                  
Total liabilities     609,222                       570,904                       554,023                  
Shareholders’ equity     72,408                       81,816                       84,253                  
    $ 681,630                     $ 652,720                     $ 638,276                  
Net interest income & margin (3)           $ 20,853       3.41 %           $ 19,743       3.39 %           $ 20,708       3.62 %

 

(1) Loan and lease interest includes loan and lease fees of $533,000, $238,000 and $253,000 in 2018, 2017 and 2016, respectively.
(2) Includes taxable-equivalent adjustments that primarily relate to income on certain loans and securities that is exempt from federal income taxes.  The effective federal statutory tax rate was 21% in 2018 and 34% in 2017 and 2016.
(3) Net interest margin is computed by dividing net interest income by total average earning assets.
35
 

Table Three:  Analysis of Volume and Rate Changes on Net Interest Income and Expenses  
Year ended December 31, 2018 over 2017 (dollars in thousands)                  

Increase (decrease) in interest income and expense due to change in:

                 
Interest-earning assets:   Volume     Rate (4)     Net Change  
Taxable net loans and leases (1)(2)   $ (513 )   $ 490     $ (23 )
Tax-exempt net loans and leases (3)     (2 )     (33 )     (35 )
Taxable investment securities     566       1,048       1,614  
Tax-exempt investment securities (3)     (159 )     (104 )     (263 )
Corporate stock     (16 )           (16 )
Federal funds sold           348       348  
Interest bearing deposits in other banks     5       15       20  
Total     (119 )     1,764       1,645  
                         
Interest-bearing liabilities:                        
Demand deposits     16       117       133  
Savings deposits     2       2       4  
Time deposits     (14 )     381       367  
Other borrowings           31       31  
Total     4       531       535  
Interest differential   $ (123 )   $ 1,233     $ 1,110  
                         
Year Ended December 31, 2017 over 2016 (dollars in thousands) Increase (decrease) in interest income and expense due to change in:                        
                         
Interest-earning assets:   Volume     Rate (4)     Net Change  
Taxable net loans and leases (1)(2)   $ 757     $ (818 )   $ (61 )
Tax-exempt net loans and leases (3)     (156 )     (144 )     (300 )
Taxable investment securities     (34 )     (434 )     (468 )
Tax-exempt investment securities (3)     (42 )     49       7  
Corporate stock     (4 )     6       2  
Federal funds sold                  
Interest bearing deposits in other banks     2       4       6  
Total     523       (1,337 )     (814 )
                         
Interest-bearing liabilities:                        
Demand deposits     5       (12 )     (7 )
Savings deposits     1       2       3  
Time deposits     (14 )     143       129  
Other borrowings     (18 )     44       26  
Total     (26 )     177       151  
Interest differential   $ 549     $ (1,514 )   $ (965 )

 

(1) The average balance of non-accruing loans and leases is immaterial as a percentage of total loans and leases and has been included in net loans and leases.
(2) Loan and lease fees of $533,000, $238,000 and $253,000 for the years ended December 31, 2018, 2017 and 2016, respectively, have been included in the interest income computation.
(3) Includes taxable-equivalent adjustments that primarily relate to income on certain loans and securities that is exempt from federal income taxes.  The effective federal statutory tax rate was 21% in 2018 and 34% in 2017 and 2016.
(4) The rate/volume variance has been included in the rate variance.
36
 

Provision for Loan and Lease Losses

The Company experienced net loan and lease losses of $261,000 or 0.08% of average loans and leases during 2018, compared to net loan and lease losses of $794,000 or 0.25% of average loans and leases during 2017. To support the net losses in 2018 and 2017, the Company recorded provisions for loan and lease losses of $175,000 and $450,000, respectively during 2017 and 2018. The Company experienced net loan and lease recoveries of $1,191,000 or 0.39% of average loans and leases during 2016 and as a result was able to record a negative provision for loan and lease losses of $1,344,000. The level of nonperforming loans and leases, which began to increase during the economic cycle of 2007 through 2010, reached a high of $22,571,000 at December 31, 2010, but has decreased to $27,000 at December 31, 2018. For additional information see the “Nonaccrual, Past Due and Restructured Loans and Leases” and the “Allowance for Loan and Lease Losses Activity.”

Noninterest Income

Table Four below provides a summary of the components of noninterest income for the periods indicated (dollars in thousands):

Table Four: Components of Noninterest Income    

    Year Ended December 31,  
    2018     2017     2016  
Service charges on deposit accounts   $ 476     $ 465     $ 502  
Income from OREO properties                 279  
Merchant fee income     422       411       377  
Earnings on bank-owned life insurance     307       317       322  
Gain on sale and impairment of securities     31       161       314  
Other     277       242       251  
    $ 1,513     $ 1,596     $ 2,045  

 

Noninterest income decreased $83,000 (5.2%) to $1,513,000 in 2018 from $1,596,000 in 2017. The decrease from 2017 to 2018 was primarily related to lower gains on sale of securities. Gain on sales of securities decreased $130,000 (81.3%) from 2017 to 2018.

 

Noninterest income decreased $449,000 (22.0%) to $1,596,000 in 2017 from $2,045,000 in 2016. The decrease from 2016 to 2017 was primarily related to lower gains on sale of securities and lower earnings on OREO properties. Gain on sales of securities decreased $153,000 (48.7%) from 2016 to 2017 and income from OREO properties decreased $279,000 (100.0%) during that same time period. The decrease in OREO income resulted from the sale of the Bank’s only remaining income producing OREO property in the first quarter of 2016.

 

Noninterest Expense

Salaries and Benefits

Salaries and benefits were $10,203,000 (up $1,283,000 or 14.4%) for 2018, compared to $8,920,000 in 2017. The increase in salaries and benefits expense resulted from filling some vacant positions, hiring additional relationship managers, creating a position for a Chief Lending Officer in December 2017, and normal cost of living increases and promotions. Average full-time equivalent employees was 97 during 2018 compared to 93 during 2017. Employer benefit expenses, such as insurance, 401(k) matching and incentives and payroll taxes increased commensurate with the increased staffing levels.

Salaries and benefits were $8,920,000 (up $485,000 or 5.7%) for 2017, compared to $8,435,000 in 2016. The increase in salary and benefits was due in part to expenses related to a change in the Company’s Chief Executive Officer during the fourth quarter of 2017. This leadership change was announced on October 27, 2017, on a Form 8-K filed with the Securities and Exchange Commission. The leadership change resulted in salary and benefit expenses of $597,000 in 2017. The expenses related to the leadership change were partially offset by lower salary expenses. Salary expenses decreased $206,000 (3.5%) from $5,853,000 in 2016 to $5,647,000 in 2017. The decrease in salaries resulted from a lower number of average full time equivalent employees, which decreased from 98 in 2016 to 93 in 2017.

37
 

Other Real Estate Owned

The total other real estate owned (“OREO”) expense in 2018 was $20,000 (down $24,000 or 54.5%) compared to $44,000 in 2017. The primary reason for the decrease in OREO related expenses was due to the sale of one of the properties in the third quarter of 2017. Operating expenses on the properties held in 2017 totaled $52,000 compared to $16,000 in 2018. In 2017, the gains on sale, which offset the overall OREO expense, were $8,000 compared to zero in 2018. There were no write-downs on any of the properties held during 2017 compared to write-downs of $4,000 in 2018. At December 31, 2018, the Company held one property with a book value of $957,000.

 

The total OREO expense in 2017 was $44,000 (down $202,000 or 82.1%) compared to $246,000 in 2016. The primary reason for the decrease in OREO related expenses was due to the sale of a number of properties, including office buildings which have high operating expenses, and lower property write-downs. Operating expenses on the properties held in 2017 totaled $52,000 compared to $128,000 in 2016. In 2017, the gains on sale, which offset the overall OREO expense, were lower than in 2016. Gains from properties sold in 2017 totaled $8,000 compared to a $258,000 in 2016. There were no write-downs on any of the properties held during 2017 compared to write-downs of $376,000 in 2016. At December 31, 2017, the Company held one property with a book value of $961,000.

 

Occupancy, Furniture and Equipment

Occupancy expense decreased $3,000 (0.3%) during 2018 to $1,050,000, compared to $1,053,000 in 2017. Furniture and equipment expense decreased $33,000 (5.6%) during 2018 to $553,000 compared to $586,000 in 2017. The decrease in occupancy and furniture and equipment expense decrease resulted from lower depreciation expense on premises and equipment leased or owned by the Company.

 

Occupancy expense decreased $122,000 (10.4%) during 2017 to $1,053,000, compared to $1,175,000 in 2016. Furniture and equipment expense decreased $66,000 (10.1%) during 2017 to $586,000 compared to $652,000 in 2016. The decrease in occupancy resulted from the Company renewing leases at more favorable terms or relocating branch offices to smaller locations. The furniture and equipment expense decrease resulted from lower depreciation expense on equipment owned by the Company.

 

Regulatory Assessments

 

Regulatory assessments include fees paid to the California Department of Business Oversight (the “DBO”) and the Federal Deposit Insurance Corporation (the “FDIC”). FDIC assessments decreased $4,000 (1.9%) during 2018 to $202,000, compared to $206,000 in 2017. The assessments paid to the DBO in 2018 were $77,000, compared to an expense of $74,000 in 2017.

 

FDIC assessments decreased $50,000 (19.5%) during 2017 to $206,000, compared to $256,000 in 2016. The majority of this decrease resulted from a lower assessment rate as a result of the Deposit Insurance Fund achieving the FDIC’s target level of 1.15% during 2016, which resulted in lower assessments for community banks such as American River Bank. The assessments paid to the DBO in 2017 were $74,000, compared to an expense of $72,000 in 2016.

Other Expenses

Table Five below provides a summary of the components of the other noninterest expenses for the periods indicated (dollars in thousands):

 

    Year Ended December 31,  
    2018     2017     2016  
Professional fees   $ 1,158     $ 1,140     $ 995  
Outsourced item processing     315       319       366  
Directors’ expense     514       427       417  
Telephone and postage     409       360       357  
Stationery and supplies     140       135       141  
Advertising and promotion     480       175       129  
Other operating expenses     388       610       595  
    $ 3,404     $ 3,166     $ 3,000  
38
 

Other expenses were $3,404,000 (up $238,000 or 7.5%) for 2018, compared to $3,166,000 for 2017. The increase in other expenses occurred primarily in the advertising and promotion expense category. Advertising and promotion expense increased $305,000 (174.3%), from $175,000 in 2017 to $480,000 in 2018. Much of this increase is related to the expenses to sponsor community events and other promotional activities as the Company is focusing more effort in our markets to strengthen our brand. The overhead efficiency ratio on a taxable equivalent basis for 2018 was 69.4% compared to 65.8% in 2017.

 

Other expenses were $3,166,000 (up $166,000 or 5.5%) for 2017, compared to $3,000,000 for 2016. The increase in other expenses occurred primarily in the professional expense category. Professional expenses, which primarily include legal, accounting and other professional services, increased $145,000 (14.6%), from $995,000 in 2016 to $1,140,000 in 2017. Much of this increase is related to the leadership change that occurred during the fourth quarter of 2017 resulting in professional expenses of $78,000 and fees paid in 2017 related to strategic planning consulting of $38,000. The overhead efficiency ratio on a taxable equivalent basis for 2017 was 65.8% compared to 60.8% in 2016.

 

Provision for Income Taxes

 

The effective tax rate on income was 24.3%, 50.4%, and 34.6% in 2018, 2017 and 2016, respectively. The effective tax rate differs from the federal statutory tax rate due to state tax expense (net of federal tax effect) of $523,000, $420,000, and $697,000 in these years. Tax-exempt income of $1,315,000, $1,471,000, and $1,681,000 from investment securities, loans, and bank-owned life insurance in these years helped to reduce the effective tax rate. The lower effective tax rate in 2018 compared to prior years results from the new lower corporate federal income tax rate of 21% effective January 1, 2018, which was a reduction from the Company’s 2017 and 2016 rate of 34%. The higher effective tax rate in 2017 compared to 2016 resulted from the Company recording an income tax expense adjustment of $1,220,000 related to “H.R.1” commonly referred to as the Tax Cuts and Jobs Act that was signed into law on December 22, 2017. The adjustment relates to revaluing the Company’s net deferred tax assets using the new lower corporate federal income tax rate of 21%.

The Company’s taxable income in 2018 was $6,474,000 up slightly from $6,450,000 in 2017, however, the combined federal and State income tax expense decreased $1,678,000 (51.6%) from $3,252,000 in 2017 to $1,574,000 in 2018. Excluding the $1,220,000 adjustment related to H.R.1, the tax expense would have been $2,032,000 in 2017. Comparing the actual expense of $1,574,000 in 2018 to the adjusted expense of $2,032,000 in 2017 points out the benefit of the lower 21% federal tax rate.

Balance Sheet Analysis

 

The Company’s total assets were $688,092,000 at December 31, 2018 compared to $655,622,000 at December 31, 2017, representing an increase of $32,470,000 (5.0%). The average balances of total assets during 2018 were $681,630,000, up $28,910,000 or 4.4% from the 2017 average balances of total assets of $652,720,000.

Investment Securities

The Company classifies its investment securities as trading, held-to-maturity or available-for-sale. The Company’s intent is to hold all securities classified as held-to-maturity until maturity and management believes that it has the ability to do so. Securities classified as available-for-sale may be sold to implement asset/liability management strategies as part of our contingency funding plan and in response to changes in interest rates, prepayment rates and similar factors. Table Six below summarizes the values of the Company’s investment securities held on December 31 of the years indicated. The Company did not have any investment securities classified as trading in any of the years indicated below.

39
 

Table Six: Investment Securities Composition

 

(dollars in thousands) 

Available-for-sale (at fair value)   2018     2017     2016  
Debt securities:                        
US Government Agencies and US Government-Sponsored Agencies   $ 269,049     $ 232,869     $ 229,785  
Obligations of states and political subdivisions     14,400       22,715       22,612  
Corporate debt securities     6,508       6,626       1,519  
U. S Treasury securities     4,976              
Equity securities:                        
Corporate stock           112       104  
Total available-for-sale investment securities   $ 294,933     $ 262,322     $ 254,020  
                         
Held-to-maturity (at amortized cost)                        
Debt securities:                        
US Government Agencies and US Government-Sponsored Agencies   $ 292     $ 378     $ 483  
Total held-to-maturity investment securities   $ 292     $ 378     $ 483  

  

Net unrealized losses on available-for-sale investment securities totaling $2,664,000 were recorded, net of $788,000 in tax liabilities, as accumulated other comprehensive income within shareholders’ equity at December 31, 2018 and net unrealized gains on available-for-sale investment securities totaling $456,000 were recorded, net of $135,000 in tax liabilities, as accumulated other comprehensive income within shareholders’ equity at December 31, 2017. Management periodically evaluates each investment security in a loss position for other than temporary impairment relying primarily on industry analyst reports, observation of market conditions and interest rate fluctuations. Management has the ability and intent to hold securities with established maturity dates until recovery of fair value, which may be until maturity, and believes it will be able to collect all amounts due according to the contractual terms for all of the underlying investment securities; therefore, management does not consider these investments to be other-than-temporarily impaired. See Table Fifteen, “Securities Maturities and Weighted Average Yields,” for a breakdown of the investment securities by maturity and the corresponding weighted average yields.

 

Loans and Leases

The Company concentrates its lending activities in the following principal areas: (1) commercial; (2) commercial real estate; (3) multi-family real estate; (4) real estate construction (both commercial and residential); (5) residential real estate; (6) lease financing receivable; (7) agriculture; and (8) consumer loans. At December 31, 2018, these categories accounted for approximately 9%, 62%, 18%, 2%, 5%, 0%, 1% and 3%, respectively, of the Company’s loan portfolio. This mix was relatively unchanged compared to approximately 8%, 59%, 25%, 2%, 5%, 0%, 1% and 0%, respectively, at December 31, 2016. Also, as noted in Table 7 below, the Company’s primary focus is commercial and real estate loans, however, in 2018 the Company was selected by a lender that specializes in classic and collector cars. The company began funding these loans during the third quarter of 2018 and recorded $10,791,000 during 2018 and account for the increase in consumer loans.

Continuing focus in the Company’s market area, new borrowers developed through the Company’s marketing efforts, an upgraded lending team in 2018, and credit extensions expanded to existing borrowers resulted in the Company originating approximately $104 million in loans compared to $30 million in 2017. This production was offset by normal pay downs and payoffs, and resulted in an overall net increase in net loans and leases of $9.8 million (3.2%) from December 31, 2017. The market in which the Company operates has shown increased demand for credit products as the relatively low rate environment and expectations for economic expansion have increased refinancing as well as new loan activity. Table Seven below summarizes the composition of the loan and lease portfolio for the past five years as of December 31.

40
 

Table Seven: Loan and Lease Portfolio Composition

 
    December 31,  
(dollars in thousands)   2018     2017     2016     2015     2014  
Commercial   $ 29,650     $ 25,377     $ 35,374     $ 36,195     $ 25,186  
Real estate:                                        
Commercial     199,894       185,452       191,129       199,591       193,871  
Multi-family     56,139       78,025       73,373       23,494       14,167  
Construction     5,685       5,863       9,180       14,533       8,028  
Residential     16,338       15,813       15,718       14,200       13,309  
Lease financing receivable     32       205       404       732       1,286  
Agriculture     4,419       1,713       2,302       2,431       2,882  
Consumer     10,714       945       1,650       3,122       4,916  
      322,871       313,393       329,130       294,298       263,645  
Deferred loan fees and costs, net     37       (202 )     (222 )     (221 )     (287 )
Allowance for loan and lease losses     (4,392 )     (4,478 )     (4,822 )     (4,975 )     (5,301 )
Total net loans and leases   $ 318,516     $ 308,713     $ 324,086     $ 289,102     $ 258,057  

 

A significant portion of the Company’s loans and leases are direct loans and leases made to individuals and local businesses. The Company relies substantially on networking, local promotional activity, and personal contacts by American River Bank officers, directors and employees to compete with other financial institutions. The Company makes loans and leases to borrowers whose applications include a sound purpose and a viable primary repayment source, generally supported by a secondary source of repayment.

 

Commercial loans consist of credit lines for operating needs, loans for equipment purchases, working capital, and various other business loan products. Consumer loans include a range of traditional consumer loan products such as personal lines of credit and homeowner equity lines of credit and loans to finance purchases of autos (including classic and collectors autos), boats, recreational vehicles, mobile homes and various other consumer items. Construction loans are generally comprised of commitments to customers within the Company’s service area for construction of commercial properties, multi-family properties and custom and semi-custom single-family residences. Other real estate loans consist primarily of loans secured by first trust deeds on commercial, multi-family, and residential properties typically with maturities from 3 to 10 years and original loan-to-value ratios generally from 65% to 75%. Agriculture loans consist primarily of vineyard loans. In general, except in the case of loans under SBA programs or Farm Services Agency guarantees, the Company does not make long-term mortgage loans.

 

Average loans and leases in 2018 were $308,365,000, which represents a decrease of $11,266,000 (3.5%) compared to the average in 2017. Average loans and leases in 2017 were $319,631,000, which represents an increase of $12,894,000 (4.2%) compared to the average in 2016.

Risk Elements

The Company assesses and manages credit risk on an ongoing basis through a total credit culture that emphasizes excellent credit quality, extensive internal monitoring and established formal lending policies. Additionally, the Company contracts with an outside loan review consultant to periodically review the existing loan and lease portfolio. Management believes its ability to identify and assess risk and return characteristics of the Company’s loan and lease portfolio is critical for profitability and growth. Management strives to continue its emphasis on credit quality in the loan and lease approval process, through active credit administration and regular monitoring. With this in mind, management has designed and implemented a comprehensive loan and lease review and grading system that functions to continually assess the credit risk inherent in the loan and lease portfolio.

 

Ultimately, underlying trends in economic and business cycles influence credit quality. American River Bank’s business is concentrated in the Sacramento Metropolitan Statistical Area, which is a diversified economy, but with a large State of California government presence and employment base; in Sonoma County, which is focused on businesses within the two communities in which the Bank has offices (Santa Rosa and Healdsburg); and in Amador County, in which the Bank is primarily focused on businesses within the three communities in which it has offices (Jackson, Pioneer, and Ione). The economy of Sonoma County is diversified with professional services, manufacturing, agriculture and real estate investment and construction, while the economy of Amador County is reliant upon government, services, retail trade, manufacturing industries and Indian gaming. The Company serviced markets in Santa Clara, Contra Costa, and Alameda Counties through a loan production office. In the fourth quarter of 2016, the Company discontinued operating the loan production office, however, the Company continues to service loans originated through these offices. The economies of Santa Clara, Contra Costa and Alameda Counties are diversified with professional services, manufacturing, technology related companies, real estate investment and construction.

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The Company has significant extensions of credit and commitments to extend credit that are secured by real estate. The ultimate repayment of these loans is generally dependent on personal or business cash flows or the sale or refinancing of the real estate. The Company monitors the effects of current and expected market conditions and other factors on the collectability of real estate loans. The more significant factors management considers involve the following: lease rates and terms, vacancy rates, absorption and sale rates and capitalization rates; real estate values, supply and demand factors, and rates of return; operating expenses; inflation and deflation; and sufficiency of repayment sources independent of the real estate including, in some instances, personal guarantees.

 

In extending credit and commitments to borrowers, the Company generally requires collateral and/or guarantees as security. The repayment of such loans is expected to come from cash flows or from proceeds from the sale of selected assets of the borrowers. The Company’s requirement for collateral and/or guarantees is determined on a case-by-case basis in connection with management’s evaluation of the creditworthiness of the borrower. Collateral held varies but may include accounts receivable, inventory, property, plant and equipment, income-producing properties, residences and other real property. The Company secures its collateral by perfecting its security interest in business assets, obtaining deeds of trust, or outright possession among other means.

 

In management’s judgment, a concentration exists in real estate loans which represented approximately 87% of the Company’s loan and lease portfolio at December 31, 2018 and 91% at December 31, 2017. Management believes that the residential land portion of the Company’s loan portfolio carries a reasonable level of credit risk.  As of December 31, 2018, outstanding unimproved residential land commitments were $4,889,000 (or just 1.5% of the total real estate loans). Of the $4,889,000, $2,097,000 (43%) was represented by one amortizing loan, which was considered well-secured, with a favorable loan-to-value ratio.  Management currently believes that it maintains its allowance for loan and lease losses at levels adequate to reflect the loss risk inherent in its total loan portfolio.

 

A decline in the economy in general, or decline in real estate values in the Company’s market areas, in particular, could have an adverse impact on the collectability of real estate loans and require an increase in the provision for loan and lease losses. This could adversely affect the Company’s future prospects, results of operations, profitability and stock price. Management believes that its lending practices and underwriting standards are structured with the intent to minimize losses; however, there is no assurance that losses will not occur. The Company’s loan practices and underwriting standards include, but are not limited to, the following: (1) maintaining a thorough understanding of the Company’s market area and originating a significant majority of its loans within that area, (2) maintaining a thorough understanding of borrowers’ knowledge, capacity, and market position in their field of expertise, (3) basing real estate loan approvals not only on market demand for the project, but also on the borrowers’ capacity to support the project financially in the event it does not perform to expectations (whether sale or income performance), and (4) maintaining conforming and prudent loan-to-value and loan-to-cost ratios based on independent outside appraisals and ongoing inspection and analysis by the Company’s lending officers or contracted third-party professionals.

 

Nonaccrual, Past Due and Restructured Loans and Leases

Management places loans and leases on nonaccrual status when they become 90 days past due or if a loss is expected, unless the loan or lease is well secured and in the process of collection. Loans and leases are partially or fully charged off when, in the opinion of management, collection of such amount appears unlikely.

 

The recorded investments in nonperforming loans and leases, which includes nonaccrual loans and leases and loans and leases that were 90 days or more past due and on accrual, totaled $27,000 and $1,892,000 at December 31, 2018 and 2017, respectively. The $27,000 in nonperforming loans and leases at December 31, 2018 were comprised of one commercial loan relationship with two loans totaling $27,000, both of which were current to terms. At December 31, 2017, the $1,892,000 in nonperforming loans consisted of one commercial loan totaling $1,597,000, one commercial real estate loan totaling $289,000, and one consumer loan totaling $6,000. At December 31, 2018, there were no loans that were 30 days or more past due.  Table Eight below sets forth nonaccrual loans and leases and loans and leases past due 90 days or more and on accrual as of year-end for the past five years.

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Table Eight: Nonperforming Loans and Leases  
    December 31,  
(dollars in thousands)   2018     2017     2016     2015     2014  
Past due 90 days or more and still accruing:                                        
Commercial   $     $     $     $     $  
Real estate                              
Lease financing receivable                              
Consumer and other                              
Nonaccrual:                                        
Commercial     27       1,597             30       666  
Real estate           289             1,493       845  
Lease financing receivable                              
Consumer and other           6       19       120       142  
Total nonperforming loans and leases   $ 27     $ 1,892     $ 19     $ 1,643     $ 1,653  

 

  Restructured loans considered performing and accruing at December 31, 2018, 2017, 2016, 2015 and 2014, were $6,626,000, $6,799,000, $7,975,000, $8,062,000, and $13,098,000, respectively. 

 

Interest income recognized from payments received on nonaccrual loans and leases was approximately $43,000 in 2018, $2,000 in 2017 and $115,000 in 2016. There were no loan or lease concentrations in excess of 10% of total loans and leases not otherwise disclosed as a category of loans and leases as of December 31, 2018. Management is not aware of any potential problem loans, which were accruing and current at December 31, 2018, where serious doubt exists as to the ability of the borrower to comply with the present repayment terms and that would result in a significant loss to the Company apart from those loans identified in the Bank’s impairment analysis.

 

Management monitors the Company’s performance metrics including the ratios related to nonperforming loans and leases. From 2008 to 2010, the Company experienced an increase in nonperforming loans and leases. In 2011, the focused efforts of the previous years resulted in a decrease in these levels. From 2012 to 2018, the level of nonperforming loans and leases continued to decrease to a level below the amount reported at December 31, 2008. However, the variations in the amount of nonperforming loans and leases does not directly impact the level of the Company’s allowance for loan and lease losses as management monitors each of the loans and leases for loss potential or probability of loss on an individual basis using accounting principles generally accepted in the United States of America.

Impaired Loans and Leases

The Company considers a loan to be impaired when, based on current information and events, it is probable that it will be unable to collect all amounts due (principal and interest) according to the original contractual terms of the loan or lease agreement. The measurement of impairment may be based on (i) the present value of the expected cash flows of the impaired loan or lease discounted at the loan’s or lease’s original effective interest rate, (ii) the observable market price of the impaired loan or lease, or (iii) the fair value of the collateral of a collateral-dependent loan. The Company does not apply this definition to smaller-balance loans or leases that are collectively evaluated for credit risk. In assessing whether a loan or lease is impaired, the Company typically reviews loans or leases graded substandard or lower with outstanding principal balances in excess of $100,000, as well as loans considered troubled debt restructures with outstanding principal balances in excess of $25,000. The Company identifies troubled debt restructures by reviewing each renewal, modification, or extension of a loan with a screening document.  This document is designed to identify any characteristics of such a loan that would qualify it as a troubled debt restructure.  If the characteristics are not present that would qualify a loan as a troubled debt restructure, it is deemed to be a modification.  

The recorded investment in loans and leases that were considered to be impaired totaled $8,702,000 at December 31, 2018 and had a related valuation allowance of $185,000. The average recorded investment in impaired loans and leases during 2018 was approximately $8,847,000. As of December 31, 2017, the recorded investment in loans and leases that were considered to be impaired totaled $13,757,000 and had a related valuation allowance of $355,000. The average recorded investment in impaired loans and leases during 2017 was approximately $14,046,000. As of December 31, 2016, the recorded investment in loans and leases that were considered to be impaired totaled $17,297,000 and had a related valuation allowance of $421,000. The average recorded investment in impaired loans and leases during 2016 was approximately $17,503,000.

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Allowance for Loan and Lease Losses Activity

The Company maintains an allowance for loan and lease losses (“ALLL”) to cover probable losses inherent in the loan and lease portfolio, which is based upon management’s estimate of those losses. The ALLL is established through a provision for loan and lease losses and is increased by provisions charged against current earnings and recoveries and reduced by charge-offs. Actual losses for loans and leases can vary significantly from this estimate. The methodology and assumptions used to calculate the allowance are continually reviewed as to their appropriateness given the most recent losses realized and other factors that influence the estimation process. The model assumptions and resulting allowance level are adjusted accordingly as these factors change.

The adequacy of the ALLL and the level of the related provision for loan and lease losses is determined based on management’s judgment after consideration of numerous factors including, but not limited to: (i) local and regional economic conditions, (ii) the financial condition of the borrowers, (iii) loan impairment and the related level of expected charge-offs, (iv) evaluation of industry trends, (v) industry and other concentrations, (vi) loans and leases which are contractually current as to payment terms but demonstrate a higher degree of risk as identified by management, (vii) continuing evaluations of the performing loan portfolio, (viii) ongoing review and evaluation of problem loans identified as having loss potential, (ix) quarterly review by the Board of Directors, and (x)  assessments by banking regulators and other third parties. Management and the Board of Directors evaluate the ALLL and determine its appropriate level considering objective and subjective measures, such as knowledge of the borrower’s business, valuation of collateral, the determination of impaired loans or leases and exposure to potential losses.

The ALLL totaled $4,392,000 or 1.36% of total loans and leases at December 31, 2018, $4,478,000 or 1.43% of total loans and leases at December 31, 2017, and $4,822,000 or 1.47% at December 31, 2016. The decrease in the allowance for loan and lease losses from $4,478,000 at December 31, 2017 to $4,392,000 at December 31, 2018, was mainly due to a decrease in historical losses impacting the loss factor used in calculating the reserve on loans collectively valued for impairment and a reduction in the valuation allowances held for impaired loans. The Company establishes general and specific reserves in accordance with accounting principles generally accepted in the United States of America. The ALLL is composed of categories of the loan and lease portfolio based on loan type and loan rating; however, the entire allowance is available to cover actual loan and lease losses. While management uses available information to recognize possible losses on loans and leases, future additions to the allowance may be necessary, based on changes in economic conditions and other matters. In addition, various regulatory agencies, as an integral part of their examination process, periodically review the Company’s ALLL. Such agencies may require the Company to provide additions to the allowance based on their judgment of information available to them at the time of their examination.

The allowance for loans and leases was 162.7 times the nonperforming loans and leases at December 31, 2018 compared to 2.4 times the nonperforming loans and leases at December 31, 2017. The allowance for loans and leases as a percentage of impaired loans and leases was 50.5% at December 31, 2018 and 32.6% at December 31, 2017. Of the total nonperforming and impaired loans and leases outstanding as of December 31, 2018, there were $822,000 in loans or leases that had been reduced by partial charge-offs of $400,000.

At December 31, 2018, there was $5,968,000 in impaired loans or leases that did not carry a specific reserve. Of this amount, $493,000 were loans or leases that had previous partial charge-offs and $5,475,000 were loans or leases that were analyzed and determined not to require a specific reserve or charge-off because the collateral value or discounted cash flow value exceeded the loan or lease balance. Prior to 2013, the Company had been operating in a market that had experienced significant decreases in real estate values of commercial, residential, land, and construction properties. As such, the Company continues to focus on monitoring collateral values for those loans considered collateral dependent. The collateral evaluations performed by the Company are updated as necessary, which is generally once every twelve months, and are reviewed by a qualified credit officer.

The Company’s policy with regard to loan or lease charge-offs continues to be that a loan or lease is charged off against the ALLL when management believes that the collectability of the principal is unlikely. As previously discussed in the “Impaired Loans and Leases” section, certain loans are evaluated for impairment. Generally, if a loan is collateralized by real estate, and considered collateral dependent, the impaired portion will be charged off to the allowance for loan and lease losses unless it is in the process of collection, in which case a specific reserve may be warranted. If the collateral is other than real estate and considered impaired, a specific reserve may be warranted.

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It is the policy of management to maintain the allowance for loan and lease losses at a level believed to be adequate for known and inherent risks in the portfolio. Our methodology incorporates a variety of risk considerations, both quantitative and qualitative, in establishing an allowance for loan and lease losses that management believes is appropriate at each reporting date. Formula allocations are calculated by applying historical loss factors to outstanding loans with similar characteristics.  Historical loss factors are based upon the Company’s loss experience. These historical loss factors are adjusted for changes in the business cycle and for significant factors that, in management’s judgment, affect the collectability of the loan portfolio as of the evaluation date.  The discretionary allocation is based upon management’s evaluation of various loan segment conditions that are not directly measured in the determination of the formula and specific allowances.  The conditions may include, but are not limited to, general economic and business conditions affecting the key lending areas of the Company, credit quality trends, collateral values, loan volumes and concentrations, and other business conditions. Based on information currently available, management believes that the allowance for loan and lease losses is prudent and adequate. However, no prediction of the ultimate level of loans and leases charged off in future periods can be made with any certainty. Table Nine below summarizes, for the periods indicated, the activity in the ALLL.

 

Table Nine: Allowance for Loan and Lease Losses

 
    Year Ended December 31,  
(dollars in thousands)   2018     2017     2016     2015     2014  
Average loans and leases outstanding   $ 308,365     $ 319,631     $ 306,737     $ 279,728     $ 253,898  
                                         
Allowance for loan & lease losses at beginning of period   $ 4,478     $ 4,822     $ 4,975     $ 5,301     $ 5,346  
Loans and leases charged off:                                        
Commercial     213       1,073             609        
Real estate                 93              
Consumer     69             34       6       76  
Lease financing receivable                       1        
Total     282       1,073       127       616       76  
Recoveries of loans and leases previously charged off:                                        
Commercial     12       6       660       123       256  
Real estate     8       228       534       165       163  
Consumer           4       124       2       150  
Lease financing receivable     1       41                   3  
Total     21       279       1,318       290       572  
Net loans and leases charged off (recovered)     261       794       (1,191 )     326       (496 )
Additions (reductions) to allowance charged (credited) to operating expenses     175       450       (1,344 )           (541 )
Allowance for loan and lease losses at end of period
  $ 4,392     $ 4,478     $ 4,822     $ 4,975     $ 5,301  
Ratio of net charge-offs (recoveries) to average loans and leases outstanding     0.08 %     0.25 %     (0.39 %)     0.12 %     (0.20 %)
Provision for loan and lease losses to average loans and leases outstanding     0.06 %     0.14 %     (0.44 %)           (0.21 %)
                                         
Allowance for loan and lease losses to total loans and leases, at end of period     1.36 %     1.43 %     1.47 %     1.69 %     2.01 %
                                         
Allowance for loan and lease losses to nonperforming loans and leases, at end of period     16,266.67 %     236.68 %     25,378.95 %     302.80 %     320.69 %

 

As part of its loan review process, management has allocated the overall allowance based on specific identified problem loans and leases, qualitative factors, uncertainty inherent in the estimation process and historical loss data. A risk exists that future losses cannot be precisely quantified or attributed to particular loans or leases or classes of loans and leases. Management continues to evaluate the loan and lease portfolio and assesses current economic conditions that will affect management’s conclusion as to future allowance levels. Table Ten below summarizes the allocation of the allowance for loan and lease losses for the five years ended December 31, 2018.

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Table Ten: Allowance for Loan and Lease Losses by Loan Category
(dollars in thousands)   December 31, 2018    

December 31, 2017

   

December 31, 2016

 
    Amount     Percent of loans
in each category
to total loans
    Amount     Percent of loans
in each category
to total loans
    Amount     Percent of loans
in each category
to total loans
 
Commercial   $ 668       9 %   $ 447       8 %   $ 855       12 %
Real estate     3,165       87 %     3,695       91 %     3,600       86 %
Agriculture     88       1 %     31       1 %     64       1 %
Consumer     192       3 %     14             24       1 %
Lease financing receivable                             1        
Unallocated     279             291             278        
Total   $ 4,392       100 %   $ 4,478       100 %   $ 4,822       100 %
                                                 
 

December 31, 2015

   

December 31, 2014

                 
    Amount     Percent of loans
in each category
to total loans
    Amount     Percent of loans
in each category
to total loans
                 
Commercial   $ 860       12 %   $ 1,430       10 %                
Real estate     3,729       86 %     3,429       86 %                
Agriculture     77       1 %     62       1 %                
Consumer     78       1 %     124       2 %                
Lease financing receivable     1             2       1 %                
Unallocated     230             254                        
Total   $ 4,975       100 %   $ 5,301       100 %                

The allocation presented should not be interpreted as an indication that charges to the allowance for loan and lease losses will be incurred in these amounts or proportions, or that the portion of the allowance allocated to each loan and lease category represents the total amounts available for charge-offs that may occur within these categories.

Other Real Estate Owned

The balance in OREO at December 31, 2018 and 2017 consisted of one property acquired through foreclosure. During 2018, the Company received and updated appraisal on the one property and reduced the balance by $4,000 through a charge to expense. During 2018, the Company did not acquire any OREO properties. There was $957,000 in OREO at December 31, 2018 with no valuation allowance and $961,000 in OREO at December 31, 2017 with no valuation allowance.

Deposits

At December 31, 2018, total deposits were $590,674,000 representing an increase of $34,594,000 (6.2%) from the December 31, 2017 balance of $556,080,000. The Company’s deposit growth plan for 2018 was to concentrate its efforts on increasing noninterest-bearing demand, interest-bearing money market and interest-bearing checking, and savings accounts, while continuing to focus on reducing overall interest expense. Due to these efforts, the Company experienced increases during 2018 in interest-bearing checking ($4,780,000 or 7.4%), money market ($15,799,000 or 12.2%), savings ($6,392,000 or 9.7%), and time deposit ($8,406,000 or 10.5%) and decreases in noninterest-bearing demand ($783,000 or 0.4%) accounts.

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Other Borrowed Funds

Other borrowings outstanding as of December 31, 2018 consist of advances from the Federal Home Loan Bank (the “FHLB”). The following table summarizes these borrowings (dollars in thousands):

    2018     2017     2016  
    Amount     Rate     Amount     Rate     Amount     Rate  
Short-term borrowings:
FHLB advances
  $ 5,000       1.32 %   $ 3,500       1.39 %   $ 3,500       1.01 %
                                                 
Long-term borrowings:
FHLB advances
  $ 10,500       2.02 %   $ 12,000       1.41 %   $ 12,000       1.24 %
                                                 

The maximum amount of short-term borrowings at any month-end during 2018, 2017 and 2016, was $6,500,000, $3,500,000, and $25,500,000, respectively. The FHLB advances are collateralized by loans and securities pledged to the FHLB. The following is a breakdown of rates and maturities on FHLB advances (dollars in thousands):

 

    Short-term     Long-term  
Amount   $ 5,000     $ 10,500  
Maturity     2019       2020 to 2023  
Average rates     1.32 %     2.02 %

 

The Company has the ability to enter into letters of credit with the FHLB. There were no letters of credit outstanding as of December 31, 2018 or 2017. There were no amounts drawn upon any letter of credit in 2018 or 2017 and management does not expect to draw upon these sources of liquidity in the foreseeable future.

Capital Resources

The current and projected capital position of the Company and the impact of capital plans and long-term strategies are reviewed regularly by management. The Company’s capital position represents the level of capital available to support continuing operations and expansion.

On January 25, 2017, the Company approved and authorized a stock repurchase program for 2017 (the “2017 Program”). The 2017 Program authorized the repurchase during 2017 of up to 5% of the outstanding shares of the Company’s common stock. In addition, on October 18, 2017, the Company approved and authorized an additional amount of 5% to be purchased under the 2017 Program. During 2017, the Company repurchased 574,748 shares of its common stock at an average price of $14.99 per share. On January 24, 2018, the Company approved and authorized a stock repurchase program for 2018 (the “2018 Program”). The 2018 Program authorized the repurchase during 2018 of up to 5% of the outstanding shares of the Company’s common stock. During 2018, the Company repurchased 308,618 shares of its common stock at an average price of $15.52 per share.

 

The Company did not repurchase any shares in 2011 or 2010 and repurchased 575,389 shares in 2012, 849,404 shares in 2013, 424,462 in 2014, 790,989 shares in 2015, and 716,897 shares in 2016. Share amounts have been adjusted for stock dividends and/or splits. See Part II, Item 5, “Stock Repurchases” for more information regarding stock repurchases.

The Company and American River Bank are subject to certain regulatory capital requirements administered by the Board of Governors of the Federal Reserve System and the Federal Deposit Insurance Corporation. Failure to meet these minimum capital requirements can initiate certain mandatory, and possibly additional discretionary, actions by regulators that, if undertaken, could have a direct material effect on the Company’s consolidated financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, banks must meet specific capital guidelines that involve quantitative measures of their assets, liabilities and certain off-balance-sheet items as calculated under regulatory accounting practices. The Company’s and American River Bank’s capital amounts and classification are also subject to qualitative judgments by the regulators about components, risk weightings and other factors. As of December 31, 2018 and 2017, the most recent regulatory notification categorized American River Bank as well capitalized under the regulatory framework for prompt corrective action. There are no conditions or events since that notification that management believes have changed the Bank’s categories.

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At December 31, 2018, shareholders’ equity was $74,721,000, representing a decrease of $2,200,000 (2.9%) from $76,921,000 at December 31, 2017. The decrease in 2018 resulted from repurchases of common stock of $4,773,000, the payment of cash dividends of $1,188,000, and a decrease in other comprehensive income of $1,555,000, as a result of the decrease in the unrealized gain on securities due to an increase in interest rates, exceeding the additions from net income of $4,900,000 for the period and the stock based compensation of $416,000. In 2017, shareholders’ equity decreased $6,929,000 (8.2%) from $83,850,000 at December 31, 2016. The decrease in 2017 resulted from the reductions in other comprehensive income, payment of cash dividends, and repurchases of common stock exceeding the additions from net income for the period and the increase in stock based compensation expense.

 

Table Eleven below lists the Company’s and American River Bank’s actual capital ratios at December 31, 2018 and 2017, as well as the minimum capital ratios for capital adequacy for American River Bank. The ratio for the minimum regulatory requirement includes the capital conservation buffer of 1.875% as of December 31, 2018 and 1.25% as of December 31, 2017.

Table Eleven: Capital Ratios                        
    At December 31,     Minimum Regulatory Capital Requirements  
    2018     2017     2018     2017  
American River Bankshares:                                
Leverage ratio     8.9 %     9.5 %     N/A       N/A  
Tier 1 Risk-Based Capital     16.1 %     18.1 %     N/A       N/A  
Total Risk-Based Capital     17.3 %     19.3 %     N/A       N/A  
                                 
American River Bank:                                
Leverage ratio     9.0 %     9.3 %     5.9 %     5.3 %
Common Equity Tier 1 Capital     16.2 %     17.7 %     6.4 %     5.8 %
Tier 1 Risk-Based Capital     16.2 %     17.7 %     7.9 %     7.3 %
Total Risk-Based Capital     17.4 %     19.0 %     9.9 %     9.3 %

Capital ratios are reviewed on a regular basis to ensure that capital exceeds the prescribed regulatory minimums and is adequate to meet future needs. At December 31, 2018, American River Bank’s ratios were in excess of the regulatory definition of “well capitalized.” Management believes that the Company’s capital is adequate to support current operations and anticipated growth and currently foreseeable future capital requirements of the Company and its subsidiaries.

Effective January 1, 2015, bank holding companies with consolidated assets of $1 Billion or more ($3 Billion or more effective August 30, 2018) and banks like American River Bank must comply with new minimum capital ratio requirements to be phased-in between January 1, 2015 and January 1, 2019, which consist of the following: (i) a new common equity Tier 1 capital to total risk weighted assets ratio of 4.5%; (ii) a Tier 1 capital to total risk weighted assets ratio of 6%; (iii) a total capital to total risk weighted assets ratio of 8%; and (iv) a Tier 1 capital to adjusted average total assets (“leverage”) ratio of 4%.

 

In addition, a “capital conservation buffer,” is established which when fully phased-in will require maintenance of a minimum of 2.5% of common equity Tier 1 capital to total risk weighted assets in excess of the regulatory minimum capital ratio requirements described above. The 2.5% buffer will increase the minimum capital ratios to (i) a common equity Tier 1 capital ratio of 7.0%, (ii) a Tier 1 capital ratio of 8.5%, and (iii) a total capital ratio of 10.5%. The new buffer requirement will be phased-in between January 1, 2016 and January 1, 2019. The buffer requirement for 2018 was 1.875% and became fully phased in on January 1, 2019, increasing to 2.50%. If the capital ratio levels of a banking organization fall below the capital conservation buffer amount, the organization will be subject to limitations on (i) the payment of dividends; (ii) discretionary bonus payments; (iii) discretionary payments under Tier 1 instruments; and (iv) engaging in share repurchases.

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Market Risk Management

Overview . Market risk is the risk of loss from adverse changes in market prices and rates. The Company’s market risk arises primarily from interest rate risk inherent in its loan, investment and deposit functions. The goal for managing the assets and liabilities of the Company is to maximize shareholder value and earnings while maintaining a high quality balance sheet without exposing the Company to undue interest rate risk. The Board of Directors has overall responsibility for the interest rate risk management policies. The Company has an Enterprise Risk Management Committee, made up of Company management that establishes and monitors guidelines to control the sensitivity of earnings to changes in interest rates.

Asset/Liability Management . Activities involved in asset/liability management include but are not limited to lending, accepting and placing deposits and investing in securities. Interest rate risk is the primary market risk associated with asset/liability management. Sensitivity of earnings to interest rate changes arises when yields on assets change in a different time period or in a different amount from that of interest costs on liabilities. To mitigate interest rate risk, the structure of the balance sheet is managed with the goal that movements of interest rates on assets and liabilities are correlated and contribute to earnings even in periods of volatile interest rates. The asset/liability management policy sets limits on the acceptable amount of variance in net interest margin and market value of equity under changing interest environments. The Company uses simulation models to forecast earnings, net interest margin and market value of equity.

Simulation of earnings is the primary tool used to measure the sensitivity of earnings to interest rate changes. Using computer-modeling techniques, with specialized software built for this specific purpose for financial institutions, the Company is able to estimate the potential impact of changing interest rates on earnings, net interest margin and market value of equity. A balance sheet is prepared using detailed inputs of actual loans, securities and interest-bearing liabilities (i.e. deposits/borrowings). The balance sheet is processed using multiple interest rate scenarios. The scenarios include a rising rate forecast, a flat rate forecast and a falling rate forecast which take place within a one-year time frame. The net interest income is measured over one-year and two-year periods assuming a gradual change in rates over the twelve-month horizon. The simulation modeling attempts to estimate changes in the Company’s net interest income utilizing a detailed current balance sheet. Table Twelve below summarizes the effect on net interest income (NII) of a ±100 and ±200 basis point change in interest rates as measured against a constant rate (no change) scenario.

Table Twelve: Interest Rate Risk Simulation of Net Interest as of December 31, 2018

 
(dollars in thousands)  

$ Change in NII
from Current
12 Month Horizon

   

$ Change in NII
from Current
24 Month Horizon

 
Variation from a constant rate scenario                
+100bp   $ 195     $ 591  
+200bp   $ 349     $ 1,042  
-100bp   $ (605 )   $ (1,550 )
-200bp   $ (1,154 )   $ (3,211 )

After a review of the model results as of December 31, 2018, the Company does not consider the fluctuations from the base case, to have a material impact on the Company’s projected results and are within the tolerance levels outlined in the Company’s interest rate risk polices. The simulations of earnings do not incorporate any management actions, which might moderate the negative consequences of interest rate deviations. Therefore, they do not reflect likely actual results, but serve as reasonable estimates of interest rate risk.

 

Interest Rate Sensitivity Analysis

 

Interest rate sensitivity is a function of the repricing characteristics of the portfolio of assets and liabilities. These repricing characteristics are the time frames within which the interest-bearing assets and liabilities are subject to change in interest rates either at replacement, repricing or maturity. Interest rate sensitivity management focuses on the maturity of assets and liabilities and their repricing during periods of changes in market interest rates. Interest rate sensitivity is measured as the difference between the volumes of assets and liabilities in the current portfolio that are subject to repricing at various time horizons. The differences are known as interest sensitivity gaps. A positive cumulative gap may be equated to an asset sensitive position. An asset sensitive position in a rising interest rate environment will cause a bank’s interest rate margin to expand. This results as floating or variable rate loans reprice more rapidly than fixed rate certificates of deposit that reprice as they mature over time. Conversely, a declining interest rate environment will cause the opposite effect. A negative cumulative gap may be equated to a liability sensitive position. A liability sensitive position in a rising interest rate environment will cause a bank’s interest rate margin to contract, while a declining interest rate environment will have the opposite effect.

49
 

Inflation

 

The impact of inflation on a financial institution differs significantly from that exerted on manufacturing, or other commercial concerns, primarily because its assets and liabilities are largely monetary. In general, inflation primarily affects the Company through its effect on market rates of interest, which affects the Company’s ability to attract loan customers. Inflation affects the growth of total assets by increasing the level of loan demand, and potentially adversely affects capital adequacy because loan growth in inflationary periods can increase at rates higher than the rate that capital grows through retention of earnings which may be generated in the future. In addition to its effects on interest rates, inflation increases overall operating expenses. Inflation has not had a material effect upon the results of operations of the Company during the years ended December 31, 2018, 2017 and 2016.

 

Liquidity

Liquidity management refers to the Company’s ability to provide funds on an ongoing basis to meet fluctuations in deposit levels as well as the credit needs and requirements of its clients. Both assets and liabilities contribute to the Company’s liquidity position. Federal funds lines, short-term investments and securities, and loan and lease repayments contribute to liquidity, along with deposit increases, while loan and lease funding and deposit withdrawals decrease liquidity. The Company assesses the likelihood of projected funding requirements by reviewing historical funding patterns, current and forecasted economic conditions and individual client funding needs. Commitments to fund loans and outstanding standby letters of credit at December 31, 2018 were approximately $34,276,000 and $361,000, respectively. Such loan commitments relate primarily to revolving lines of credit and other commercial loans and to real estate construction loans. Since some of the commitments are expected to expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements.

The Company’s sources of liquidity consist of cash and due from correspondent banks, overnight funds sold to correspondent banks, unpledged marketable investments and loans held for sale. On December 31, 2018, consolidated liquid assets totaled $226.5 million or 32.9% of total assets compared to $226.3 million or 34.5% of total assets on December 31, 2017. In addition to liquid assets, the Company maintains short-term lines of credit in the amount of $17,000,000 with two of its correspondent banks. At December 31, 2018, the Company had $17,000,000 available under these credit lines. Additionally, American River Bank is a member of the FHLB. At December 31, 2018, American River Bank could have arranged for up to $122,762,000 in secured borrowings from the FHLB. These borrowings are secured by pledged mortgage loans and investment securities. At December 31, 2018, the Company had $107,262,000 available under these secured borrowing arrangements. American River Bank also has a secured borrowing arrangement with the Federal Reserve Bank. The borrowing can be secured by pledging selected loans and investment securities. Based on the amount of assets pledged at the Federal Reserve Bank at December 31, 2018, the Company’s borrowing capacity was $8,340,000.

The Company serves primarily a business and professional customer base and, as such, its deposit base is susceptible to economic fluctuations. Accordingly, management strives to maintain a balanced position of liquid assets to volatile and cyclical deposits.

Liquidity is also affected by portfolio maturities and the effect of interest rate fluctuations on the marketability of both assets and liabilities. The Company can sell any of its unpledged securities held in the available-for-sale category to meet liquidity needs. These securities are also available to pledge as collateral for borrowings if the need should arise. American River Bank can also pledge additional securities to borrow from the Federal Reserve Bank and the FHLB.

The maturity distribution of certificates of deposit is set forth in Table Thirteen below for the period presented. These deposits are generally more rate sensitive than other deposits and, therefore, are more likely to be withdrawn to obtain higher yields elsewhere if available.

50
 

Table Thirteen: Certificates of Deposit Maturities

 
December 31, 2018
(dollars in thousands)
  Less than
$250,000
    Over
$250,000
 
Three months or less   $ 7,965     $ 5,054  
Over three months through six months     4,831       26,329  
Over six months through twelve months     5,691       15,046  
Over twelve months     12,572       10,599  
Total   $ 31,059     $ 57,028  

 

Loan and lease demand also affects the Company’s liquidity position. Table Fourteen below presents the maturities of loans and leases for the period indicated.

Table Fourteen:  Loan and Lease Maturities (Gross Loans and Leases)  
December 31, 2018   One year     One year
through
    Over        
(dollars in thousands)   or less     five years     five years     Total  
Commercial   $ 4,019     $ 10,970     $ 14,661     $ 29,650  
Real estate     19,445       82,443       176,168       278,056  
Agriculture     17       907       3,495       4,419  
Consumer     1       321       10,392       10,714  
Leases     32                   32  
Total   $ 23,514     $ 94,641     $ 204,716     $ 322,871  
                                 

Loans and leases shown above with maturities greater than one year include $185,731,000 of variable interest rate loans and $113,626,000 of fixed interest rate loans and leases. The carrying amount, maturity distribution and weighted average yield of the Company’s investment securities available-for-sale and held-to-maturity portfolios are presented in Table Fifteen below. The yields on tax-exempt obligations have been computed on a tax equivalent basis. Yields may not represent actual future income to be recorded. Timing of principal prepayments on mortgage-backed securities may increase or decrease depending on market factors and the borrowers’ ability to make unscheduled principal payments. Fast prepayments on bonds that were purchased with a premium will result in a lower yield and slower prepayments on premium bonds will result in a higher yield, the opposite would be true for bonds purchased at a discount. Table Fifteen does not include FHLB Stock, which does not have stated maturity dates or readily available market values. The balance in FHLB Stock at December 31, 2018, 2017 and 2016 was $3,932,000, $3,932,000 and $3,779,000, respectively.

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Table Fifteen: Securities Maturities and Weighted Average Yields

 
(Taxable Equivalent Basis)                              
  2018           2017           2016  
December 31,
(dollars in thousands)
  Carrying
Amount
    Weighted
Average
Yield
    Carrying
Amount
    Weighted
Average
Yield
    Carrying
Amount
    Weighted
Average
Yield
 
Available-for-sale securities:                                                
State and political subdivisions                                                
Maturing within 1 year   $ 255       5.06 %   $           $ 580       5.39 %
Maturing after 1 year but within 5 years     1,141       5.06 %     3,018       2.23 %     2,328       4.35 %
Maturing after 5 years but within 10 years     9,831       6.03 %     14,389       4.42 %     14,486       4.36 %
Maturing after 10 years     3,173       6.33 %     5,307       4.11 %     5,218       3.23 %
U.S Treasury securities                                                
Maturing within 1 year     4,976       2.30 %                        
U.S. Government Agencies and U.S.-Sponsored Agencies     269,049       2.69 %     232,869       2.10 %     229,785       2.04 %
Other                                                
Maturing after 1 year but within 5 years     2,434       2.49 %     2,469       2.72 %     1,519       4.88 %
Maturing after 5 years but within 10 years     4,074       5.53 %     4,158       4.56 %     1,519       4.88 %
Non-maturing                 112       0.00 %     104       0.00 %
Total investment securities   $ 294,933       2.88 %   $ 262,322       2.32 %   $ 254,020       2.35 %
Held-to-maturity securities: