** **

**U.S. SECURITIES AND EXCHANGE COMMISSION**

**Washington D.C.  20549**

 

**FORM 10-KSB**

 
|   | **ý** | **Annual report under Section 13 or 15(d) of the Securities  Exchange Act of 1934 (Fee required) for fiscal year ended December 31, 2001** |
|--------|------------|--------------------------------------------------------------------------------------------------------------------------------------------|

 
|   | **o** | **Transition report under Section 13 or 15(d) of the  Securities Exchange Act of   1934 (No fee required) for the period  from                to               **

  |
|--------|-------|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|

 

 

**Commission File Number 0-27666**

 

**NORTHERN CALIFORNIA BANCORP, INC.**

(Name of Small Business Issuer in its Charter)

 

|                                                            | **77-0421107**                      |
|-----------------------------------------------------------------|-------------------------------------|
| Incorporated in  the State of**California**                     | IRS Employer  Identification Number |
|                                                            |                                |
| Address: ** 601 Munras  Avenue, Monterey, CA  93940** | Telephone:**(831) 649-4600**        |

 

Securitiesregistered under Section 12(b) of the Exchange Act:  None

Securitiesregistered under Section 12(g) of the Exchange Act:  Common Stock

 

Check whether theissuer: (1) filed all reports required to be filed by Section 13 or 15(d) ofthe Securities Exchange Act during the past 12 months (or for such shorterperiod that the registrant was required to file such reports), and (2) has beensubject to such filing requirements for the past 90 days. Yes  **ý** No  **o**

 

Check if there isno disclosure of delinquent filers in response to Item 405 of Regulation S-B isnot contained in this form, and no disclosure will be contained, to the best ofregistrant’s knowledge, in definitive proxy or information statementsincorporated by reference in Part III of this Form 10-KSB or any amendment tothis Form 10-KSB  **ý**

 

Revenues for theyear ended December 31, 2001.          $6,935,300.

 

As of March 1,2002, the Corporation had 1,328,207 shares of common stock out-standing.  The aggregate market value of voting stockheld by non-affiliates of the Corporation was $2,104,200, based on the mostrecent sale at $3.00 per share on February 26, 2002.

 

The followingdocuments are incorporated by reference to the parts indicated of this Form10-KSB:

 

1. Portions of the Independent Auditor’s Reportfor the fiscal year ended December 31, 2001 are incorporated by reference inPart I Item 3 and Part II Item 6.

 

 

FORM 10-KSB CROSSREFERENCE INDEX

 
| **PART I**   |                                                                                                                                |
|--------------|-------------------------------------------------------------------------------------------------------------------------------------|
| ITEM 1       | Business                                                                                                                            |
| ITEM 2       | Properties                                                                                                                          |
| ITEM  3      | Legal  Proceedings                                                                                                                  |
| ITEM  4      | Submission  of Matters to a Vote of Security Holders                                                                                |
|         |                                                                                                                                |
| **PART II**  |                                                                                                                                |
| ITEM  5      | Market  for the Corporation’s Common Stock and Related Stockholder Matters                                                     |
| ITEM  6      | Management’s  Discussion and Analysis of Financial Condition and Results of Operations                                         |
| ITEM 7       | Financial Statements and  Supplementary Data                                                                                        |
|         | Independent Auditors’  Report on the Financial Statements                                                                      |
|         | Consolidated  Balance Sheets at December 31, 1999 and 1998                                                                          |
|         | Consolidated Statements  of Operations for each of the three years in the period ended December 31,  1999                           |
|         | Consolidated  Statements of Changes in Stockholders’ Equity for each of the three years in  the period ended December 31, 1999 |
|         | Consolidated Statements  of Cash Flows for each of the three years in the period ended December 31,  1999                           |
|         | Notes to Consolidated  Financial Statements                                                                                         |
| ITEM  8      | Changes  in and Disagreements with Accountants and Financial Disclosure                                                             |
|         |                                                                                                                                |
| **PART III** |                                                                                                                                |
| ITEM 9       | Directors, Executive Officers, Promoters and  Control Persons: Compliance with Section 16(a) of the Exchange Act                    |
| ITEM 10      | Executive Compensation                                                                                                              |
| ITEM 11      | Security Ownership of Certain Beneficial Owners  and Management                                                                     |
| ITEM  12     | Certain  Relationships and Related Transactions                                                                                     |
| ITEM 13      | Exhibits and Reports                                                                                                                |
|         | Signatures                                                                                                                          |

 

 

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**PARTI**

 

**ITEM 1.BUSINESS**

 

**GENERAL**

 

Northern CaliforniaBancorp, Inc. (the “Corporation”) was incorporated on August 29, 1995, as afor-profit corporation under the California Corporate laws for the principalpurpose of engaging in banking and non-banking activities as allowed for a bankholding company.  The Corporation owns100% of Monterey County Bank (the “Bank”). The Corporation’s sources of revenues at this time are dividends oninvestments, gains on securities transactions and potential dividends,management fees and tax equalization payments, if any, from the Bank.

 

Compliance withenvironmental laws has not had a material impact on the operations of the Bankor the Corporation, although the Bank faces potential liability or losses ifits borrowers fail to comply with such laws and the Bank acquires contaminatedproperties in foreclosure.

 

**BANK SUBSIDIARY**

 

Monterey County Bank, anindependent, California chartered commercial banking corporation was charteredby the State of California on July 30, 1976. The Bank’s customer base includes individuals, small and medium sized businessesand a variety of government agencies with residences, offices or otherrelationships located in or about the city and county of Monterey, California,including the cities of Carmel and Pacific Grove.  The Bank offers its customers a wide variety of the normalpersonal, consumer and commercial services expected of a locally owned,independently operated bank.  The Bank’sdeposits are insured by the FDIC, and, as such, the Bank is subject toregulations by that federal agency and to periodic audits of its operations anddocumentary compliance by FDIC personnel. As a state chartered bank, which is not a member of the Federal ReserveSystem, it is also regulated and periodically examined by the California StateDepartment of Financial Institutions.

 

The Bank’s activities areconducted at its principal offices, 601 Munras Ave., Monterey, California andat its two branch offices in Carmel and Pacific Grove, California.

 

At December 31, 2001 theBank had total assets, deposits and shareholders’ equity of approximately$79,217,100, $68,339,700 and $5,766,800, respectively.

 

**EMPLOYEES**

 

At December 31, 2001 theNorthern California Bancorp, Inc. and its subsidiary Monterey County Bankemployed a total of 39 full time equivalent persons.

 

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**COMPETITION**

 

All phases of the Bank’sbusiness have been, since inception, and will continue to be subject tosignificant competitive forces. Although the Bank has increasing recognition in its primary service areaand Monterey County, it nevertheless has to compete with other independentlocal banking institutions, including commercial banks and savings and loanassociations, as well as branch offices of regional commercial banks, some ofwhich have assets, capital and lending limits substantially larger than theBank, as well as wider geographic markets, more support services and largermedia advertising capabilities.  TheBank will also compete with respect to its lending activities, as well as inattracting demand deposits, with savings banks, savings and loan associations,insurance companies, regulated small loan companies and credit unions, as wellas securities brokerage offices which can issue commercial paper and othersecurities (such as shares in money market funds).

 

Among the advantages suchinstitutions have over the Bank are their ability to finance wide rangingadvertising campaigns and to allocate their investment assets to regions ofhighest yields and demand.  Many institutionsoffer certain services, such as trust services and international banking, whichthe Bank does not currently offer or plan to offer.  By virtue of their greater total capital, such institutions havesubstantially higher lending limits than the Bank (legal lending limits to anindividual customer being limited to a percentage of a bank’s total capitalaccounts).  These competitors mayintensify their advertising and marketing activities to counter any efforts bythe Bank to further attract new business as a commercial bank.  In addition, as a result of legislationenacted earlier in the decade, there is increased competition between banks,savings and loan associations and credit unions for the deposit and loanbusiness of individuals.  These activitiesmay hinder the Bank’s ability to capture a significant market share.

 

To compete with thefinancial institutions in its primary service area, the Bank intends to use theflexibility, which its independent status will permit.  Its activities in this regard include anability and intention to respond quickly to changes in the interest rates paidon time and savings deposits and charged on loans, and to charges imposed ondepository accounts, so as to remain competitive in the market place.  It also will continue to emphasizespecialized services for the small business person and professional, andpersonal contacts by the Bank’s officers, directors and employees.  If there are customers whose loan demandsexceed the Bank’s lending limits, the Bank has the ability to arrange for suchloans on a participation basis with other financial institutions.  No assurance can be given, however, that theBank’s efforts to compete with other financial institutions in its primaryservice area will be successful.

 

The Bank provides a rangeof competitive retail and commercial banking services.  The deposit services offered include varioustypes of personal and business checking accounts, savings accounts, moneymarket investment accounts, certificates of deposit, and retirementaccounts.  Lending services includeconsumer loans, various type of mortgage loans for residential and commercialreal estate, personal lines of credit, home equity loans, real estateconstruction, accounts receivable financing, commercial loans to small andmedium size businesses and professionals. The Bank also provides drive-through facilities, at its Monterey

 

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and Carmel offices, andnight depository facilities for customer convenience.  The Bank offers safe deposit box facilities, cashiers’ checks,travelers’ checks, U.S. Savings Bonds, and wire transfers.  The Bank does not provide trust services.

 

While the Bank has theauthority to engage in a wide range of banking activities, and offers most ofthe types of banking services of a commercial bank, over the past three yearsit has derived much of its profitability and differentiated itself from itscompetitors through (i) commercial and real estate loans guaranteed by theSmall Business Administration (“SBA”); and (ii) credit card depository servicesfor merchants.

 

The Bank depends largelyon rate differentials.  In general, thedifference between the interest rate paid by the Bank on its deposits and itsother borrowings, and the interest rate received by the Bank on loans extendedto its customers and securities held in the Bank’s portfolio, comprise themajor portion of the Bank’s earnings. These rates are highly sensitive to many factors that are beyond thecontrol of the Bank.  Accordingly, theearnings and growth of the Bank are subject to the influence of domestic andforeign economic conditions, including inflation, recession and unemployment.

 

Monetary and fiscalpolicies of the federal government and the policies of regulatory agencies,particularly the Federal Reserve Board, also impact on the Bank’sbusiness.  The Federal Reserve Boardimplements national monetary policies (with objectives such as curbinginflation and combating recession) by its open–market operations in U.S.Government securities, by adjusting the required level of reserves forfinancial intermediaries subject to its reserve requirements and by varying thediscount rates applicable to borrowings by depository institutions.  The actions of the Federal Reserve Board inthese areas influence the growth of bank loans, investments and deposits andalso affect interest rates charged on loans and paid on deposits.  The nature and impact of any future changesin monetary policies cannot be predicted.

 

**SUPERVISION AND REGULATION**

 

**The Corporation**

 

Future offers or sales ofthe stock of the Corporation will be subject to the registration require­mentsof the Securities Act of 1933, and qualification under the California CorporateSecurities Act of 1968, and possibly other state Blue Sky laws, (unless anexemption is available), although the Bank’s Common Stock is exempt from suchrequirements.

 

On December 29, 1995,after receipt of appropriate approvals, and/or passage of notice periodswithout objection, from the California Superintendent of Banks, the FederalDeposit Insurance Corporation, the Board of Governors of the Federal ReserveSystem and the shareholders of the Bank, the Corporation acquired the Bankthrough a reverse triangular merger (the “Merger”).  As a result, by operation of law, each outstanding share ofcommon stock of the Bank prior to the Merger was converted into a share ofcommon stock of the Corporation, while the Corporation became the sole owner ofthe newly issued shares of common stock of the Bank.

 

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The Bank Holding CompanyAct of 1956, as amended, places the Corporation under the supervision of theBoard of Governors of the Federal Reserve System (the “FRB”). The Corporationmust generally obtain the approval of the FRB before acquiring all or substantiallyall of the assets of any bank, or ownership or control of any voting securitiesof any bank if, after giving effect to such acquisition, the Corporation wouldown or control more than 5% of the voting shares of such bank.

 

A bank holding company isgenerally prohibited from engaging in, or acquiring direct or indirect controlof more than 5% of the voting shares of any company engaged in non-bankingactivities unless the FRB, by order or regulation, has found such activities tobe so closely related to banking or managing or controlling banks as to be aproper incident thereto. In making such determinations, the FRB considerswhether the performance of such activities by a bank holding company wouldoffer advantages to the public, which outweigh possible adverse effects.

 

The FRB’s Regulation “Y”sets out the non-banking activities that are permissible for bank holdingcompanies under the law, subject to the FRB’s approval in individualcases.  Most of these activities are nowpermitted for California banks that are well-capitalized.  The Corporation and its subsidiaries willalso be subject to certain restrictions with respect to engaging in theunderwriting, public sale and distribution of securities.  The Gramm-Leach-Bliley Act (the “Act”) wassigned by the President and enacted into law on November 12, 1999.  The Act does three fundamental things: 1) itrepeals key provisions of the Glass Steagal Act to permit commercial banks toaffiliate with investment bank, 2) it substantially modifies the Bank HoldingCompany Act of 1956 to permit companies that own commercial banks to engage inany type of financial activity and 3) it allows subsidiaries of banks to engagein a broad range of financial activities that are not permitted for banksthemselves.  Management cannot predictwhat effect these changes will have on the Bank or the Corporation.

 

The Corporation will berequired to file reports with the FRB and provide such additional informationas the FRB may require. The FRB will also have the authority to examine theCorporation and each of its subsidiaries with the cost thereof to be borne bythe Corporation.  Under Californiabanking law, the Corporation and its subsidiaries are also subject toexamination by, and may be required to file reports with, the SuperintendentDepartment of Financial Institutions.

 

The Corporation and anysubsidiaries which it may acquire or organize after the reorganization will bedeemed affiliates of the Bank within the meaning of the Federal ReserveAct.  Pursuant thereto, loans by theBank to affiliates, investments by the Bank in affiliates’ stock, and takingaffiliates’ stock by the Bank as collateral for loans to any borrower will belimited to 10% of the Bank’s capital, in the case of any one affiliate, and willbe limited to 20% of the Bank’s capital, in the case of all affiliates.  Federal and State law place otherlimitations on transactions between the Bank and its affiliates designed toensure that the Bank receives treatment in such transactions comparable to thatavailable from unaffiliated third parties.

 

The Corporation and itssubsidiaries are prohibited from engaging in certain tie-in arrangements inconnection with any extension of credit, sale or lease of property orfurnishing of

 

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services.  For example, with certain exceptions, theBank may not condition an extension of credit on a customer’s obtaining otherservices provided by it, the Corporation or any other subsidiary, or on apromise from its customer not to obtain other services from a competitor.

 

**Subsidiary Bank**

 

Both federal and statelaw provide extensive regulation of the banking business.  State and federal statutes and regulationsapply to many aspects of the Bank’s operations, including minimum capitalrequirements, reserves against deposits, interest rates payable on deposits,loans, investments, mergers and acquisitions, borrowings, dividends andlocations of branch offices. The California Superintendent of Banks and theFDIC provide primary supervision, periodic examination and regulation of theBank.

 

The FDIC, through itsBank Insurance Fund (the “BIF”) insures the Bank’s deposits, currently up to amaximum of $100,000 per depositor.  Forthis protection, the Bank, like all insured banks, pays a semi-annual statutoryassessment and is subject to the rules and regulations of the FDIC.  Although the Bank is not a member of theFederal Reserve System, certain regulations of the Federal Reserve Board alsoapply to its operations.

 

California law restrictsthe amount available for cash dividends by state-chartered banks to the lesserof retained earnings or the bank’s net income for its last three fiscal years(less any distributions to stockholders made during such period).  Cash dividends may also be paid in an amountnot exceeding the net income for such bank’s last preceding fiscal year afterobtaining the prior approval of the Superintendent.  The FDIC also has authority to prohibit the Bank from engaging inunsafe or unsound practices.  The FDICcan use this power, under certain circumstances, to restrict or prohibit a bankfrom paying dividends.

 

Federal law imposesrestrictions on banks with regard to transactions with affiliates, includingany extensions of credit to, or the issuance of a guarantee or letter of crediton behalf of, its affiliates, as well as the purchase of or investments instock or other securities thereof, or the taking of such securities ascollateral for loans, and the purchase of assets of from affiliates.  These restrictions have the effect ofpreventing affiliates (such as the Corporation) from borrowing from the Bankunless the loans are secured by marketable obligations of designatedamounts.  Secured loans and investmentsby the Bank are limited to 10% of the Bank’s capital and surplus (as defined byfederal regulations) in the case of any one affiliate, and 20% thereof in thecase of all affiliates.  California lawalso imposes certain restrictions with respect to transactions involving othercontrolling persons of the Bank.

 

From time to time,legislation is enacted which has the effect of increasing the cost of doingbusiness, limiting or expanding permissible activities or affecting thecompetitive balance between banks and other financial intermediaries.  Proposals to change the laws and regulationsgoverning the operations and taxation of banks, bank holding companies andother financial intermediaries are frequently made in Congress, in theCalifornia legislature and before various bank regulatory and otherprofessional agencies. The Bank cannot predict what, if any legislation orregulations will be enacted, or the impact thereof on its business andprofitability.

 

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*Capital Standards*

 

Government agencies havetraditionally regulated bank capital through explicit and implicit guidelinesand rules.  State law requires“adequate” capital, without objective definition.  Federal law and regulations require minimum levels of risk-basedand so-called “Leverage” capital.

 

FDIC guidelines implementthe risk-based capital requirements. The guidelines establish a systematicanalytical framework that makes regulatory capital requirements more sensitiveto differences in risk profiles (using the rough measures set forth therein)among banking organizations, take certain off-balance sheet items into accountin assessing capital adequacy and minimize disincentives to holding liquid,low-risk assets. Under these guidelines, assets and credit equivalent amountsof off-balance sheet items, such as letters of credit and outstanding loancommitments, are assigned to one of several risk categories, which range from0% for risk-free assets, such as cash and certain U.S. government securities,to 100% for relatively high-risk assets, such as loans and investments in fixedassets, premises and other real estate owned. The aggregate dollar amount ofeach category is then multiplied by the risk-weight associated with thatcategory. The resulting weighted values from each of the risk categories arethen added together to determine the total risk-weighted assets.

 

The guidelines require aminimum ratio of qualifying total capital to risk-weighted assets of 8%, ofwhich at least 4% must consist of Tier I capital.  Higher risk-based ratios are required to be considered “wellcapitalized” under prompt corrective action provisions.

 

A banking organization’squalifying total capital consists of two components: Tier I capital (corecapital) and Tier 2 capital (supplementary capital).  Tier I capital consists primarily of common stock, relatedsurplus and retained earnings, qualifying noncumulative perpetual preferredstock and minority interests in the equity accounts of consolidatedsubsidiaries. Intangibles, such as goodwill, are generally deducted from Tier 1capital; however, purchased mortgage servicing rights and purchased credit cardrelationships may be included, subject to certain limitations. At least 50% ofthe banking organization’s total regulatory capital must consist of Tier 1 capital.

 

Tier 2 capital mayconsist of (i) the allowance for loan and lease losses in an amount up to 1.25%of risk-weighted assets; (ii) cumulative perpetual preferred stock andlong-term preferred stock and related surplus; (iii) hybrid capital instruments(instruments with characteristics of both debt and equity), perpetual debt andmandatory convertible debt securities; and (iv) eligible term subordinated debtand intermediate-term preferred stock with an original maturity of five yearsor more, including related surplus, in an amount up to 50% of Tier 1 capital.The inclusion of the foregoing elements of Tier 2 capital are subject tocertain requirements and limitations of the federal banking agencies.

 

The FDIC imposes aminimum leverage ratio of Tier I capital to average total assets of 3% for thehighest rated banks, and 4% for all other banks.  Institutions experiencing or

 

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anticipating significantgrowth or those with other than minimum risk profiles are expected to maintaincapital at least 100-200 basis points above the minimum level.

 

In addition, the FederalReserve Board and the FDIC have issued or proposed rules to take account ofinterest rate risk, concentration of credit risk and the risks of nontraditionalactivities in calculating risk-based capital.

 

For capital adequacypurposes, deferred tax assets that can be realized from taxes paid in priorcarry-back years, and from the future reversal of temporary differences, aregenerally unlimited.  However, deferredtax assets that can only be realized through future taxable earnings, includingthe implementation of a tax planning strategy, count toward regulatory capitalpurposes only up to the lesser of (i) the amount that can be realized within oneyear of the quarter-end report date or (ii) 10% of Tier I capital.  The amount of deferred taxes in excess ofthis limit, if any, would be deducted from Tier I capital and total assets inregulatory capital calculations.

 

A banking organization’srisk-based capital ratios are obtained by dividing its qualifying capital byits total risk adjusted assets, including dollar equivalents for certainoff-balance sheet assets.

 

Effective January 17,1995, the federal banking agencies issued a final rule relating to capitalstandards and the risks arising from the concentration of credit andnontraditional activities.  Institutionswhich have significant amounts of their assets concentrated in high risk loansor nontraditional banking activities and who fail to adequately manage theserisks, will be required to set aside capital in excess of the regulatoryminimums.  The federal banking agencieshave not imposed any quantitative assessment for determining when these risksare significant, but have identified these issues as important factors theywill review in assessing an individual bank’s capital adequacy.  Management of the Company does not believethat the Bank’s assets and activities, as currently structured, would lead theFDIC to require additional capital under this rule.

 

In December 1993, thefederal banking agencies issued an interagency policy statement on theallowance for loan and lease losses (the “ALLL”) which calls for themaintenance of the ALLL at a level at least equal to the “estimated credit losses”in the bank’s loan portfolio. “Estimated credit losses” are defined as “an estimate of the currentamount of the loan and lease portfolio (net of unearned income) that is notlikely to be collected; that is, net charge-offs that are likely to be realizedfor a loan or pool of loans given facts and circumstances as of the evaluationdate.”  The policy statement alsosuggests that a test of reasonableness be applied to the ALLL, which test issatisfied if the ALLL equals or exceeds the sum of (a) assets classified loss;(b) 50% of assets classified doubtful; (c) 15% of assets classifiedsubstandard; and (d) estimated credit losses on other assets over the upcomingtwelve months.  The Bank believes thatits ALLL exceeds the amounts that would be required under the terms of thispolicy statement and under such test of reasonableness.  However, this a very subjective matter, andthe Bank cannot assure that any bank examiner would agree with its evaluation,or that losses ultimately incurred from the Bank’s portfolio would not exceedthe amounts so provided.

 

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Future changes inregulations or practices could further reduce the amount of capital recognizedfor purposes of capital adequacy.  Sucha change could affect the ability of the Bank to grow and could restrict theamount of profits, if any, available for the payment of dividends.

 

*Prompt Corrective Action and OtherEnforcement Mechanisms*

 

Under Section 38 of theFDIA, as added by the Federal Deposit Insurance Corporation Improvement Act of1991 (“FDICIA”), each federal banking agency is required to implement a systemof prompt corrective action for institutions which it regulates.  The federal banking agencies havepromulgated substantially similar regulations to implement this system ofprompt corrective action.  Under theregulations, an institution shall generally be deemed to be: (i) ”wellcapitalized” if it has a total risk-based capital ratio of 10.0% or more, has aTier I risk-based capital ratio of 6.0% or more, has a Tier Ileverage capital ratio of 5.0% or more and is not subject to specifiedrequirements to meet and maintain a specific capital level for any capitalmeasure; (ii) ”adequately capitalized” if it has a total risk–basedcapital ratio of 8.0% or more, a Tier I risk-based capital ratio of 4.0%or more and a Tier I leverage capital ratio of 4.0% or more (3.0% undercertain circumstances) and does not meet the definition of “well-capitalized;”(iii) ”undercapitalized” if it has a total risk-based capital ratio thatis less than 8.0%, a Tier I risk-based capital ratio that is less than 4.0% ora Tier I leverage capital ratio that is less than 4.0% (3.0% under certaincircumstances); (iv) ”significantly undercapitalized” if it has a totalrisk-based capital ratio that is less than 6.0%, a Tier I risk–basedcapital ratio that is less than 3.0% or a Tier I leverage capital ratiothat is less than 3.0%; and (v) ”critically undercapitalized” if it has aratio of tangible equity to total assets that is equal to or less than 2.0%.

 

Section 38 of the FDIAand the implementing regulations also provide that a federal banking agencymay, after notice and an opportunity for a hearing, reclassify a wellcapitalized institution as adequately capitalized and may require an adequatelycapitalized institution or an undercapitalized institution to comply withsupervisory actions as if it were in the next lower category if the institutionis in an unsafe or unsound condition or engaging in an unsafe or unsound practice.  (The FDIC may not, however, reclassify asignificantly undercapitalized institution as critically undercapitalized.)

 

An institution generallymust file a written capital restoration plan which meets specifiedrequirements, as well as a performance guaranty by each company that controlsthe institution, with the appropriate federal banking agency within 45 days ofthe date that the institution receives notice or is deemed to have notice thatit is undercapitalized, significantly undercapitalized or criticallyundercapitalized.  Immediately uponbecoming undercapitalized, an institution shall become subject to theprovisions of Section 38 of the FDIA, which sets forth various mandatoryand discretionary restrictions on its operations.

 

At December 31, 2001, theBank met the tests to be categorized as “well capitalized” under the promptcorrective action regulations of the FDIC.

 

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*Safety and Soundness Standard*

 

Federal law requires thefederal banking regulatory agencies to prescribe, by regulation, standards forall insured depository institutions relating to: (i) internal controls,information systems and internal audit systems; (ii) loan documentation;(iii) credit underwriting; (iv) interest rate risk exposure;(v) asset growth; and (vi) compensation, fees and benefits.  The federal banking agencies recentlyadopted final regulations and Interagency Guidelines Prescribing Standards forSafety and Soundness (“Guidelines”) to implement safety and soundness standardsrequired by the FDIA.  The Guidelinesset forth the safety and soundness standards that the federal banking agenciesuse to identify and address problems at insured depository institutions beforecapital becomes impaired.  The agenciesalso proposed asset quality and earnings standards which, if adopted in final,would be added to the Guidelines.  Underthe final regulations, if the FDIC determines that the Bank fails to meet anystandard prescribed by the Guidelines, the agency may require the Bank tosubmit to the agency an acceptable plan to achieve compliance with thestandard, as required by the FDIA.  Thefinal regulations establish deadlines for the submission and review of suchsafety and soundness compliance plans.

 

*Premiums for Deposit Insurance*

 

The FDIC adoptedregulations implementing a risk-based premium system required by federallaw.  Under the regulations which coverthe assessment periods commencing on and after January 1, 1994, insureddepository institutions are required to pay insurance premiums within a rangeof 23 cents per $100 of deposits to 31 cents per $100 of deposits depending ontheir risk classification.  The FDIC,effective September 30, 1995, lowered assessments from their rates of $.23 to$.31 per $100 of insured deposits to rates of $.04 to $.31, depending on thehealth of the bank, as a result of the re-capitalization of the BIF.  The FDIC may alter the existing assessmentrate structure for deposit insurance and may change the base assessment rate(currently, 4 to 31 basis points per year) by rulemaking with notice andcomment.  Without notice or comment, theFDIC may increase or decrease the current rate schedule uniformly by as much as5 basis points, as deemed necessary to maintain the target designated reserveratio 1.25 percent (fund balance to estimated insured deposits).  The insured deposit rates for 2001 were $.00to $.27, these rates are projected to continue through the first half of 2002.

 

The Financing Corporation(FICO), established by the Competitive Equality Banking Act of 1987, is amixed-ownership government corporation whose sole purpose was to function asthe financing vehicle for the Federal Savings & Loan Insurance Corporation(FSLIC).  Effective December 12, 1991,as provided by the Resolution Trust Corporation Refinancing, Restructuring andImprovement Act of 1991, the FICO’s ability to issue new debt wasterminated.  Outstanding FICO bonds,which are 30-year non-callable bonds with a principal amount of approximately$8.1 billion, mature in 2017 through 2019.

 

The FICO has assessmentauthority, separate from the FDIC’s authority to assess risk-based premiums fordeposit insurance, to collect funds from FDIC-insured institutions sufficientto pay interest on FICO bonds.  The FDICacts as collection agent for the FICO. The Deposit Insurance Funds Act of 1996 (DIFA) authorized the FICO toasses both Bank Insurance Fund (BIF) and Savings Association Insurance Fund(SAIF) insured deposits, and required the BIF rate to equal one-fifth the SAIFrate through the year 1999, or until the insurance funds are merged, whicheveroccurs first.  Thereafter, BIF and SAIFinsured deposits will be assessed at the same rate by FICO.

 

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The FICO assessment rateis adjusted quarterly to reflect changes in the assessment basis of therespective funds based on quarterly Call Report and Thrift Financial Reportsubmissions.  The FICO quarterly ratesfor 2001 were 1.96, 1.90, 1.88 and 1.84. The FICO quarterly rate for the first quarter of 2002 is 1.82.

 

*Interstate Banking and Branching*

 

On September 29, 1994,the President signed into law the Riegle-Neal Interstate Banking and BranchingEfficiency Act of 1994 (the “Interstate Act”). Under the Interstate Act, beginning one year after the date ofenactment, a bank holding company that is adequately capitalized and managedmay obtain regulatory approval to acquire an existing bank located in anotherstate without regard to state law.  Abank holding company would not be permitted to make such an acquisition if,upon consummation, it would control (a) more than 10% of the total amount ofdeposits of insured depository institutions in the United States or (b) 30% ormore of the deposits in the state in which the bank is located.  A state may limit the percentage of totaldeposits that may be held in that state by any one bank or bank holding companyif application  of such limitation doesnot discriminate against out-of-state banks. An out-of-state bank holding company may not acquire a state bank inexistence for less than a minimum length of time that may be prescribed bystate law except that a state may not impose more than a five year existencerequirement.

 

The Interstate Act alsopermits, beginning June 1, 1997, mergers of insured banks located in differentstates and conversion of the branches of the acquired bank into branches of theresulting bank.  Each state may permitsuch combinations earlier than June 1, 1997, and may adopt legislation toprohibit interstate mergers after that date in that state or in other states bythat state’s banks.  The sameconcentration limits discussed in the preceding paragraph apply.  The Interstate Act also permits a nationalor state bank to establish branches in a state other than its home state ifpermitted by the laws of that state, subject to the same requirement andconditions as for a merger transaction.

 

The Interstate Act islikely to increase competition in the Bank’s market areas especially fromlarger financial institutions and their holding companies.  It is difficult to asses the impact suchlikely increased competition will have on the Bank’ operations.

 

On October 2, 1995, the“California Interstate Banking and Branching Act of 1995” (the “1995 Act”)became effective.  The 1995 Actsgenerally allows out-of-state banks to enter California by merging with, orpurchasing, a California bank or industrial loan company which is at least fiveyears old.  Also, the 1995 Act repealsthe California Interstate (National) Banking Act of 1986, which previouslyregulated the acquisition of California banks by out-of-state bank holdingcompanies.  In addition, the 1995 Actpermits California state banks, with the approval of the Superintendent of Banks,to establish agency relationships with FDIC-insured banks and savingsassociations.  Finally, the 1995 Actprovides for regulatory relief, including (i) authorization for theSuperintendent to exempt banks from the requirement of obtaining approval beforeestablishing or relocating a branch office or place of business, (ii) repeal ofthe

 

12

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requirement of directors’oaths (Financial Code Section 682), and (iii) repeal of the aggregate limit onreal estate loans (Financial Code Section 1230).

 

*Community Reinvestment Act and FairLending Developments*

 

The Bank is subject tocertain fair lending requirements, reporting obligations involving homemortgage lending operations and Community Reinvestment Act (the “CRA”).  The CRA generally requires the federalbanking agencies to evaluate the record of financial institutions in meetingthe credit needs of their local community, including low and moderate incomeneighborhoods.  In addition tosubstantial penalties and corrective measures that may be required for aviolation of certain fair lending laws, the federal banking agencies may takecompliance with such laws and CRA into account when regulating and supervisingother activities.

 

In May, 1995, the federalbanking agencies issued final regulations which change the manner in which theymeasure a bank’s compliance with its CRA obligations.  The final regulations adopt a performance-based evaluation systemwhich bases CRA ratings on an institutions’ actual lending service andinvestment performance rather than the extent to which the institution conductsneeds assessments, documents community outreach or complies with otherprocedural requirements.  In March 1994,the Federal Interagency Task Force on Fair Lending issued a policy statement ondiscrimination in lending.  The policystatement describes the three methods that federal agencies will use to provediscrimination: overt evidence of discrimination, evidence of disparatetreatment and evidence of disparate impact. Management of the Bank believes that the Bank is in substantialcompliance with all requirements under these provisions.  Following the Bank’s most recent CRAexamination, the Bank’s rating was “satisfactory”.

 

*Other Regulations and Policies*

 

The federal regulatoryagencies have adopted regulations that implement Section 304 of FDICIA whichrequires federal banking agencies to adopt uniform regulations prescribingstandards for real estate lending.  Eachinsured depository institution must adopt and maintain a comprehensive writtenreal estate lending policy, developed in conformance with prescribedguidelines, and each agency has specified loan-to-value limits in guidelinesconcerning various categories of real estate loans.

 

Section 24 of the FederalDeposit Insurance Act (the “FDIA”), as amended by the FDICIA, generally limitsthe activities and equity investments of FDIC-insured, state-chartered banks tothose that are permissible for national banks. Under regulations dealing with equity investments, an insured state bankgenerally may not directly or indirectly acquire or retain any equityinvestment of a type, or in an amount, that is not permissible for a nationalbank.  An insured state bank is notprohibited from, among other things, (i) acquiring or retaining a majorityinterest in a subsidiary, (ii) investing as a limited partner in a partnershipthe sole purpose of which is direct or indirect investment in the acquisition,rehabilitation or new construction of a qualified housing project, providedthat such limited partnership investments may not exceed 2% of the bank’s totalassets, (iii) acquiring up to 10% of the voting stock of a company that solelyprovides or reinsures directors’, trustees’ and officers’ liability insurance

 

13

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coverage or bankers’blanket bond group insurance coverage for insured depository institutions, and(iv) acquiring or retaining the voting shares of a depository institution ifcertain requirements are met.

 

FDIC regulationsimplementing Section 24 of the FDIA provide that an insured state-charteredbank may not, directly, or indirectly through a subsidiary, engage as“principal” in any activity that is not permissible for a national bank unlessthe FDIC has determined that such activities would pose no risk to theinsurance fund of which it is a member and the bank is in compliance withapplicable regulatory capital requirements. Any insured state-chartered bank directly or indirectly engaged in anyactivity that is not permitted for a national bank must cease the impermissibleactivity.

 

*Regulatory Enforcement Powers*

 

Commercial bankingorganizations, such as the Bank, may be subject to enforcement actions by theFDIC and the Superintendent for engaging in unsafe or unsound practices in theconduct of their businesses or for violations of any law, rule, regulation orany condition imposed in writing by the agency or any written agreement withthe agency.  Enforcement actions mayinclude the imposition of a conservator or receiver, the issuance of a cease–and–desistorder that can be judicially enforced, the termination of insurance ofdeposits, the imposition of civil money penalties, the issuance of directivesto increase capital, the issuance of formal and informal agreements, theissuance of removal and prohibition orders against institution-affiliatedparties and the imposition of restrictions and sanctions under the promptcorrective action provisions of the FDICIA.

 

*California and Federal Banking Law*

 

The Federal Change inBank Control Act of 1978 prohibits a person or group of persons “acting inconcert” from acquiring “control” of a bank or holding company unless theappropriate federal regulatory agency has been given 60 days’ prior writtennotice of such proposed acquisition and, within that time period, has notissued a notice disapproving the proposed acquisition or extending for up toanother 30 days the period during which such a disapproval may be issued. Anacquisition may be made prior to the expiration of the disapproval period ifthe agency issues written notice of its intent not to disapprove theaction.  The acquisition of more than10% of a class of voting stock of a bank (or holding company) with a class ofsecurities registered under Section 12 of the Securities Exchange Act of 1934,as amended (such as the Common Stock), is generally presumed, subject torebuttal. to constitute the acquisition of control.

 

Under the CaliforniaFinancial Code, no person shall, directly or indirectly, acquire control of aCalifornia licensed bank or a bank holding company unless the Superintendenthas approved such acquisition of control. A person would be deemed to have acquired control of the Corporationunder this state law if such person, directly or indirectly, has the power (i)to vote 25% or more of the voting power of the Corporation or (ii) to direct orcause the direction of the

 

14

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management and policiesof the Corporation.  For purposes ofthis law, a person who directly or indirectly owns or controls 10% or more ofthe Common Stock would be presumed to control the Corporation, subject torebuttal.

 

In addition, any“company” would be required to obtain the approval of the Federal Reserve underthe Bank Holding Company Act of 1956, as amended (the “BHC Act”), beforeacquiring 25% (5% in the case of an acquirer that is, or is deemed to be, abank holding company) or more of the outstanding Common Stock of, or suchlesser number of shares as constitute control over, the Bank or the Corporation.

 

The CommunityReinvestment Act of 1977 (“CRA”) and the related Regulations of the Comptrollerof the Currency, the Board of Governors of the Federal Reserve and the FederalDeposit Insurance Corporation (“FDIC”) are intended to encourage regulatedfinancial institutions to help meet the credit needs of their local communityor communities, including low and moderate income neighborhoods, consistentwith the safe and sound operation of such financial institutions.  The CRA and such regulations provide that theappropriate regulatory authority will assess the records of regulated financialinstitutions in satisfying their continuing and affirmative obligations to helpmeet the credit needs of their local communities as part of their regulatoryexamination of the institution.  Theresults of such examinations are made public and are taken into account uponthe filing of any application to establish a domestic branch, to merge or toacquire the assets or assume the liabilities of a bank.  In the case of a bank holding company, theCRA performance record of the subsidiary bank(s) involved in the transaction isreviewed in connection with the filing of an application to acquire ownershipor control of shares or assets of a bank or to merge with any other bank holdingcompany.  An unsatisfactory record cansubstantially delay or block the transaction.

 

**RESEARCH**

 

Neither theCorporation nor the Bank makes any material expenditures for research anddevelopment.

 

**DEPENDENCE UPON A SINGLE CUSTOMER**

 

Neither theCorporation nor the Bank is dependent upon a single customer or very fewcustomers.  The Bank’s business isconcentrated in, and largely dependent upon the strength of the local economyin, the Monterey Peninsula area of Northern California.  The local economy is affected by bothnational trends and by local factors. Tourism and the activities at the former Fort Ord military base areamong the major contributors to the local economy.  The opening of the California State University at Monterey Bay onthe former Fort Ord military base may lessen the impact of the base closure.

 

15

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**ITEM 2.PROPERTIES**

 

The main office ofthe Bank, which also serves as the principal office of the Corporation, islocated at 601 Munras Ave., Monterey, California 93940.  This facility contains a lobby, executiveand customer service offices, teller stations, safe deposit boxes and relatednon-vault area, vault, operations area, lounge and miscellaneous areas.  A drive-through facility and adequate pavedparking are also on the premises.  Boththe land and all improvements thereto are owned by the Bank**.**  The Bank currently operates two branch offices in Carmel andPacific Grove, California, both within approximately 10 miles from the Bank’smain office.  The land and improvementsdedicated to the Carmel and Pacific Grove branch offices are leased.  See Footnote 7 to the Corporation’sfinancial statements included herewith.

 

Generally, neitherthe Bank nor the Corporation may invest in equity interests in real estate,except for the direct use of the Bank or the Corporation in theirbusiness.  The Bank makes and/orpurchases loans secured by real estate, subject to normal banking practices,its own policies and the restrictions described above under Item 1.

 

**ITEM3. LEGAL PROCEEDINGS**

 

None

 

**ITEM4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS**

 

None submitted.

 

16

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**PART II**

 

**ITEM5. MARKET FOR THE CORPORATION’S COMMON STOCK AND RELATED STOCKHOLDER MATTERS.**

 

Neither theCorporation’s, which is held by approximately 550 persons, nor the Bank’s,stock has ever been actively traded.  Tothe Corporation’s knowledge no brokers have handled trades in the Bank’s stockduring the past four years, and there are no published “bid/asked” quotes forsuch stock or the stock of the Corporation. During the same period, no broker acted as a market maker for theCorporation or Bank’s Common Stock. Accordingly, the market price data contained herein does not representthe value which would be assigned in an efficient market.  The Common Stock is not listed on anysecurities exchange or quoted on the National Association of Securities DealersAutomated System.

 

The Corporationrepurchased 11,980 shares of common stock at prices ranging from $3.00 to $3.50in 2001, 3,754 at prices ranging from $2.70 to $3.00 in 2000, and 11,133 at$3.00 per share in 1999.

 

The followingtable sets forth, according to information known to the Corporation, the pricepaid per share in, and volume of, transactions in the Bank’s stock during thequarters ended March 31, 1999 to December 31, 2001.

 
| **Quarter/Year**    |   | **Price** |   | **Volume****(1)** |   |
|---------------------|--------|-----------|--------|-------------------|--------|
| 1st quarter of 1999 |   | 3.00      |   | 1,482             |   |
| 2nd quarter of 1999 |   | 3.00/3.50 |   | 2,173             |   |
| 3rd quarter of 1999 |   | 3.00      |   | 8,606             |   |
| 4th quarter of 1999 |   | 3.00      |   | 2,287             |   |
|                |   |      |   |              |   |
| 1st quarter of 2000 |   | 3.00      |   | 1,662             |   |
| 2nd quarter of 2000 |   | 3.00      |   | 1,256             |   |
| 3rd quarter of 2000 |   | 3.00      |   | 132               |   |
| 4th quarter of 2000 |   | 2.70-3.00 |   | 3,918             |   |
|                |   |      |   |              |   |
| 1st quarter of 2001 |   | 3.00      |   | 4,877             |   |
| 2nd quarter of 2001 |   | 3.00      |   | 207               |   |
| 3rd quarter of 2001 |   | 3.00-3.50 |   | 7,393             |   |
| 4th quarter of 2001 |   | 3.00      |   | 1,841             |   |

 

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(1)          For the periodpresented, the information indicated might not include information on shareswhich may have been traded directly by shareholders or through dealers.

 

17

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The principalsource of cash flow of the Corporation, including cash flow to pay dividends onits stock or principal and interest on debt, is dividends from the Bank.  There are statutory and regulatorylimitations on the payment of dividends by the Bank to the Corporation, as wellas by the Corporation to its shareholders.

 

If in the opinionof the applicable federal and/or state regulatory authority, a depositoryinstitution or holding company is engaged in or is about to engage in an unsafeor unsound practice (which, depending on the financial condition of thedepository institution or holding company, could include the payment ofdividends), such authority may require, after notice and hear (except in thecase of an emergency proceeding where there in no notice or hearing), that suchinstitution or holding company cease and desist from such practice.  Moreover, the Federal Reserve and the FDIChave issued policy statements which provide that bank holding companies andinsured depository institutions generally should only pay dividends out ofcurrent operating earnings.

 

Under the FederalDeposit Insurance Corporation Improvement Act of 1991 (“FDICIA”), an FDICinsured depository institution may not pay any dividend if payment would causeit to become undercapitalized or once it is undercapitalized.

 

The Bank’s paymentof dividends, as a California chartered commercial banking corporation, isregulated by the California Financial Code. Under the California Financial Code, funds available for cash dividendpayments by the Bank are restricted to the lessor of: (I) retained earnings; or(ii) the Bank’s net income for its last three fiscal years (less anydistributions to the stockholders made during such period).  As of December 31, 2001 the Bank had$2,178,800 in retained earnings.  TheBank’s net income for the last three fiscal years less distributions to stockholderswas $1,619,400.

 

In December 2001,2000 and 1999 the Corporation paid a ten (10) percent stock dividend.  The Bank paid dividends totaling $200,000,$100,000 and $50,000 to the Corporation during 2001, 2000 and 1999,respectively.

 

18

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**ITEM6.  MANAGEMENT’S DISCUSSION AND ANALYSISOF FINANCIALCONDITION AND RESULTS OF OPERATION**

 

**OVERVIEW**

 

The followingdiscussion reviews and analyzes the operating results and financial conditionof the Corporation, focusing on the Bank. It should be read in conjunction with the financial statements and theother financial data presented elsewhere herein.

 

Net income foreach of the last three years was $360,500 in 2001, $736,300 in 2000, and$453,800 in 1999.  The primary netincome per share for each of the last three years was $.27, $.55, and $.35respectively.  The diluted net incomeper share for the same time periods were $.23, $.48 and $.30,respectively.  Return on averageshareholders’ equity was 7.87%, 16.95% and 12.37% in 2001, 2000 and 1999,respectively.  Return on average assets was..48%, 1.06%, and .80% in 2001, 2000 and 1999, respectively.

 

The decrease inearnings in 2001 was due to net interest income after provision for loan lossesdecreasing $232,800, other income increased $114,200, other expenses increased$329,200 and income tax expense decreased $130,600.  Net income was significantly impacted as the result of realizedlosses on securities transactions and declines in the market value of thetrading asset.  Realized losses onsecurities transactions were $27,800 while the mark to market of the tradingasset resulted in a charge to earnings of $199,400.

 

The increase inearnings in 2000 was due to increases of $628,600 in net interest income afterprovision for loan losses and $191,300 in other income; partially offset by increasesof $322,500 in other expense and $214,900 in income tax expense.

 

Earnings beforeextraordinary items increased $54,000 in 1999. The increase was due primarilyto increases of $309,500 in net interest income after provision for loan lossesand $103,500 in other income; partially offset by increases of $285,900 inoperating expenses and  $73,100 inincome taxes. In 1998 an extraordinary item, litigation settlement, of $64,400net of income tax expense of $52,700 was recorded.

 

The followingtable provides a summary of the income statement, balance sheet, and selectedratios for the last five years.  A moredetailed analysis of each component of net income is included under theappropriate captions, which follows.

 

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|                                               |   | **As of and for the years Ended December 31,**   |   |
|----------------------------------------------------|--------|--------------------------------------------------|--------|
|                                               |   | **2001**                                         |   | **2000** |   | **1999** |   | **1998** |   | **1997** |   |
|                                               |   | **(Dollars in thousands except per share data)** |   |
| Summary  of Operating Results:                     |   |                                             |   |   |   |   |   |   |   |   |   |
|                                               |   |                                             |   |   |   |   |   |   |   |   |   |
| Total  interest income                             |   | 5,438                                            |   | 5,501 |   | 4,296 |   | 3,757 |   | 3,399 |   |
| Total  interest expense                            |   | 2,521                                            |   | 2,410 |   | 1,788 |   | 1,603 |   | 1,447 |   |
| Net  interest income                               |   | 2,917                                            |   | 3,092 |   | 2,508 |   | 2,154 |   | 1,952 |   |
|                                               |   |                                             |   |   |   |   |   |   |   |   |   |
| Provision  for possible loan losses                |   | 185                                              |   | 130 |   | 174 |   | 130 |   | 120 |   |
| Net  interest income after provision for loan loss |   | 2,732                                            |   | 2,962 |   | 2,333 |   | 2,024 |   | 1,832 |   |
|                                               |   |                                             |   |   |   |   |   |   |   |   |   |
| Total  other income                                |   | 1,498                                            |   | 1,445 |   | 1,254 |   | 1,152 |   | 1,074 |   |
| Total  other expense                               |   | 3,638                                            |   | 3,309 |   | 2,986 |   | 2,585 |   | 2,505 |   |
|                                               |   |                                             |   |   |   |   |   |   |   |   |   |
| Income  (loss) before taxes                        |   | 592                                              |   | 1,098 |   | 601 |   | 591 |   | 402 |   |
| Provision  for income tax                          |   | 231                                              |   | 362 |   | 147 |   | 127 |   | 176 |   |
|                                               |   |                                             |   |   |   |   |   |   |   |   |   |
| Net  income (loss)                                 |   | 361                                              |   | 736 |   | 454 |   | 464 |   | 226 |   |
|                                               |   |                                             |   |   |   |   |   |   |   |   |   |
| Per  Common Share Data:                            |   |                                             |   |   |   |   |   |   |   |   |   |
|                                               |   |                                             |   |   |   |   |   |   |   |   |   |
| Basic  Earnings                                    |   |                                             |   |   |   |   |   |   |   |   |   |
| Income  before extraordinary item (1)              |   | 0.27                                             |   | 0.55 |   | 0.35 |   | 0.31 |   | 0.19 |   |
| Extraordinary  Item (1)                            |   | —                                           |   | — |   | — |   | 0.05 |   | — |   |
| Net  Income (1)                                    |   | 0.27                                             |   | 0.55 |   | 0.35 |   | 0.36 |   | 0.19 |   |
|                                               |   |                                             |   |   |   |   |   |   |   |   |   |
| Diluted  Earnings                                  |   |                                             |   |   |   |   |   |   |   |   |   |
| Income  before extraordinary item (2)              |   | 0.23                                             |   | 0.48 |   | 0.30 |   | 0.26 |   | 0.15 |   |
| Extraordinary  Item (2)                            |   | —                                           |   | — |   | — |   | 0.04 |   | — |   |
| Net  Income (2)                                    |   | 0.23                                             |   | 0.48 |   | 0.30 |   | 0.30 |   | 0.15 |   |
|                                               |   |                                             |   |   |   |   |   |   |   |   |   |
| Book  value, end of period                         |   | 3.83                                             |   | 3.63 |   | 2.97 |   | 2.70 |   | 2.38 |   |
| Avg  shares outstanding (3)                        |   | 1,333,859                                        |   | 1,343,890 |   | 1,286,650 |   | 1,273,586 |   | 1,286,480 |   |
|                                               |   |                                             |   |   |   |   |   |   |   |   |   |
| Balance  Sheet Data:                               |   |                                             |   |   |   |   |   |   |   |   |   |
|                                               |   |                                             |   |   |   |   |   |   |   |   |   |
| Total  loans, net of unearned income (4)           |   | 52,562                                           |   | 43,251 |   | 39,217 |   | 28,250 |   | 25,606 |   |
| Total  assets                                      |   | 79,735                                           |   | 83,872 |   | 65,214 |   | 51,103 |   | 46,113 |   |
| Total  deposits                                    |   | 68,332                                           |   | 72,218 |   | 55,563 |   | 42,852 |   | 39,206 |   |
| Stockholders’  equity                         |   | 5,087                                            |   | 4,861 |   | 3,993 |   | 3,435 |   | 3,031 |   |

 

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|                                                 |   | **As of and for the Years Ended December 31,** |   |
|------------------------------------------------------|--------|------------------------------------------------|--------|
|                                                 |   | **2001**                                       |   | **2000** |   | **1999** |   | **1998** |   | **1997** |   |
| Selected  Financial Ratios (5):                      |   |                                           |   |   |   |   |   |   |   |   |   |
|                                                 |   |                                           |   |   |   |   |   |   |   |   |   |
| Return  on average assets                            |   | 0.48                                           | %      | 1.06 | % | 0.80 | % | 0.97 | % | 0.54 | % |
| Return  on average stockholders’ equity         |   | 7.87                                           | %      | 16.95 | % | 12.37 | % | 14.43 | % | 7.34 | % |
| Net  interest spread                                 |   | 3.68                                           | %      | 4.73 | % | 3.88 | % | 4.45 | % | 4.74 | % |
|                                                 |   |                                           |   |   |   |   |   |   |   |   |   |
| Net  interest margin                                 |   | 4.50                                           | %      | 5.59 | % | 4.60 | % | 5.20 | % | 5.42 | % |
|                                                 |   |                                           |   |   |   |   |   |   |   |   |   |
| Avg  shareholders’ equity to average assets     |   | 6.09                                           | %      | 6.23 | % | 6.48 | % | 6.73 | % | 7.37 | % |
|                                                 |   |                                           |   |   |   |   |   |   |   |   |   |
| Primary  capital to assets at end of period          |   | 6.74                                           | %      | 6.32 | % | 6.70 | % | 7.32 | % | 7.85 | % |
|                                                 |   |                                           |   |   |   |   |   |   |   |   |   |
| Total  loans to total deposits at end of period      |   | 76.92                                          | %      | 59.88 | % | 70.58 | % | 65.92 | % | 65.31 | % |
|                                                 |   |                                           |   |   |   |   |   |   |   |   |   |
| Allowance  to total loans at end of period           |   | 1.06                                           | %      | 1.05 | % | 1.01 | % | 1.18 | % | 1.04 | % |
|                                                 |   |                                           |   |   |   |   |   |   |   |   |   |
| Nonperforming  loans to total loans at end of period |   | 0.70                                           | %      | 0.03 | % | 0.48 | % | 0.25 | % | 0.81 | % |
|                                                 |   |                                           |   |   |   |   |   |   |   |   |   |
| Net  charge-offs to average loans                    |   | 0.18                                           | %      | 0.15 | % | 0.32 | % | 0.23 | % | 0.40 | % |

 

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(1)    Primary earnings (loss) per share amountswere computed on the basis of the weighted average number of shares of commonstock during the year.  The weightedaverage number of shares used for this computation was 1,333,859, for 2001,1,343,890 for 2000, 1,286,650 for 1999, 1,273,586 for 1998 and 1,286,480 for1997.

 

(2)    Fully diluted earnings (loss) per shareamounts were computed on the basis of the weighted average number of shares ofcommon stock and common stock equivalents outstanding during the year.  Common stock equivalents include employeestock options.  The weighted averagenumber of shares used for this computation was 1,553,300, 1,548,591, 1,543,353,1,521,693 and 1,526,420 in 2001, 2000, 1999, 1998 and 1997, respectively.

 

(3)   Weighted average common shares.

 

(4)   Includes loans being held for sale.

 

(5)    Averages are of daily balances.

 

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**NET INTEREST INCOME**

 

Net interestincome, the difference between (a) interest and fees earned on interest-earningassets and (b) interest paid on interest-bearing liabilities, is the mostsignificant component of the Bank’s earnings. Changes in net interest income from period to period result fromincreases or decreases in the average balances of interest earning assets portfolio,the availability of particular sources of funds and changes in prevailinginterest rates.

 

The followingtable summarizes the Bank’s net interest income.  It is not presented on a tax equivalent basis, as the Bank ‘stax-exempt interest income is insignificant.

 
|                 |   | **Years Ended   December 31,** |   | **Increase (Decrease)   From Prior Year** |       |
|----------------------|--------|--------------------------------|--------|-------------------------------------------|------------|
|                 |   | **2001**                       |   | **2000**                                  |       | **1999** |   | **2001/2000** |   | **2000/1999** |   |
|                 |   |                           |   |                                      | ** ** |   | ** ** | **Amt** |   | **%** |   | **Amt** |   | **%** | ** ** |
|                 |   | **(Dollars  in thousands)**    |   |
| Interest  Income     |   | 5,440                          |   | 5,501                                     |       | 4,296 |   | (62 | ) | (1.12 | ) | 1,205 |   | 28.05 |   |
| Interest  Expense    |   | 2,526                          |   | 2,409                                     |       | 1,761 |   | 116 |   | 4.83 |   | 653 |   | 37.08 |   |
|                 |   |                           |   |                                      |       |   |   |   |   |   |   |   |   |   |   |
| Net  Interest Income |   | 2,914                          |   | 3,092                                     |       | 2,535 |   | (178 | ) | (5.75 | ) | 552 |   | 21.78 |   |

 

Net interest incomedecreased $177,800 (5.75%) from 2000 to 2001. Average interest bearing assets increased 9.04%, while the average rateearned 124 basis points, resulting in a decrease of $61,700 in total interestincome.  Interest expense increased$116,100 the result of a 9.15% increase in average interest bearing liabilitiesand a decrease of 19 basis points in the average rate paid.  The average interest rate on loans decreased94 basis points while the average rate on investment securities decreased 259basis points.

 

Net interestincome increased $554,400 (23.31%) from 1999 to 2000.  Average interest bearing assets increased 24.10%, while theaverage rate earned increased 38 basis points, resulting in an increase of$1,205,200 in total interest income. Interest expense increased $652,600 the result of a 20.76% increase inaverage interest bearing liabilities and a 34 basis points increase in theaverage rate paid.  Average interestrates on loans increased 17 basis points. Of the $11,909,000 increase in average earning assets $7,397,000(62.11%) was in loans.

 

The followingtable shows the components of the Bank’s net interest income, setting forth,for each of the three years ended December 31, 2001, 2000 and 1999 (i) averageassets, liabilities and investments, (ii) interest income earned oninterest-earning assets and interest expense paid on interest-bearingliabilities, (iii) average yields earned on interest-earning assets and averagerates paid on interest-bearing liabilities, (iv) the net interest spread (i.e.,the average yield earned on interest-earning assets less the average rate paidon interest-bearing liabilities) and (v) the net interest yield on averageinterest-earning assets (i. e., net interest income divided by averageinterest-earning assets).  Yields arecomputed on a tax-equivalent basis, resulting in adjustments to interest earnedon non-taxable securities of $16,500, $253,700 and $158,400 in

 

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2001, 2000 and 1999respectively.  Non-accrual loans andoverdrafts are included in average loan balances.  Average loans are presented net of unearned income.

 

**INTEREST SPREAD ANALYSIS:**

** **
|                                  |   | **2001**                   |   | **2000**              |   | **1999**           |   |
|---------------------------------------|--------|----------------------------|--------|-----------------------|--------|--------------------|--------|
|                                  |   | **Avg   Bal**              |   | **Int   Earn   Paid** |   | **Avg   %   Rate** |   | **Avg   Bal** |   | **Int   Earn   Paid** |   | **Avg   %   Rate** |   | **Avg   Bal** |   | **Int   Earn   Paid** |   | **Avg   %   Rate** |   |
|                                  |   |                       |   |                  |   |               |   |   |   |
|                                  |   |                       |   |                  |   |               |   |   |   |
|                                  |   | **(Dollars in thousands)** |   |
| Interest  Earning Assets:             |   |                       |   |                  |   |               |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Int-bearing  deposits at other banks  |   | 178                        |   | 12                    |   | 6.99               |   | 164 |   | 10 |   | 6.36 |   | 183 |   | 9 |   | 5.08 |   |
| Invest  securities - Taxable          |   | 7,444                      |   | 469                   |   | 6.30               |   | 5,553 |   | 396 |   | 7.12 |   | 3,434 |   | 221 |   | 6.45 |   |
| Invest  securities - Non-Taxable      |   | 377                        |   | 25                    |   | 6.65               |   | 9,325 |   | 746 |   | 8.00 |   | 6,063 |   | 463 |   | 7.63 |   |
| Federal  funds sold                   |   | 10,310                     |   | 363                   |   | 3.52               |   | 4,776 |   | 303 |   | 6.35 |   | 5,627 |   | 278 |   | 4.94 |   |
|                                  |   |                       |   |                  |   |               |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Total  investments                    |   | 18,308                     |   | 870                   |   | 4.75               |   | 19,818 |   | 1455 |   | 7.34 |   | 15,307 |   | 971 |   | 6.35 |   |
|                                  |   |                       |   |                  |   |               |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Loans                                 |   |                       |   |                  |   |               |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Construction                          |   | 2,209                      |   | 227                   |   | 10.29              |   | 3,147 |   | 329 |   | 10.45 |   | 1,977 |   | 202 |   | 10.24 |   |
| Real  estate                          |   | 31,258                     |   | 2,805                 |   | 8.97               |   | 25,211 |   | 2,451 |   | 9.72 |   | 18,727 |   | 1,825 |   | 9.74 |   |
| Installment                           |   | 767                        |   | 90                    |   | 11.67              |   | 511 |   | 68 |   | 13.30 |   | 407 |   | 53 |   | 13.05 |   |
| Commercial                            |   | 14,335                     |   | 1,454                 |   | 10.15              |   | 12,643 |   | 1,451 |   | 11.48 |   | 13,004 |   | 1,397 |   | 10.75 |   |
|                                  |   |                       |   |                  |   |               |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Total  loans                          |   | 48,570                     |   | 4,576                 |   | 9.42               |   | 41,512 |   | 4,299 |   | 10.36 |   | 34,115 |   | 3,478 |   | 10.19 |   |
|                                  |   |                       |   |                  |   |               |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Total  Interest earning assets        |   | 66,878                     |   | 5,446                 |   | 8.14               |   | 61,330 |   | 5,754 |   | 9.38 |   | 49,422 |   | 4,449 |   | 9.00 |   |
|                                  |   |                       |   |                  |   |               |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Interest  Bearing Liabilities:        |   |                       |   |                  |   |               |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Int-bearing  demand                   |   | 9,422                      |   | 93                    |   | 0.99               |   | 8,917 |   | 89 |   | 1.00 |   | 7,785 |   | 79 |   | 1.01 |   |
| Money  market savings                 |   | 1,328                      |   | 22                    |   | 1.66               |   | 1,428 |   | 26 |   | 1.84 |   | 1,634 |   | 31 |   | 1.88 |   |
| Savings  deposits                     |   | 3,885                      |   | 71                    |   | 1.82               |   | 3,185 |   | 63 |   | 1.98 |   | 3,463 |   | 68 |   | 1.95 |   |
| Time  deposits >$100M              |   | 15,216                     |   | 833                   |   | 5.47               |   | 13,019 |   | 764 |   | 5.87 |   | 9,404 |   | 524 |   | 5.57 |   |
| Time  deposits <$100M              |   | 20,263                     |   | 1,126                 |   | 5.56               |   | 19,049 |   | 1,105 |   | 5.80 |   | 14,682 |   | 815 |   | 5.55 |   |
| Other  Borrowing                      |   | 4,460                      |   | 293                   |   | 6.56               |   | 4,402 |   | 280 |   | 6.36 |   | 4,438 |   | 273 |   | 6.14 |   |
| Total  interest bearing liabilities   |   | 54,574                     |   | 2,437                 |   | 4.47               |   | 49,998 |   | 2,328 |   | 4.66 |   | 41,404 |   | 1,788 |   | 4.32 |   |
|                                  |   |                       |   |                  |   |               |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Net  interest income                  |   |                       |   | 3,009                 |   |               |   |   |   | 3,426 |   |   |   |   |   | 2,661 |   |   |   |
| Net  interest spread                  |   |                       |   |                  |   | 3.68               |   |   |   |   |   | 4.73 |   |   |   |   |   | 4.68 |   |
| Net  yield on interest earning assets |   |                       |   |                  |   | 4.50               |   |   |   |   |   | 5.59 |   |   |   |   |   | 5.38 |   |

 

 
|                                 |   |                                     |   |                                     |   |      |   |             |   |           |   |      |   |   |   |   |   |   |   |
|--------------------------------------|--------|------------------------------------------|--------|------------------------------------------|--------|-----------|--------|------------------|--------|----------------|--------|-----------|--------|--------|--------|--------|--------|--------|--------|
|                                 |   | **2001 vs  2000**                        |   | **2000 vs  1999**                        |   |
|                                 |   | **Increase(Decrease)    Due to Changes** |   | **Increase(Decrease)    Due to Changes** |   |
|                                 |   | **Avg   Volume**                         |   | **Avg   Rate**                           |   | **Total** |   | **Avg   Volume** |   | **Avg   Rate** |   | **Total** |   |
|                                 |   | **(Dollars  in thousands)**              |   |
| Interest  Earning Assets:            |   |                                     |   |                                     |   |      |   |             |   |           |   |      |   |
| Int-bearing  deposits at other banks |   | 1                                        |   | 1                                        |   | 2         |   | (1               | )      | 2              |   | 1         |   |
| Invest  securities - Taxable         |   | 134                                      |   | (61                                      | )      | 73        |   | 137              |   | 38             |   | 175       |   |
| Invest  securities - Non-Taxable     |   | (716                                     | )      | (5                                       | )      | (721      | )      | 249              |   | 34             |   | 283       |   |
| Federal  funds sold                  |   | 353                                      |   | (291                                     | )      | 61        |   | (42              | )      | 67             |   | 25        |   |
|                                 |   |                                     |   |                                     |   |      |   |             |   |           |   |      |   |
| Total  investments                   |   | (229                                     | )      | (356                                     | )      | (585      | )      | 343              |   | 141            |   | 484       |   |
|                                 |   |                                     |   |                                     |   |      |   |             |   |           |   |      |   |
| Loans                                |   |                                     |   |                                     |   |      |   |             |   |           |   |      |   |
| Construction                         |   | (98                                      | )      | (4                                       | )      | (102      | )      | 120              |   | 7              |   | 127       |   |
| Real  estate                         |   | 588                                      |   | (234                                     | )      | 354       |   | 631              |   | (5             | )      | 626       |   |
| Installment                          |   | 34                                       |   | (12                                      | )      | 22        |   | 14               |   | 1              |   | 15        |   |
| Commercial                           |   | 194                                      |   | (191                                     | )      | 4         |   | (39              | )      | 92             |   | 53        |   |
|                                 |   |                                     |   |                                     |   |      |   |             |   |           |   |      |   |
| Total  loans                         |   | 718                                      |   | (441                                     | )      | 277       |   | 726              |   | 95             |   | 821       |   |
|                                 |   |                                     |   |                                     |   |      |   |             |   |           |   |      |   |
| Total  Interest Earning Assets       |   | 489                                      |   | (797                                     | )      | (308      | )      | 1069             |   | 236            |   | 1305      |   |
|                                 |   |                                     |   |                                     |   |      |   |             |   |           |   |      |   |
| Interest  Bearing Deposits:          |   |                                     |   |                                     |   |      |   |             |   |           |   |      |   |
|                                 |   |                                     |   |                                     |   |      |   |             |   |           |   |      |   |
| Int-bearing  demand                  |   | 5                                        |   | (1                                       | )      | 4         |   | 11               |   | (1             | )      | 10        |   |
| Money  market savings                |   | (2                                       | )      | (2                                       | )      | (4        | )      | (4               | )      | (1             | )      | (5        | )      |
| Savings  deposits                    |   | 14                                       |   | (6                                       | )      | 7         |   | (5               | )      | 1              |   | (4        | )      |
| Time  deposits >$100M             |   | 129                                      |   | (60                                      | )      | 69        |   | 201              |   | 39             |   | 240       |   |
| Time  deposits <$100M             |   | 70                                       |   | (50                                      | )      | 21        |   | 242              |   | 48             |   | 290       |   |
| Other  Borrowing                     |   | 4                                        |   | 9                                        |   | 13        |   | (2               | )      | 9              |   | 7         |   |
| Total  interest bearing deposits     |   | 220                                      |   | (111                                     | )      | 109       |   | 443              |   | 95             |   | 538       |   |
| Net  change in net interest          |   | 269                                      |   | (686                                     | )      | (417      | )      | 626              |   | 141            |   | 767       |   |
|                                      |        |                                          |        |                                          |        |           |        |                  |        |                |        |           |        |        |        |        |        |        |        |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

23

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**Provision and Allowance for LoanLosses**

 

The provision forloan losses is an expense charged against operating income and added to theallowance for loan losses.  Theallowance for loan losses represents amounts which have been set aside for thespecific purpose of absorbing losses which may occur in the Bank’s loanportfolio.

 

The allowance for loanlosses reflects management’s ongoing evaluation of the risks inherent in theloan portfolio both generally and with respect to specific loans, the state ofthe economy, and the level of net loan losses experienced in the past.  Management and the Board of Directors reviewthe results of the State Banking Department and FDIC examinations, independentaccountants’ observations, and the Bank 's internal review as additionalindicators to determine if the amount in the allowance for loan losses isadequate to protect against estimated future losses.  It is the Bank 's current practice, which could change inaccordance with the factors mentioned above, to maintain an allowance which isat least equal to the sum of the following percentage of loan balances by loancategory.

 

| **Loan Category**                        |   | **Reserve %** |   |
|------------------------------------------|--------|---------------|--------|
| Classified  Loans:                       |   |          |   |
| Loans  classified loss                   |   | 100.00        | %      |
| Loans  classified doubtful               |   | 50.00         | %      |
| Loans  classified substandard            |   |          |   |
|  Real Estate Secured                |   | 5.00          | %      |
|  Non Real Estate Secured            |   | 20.00         | %      |
|                                     |   |          |   |
| Unclassified  Loans:                     |   |          |   |
| Real  Estate - Loan to value 80% or less |   | 0.10          | %      |
| Real  Estate - Loan to value over 80%    |   | 0.50          | %      |
| Real  Estate - Construction              |   | 0.15          | %      |
| Loans  to Individuals                    |   | 3.00          | %      |
| Commercial                               |   | 2.00          | %      |
| SBA  Loans - Unguaranteed portion        |   | 2.00          | %      |
| Unfunded  Loan Commitments               |   | .25           | %      |
| Concentration  Risk Factor - Real Estate |   | .10           | %      |
| Economic  Risk Factor                    |   | .25           | %      |
| SBA  Loans - Guaranteed portion          |   | 0.00          | %      |
| Cash  Secured Loans                      |   | 0.00          | %      |

 

Although noassurance can be given that actual losses will not exceed the amount providedfor in the allowance, Management believes that the allowance is adequate toprovide for all estimated credit losses in light of all known relevantfactors.  At the end of 2001, 2000 and1999, the Bank’s allowance stood at 1.06 percent, 1.05 percent, and 1.01  percent of gross loans, respectively.  Provisions were made to the allowance forloan losses in 2001, 2000 and 1999 of 

 

24

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$185,000, $130,000, and$174,200, respectively.  Loans chargedoff totaled $88,900 in 2001, $68,900 in 2000, and $128,500 in 1999.  Recoveries for these same periods were$1,800, $7,400, and $18,100.

 

The Bank’snon-performing (delinquent 90 days or more and non-accrual) loans as apercentage of total loans were .70 percent .03 percent and .48 percent as ofthe end of 2001, 2000 and 1999, respectively.

 

Based uponstatistics released by Federal and state banking authorities regarding banks ofsimilar size or otherwise located in California, Management believes that theBank’s ratios of delinquent and non performing loans to total loans are farbetter than average.  Prudent collectionefforts, and tighter lending controls, are responsible for the Bank’s strongperformance on these measures of credit quality.  However, no assurance can be given that the Bank’s loan portfoliowill continue to measure well against its peers on these ratios and qualitymeasures, or that losses will not otherwise occur in the future.

 

**Non-Interest Income**

 

The followingtable presents a summary of the Bank’s non-interest income:

 
|                                         |   | **Years Ended December 31,** |   |
|----------------------------------------------|--------|------------------------------|--------|
|                                         |   | **2001**                     |   | **2000** |   | **1999** |   |
|                                         |   | **(Dollars in thousands)**   |   |
| Service  charges on deposit accounts         |   | 494                          |   | 418 |   | 389 |   |
| Other  service charges, commissions and fees |   | 553                          |   | 633 |   | 440 |   |
| Income  from sales and servicingof SBA loans |   | 513                          |   | 394 |   | 425 |   |
|                                         |   |                         |   |   |   |   |   |
| Total  non-interest Income                   |   | 1,560                        |   | 1,445 |   | 1,254 |   |

 

Total non-interestincome increased $114,200 (7.90%) in 2001 when compared with 2000. Servicecharges on deposit accounts increased $76,000, income from sales and servicingof SBA loans increased $118,600; while other service charges, commissions andfees decreased $80,400.  Merchant creditcard processing income increased by $64,400 during 2001 compared to 2000.

 

Total non-interestincome increased $191,300 (15.26%) in 2000 when compared with 1999. Servicecharges on deposit accounts increased $29,100 and other service charges,commissions and fees increased $193,300; while income from sales and servicingof SBA loans decreased $31,000.

 

25

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The sale of SmallBusiness Administration (SBA) guaranteed loans is a significant contributor tothe Bank’s income.  SBA guaranteed loansyield up to 3 3/4% over the New York prime rate, and the guaranteed portionscan be sold at premiums which vary with market conditions.  SBA loans are guaranteed by the full faithof the United States Government from 70 to 80 percent of the principalamount.  The guaranteed portion hasrisks comparable for an investor to a U. S. Government security and can usuallybe sold in the secondary financial market, either at a premium or at a yieldwhich allows the Bank to maintain a significant spread for itself.

 

There can be noassurance that the gains on sale will continue at, or above, the levelsrealized in the past three years.  Inaddition, increasing competition among lenders for qualified SBA borrowersmakes it difficult for the Bank to continually expand its program in this area,and may limit the level of premium that can be earned with regard thereto.  Furthermore, the SBA recently began requiringlenders to share a portion of premiums in excess of 10% earned on the sale ofthe guaranteed portions.

 

The followingtable presents a summary of the activity in SBA loans for the years ended 2001,2000 and 1999:

 
|                  |   | **2001** |      | **2000** |   | **1999**  |   |
|-----------------------|--------|----------|-----------|----------|--------|-----------|--------|
| SBA  loans authorized |   | $        | 5,141,000 |     | $      | 8,125,000 |   | $ | 2,458,000 |   |
| SBA  loans sold       |   | $        | 5,264,300 |     | $      | 4,205,300 |   | $ | 2,811,900 |   |

 
| **Summary of Income from sales and   Servicing of SBA Loans** |     |    |     |    |     |    |   |
|---------------------------------------------------------------|----------|---------|----------|---------|----------|---------|--------|
|                                                          | **2001** |    | **2000** |    | **1999** |    |
| Income  from premium                                          |     | $       | 363,800  |    | $        | 245,000 |   | $ | 267,500 |   |
| Income  from servicing                                        |     | 148,900 |     | 150,000 |     | 158,000 |   |
| Less  loan origination expense                                |     | 0       |     | (1,000  | )        | (1,000  | )      |
|                                                          |     |    |     |    |     |    |   |
| Total  income from sales and servicing of SBA loans           |     | $       | 512,700  |    | $        | 394,000 |   | $ | 424,500 |   |

 

26

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**Non-Interest Expense**

 

The following tablepresents a summary of the Bank’s other non-interest expense:

 
|                             |   | **Years   Ended  December 31,** |   |
|----------------------------------|--------|-------------------------------------------|--------|
|                             |   | **2001**                                  |   | **2000** |   | **1999** |   |
|                             |   | **(Dollars in thousands)**                |   |
| Salaries  and benefits           |   | 2,154                                     |   | 1,927 |   | 1,742 |   |
| Occupancy  and equipment expense |   | 326                                       |   | 304 |   | 297 |   |
| Professional  fees               |   | 107                                       |   | 91 |   | 74 |   |
| Data  Processing                 |   | 244                                       |   | 249 |   | 202 |   |
| Other  expenses                  |   | 808                                       |   | 737 |   | 671 |   |
|                             |   |                                      |   |   |   |   |   |
| Total  other Expenses            |   | 3,638                                     |   | 3,309 |   | 2,986 |   |

 

Salary expenseincreased $226,800 in 2001 as a result of the addition of an individual asPresident, employee merit increases and bonus payments. Salary expenseincreased $184,800 in 2000 as a result of the addition of three full timeequivalent staff positions, merit increases and bonus payments.  Salary expense increased $242,800 in 1999 asa result of the addition of two positions; a Small Business AdministrationLending Officer and a clerical staff position, employee merit increases andbonus payments.

 

Occupancy andequipment expenses increased $21,900 in 2001, with increases of $15,100 in rentexpense, $4,000 in depreciation, property taxes $17,600 while utilitiesdecreased $3,700 and repair and maintenance decreased $10,000.  Occupancy and equipment expenses increased$7,300 in 2000 due to additional premises rental expense.  Occupancy and equipment expenses increased$15,600 in 1999, with increases of $10,400 in premises rent, $3,900 indepreciation and $3,700 in equipment rental; while utilities decreased $3,000and net merchant terminal expense decreased $4,600.

 

Data processingexpense decreased $5,200 in 2001.  Dataprocessing expense increased $47,100 in 2000 as the result of increases in thenumber of accounts and transaction volumes and the implementation of a debitcard program.  Data processing expenseincreased $9,400 in 1999 as the result of increases in the number of accountsand transaction volumes and a 2% cost of living adjustment.

 

27

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In 2001professional fees increased $15,600 with accounting and audit fees increasing$2,300 and legal fees increasing $13,200. In 2000 professional fees increased $17,100 due to accounting feesrelated to the quarterly review of the Company’s Form 10-QSB filings and thirdparty loan reviews.  In 1999professional fees decreased $32,700 due to a $36,500 decrease in legal fees.

 

Other expenses for2001 totaled $808,200 compared with $737,400 in 2000, and increase of$70,300.  Significant changes occurredin the following categories with increases ATM expense $6,400, autoallowance/expense $8,000, bank fees $17,600, collections expense $16,600,donations $5,400, entertainment/meals $5,300, FDIC & State assessments$10,100, loan expense $5,900, messenger & freight $4,700, miscellaneousexpense $17,800, postage $4,100, security $14,400 and shareholder expense $4,500;while decreases occurred in business development $2,600, operations losses$28,500, subscriptions/publications $5,300 and travel $12,200.

 

Other expenses for2000 totaled $737,400 compared with $671,000 for 1999, an increase of$64,300.  Significant changes occurredin the following categories with in increases advertising $32,500, directorfees $5,500, entertainment/meals $23,200, donations $6,800, FDIC & Stateassessments $14,300, bank fees $3,600, ATM expense $3,200, messenger &freight $3,100, postage $4,300, operations losses $11,400; while decreasesoccurred in collection expense $11,300, stationary & supplies $12,000,insurance $18,100.

 

Other expenses for1999 totaled $671,000 compared with $619,600 for 1998, an increase of$52,000.  Significant changes occurredin the following categories with in increases advertising $10,500, poppyaccount expense $2,800, director fees $2,800, dues and memberships $1,900,donations $4,900, loan expense $10,800, bank fees $4,800, ATM expense $6,200,stationary/supplies $9,900, telephone $8,400, travel $9,000; while decreasesoccurred in business development $5,300, auto expense $2,000,entertainment/meals $13,200, security expense $9,100, insurance $2,700, Year2000 expense $15,400.

 

**Income Taxes**

 

In February 1992,the Financial Accounting Standards Board issued Statement of FinancialAccounting Standards No. 109, “Accounting for Income Taxes,” (Statement109).  Under the asset and liabilitymethod of Statement 109, deferred tax assets and liabilities are recognized forthe future tax conse­quences attributable to differences between the financialstatement carrying amounts of existing assets and liabilities and theirrespective tax bases.  Deferred taxassets and liabilities are measured using enacted tax rates expected to applyto taxable income in the years in which those temporary differences areexpected to be recovered or settled. Under Statement 109, the effect on deferred tax assets and liabilitiesof a change in tax rates is recognized in income in the period that includesthe enactment date.  Deferred assets arerecognized for deductible temporary differences and operating loss and taxcredit carry forwards, and then a valuation allowance is established to reducethat deferred tax asset if it is “more likely than not” that the related taxbenefits will not be realized.  The Bankadopted Statement 109 and has applied the provisions of the statement as ofJanuary 1, 1992.

 

28

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Allocation of federal andstate income taxes between current and deferred portions is as follows:

 
|                               |   | **Years Ended December 31,** |    |
|------------------------------------|--------|------------------------------|---------|
|                               |   | **2001**                     |    | **2000** |   | **1999** |   |
| Current  tax provision:            |   |                         |    |   |   |   |   |
| Federal                            |   | $                            | 228,300 |   | $ | 168,000 |   | $ | 58,600 |   |
| State                              |   | 82,900                       |    | 115,600 |   | 57,700 |   |
|                               |   | 311,200                      |    | 283,600 |   | 116,300 |   |
|                               |   |                         |    |   |   |   |   |
| Deferred  tax provision (benefit): |   |                         |    |   |   |   |   |
| Federal                            |   | (63,900                      | )       | 63,400 |   | 22,800 |   |
| State                              |   | (16,000                      | )       | 14,900 |   | 7,900 |   |
|                               |   | (79,900                      | )       | 78,300 |   | 30,700 |   |
|                               |   |                         |    |   |   |   |   |
|                               |   | $                            | 231,300 |   | $ | 361,900 |   | $ | 147,000 |   |

 

The reasons for thedifferences between the statutory federal income tax rate and the effective taxrates are summarized as follows:

 
|                                     |   | **2001** |   | **2000** |   | **1999** |   |
|------------------------------------------|--------|----------|--------|----------|--------|----------|--------|
| Statutory  federal tax rate              |   | 34.00    | %      | 34.00    | %      | 34.00    | %      |
| State  taxes, net of federal tax benefit |   | 7.20     |   | 7.20     |   | 7.20     |   |
| Other,  net                              |   | (2.20    | )      | (8.25    | )      | (16.73   | )      |
| Effective  tax rates                     |   | 39.00    | %      | 32.95    | %      | 24.47    | %      |

 

In addition, theCorporation has applied all unused general business tax credit carryforwardsfor financial reporting and income tax purposes.

 

29

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The components of the netdeferred tax asset, included in other assets, are as follows:

 
|                    |   | **2001** |    | **2000** |   |
|-------------------------|--------|----------|---------|----------|--------|
| Deferred tax asset      |   |     |    |     |   |
| Federal                 |   | $        | 262,900 |     | $      | 154,200 |   |
| State                   |   | 68,000   |    | 36,700   |   |
| Net  deferred tax asset |   | $        | 330,900 |     | $      | 190,900 |   |

 

The tax effects of eachtype of income and expense item that give rise to deferred taxes are asfollows:

 
|                                                        |   | **2001** |   | **2000** |   |
|-------------------------------------------------------------|--------|----------|--------|----------|--------|
| Deferred tax asset                                          |   |     |   |     |   |
| Accrual  to cash adjustments                                |   | —   |   | $        | 53,500 |   |
| Investments:                                                |   |     |   |     |   |
| Net  urealized (gain) loss on securities available for sale |   | 103,800  |   | (46,200  | )      |
| State  franchise tax                                        |   | 51,300   |   | 51,800   |   |
| Allowance  for loan losses                                  |   | 209,300  |   | 155,600  |   |
| Depreciation                                                |   | (33,500  | )      | (23,800  | )      |
| Net  deferred tax asset                                     |   | 330,900  |   | 190,900  |   |
|                                                             |        |          |        |          |        |  |

 

As of December 31, 2001and 2000, management expects all temporary differences to be offset againstfuture taxable income, and no valuation reserve was deemed necessary.

 

**LOANS**

 

Loans, the largestcomponent of earning assets, represented 67.69% of average earning assets, and59.76% of average total assets during 2001, compared with 67.69% and 59.76%,respectively during 2000.  In 2001,average loans increased 17.00% from $41,512,100 in 2000 to $48,569,600.  Average real estate loans increased$6,074,400 (23.99%), average installment loans increased $256,400 (50.22%) andaverage commercial loans increased $1,691,800 (13.38%); while averageconstruction loans decreased $938,000 (29.80%).

 

Loan policies andprocedures provide the overall direction to the administration of the loanportfolio.  The Bank’s loan underwritingprocess is intended to encourage sound and consistent credit decisions aremade.  Emphasis is placed upon creditquality, the borrower’s ability to repay through cash flow, secondary, and(occasionally, tertiary) repayment sources, and the value of collateral.

 

30

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The Bank’scommercial and industrial loans are generally made for the purpose of providingworking capital, financing the purchase of equipment or inventory, and otherbusiness purposes. Such loans generally have maturities ranging from one yearto several years.  Short-term businessloans are generally intended to finance current transactions and typicallyprovide for monthly interest payments with principal being payable at maturityor at 90-day intervals. Term loans (usually for a term of two to five years)normally provide for monthly installments of principal and interest.  The Bank from time to time utilizes accountsreceivable and inventory as security for loans.

 

The Bank is therecognized leader for Small Business Administration lending in Monterey County,and holds SBA’s coveted Preferred Lender Status.  Generally, SBA loans are guaranteed by the SBA for 70 to 80percent of their principal amount, which can be retained in portfolio or sold toinvestors.  Such loans are made atfloating interest rates, but generally for longer terms (up to 25 years) thanare available on a conventional basis to small businesses.  Theunguaranteed portion of the loans, although generally supported by collateral,is considered to be more risky than conventional commercial loans because theymay be based upon credit standards the Bank would not otherwise apply, such aslower cash flow coverage, or longer repayment terms.

 

The Bank’s realestate loan portfolio consists both of real estate construction loans and realestate mortgage loans.  The Bank hasinitiated a program to generate more commercial and industrial real estateloans, which generally yield higher returns than normal commercial loans.  The Bank has also developed a broker programfor generating residential real estate loans. The Bank does not make real estate development loans.  Real estateconstruction loans are made for a much shorter term, and often at higherinterest rates, than conventional single-family residential real estateloans.  The cost of administering suchloans is often higher than for other real estate loans, as principal is drawnon periodically as construction progresses.

 

The Bank alsomakes real estate loans secured by a first deed of trust on single familyresidential properties and commercial and industrial real estate.  California commercial banks are permitted,depending on the type and maturity of the loan, to lend up to 90 percent of thefair market value of real property (or more if the loan is insured either byprivate mortgage insurers or governmental agencies).  In certain instances, the appraised value may exceed the actualamount which could be realized on foreclosure, or declines in market valuesubsequent to making the loan can impair the Bank’s security.

 

Consumer loans are madefor the purpose of financing the purchase of various types of consumer goods,home improvement loans, auto loans and other personal loans.  Consumer installment loans generally providefor monthly payments of principal and interest, at a fixed rate.  Most of the Bank’s consumer installmentloans are generally secured by the personal property being purchased.  The Bank generally makes consumer loans tothose customers with a prior banking relationship with the Bank.

 

31

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The following tablepresents the composition of the loan portfolio, including loans held for sale,at December 31 for the last five years.

 
|                                   |   | **Years Ended December 31,** |   |
|----------------------------------------|--------|------------------------------|--------|
|                                   |   | **2001**                     |   | **2000** |   | **1999** |   | **1998** |   | **1997** |   |
|                                   |   | **(Dollars in thousands)**   |   |
| Commercial  and industrial             |   | 14,469                       |   | 12,988 |   | 11,441 |   | 12,084 |   | 10,843 |   |
| Real  estate, construction             |   | 1,896                        |   | 2,314 |   | 3,459 |   | 356 |   | 347 |   |
| Real  estate, mortgage                 |   | 36,010                       |   | 27,802 |   | 23,788 |   | 15,294 |   | 13,921 |   |
| Installment                            |   | 703                          |   | 518 |   | 435 |   | 390 |   | 520 |   |
| Government  guaranteed loans purchased |   | 130                          |   | 139 |   | 145 |   | 159 |   | 284 |   |
|                                   |   | 53,207                       |   | 43,760 |   | 39,267 |   | 28,282 |   | 25,914 |   |
| Less:                                  |   |                         |   |   |   |   |   |   |   |   |   |
| Allowance  for possible loan losses    |   | (566                         | )      | (468 | ) | (400 | ) | (336 | ) | (269 | ) |
| Deferred  origination fees, net        |   | (79                          | )      | (41 | ) | (49 | ) | (32 | ) | (40 | ) |
|                                   |   |                         |   |   |   |   |   |   |   |   |   |
| Net  Loans                             |   | 52,562                       |   | 43,251 |   | 38,817 |   | 27,914 |   | 25,606 |   |

 

32

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**Non-performing and Non-accrual Loans**

 

The Bank’s presentpolicy is to cease accruing interest on loans which are past due as toprincipal or interest 90 days or more, except for loans which are well securedor when collection of interest and principal is deemed likely.  When a loan is placed on non-accrual,previously accrued and unpaid interest is generally reversed out of incomeunless adequate collateral from which to collect the principal of, and intereston, the loan appears to be available.

 

The followingtable presents information with respect to loans which, as of the datesindicated, were past due 90 days or more or were placed on non-accrual status(referred to collectively as “non-performing loans”):

 
|                                                          |   | **As of December 31,**     |   |
|---------------------------------------------------------------|--------|----------------------------|--------|
|                                                          |   | **2001**                   |   | **2000** |   | **1999** |   | **1998** |   | **1997** |   |
|                                                          |   | **(Dollars in thousands)** |   |
| Accruing,  past due 90 days or more:                          |   |                       |   |   |   |   |   |   |   |   |   |
|                                                          |   |                       |   |   |   |   |   |   |   |   |   |
| Real  Estate                                                  |   | 0                          |   | 0 |   | 63 |   | 63 |   | 134 |   |
| Commercial                                                    |   | 0                          |   | 0 |   | 0 |   | 0 |   | 0 |   |
| Installment                                                   |   | 0                          |   | 0 |   | 0 |   | 0 |   | 0 |   |
| Total  accruing                                               |   | 0                          |   | 0 |   | 63 |   | 63 |   | 134 |   |
|                                                          |   |                       |   |   |   |   |   |   |   |   |   |
| Nonaccrual  Loans:                                            |   |                       |   |   |   |   |   |   |   |   |   |
|                                                          |   |                       |   |   |   |   |   |   |   |   |   |
| Real  Estate                                                  |   | 320                        |   | 0 |   | 0 |   | 0 |   | 0 |   |
| Commercial                                                    |   | 50                         |   | 15 |   | 125 |   | 57 |   | 55 |   |
| Installment                                                   |   | 0                          |   | 0 |   | 0 |   | 0 |   | 21 |   |
| Total  nonaccrual                                             |   | 370                        |   | 15 |   | 125 |   | 57 |   | 76 |   |
|                                                          |   |                       |   |   |   |   |   |   |   |   |   |
| Total  nonperforming                                          |   | 370                        |   | 15 |   | 188 |   | 120 |   | 210 |   |
|                                                          |   |                       |   |   |   |   |   |   |   |   |   |
| Total  loans end of period                                    |   | 53,207                     |   | 43,760 |   | 39,267 |   | 28,282 |   | 25,914 |   |
|                                                          |   |                       |   |   |   |   |   |   |   |   |   |
|                                                          |   |                       |   |   |   |   |   |   |   |   |   |
| Ratio  of nonperforming loans to total loans at end of period |   | 0.70                       | %      | 0.03 | % | 0.48 | % | 0.42 | % | 0.81 | % |

 

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The low level ofnon-performing loans is the result of underwriting criteria intended to beconservative, frequent review of new and delinquent loans and a firm collectionpolicy (with the assistance of outside legal counsel).  The Bank does not have any foreign loans orloans for highly leveraged transactions.

 

**Summary of Loan Loss Experience**

 
|                                                                           |   | **For the  Years ended December 31,** |       |
|--------------------------------------------------------------------------------|--------|---------------------------------------|------------|
|                                                                           |   | **2001**                              |       | **2000** |   | **1999** |   | **1998** |   | **1997** |   |
|                                                                           |   | **(Dollars in thousands)**            | ** ** |
| Average  loans outstanding                                                     |   | 48,265                                |       | 41,552 |   | 34,115 |   | 27,414 |   | 26,042 |   |
|                                                                           |   |                                  |       |   |   |   |   |   |   |   |   |
| Allowance,  beginning of period                                                |   | 468                                   |       | 400 |   | 336 |   | 269 |   | 254 |   |
|                                                                           |   |                                  |       |   |   |   |   |   |   |   |   |
| Loans  charged off during period:                                              |   |                                  |       |   |   |   |   |   |   |   |   |
| Commercial                                                                     |   | 80                                    |       | 67 |   | 128 |   | 69 |   | 101 |   |
| Installment                                                                    |   | 9                                     |       | 2 |   | 0 |   | 5 |   | 5 |   |
| Real  Estate                                                                   |   | 0                                     |       | 0 |   | 0 |   | 2 |   | 0 |   |
| Other                                                                          |   | 0                                     |       | 0 |   | 1 |   | 0 |   | 0 |   |
| Total  charge offs                                                             |   | 89                                    |       | 69 |   | 129 |   | 75 |   | 106 |   |
|                                                                           |   |                                  |       |   |   |   |   |   |   |   |   |
| Recoveries  during period:                                                     |   |                                  |       |   |   |   |   |   |   |   |   |
| Commercial                                                                     |   | 1                                     |       | 7 |   | 13 |   | 12 |   | 1 |   |
| Installment                                                                    |   | 1                                     |       | 0 |   | 5 |   | 1 |   | 1 |   |
| Other                                                                          |   | 0                                     |       | 0 |   | 0 |   | 0 |   | 0 |   |
| Total  recoveries                                                              |   | 2                                     |       | 7 |   | 18 |   | 13 |   | 2 |   |
|                                                                           |   |                                  |       |   |   |   |   |   |   |   |   |
| Net  Loans charged off during the period                                       |   | 87                                    |       | 62 |   | 111 |   | 63 |   | 104 |   |
|                                                                           |   |                                  |       |   |   |   |   |   |   |   |   |
| Additions  to allowance for possible loan losses                               |   | 185                                   |       | 130 |   | 174 |   | 130 |   | 120 |   |
|                                                                           |   |                                  |       |   |   |   |   |   |   |   |   |
| Allowance,  end of period                                                      |   | 566                                   |       | 468 |   | 400 |   | 336 |   | 269 |   |
|                                                                           |   |                                  |       |   |   |   |   |   |   |   |   |
| Ratio  of net loans charged off to average Loans outstanding during the period |   | 0.18                                  | %          | 0.15 | % | 0.32 | % | 0.23 | % | 0.40 | % |
|                                                                           |   |                                  |       |   |   |   |   |   |   |   |   |
| Ratio  of allowance to total at end of period                                  |   | 1.06                                  | %          | 1.05 | % | 1.01 | % | 1.18 | % | 1.04 | % |

 

34

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**Funding Sources**

 

Average depositsincreased 23.44% to $63,979,700 in 2001 from $59,229,400 in 2000.  In 2001 average certificates of depositincreased 10.64%, average demand deposits increased 1.69% and average interestchecking, money market and savings accounts as a group increased 8.17%.  Average certificates of deposit represented55.45% of average deposits in 2001 compared with 54.14% in 2000.  Average interest checking, money market andsavings accounts as a group were 22.87% of average deposits in 2001 comparedwith 22.84% in 2000.  Average demanddeposits represented 21.67% of average deposits in 2000 compared with 23.02% in2000.

 

The Corporation borrowed$1,000,000 on an unsecured basis from United Security Bank, Fresno, Californiaon June 28, 2001.  The rate of interestis the United Security Bank Reference Rate (the “Index”) plus .750 percentagepoints over the Index.  The noterequires monthly interest payments beginning August 5, 2001 and quarterlyprincipal payments beginning October 5, 2002 through April 5, 2011 and a finalpayment of principal on July 5, 2001. The proceeds from the loan were used topayoff an $800,000 term loan and to pay down the $200,000 line of credit withPacific Coast Bankers’ Bank.  TheCorporation renewed the $200,000 revolving line of credit for one year, withinterest due monthly.  The credit lineis secured by 93,069 shares of Monterey County Bank stock.  The rate of interest on the credit line isthe prime rate as published in the Wall Street Journal (the “Index”) plus .750percentage points over the Index.  AtDecember 31, 2001, the interest rate was 5.50% for both loans, and theoutstanding principal balances on the term note and line of credit were$1,000,000 and $200,000, respectively.

 

The Bank has lines ofcredit from the Federal Home Loan Bank of San Francisco and Pacific CoastBankers’ Bank with maximum borrowing limits on December 31, 2001 of $6,898,200and $2,500,000, respectively.  The FederalHome Loan Bank line of credit is secured by certain of the Bank’s real estatesecured loans at December 31, 2001 the total principal balances of pledgedloans was $10,382,400.  At December 31,2001 the Bank had four $1,000,000 advances from the Federal Home Loan Bank,which bear interest at 4.83%, 6.81%, 6.86% and 7.71%, respectively.  The advances mature in October 2003, June2004, August 2005 and June 2030, respectively. The Pacific Coast Bankers’ Bank line of credit is unsecured.  The Bank did not utilize any overnightborrowings in 2001, 2000 or 1999.

 

**LoanGuarantee**

 

The Coporationguarantees a loan for Community Bankers Insurance Agency, LLC.  The Corporation’s liability under theguarantee agreement, which matures September 14, 2002, is limited to $20,000.

 

35

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**Capital Resources**

 

The Corporationmaintains capital to comply with legal requirements, to provide a margin ofsafety for its depositors and stockholders, and to provide for future growthand the ability to pay dividends.  AtDecember 31, 2001, stockholders’ equity was $5,086,900 versus $4,861,300 atDecember 31, 2000.  The Corporationissued 10% stock dividends in 2000, 1999 and 1998.  The Bank paid cash dividends totaling $200,000, $100,000, and$50,000, to the Corporation in 2001, 2000 and 1999, respectively.

 

The FDIC andFederal Reserve Board have adopted capital adequacy guidelines for use in theirexamination and regulation of banks and bank holding companies.  If the capital of a bank or bank holding companyfalls below the minimum levels established by these guidelines, it may bedenied approval to acquire or establish additional banks or non-bankbusinesses, or the FDIC or Federal Reserve Board may take other administrativeactions.  The guidelines employ twomeasures of capital:  (1) risk-basedcapital and (2) leverage capital.

 

In general, therisk-based capital guidelines provide detailed definitions of which obligationswill be treated as capital, and assign different weights to various assets andoff-balance sheet items, depending upon the perceived degree of credit riskassociated with each asset.  Each assetis assigned to one of four risk-weighted categories.  For example, 0 percent for cash and unconditionally guaranteedgovernment securities; 20 percent for deposits with other banks and fed funds;50 percent for state bonds and certain residential real estate loans; and 100percent for commercial loans and other assets. Capital is categorized as either Tier 1 capital, consisting of commonstock and retained earnings (or deficit), or Tier 2 capital, which includeslimited-life preferred stock and allowance for loan losses (subject to certainlimitations).  The guidelines alsodefine and set minimum capital requirements (risk-based capital ratios), whichincreased over a transition period, ended December 31, 1992.  Under the final 1992 rules, all banks wererequired to maintain Tier 1 capital of at least 4 percent and total capital of8.0% of risk-adjusted assets. The Bank had a Tier 1 capital ratio of 9.32% and10.33% at December 31, 2001 and 2000, respectively, and a total risk-basedcapital ratio of 10.24% and 11.25% at December 31, 2000 and 1999, respectively.

 

The leverage capitalratio guidelines require a minimum leverage capital ratio of 3% of Tier 1capital to total assets less goodwill. The Bank had a leverage capital ratio of 7.52% and 7.17% at December 31,2001 and 2000, respectively.

 

**Liquidity**

 

Liquidityrepresents a bank’s ability to provide sufficient cash flows or cash resourcesin a manner that enables it to meet obligations in a timely fashion andadequately provides for anticipated future cash needs.  For the Bank, liquidity considerationsinvolve the capacity to meet expected and potential requirements of depositorsseeking access to balances and to provide for the credit demands of borrowingcustomers.  In the ordinary course ofthe Bank’s business, funds are generated from the repayment of loans,maturities within the investment securities portfolio and the acquisition ofdeposit balances and short-term borrowings. In addition, the Bank has lines of credit from the Federal Home LoanBank of San Francisco of approximately $6,898,200 

 

36

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and a $2,500,000federal funds line of credit with the Pacific Coast Bankers’ Bank to meettemporary liquidity requirements.

 

As a matter ofpolicy, the Bank seeks to maintain a level of liquid assets, includingmarketable investment securities, equal to a least 15 percent of total assets(“primary liquidity”), while maintaining sources of secondary liquidity(borrowing lines from other institutions) equal to at least an additional 10percent of assets.  In addition, itseeks to generally limit loans to not more than 90 percent of deposits. Within these ratios, the Bank generally has excess funds available to sell asfederal funds on a daily basis, and is able to fund its own liquidity needswithout the need of short-term borrowing. The Bank’s primary liquidity at December 31, 2001, 2000 and 1999 was25.79 percent, 27.88 percent, and 22.32 percent respectively, while its averageloan to deposit ratio for such years was 75.91 percent, 70.09 percent and 71.10percent respectively.  On December 29,2000the Bank received wire transfers totaling $10,030,000 forcredit to two demand deposit accounts. These deposits were temporary in nature, remaining on deposit untilJanuary 12, 2001.  These temporarydeposits inflated the Bank’s primary liquidity ratio, adjusting for thesedeposits the Bank’s primary liquidity ratio would have been 18.03%.

 

Brokered deposits aredeposit instruments, such as certificates of deposit, deposit notes, bankinvestment contracts and certain municipal investment contracts that are issuedthrough brokers and dealers who then offer and/or sell these depositinstruments to one or more investors. Additionally, deposits on which a financial institution pays an interestrate significantly higher than prevailing rates are considered to be brokereddeposits.  Federal law and regulationrestricts banks from soliciting or accepting brokered deposits, unless the bankis well capitalized under Federal guidelines. The Bank does not have any brokered deposits.

 

Management of interest rate sensitivity(asset/liability management) involves matching and repricing rates ofinterest-earning assets with interest-bearing liabilities in a manner designedto optimize net interest income within the constraints imposed by regulatoryauthorities, liquidity determinations and capital considerations.  The Bank instituted formal asset/liabilitypolicies at the end of 1989.

 

The purpose forasset/liability management is to provide stable net interest income growth byprotecting the Bank’s earnings from undue interest rate risk.  The Bank expects to generate earnings fromincreasing loan volume, appropriate loan pricing and expense control and notfrom trying to accurately forecast interest rates.  Another important function of asset/liability management ismanaging the risk/return relationships between interest rate risk, liquidity,market risk and capital adequacy.  TheBank gives priority to liquidity concerns followed by capital adequacy, theninterest rate risk and market risk in the investment portfolio.  The policy of the Bank will be to controlthe exposure of the Bank’s earnings to changing interest rates by generallymaintaining a position within a narrow range around an “earnings neutralposition.” An earnings neutral position is defined as the mix of assets andliabilities that generate a net interest margin that is not affected byinterest rate changes.  However,Management does not believe that the Bank can maintain a totally earningsneutral position.  Further, the actualtiming of repricing of assets and liabilities does not always correspond to thetiming assumed by the Bank for analytical 

 

37

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purposes.  Therefore, changes in market rates ofinterest will generally impact on the Bank’s net interest income and netinterest margin for long or short periods of time.

 

The Bank monitors itsinterest rate risk on a quarterly basis through the use of a model whichcalculates the effect on earnings of changes in the fed funds rate.  The model converts a fed funds rate changeinto rate changes for each major class of asset and liability, then simulatesthe bank’s net interest margin based on the bank’s actual repricing over a oneyear period, assuming that maturities are reinvested in instruments identicalto those maturing during the period.  AtDecember 31, 2001 the affect of a 2% increase in the fed funds rate, expressedas a percentage of equity a positive 7.3%, while a 2% decrease in the fed fundsrate was a negative 6.9% of equity.

 

The Corporation’s sourcesof revenues and liquidity are the dividends, tax equalization payments ormanagement fees from the Bank, gains on securities held in a trading accountand the line of credit from the Pacific Coast Bankers’ Bank.  The ability of the Bank to pay such items tothe Corporation is subject to limitations under state and Federal law.

 

38

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**Investment Securities**

 

                The Corporation maintainsa trading account, at fair value, consisting of marketable securities.  At December 31, 2001 the account value was$173,000.  In addition the Corporationhas a $25,000 investment in Mission Valley Bank stock and a $200,000 investmentin Lender Services Acquisition Corporation. In 2001 the Corporation took a charge to earnings of $40,000representing its investment in the Community Bank Insurance Agency, LLC.

 

The following table setsforth the book and market value of the Bank’s investment securities as ofDecember 31, 2001 and 2000:

 

INVESTMENTPORTFOLIO MIX
|                                    |   | **2001**                   |   | **2000**           |   |
|-----------------------------------------|--------|----------------------------|--------|--------------------|--------|
|                                    |   | **Book   value**           |   | **Market   value** |   | **Book   value** |   | **Market   value** |   |
|                                    |   | **(Dollars in thousands)** |   |
| Available  for sale:                    |   |                       |   |               |   |   |   |   |   |
| Federal  Home Loan Bank Stock           |   | 286                        |   | 286                |   | 269 |   | 269 |   |
| Pacific  Coast Bankers’ Bank Stock |   | 440                        |   | 440                |   | 350 |   | 350 |   |
| Corporate Debt  Securities              |   | 3,495                      |   | 3,470              |   | — |   | — |   |
| State/Local Agencies                    |   | —                     |   | —             |   | 4,548 |   | 4,745 |   |
| U.S.  Government Agencies               |   | 6,000                      |   | 6,008              |   | 1,963 |   | 1,982 |   |
| Total                                   |   | 10,221                     |   | 10,204             |   | 7,130 |   | 7,346 |   |
|                                    |   |                       |   |               |   |   |   |   |   |
| Held  to maturity:                      |   |                       |   |               |   |   |   |   |   |
| State  and Local Agencies               |   | —                     |   | —             |   | 9,052 |   | 9,194 |   |
| U.S.  Government Agencies               |   | —                     |   | —             |   | 1,999 |   | 1,969 |   |
| Total                                   |   | —                     |   | —             |   | 11,051 |   | 11,163 |   |

 

The followingtable summarizes the maturity of the Bank’s investment securities at December31, 2001:

 

INVESTMENT PORTFOLIO MATURITIES
|                            |   | **Available for Sale**     |   | **Held to Maturity** |   |
|---------------------------------|--------|----------------------------|--------|----------------------|--------|
|                            |   | **Amortized   Cost**       |   | **Fair   Value**     |   | **Amortized   Cost** |   | **Fair   Value** |   |
|                            |   | **(Dollars in thousands)** |   |
| Due between one and  five years |   | 5,768,000                  |   | 5,749,000            |   | — |   | — |   |
| Due between five and  ten years |   | 3,727,300                  |   | 3,729,400            |   |   |   |   |   |
| U.S. Government  Agencies       |   | —                     |   | —               |   | — |   | — |   |
|                            |   | 9,495,300                  |   | 9,478,400            |   | — |   | — |   |

 

39

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**ITEM 7. FINANCIAL STATEMENTS**

 

Thefollowing consolidated financial statements included in the ConsolidatedFinancial Report issued by Hutchinson and Bloodgood LLP, Certified PublicAccountants at the pages indicated are incorporated herein by reference:

 
| Independent  Auditors’ Report on the Financial Statements                                                                        | 1      |
|---------------------------------------------------------------------------------------------------------------------------------------|--------|
|                                                                                                                                  |   |
| Consolidated  Balance Sheets at December 31, 2001 and 2000                                                                            | 2      |
|                                                                                                                                  |   |
| Consolidated  Statements of Operations for each of the three years in the period ended  December 31, 2001                             | 3      |
|                                                                                                                                  |   |
| Consolidated  Statements of Changes in Stockholders’ Equity for each of the three years in  the period ended   December 31, 2001 | 4      |
|                                                                                                                                  |   |
| Consolidated  Statements of Cash Flows for each of the three years in the period ended  December 31, 2001                             | 5-6    |
|                                                                                                                                  |   |
| Notes  to Consolidated Financial Statements                                                                                           | 7-34   |

 

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**TABLE OF CONTENTS**

 
| **INDEPENDENT AUDITORS’ REPORT  ON THE FINANCIAL STATEMENTS** |   |
|--------------------------------------------------------------------|--------|
|                                                               |   |
| **FINANCIAL STATEMENTS**                                           |   |
|                                                               |   |
| Consolidated  Balance Sheets                                       |   |
| Consolidated  Statements of Operations                             |   |
| Consolidated  Statements of Changes in Shareholders’ Equity   |   |
| Consolidated  Statements of Cash Flows                             |   |
| Notes to  Consolidated Financial Statements                        |   |

 

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**NORTHERN CALIFORNIA BANCORP, INC.**

**AND SUBSIDIARY**

 

**CONSOLIDATED FINANCIAL REPORT**

 

**Years Ended December 31, 2001 and2000**

 

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**IndependentAuditors’ Report**

 

To the Board ofDirectors

NorthernCalifornia Bancorp, Inc.

Monterey,California

 

We have auditedthe accompanying consolidated balance sheets of Northern California Bancorp,Inc. and its wholly owned subsidiary, as of December 31, 2001 and 2000 and therelated consolidated statements of operations, changes in shareholders’ equity,and cash flows for each of the years in the three-year period ended December31, 2001.  These consolidated financialstatements are the responsibility of the Corporation’s management.  Our responsibility is to express an opinionon these consolidated financial statements based on our audits.

 

We conducted ouraudits in accordance with auditing standards generally accepted in the UnitedStates of America.  Those standardsrequire that we plan and perform the audits to obtain reasonable assuranceabout whether the financial statements are free of material misstatement.  An audit includes examining, on a testbasis, evidence supporting the amounts and disclosures in the financialstatements.  An audit also includesassessing the accounting principles used and significant estimates made bymanagement, as well as evaluating the overall financial statement presentation.  We believe that our audits provide areasonable basis for our opinion.

 

In our opinion,the consolidated financial statements referred to above present fairly, in allmaterial respects, the financial position of Northern California Bancorp, Inc.and its wholly owned subsidiary, as of December 31, 2001 and 2000, and theresults of their operations and their cash flows for each of the years in thethree-year period ended December 31, 2001 in conformity with accountingprinciples generally accepted in the United States of America.

 

/s/ Hutchinson andBloodgood, LLP

 

January 25, 2002

 

 

FS - 1

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**NORTHERNCALIFORNIA BANCORP, INC.AND SUBSIDIARY**

 

**CONSOLIDATEDBALANCE SHEETS December 31, 2001 and 2000**

 
| **ASSETS**                                                                                                                         |   | **2001**   |       | **2000**   |   |
|------------------------------------------------------------------------------------------------------------------------------------|--------|------------|------------|------------|--------|
| Cash  and due from banks (Note 2)                                                                                                  |   | $          | 11,392,900 |       | $      | 4,306,200 |   |
| Federal  funds sold                                                                                                                |   | —     |       | 13,050,000 |   |
| Cash  and cash equivalents                                                                                                         |   | 11,392,900 |       | 17,356,200 |   |
| Time  deposits with other financial institutions                                                                                   |   | 100,000    |       | 200,000    |   |
| Trading  assets (Note 3)                                                                                                           |   | 173,000    |       | 168,000    |   |
| Securities  available for sale (Note 4)                                                                                            |   | 10,204,000 |       | 7,346,100  |   |
| Securities,  held to maturity (Note 4)                                                                                             |   | —     |       | 11,050,900 |   |
| Other  investments                                                                                                                 |   | 225,000    |       | 40,000     |   |
| Loans,  held for sale                                                                                                              |   | 605,600    |       | 2,549,500  |   |
| Loans,  net (Notes 6 and 14)                                                                                                       |   | 51,956,300 |       | 40,701,900 |   |
| Bank  premises and equipment, net (Note 7)                                                                                         |   | 1,804,700  |       | 1,773,200  |   |
| Cash  surrender value of life insurance                                                                                            |   | 2,000,700  |       | 1,406,300  |   |
| Interest  receivable and other assets                                                                                              |   | 1,272,700  |       | 1,279,400  |   |
|                                                                                                                               |   |       |       |       |   |
| Total  assets                                                                                                                      |   | $          | 79,734,900 |       | $      | 83,871,500 |   |
|                                                                                                                               |   |       |       |       |   |
| **LIABILITIES  AND SHAREHOLDERS’ EQUITY**                                                                                     |   |       |       |       |   |
|                                                                                                                               |   |       |       |       |   |
| Deposits                                                                                                                           |   |       |       |       |   |
| Non  interest-bearing demand                                                                                                       |   | $          | 14,525,800 |       | $      | 25,311,200 |   |
| Interest-bearing  demand                                                                                                           |   | 12,014,500 |       | 10,651,600 |   |
| Savings                                                                                                                            |   | 3,849,000  |       | 2,963,400  |   |
| Time                                                                                                                               |   | 21,434,500 |       | 18,145,100 |   |
| Time  in denominations of $100,000 or more                                                                                         |   | 16,508,600 |       | 15,147,000 |   |
|                                                                                                                               |   |       |       |       |   |
| Total  deposits                                                                                                                    |   | 68,332,400 |       | 72,218,300 |   |
|                                                                                                                               |   |       |       |       |   |
| Short-term  borrowing (Note 8)                                                                                                     |   | 200,000    |       | 75,000     |   |
| Long-term  debt (Note 8)                                                                                                           |   | 1,000,000  |       | 800,000    |   |
| Federal  Home Loan Bank borrowed funds (Note 9)                                                                                    |   | 4,000,000  |       | 5,000,000  |   |
| Interest  payable and other liabilities                                                                                            |   | 1,115,600  |       | 916,900    |   |
|                                                                                                                               |   |       |       |       |   |
| Total  liabilities                                                                                                                 |   | 74,648,000 |       | 79,010,200 |   |
|                                                                                                                               |   |       |       |       |   |
| Commitments  (Note 11)                                                                                                             |   |       |       |       |   |
| Shareholders’  equity (Notes 12 and 13)                                                                                       |   |       |       |       |   |
|                                                                                                                               |   |       |       |       |   |
| Common  stock, no stated par value, authorized: 2,500,000 shares, issued and  outstanding: 1,328,207 in 2001 and 1,219,671 in 2000 |   | 4,040,600  |       | 3,716,700  |   |
| Retained  earnings                                                                                                                 |   | 1,038,000  |       | 1,054,600  |   |
| Accumulated  other comprehensive income                                                                                            |   | 8,300      |       | 90,000     |   |
|                                                                                                                               |   |       |       |       |   |
| Total  shareholders’ equity                                                                                                   |   | 5,086,900  |       | 4,861,300  |   |
|                                                                                                                               |   |       |       |       |   |
| Total  liabilities and shareholders’ equity                                                                                   |   | $          | 79,734,900 |       | $      | 83,871,500 |   |

 

The notes to consolidatedfinancial statements are an intergral part of these statments.

 

FS - 2

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**CONSOLIDATEDSTATEMENTS OF OPERATIONS**

**YearsEnded December 31, 2001, 2000, and 1999**

 
|                                                   |   | **2001**  |      | **2000**  |   | **1999**  |   |
|--------------------------------------------------------|--------|-----------|-----------|-----------|--------|-----------|--------|
| Interest  income                                       |   |      |      |      |   |      |   |
| Loans                                                  |   | $         | 4,576,300 |      | $      | 4,284,800 |   | $ | 3,474,100 |   |
| Time  deposits with other financial institutions       |   | 12,400    |      | 10,500    |   | 9,300     |   |
| Investment  securities                                 |   | 487,500   |      | 902,700   |   | 534,500   |   |
| Federal  funds sold                                    |   | 363,400   |      | 303,300   |   | 277,800   |   |
| Total  interest income                                 |   | 5,439,600 |      | 5,501,300 |   | 4,295,700 |   |
|                                                   |   |      |      |      |   |      |   |
| Interest  expense                                      |   |      |      |      |   |      |   |
| Interest-bearing  transaction accounts                 |   | 115,100   |      | 115,600   |   | 109,700   |   |
| Savings  and time deposit accounts                     |   | 1,196,500 |      | 1,168,300 |   | 882,600   |   |
| Time  deposits in denominations of $100,000 or more    |   | 833,000   |      | 763,900   |   | 523,500   |   |
| Notes  payable and other                               |   | 381,100   |      | 361,800   |   | 272,600   |   |
| Total  interest expense                                |   | 2,525,700 |      | 2,409,600 |   | 1,788,400 |   |
|                                                   |   |      |      |      |   |      |   |
| Net  interest income                                   |   | 2,913,900 |      | 3,091,700 |   | 2,507,300 |   |
| Provision  for loan losses (Note 6)                    |   | 185,000   |      | 130,000   |   | 174,200   |   |
| Net  interest income, after provision for loan losses  |   | 2,728,900 |      | 2,961,700 |   | 2,333,100 |   |
|                                                   |   |      |      |      |   |      |   |
| Other  income                                          |   |      |      |      |   |      |   |
| Service  charges on deposit accounts                   |   | 494,000   |      | 418,000   |   | 388,900   |   |
| Income  from sales and servicing of SBA loans (Note 5) |   | 512,700   |      | 394,000   |   | 424,500   |   |
| Other  income                                          |   | 489,000   |      | 633,300   |   | 440,600   |   |
| Total  other income                                    |   | 1,495,700 |      | 1,445,300 |   | 1,254,000 |   |
|                                                   |   |      |      |      |   |      |   |
| Operating  expense                                     |   |      |      |      |   |      |   |
| Salaries  and employee benefits                        |   | 2,153,500 |      | 1,926,700 |   | 1,741,900 |   |
| Occupancy  and equipment expense                       |   | 326,300   |      | 304,400   |   | 297,000   |   |
| Professional  fees                                     |   | 106,600   |      | 91,200    |   | 74,100    |   |
| Data  processing                                       |   | 243,900   |      | 249,100   |   | 202,300   |   |
| Other  general and administrative                      |   | 802,500   |      | 737,400   |   | 671,000   |   |
| Total  operating expenses                              |   | 3,632,800 |      | 3,308,800 |   | 2,986,300 |   |
|                                                   |   |      |      |      |   |      |   |
| Income  before tax provision                           |   | 591,800   |      | 1,098,200 |   | 600,800   |   |
| Income  tax provision (Note 10)                        |   | 231,300   |      | 361,900   |   | 147,000   |   |
|                                                   |   |      |      |      |   |      |   |
| Net  Income                                            |   | $         | 360,500   |      | $      | 736,300   |   | $ | 453,800 |   |
|                                                   |   |      |      |      |   |      |   |
| Earnings  per common share                             |   |      |      |      |   |      |   |
|                                                   |   |      |      |      |   |      |   |
| Basic  earnings per share Net income                   |   | $         | 0.27      |      | $      | 0.55      |   | $ | 0.35 |   |
|                                                   |   |      |      |      |   |      |   |
| Diluted  earnings per share Net income                 |   | $         | 0.23      |      | $      | 0.48      |   | $ | 0.30 |   |

 

The notes to consolidatedfinancial statements are an integral part of these statements.

 

FS - 3

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**CONSOLIDATEDSTATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY**

**YearsEnded December 31, 2001, 2000, and 1999**

 
|                                                                             |   | **Number of Shares** |   | **Common   Stock** |      | **Retained Earnings** |   | **Accumulated Other Compre-hensive Income (Loss)** |   | **Total** |    |
|----------------------------------------------------------------------------------|--------|----------------------|--------|--------------------|-----------|-----------------------|--------|----------------------------------------------------|--------|-----------|---------|
| Balance  at December 31, 1998                                                    |   | 940,322              |   | $                  | 2,962,200 |                  | $      | 504,400                                            |   | $         | (32,000 | ) | $ | 3,434,600 |   |
|                                                                             |   |                 |   |               |      |                  |   |                                               |   |      |    |
| Comprehensive  income:                                                           |   |                 |   |               |      |                  |   |                                               |   |      |    |
| Net  income for the year                                                         |   | —               |   | —             |      | 453,800               |   | —                                             |   | 453,800   |    |
| Change  in net unrealized loss on securities and other assets net of tax effects |   | —               |   | —             |      | —                |   | (30,000                                            | )      | (30,000   | )       |
| Total  comprehensive income                                                      |   |                 |   |               |      |                  |   |                                               |   | 423,800   |    |
|                                                                             |   |                 |   |               |      |                  |   |                                               |   |      |    |
| 10%  common stock dividend                                                       |   | 99,302               |   | 297,900            |      | (298,600              | )      | —                                             |   | (700      | )       |
| Repurchase  of common stock                                                      |   | (11,133              | )      | (34,200            | )         | —                |   | —                                             |   | (34,200   | )       |
| Exercise  of stock options                                                       |   | 84,150               |   | 169,500            |      | —                |   | —                                             |   | 169,500   |    |
|                                                                             |   |                 |   |               |      |                  |   |                                               |   |      |    |
| Balance  at December 31, 1999                                                    |   | 1,112,641            |   | 3,395,400          |      | 659,600               |   | (62,000                                            | )      | 3,993,000 |    |
|                                                                             |   |                 |   |               |      |                  |   |                                               |   |      |    |
| Comprehensive  income:                                                           |   |                 |   |               |      |                  |   |                                               |   |      |    |
| Net  income for the year                                                         |   | —               |   | —             |      | 736,300               |   | —                                             |   | 736,300   |    |
| Change  in net unrealized gain on securities and other assets net of tax effects |   | —               |   | —             |      | —                |   | 152,000                                            |   | 152,000   |    |
| Total  comprehensive income                                                      |   |                 |   |               |      |                  |   |                                               |   | 888,300   |    |
|                                                                             |   |                 |   |               |      |                  |   |                                               |   |      |    |
| 10%  common stock dividend                                                       |   | 110,784              |   | 332,300            |      | (332,900              | )      | —                                             |   | (600      | )       |
| Repurchase  of common stock                                                      |   | (3,754               | )      | (11,000            | )         | —                |   | —                                             |   | (11,000   | )       |
| Repurchase  of stock options                                                     |   | —               |   | —             |      | (8,400                | )      | —                                             |   | (8,400    | )       |
|                                                                             |   |                 |   |               |      |                  |   |                                               |   |      |    |
| Balance  at December 31, 2000                                                    |   | 1,219,671            |   | 3,716,700          |      | 1,054,600             |   | 90,000                                             |   | 4,861,300 |    |
|                                                                             |   |                 |   |               |      |                  |   |                                               |   |      |    |
| Comprehensive  income:                                                           |   |                 |   |               |      |                  |   |                                               |   |      |    |
| Net  income for the year                                                         |   | —               |   | —             |      | 360,500               |   | —                                             |   | 360,500   |    |
| Change  in net unrealized gain on securities and other assets net of tax effects |   | —               |   | —             |      | —                |   | (81,700                                            | )      | (81,700   | )       |
| Total  comprehensive income                                                      |   |                 |   |               |      |                  |   |                                               |   | 278,800   |    |
|                                                                             |   |                 |   |               |      |                  |   |                                               |   |      |    |
| 10%  common stock dividend                                                       |   | 120,516              |   | 361,600            |      | (362,300              | )      | —                                             |   | (700      | )       |
| Repurchase  of common stock                                                      |   | (11,980              | )      | (37,700            | )         | —                |   | —                                             |   | (37,700   | )       |
| Repurchase  of stock options                                                     |   | —               |   | —             |      | (14,800               | )      | —                                             |   | (14,800   | )       |
|                                                                             |   |                 |   |               |      |                  |   |                                               |   |      |    |
| Balance  at December 31, 2001                                                    |   | 1,328,207            |   | $                  | 4,040,600 |                  | $      | 1,038,000                                          |   | $         | 8,300   |   | $ | 5,086,900 |   |

 

The notes to consolidatedfinancial statements are an integral part of these statements.

 

FS - 4

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**CONSOLIDATEDSTATEMENTS OF CASH FLOWS**

**YearsEnded December 31, 2001, 2000, and 1999**

 
|                                                                               |   | **2001**    |       | **2000**    |   | **1999**    |   |
|------------------------------------------------------------------------------------|--------|-------------|------------|-------------|--------|-------------|--------|
| **CASH FLOWS FROM OPERATING ACTIVITIES**                                           |   |        |       |        |   |        |   |
| Net  income                                                                        |   | $           | 360,500    |        | $      | 736,300     |   | $ | 453,800 |   |
| Adjustments  to reconcile net income to net cash provided by operating activities: |   |        |       |        |   |        |   |
| Depreciation  and amortization expense                                             |   | 121,000     |       | 126,900     |   | 144,000     |   |
| Amortization  of discounts on investment securities                                |   | 3,800       |       | (700        | )      | (2,800      | )      |
| Provision  for loan losses                                                         |   | 185,000     |       | 130,000     |   | 174,200     |   |
| Amortization  of deferred servicing premium                                        |   | —      |       | 7,400       |   | 18,100      |   |
| Amortization  of deferred gains on SBA loans                                       |   | (1,500      | )          | (1,600      | )      | (3,000      | )      |
| Increase  in trading assets                                                        |   | (5,000      | )          | (33,000     | )      | (135,000    | )      |
| Increase  (decrease) in other liabilities                                          |   | 209,500     |       | (55,800     | )      | 3,100       |   |
| Increase  in other assets                                                          |   | (739,100    | )          | (174,300    | )      | (409,700    | )      |
| (Increase)  decrease in deferred tax asset                                         |   | (140,000    | )          | 41,200      |   | (16,900     | )      |
| (Increase)  decrease in interest payable                                           |   | (10,800     | )          | 63,900      |   | 88,600      |   |
| (Increase)  decrease in interest receivable                                        |   | 291,400     |       | (164,400    | )      | (152,100    | )      |
| Net  cash provided by operating activities                                         |   | 274,800     |       | 675,900     |   | 162,300     |   |
|                                                                               |   |        |       |        |   |        |   |
| **CASH FLOWS FROM INVESTING ACTIVITIES**                                           |   |        |       |        |   |        |   |
| (Increase)  decrease in time deposits                                              |   | 100,000     |       | —      |   | (100,000    | )      |
| Proceeds  from maturity of investment securities                                   |   | 32,908,600  |       | 6,246,500   |   | 1,208,400   |   |
| Purchase  of investments                                                           |   | (24,982,400 | )          | (13,587,700 | )      | (5,522,700  | )      |
| Net  increase in loans                                                             |   | (11,441,600 | )          | (2,549,800  | )      | (11,189,900 | )      |
| (Increase)  decrease in loans held for sale                                        |   | 1,943,900   |       | (1,884,200  | )      | 286,300     |   |
| Proceeds  from sale of equipment                                                   |   | —      |       | —      |   | 1,800       |   |
| Additions  to Bank premises and equipment                                          |   | (152,500    | )          | (50,300     | )      | (126,400    | )      |
| Net  cash used by investing activities                                             |   | (1,624,000  | )          | (11,825,500 | )      | (15,442,500 | )      |
|                                                                               |   |        |       |        |   |        |   |
| **CASH FLOWS FROM FINANCING ACTIVITIES**                                           |   |        |       |        |   |        |   |
| Net  increase (decrease) in deposits                                               |   | (3,885,900  | )          | 16,655,700  |   | 12,710,900  |   |
| Proceeds  from borrowings, net                                                     |   | —      |       | 1,124,900   |   | 750,000     |   |
| Repayments  of borrowings, net                                                     |   | (675,000    | )          | —      |   | —      |   |
| Proceeds  from exercise of stock options                                           |   | —      |       | —      |   | 169,500     |   |
| Repurchase  of common stock and stock options                                      |   | (52,500     | )          | (19,400     | )      | (34,200     | )      |
| Cash  dividends paid on common stock                                               |   | (700        | )          | (600        | )      | (700        | )      |
| Net  cash provided by financing activities                                         |   | (4,614,100  | )          | 17,760,600  |   | 13,595,500  |   |
|                                                                               |   |        |       |        |   |        |   |
| Net  increase (decrease) in cash and cash equivalents                              |   | (5,963,300  | )          | 6,611,000   |   | (1,684,700  | )      |
|                                                                               |   |        |       |        |   |        |   |
| **CASH AND CASH EQUIVALENTS, BEGINNING**                                           |   | 17,356,200  |       | 10,745,200  |   | 12,429,900  |   |
|                                                                               |   |        |       |        |   |        |   |
| **CASH AND CASH EQUIVALENTS, ENDING**                                              |   | $           | 11,392,900 |        | $      | 17,356,200  |   | $ | 10,745,200 |   |

 

The notes to consolidatedfinancial statements are an intergral part of these statements.

 

FS - 5

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**CONSOLIDATEDSTATEMENTS OF CASH FLOWS**

**YearsEnded December 31, 2001, 2000, and 1999**

 
|                            |   | **2001** |      | **2000** |   | **1999**  |   |
|---------------------------------|--------|----------|-----------|----------|--------|-----------|--------|
| **OTHER CASH FLOW INFORMATION** |   |     |      |     |   |      |   |
|                            |   |     |      |     |   |      |   |
| Interest  paid                  |   | $        | 2,536,700 |     | $      | 2,163,300 |   | $ | 1,609,000 |   |
|                            |   |     |      |     |   |      |   |
| Income  taxes paid              |   | $        | 353,200   |     | $      | 325,200   |   | $ | 110,200 |   |

 

The notes to consolidatedfinancial statements are an intergral part of these statements.

 

 

FS - 6

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**NOTES TO CONSOLIDATED FINANCIALSTATEMENTS**

**Years Ended December 31, 2001 and2000**

 

**Note 1.   SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES**

 

***Basis of Presentation and Consolidation***

 

The consolidatedfinancial statements include the accounts of Northern California Bancorp, Inc.(the “Corporation”) and its wholly-owned subsidiary, Monterey County Bank (the“Bank”).  All****significant intercompanybalances and transactions have been eliminated in consolidation.

 

***Use of Estimates***

 

In preparingconsolidated financial statements in conformity with accounting principlesgenerally accepted in the United States of America, management is required to makeestimates and assumptions that affect the reported amounts of assets andliabilities as of the date of the balance sheet and reported amounts ofrevenues and expenses during the reporting period.  Actual results could differ from those estimates.  Material estimates that are particularlysusceptible to significant change in the near term relate to the determinationof the allowance for loan losses, and the valuation of deferred tax assets.

 

***Business***

 

The Bank provides avariety of financial services to individuals and small businesses through itsthree offices on the Monterey Peninsula. Its primary deposit products are demand and term certificateaccounts.  Its primary lending productsare residential, commercial, and SBA loans.

 

***Cash and Cash Equivalents***

 

Cash and cash equivalentsinclude amounts due from banks and federal funds sold on a daily basis.

 

***Time Deposits with Other Financial Institutions***

 

Interest-bearing depositsin banks mature within one year and are carried at cost.

 

 

FS - 7

----

 

***Trading Activities***

 

The Corporation engagesin trading activities for its own account. Securities that are held principally for resale in the near term arerecorded in the trading assets account at fair value with changes in fair valuerecorded in earnings.  Interest anddividends are included in net interest income.

 

Quoted market prices,when available, are used to determine the fair value of tradinginstruments.  If quoted market pricesare not available, then fair values are estimated using pricing models, quotedprices of instruments with similar characteristics, or discounted cash flows.

 

***Investment Securities***

 

Investments indebt securities that management has the positive intent and ability to hold tomaturity are classified as “held to maturity” and reflected at cost, adjustedfor amortization of premiums and accretion of discounts, which are recognizedas adjustments to interest income. Other marketable securities are classified as “available for sale” and arereflected at fair value, with unrealized gains and losses excluded fromearnings and reported in other comprehensive income.  Federal Home Loan Bank and Pacific Coast Bankers’ Bank stocks arereflected at cost.  Gains and losses ondisposition are generally recognized on the trade date, based on the netproceeds and the adjusted carrying amount of the securities sold using thespecific identification method.

 

***Sales and Servicing of SBA Loans***

 

The Bankoriginates loans to customers under the Small Business Administration (SBA)program that generally provides for SBA guarantees of 70% to 80% of eachloan.  The Bank generally sells theguaranteed portion of each loan to a third party and retains only theunguaranteed portion in its own portfolio. A gain is recognized on these loans through collection on sale of apremium over the adjusted carrying value, or through retention of an ongoingrate differential less a normal service fee between the rate paid by theborrower to the Bank and the rate paid by the Bank to the purchaser (excessservicing fee).  In calculating thegain, the Bank assumes that the loans sold will be outstanding for one-half oftheir contractual lives.

 

FS - 8

----

 

The Bank’s investment inan SBA loan is allocated among the retained portion of the loan, excessservicing retained, and the sold portion of the loan, based on the relativefair market value of each portion at the time of loan origination, adjusted forpayments and other activities.  Sincethe portion retained does not carry an SBA guarantee, part of the gainrecognized on the sold portion of the loan is deferred and amortized as a yieldenhancement on the retained portion of the loan.  Excess servicing fees are reflected as an asset which isamortized over an assumed half life; in the event future prepayments aresignificant and future expected cash flows are inadequate to cover theunamortized excess servicing asset, additional amortization is recognized.

 

***Loans Held for Sale***

 

Loans held for saleconsist of the portion of loans which are guaranteed by the SBA and are carriedat the lower of cost or market.  Marketvalue for loans guaranteed by the SBA is generally determined based on theprice at which the loans were committed to be sold on the trade date.  Direct loan origination costs are recordedat settlement as an adjustment to gain or loss on sale.

 

***Loans and Loan Fees***

 

The Bank grantsmortgage, commercial, and consumer loans to customers.  A substantial portion of the loan portfoliois represented by****mortgage loans on the Monterey Peninsula.  The ability of the Bank’s debtors to honortheir contracts is dependent upon the real estate and general economic sectorsin the area.

 

Loans, as reported, havebeen reduced by****undisbursed loan funds, net deferred loan fees, and theallowance for loan losses.

 

FS - 9

----

 

***Allowance for Loan Losses***

 

The allowance for loanlosses is established through a provision for loan losses charged to earnings andis maintained at a level considered adequate to provide for reasonablyforeseeable loan losses.

 

The provision and thelevel of the allowance are evaluated on a regular basis by management and arebased upon management’s periodic review of the collectibility of the loans inlight of historical experience, known and inherent risks in the nature andvolume of the loan portfolio, adverse situations that may affect the borrower’sability to repay, estimated value of any underlying collateral, and prevailing economicconditions.  This evaluation isinherently subjective as it requires estimates that are susceptible tosignificant change.  In addition,various regulatory agencies, as an integral part of their examination process,periodically review the Bank’s allowance for losses on loans and other realestate owned.

 

Such agencies may requirethe Bank to recognize additions to the allowance based on their judgment ofinformation available to them at the time of their examination.  Ultimately, losses may vary from currentestimates and future additions to the allowance may be necessary.

 

Loan losses are chargedagainst the allowance when management believes the collectibility of the loanbalance is unlikely.  Subsequentrecoveries, if any, are credited to the allowance.

 

A loan is consideredimpaired when, based on current information and events, it is probable that acreditor will be unable to collect the scheduled payments of principal orinterest when due according to the contractual terms of the loan agreement.  Factors considered by management indetermining impairment include payment status, collateral value, and theprobability of collecting scheduled principal and interest payments when due.  Loans that experience insignificant paymentdelays and payment shortfalls generally are not classified as impaired.Management determines the significance of payment delays and payment shortfallson a case-by-case basis, taking into consideration all of the circumstancessurrounding the loan and the borrower, including the length of the delay, thereasons for the delay, the borrower’s prior payment record, and the amount ofthe shortfall in relation to the principal and interest owed.  Impairment is measured on a loan-by-loan basisby either the present value of expected future cash flows discounted at theloan’s effective interest rate, the loan’s obtainable market price, or the fairvalue of the collateral if the loan is collateral dependent.  Substantially all of the Bank’s loans whichhave been identified as impaired have been measured by the fair value ofexisting collateral.

 

Large groups of smallerbalance homogeneous loans are collectively evaluated for impairment.  Accordingly, the Bank does not separatelyidentify individual consumer loans for impairment disclosures.

 

 

FS - 10

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***Loan Servicing***

 

The Bank has adoptedStatement of Financial Accounting Standards (“SFAS”) No. 122, “Accounting forMortgage Servicing Rights,” as superseded by SFAS No. 125, “Accounting forTransfers and Servicing of Financial Assets and Extinguishments ofLiabilities,” whereby rights to service loans for others are capitalized asseparate assets, whether acquired through purchase or origination, if suchloans are sold or securitized with servicing rights retained.  Accordingly, the total cost of the loan isallocated to the related servicing right and to the loan based on the relativefair values if it is practicable to estimate those fair values.

 

The Bank estimates fairvalue based on the present value of estimated expected future cash flows usingprepayment speeds and discount rates commensurate with the risks involved, andservicing costs determined on an incremental cost basis.  Prior to the adoption of SFAS No. 122, thecapitalization of originated mortgage servicing rights was not allowed underaccounting principles generally accepted in the United States of America.

 

Capitalized mortgageservicing rights are amortized to servicing revenue in proportion to, and overthe period of, estimated net servicing revenues.  Impairment of mortgage servicing rights is assessed based on thefair value of those rights.  Forpurposes of measuring impairment, the rights are stratified based on thefollowing predominant risk characteristics of the underlying loans: loan type,size, note rate, date of origination, term, and geographic location.  Impairment is recognized through a valuationallowance for an individual stratum, to the extent that fair value is less thanthe capitalized amount for the stratum.

 

FS - 11

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***Banking Premises and Equipment***

 

Land is carried atcost.  Buildings and equipment arecarried at cost, less accumulated depreciation computed on the straight-linemethod over the estimated useful lives of the assets.

 

It is general practice tocharge the cost of****maintenance and repairs to earnings whenincurred; major expenditures for betterments are capitalized and depreciated.

 

***Income Taxes***

 

Deferred tax assets andliabilities are reflected at currently enacted income tax rates applicable tothe period in which the deferred tax assets or liabilities are expected to berealized or settled.  As changes in taxlaws or rates are enacted, deferred tax assets and liabilities are adjustedaccordingly through the provision for income taxes.

 

***Stock Compensation Plans***

 

Statement of FinancialAccounting Standards (“SFAS”) No. 123, “Accounting for Stock-BasedCompensation,” encourages all entities to adopt a fair value based method ofaccounting for employee stock compensation plans, whereby compensation cost ismeasured at the grant date based on the value of the award and is recognizedover the service period, which is usually the vesting period.  However, it also allows an entity tocontinue to measure compensation cost for those plans using the intrinsic valuebased method of accounting prescribed by Accounting Principles Board (“APB”)Opinion No. 25, “Accounting for Stock Issued to Employees,” wherebycompensation cost is the excess, if any, of the quoted market price of thestock at the grant date (or other measurement date) over the amount an employeemust pay to acquire the stock.  Stockoptions issued under the Corporation’s stock option plan have no intrinsicvalue at the grant date, and under Opinion No. 25 no compensation cost isrecognized for them.  Under theCorporation’s employee stock purchase plan, compensation cost is recognized tothe extent that the quoted market price of the stock on the date of grantexceeds the amount that the employee is required to pay.  The Corporation has elected to continue withthe accounting methodology in Opinion No. 25 and, as a result, has provided proforma disclosures of net income, earnings per share, and other disclosures, asif the fair value based method of accounting had been applied.  The pro forma disclosures include theeffects of all awards granted on or after January 1, 1995.  (See Note 13.)

 

 

FS - 12

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***Earnings per share***

 

Basic earnings per sharerepresents income available to common shareholders divided by theweighted-average number of common shares outstanding during the period.  Diluted earnings per share reflectsadditional common shares that would have been outstanding if dilutive potentialcommon shares had been issued, as well as any adjustment to income that wouldresult from the assumed issuance. Potential common shares that may be issued by the Corporation relatesolely to outstanding stock options, and are determined using the treasurystock method.  The weighted averagenumber of shares used in the computation of basic earnings per share was1,333,859 for 2001, 1,343,941 for 2000, and 1,286,650 for 1999.  The weighted average number of shares usedin the computation of earnings per share assuming dilution of stock options was1,553,300 for 2001, 1,544,399 for 2000, and 1,520,016 for 1999.  The 10% stock dividend was retroactivelyreflected in the 2000 and 1999 weighted shares.

 

***Subsequent Accounting Change***

 

On June 20, 2001, theFinancial Accounting Standards Board (“FASB”) issued SFAS No. 141, “BusinessCombinations,” and No. 142, “Goodwill an Other Intangible Assets.”  SFAS No. 141 requires that the purchasemethod of accounting be used for all business combinations initiated after June30, 2001, [except for combinations between two or more mutual enterprises forwhich interpretive guidance will be issued at a later date.]  With the adoption of SFAS No. 142, effectiveJanuary 1, 2002, goodwill is no longer subject to amortization over itsestimated useful life, but will be subject to at least an annual assessment forimpairment by applying a fair value based test.  Additionally, under SFAS No. 142, acquired intangible assets(such as core deposit intangibles) should be separately recognized if thebenefit of the intangible asset is obtained through contractual or other legalrights, or if the intangible asset can be sold, transferred, licensed, rented,or exchanged, regardless of the intent to do so.  Unidentified intangible assets pertaining to branch acquisitionswill continue to be amortized as such transactions are outside the scope ofSFAS No. 142.  Management does notanticipate that the adoption of this Statement will have a material impact onthe consolidated financial statements.

 

FS - 13

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***Comprehensive Income***

 

Accounting principlesgenerally require that recognized revenue, expenses, gains, and losses beincluded in net income. Although certain changes in assets and liabilities,such as unrealized gains and losses on available-for-sale securities, arereported as a separate component of the equity section of the balance sheet,such items, along with net income, are components of comprehensive income.

 

The components of othercomprehensive income and related tax effects are as follows:

 

|                                                                                 |   | **2001** |     | **2000** |   | **1999** |   |
|--------------------------------------------------------------------------------------|--------|----------|----------|----------|--------|----------|--------|
| Unrealized holding gains (losses) on  available-for-sale securities and other assets |   | $        | (194,600 | )        | $      | 277,900  |   | $ | (54,600 | ) |
| Tax  effect                                                                          |   | 112,900  |     | (125,900 | )      | 24,600   |   |
|                                                                                 |   |     |     |     |   |     |   |
| Net-of-tax  amount                                                                   |   | $        | (81,700  | )        | $      | 152,000  |   | $ | (30,000 | ) |

 

***Reclassification***

 

Certain amounts have beenreclassified in the 2000 financial statements to conform to the 2001presentation.

 

**Note 2.   CASH AND DUEFROM BANKS**

 

Aggregate reserves (inthe form of cash and deposits with the Federal Reserve Bank) of $461,000  were maintained to satisfy federalregulatory requirements at December 31, 2001.

 

**Note 3.   TRADING ASSETS**

 

At December 31, 2001 and2000, trading assets, at fair value, consisted of marketable equity securitiesin the amount of $173,000 and $168,000, respectively.

 

FS - 14

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**Note 4.   INVESTMENTSECURITIES**

 

The amortized cost andfair value of investment securities, with gross unrealized gains and losses,follows:

 
|                                    |   | **December 31, 2001** |       |
|-----------------------------------------|--------|-----------------------|------------|
|                                    |   | **Amortized  Cost**   | ** ** | **Gross   Unrealized   Gains** |   | **Gross   Unrealized   Losses** | ** ** | **Fair   Value** | ** ** |
| Securities  Available for Sale          |   |                  |       |   |   |   |   |   |   |
| U.S.  Government Agencies               |   | $                     | 6,000,000  |   | $ | 8,000 |   | $ | — |   | $ | 6,008,000 |   |
| Corporate  Debt Securities              |   | 3,495,300             |       | — |   | 24,900 |   | 3,470,400 |   |
| Federal  Home Loan Bank                 |   | $                     | 285,700    |   | — |   | — |   | 285,700 |   |
| Pacific  Coast Banker’s Bank Stock |   | 439,900               |       | — |   | — |   | 439,900 |   |
| Total  securities available for sale    |   | $                     | 10,220,900 |   | $ | 8,000 |   | $ | 24,900 |   | $ | 10,204,000 |   |
|                                    |   |                  |       |   |   |   |   |   |   |
|                                    |   | **December 31, 2000** | ** ** |
| Securities  Available for Sale          |   |                  |       |   |   |   |   |   |   |
| State  and Local Agencies               |   | $                     | 4,548,600  |   | $ | 196,200 |   | $ | — |   | $ | 4,744,800 |   |
| U.S.  Government Agencies               |   | 1,962,400             |       | 19,900 |   | — |   | 1,982,300 |   |
| Federal  Home Loan Bank                 |   | 269,100               |       | — |   | — |   | 269,100 |   |
| Pacific  Coast Banker’s Bank Stock |   | 349,900               |       | — |   | — |   | 349,900 |   |
| Total  securities available for sale    |   | $                     | 7,130,000  |   | $ | 216,100 |   | $ | — |   | $ | 7,346,100 |   |
|                                    |   |                  |       |   |   |   |   |   |   |
| Securities  Held to Maturity            |   |                  |       |   |   |   |   |   |   |
| State  and Local Agencies               |   | $                     | 9,051,700  |   | $ | 141,800 |   | — |   | $ | 9,193,500 |   |
| U.S.  Government Agencies               |   | 1,999,200             |       | — |   | 30,000 |   | 1,969,200 |   |
| Total  securities held to maturity      |   | $                     | 11,050,900 |   | $ | 141,800 |   | $ | 30,000 |   | $ | 11,162,700 |   |
|                                         |        |                       |            |  |  |  |  |  |  |  |  |  |  |  |  |

 

FS - 15

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The Bank’s investment inFederal Home Loan Bank stock is required as part of a borrowing agreement.  The stock will be redeemed at par value.

 

The amortized cost andfair value of debt securities by contractual maturity at December 31, 2001 areshown below.  Expected maturities willdiffer from contractual maturities because borrowers may have the right to callor prepay obligations with or without call or prepayment penalties.

 
|                            |   | **Available for Sale** |      |
|---------------------------------|--------|------------------------|-----------|
|                            |   | **Amortized  Cost**    |      | **Fair  Value** |   |
| Due  between one and five years |   | $                      | 5,768,000 |   | $ | 5,749,000 |   |
| Due  between five and ten years |   | 3,727,300              |      | 3,729,400 |   |
|                            |   |                   |      |   |   |
|                            |   | $                      | 9,495,300 |   | $ | 9,478,400 |   |

 

Proceeds from maturityand sales of investment securities during 2001 and 2000, respectively, were$32,908,600 and $6,246,500.  Realizedgains during 2001 and 2000, respectively, were $59,700 and $74,700.

 

FS - 16

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**Note 5.   SALES AND SERVICING OF SBA LOANS**

 

A summary of the activityof SBA loans follows:

 
|                 |   | **2001** |      | **2000** |   | **1999**  |   |
|----------------------|--------|----------|-----------|----------|--------|-----------|--------|
| SBA loans originated |   | $        | 5,141,000 |     | $      | 8,125,000 |   | $ | 7,083,000 |   |
|                 |   |     |      |     |   |      |   |
| SBA  loans sold      |   | $        | 5,264,300 |     | $      | 4,205,300 |   | $ | 5,357,900 |   |

 

A summary of income fromSBA loans sold is as follows:

 
|                                  |   | **2001** |    | **2000** |   | **1999** |   |
|---------------------------------------|--------|----------|---------|----------|--------|----------|--------|
| Income from premiums                  |   |     | 363,800 |     | $      | 244,900  |   | $ | 267,500 |   |
| Income  from servicing                |   | 148,900  |    | 150,100  |   | 158,000  |   |
| Less  loan origination expense        |   | —   |    | (1,000   | )      | (1,000   | )      |
| Total  SBA sales and servicing income |   | $        | 512,700 |     | $      | 394,000  |   | $ | 424,500 |   |

 

FS - 17

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**Note 6.   LOANS ANDALLOWANCE FOR LOAN LOSSES**

 

A summary of loanbalances follows:

 
|                                   |   | **2001**   |       | **2000**   |   |
|----------------------------------------|--------|------------|------------|------------|--------|
| Commercial  and industrial             |   | $          | 13,863,200 |       | $      | 10,438,600 |   |
| Construction                           |   | 1,896,000  |       | 2,313,800  |   |
| Real  estate, mortgage                 |   | 36,009,500 |       | 27,801,600 |   |
| Installment                            |   | 702,600    |       | 518,500    |   |
| Government  guaranteed loans purchased |   | 130,100    |       | 139,000    |   |
|                                   |   | 52,601,400 |       | 41,211,500 |   |
| Allowance  for loan losses             |   | (566,300   | )          | (468,500   | )      |
| Deferred  origination fees, net        |   | (78,800    | )          | (41,100    | )      |
| Loans,  net                            |   | $          | 51,956,300 |       | $      | 40,701,900 |   |

 

The maturities of totalloans follows:

 
|                        |   | **2001**   |             | **2000**   |   |
|-----------------------------|--------|------------|------------------|------------|--------|
| Loans  with a fixed rate:   |   |       |             |       |   |
| Due  within one year        |   | $          |  5,144,900  |       | $      |  2,691,300 |   |
| Due  two to five years      |   | 12,837,900 |             | 18,898,200 |   |
| Due  over five years        |   | 6,323,600  |             | 3,211,200  |   |
|                        |   | 24,306,400 |             | 24,800,700 |   |
| Loans  with a variable rate |   | 28,295,000 |             | 16,410,800 |   |
| Total  loans                |   | $          |  52,601,400 |       | $      |  41,211,500 |   |

 

FS - 18

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An analysis of theallowance for loan losses follows:

 
|                       |   | **2001** |    | **2000** |   | **1999** |   |
|----------------------------|--------|----------|---------|----------|--------|----------|--------|
| Beginning balance          |   | $        | 468,500 |     | $      | 400,000  |   | $ | 336,200 |   |
| Recoveries                 |   | 1,700    |    | 7,400    |   | 18,100   |   |
| Loans  charged off         |   | (88,900  | )       | (68,900  | )      | (128,500 | )      |
| Provision  for loan losses |   | 185,000  |    | 130,000  |   | 174,200  |   |
| Ending  balance            |   | $        | 566,300 |     | $      | 468,500  |   | $ | 400,000 |   |

 

As of December 31, 2001,2000, and 1999 the recorded investment in impaired loans totaled $1,187,800,$981,100, and $610,800 with corresponding valuation allowances of $78,600,$59,800, and $39,700, respectively.  Noadditional amounts are committed to be advanced in connection with impairedloans.

 

As of December 31, 2001,2000, and 1999 the average recorded investment in impaired loans amounted toapproximately $984,200, $409,700, and $176,400, respectively.  Non-accrual loans totaled $370,300, $15,400,and $124,700 at December 31, 2001, 2000 and 1999, respectively.  If interest on non-accrual loans had beenaccrued, such income would have approximated $21,300, $1,100, and $3,900 for2001, 2000, and 1999, respectively.

 

**Note 7.****          BANKING****PREMISES AND EQUIPMENT**

 

A summary of the cost and accumulated depreciation ofbanking premises and equipment and their estimated useful lives follows:

 
|                      |   | **2001**   |      | **2000**   |   | **Estimated   Useful Lives** |   |
|---------------------------|--------|------------|-----------|------------|--------|------------------------------|--------|
| Building  and land        |   | $          | 915,400   |       | $      | 915,400                      |   | 40 years |   |
| Building  improvements    |   | 408,500    |      | 400,200    |   | 40 years                     |   |
| Leasehold  improvements   |   | 500,100    |      | 471,000    |   | Lease term                   |   |
| Furniture  and equipment  |   | 1,395,700  |      | 1,297,300  |   | 3-8 years                    |   |
|                      |   | 3,219,700  |      | 3,083,900  |   |                         |   |
| Accumulated  depreciation |   | (1,415,000 | )         | (1,310,700 | )      |                         |   |
|                      |   | $          | 1,804,700 |       | $      | 1,773,200                    |   |   |   |

 

Depreciation expense of$121,000, $126,900, and $144,000 was included****in occupancy and equipmentexpense for the years ended 2001, 2000, and 1999, respectively.

 

FS - 19

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**Note 8.   SHORT-TERMBORROWING AND LONG-TERM DEBT**

 

The Corporation borrowed $1,000,000 on an unsecuredbasis from United Security Bank, Fresno, California on June 28, 2001.  The rate of interest is the United SecurityBank Reference Rate (the “Index”) plus .750 percentage points over theIndex.  The note requires monthlyinterest payments beginning August 5, 2001 and quarterly principal and interestpayments beginning October 5, 2002 through April 5, 2011 and a final payment ofprincipal and interest on July 5, 2011. The proceeds from the borrowing wereused to payoff an $800,000 term loan and to pay down the $200,000 line ofcredit with Pacific Coast Bankers’ Bank. The Corporation renewed the $200,000 revolving line of credit for oneyear, with interest due monthly.  Thecredit line is secured by 93,069 shares of Monterey County Bank stock.  The rate of interest on the credit line isthe prime rate as published in the Wall Street Journal (the “Index”) plus .750percentage points over the Index.  AtDecember 31, 2001, the interest rate was 5.50% for both borrowings, and theoutstanding principal balances on the term note and line of credit were$1,000,000 and $200,000, respectively.

 

**Note 9.****          FEDERAL HOME LOAN BANKBORROWINGS**

 

The Bank entered into an advance and securityagreement with the Federal Home Loan Bank of San Francisco on January 21,1993.  At December 31, 2001, the Bankhas four $1,000,000 advances, which bear interest at 4.83%, 6.81%, 6.86%, and7.72%, respectively.  The advances aresecured by pledged loan principal in the amount of $10,382,400.** **The advances mature in October2003, June 2004, August 2005, and June 2030, respectively.

 

FS - 20

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**Note 10. INCOME TAXES**

 

Allocation of federal and state income taxes betweencurrent and deferred portions is as follows:

 
|                               |   | **2001** |    | **2000** |   | **1999** |   |
|------------------------------------|--------|----------|---------|----------|--------|----------|--------|
| Current tax provision:             |   |     |    |     |   |     |   |
| Federal                            |   | $        | 228,300 |     | $      | 168,000  |   | $ | 58,600 |   |
| State                              |   | 82,900   |    | 115,600  |   | 57,700   |   |
|                               |   | 311,200  |    | 283,600  |   | 116,300  |   |
| Deferred  tax provision (benefit): |   |     |    |     |   |     |   |
| Federal                            |   | (63,900  | )       | 63,400   |   | 22,800   |   |
| State                              |   | (16,000  | )       | 14,900   |   | 7,900    |   |
|                               |   | (79,900) |    | 78,300   |   | 30,700   |   |
|                               |   | $        | 231,300 |     | $      | 361,900  |   | $ | 147,000 |   |

 

The reasons for the differences between the statutoryfederal income tax rate and the effective tax rates are summarized as follows:

 
|                                     |   | **2001** |   | **2000** |   | **1999** |   |
|------------------------------------------|--------|----------|--------|----------|--------|----------|--------|
| Statutory federal tax rate               |   | 34.00    | %      | 34.00    | %      | 34.00    | %      |
| State  taxes, net of federal tax benefit |   | 7.20     |   | 7.20     |   | 7.20     |   |
| Other,  net                              |   | (2.20    | )      | (8.25    | )      | (16.73   | )      |
| Effective  tax rates                     |   | 39.00    | %      | 32.95    | %      | 24.47    | %      |

 

In addition, the Corporation has applied all unusedgeneral business tax credit carryforwards for financial reporting and incometax purposes.

 

FS - 21

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The components of the net deferred tax asset, includedin other assets, are as follows:

 
|                    |   | **2001** |    | **2000** |   |
|-------------------------|--------|----------|---------|----------|--------|
| Deferred  tax asset     |   |     |    |     |   |
| Federal                 |   | $        | 262,900 |     | $      | 154,200 |   |
| State                   |   | 68,000   |    | 36,700   |   |
| Net  deferred tax asset |   | $        | 330,900 |     | $      | 190,900 |   |

 

The tax effects of each typeof income and expense item that give rise to deferred taxes are as follows:

 
|                                      |   | **2001** |    | **2000** |   |
|-------------------------------------------|--------|----------|---------|----------|--------|
| Deferred tax assets (liabilities)         |   |     |    |     |   |
| Accrual  to cash adjustments              |   | $        | —  |     | $      | 53,500 |   |
| Investments:                              |   |     |    |     |   |
| Net  unrealized (gain) loss on securities |   | 103,800  |    | (46,200  | )      |
| State  franchise tax                      |   | 51,300   |    | 51,800   |   |
| Allowance  for loan losses                |   | 209,300  |    | 155,600  |   |
| Depreciation                              |   | (33,500  | )       | (23,800  | )      |
| Net  deferred tax asset                   |   | $        | 330,900 |     | $      | 190,900 |   |

 

As of December 31, 2001 and 2000, management expectsall temporary differences to be offset against future taxable income, and novaluation reserve was deemed necessary.

 

FS - 22

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**Note 11. COMMITMENTS AND CONTINGENCIES**

 

In the normal course of business, there areoutstanding commitments and contingencies which are not reflected in theconsolidated financial statements.

 

***Operating lease commitments***

 

The Bank leases its branch buildings in Carmel andPacific Grove.  The Carmel building hasa twenty-five year lease which commenced in March 1981 and may be adjustedannually for changes in the Consumer Price Index.  The Pacific Grove building has a five-year lease with five,five-year options and commenced in April 1997. The Bank also leases certain equipment used in the normal course ofbusiness.

 

Rent expense for operating leases is included inoccupancy and equipment expense and amounted to approximately $113,500,$80,200, and $72,400 in 2001, 2000, and 1999, respectively.

 

At December 31, 2001, approximate future minimumrental commitments for all noncancelable operating leases are as follows:

 

| 2002       |   | $       | 164,000 |   |
|------------|--------|---------|---------|--------|
| 2003       |   | 151,500 |    |
| 2004       |   | 132,400 |    |
| 2005       |   | 124,100 |    |
| 2006       |   | 39,000  |    |
| Thereafter |   | 7,500   |    |
|       |   | $       | 618,500 |   |

 

***Loan commitment***s

 

The Bank is a party to financial instruments withoff-balance-sheet risk in the normal course of business to meet the financingneeds of its customers.  These financialinstruments include commitments to extend credit.  Such commitments involve, to varying degrees, elements of creditand interest rate risk in excess of the amount recognized in the consolidatedbalance sheets.

 

The Bank’s exposure to credit loss is represented bythe contractual amount of these commitments. The Bank uses the same credit policies in making commitments as it doesfor on-balance-sheet instruments.

 

At December 31, 2001 and 2000, such commitments toextend credit were approximately $7,968,500 and $7,702,700, respectively, ofundisbursed lines of credit and undisbursed loans in process.

 

FS - 23

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***Loan Guarantee***

 

The Corporation guarantees a loan for CommunityBankers Insurance Agency, LLC.  TheCorporation’s liability under the guarantee agreement, which matures September14, 2002, is limited to $20,000.

 

**Note 12. SHAREHOLDERS’ EQUITY**

 

***Minimum regulatory requirements***

 

The Corporation (on a consolidated basis) and the Bankare subject to various regulatory capital requirements administered by thefederal banking agencies.  Failure tomeet minimum capital requirements can initiate certain mandatory and possiblyadditional discretionary actions by regulators that, if undertaken, could havea direct material effect on the Corporation’s and Bank’s financialstatements.  Under capital adequacyguidelines and the regulatory framework for prompt corrective action, theCorporation and the Bank must meet specific capital guidelines that involvequantitative measures of their assets, liabilities, and certainoff-balance-sheet items as calculated under regulatory accountingpractices.  The capital amounts andclassifications are also subject to qualitative judgements by the regulatorsabout components, risk weightings, and other factors.  Prompt corrective action provisions are not applicable to bankholding companies.

 

Quantitative measures established by regulation toensure capital adequacy require the Corporation and the Bank to maintainminimum amounts and ratios (set forth in the following table) of total and Tier1 capital (as defined in the regulations) to risk-weighted assets (as defined)and of Tier 1 capital (as defined) to average assets (as defined).  Management believes, as of December 31, 2001and 2000, that the Corporation and the Bank met all capital adequacyrequirements to which they are subject.

 

As of December 31, 2001, the most recent notificationfrom the Federal Deposit Insurance Corporation categorized the Bank as wellcapitalized under the regulatory framework for prompt corrective action.  To be categorized as well capitalized, aninstitution must maintain minimum total risk-based, Tier 1 risk-based, and Tier1 leverage ratios as set forth in the following tables.  There are no conditions or events since thenotification that management believes have changed the Bank’s category.  The Corporation’s and the Bank’s actualcapital amounts and ratios as of December 31, 2001 and 2000 are also presentedin the tables.

 

FS - 24

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|                                     | **December 31, 2001** |
|------------------------------------------|-----------------------|
|                                     |                  | **Actual** |   | **Minimum   Capital   Requirement** |   | **Minimum To Be Well Capitalized  Under   Prompt Corrective   Action Provisions** |   |
|                                     |                  | **Amount** |   | **Ratio** |   | **Amount** |   | **Ratio** |   | **Amount** |   | **Ratio** |   |
|                                     |                  | **(All dollars in thousands)** |   |
| Total Capital to Risk Weighted Assets:   |                  |   |   |   |   |   |   |   |   |   |   |   |   |
| Consolidated                             |                  | $ | 5,656 |   | 9.1 | % | $ | 4,984 |   | 8.0 | % | N/A |   | N/A |   |
| Monterey  County Bank                    |                  | 6,333 |   | 10.3 | % | 4,943 |   | 8.0 | % | $ | 6,179 |   | 10.0 | % |
| Tier  1 Capital to Risk Weighted Assets: |                  |   |   |   |   |   |   |   |   |   |   |   |   |
| Consolidated                             |                  | 5,087 |   | 8.2 | % | 2,488 |   | 4.0 | % | N/A |   | N/A |   |
| Monterey  County Bank                    |                  | 5,767 |   | 9.3 | % | 2,468 |   | 4.0 | % | 3,707 |   | 6.0 | % |
| Tier  1 Capital to Average Assets:       |                  |   |   |   |   |   |   |   |   |   |   |   |   |
| Consolidated                             |                  | 5,087 |   | 6.6 | % | 3,085 |   | 4.0 | % | N/A |   | N/A |   |
| Monterey  County Bank                    |                  | 5,767 |   | 7.5 | % | 3,065 |   | 4.0 | % | 3,831 |   | 5.0 | % |
|                                          |                       |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |

 
|                                     | **December 31, 2000** |
|------------------------------------------|-----------------------|
|                                     |                  | **Actual** |   | **Minimum   Capital   Requirement** |   | **Minimum To Be   Well Capitalized Under   Prompt Corrective   Action Provisions** |   |
|                                     |                  | **Amount** |   | **Ratio** |   | **Amount** |   | **Ratio** |   | **Amount** |   | **Ratio** |   |
|                                     |                  | **(All dollars in thousands)** |   |
| Total Capital to Risk Weighted Assets:   |                  |   |   |   |   |   |   |   |   |   |   |   |   |
| Consolidated                             |                  | $ | 5,330 |   | 10.4 | % | $ | 4,097 |   | 8.0 | % | N/A |   | N/A |   |
| Monterey  County Bank                    |                  | 5,692 |   | 11.2 | % | 4,074 |   | 8.0 | % | $ | 5,093 |   | 10.0 | % |
| Tier  1 Capital to Risk Weighted Assets: |                  |   |   |   |   |   |   |   |   |   |   |   |   |
| Consolidated                             |                  | 4,861 |   | 9.5 | % | 2,048 |   | 4.0 | % | N/A |   | N/A |   |
| Monterey  County Bank                    |                  | 5,224 |   | 10.3 | % | 2,037 |   | 4.0 | % | 3,056 |   | 6.0 | % |
| Tier  1 Capital to Average Assets:       |                  |   |   |   |   |   |   |   |   |   |   |   |   |
| Consolidated                             |                  | 4,861 |   | 9.5 | % | 2,047 |   | 4.0 | % | N/A |   | N/A |   |
| Monterey  County Bank                    |                  | 5,224 |   | 9.2 | % | 2,037 |   | 4.0 | % | 2,546 |   | 5.0 | % |
|                                          |                       |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

FS - 25

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**Note 13. STOCK OPTIONSAND STOCK DIVIDENDS**

 

On June 12, 1998, the 1998 Stock Option Plan wasapproved by the shareholders. Under the Plan, options may be granted toofficers, key employees, and directors of the Corporation and it’s subsidiary,so long as a majority of the equity interests of such subsidiary are owned bythe Corporation.  Incentive StockOptions may be granted at prices not lower than 100% of the fair market valueof the common stock on the date of grant. However, an incentive stock optiongranted to an individual owning 10% or more of the Corporation’s stock aftersuch grant must have an exercise price of at least 110%****of such fair market valueand an exercise period of not more than five years.  Non-qualified stock options may be granted at prices not lowerthan 85% of the fair market value of the common stock on the date ofgrant.  The Board of Directors isauthorized to determine when options become exercisable within a period notextending 10 years from the date of grant. The maximum number of shares available for issuance under the Plan is250,000****sharessubject to adjustment for stock dividends and stock buy-backs.  On April 19, 2001, the Corporation amendedthe plan to increase the maximum number of shares by 129,071. During 2001, noincentive stock options were granted to employees.

 

The Corporation applies APB Opinion 25 and relatedInterpretations in accounting for the plan. Accordingly, no compensation cost has been recognized.  Had compensation cost for the Corporation’sstock-based compensation plan been determined based on the fair value at thegrant date for awards under the plan consistent with the method prescribed bySFAS No. 123, the Corporation’s net income and basic earnings per share wouldhave been adjusted to the pro forma amounts indicated below:

 
| Net income:                           |   |    |    |    |   |    |   |
|---------------------------------------|--------|---------|---------|---------|--------|---------|--------|
| As reported                           |   | $       | 360,500 |    | $      | 736,300 |   | $ | 453,800 |   |
| Pro  forma                            |   | 360,500 |    | 719,000 |   | 453,800 |   |
|                                  |   |    |    |    |   |    |   |
| Earnings  per share:                  |   |    |    |    |   |    |   |
| As  reported                          |   | $       | 0.27    |    | $      | 0.55    |   | $ | 0.35 |   |
| Pro  forma                            |   | 0.27    |    | 0.53    |   | 0.35    |   |
|                                  |   |    |    |    |   |    |   |
| Earnings  per share,                  |   |    |    |    |   |    |   |
| assuming  dilution for stock options: |   |    |    |    |   |    |   |
| As  reported                          |   | $       | 0.23    |    | $      | 0.48    |   | $ | 0.30 |   |
| Pro  forma                            |   | 0.23    |    | 0.47    |   | 0.30    |   |

 

FS - 26

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The fair value of these options was estimated at thegrant date using the Black-Scholes option pricing model with the followingweighted-average assumptions for 2000: risk-free interest rate of 6.21 percent;dividend yield of 4.0 to 4.8 percent; expected option life of 2.5 years; andvolatility of 30 percent.

 

At December 31, 2001, options for the purchase of203,180 shares of the Corporation’s common stock were outstanding andexercisable at prices ranging from $1.71 to $2.73.  The status of all optioned shares is as follows:

 
|                              |   | **Shares** |   | **Price Range** |          | **Weighted Average Remaining   Contractual Life** |       |
|-----------------------------------|--------|------------|--------|-----------------|---------------|---------------------------------------------------|------------|
| Outstanding at December 31, 1999  |   | 159,115    |   | $               | 2.07 - $2.48  |                                              | 4.3 Years  |   |
| Granted                           |   | 49,500     |   | $               | 2.73  - $3.00 |                                              |       |   |
| Increase  due to stock dividend   |   | 18,899     |   | $               | 1.88  - $3.00 |                                              |       |   |
| Cancelled                         |   | (19,623    | )      | $               | 2.07  - $2.48 |                                              |       |   |
|                              |   |       |   |            |          |                                              |       |
| Outstanding  at December 31, 2000 |   | 207,891    |   | $               | 2.07  - $2.48 |                                              | 3.7  Years |   |
| Increase  due to stock dividend   |   | 18,472     |   | $               | 1.71  - $2.73 |                                              |       |   |
| Cancelled                         |   | (23,183    | )      | $               | 2.07  - $2.48 |                                              |       |   |
|                              |   |       |   |            |          |                                              |       |
| Outstanding  at December 31, 2001 |   | 203,180    |   | $               | 1.71  - $2.73 |                                              | 2.4  Years |   |

 

FS - 27

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**Note 14. RELATED PARTYTRANSACTIONS**

 

The Corporation has, and expects to have in thefuture, banking transactions in the ordinary course of its business withdirectors, officers, principal shareholders, and their associates.  These transactions, including loans and deposits,are granted on substantially the same terms, including interest rates andcollateral on loans, as those prevailing at the same time for comparabletransactions with others and do not involve more than the normal risk ofcollectibility or present other unfavorable features.

 

Aggregate loan transactions with related parties areapproximately as follows:

 

| Balance as of December 31, 1999  |   | $       | 897,500   |   |
|----------------------------------|--------|---------|-----------|--------|
| New  loans                       |   | 50,000  |      |
| Repayments                       |   | (28,500 | )         |
|                             |   |    |      |
| Balance  as of December 31, 2000 |   | $       | 919,000   |   |
| New  loans                       |   | 267,600 |      |
| Repayments                       |   | (47,500 | )         |
|                             |   |    |      |
| Balance  as of December 31, 2001 |   | $       | 1,139,100 |   |

 

Related party deposits totaled approximately $186,700and $173,900 at December 31, 2001 and 2000, respectively.

 

**Note 15.****   EMPLOYEE BENEFIT PLANS**

 

During 1995, the Corporation established an employeestock ownership plan (ESOP) to invest in the Corporation’s common stock for thebenefit of eligible employees.  TheCorporation’s contribution to the plan is determined by the Board of Directors.Shares in the plan generally vest after seven years.  The Corporation did not make a contribution to the ESOP trust in2001, 2000, or 1999.

 

The Bank has a salary reduction plan under Section401(k) of the Internal Revenue Code. The plan covers substantially all full-time employees who have completedone year of service with the Bank. Employees are allowed to defer up to 15% of their compensation subjectto certain limits based on federal tax laws. Under the provisions of the plan, the Bank’s contribution policy isdiscretionary.  The Bank initiated amatching contribution in 2001 of 100% of each employee’s contribution up to 6%of the employee’s compensation; no contributions were made in 2000, or1999.  The Bank’s matching contributionsin 2001 totaled $52,500.

 

FS - 28

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**Note 16. REGULATORYMATTERS**

 

The Corporation is subject to regulation by the Boardof Governors of the Federal Reserve System under the Bank Holding CorporationAct.  The Bank is subject to regulation,supervision, and regular examination by the California Department of FinancialInstitutions and the FDIC.  Theregulations of these agencies affect most aspects of the Corporation’s businessand prescribe permissible types of loans and investments, the amount of requiredreserves, requirements for branch offices, the permissible scope of theCorporation’s activities, and various other requirements.  The Corporation is also subject to certainregulations of the Federal Reserve Bank dealing primarily with check clearingactivities, establishment of banking reserves, Truth-in-Lending (Regulation Z),and Equal Credit Opportunity (Regulation B).

 

**Note 17.****   FAIR VALUE OF FINANCIALINSTRUMENTS**

 

SFAS No. 107, “Disclosures about Fair Value ofFinancial Instruments” requires disclosure of estimated fair values of allfinancial instruments where it is practicable to estimate such values.  In cases where quoted market prices are notavailable, fair values are based on estimates using present value or othervaluation techniques.  Those techniquesare significantly affected by the assumptions used, including the discount rateand estimates of future cash flows. Accordingly, the derived fair value estimates cannot be substantiated bycomparison to independent markets and, in many cases, could not be realized inimmediate settlement of the instrument. Statement No. 107 excludes certain financial instruments and allnonfinancial instruments from its disclosure requirements.  Accordingly, the aggregate fair valueamounts presented do not represent the underlying value of the Corporation.

 

The following methods and assumptions were used by theCorporation in estimating fair value disclosures for financial instruments:

 

**Cash and cash equivalents:**The carrying amounts of cash and short-term instruments approximate fairvalues.

 

**Investment securities:**Fair values for investment securities, excluding Federal Home Loan Bank stockand Pacific Coast Banker’s Bank stock, are based on quoted market prices.  The carryingvalue of Federal Home Loan Bank stock approximates fair value based on theredemption provisions of the Federal Home Loan Bank.

 

FS - 29

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**Loans:**For variable-rate loans thatreprice frequently and with no significant change in credit risk, fair valuesare based on carrying values.  The fairvalue of performing fixed-rate loans is estimated by discounting future cashflows using the Corporation’s current offering rate for loans with similarcharacteristics.  The fair value ofperforming adjustable-rate loans is considered to be the same as bookvalue.  The fair value of nonperformingloans is estimated at the fair value of the related collateral or, when inmanagement’s opinion foreclosure upon the collateral is unlikely, bydiscounting future cash flows using rates which take into account management’sestimate of credit risk.

 

**Commitments to Extend Credit and Standby Letters of Credit:**The Corporation does not generally enter into long-term fixed rate commitmentsor letters of credit.  These commitmentsare generally priced at current prevailing rates.  These rates are generally variable and, therefore, there is nointerest rate exposure.  Accordingly,the fair market value of these instruments is equal to the carrying valueamount of their net deferred fees.  Thenet deferred fees associated with these instruments are not material.  The Corporation has no unusual credit riskassociated with these instruments.

 

**Deposit liabilities:** The fair valuesdisclosed for demand deposits (e.g., interest and non-interest checking,savings, and certain types of money market accounts) are, by definition, equalto the amount payable on demand at the reporting date (i.e., their carryingamounts).  Fair values for fixed-ratecertificates of deposit are estimated using a discounted cash flow calculationthat applies interest rates currently being offered on certificates to aschedule of aggregated expected monthly maturities on time deposits.

 

**Accrued interest:** The carrying amountsof accrued interest approximate fair value.

 

**Short-term borrowing:** The carryingamounts of federal funds purchased, borrowings under repurchase agreements, andother short-term borrowings maturing within ninety days approximate their fairvalues.  Fair values of other borrowingsare estimated using discounted cash flow analyses based on the Corporation’scurrent incremental borrowing rates for similar types of borrowingarrangements.

 

FS - 30

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The estimated fair values, and related carryingamounts, of the Corporation’s financial instruments as of December 31, 2001 and2000 are as follows:

 
|                            |   | **2001**            |       | **2000**       |   |
|---------------------------------|--------|---------------------|------------|----------------|--------|
|                            |   | **Carrying Amount** |       | **Fair Value** |   | **Carrying Amount** |   | **Fair Value** |   |
| Financial  Assets:              |   |                |       |           |   |   |   |   |   |
| Cash  and cash equivalents      |   | $                   | 11,392,900 |           | $      | 11,392,900 |   | $ | 17,356,200 |   | $ | 17,356,200 |   |
| Time  deposits                  |   | 100,000             |       | 100,000        |   | 200,000 |   | 200,000 |   |
| Trading  assets                 |   | 173,000             |       | 173,000        |   | 168,000 |   | 168,000 |   |
| Securities,  available for sale |   | 10,204,000          |       | 10,204,000     |   | 7,346,100 |   | 7,346,100 |   |
| Securities,  held to maturity   |   | —              |       | —         |   | 11,050,900 |   | 11,162,700 |   |
| Other  investments              |   | 225,000             |       | 225,000        |   | 40,000 |   | 40,000 |   |
| Loans,  held for sale           |   | 605,600             |       | 605,600        |   | 2,549,500 |   | 2,549,500 |   |
| Loans,  net                     |   | 51,956,300          |       | 53,328,200     |   | 40,701,900 |   | 39,783,700 |   |
| Accrued  interest receivable    |   | 312,300             |       | 312,300        |   | 458,100 |   | 458,100 |   |
|                            |   |                |       |           |   |   |   |   |   |
| Financial  Liabilities:         |   |                |       |           |   |   |   |   |   |
| Deposits                        |   | 68,332,400          |       | 68,639,900     |   | 72,218,300 |   | 72,266,600 |   |
| Short-term  borrowings          |   | 200,000             |       | 200,000        |   | 75,000 |   | 75,000 |   |
| Long-term  debt                 |   | 5,000,000           |       | 5,004,000      |   | 5,800,000 |   | 5,810,200 |   |
| Accrued  interest payable       |   | 522,800             |       | 522,800        |   | 534,000 |   | 534,000 |   |
|                                 |        |                     |            |                |        |  |  |  |  |  |  |  |  |

 

**Note 18. SUBSEQUENT EVENTS**

 

On December 29, 2000, the Bank received wire transferstotaling $10.3 million for credit to two demand deposit accounts.  These deposits were temporary in nature,remaining on deposit until January 12, 2001.

 

FS - 31

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**Note 19. NORTHERN CALIFORNIA BANCORP, INC. (PARENTCORPORATION ONLY)**

 

The following are the financial statements of NorthernCalifornia Bancorp, Inc. (Parent Corporation only) as of December 31, 2001 and2000:

 
| **Balance Sheets**                                  |   | **2001**  | ** ** | **2000**  | ** ** |
|-----------------------------------------------------|--------|-----------|------------|-----------|------------|
| Assets                                              |   |      |       |      |       |
| Cash  and due from banks                            |   | $         | 8,600      |      | $          | 50,900 |   |
| Investment  securities - trading account            |   | 173,000   |       | 168,000   |       |
| Investment  in Community Bankers’              |   |      |       |      |       |
| Insurance  Agency, LLC                              |   | —    |       | 40,000    |       |
| Investment  in Mission Valley Bank Stock            |   | 25,000    |       | —    |       |
| Investment  in Lender Services Acquisition Corp.    |   | 200,000   |       | —    |       |
|                                                |   |      |       |      |       |
| Deferred  tax asset                                 |   | 119,800   |       | 73,700    |       |
| Investment  in common stock of Monterey County Bank |   | 5,766,700 |       | 5,415,300 |       |
|                                                |   | $         | 6,293,100  |      | $          | 5,747,900 |   |
|                                                |   |      |       |      |       |
| Liabilities  and Shareholders’ Equity          |   |      |       |      |       |
| Accounts  payable and accrued expenses              |   | $         | 4,900      |      | $          | 8,900 |   |
| Dividend  payable                                   |   | 1,300     |       | 2,700     |       |
| Note  payable                                       |   | 1,200,000 |       | 875,000   |       |
| Total  liabilities                                  |   | 1,206,200 |       | 886,600   |       |
| Shareholders’  equity                          |   | 5,086,900 |       | 4,861,300 |       |
|                                                |   | $         | 6,293,100  |      | $          | 5,747,900 |   |

 

FS - 32

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| **Statements  of  Operations**               |   | **2001** |    | **2000** |   | **1999** |   |
|---------------------------------------------------|--------|----------|---------|----------|--------|----------|--------|
| Equity in income of subsidiary                    |   | $        | 663,300 |     | $      | 780,900  |   | $ | 483,100 |   |
| Gain  (loss) on sale of securities                |   | (27,800  | )       | 34,000   |   | 9,500    |   |
| Loss  on trading asset                            |   | (199,400 | )       | —   |   | —   |   |
| Loss  on Community Bankers’ Insurance Agency |   | (40,000  | )       | —   |   | —   |   |
| Miscellaneous  income                             |   | 2,200    |    | 4,000    |   | 500      |   |
| Operating  expenses                               |   | (118,800 | )       | (118,300 | )      | (55,200  | )      |
| Applicable  tax benefit                           |   | 81,000   |    | 35,700   |   | 15,900   |   |
| Net  income                                       |   | $        | 360,500 |     | $      | 736,300  |   | $ | 453,800 |   |

 
| **Statements of Cash Flows**                                                   |   | **2001** | ** ** | **2000** | ** ** | **1999** | ** ** |
|--------------------------------------------------------------------------------|--------|----------|------------|----------|------------|----------|------------|
| Cash  flows from operating activities:                                         |   |     |       |     |       |     |       |
| Net  income                                                                    |   | $        | 360,500    |     | $          | 736,300  |       | $ | 453,800 |   |
| Adjustments  to reconcile net income to net cash used by operating activities: |   |     |       |     |       |     |       |
| Equity  in undistributed income of Monterey County Bank                        |   | (663,300 | )          | (780,900 | )          | (483,100 | )          |
| (Increase)  decrease in other assets                                           |   | (46,100  | )          | (61,100  | )          | 1,500    |       |
| Increase  (decrease) in accrued expenses                                       |   | (4,000   | )          | 8,600    |       | (600     | )          |
| Increase  (decrease) in other liabilities                                      |   | (1,400   | )          | 600      |       | (3,800   | )          |
| Net  cash used by operating activities                                         |   | (354,300 | )          | (96,500  | )          | (32,200  | )          |
|                                                                           |   |     |       |     |       |     |       |
| Cash  flows from financing activities:                                         |   |     |       |     |       |     |       |
| Cash  dividends received from subsidiary                                       |   | 200,000  |       | 100,000  |       | 50,000   |       |
| Increase  in borrowed funds                                                    |   | 325,000  |       | 125,000  |       | 750,000  |       |
| Cash  dividends paid on common stock                                           |   | (700     | )          | (600     | )          | (700     | )          |
| Increase  in investments                                                       |   | (174,600 | )          | (115,800 | )          | (899,700 | )          |
| Exercise  of stock options                                                     |   | —   |       | —   |       | 169,500  |       |
| Stock  repurchase                                                              |   | (37,700  | )          | (11,000  | )          | (34,200  | )          |
| Net  cash provided by financing activities                                     |   | 312,000  |       | 97,600   |       | 34,900   |       |
|                                                                           |   |     |       |     |       |     |       |
| Net  change in cash and cash equivalents                                       |   | (42,300  | )          | 1,100    |       | 2,700    |       |
|                                                                           |   |     |       |     |       |     |       |
| Cash  and cash equivalents, beginning of year                                  |   | 50,900   |       | —   |       | 47,100   |       |
| Cash  and cash equivalents, end of year                                        |   | $        | 8,600      |     | $          | 50,900   |       | $ | 49,800 |   |

 

FS - 33

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The ability of the Corporation to pay dividends willlargely depend upon the dividends paid to it by the Bank.  There are legal limitations on the abilityof the Bank to provide funds to the Corporation in the form of loans, advances,or dividends.

 

FS - 34

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**ITEM 8. CHANGES IN AND DISAGREEMENTSWITH ACCOUNTANTS AND  FINANCIAL DISCLOSURE**

 

The Company had no disagreements with its independentaccountants on any matter of accounting principles, practices or financialstatement disclosure during 2001, 2000 or 1999.

 

41

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**PART III**

 

**ITEM9****. DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROLPERSONS; COMPLIANCE WITH SECTION 16(a) OF THE EXCHANGE ACT**

 

The name, age,title and five-year business background of each director, executive officersand significant employees of the Corporation (including the Bank) as ofDecember 31, 2001, are as follows:

 
| **Name & Position with Bank**                                                                          |   | **Age** |                                                                                                                                                                                                                         | **Principal Occupation During Past Five Years** |
|------------------------------------------------------------------------------------------------------------|--------|---------|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|-------------------------------------------------|
| Charles  T. Chrietzberg, Jr.  Director since 1985,   Chairman of the Board &   Chief Executive Officer | 60     |    | Chairman of the Board  & Chief Executive Officer   Monterey County Bank since 3/87                                                                                                                                       |
|                                                                                                       |   |    |                                                                                                                                                                                                                         |
| Sandra  G. Chrietzberg   Director, 1988 to 1994 and   since 1995                                           | 58     |    | Formerly President and  CEO Queen of Chardonnay, Inc., dba La Reina Winery 8/84-12/93                                                                                                                                   |
|                                                                                                       |   |    |                                                                                                                                                                                                                         |
| Peter  J. Coniglio, Esq.  Director since 1976                                                              | 72     |    | Partner — Hudson,  Martin, Ferrante & Street, Monterey                                                                                                                                                              |
|                                                                                                       |   |    |                                                                                                                                                                                                                         |
| Carla  S. Hudson, CPA   Director since 1994                                                                | 48     |    | Partner — Huey and  Hudson, Certified Public Accountants                                                                                                                                                                |
|                                                                                                       |   |    |                                                                                                                                                                                                                         |
| John  M. Lotz   Director since 1991                                                                        | 60     |    | Chairman, Chief  Executive Officer & President  The Monterey Bay Aviation Institute Inc dba DelMonte Aviation.  President and Chief Executive Officer, of  Couroc of Monterey 1996-2001.                            |
|                                                                                                       |   |    |                                                                                                                                                                                                                         |
| Kenneth M.  Sheffer   President                                                                            | 49     |    | President Monterey County Bank 3/01 — 2/02,  Director Mortgage Banking First Western Mortgage,  Monterey , CA. 9/99 — 3/01, Director Mortgage   Banking/Commercial Lending Granite Bay Mortgage,  Granite Bay, CA. |
|                                                                                                       |   |    |                                                                                                                                                                                                                         |
| Bruce  N. Warner   Executive Vice President,  Chief Financial Officer   and Chief Operating Officer        | 54     |    | Senior Vice President,  Chief Financial Officer and Chief   Operating Officer of Monterey County Bank since 1993;                                                                                                            |

 

42

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| Andre  G. Herrera   Vice President,   Corporate Secretary | 37     |   | Vice President, Chief  Information Officer 11/01.   Vice President, Corporate Secretary of   Northern  California Bancorp, Inc. and Corporate Secretary  of Monterey County Bank and since 1/96; Vice  President, Manager Management Information  Systems and Merchant Services since 2/94. |
|-----------------------------------------------------------|--------|--------|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|                                                      |   |   |                                                                                                                                                                                                                                                                                             |
| Mary  Ellen Stanton   Senior Vice President               | 64     |   | Senior Vice President,  Loan Administration, Monterey County Since 10/98.  Vice President, Loan Administration, Monterey  County Bank 10/88.                                                                                                                                                     |

 

 

Directors of theCorporation serve in similar capacities with the Bank.  Executive officers of the Bank serve insimilar capacities with the Corporation, although the limited operations of theCorporation do not require significant amounts of their time.  There are no family relationships among thepersons listed above, except that Mr. and Mrs. Chrietzberg are spouses.

 

Based solely upona review of the relevant forms furnished to the Bank and the Corporation,except as disclosed below, the Corporation believes that all officers,directors and principal shareholders filed appropriate forms as required bySection 16(a) of the Exchange Act, and related regulations, during 2001.

 

43

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**ITEM10. EXECUTIVE COMPENSATION**

 

                The following tables setsforth certain information regarding the compensation paid to the officers ofthe Corporation/Bank whose salary and bonus exceeded $100,000 for 2001.

 
|                              |   | **Annual Compensation** |   | **Long Term Compensation Awards** |    |
|-----------------------------------|--------|-------------------------|--------|-----------------------------------|---------|
| **Name & Principal Position** |   | **Salary**              |   | **Bonus**                         |    | **Other  Annual  Compensation** |   | **Restricted  Stock  Awards** |   | **Securities  Underlying Options/SARs** |   | **All Other   Compensation** |   |
| Charles T. Chrietzberg, Jr.       |   | 2001                    |   | $                                 | 181,296 |   | $ | 160,800 |   | $ | 3,420 | (1) | None |   | None |   | $ | 572 | (2) |
| Chairman & CEO                |   | 2000                    |   | $                                 | 187,713 |   | $ | 160,000 |   | $ | 2,670 | (1) | None |   | 10,000 |   | $ | 11,541 | (2) |
|                              |   | 1999                    |   | $                                 | 156,769 |   | $ | 160,000 |   | $ | 3,578 | (1) | None |   | None |   | $ | 13,109 | (2) |
|                              |   |                    |   |                              |    |   |   |   |   |   |   |   |   |   |   |
| Kenneth  M. Sheffer               |   | 2001                    |   | $                                 | 93,316  |   | $ | 8,541 |   | $ | 11,795 | (3) (4) | None |   | None |   | None |   |
| President                         |   |                    |   |                              |    |   |   |   |   |   |   |   |   |   |   |
|                              |   |                    |   |                              |    |   |   |   |   |   |   |   |   |   |   |
| Bruce  N. Warner                  |   | 2001                    |   | $                                 | 90,773  |   | $ | 23,400 |   | None |   | None |   | None |   | None |   |
| Senior  Vice President,           |   | 2000                    |   | $                                 | 86,461  |   | $ | 49,317 |   | None |   | None |   | 7,000 |   | None |   |
| Chief  Financial Officer          |   | 1999                    |   | $                                 | 78,765  |   | $ | 25,888 |   | None |   | None |   | None |   | None |   |
| Chief  Operating  Officer    |   |                    |   |                              |    |   |   |   |   |   |   |   |   |   |   |
|                              |   |                    |   |                              |    |   |   |   |   |   |   |   |   |   |   |
| Andre  G. Herrera                 |   | 2001                    |   | $                                 | 94,110  |   | $ | 6,571 |   | None |   | None |   | None |   | None |   |
| Vice  President,                  |   | 2000                    |   | $                                 | 94,606  |   | $ | 19,726 |   | None |   | None |   | 5,000 |   | None |   |
| Chief  Information Officer        |   | 1999                    |   | $                                 | 86,240  |   | $ | 10,355 |   | None |   | None |   | None |   | None |   |
|                                   |        |                         |        |                                   |         |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

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(1)           Representspersonal use of company automobile.

(2)           Representsthe expense accrued in the Salary Continuation Plan as more fully described inthe Long Term Incentive Plan Table.

(3)                Includes automobile allowance paid($4,683) from date of employment March 21, 2001 through December 31, 2001.

(4)                Includes housing allowance paid ($7,112)from date of employment March 21, 2001 through November 30, 2001.

 

The Bank leases anautomobile for the use of its Chief Executive Officer (the value of hispersonal use of the automobile is included above).  The Bank furnishes, on a non-discriminatory basis, to theemployees: (i) insurance benefits; and (ii) other benefits.  The valueof these benefits (excluding non-discriminatory plan benefits) was less thanthe lesser of $50,000 or ten percent of the compensation shown above for therespective persons or group, and is not included in the table.

 

The Board ofDirectors authorized the Bank to enter into a three year employment contractwith Mr. Chrietzberg, effective January 1, 2000.  It provides for a base salary of $180,000 per year, a Bankfurnished automobile or automobile allowance, and a bonus based on profits.  The bonus, not to exceed $160,000 annually,will equal $10,000 for each 0.1 percent that the Bank’s profits exceed 1.0percent return on average assets plus $10,000 for each 1 percent 

 

44

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that the Bank’s return onequity exceeds 10.0 percent.  Under theterms of the contract, if Mr. Chrietzberg is terminated other than for cause(as defined in the contract), he is entitled to severance compensation for hismonthly salary plus a pro rated incentive bonus for the greater of 24 months orthe remaining term of his contract (which ends in December, 2002); however, ifthe termination follows within twelve (12) months after a change in controltransaction (as defined in the contract), he is entitled to such severancecompensation for the greater of 24 months or the remainder of the term of thecontract.

 

                The following tables set forthcertain information regarding the long term incentive plan provided for Mr.Chrietzberg.

 
| **Name**        |   | **Number of Shares,Units  or Other Rights  (#)** |                     | **Performance or   Other Period   Until   Maturation or   Payment** |                  | **Estimated  Future Payouts under  Non-Stock Price-Based Plans** |
|-----------------|--------|--------------------------------------------------|--------------------------|---------------------------------------------------------------------|-----------------------|------------------------------------------------------------------|
|            |   |                                             | **Threshold   ($ or #)** |                                                                | **Target   ($ or #)** |                                                             | **Maximum   ($ or #)** |
| Charles T.      |   | Salary                                           |                     | Retirement at age 65,  subject                                      |                  | None                                                             |   | None |   | 90,000/yr. |
| Chrietzberg, Jr |   | Continuation

Agreement                          |                     | to provisions for  earlier payout described below                   |                  |                                                             |   |   |   | lifetime |

 

In December, 1993,the Board of Directors approved a Salary Continuation Agreement for the benefitof Mr. Chrietzberg that provided for payments of $75,000 per year, for 15years, if he remains with the Bank until normal retirement, commencing age65.  After consideration of the impactof such an agreement on the Bank’s income, the Bank amended the Agreement toprovide for one half the original benefit amounts, but adopted Surviving IncomeAgreements which provide benefits upon the death of the executive to hisbeneficiary in a single payment, in an amount equal to the retirementbenefit.  The Salary ContinuationAgreement provides for lesser payments in the event of early retirement,generally designated to coincide with increases in the anticipated surrendervalue for the life insurance policies described below.

 

In August, 2001,the Board of Directors amended the Salary Continuation Agreement for thebenefit of Mr. Chrietzberg which was approved in December, 1993 and amended inAugust 1999.  The amended SalaryContinuation Agreement provides for payments of $90,000 per year, for Mr.Chrietzberg’s lifetime.  The amendedSalary Continuation Agreement provides the following with regard to thedivision of death proceeds should Mr. Chrietzberg die before his sixty-fifth(65th) birthday; his beneficiary(ies) shall be entitled to an amountequal to $2,940,000 or the net at risk insurance portion of the proceeds,whichever amount is less.  The net atrisk insurance portion is the total proceeds less the cash value of thepolicy.  Should Mr. Chrietzberg die onor subsequent to his sixty-fifth (65th) birthday, hisbeneficiary(ies) shall be entitled to an amount equal to $1,000,000 plus thepresent value of the remaining retirement benefits due to Mr. Chrietzberg orthe net at risk insurance portion of the proceeds, whichever is less, and theBank shall be entitled to the remainder of such proceeds.

 

The Bank’sobligations under the Salary Continuation Agreement are not secured by anysegregated amounts, but are informally funded by the purchase of single-premiumlife insurance policies.  The salarycontinuation expense accrued in 2001, 2000 and 1999 was $600, $11,500,

 

45

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and $13,100,respectively.  Based upon the currentprojected earnings of the insurance used to informally fund the Bank’sobligations under the Agreement, and the anticipated salary continuationexpense to be booked, net of tax benefits, the Bank anticipates (based uponcurrent tax laws and assumptions regarding the yield on alternativeinvestment(s) that the cost of the benefits to be provided under the agreementwill not have a material adverse impact on the Bank’s net income after taxes inthe future, although no assurance can be given in this regard.  The Surviving Income Agreement wasterminated upon adoption of the amended Salary Continuation Agreement.

 

Duringthe year ended December 31, 2001 no stock options were granted under theCorporation’s’ 1998 Amended Stock Option Plan.

 

The followingtable sets forth the number of shares of Common Stock acquired by each of thenamed executive officers upon exercise of stock options during 2001, the netvalue realized upon exercise, the number of shares of common Stock representedby outstanding stock options held by each of the named executive officers as ofDecember 31, 2001 and the value of such options based on the last transactionin 2001, which the Corporation has knowledge of, and certain informationconcerning unexercised options under the 1998 Amended Stock Option Plan.

 

AggregatedOption/Sar Exercises in Last Fiscal Year 

andFY-End Options/Sar Values 

** **
|                         |   | **Shares  Acquired on** |   | **Value**        |   | **Number  of  Unexercised Options / SARs at FY-End(#)** |   | **Value of  Unexercised in-the-Money Options / SARs at FY-End ($)** |   |
|------------------------------|--------|-------------------------|--------|------------------|--------|--------------------------------------------------------------|--------|---------------------------------------------------------------------|--------|
| **Name**                     |   | **Exercise (#)**        |   | **Received ($)** |   | **Exercisable**                                              |   | **Unexercisable**                                                   |   | **Exercisable** |   | **Unexercisable** |   |
| Charles T. Chrietzberg,  Jr. |   | None                    |   | None             |   | 48,703                                                       |   | None                                                                |   | 38,109 |   | None |   |
| Bruce N. Warner              |   | None                    |   | None             |   | 30,432                                                       |   | None                                                                |   | 27,796 |   | None |   |

 

In 2001, eachdirector received a standard fee of $500 per regular board meeting attended and$150 for each committee meeting attended.

 

46

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**ITEM 11****. SECURITYOWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT**

 

To the knowledgeof the management of the Company, the following shareholders own more than fivepercent (5%) of the outstanding common stock of the Company, its only class ofvoting securities.

 
| **Name and Address**        |   | **Amount and Nature of Beneficial Ownership** |   | **Percent of   Class** |   |
|-----------------------------|--------|-----------------------------------------------|--------|------------------------|--------|
| Charles T. Chrietzberg, Jr. |   | 582,513                                       | (1)    | 42.31                  |   |
| P.O. Box 1344               |   |                                          |   |                   |   |
| Carmel, CA   93921     |   |                                          |   |                   |   |
|                        |   |                                          |   |                   |   |
| David  S. Lewis, Trust      |   | 139,876                                       |   | 10.53                  |   |
| 30500  Aurora del Mar       |   |                                          |   |                   |   |
| Carmel,  CA  93923     |   |                                          |   |                   |   |

 

----

(1)              Includes 48,703shares subject to employee stock options and 16,742 shares held beneficiallyfor Mr. Chrietzberg and Mrs. Chrietzberg in Individual Retirement Accountswhere voting power is shared with the custodian of the account.  316,000 shares of the Common Stock owned byMr. Chrietzberg are pledged to secure a loan from an unaffiliated bank.

 

The followingtable sets forth similar information regarding the beneficial ownership, bothby numerical holding and percentage interest of each of the Company’s directorsand all of its directors and executive officers as a group.  All addresses are in care of the Corporationat 601 Munras Ave. Monterey, CA  93940.

 
| **Name**                     |   | **Amount and    Nature of   Beneficial   Ownership** |   | **Percent of  Class** |   | **Shares  Subject to Purchase Options** |    | **Percent of  Class without Option Shares** |   |
|------------------------------|--------|------------------------------------------------------|--------|-----------------------|--------|-----------------------------------------|---------|---------------------------------------------|--------|
| Charles T. Chrietzberg, Jr.  |   | 582,513                                              |   | (1) (2) (3)           | 42.31  | %                                       | 48,703  |                                        | 40.19  | % |
| Sandra  G. Chrietzberg       |   | 582,513                                              |   | (2) (3)               | 42.31  | %                                       | 48,703  |                                        | 40.19  | % |
| Peter  J. Coniglio           |   | 63,506                                               |   | (4) (5)               | 4.67   | %                                       | 31,702  |                                        | 2.39   | % |
| Carla  S. Hudson             |   | 26,726                                               |   | (6)                   | 1.98   | %                                       | 20,721  |                                        | 0.45   | % |
|                         |   |                                                 |   |                  |   |                                    |    |                                        |   |   |
| All  Directors and Executive |   |                                                 |   |                  |   |                                    |    |                                        |   |   |
| Officers  as a group         |   | 729,804                                              |   | (7)                   | 49.99  | %                                       | 131,558 |                                        | 45.04  | % |

 

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(1)                      Includes48,703 shares subject to his employee stock options.  316,000 shares of the common Stock owned by Mr. Chrietzberg arepledged to secure a loan from an unaffiliated bank. Should he default undersuch credit, the shares could be acquired by the lender, or sold pursuant toapplicable terms of the Uniform Commercial Code, in a transaction that

 

47

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couldresult in a change of control of the Corporation.  Such transaction may require approval under provisions of Federaland California change in bank control laws.

 

(2)                      Theshares include an aggregate of 16,742 shares held beneficially by Mr.Chrietzberg and Mrs. Chrietzberg in Individual Retirement Accounts, wherevoting power is also shared with the custodian of the account.

 

(3)       Includes shares of spouse pursuant toCalifornia’s community property laws.

 

(4)       Sole voting power.

 

(5)                      Includes 31,702 shares subject to therespective director’s stock options.  Ofthe remaining shares 24,119 are held in a family trust controlled by Mr.Coniglio, as to which he has sole voting and investment power, while 7,685shares are held by Hudson, Martin, Ferrante & Street, a partnership ofwhich Mr. Coniglio is the managing partner, with voting and investment power.

 

(6)                      Includes 20,721 shares subject to therespective director’s stock options. The remaining shares are held jointly with family members, other than1,464 shares held in a corporate pension, as to which Ms. Hudson has voting andinvestment power.

 

(7)                      Includes57,059 shares held by  an executiveofficers who is not also a director, 30,432 shares are subject to employeestock options.

 

48

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**ITEM 12. CERTAIN RELATIONSHIPS ANDRELATED TRANSACTIONS**

 

TheBank has had, and expects to have in the future, banking transactions in theordinary course of its business with directors, officers, principalshareholders and their associates. Management of the Bank believes that these transactions have been (andthose in the future are intended to be) on substantially the same terms,including interest rates, collateral and repayment terms on extensions ofcredit, as those prevailing at the same time for comparable transactions withothers and did not involve more than the normal risk of collectibility orpresent other unfavorable features. Management does not believe that any such loans are outside the ordinarycourse of business.  The following tablesets forth information on extensions of credit to directors and to directors,principal shareholders and officers.

 
|                                                                     |   | **Maximum** |   | **Outstanding as of   December 31, 2001** |   |
|--------------------------------------------------------------------------|--------|-------------|--------|-------------------------------------------|--------|
| **Name**                                                                 |   | **Amount**  |   | **Percent of    Equity   Capital**        |   | **Amount** |   | **Percent of    Equity   Capital** |   |
| Peter J. Coniglio                                                        |   | 1,150,365   | (1)    | 20.69                                     | %      | 1,112,251 | (1) | 19.29 | % |
| John  M. Lotz                                                            |   | 27,330      |   | 0.50                                      | %      | 26,868 |   | 0.47 |  % |
|                                                                     |   |        |   |                                      |   |   |   |   |   |
| Directors,  Principal Shareholder, and Officers as a Group (6 in number) |   | 1,181,077   |   | 20.48                                     | %      | 1,139,119 |   | 19.75 |  % |

 

----

(1)                      Included inthe extensions of credit to Mr. Coniglio is a loan to the Coniglio FamilyPartnership, which had an outstanding balance of  $1,112,251 on December 31, 2001.

 

49

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**Item13. EXHIBITS AND REPORTS**

 

A.            EXHIBITS

 
| **Item**  |   | **Description**                                                                                                                                                                                                                                             |   |
|-----------|--------|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|--------|
| 2         |   | Plan of Merger and  Meger Agreement, Monterey County Bank with Monterey  County Merger Corporation un the Charter of Monterey County Bank under  the Title of Monterey County Bank, joined in by Northern California Bancorp,  Inc. dated November 1, 1995. |
|      |   | Filed as exhibit to  Form 10KSB dated December 31, 1995.                                                                                                                                                                                                    |
|      |   |                                                                                                                                                                                                                                                        |
| 3 (i)     |   | Articles of  Incorporation                                                                                                                                                                                                                                  |
|      |   | Filed as exhibit to  Form 10KSB dated December 31, 1995                                                                                                                                                                                                     |
|      |   |                                                                                                                                                                                                                                                        |
| 3 (ii)    |   | Bylaws                                                                                                                                                                                                                                                      |
|      |   | Filed as exhibit to  Form 10KSB dated December 31, 1995.                                                                                                                                                                                                    |
|      |   |                                                                                                                                                                                                                                                        |
| 10 (i) D  |   | Lease agreement Carmel  Branch Office                                                                                                                                                                                                                       |
|      |   | Filed as exhibit to  Form 10KSB dated December 31, 1995                                                                                                                                                                                                     |
|      |   |                                                                                                                                                                                                                                                        |
| 10 (ii) A |   | (1) Employment Contract  of Charles T. Chrietzberg, Jr., dated January 1, 2000                                                                                                                                                                              |
|      |   | Filed as exhibit to  Form 10KSB dated December 31, 1999.                                                                                                                                                                                                    |
|      |   | (2)  Deferred Compensation Agreement, dated  December 31, 1993                                                                                                                                                                                         |
|      |   | Filed as exhibit to  Form 10KSB dated December 31, 1995.                                                                                                                                                                                                    |
|      |   | (3)  Northern California Bancorp, Inc. 1998  Stock Option Plan and Stock Option Agreements                                                                                                                                                             |
|      |   | Filed as exhibit to  Form 10KSB dated December 31, 1998.                                                                                                                                                                                                    |
|      |   | (4)  Amendment to the Salary Continuation  Agreement Dated December 31, 1993                                                                                                                                                                           |
|      |   | Filed as exhibit to  Form 10KSB dated December 31, 1999.                                                                                                                                                                                                    |
|      |   | (5) Life Insurance  Endorsement Method Split Dollar Plan Agreement                                                                                                                                                                                          |
|      |   | Filed as exhibit to  Form 10KSB dated December 31, 1999.                                                                                                                                                                                                    |
|      |   | (6) Amendment to the  Life Insurance Endorsement Method Split Dollar Plan Agreement Dated January  6, 2000                                                                                                                                                  |
|      |   | (7) Amendment to the  Life Insurance Endorsement Method Split Dollar Plan                                                                                                                                                                                   |
|      |   | (8) Amendment to the  Salary Continuation Agreement Dated December 31, 1993.                                                                                                                                                                                |
|      |   |                                                                                                                                                                                                                                                        |
| 11        |   | Statement Reference  Computation of Per Share Earnings                                                                                                                                                                                                      |
|      |   |                                                                                                                                                                                                                                                        |
| 21        |   | Subsidiaries                                                                                                                                                                                                                                                |

 

B.            REPORTS

 

None

 

50

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**SIGNATURES**

 

In accordance withSection 13 or 15(d) of the Exchange Act, the registrant caused this report tobe signed on its behalf by the undersigned, thereunto duly authorized.

 
|                 |   | NORTHERN CALIFORNIA  BANCORP, INC. |
|----------------------|--------|------------------------------------|
|                 |   |                               |
| Date: March 21, 2002 |   | By:                                | /s/ Charles T.  Chrietzberg, Jr. |   |
|                 |   |                               | Charles T. Chrietzberg,  Jr. |
|                 |   |                               | Chief Executive Officer |
|                 |   |                               | and President |
|                 |   |                               |   |
| Date: March 21, 2002 |   | By:                                | /s/ Bruce N. Warner |   |
|                 |   |                               | Bruce N. Warner |
|                 |   |                               | Chief Financial Officer |
|                 |   |                               | and Principal  Accounting Officer |
|                      |        |                                    |  |  |  |  |

 

In accordance with theExchange Act, this report has been signed by the following persons on behalf ofthe registrant and in the capacities and on the dates indicated.

 
| Name                             | Position | Date   |
|----------------------------------|----------|--------|
|                             |     |   |
| /s/ Charles T.  Chrietzberg, Jr. |     |   | March 21, 2002 |
| Charles T. Chrietzberg,  Jr.     |     |   |
| Director                         |     |   |
|                             |     |   |
| /s/ Sandra G.  Chrietzberg       |     |   | March 21, 2002 |
| Sandra G. Chrietzberg            |     |   |
| Director                         |     |   |
|                             |     |   |
| /s/ Peter J. Coniglio            |     |   | March 21, 2002 |
| Peter J. Coniglio                |     |   |
| Director                         |     |   |
|                             |     |   |
| /s/ Carla S. Hudson              |     |   | March 21, 2002 |
| Carla S. Hudson                  |     |   |
| Director                         |     |   |
|                             |     |   |
| /s/ John M. Lotz                 |     |   | March 21, 2002 |
| John M. Lotz                     |     |   |
| Director                         |     |   |

 

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