##### Table of Contents



UNITED STATES
SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549
 FORM 10-Q (Mark One) þ
    
    Quarterly Report Under Section 13 or 15(d) of the Securities Exchange Act of 1934 For the Quarterly Period Ended March 31, 2005 or
 o
    
    Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 For the Transition period from  to
 Commission File Number: 000-50950 VALLEY BANCORP  Nevada
    
    88-0493760(State or Other Jurisdiction of Incorporation or Organization)
    
    (I.R.S. Employer I.D. Number)3500 W. Sahara Avenue, Las Vegas, NV
    
    89102(Address of Principal Executive Offices)
    
    (Zip Code)
 (702) 221-8600 
  Indicate by check mark whether the registrant (1) has filed all reports required to be filed by
Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for
such shorter period that the registrant was required to file such reports), and (2) has been
subject to such filing requirements for the past 90 days. Yes þ
    
    No o
 Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of
the Exchange Act) Yes o
    
    No þ
 Indicate the number of shares outstanding of each of the issuers classes of common stock, as
of the latest practicable date. Common Stock Issued and Outstanding: 2,797,873 shares as of April 30, 2005.




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VALLEY BANCORP Table of Contents PagePART I
    
    FINANCIAL INFORMATIONItem 1.
    
    Financial Statements - UnauditedConsolidated Balance Sheets at March 31, 2005 and December 31, 2004
    
    
    2Consolidated Statements of Income for the Three Months Ended March 31, 2005 and 2004
    
    
    3Consolidated Statements of Cash Flows for the Three Months Ended March 31, 2005 and 2004
    
    
    4Notes to Consolidated Financial Statements
    
    
    5Item 2.
    
    Managements Discussion and Analysis of Financial Condition and Results of Operations
    
    
    10Item 3.
    
    Quantitative and Qualitative Disclosures About Market Risk
    
    
    19Item 4.
    
    Controls and Procedures
    
    
    21PART II
    
    OTHER INFORMATION
    
    
    22Item 1.
    
    Legal Proceedings
    
    
    22Item 2.
    
    Unregistered Sales of Equity Securities and Use of Proceeds
    
    
    22Item 3.
    
    Defaults Upon Senior Securities
    
    
    22Item 4.
    
    Submission of Matters to a Vote of Security Holders
    
    
    22Item 5.
    
    Other Information
    
    
    22Item 6.
    
    Exhibits
    
    
    22Signatures
    
    
    
    
    23EXHIBIT 31.1EXHIBIT 31.2EXHIBIT 32
  1




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##### Table of Contents



Part I. Financial Information 
 ITEM 1. FINANCIAL STATEMENTS  Valley Bancorp And Subsidiary
 
 Consolidated Balance Sheets (Unaudited)
 March 31,
    
    
    December 31,2005
    
    
    2004AssetsCash and due from banks
    
    $
    5,494,260
    
    
    $
    8,054,489Federal funds sold
    
    
    25,495,000
    
    
    
    17,850,000Cash and cash equivalents
    
    
    30,989,260
    
    
    
    25,904,489Interest-bearing deposits at other financial institutions
    
    
    10,493,421
    
    
    
    9,244,160Securities available for sale at fair value
    
    
    38,596,530
    
    
    
    36,412,828Loans, net of allowance for loan losses of $2,247,668 and $2,113,188, respectively
    
    
    223,007,674
    
    
    
    196,156,715Loans held for sale
    
    
    50,938
    
    
    
    163,829Premises and equipment, net
    
    
    6,180,456
    
    
    
    4,382,860Accrued interest receivable
    
    
    1,138,183
    
    
    
    863,912Deferred taxes, net
    
    
    387,762
    
    
    
    189,391Other assets
    
    
    259,582
    
    
    
    387,180Total assets
    
    $
    311,103,806
    
    
    $
    273,705,364Liabilities and Stockholders EquityDeposits:Non-interest bearing demand
    
    $
    44,822,570
    
    
    $
    42,664,063Interest bearing:Demand
    
    
    74,100,878
    
    
    
    70,228,073Savings
    
    
    12,131,719
    
    
    
    13,411,583Time, $100,000 and over
    
    
    60,159,169
    
    
    
    44,241,115Other time
    
    
    80,512,100
    
    
    
    65,666,600Total deposits
    
    
    271,726,436
    
    
    
    236,211,434Accrued interest payable and other liabilities
    
    
    1,842,128
    
    
    
    772,976Long-term debt
    
    
    456,758
    
    
    
    466,845Total liabilities
    
    
    274,025,322
    
    
    
    237,451,255Commitments and contingencies (Note 5)Stockholders equity:Preferred Stock, $1.00 par value, 500,000 shares authorized; none issued or outstanding
    
    
    
    
    
    
    Common stock, $0.73 par value; 10,000,000 shares authorized;
2,794,748 shares issued and outstanding as of March 31, 2005 and
2,790,748 shares issued and outstanding as of December 31, 2004
    
    
    2,040,166
    
    
    
    2,037,246Additional paid-in capital
    
    
    29,688,161
    
    
    
    29,616,955Retained earnings
    
    
    5,779,417
    
    
    
    4,687,220Accumulated other comprehensive loss
    
    
    (429,260
    )
    
    
    (87,312
    )Total stockholders equity
    
    
    37,078,484
    
    
    
    36,254,109Total liabilities and stockholders equity
    
    $
    311,103,806
    
    
    $
    273,705,364
 See Notes to Consolidated Financial Statements. 2




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##### Table of Contents



Valley Bancorp And Subsidiary
 
 Consolidated Statements Of Income (Unaudited)
 Three Months Ended March 31,2005
    
    
    2004Interest income on:Loans, including fees
    

    $
    3,930,766
    
    
    $
    2,623,205Securities available for sale
    
    
    353,947
    
    
    
    102,127Federal funds sold and interest-bearing deposits at other
financial institutions
    
    
    177,531
    
    
    
    97,680Total interest income
    
    
    4,462,244
    
    
    
    2,823,012Interest expense on:Deposits
    
    
    1,081,179
    
    
    
    633,707Long-term debt and other borrowed funds
    
    
    8,262
    
    
    
    8,954Total interest expense
    
    
    1,089,441
    
    
    
    642,661Net interest income
    
    
    3,372,803
    
    
    
    2,180,351Provision for loan losses
    
    
    51,000
    
    
    
    105,000Net interest income after provision for loan losses
    
    
    3,321,803
    
    
    
    2,075,351Other income:Service charges on deposit accounts
    
    
    55,883
    
    
    
    74,957Net gain (loss) on sale of available for sale securities
    
    
    
    
    
    
    13,951Other
    
    
    19,615
    
    
    
    12,01375,498
    
    
    
    100,921Other expense:Salaries and employee benefits
    
    
    900,823
    
    
    
    690,556Equipment rentals, depreciation and maintenance
    
    
    85,859
    
    
    
    63,366Occupancy
    
    
    85,004
    
    
    
    80,700Data processing
    
    
    103,581
    
    
    
    74,832Legal, professional and consulting
    
    
    111,429
    
    
    
    35,199Advertising and public relations
    
    
    46,171
    
    
    
    28,750Outside services
    
    
    64,516
    
    
    
    57,083Federal Reserve Bank & correspondent bank fees
    
    
    25,431
    
    
    
    31,132Telephone
    
    
    45,816
    
    
    
    34,470Office supplies & printing
    
    
    70,263
    
    
    
    33,649Director fees
    
    
    51,100
    
    
    
    24,575Other
    
    
    151,157
    
    
    
    77,2841,741,150
    
    
    
    1,231,596Income before income taxes
    
    
    1,656,151
    
    
    
    944,676Income tax expense
    
    
    563,954
    
    
    
    322,345Net income
    
    $
    1,092,197
    
    
    $
    622,331Comprehensive income
    
    $
    750,249
    
    
    $
    662,176Earnings per share:Basic
    
    $
    0.39
    
    
    $
    0.36Diluted
    
    $
    0.37
    
    
    $
    0.35
 See Notes to Consolidated Financial Statements. 3




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##### Table of Contents



Valley Bancorp And Subsidiary
 
 Consolidated Statements Of Cash Flows (Unaudited)
 Three Months Ended March 31,2005
    
    
    2004Cash Flows from Operating Activities:Net income
    
    $
    1,092,197
    
    
    $
    622,331Adjustments to reconcile net income to net cash provided by operating activitiesDepreciation of premises and equipment
    
    
    102,632
    
    
    
    75,090Gain on sale of securities available for sale
    
    
    
    
    
    
    (13,951
    )Deferred taxes
    
    
    (22,216
    )
    
    
    (88,199
    )Tax benefit resulting from the exercise of nonqualified stock options
    
    
    24,126
    
    
    
    Net accretion/amortization of investment discount/premium
    
    
    (1,808
    )
    
    
    (63,162
    )Provision for loan losses
    
    
    51,000
    
    
    
    105,000(Increase) decrease in accrued interest receivable
    
    
    (274,271
    )
    
    
    3,797(Increase) decrease in other assets
    
    
    127,598
    
    
    
    (528,988
    )Increase in accrued interest payable and other liabilities
    
    
    1,069,152
    
    
    
    196,499Net cash provided by operating activities
    
    
    2,168,410
    
    
    
    308,417Cash Flows from Investing Activities:Net increase in loans
    
    
    (26,789,068
    )
    
    
    (26,198,613
    )Net increase in interest bearing deposits at other financial institutions
    
    
    (1,249,261
    )
    
    
    (120,571
    )Purchase of securities available for sale
    
    
    (3,034,632
    )
    
    
    (9,022,792
    )Proceeds from the maturities of securities available for sale
    
    
    334,635
    
    
    
    1,006,998Proceeds from the sale of securities available for sale
    
    
    
    
    
    
    10,084,080Purchase of premises and equipment
    
    
    (1,900,228
    )
    
    
    (12,557
    )Net cash used in investing activities
    
    
    (32,638,554
    )
    
    
    (24,263,455
    )Cash Flows from Financing Activities:Net increase in deposits
    
    
    35,515,002
    
    
    
    25,099,828Principal payments on notes payable
    
    
    (10,087
    )
    
    
    (9,395
    )Proceeds from stock options exercised
    
    
    50,000
    
    
    
    Net cash provided by financing activities
    
    
    35,554,915
    
    
    
    25,090,433Increase in cash and cash equivalents
    
    
    5,084,771
    
    
    
    1,135,395Cash and cash equivalents, beginning of period
    
    
    25,904,489
    
    
    
    13,826,928Cash and cash equivalents, end of period
    
    $
    30,989,260
    
    
    $
    14,962,323
 See Notes to Consolidated Financial Statements. 4




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##### Table of Contents



Valley Bancorp 
 Notes to Consolidated Financial Statements
  1. Nature of Business and Basis of Presentation Valley Bancorp is a bank holding company whose primary subsidiary, Valley Bank, is a Nevada State
chartered bank that provides a full range of banking services to commercial and consumer customers
through three branches located in Las Vegas, Henderson and Pahrump, Nevada. These entities are
collectively referred to herein as the Company. The Companys business is concentrated in southern
Nevada and is subject to the general economic conditions of this area. Segment information is not
presented since all of the Companys revenues are attributable to one operating segment. The accounting and reporting policies of the Company conform to accounting principles generally
accepted in the United States of America and general industry practices. The preparation of
financial statements requires management to make estimates and assumptions that affect the reported
amounts of assets and liabilities and disclosures of contingent assets and liabilities at the date
of the financial statements and the reported amounts of revenues and expenses during the reporting
period. Actual results could differ from those estimates. A material estimate that is
particularly susceptible to significant change in the near term relates to the determination of the
allowance for loan losses. The information as of and for the periods ended March 31, 2005 and 2004 has not been audited and is
presented in a condensed format which does not contain all of the information and footnotes
required by generally accepted accounting principles for complete financial statements. The
information furnished in these interim statements reflects all adjustments that are, in the opinion
of management, necessary for a fair statement of the results for each respective period presented.
Such adjustments are of a recurring nature unless otherwise disclosed. The results of operations
for the three months ended March 31, 2005 are not necessarily indicative of results to be
anticipated for the full year ending December 31, 2005. 2. Earnings Per Share Basic earnings per share represents income available to common stockholders divided by the
weighted-average number of common shares outstanding during the period. Diluted earnings per share
reflects additional common shares that would have been outstanding if dilutive potential common
shares had been issued, as well as any adjustment to income that would result from assumed
issuance. Potential common shares that may be issued by the Company relate solely to outstanding
options, and are determined using the treasury stock method. Earnings per common share have been computed based on the following: Three Months Ended March 31,2005
    
    
    2004Net income
    
    $
    1,092,197
    
    
    $
    622,331Average number of common shares outstanding
    
    
    2,790,792
    
    
    
    1,725,478Effect of dilutive options
    
    
    162,970
    
    
    
    59,501Average number of common shares outstanding used to
calculate diluted earnings per common share
    
    
    2,953,762
    
    
    
    1,784,979Basic EPS
    
    $
    0.39
    
    
    $
    0.36Diluted EPS
    
    $
    0.37
    
    
    $
    0.35
 5




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3. Stock Options The Company has two stock-based compensation plans, which are described more fully in Note 12 of
the Companys December 31, 2004 Annual Report on Form 10-K as filed with the SEC. The Company
accounts for those plans under the recognition and measurement principles of APB Opinion No. 25,
Accounting for Stock Issued to Employees,and related interpretations. No stock-based employee
compensation cost is reflected in net income, as all options granted under those plans had an
exercise price equal to the estimated fair value of the underlying common stock on the date of
grant. The following table illustrates the effect on net income and earnings per share if the
Company had applied the fair value recognition provisions of FASB Statement No. 123, Accounting for
Stock-Based Compensation,to stock-based employee compensation: Three Months Ended March 31,2005
    
    
    2004Net Income As Reported
    
    $
    1,092,197
    
    
    $
    622,331Deduct: Total Stock-Based Employee Compensation Expense
Determined Under Fair Value Based Method For All
Awards,Net Of Related Tax Effects
    
    
    (16,197
    )
    
    
    (15,331
    )Proforma net income
    
    $
    1,076,000
    
    
    $
    607,000Basic earnings per share  As reported
    
    $
    0.39
    
    
    $
    0.36Basic earnings per share  Pro forma
    
    $
    0.39
    
    
    $
    0.35Diluted earnings per share  As reported
    
    $
    0.37
    
    
    $
    0.35Diluted earnings per share  Pro forma
    
    $
    0.36
    
    
    $
    0.34
 4. Loans The composition of the Companys loan portfolio was as follows: At March 31,
    
    
    At December 31,2005
    
    
    2004Commercial and industrial
    
    $
    32,525,364
    
    
    $
    31,726,393Real Estate:Commercial
    
    
    91,820,788
    
    
    
    90,454,931Construction, raw land and land development
    
    
    97,224,368
    
    
    
    70,928,073Residential
    
    
    3,487,219
    
    
    
    4,520,612Consumer
    
    
    1,075,665
    
    
    
    1,404,676226,133,404
    
    
    
    199,034,685Deduct:Unearned net loan fees
    
    
    (878,062
    )
    
    
    (764,782
    )Allowance for loan losses
    
    
    (2,247,668
    )
    
    
    (2,113,188
    )Net loans
    
    $
    223,007,674
    
    
    $
    196,156,715
 Impaired and nonaccrual loans were approximately $146,000 and $170,000 as of March 31, 2005 and
December 31, 2004, respectively. Net recoveries for the three months ended March 31, 2005 and 2004
were $90,000 and $200,000, respectively. 6




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5. Commitments and Contingencies Contingencies In December 2003 the Company reached a settlement in connection with certain loan losses it
incurred during the year ended December 31, 2002. The Company received $300,000 in January 2004.
In addition, the terms of the settlement provide for twelve quarterly payments of $20,000 starting
April 2004, and a final payment of $10,000 on April 1, 2007. The Company is recognizing these
payments as recoveries to the allowance for loan losses as they are received. In the normal course of business, the Company is involved in various other legal proceedings. In
the opinion of management, any liability resulting from such proceedings would not have a material
adverse effect on the consolidated financial statements. Financial instruments with off-balance-sheet risk The Company is party to financial instruments with off-balance-sheet risk in the normal course
of business to meet the financing needs of its customers. These financial instruments consist of
commitments to extend credit. They involve, to varying degrees, elements of credit risk in excess
of the amounts recognized in the balance sheets. The Companys exposure to credit loss in the event of nonperformance by the other parties to the
financial instruments for these commitments is represented by the contractual amounts of those
instruments. The Company uses the same credit policies in making commitments and conditional
obligations as it does for on-balance-sheet instruments. A summary of the contract amount of the Companys exposure to off-balance-sheet risk as of March
31, 2005 and December 31, 2004 is as follows: At March 31,
    
    
    At December 31,2005
    
    
    2004Commitments to extend credit, of which approximately
$7,458,000 and $6,237,000 are unsecured at March
31, 2005
and December 31, 2004, respectively
    
    $
    77,721,000
    
    
    $
    66,506,000Standby letters of credit, of which approximately
$25,000 and $275,000 are unsecured at March 31, 2005
and December 31, 2004, respectively
    
    
    1,389,000
    
    
    
    1,639,000$
    79,110,000
    
    
    $
    68,145,000
 Commitments to extend credit Commitments to extend credit are agreements to lend to a customer as long as there is no
violation of any condition established in the contract. Commitments generally have fixed
expiration dates or other termination clauses and may require payment of a fee. Since many of the
commitments are expected to expire without being drawn upon, the total commitment amounts do not
necessarily represent future cash requirements. The Company evaluates each customers
creditworthiness on a case-by-case basis. The amount of collateral obtained, if deemed necessary
by the Company upon extension of credit, is based on managements credit evaluation of the party.
Collateral held varies, but may include accounts receivable, inventory, property and equipment,
residential real estate and income-producing commercial properties. 7




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##### Table of Contents



Standby letters of credit Standby letters of credit are conditional commitments issued by the Company to guarantee the
performance of a customer to a third party. Those guarantees are primarily issued to support
public and private borrowing arrangements. The credit risk involved in issuing letters of credit
is essentially the same as that involved in extending loan facilities to customers. Lease commitments In 2001, the Company entered into a non-cancelable operating lease with respect to its Pahrump
branch office, expiring in five years. The lease includes two renewal option periods of five years
each. The agreement requires monthly rental payments of approximately $7,120 for the first year
with an escalation clause for subsequent years. At March 31, 2005, the future annual lease
payments due under this lease commitment totaled approximately $86,000. Financial instruments with concentrations of credit risk Concentration by geographic location The Company makes commercial, commercial real estate, residential real estate and consumer loans to
customers primarily in southern Nevada. At March 31, 2005 and December 31, 2004, real estate loans
accounted for approximately 85% and 83%, respectively of the total loans. Substantially all of
these loans are secured by first liens with an initial loan to value ratio of generally not more
than 75%. The Companys policy for requiring collateral is to obtain collateral whenever it is
available or desirable; depending upon the degree of risk the Company is willing to take. The
Companys loans are expected to be repaid from cash flow or from proceeds from the sale of selected
assets of the borrowers. Approximately 3% of the Companys loan portfolio was unsecured at March
31, 2005 and December 31, 2004. A substantial portion of the Companys customers ability to honor their contracts is dependent on
the economy in the area. The Companys goal is to continue to maintain a diversified loan
portfolio, which requires the loans to be well collateralized and supported by cash flows. Employment and severance agreements The Company entered into a three-year employment agreement with its president commencing on March
22, 2000. In the event the Company terminates the employment of the president without cause, or
upon change in control of the Company, the Company may be liable for a payment as outlined in the
employment agreement. The employment agreement was amended in October 2002 to extend the agreement
for an additional 3 years, through March 2006. The employment agreement was amended again in May
2004 to extend the agreement for an additional 3 years, through March 2009. In addition, the
Company entered into severance agreements with three executive officers, whereby upon change in
control of the Company, the Company may be liable for a payment as outlined in the severance
agreements. 6. Reclassifications The reserve for unfunded commitments of approximately $88,000 at March 31, 2005 and $82,000 at
December 31, 2004 has been reclassified from the allowance for loan losses to the other liability
category on the consolidated balance sheets for the respective period pursuant AICPA Statement of
Position 01-6 Accounting by Certain Entities that Lend to or Finance Activities of Others. There
was no change to previously reported net income or stockholders equity as a result of this
reclassification. 7. Subsequent Events At the Companys 2005 Annual Shareholders Meeting that was held on April 19, 2005, the following
amendments to the Employee Stock Option Plan as outlined in the Proxy Statement as filed with the
Securities and Exchange Commission were approved: 8




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
    Increase the number of shares available for grant under the Employee Plan by 100,000
shares, which will be available for future option grants;
    Extend the term of the Employee Plan by 10 years from the date of the Board approval of
the amendment, so that the Employee Plan will terminate on March 23, 2015; and
    Permit the grant of restricted stock awards under the Employee Plan. 8. Recent Accounting Pronouncements In December 2004, the Financial Accounting Standards Board (FASB) published FASB Statement No.
123 (revised 2004), Share-Based Payment (FAS 123(R) or the Statement). FAS 123(R) requires
that the compensation cost relating to share-based payment transactions, including grants of
employee stock options, be recognized in financial statements. That cost will be measured based on
the fair value of the equity or liability instruments issued. FAS 123(R) permits entities to use
any option-pricing model that meets the fair value objective in the Statement. Modifications of
share-based payments will be treated as replacement awards with the cost of the incremental value
recorded in the financial statements. The Statement is effective at the beginning of the first quarter of 2006. As of the effective date,
the Company will apply the Statement using a modified version of prospective application. Under
that transition method, compensation cost will be recognized for (1) all awards granted after the
required effective date and to awards modified, cancelled, or repurchased after that date and (2)
the portion of awards granted subsequent to the completion of our IPO and prior to the effective
date for which the requisite service has not yet been rendered, based on the grant-date fair value
of those awards calculated for pro forma disclosures under SFAS 123. The impact of this Statement on the Company in 2006 and beyond will depend upon various factors,
among them being the future compensation strategy. 9




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Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations This Quarterly Report contains forward-looking statements within the meaning of the federal
securities laws. These statements are not historical facts, but rather are statements based on the
Companys current expectations regarding its business strategies and their intended results and its
future performance. Forward-looking statements are preceded by terms such as expects, feels,
believes, anticipates, intends, and similar expressions. Forward-looking statements are not
guarantees of future performance. Numerous risks and uncertainties could cause the Companys actual
results, performance, and achievements to be materially different from those expressed or implied
by the forward-looking statements. Factors that may cause or contribute to these differences
include, without limitation, general economic conditions, including changes in market interest
rates and changes in monetary and fiscal policies of the federal government; changes in market
conditions in the Companys principal market area; adverse changes in the financial condition of
the loan loss reserves; competitive pressures on loan or deposit terms; legislative and regulatory
changes; and other factors disclosed periodically in the Companys filings with the Securities and
Exchange Commission. Because of the risks and uncertainties inherent in forward-looking statements,
readers are cautioned not to place undue reliance on them, whether included in this report or made
elsewhere from time to time by the Company or on its behalf. The Company assumes no obligation to
update any forward-looking statements. Overview of Operating Results for the Three Months Ended March 31, 2005 and 2004 Net income increased from $622,000 or $0.35 per diluted share for the quarter ended March 31, 2004
to $1.1 million or $0.37 per diluted share for the quarter ended March 31, 2005. This represents
an increase of 76% in net income from prior period. The increase was primarily the result of
higher interest income from loans and other earning assets due to increased outstanding totals as
well as an improved interest margin. A rising interest rate environment has contributed to the
improvement in the interest margin. The efficiency ratio, which represents total non-interest
expense divided by the sum of net interest income and total non-interest income excluding provision
for loan losses and gain or loss on sales of securities, has also improved, decreasing to 50% at
March 31, 2005 as compared to 54% at March 31, 2004. Weighted average shares outstanding on a
fully diluted basis at March 31, 2005 were 2,953,762 shares as compared to 1,784,979 shares at
March 31, 2004. This represents an increase of 1,168,783 shares or 65% and was due primarily to
the successful completion of the Companys Initial Public Offering that closed on September 28,
2004. This large increase in the number of shares outstanding resulted in a smaller increase in
the earnings per share for the three months ended March 31, 2005 as compared to the same period in
2004. These items are discussed in further detail below. Critical Accounting Policies The Companys consolidated financial statements are prepared in accordance with generally accepted
accounting principles. The financial information contained within these statements is, to a
significant extent, financial information that is based on approximate measures of the financial
effects of transactions and events that have already occurred. Based on its consideration of
accounting policies that involve the most complex and subjective decisions and assessments,
management has identified the allowance for loan losses as its most critical accounting policy. Allowance for Loan Loss Methodology.The Companys allowance for loan loss methodology incorporates
a variety of risk considerations, both quantitative and qualitative in establishing an allowance
for loan loss that management believes is appropriate at each reporting date. Quantitative factors
include the Companys historical loss experience, peer group experience, delinquency and charge-off
trends, collateral values, changes in nonperforming loans, and other factors. Quantitative factors
also incorporate known information about individual loans, including borrowers sensitivity to
interest rate movements. Qualitative factors include the general economic environment in markets,
including economic conditions and in particular, the state of certain industries. Size and
complexity of individual credits in relation to loan structure, existing loan policies and pace of
portfolio growth are other qualitative factors that are considered in the methodology. Changes in
the factors themselves are driven by perceived risk in pools of homogenous loans classified by
collateral type, purpose, terms, etc. Management monitors local trends and peer experiences to
anticipate future delinquency potential on a quarterly basis. 10




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##### Table of Contents



Since the Company has neither extensive loss history with segregation nor a large sample of loans
from inception to charge off, the Company does not use migration analysis to accurately anticipate
future losses through that method. The Company relies heavily on the statistics provided through
the FDIC regarding loss percentages experienced by banks in the Western United States to establish
potential risk based on collateral type securing each loan. As additional comparison, the Company
examines local peer group banks to determine the nature and scope of their losses to date. Finally,
the Company closely examines each credit graded Special Mention and below to individually assess
the appropriate loan loss reserve for that particular credit. The Company periodically reviews the assumptions and formulae by which additions are made to the
specific and general valuation allowances for losses in an effort to refine such allowances in
light of the current status of the factors described above. As the Company adds new products and increase the diversity of our loan portfolio, we will enhance
our methodology accordingly. We may report a materially different amount for the provision for loan
losses in the statement of income to change the allowance for loan losses if our assessment of the
above factors were different. Although the Company believes the levels of the allowance as of March 31, 2005 was adequate to
absorb probable losses in the loan portfolio, a decline in local economic conditions, or other
factors, could result in increasing losses that cannot be reasonably predicted at this time. Comparison of Financial Condition at March 31, 2005 and December 31, 2004 Total Assets. Total assets increased 14%, from $274 million at December 31, 2004 to $311 million at
March 31, 2005. This overall increase reflects a $27 million or 14% increase in net loans
receivable, a $5 million or 20% increase in cash and cash equivalents, and a $3 million or 8%
increase in investments. Fixed assets also increased by $2 million or 41% due to a purchase of the
new headquarters for the Company to be occupied in the third quarter of 2005. The increase in net
loans receivable is primarily due to a $26 million increase in construction and land lending.
Federal funds sold increased $8 million from December 31, 2004 to March 31, 2005 to accommodate the
loan funding needs as well as the liquidity needs for the next 30-45 days. The Companys commercial loan growth was centered in commercial real estate loans, specifically in
construction of commercial retail, industrial, and office properties. Additionally, the Las Vegas
real estate market drove an increase in land and land development loans. The following table sets forth the composition of our loan portfolio by the type of loan at the
dates indicated: At March 31, 2005
    
    
    At December 31, 2004Amount
    
    
    Percent
    
    
    Amount
    
    
    Percent(Dollars in thousands)Construction, land and land development loans
    
    $
    97,224
    
    
    
    43.00
    %
    
    $
    70,928
    
    
    
    35.63
    %Commercial real estate loans
    
    
    91,821
    
    
    
    40.60
    %
    
    
    90,455
    
    
    
    45.45
    %Commercial and industrial loans
    
    
    32,525
    
    
    
    14.38
    %
    
    
    31,726
    
    
    
    15.94
    %Other loans
    
    
    4,564
    
    
    
    2.02
    %
    
    
    5,926
    
    
    
    2.98
    %Total loans
    
    
    226,134
    
    
    
    100.00
    %
    
    
    199,035
    
    
    
    100.00
    %Allowance for loan losses
    
    
    (2,248
    )
    
    
    
    
    
    
    (2,113
    )Unearned net loan fees
    
    
    (878
    )
    
    
    
    
    
    
    (765
    )Net loans
    
    $
    223,008
    
    
    
    
    
    
    $
    196,157
 11




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##### Table of Contents



The following table sets forth the composition of the securities portfolio at the periods
indicated. The securities are shown at fair value and unrealized gains and losses are excluded from
earnings and are reported net of deferred taxes in accumulated other comprehensive income as a
component of stockholders equity. At March 31,
    
    
    At December 31,2005
    
    
    2004(Dollars in thousands)US Government agency securities
    
    $
    29,504
    
    
    $
    29,863Mortgage backed securities
    
    
    7,313
    
    
    
    4,625Collateralized mortgage obligations
    
    
    1,780
    
    
    
    1,925Total
    
    $
    38,597
    
    
    $
    36,413
 Deposits. Total deposits increased $36 million or 15%, from $236 million at December 31, 2004 to
$272 million at March 31, 2005. Non-interest-bearing deposits increased $2 million or 5%, primarily
due to an increase in business demand deposit accounts. Interest-bearing deposits increased $33
million or 17%, primarily due to a $31 million or 28% increase in time deposits, a $4 million or 6%
increase in money market accounts, and a $1 million or 10% decrease in savings accounts. The
significant increase in time deposits was due to the promotion that was run during the quarter to
generate the funds needed for loan originations. Transaction accounts, which include both
interest-bearing and non-interest-bearing accounts, increased $5 million, from $126 million at
December 31, 2004 to $131 million at March 31, 2005. The increase in business demand deposits and
business money market accounts is due to increased business relationships and marketing efforts
focused on gaining and retaining core deposit accounts. The following table reflects deposit ending balances by category as of the dates indicated. At March 31, 2005
    
    
    At December 31, 2004Percent of
    
    
    
    
    
    
    Percent ofAmount
    
    
    Deposits
    
    
    Amount
    
    
    Deposits(Dollars in thousands)Transaction accounts:Savings accounts
    
    $
    12,132
    
    
    
    4.46
    %
    
    $
    13,411
    
    
    
    5.68
    %Money market deposit accounts
    
    
    56,075
    
    
    
    20.64
    %
    
    
    52,126
    
    
    
    22.07
    %NOW accounts
    
    
    18,026
    
    
    
    6.63
    %
    
    
    18,102
    
    
    
    7.66
    %Noninterest-bearing demand
accounts
    
    
    44,822
    
    
    
    16.50
    %
    
    
    42,664
    
    
    
    18.06
    %Total transaction accounts
    
    
    131,055
    
    
    
    48.23
    %
    
    
    126,303
    
    
    
    53.47
    %Time Deposits:$100,000 and over
    
    
    60,159
    
    
    
    22.14
    %
    
    
    44,241
    
    
    
    18.73
    %Other time
    
    
    80,512
    
    
    
    29.63
    %
    
    
    65,667
    
    
    
    27.80
    %Total time deposits
    
    
    140,671
    
    
    
    51.77
    %
    
    
    109,908
    
    
    
    46.53
    %Total Deposits
    
    $
    271,726
    
    
    
    100.00
    %
    
    $
    236,211
    
    
    
    100.00
    %
 Stockholders Equity. Stockholders equity increased from $36.3 million at December 31, 2004 to
$37.1 million at March 31, 2005. This increase was primarily due to the $1.1 million net income
earned during the first quarter of 2005 offset by an increase in unrealized losses on available for
sale securities of approximately $300,000. Non-Performing Assets. The Company had only one non-accrual loan of approximately $146,000 and one
loan of approximately $1.5 million that was past due 90 days or more as of March 31, 2005.
Management increased the 12




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##### Table of Contents



allowance for loan losses $135,000, or 6%, from $2.1 million at December 31, 2004 to $2.2 million
at March 31, 2005 primarily due to the growth in loans. The allowance for loan losses reflected
the current risk in the loan portfolio and represented about 1.0% of total loans as of March 31,
2005. The following table sets forth information concerning the allocation of allowance for loan losses
by loan category at the dates, indicated. At March 31, 2005
    
    
    At December 31, 2004Percent of
    
    
    
    
    
    
    Percent ofLoans in
    
    
    
    
    
    
    Loans inEach
    
    
    
    
    
    
    EachCategory to
    
    
    
    
    
    
    Category toAmount
    
    
    Total Loans
    
    
    Amount
    
    
    Total Loans(Dollars in thousands)Construction, land and land development loans
    
    $
    504
    
    
    
    43.00
    %
    
    $
    809
    
    
    
    35.63
    %Commercial real estate loans
    
    
    481
    
    
    
    40.60
    %
    
    
    526
    
    
    
    45.45
    %Commercial and industrial loans
    
    
    1,182
    
    
    
    14.38
    %
    
    
    720
    
    
    
    15.94
    %Other loans
    
    
    81
    
    
    
    2.02
    %
    
    
    58
    
    
    
    2.98
    %Total
    
    $
    2,248
    
    
    
    100.00
    %
    
    $
    2,113
    
    
    
    100.00
    %
 Comparison of Operating Results for the Three Months Ended March 31, 2005 and 2004. Net Income. Net income was $1.1 million for the three months ended March 31, 2005 as compared to
$622,000 for the same period in 2004. This represents an increase of $470,000 or 76%. Diluted
earnings per share increased 6%, from $0.35 for the three months ended March 31, 2004 to $0.37 for
the same period in 2005. Return on average assets increased from 1.23% for the quarter ended March
31, 2004 to 1.51% for the same period in 2005. Return on average equity, however, decreased, from
15.16% for the quarter ended March 31, 2004 to 11.86% for the same period in 2005 due to a higher
average equity balance during the quarter resulting from the successful completion of the Initial
Public Offering that closed on September 28, 2004. Higher net income for the quarter was due to
expanded loan portfolio and earning assets, increased net interest margin and improved efficiency
ratio. Net Interest Income. Net interest income increased $1.2 million or 55%, from $2.2 million for the
three months ended March 31, 2004 to $3.4 million for the same period in 2005. The Companys
average interest-earning assets increased $83 million or 43%, exceeding the increase in average
interest-bearing liabilities of $52 million or 33% for quarter ended March 31, 2005 as compared to
the quarter ended March 31, 2004. Interest rate spread for the same period improved by 0.21%,
increasing from 4.24% for the three months ended March 31, 2004 to 4.45% for the same period in
2005. Net interest margin also increased 0.42%, from 4.55% for the quarter ended March 31, 2004 to
4.97% for the same period in 2005. The ratio of average interest-earning assets to average
interest-bearing liabilities increased 9.19%, from 123.05% for the three months ended March 31,
2004 to 132.24% for the same period in 2005. Improvements in the interest rate spread and the net
interest margin can be attributed to the Companys asset sensitive balance sheet in a rising
interest rate environment. 13




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##### Table of Contents



The following tables set forth, for the periods indicated, information regarding (i) the total
dollar amount of interest income from interest-earning assets and the resultant average yields;
(ii) the total dollar amount of interest expense on interest-bearing liabilities and the resultant
average rate; (iii) net interest income; (iv) interest rate spread (the difference between the
average yield earned on our earning assets and the rate paid on interest bearing liabilities); and
(v) net interest margin. Distribution of Assets, Liabilities and Stockholders Equity; Interest Rates and Interest Differential Three Months Ended March 31,2005
    
    
    2004Interest
    
    
    Average
    
    
    
    
    
    
    Interest
    
    
    AverageAverage
    
    
    Income/
    
    
    Yield/
    
    
    Average
    
    
    Income/
    
    
    Yield/Balance (1)
    
    
    Expense
    
    
    Cost (2)
    
    
    Balance (1)
    
    
    Expense
    
    
    Cost (2)(Dollars in thousands)AssetsEarning assets:Loans (3) (4) (5)
    
    $
    208,302
    
    
    $
    3,931
    
    
    
    7.65
    %
    
    $
    149,297
    
    
    $
    2,623
    
    
    
    7.07
    %Federal funds sold (6)
    
    
    19,627
    
    
    
    121
    
    
    
    2.50
    %
    
    
    13,081
    
    
    
    32
    
    
    
    0.98
    %Interest bearing deposits (6)
    
    
    9,104
    
    
    
    56
    
    
    
    2.49
    %
    
    
    14,399
    
    
    
    66
    
    
    
    1.84
    %Investment securities (6)
    
    
    38,422
    
    
    
    354
    
    
    
    3.74
    %
    
    
    15,918
    
    
    
    102
    
    
    
    2.58
    %Total earning assets and interest income
    
    
    275,455
    
    
    
    4,462
    
    
    
    6.57
    %
    
    
    192,695
    
    
    
    2,823
    
    
    
    5.89
    %Non-interest earning assets:Cash and due from banks
    
    
    7,622
    
    
    
    
    
    
    
    
    
    
    
    6,183Premises and equipment
    
    
    5,799
    
    
    
    
    
    
    
    
    
    
    
    4,434Other assets
    
    
    2,024
    
    
    
    
    
    
    
    
    
    
    
    1,558Allowance for credit losses
    
    
    (2,244
    )
    
    
    
    
    
    
    
    
    
    
    (1,821
    )Total assets
    
    $
    288,656
    
    
    
    
    
    
    
    
    
    
    $
    203,049Liabilities and Stockholders EquityInterest bearing liabilities:Interest bearing demand deposits
    
    $
    73,194
    
    
    $
    213
    
    
    
    1.18
    %
    
    $
    66,337
    
    
    $
    135
    
    
    
    0.82
    %Savings deposits
    
    
    12,620
    
    
    
    18
    
    
    
    0.58
    %
    
    
    9,672
    
    
    
    12
    
    
    
    0.50
    %Time deposits $100,000 or more
    
    
    50,393
    
    
    
    324
    
    
    
    2.61
    %
    
    
    31,075
    
    
    
    179
    
    
    
    2.32
    %Other time deposits
    
    
    71,628
    
    
    
    526
    
    
    
    2.98
    %
    
    
    48,707
    
    
    
    307
    
    
    
    2.54
    %Short-term borrowings
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    307
    
    
    
    1
    
    
    
    1.31
    %Long-term borrowings
    
    
    463
    
    
    
    8
    
    
    
    7.01
    %
    
    
    502
    
    
    
    9
    
    
    
    7.21
    %Total interest bearing liabilities
    
    
    208,298
    
    
    
    1,089
    
    
    
    2.12
    %
    
    
    156,600
    
    
    
    643
    
    
    
    1.65
    %Noninterest-bearing liabilities:Demand deposits
    
    
    42,495
    
    
    
    
    
    
    
    
    
    
    
    29,314Other liabilities
    
    
    1,023
    
    
    
    
    
    
    
    
    
    
    
    722Stockholders equity
    
    
    36,840
    
    
    
    
    
    
    
    
    
    
    
    16,413Total liabilities and stockholders equity
    
    $
    288,656
    
    
    
    
    
    
    
    
    
    
    $
    203,049Net Interest Spread (7)
    
    
    
    
    
    
    
    
    
    
    4.45
    %
    
    
    
    
    
    
    
    
    
    
    4.24
    %Net interest income/margin (8)
    
    
    
    
    
    $
    3,373
    
    
    
    4.97
    %
    
    
    
    
    
    $
    2,180
    
    
    
    4.55
    %
   (1)
    
    Average balances are obtained from the best available daily data.(2)
    
    Annualized.(3)
    
    Loans are gross of allowance for credit losses but after unearned fees.(4)
    
    Non-accruing loans are included in the average balances.(5)
    
    Interest income includes loan fees of $60,000 and $122,000 for the quarter ended March 31, 2005 and 2004, respectively.(6)
    
    All investments are taxable.(7)
    
    Represents the difference between the yield on interest-earning assets and the cost of interest-bearing liabilities(8)
    
    Net interest margin represents net interest income as a percentage of average interest-earning assets. 14




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##### Table of Contents



Interest Income. For the three months ended March 31, 2005, interest income increased $1.6
million or 58%, primarily due to an increase of $1.3 million or 50% in loan interest income as
compared to the same period in 2004. This increase is the result of an increase of $59 million or
40% in average loans receivable. The average yield on these loans increased, from 7.07% for the
three months ended March 31, 2004 to 7.65% for the same period in 2005. Interest income on all
other investments increased by $332,000 or 166%. The average yield for these investments increased
1.34%, from 1.87% for the three months ended March 31, 2004 to 3.21% for the same period in 2005.
Larger investment portfolio and a rising rate environment contributed to the increase in investment
income as well as investment yield for the quarter ended March 31, 2005 as compared to the same
period in 2004. Interest Expense. For the three months ended March 31, 2005, total interest expense increased
$447,000 or 70% as compared to the same period last year. This increase is primarily due to an
increase in the average deposit balances as well as the cost of those deposits. Average deposits
increased $52 million or 33%, from $157 million for the three months ended March 31, 2004 to $208
million for the same period in 2005. The total cost of funds increased 0.47%, from 1.65% for the
quarter ended March 31, 2004 to 2.12% for the same period in 2005. Provision for Loan Losses. The provision for loan losses totaled $51,000 for the three months ended
March 31, 2005 as compared to $105,000 for the same period in 2004. Net recoveries for the first
quarter 2005 were $90,000 as compared to $200,000 for the first quarter 2004. Net recoveries for
the quarter ended March 31, 2004 included $300,000 received from the equipment lease loan that was
charged off for $1.3 million due to an alleged fraud in 2002 (see Note 7 to the Consolidated
Financial Statements for more details). Management feels that their evaluations and estimations
were reasonable for determining the provision, and the allowance for loan losses is deemed to be
adequate as of March 31, 2005. However, a decline in economic conditions or other factors beyond
managements control could significantly alter the amount of losses the Company recognizes in the
future. The following table sets forth the activity in allowance for loan losses for the periods indicated. At or For theThree Months EndedMarch 31,2005
    
    
    2004(Dollars in thousands)Balance at the beginning of period
    
    $
    2,113
    
    
    $
    1,457Charge-offs:Commercial and industrial loans
    
    
    
    
    
    
    (100
    )Total charge-offs
    
    
    
    
    
    
    (100
    )Recoveries:Commercial and industrial loans
    
    
    90
    
    
    
    300Total recoveries
    
    
    90
    
    
    
    300Net (charge-offs)/recoveries
    
    
    90
    
    
    
    200Additions charge to operations
    
    
    51
    
    
    
    105Unfunded commitment reserve adjustments (1)
    
    
    (6
    )
    
    
    (1
    )Balance at end of period
    
    $
    2,248
    
    
    $
    1,761Allowance for loan losses as a percent of total loans
    
    
    1.00
    %
    
    
    1.09
    %Ratio of net
charge-offs/(recoveries) to average loans - annualized
    
    
    (0.17
    )%
    
    
    (0.54
    )%
 15




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##### Table of Contents



(1)
    
    Unfunded commitments reserve included in other liabilities was $88,000 at March 31, 2005
and $107,000 at March 31, 2004. Non-Interest Income. Non-interest income was $75,000 for the three months ended March 31, 2005, as
compared to $101,000 for the same period in 2004. The decrease of $26,000 was due primarily to a
gain on the sale of securities of $14,000 in the first quarter of 2004 while there was none in the
first quarter of 2005 and lower service charge income. The following table sets forth information regarding noninterest income for the periods shown. Noninterest IncomeFor the Three MonthsEnded March 31,2005
    
    
    2004(Dollars in thousands)Banking and service charge fees
    
    $
    56
    
    
    $
    75Gain on sale of securities
    
    
    
    
    
    
    14Other income
    
    
    19
    
    
    
    12Total noninterest income
    
    $
    75
    
    
    $
    101
 Non-Interest Expense. Non-interest expense increased $510,000 or 41%, from $1.2 million for the
three months ended March 31, 2004 to $1.7 million for the same period in 2005. The increase was
primarily a result of increased compensation and employee benefits costs due to increasing staff
levels, higher professional fees associated with being a publicly traded company, higher data
processing expenses due to increased number of customers accounts and transactions being
processed, and higher marketing and advertising costs. For the quarter ended March 31, 2005,
non-interest expense as a percentage of average earning assets on annualized basis was 2.53% as
compared to 2.56% for the same period in 2004. The Company also achieved an efficiency ratio of
50.5% for quarter ended March 31, 2005 as compared to 54.3% for the same period in 2004. The
efficiency ratio represents total non-interest expense divided by the sum of net interest income
and total non-interest income excluding provision for loan losses and gain or loss on sales of
securities. Lower efficiency ratio is good. Full time equivalent employees at March 31, 2005
were 53 as compared to 44 at March 31, 2004. This represents an increase of 9 FTEs or 20%. The following table sets forth information regarding noninterest expenses for the periods shown. Noninterest ExpenseFor the Three MonthsEnded March 31,2005
    
    
    2004(Dollars in thousands)Salaries and employee benefits
    
    $
    901
    
    
    $
    690Occupancy and equipment
    
    
    171
    
    
    
    144Data processing
    
    
    104
    
    
    
    75Legal, professional and consulting
    
    
    111
    
    
    
    35Advertising and public relations
    
    
    46
    
    
    
    29Outside services
    
    
    65
    
    
    
    57Office supplies & printing
    
    
    70
    
    
    
    34
 16




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##### Table of Contents



Noninterest ExpenseFor the Three MonthsEnded March 31,2005
    
    
    2004(Dollars in thousands)Telephone
    
    
    46
    
    
    
    34Director fees
    
    
    51
    
    
    
    25Federal Reserve Bank & correspondent bank fees
    
    
    25
    
    
    
    31Other
    
    
    151
    
    
    
    77Total noninterest expense
    
    $
    1,741
    
    
    $
    1,231As a % of
average earning assets - annualized
    
    
    2.53
    %
    
    
    2.56
    %Efficiency Ratio (1)
    
    
    50.49
    %
    
    
    54.30
    %Average earning assets
    
    $
    275,455
    
    
    $
    192,695
   (1)
    
    Efficiency ratio represents noninterest expenses, excluding loan loss provision, as a percentage of the
aggregate of net interest income and noninterest income, excluding gains or (losses) on sales of securities. Liquidity and Capital Resources The Companys primary sources of funds are customer deposits, proceeds from loan principal and
interest payments, sale of loans, and maturing securities. While maturities and scheduled
amortization of loans are a predictable source of funds, deposit flows and loans prepayments are
influenced greatly by general interest rates, other economic conditions, and competition. The
Company generally maintains sufficient cash and short-term investments to meet short-term liquidity
needs. At March 31, 2005, cash and cash equivalents and interest-bearing deposits at other
financial institutions totaled $41 million or 13% of total assets, and investment securities
available for sale totaled $39 million or 12% of total assets, for a total of $80 million in liquid
assets. The Companys liquidity is comprised of three primary classifications: cash flows from operating
activities; cash flows used in investing activities; and cash flows provided by financing
activities. Net cash provided by operating activities has consisted primarily of net income
adjusted for certain non-cash income and expense items such as the loan loss provision, investment
and other amortizations and depreciation. For the three months ended March 31, 2005 net cash
provided by operating activities was $2 million, as compared to net cash provided by operating
activities of $308,000 for the same period of 2004. This variance from the prior period was due
primarily to an increase in net income as well as increases in interest payable and other
liabilities. The Companys primary investing activities are the origination of real estate, commercial and
consumer loans and purchase and sale of securities and interest-bearing deposits at other financial
institutions. For the three months ended March 31, 2005, total net loans increased by $27 million
or 14% from December 31, 2004. Investment securities and interest-bearing deposits increased to
$49 million at March 31, 2005 from $46 million at December 31, 2004. Net cash used in all investing activities was $33 million and $24 million for the three months
ended March 31, 2005 and 2004, respectively. At March 31, 2005 the Company had outstanding loan
commitments of approximately $78 million and outstanding letters of credit of approximately $1
million. The Company anticipates that it will have sufficient funds available to meet current loan
commitments through its own liquid assets and borrowing capability from Federal Home Loan Bank of
San Francisco. Net cash provided by financing activities has been impacted significantly by increases in deposit
levels, especially time deposits during the first quarter of 2005. For the three months ended
March 31, 2005, total deposits increased by $36 million or 15% while time deposits increased by $31
million or 28% from December 31, 2004. Capital adequacy refers to the level of capital required to sustain asset growth over time and to
absorb losses. The Companys objective is to maintain a level of capitalization that is sufficient
to take advantage of profitable growth opportunities while meeting regulatory requirements. This is
achieved by improving profitability through effectively allocating resources to more profitable
businesses, improving asset quality, strengthening service quality, and streamlining costs. 17




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##### Table of Contents



As of March 31, 2005, the Company and the Banks regulatory capital ratios were in excess of all
applicable regulatory requirements. The following tables reflect the Companys and the Banks
actual levels of regulatory capital as of March 31, 2005 and the applicable minimum regulatory
capital requirements as well as the regulatory capital requirements that apply to be deemed well
capitalized pursuant to the prompt corrective action requirements. Valley
BancorpsCapital Ratios At March 31, 2005To be well capitalizedFor capital
    
    
    under prompt correctiveActual
    
    
    adequacy purposes
    
    
    action provisions (2)Amount
    
    
    Ratio
    
    
    Amount
    
    
    Ratio
    
    
    Amount
    
    
    Ratio(Dollars in thousands)Tier 1 leverage capital to average assets (1)
    
    $
    37,508
    
    
    
    12.99
    %
    
    $
    11,546
    
    
    
    4.00
    %
    
    
    n/a
    
    
    
    n/aTier 1 capital to risk weighted assets (1)
    
    
    37,508
    
    
    
    14.47
    %
    
    
    10,372
    
    
    
    4.00
    %
    
    
    n/a
    
    
    
    n/aTotal capital to risk weighted assets (1)
    
    
    39,844
    
    
    
    15.37
    %
    
    
    20,743
    
    
    
    8.00
    %
    
    
    n/a
    
    
    
    n/a
   (1)
    
    Tier 1 leverage (or core) capital ratio is computed as a percentage of average total assets of $288.7 million.Risk-based capital ratios are computed as a percentage of risk-weighted assets of $259.3 million.(2)
    
    See Supervision and Regulation - Capital
Adequacy - Prompt Corrective Action. Valley BanksCapital Ratios At March 31, 2005To be well capitalizedFor capital
    
    
    under prompt correctiveActual
    
    
    adequacy purposes
    
    
    action provisions (2)Amount
    
    
    Ratio
    
    
    Amount
    
    
    Ratio
    
    
    Amount
    
    
    Ratio(Dollars in thousands)Tier 1 leverage capital to average assets (1)
    
    $
    35,499
    
    
    
    12.38
    %
    
    $
    11,471
    
    
    
    4.00
    %
    
    $
    14,339
    
    
    
    5.00
    %Tier 1 capital to risk weighted assets (1)
    
    
    35,499
    
    
    
    13.71
    %
    
    
    10,355
    
    
    
    4.00
    %
    
    
    15,532
    
    
    
    6.00
    %Total capital to risk weighted assets (1)
    
    
    37,835
    
    
    
    14.62
    %
    
    
    20,710
    
    
    
    8.00
    %
    
    
    25,887
    
    
    
    10.00
    %
   (1)
    
    Tier 1 leverage (or core) capital ratio is computed as a percentage of average total assets of $286.8 million.Risk-based capital ratios are computed as a percentage of risk-weighted assets of $258.9 million.(2)
    
    See Supervision and Regulation - Capital
Adequacy - Prompt Corrective Action. At March 31, 2005, the Company had off-balance sheet loan commitments of approximately $79
million. Of this amount, the unused portion of lines of credit extended by the Company was
approximately $78 million and $1 million for standby letters of credit. Standby letters of credit
and financial guarantees are conditional commitments issued by the Company to guarantee the
performance of a customer to a third party. Those guarantees are primarily issued to support public
and private borrowing arrangements, including commercial paper, bond financing, and similar
transactions. Most guarantees extend from one to two years. The credit risk involved in issuing
letters of credit is essentially the same as that involved in extending loan facilities to
customers. 18




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##### Table of Contents



Impact of Inflation and Changing Prices The consolidated financial statements of the Company and notes thereto, presented elsewhere herein,
have been prepared in accordance with accounting principles generally accepted in the United States
of America, which require the measurement of financial condition and operating results in terms of
historical dollars without considering the change in relative purchasing power of money over time
due to inflation. The impact of inflation is reflected in the increased cost of the Companys
operations. Unlike most industrial companies, nearly all the assets and liabilities of the Company
are financial. As a result, interest rates have a greater impact on the Companys performance than
do the effects of general levels of inflation. Interest rates do not necessarily move in the same
direction or to the same extent as the prices of goods and services. 
 Item 3. Quantitative and Qualitative Disclosures About Market Risk Market risk arises from changes in interest rates, exchange rates, commodity prices and equity
prices. As a financial institution, the Companys market risk exposure is primarily that of
interest rate risk. The Company has established policies and procedures to monitor and limit
earnings and balance sheet exposure to changes in interest rates. The Company does not engage in
trading of financial instruments and does not have any exposure to exchange rates. The matching of assets and liabilities may be analyzed by examining the extent to which such assets
and liabilities are interest rate sensitive and by monitoring an institutions interest rate
sensitivity gap. An asset or liability is said to be interest rate sensitive within a specific
time period if it will mature or reprice within that time period. The interest rate sensitivity gap
is defined as the difference between the amount of interest-earning assets maturing or repricing
within a specific time period and the amount of interest-bearing liabilities maturing or repricing
within that time period. A gap is considered positive when the amount of interest rate sensitive
assets exceeds the amount of interest rate sensitive liabilities. A gap is considered negative when
the amount of interest rate sensitive liabilities exceeds the amount of interest rate sensitive
assets. During a period of rising interest rates, a negative gap would tend to result in a decrease
in net interest income while a positive gap would tend to result in an increase in net interest
income. During a period of falling interest rates, a negative gap would tend to result in an
increase in net interest income while a positive gap would tend to result in a decrease in net
interest income. Interest rate risk is managed in accordance with policies approved by the Companys Board of
Directors. Management formulates strategies based on appropriate levels of interest rate risk. In
determining the appropriate level of interest rate risk, management considers the impact on
earnings and capital of the current outlook on interest rates, potential changes in interest rates,
regional economy, liquidity, business strategies and other factors. Management meets regularly to
review, among other things, the sensitivity of assets and liabilities to interest rate changes, the
book and market value of assets and liabilities, unrealized gains and losses, purchase and sales
activities, commitments to originate loans and the maturities of investments. Management uses an
analysis of relationships between interest-earning assets and interest-bearing liabilities to
manage interest rate risk. The following table presents the Companys repricing gap at March 31, 2005. The table indicates
that at March 31, 2005 the Company was liability sensitive up to twelve months. This would indicate
a decrease in earnings in a rising rate environment. At March 31, 2005More ThanWithin
    
    
    One YearTwelve
    
    
    to Five
    
    
    Over FiveMonths
    
    
    Years
    
    
    Years
    
    
    Total(Dollars in thousands)Rate-Sensitive Assets:Interest-bearing deposits at other financial institutions
    
    $
    10,295
    
    
    $
    198
    
    
    
    
    
    
    $
    10,493Fed funds sold
    
    
    25,495
    
    
    
    
    
    
    
    
    
    
    
    25,495Securities - all available for sale
    
    
    2,963
    
    
    
    29,220
    
    
    
    6,414
    
    
    
    38,597Construction, land and land development loans
    
    
    93,271
    
    
    
    3,953
    
    
    
    
    
    
    
    97,224
 19




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##### Table of Contents



At March 31, 2005More ThanWithin
    
    
    One YearTwelve
    
    
    to Five
    
    
    Over FiveMonths
    
    
    Years
    
    
    Years
    
    
    Total(Dollars in thousands)Commercial real estate loans
    
    
    26,607
    
    
    
    65,214
    
    
    
    
    
    
    
    91,821Commercial and industrial loans
    
    
    19,542
    
    
    
    12,889
    
    
    
    94
    
    
    
    32,525Other loans
    
    
    2,809
    
    
    
    1,755
    
    
    
    
    
    
    
    4,564Total Rate-Sensitive Assets
    
    
    180,982
    
    
    
    113,229
    
    
    
    6,508
    
    
    
    300,719Rate-Sensitive Liabilities:Interest-bearing demand deposits
    
    
    74,101
    
    
    
    
    
    
    
    
    
    
    
    74,101Savings deposits
    
    
    12,132
    
    
    
    
    
    
    
    
    
    
    
    12,132Time deposits
    
    
    138,064
    
    
    
    2,608
    
    
    
    
    
    
    
    140,672Note payable
    
    
    42
    
    
    
    203
    
    
    
    212
    
    
    
    457Total Rate-Sensitive Liabilities
    
    $
    224,339
    
    
    $
    2,811
    
    
    $
    212
    
    
    $
    227,362Excess (deficiency) of Rate-Sensitive Assets
over Rate-Sensitive Liabilities
    
    $
    (43,357
    )
    
    $
    110,418
    
    
    $
    6,296Cumulative Excess (deficiency) of Rate-Sensitive Assets
over Rate-Sensitive Liabilities
    
    $
    (43,357
    )
    
    $
    67,061
    
    
    $
    73,357Cumulative Excess (deficiency) of Rate-Sensitive Assets
over Rate-Sensitive Liabilities as a percentage of total assets
    
    
    (13.94
    )%
    
    
    21.56
    %
    
    
    23.58
    %
 Although gap analysis as reflected in the table above is a useful measurement device available
to management to determine the existence of interest rate exposure, its static focus as of a
particular date makes it necessary for management to utilize other techniques to measure exposure
to changes in interest rates. For example, gap analysis is limited in its ability to predict trends
in future earnings and includes no assumptions regarding changes in prepayment tendencies, deposit
or loan maturity preferences or repricing time lags that may occur in response to a change in
interest rates. As a result of the limitations inherent in gap analysis, the Company also uses the FinServ asset
liability management model, a proprietary dynamic system that incorporates data regarding the
Companys loans, investments, deposits and borrowings into an interest sensitivity analysis
designed for financial institutions. This analysis measures interest rate risk by computing changes
in net interest income and net interest margin in the event of assumed changes in interest rates.
The analysis assesses the effect on net interest income and net interest margin in the event of an
increase or decrease in interest rates, assuming that such increase or decrease occurs ratably over
the next 12 months and remains constant over the subsequent 12 months. The Companys sensitivity to
gains or losses in future earnings due to hypothetical increases or decreases in the Federal Funds
rate as measured by this model as of March 31, 2005 is as follows : Increase in
    
    Net Interest Change
    
    
    
    Decrease in
    
    
    Net Interest ChangeInterest Rates
    
    $
    
    
    %
    
    
    
    Interest Rates
    
    
    $
    
    
    %(Dollars in thousands)+1.00%
    
    $
    270
    
    
    
    2
    %
    
    
    
    -1.00
    %
    
    $
    (329
    )
    
    
    (2
    )%+2.00%
    
    $
    567
    
    
    
    4
    %
    
    
    
    -2.00
    %
    
    $
    (725
    )
    
    
    (5
    )%+3.00%
    
    $
    893
    
    
    
    6
    %
    
    
    
    -3.00
    %
    
    $
    (1,186
    )
    
    
    (8
    )%
 Accordingly, a rise of 1.00% in interest rates would result in an increase in our net interest
income of $270,000, while a decline of 1.00% in interest rates would result in a decrease of
$329,000 in our net interest income, in each case over the 12 months following March 31, 2005. Management believes that the assumptions used in its interest sensitivity analysis to evaluate the
vulnerability of its net interest income to changes in interest rates are reasonable. However, the
interest rate sensitivity of the 20




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##### Table of Contents



Companys assets and liabilities, and the estimated effects of changes in interest rates on net
interest income, could vary substantially if different assumptions were used or if actual
experience differs from the projections upon which they are based. 
 Item 4. Controls and Procedures Evaluation of disclosure controls and procedures In accordance with Rule 13a-15(b) of the Securities Exchange Act of 1934 (the Exchange Act), an
evaluation was carried out with the participation of the Companys management, including the
Companys Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design
and operation of the Companys disclosure controls and procedures (as defined in Rule 13a-15(e) and
15d-15(e) under the Exchange Act) as of the end of the period covered by this report. Based upon
their evaluation of these disclosure controls and procedures, the Chief Executive Officer and the
Chief Financial Officer concluded that the disclosure controls and procedures were effective as of
the end of the period covered by this report to ensure that material information relating to the
Company, including its consolidated subsidiaries, was made known to them by others within those
entities, particularly during the period in which this quarterly
report on Form 10-Q was being
prepared. Changes in Internal Controls In the quarter ended March 31, 2005, the Company did not make any significant changes in, or take
any corrective actions regarding, its internal controls or other factors that could significantly
affect these controls. 21




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##### Table of Contents



Part II. Other Information 
 Item 1. Legal Proceedings  None. 
 Item 2. Unregistered Sales of Equity Securities and Use of Proceeds  Not applicable. 
 Item 3. Defaults Upon Senior Securities  Not applicable. 
 Item 4. Submission of Matters to a Vote of Security Holders  None. 
 Item 5. Other Information  None. 
 Item 6. Exhibits  31.1
    CEO Certification Pursuant Rule 13a-14(a)/15d-14(a)31.2
    CFO Certification Pursuant Rule 13a-14(a)/15d-14(a)32
    CEO and CFO Certification Pursuant 18 U.S.C. Section 1350, as adopted pursuant to section
906 of the Sarbanes  Oxley Act of 2002 22




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##### Table of Contents



Pursuant to the requirements of section 13 or 15(d) of the Securities Act of 1934, the registrant
has duly caused this report to be signed on its behalf by the undersigned, thereunto duly
authorized. VALLEY BANCORPDate:
May 13, 2005
    By:
    /s/ Barry L. HulinBarry L. HulinPresident and Chief Executive Officer Date:
May 13, 2005
    By:
    /s/ Dick HoltzclawDick HoltzclawExecutive Vice President and
Chief Financial Officer
(Principal Financial and Accounting Officer) 23