**SECURITIESAND EXCHANGE COMMISSION**

**WASHINGTON, D.C. 20549**

**FORM 10-Q**
| **x** | **QUARTERLY  REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES  EXCHANGE ACT OF 1934** |
|-------|-----------------------------------------------------------------------------------------------|

 

**For the Quarterly Period Ended March 31, 2007**
| **o** | **TRANSITION  REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES  EXCHANGE ACT OF 1934** |
|-------|-------------------------------------------------------------------------------------------------|

 

**COMMUNITYVALLEY BANCORP**

(Exact name of registrant as specified in its charter)

| **California**                   |   | **000-51678**             |   | **68-0479553**            |
|----------------------------------|--------|---------------------------|--------|---------------------------|
| (State or other  jurisdiction of |   | (Commission File  Number) |   | (IRS Employer ID  Number) |
| incorporation or  organization)  |   |                      |   |                      |

 

| **2041 Forest Avenue, Chico, California** |   | **95928**  |
|-------------------------------------------|--------|------------|
| (Address of  principal executive offices) |   | (Zip code) |

 

**(530) 899-2344**

(Registrant’s telephone number, including area code)

**not applicable**

(Former name, former address and former fiscal year,if changed since last report.)

Indicateby check mark whether the registrant (1) has filed all reports required to befiled by Section 13 or 15(d) of the Securities Exchange Act of 1934 during thepreceding 12 months (or such shorter period that the registrant was required tofile such reports), and (2) has been subject to such filing requirements forthe past 90 days.

Yes  x  No  o

Indicateby check mark whether the registrant is a large accelerated filer, anaccelerated filer, or a non-accelerated filer. See definition of “acceleratedfiler and large accelerated filer” in Exchange Act Rule 12-b-2.
| Large accelerated filer |   | o |   | Accelerated filer |   | x |   | Non-accelerated filer |   | o |
|-------------------------|--------|---|--------|-------------------|--------|---|--------|-----------------------|--------|---|

 

Indicateby check mark whether the registrant is a shell company (as defined in ExchangeAct Rule 12b-2. Yes  o  No  x

Indicatethe number of shares outstanding of each of the issuer’s classes of commonstock, as of the latest practicable date:

No par value Common Stock— 7,567,766 shares outstanding at May 8, 2007.

 

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PART 1-FINANCIAL INFORMATION

Item 1. FINANCIAL STATEMENTS

COMMUNITY VALLEY BANCORP

CONDENSEDCONSOLIDATED BALANCE SHEET (Unaudited)

(dollars in thousands)
| ** **                                                                                                                                                         | ** ** | **March 31, 2007** | ** ** | **December 31, 2006** | ** ** |
|--------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|------------------------------|------------|---------------------------------|------------|
| ASSETS                                                                                                                                                             |       |                         |       |                            |       |
| Cash and due from banks                                                                                                                                            |       | $                            | 17,727     |                            | $          | 20,558 |   |
| Federal funds sold                                                                                                                                                 |       | 60,230                       |       | 42,070                          |       |
| Total cash &  cash equivalents                                                                                                                                 |       | 77,957                       |       | 62,628                          |       |
|                                                                                                                                                               |       |                         |       |                            |       |
| Interest-bearing  deposits in banks                                                                                                                                |       | 1,684                        |       | 2,278                           |       |
| Investment securities  (fair value of $5,058 at March 31, 2007 and $5,109 at December 31, 2006)                                                                    |       | 5,067                        |       | 5,127                           |       |
| Loans held for sale at  lower of cost or market                                                                                                                    |       | 1,797                        |       | 790                             |       |
| Loans, less allowance  for loan losses of $5,349 at March 31, 2007 and $5,274 at December 31, 2006                                                                 |       | 446,882                      |       | 442,251                         |       |
| Premises and equipment,  net                                                                                                                                       |       | 17,020                       |       | 15,359                          |       |
| Accrued interest  receivable and other assets                                                                                                                      |       | 21,958                       |       | 21,604                          |       |
| Total assets                                                                                                                                                       |       | $                            | 572,365    |                            | $          | 550,037 |   |
| ** **                                                                                                                                                         | ** ** | ** **                   | ** ** | ** **                      | ** ** |
| LIABILITIES AND  SHAREHOLDERS’ EQUITY                                                                                                                         |       |                         |       |                            |       |
|                                                                                                                                                               |       |                         |       |                            |       |
| Deposits:                                                                                                                                                          |       |                         |       |                            |       |
| Non-interest  bearing                                                                                                                                              |       | $                            | 74,390     |                            | $          | 76,988 |   |
| Interest bearing                                                                                                                                                   |       | 431,145                      |       | 407,868                         |       |
| Total deposits                                                                                                                                                     |       | 505,535                      |       | 484,856                         |       |
|                                                                                                                                                               |       |                         |       |                            |       |
| Notes payable                                                                                                                                                      |       | 1,185                        |       | 1,217                           |       |
| Junior subordinated  debentures                                                                                                                                    |       | 8,248                        |       | 8,248                           |       |
| Accrued interest  payable and other liabilities                                                                                                                    |       | 10,480                       |       | 9,989                           |       |
|                                                                                                                                                               |       |                         |       |                            |       |
| Total  liabilities                                                                                                                                                 |       | $                            | 525,448    |                            | $          | 504,310 |   |
| ** **                                                                                                                                                         | ** ** | ** **                   | ** ** | ** **                      | ** ** |
| Commitment and  contingencies                                                                                                                                      |       |                         |       |                            |       |
|                                                                                                                                                               |       |                         |       |                            |       |
| Shareholders’ equity                                                                                                                                          |       |                         |       |                            |       |
| Common stock -  no par value; 20,000,000 shares authorized; issued and outstanding -  7,496,797 shares at March 31, 2007 and 7,394,664 shares at December 31, 2006 |       | 10,247                       |       | 9,727                           |       |
|                                                                                                                                                               |       |                         |       |                            |       |
| Unallocated ESOP  shares 151,566 shares at March 31, 2007 and 155,258 shares at December 31,  2006, at cost)                                                       |       | (1,499                       | )          | (1,514                          | )          |
| Retained  Earnings                                                                                                                                                 |       | 38,155                       |       | 37,505                          |       |
| Accumulated  other comprehensive income, net                                                                                                                       |       | 14                           |       | 9                               |       |
|                                                                                                                                                               |       |                         |       |                            |       |
| Total  shareholders’ equity                                                                                                                                   |       | 46,917                       |       | 45,727                          |       |
| Total  liabilities and shareholders’ equity                                                                                                                   |       | $                            | 572,365    |                            | $          | 550,037 |   |

 

2

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COMMUNITY VALLEY BANCORP

CONDENSEDCONSOLIDATED STATEMENT OF INCOME

(Unaudited)

(dollars in thousands, except per share data)
| ** **                                           | ** ** | **Three Months Ended** | ** ** |
|------------------------------------------------------|------------|----------------------------------|------------|
| ** **                                           | ** ** | **March 31,**               | ** ** |
| ** **                                           | ** ** | **2007**                         | ** ** | **2006** | ** ** |
| Interest income:                                     |       |                             |       |   |   |
| Interest and fees on loans                           |       | $                                | 9,931      |   | $ | 8,941 |   |
| Interest on federal funds sold                       |       | 595                              |       | 205 |   |
| Interest on deposits in banks                        |       | 24                               |       | 56 |   |
| Interest on investment securities:                   |       |                             |       |   |   |
| Taxable                                              |       | 49                               |       | 50 |   |
| Exempt from federal income tax                       |       | 16                               |       | 16 |   |
|                                                 |       |                             |       |   |   |
| Total interest income                                |       | 10,615                           |       | 9,268 |   |
| ** **                                           | ** ** | ** **                       | ** ** | ** ** | ** ** |
| Interest  expense:                                   |       |                             |       |   |   |
| Interest expense on deposits                         |       | 3,173                            |       | 1,539 |   |
| Interest expense on junior subordinated debentures   |       | 185                              |       | 170 |   |
| Interest expense on notes payble                     |       | 23                               |       | 18 |   |
| Total interest expense                               |       | 3,381                            |       | 1,727 |   |
|                                                 |       |                             |       |   |   |
| Net Interest Income before Provision for Loan Losses |       | 7,234                            |       | 7,541 |   |
|                                                 |       |                             |       |   |   |
| Provision for  loan losses                           |       | 75                               |       | 225 |   |
|                                                 |       |                             |       |   |   |
| Net Interest Income after Provision for Loan Losses  |       | 7,159                            |       | 7,316 |   |
|                                                 |       |                             |       |   |   |
| Non-interest  income                                 |       | 1,714                            |       | 1,483 |   |
|                                                 |       |                             |       |   |   |
| Non-interest  expenses:                              |       |                             |       |   |   |
| Salaries and employee benefits                       |       | 4,017                            |       | 3,688 |   |
| Occupancy                                            |       | 488                              |       | 317 |   |
| Furniture and equipment                              |       | 545                              |       | 456 |   |
| Other expense                                        |       | 1,655                            |       | 1,299 |   |
| Total non-interest expense                           |       | 6,705                            |       | 5,760 |   |
|                                                 |       |                             |       |   |   |
| Income before provision for income taxes             |       | 2,168                            |       | 3,039 |   |
|                                                 |       |                             |       |   |   |
| Provision for  income taxes                          |       | 918                              |       | 1,290 |   |
|                                                 |       |                             |       |   |   |
| Net income                                           |       | $                                | 1,250      |   | $ | 1,749 |   |
|                                                 |       |                             |       |   |   |
| Basic earnings  per share                            |       | $                                | 0.17       |   | $ | 0.24 |   |
| Diluted earnings  per share                          |       | $                                | 0.17       |   | $ | 0.23 |   |
|                                                 |       |                             |       |   |   |
| Cash dividends  per share                            |       | $                                | 0.08       |   | $ | 0.05 |   |

 

See Notes toUnaudited Condensed Consolidated Financial Statements

3

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COMMUNITY VALLEYBANCORP

CONDENSEDCONSOLIDATED STATEMENT OF CHANGES IN SHAREHOLDERS’ EQUITY

(Unaudited)

(In thousandsexcept share data)
| ** **                                                                  | ** ** | ** **            | ** ** | ** **      | ** ** | ** **           | ** ** | ** **        | ** ** | **Accumulated Other** | ** ** | **Total**         | ** ** | ** ** | ** ** |
|-----------------------------------------------------------------------------|------------|-----------------------|------------|-----------------|------------|----------------------|------------|-------------------|------------|----------------------------|------------|-------------------|------------|------------|------------|
| ** **                                                                  | ** ** | **Common Stock** | ** ** | **Unallocated** | ** ** | **Retained**         | ** ** | **Comprehensive** | ** ** | **Shareholders’**     | ** ** | **Comprehensive** | ** ** |
| ** **                                                                  | ** ** | **Shares**            | ** ** | **Amount**      | ** ** | **ESOP shares** | ** ** | **Earnings**      | ** ** | **Income**                 | ** ** | **Equity**        | ** ** | **Income** | ** ** |
| Balance, January  1, 2006                                                   |       | 7,408,047             |       | $               | 9,051      |                 | $          | (1,391            | )          | $                          | 33,908     |              | $          | (13        | )          | $ | 41,555 |   |   |   |
|                                                                        |       |                  |       |            |       |                 |       |              |       |                       |       |              |       |       |       |
| Comprehensive  income                                                       |       |                  |       |            |       |                 |       |              |       |                       |       |              |       |       |       |
| Net income                                                                  |       |                  |       |            |       |                 |       | 7,151             |       |                       |       | 7,151             |       | 7,151      |       |
| Other comprehensive income                                                  |       |                  |       |            |       |                 |       |              |       |                       |       |              |       |       |       |
| Net change in unrealized gains on available-for-sale  investment securities |       |                  |       |            |       |                 |       |              |       | 22                         |       | 22                |       | 22         |       |
| Total comprehensive income                                                  |       |                  |       |            |       |                 |       |              |       |                       |       |              |       | 7,173      |       |
|                                                                        |       |                  |       |            |       |                 |       |              |       |                       |       |              |       |       |       |
| Exercise of stock  options and related tax benefit                          |       | 130,567               |       | 1,000           |       |                 |       |              |       |                       |       | 1,000             |       |       |       |
| Retirement of  Common Stock                                                 |       | (143,950              | )          | (876            | )          |                 |       | (1,621            | )          |                       |       | (2,497            | )          |       |       |
| Amortization of  stock compensation – ESOP shares                      |       |                  |       | 377             |       | 231                  |       |              |       |                       |       | 608               |       |       |       |
| Shares acquired  or redeemed by ESOP                                        |       |                  |       |            |       | (354                 | )          |              |       |                       |       | (354              | )          |       |       |
|  Cash dividends- $.26 per share                                        |       |                  |       |            |       |                 |       | (1,933            | )          |                       |       | (1,933            | )          |       |       |
| Stock based  compensation expense                                           |       |                  |       | 175             |       |                 |       |              |       |                       |       | 175               |       |       |       |
|                                                                        |       |                  |       |            |       |                 |       |              |       |                       |       |              |       |       |       |
| Balance, December  31, 2006                                                 |       | 7,394,664             |       | 9,727           |       | (1,514               | )          | 37,505            |       | 9                          |       | 45,727            |       |       |       |
|                                                                        |       |                  |       |            |       |                 |       |              |       |                       |       |              |       |       |       |
| Comprehensive  income                                                       |       |                  |       |            |       |                 |       |              |       |                       |       |              |       |       |       |
| Net income                                                                  |       |                  |       |            |       |                 |       | 1,250             |       |                       |       | 1,250             |       | 1,250      |       |
| Other comprehensive income                                                  |       |                  |       |            |       |                 |       |              |       |                       |       |              |       |       |       |
| Net change in unrealized gains on available-for-sale  investment securities |       |                  |       |            |       |                 |       |              |       | 5                          |       | 5                 |       | 5          |       |
| Total comprehensive income                                                  |       |                  |       |            |       |                 |       |              |       |                       |       |              |       | 1,255      |       |
|                                                                        |       |                  |       |            |       |                 |       |              |       |                       |       |              |       |       |       |
| Exercise of stock  options and related tax benefit                          |       | 102,133               |       | 439             |       |                 |       |              |       |                       |       | 439               |       |       |       |
| Amortization of  stock compensation – ESOP shares                      |       |                  |       | 39              |       | 15                   |       |              |       |                       |       | 54                |       |       |       |
| Cash dividends-  $.08 per share                                             |       |                  |       |            |       |                 |       | (600              | )          |                       |       | (600              | )          |       |       |
| Stock based  compensation expense                                           |       |                  |       | 42              |       |                 |       |              |       |                       |       | 42                |       |       |       |
|                                                                        |       |                  |       |            |       |                 |       |              |       |                       |       |              |       |       |       |
| Balance, March 31, 2007                                                     |       | 7,496,797             |       | $               | 10,247     |                 | $          | (1,499            | )          | $                          | 38,155     |              | $          | 14         |       | $ | 46,917 |   |   |   |

 

SeeNotes to Unaudited Condensed Consolidated Financial Statements

4

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COMMUNITY VALLEY BANCORP

CONDENSEDCONSOLIDATED STATEMENT OF CASH FLOWS             (Unaudited**)**

(dollars inthousands)
| ** **                                                                         | ** ** | **Three Months Ended** | ** ** |
|------------------------------------------------------------------------------------|------------|----------------------------------|------------|
| ** **                                                                         | ** ** | **March 31,**               | ** ** |
| ** **                                                                         | ** ** | **2007**                         | ** ** | **2006** | ** ** |
| Cash flows from  operating activities:                                             |       |                             |       |   |   |
| Net income                                                                         |       | $                                | 1,250      |   | $ | 1,749 |   |
| Adjustments to reconcile net income to net cash  provided by operating activities: |       |                             |       |   |   |
| Provision for loan losses                                                          |       | 75                               |       | 225 |   |
| Increase in deferred loan origination costs                                        |       | (142                             | )          | (62 | ) |
| Depreciation and amortization, net                                                 |       | 486                              |       | 397 |   |
| Loss on disposition of Bank premises and equipment                                 |       | 20                               |       |   |   |
| Net increase in loans held for sale                                                |       | (1,008                           | )          | (1,350 | ) |
| Increase in cash surrender value of bank-owned life  insurance, net                |       | (94                              | )          | (77 | ) |
| Excess tax benefit from exercise of stock options                                  |       | (183                             | )          | — |   |
| Non-cash compensation expense associated with the  ESOP                            |       | 54                               |       | 46 |   |
| Share based compensation expense associated with the  stock options                |       | 42                               |       | 43 |   |
| Decrease (increase) in accrued interest receivable  and other assets               |       | (78                              | )          | 507 |   |
| Increase in accrued interest payable and other  liabilities                        |       | 481                              |       | 82 |   |
| Net cash provided by operating activities                                          |       | 903                              |       | 1,560 |   |
|                                                                               |       |                             |       |   |   |
| Cash flows from  investing activities:                                             |       |                             |       |   |   |
| Decrease in interest-bearing deposits in banks                                     |       | 594                              |       | 1,288 |   |
| Proceeds from matured or call available-for-sale  investment securities            |       | 1,000                            |       | — |   |
| Proceeds from principal payments on  available-for-sale investment sercurities     |       | 3                                |       | 6 |   |
| Proceeds from principal payments of held-to-maturity  investment securities        |       | 61                               |       | 68 |   |
| Purchase of available-for-sale investment securities                               |       | (1,000                           | )          | — |   |
| Purchases of premises and equipment                                                |       | (1,483                           | )          | (519 | ) |
| Net increase in loans                                                              |       | (5,245                           | )          | (33,835 | ) |
| Net cash (used in) investing activities                                            |       | (6,070                           | )          | (32,992 | ) |
|                                                                               |       |                             |       |   |   |
| Cash flows from  financing activities:                                             |       |                             |       |   |   |
| Net increase (decrease) in demand, interest-bearing  and savings deposits          |       | 31,618                           |       | (4,624 | ) |
| Net (decrease) increase in time deposits                                           |       | (10,939                          | )          | 15,439 |   |
| Repayment of ESOP note payable                                                     |       | (31                              | )          | (28 | ) |
| Payment of cash dividends                                                          |       | (591                             | )          | (296 | ) |
| Excess tax benefit from the exercise of stock  options                             |       |                             |       |   |   |
| Proceeds from exercise of stock options                                            |       | 439                              |       | 108 |   |
| Payment of note payable                                                            |       |                             |       | (800 | ) |
| Net cash provided by financing activities                                          |       | 20,496                           |       | 9,799 |   |
|                                                                               |       |                             |       |   |   |
| Increase (decrease) in cash and cash equivalents                                   |       | 15,329                           |       | (21,633 | ) |
|                                                                               |       |                             |       |   |   |
| Cash and cash  equivalents at beginning of year                                    |       | 62,628                           |       | 48,003 |   |
|                                                                               |       |                             |       |   |   |
| Cash and cash  equivalents at end of period                                        |       | $                                | 77,957     |   | $ | 26,370 |   |

 

See Notes toUnaudited Condensed Consolidated Financial Statements

5

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**CommunityValley Bancorp and Subsidiaries**

1.   BASIS OF PRESENTATION

Theaccompanying unaudited condensed consolidated financial statements of CommunityValley Bancorp and subsidiaries (the “Company”) have been prepared pursuant tothe rules and regulations of the Securities Exchange Commission (the “SEC”) andthe instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly,certain information and footnote disclosures required by accounting principlesgenerally accepted in the United States of America for annual financialstatements are not included herein, however the Company believes that thedisclosures made are adequate to make the information not misleading. In theopinion of management, all adjustments (which consist solely of normalrecurring adjustments) considered necessary for a fair presentation of theresults for the interim periods presented have been included. These interimconsolidated financial statements should be read in conjunction with thefinancial statements and related notes contained in the Company’s 2006 AnnualReport to Shareholders on Form 10-K.

Thecondensed consolidated financial statements include the accounts of the Companyand its wholly owned subsidiaries, Butte Community Bank (the “Bank”) and ButteCommunity Insurance Agency, LLC formerly CVB Insurance Agency, LLC. Allsignificant inter-company balances and transactions have been eliminated inconsolidation. The Company has also established a wholly-owned unconsolidatedsubsidiary, Community Valley Bancorp Trust I (the “Trust”), a Delawarestatutory business trust, formed for the sole purpose of issuing trustpreferred securities. The results of operations for the three-month periodended March 31, 2007 may not necessarily be indicative of the operating resultsfor the full year 2007.

Managementhas determined that because all of the commercial banking products and servicesoffered by the Company are available in each branch of the bank, all branchesare located within the same economic environment and management does notallocate resources based on the performance of different lending or transactionactivities, it is appropriate to aggregate the Bank branches and report them asa single operating segment. No single customer accounts for more than 10% ofthe revenues of the Company or the Bank.

Thepreparation of consolidated financial statements in conformity with accountingprinciples generally accepted in the United States of America requires managementto make estimates and assumptions.  These estimates and assumptions affectthe reported amounts of assets and liabilities at the date of the financialstatements and the reported amounts of revenues and expenses during thereporting period.  Actual results could differ from these estimates.

2.EARNINGS PER SHARE COMPUTATION

Basicearnings per share are computed by dividing net income by the weighted averagecommon shares outstanding for the period (7,288,480 shares for the three monthperiod ended March 31, 2007 and 7,249,509 shares for the three month periodended March 31, 2006). Diluted earnings per share reflect the potentialdilution that could occur if outstanding stock options were exercised using thetreasury stock method. Diluted earnings per share is computed by dividing netincome by the weighted average common shares outstanding for the period plusthe dilutive effect of options (279,479 shares for the three-month period endedMarch 31, 2007 and 398,311 shares for the three-month period ended March 31,2006). Earnings per share are retroactively adjusted for stock splits anddividends for all periods presented. During the periods covered the Company hadno stock options that were considered anti-dilutive.

3.COMPREHENSIVE INCOME

Comprehensiveincome is reported in addition to net income for all periods presented.Comprehensive income is made up of net income plus other comprehensive incomeor loss. The Company’s only source of comprehensive income or loss, iscomprised of changes in unrealized gains or losses, net of taxes, onavailable-for-sale securities, adjusted for the effect of realized gain orlosses on available-for-sale securities, net of taxes.

6

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## 4. STOCK –BASED COMPENSATION

## The Company issues stockoptions under two stock-based compensation plans, the Community Valley Bancorp1997 and 2000 Stock Option Plans. The plans require that the option price maynot be less than the fair market value of the stock at the date the option isgranted, and that the stock must be paid in full at the time the option isexercised. The options expire on a date determined by the Board of Directors,but not later than ten years from the date of grant. The vesting period isdetermined by the Board of Directors and is generally over five years; however,nonstatutory options granted during 1997 vested immediately. Under the 1997plan, 114,503 shares of common stock remain reserved for issuance to employeesand directors, and the related options are exercisable until their expiration.However, no new options will be granted under these plans. Under the Company’s2000 stock option plan, 502,546 shares of common stock remain reserved forissuance to employees and directors, of which 66,877 shares are available forfuture grants.

Stock option activity for the interim 2007 period issummarized as follows:
| **2007**                                              | ** ** | **Number of  Stock Options  Outstanding** | ** ** | **Weighted  Average  Exercise  Price** | ** ** | **Weighted  Average  Contractual  Term** | ** ** | **Aggregate  Intrinsic  Value** | ** ** |
|-------------------------------------------------------|------------|-----------------------------------------------------|------------|----------------------------------------|------------|------------------------------------------|------------|---------------------------------|------------|
|                                                  |       |                                                |       |                                   |       |                                     |       |                            |       |
| Outstanding at January 1                              |       | 719,183                                             |       | 5.97                                   |       | 5.25 years                               |       | 7,867                           |       |
|                                                  |       |                                                |       |                                   |       |                                     |       |                            |       |
| Exercised                                             |       | 102,133                                             |       | 2.50                                   |       |                                     |       |                            |       |
|                                                  |       |                                                |       |                                   |       |                                     |       |                            |       |
| Granted                                               |       | 0                                                   |       |                                   |       |                                     |       |                            |       |
|                                                  |       |                                                |       |                                   |       |                                     |       |                            |       |
| Cancelled or expired                                  |       | -1                                                  |       | 12.88                                  |       |                                     |       |                            |       |
|                                                  |       |                                                |       |                                   |       |                                     |       |                            |       |
| Outstanding at March 31                               |       | 617,049                                             |       | 5.69                                   |       | 4.4 years                                |       | 4,400                           |       |
|                                                  |       |                                                |       |                                   |       |                                     |       |                            |       |
| Options vested  or expected to vest at March 31, 2007 |       | 606,246                                             |       | 6.75                                   |       | 3.5 years                                |       | 4,200                           |       |
|                                                  |       |                                                |       |                                   |       |                                     |       |                            |       |
| Exercisable at  March 31                              |       | 523,642                                             |       | 5.69                                   |       | 2.8 years                                |       | 4,100                           |       |

 

7

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## **5.  COMMITMENTS AND CONTINGENCIES**

The Company is party to claims and legal proceedingsarising in the ordinary course of business. In the opinion of the Company’smanagement, the amount of ultimate liability with respect to such proceedingswill not have a material adverse effect on the financial condition or result ofoperations of the Company taken as a whole.

In the normal course of business, there are variousoutstanding commitments to extend credit which are not reflected in thefinancial statements, including loan commitments of $135,455,000 and $186,299,000 and stand-by letters of credit of $6,577,000and $5,139,000 at March 31, 2007 and December 31, 2006, respectively.

Of the loan commitments outstanding at March 31,2007, $85,867,000 are real estate construction loan commitments that areexpected to fund within the next twelve months. The remaining commitmentsprimarily relate to revolving lines of credit or other commercial loans, andmany of these are expected to expire without being drawn upon. Therefore, thetotal commitments do not necessarily represent future cash requirements. Eachloan commitment and the amount and type of collateral obtained, if any, areevaluated on an individual basis. Collateral held varies, but may include realproperty, bank deposits, debt or equity securities or business assets.

Stand-byletters of credit are conditional commitments written to guarantee theperformance of a customer to a third party. These guarantees are primarilyrelated to the purchases of inventory by commercial customers and are typicallyshort-term in nature. Credit risk is similar to that involved in extending loancommitments to customers and accordingly, evaluation and collateralrequirements similar to those for loan commitments are used.  The fair value of the liability related tothese stand-by letters of credit, which represents the fees received for issuingthe guarantees, was not significant at March 31, 2007 and December 31,2006.  The Company recognizes these feesas revenues over the term of the commitment or when the commitment is used.

## **6.  INCOME TAXES**

In July 2006, the Financial Accounting StandardsBoard (FASB) issued Financial Accounting Standards Interpretation No. 48 (FIN48), *Accounting for Uncertainty in IncomeTaxes—an Interpretation of FASB statement No. 109*.  FIN 48clarifies the accounting for uncertainty in income taxes recognized in anenterprise’s financial statements in accordance with FASB Statement No. 109, *Accounting for Income Taxes*. FIN 48 alsoprescribes a recognition threshold and measurement standard for the financialstatement recognition and measurement of an income tax position taken orexpected to be taken in a tax return. FIN 48 also provides guidance onderecognition, classification, interest and penalties, accounting in interimperiods, disclosures and transitions. The Company has adopted FIN 48 as ofJanuary 1, 2007.

The Company previously recognized income taxpositions based on management’s estimate of whether it is reasonably possiblethat a liability has been incurred for unrecognized income tax benefits byapplying FASB Statement No. 5, *Accountingfor Contingencies*.

The provisions of FIN 48 have been applied to alltax positions of the Company as of January 1, 2007.  There was no cumulative effect of applyingthe provisions of FIN 48 and there was no material effect on the Company’sprovision for income taxes for the three months ended March 31, 2007.  The Company recognizes interest accruedrelated to unrecognized tax benefits in interest expense and penalties inoperating expense.

8

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## **7.  NEW ACCOUNTING PRONOUNCEMENTS**

*FairValue Option for Financial Assets and Financial Liabilities*

In February 2007, the FASB issued Statement No. 159 (SFAS 159), *The Fair Value Option for Financial Assets and Financial Liabilities –Including an Amendment of FASB Statement No. 115*.  This standard permits an entity to choose tomeasure many financial instruments and certain other items at fair value atspecified election dates.  The entitywill report unrealized gains and losses on items for which the fair valueoption has been elected in earnings at each subsequent reporting date.  The fair value option: (a) may be appliedinstrument by instrument, with a few exceptions, such as investments otherwiseaccounted for by the equity method; (b) is irrevocable (unless a new electiondate occurs); and (c) is applied only to entire instruments and not to portionsof instruments.  The provisions of SFAS159 are effective as of the beginning of an entity’s first fiscal year thatbegins after November 15, 2007. Management did not elect to early adopt SFAS 159 and has not yetcompleted its evaluation of the impact that SFAS 159 will have.

*Accountingfor Deferred Compensation and Postretirement Benefit Aspects of CollateralAssignment Split-Dollar Life Insurance Arrangements*

In March 2007, the Emerging Issues Task Force (EITF) reached afinal consensus on Issue No. 06-10 (EITF 06-10), *Accountingfor Deferred Compensation and Postretirement Benefit Aspects of CollateralAssignment Split-Dollar Life Insurance Arrangements.*  EITF 06-10 requires employers to recognize aliability for the post-retirement benefit related to collateral assignmentsplit-dollar life insurance arrangements in accordance with SFAS No. 106or APB Opinion No. 12. EITF 06-10 also requires employers to recognize andmeasure an asset based on the nature and substance of the collateralassignment split-dollar life insurance arrangement. The provisions of EITF06-10 are effective for the Company on January 1, 2008, with earlierapplication permitted, and are to be applied as a change in accountingprinciple either through a cumulative-effect adjustment to retained earnings orother components of equity or net assets in the statement of financial positionas of the beginning of the year of adoption; or as a change in accountingprinciple through retrospective application to all prior periods. The Companydoes not expect adoption of EITF 06-10 to have a significant impact on itsconsolidated financial statements, results of operations or liquidity.

**Item 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS OF COMMUNITY VALLEY BANCORP**

The following is CommunityValley Bancorp’s (the “Company”) management’s discussion and analysis of thesignificant changes in balance sheet accounts for March 31, 2007 and December31, 2006 and income and expense accounts for the three month periods endedMarch 31, 2007 and 2006.

The discussion isdesigned to provide a better understanding of significant trends related to theCompany’s financial condition, results of operations, liquidity, capitalresources and interest rate sensitivity.  In addition to the historical information contained herein, this reporton Form 10-Q contains certain forward-looking statements.  The reader of this report should understandthat all such forward-looking statements are subject to various uncertaintiesand risks that could affect their outcome.  The Company’s actual results could differ materially from thosesuggested by such forward-looking statements. Factorsthat could cause or contribute to such differences include, but are not limitedto, variances in the actual versus projected growth in assets, return onassets, loan losses, expenses, rates charged on loans and earned on securitiesinvestments, rates paid on deposits, competition effects, fee and othernoninterest income earned, general economic conditions, nationally, regionally andin the operating market areas of the Company and its subsidiaries, changes inthe regulatory environment, changes in business conditions and inflation,changes in securities markets, data processing problems, a decline inreal estate values in the Company’s market area,  the effects of terrorism,including the events of September 11, 2001 and thereafter, and the conduct ofthe war on terrorism by the United States and its allies, as well as other factors. Thisentire report should be read putting such forward-looking statements incontext.

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## **General Development of Business**

The Company is afinancial holding company (“FHC”) registered and authorized to engage in theactivities permitted under the Bank Holding Company Act of 1956, as amended.The Company was incorporated under the laws of the State of California in 2002and elected to change to a FHC in 2004.   As a financial holding company, the Company is subject to the FederalHolding Company Act and to supervision by the board of Governors of the FederalReserve System (“FRB”).** **Its principal office is located at2041 Forest Avenue, Chico, California 95928 and its telephone number is (530)899-2344.

The Company owns100% of the issued and outstanding common shares of Butte Community Bank.  Butte Community Bank was incorporated andcommenced business in Paradise and Oroville, California in 1990.  Butte Community Bank operates thirteen fullservice offices within its primary service areas of Butte, Sutter, Yuba,Tehama, and Shasta Counties.  The Bankalso maintains Loan Production Offices in Citrus Heights and Gridley. ButteCommunity Bank’s primary business is serving the commercial banking needs ofsmall to mid-sized businesses and consumers within those counties.  Butte Community Bank accepts checking and savingsdeposits, offers money market deposit accounts and certificates of deposit,makes secured and unsecured commercial, secured real estate, and otherinstallment and term loans and offers other customary banking services.

On December 19,2002, the Company formed a wholly-owned unconsolidated subsidiary, CommunityValley Bancorp Trust I (the “Trust”), a Delaware statutory business trust, forthe purpose of issuing trust preferred securities.

On December 1,2004, the Company formed a wholly-owned subsidiary, CVB Insurance Agency LLCfor the purpose of providing insurance related services. The name was changedto Butte Community Insurance Agency LLC in April, 2006.

**Critical Accounting Policies**

*General*

The Company’ssignificant accounting principles are described in Note 1 of the consolidatedfinancial statements in the Company’s 2006 Annual Report to Shareholders onForm 10-K and are essential to understanding Management’s Discussion andAnalysis of Results of Operations and Financial Condition. Community ValleyBancorp’s annual consolidated financial statements are prepared in accordancewith accounting principles generally accepted in the United States of America(GAAP). The financial information contained within our statements is, to asignificant extent, financial information that is based on measures of thefinancial effects of transactions and events that have already occurred. Someof the Company’s accounting principles require significant judgment to estimatevalues of assets or liabilities. In addition, certain accounting principlesrequire significant judgment in applying the complex accounting principles totransactions to determine the most appropriate treatment. The following is asummary of the more judgmental and complex accounting estimates and principles.

*Allowancefor Loan Losses (ALL)*

The allowance forloan losses is management’s best estimate of the probable losses that may besustained in our loan portfolio. The allowance is based on two basic principlesof accounting:  (1) SFAS No.5 which requires that losses be accruedwhen they are probable of occurring and estimable and (2) SFAS No. 114,which requires that losses be accrued on impaired loans based on thedifferences between the value of collateral, present value of future cash flowsor values that are observable in the secondary market and the loan balance.

The Companyperforms periodic and systematic detailed evaluations of its lending portfolioto identify and estimate the inherent risks and assess the overallcollectibility. These evaluations include general conditions such as theportfolio composition, size and maturities of various segmented portions of theportfolio such as secured, unsecured, construction, and Small BusinessAdministration (“SBA”).

10

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Additional factorsinclude concentrations of borrowers, industries, geographical sectors, loanproduct, loan classes and collateral types, volume and trends of loandelinquencies and non-accrual, criticized and classified assets and trends inthe aggregate in significant credits identified as watch list items. There areseveral components to the determination of the adequacy of the ALL. Each ofthese components is determined based upon estimates that can and do change whenthe actual events occur. The Company estimates the SFAS No. 5 portion ofthe ALL based on the segmentation of its portfolio. For those segments thatrequire an ALL, the Company estimates loan losses on a monthly basis based uponits ongoing loan review process and analysis of loan performance. The Companyfollows a systematic and consistently applied approach to select the mostappropriate loss measurement methods and support its conclusions and rationalewith written documentation. One method of estimating loan losses for groups ofloans is through the application of loss rates to the groups’ aggregate loanbalances. Such rates typically reflect historical loss experience for eachgroup of loans, adjusted for relevant economic factors over a defined period oftime. The Company evaluates and modifies its loss estimation model as needed toensure that the resulting loss estimate is consistent with GAAP.

For individuallyimpaired loans, SFAS No. 114 provides guidance on the acceptable methodsto measure impairment. Specifically, SFAS No. 114 states that when a loanis impaired, the Company should measure impairment based on the present valueof expected future principal and interest cash flows discounted at the loan’seffective interest rate, except that as a practical expedient, a creditor maymeasure impairment based on a loan’s observable market price or the fair valueof collateral, if the loan is collateral dependent. When developing theestimate of future cash flows for a loan, the Company considers all availableinformation reflecting past events and current conditions, including the effectof existing environmental factors.

*LoanSales and Servicing*

The Companyoriginates government guaranteed loans and mortgage loans that may be sold inthe secondary market.  The amounts of gains recorded on sales of loans andthe initial recording of servicing assets and interest only (I/O) strips isbased on the estimated fair values of the respective components.  Inrecording the initial value of the servicing assets and the fair value of theI/O strips receivable, the Company uses estimates which are based onmanagement’s expectations of future prepayments and discount rates. Servicing assets are amortized over the estimated life of the relatedloan.  I/O strips are not significant at March 31, 2007.  Theseprepayment and discount rates were based on current market conditions andhistorical performance of the various pools of serviced loans.  If actualprepayments with respect to sold loans occur more quickly than projected thecarrying value of the servicing assets may have to be adjusted through a chargeto earnings.

*Stock-BasedCompensation*

On January 1, 2006, the Company adopted Statement of FinancialAccounting Standards No. 123(R),*Share Based Payment*(“SFAS 123(R)”). Under SFAS No.123(R), compensation expense is recognized foroptions granted prior to the adoption date in an amount equal to the fair valueof the unvested amounts over their remaining vesting period, based on the grantdate fair value estimated in accordance with SFAS No. 123, *Accountingfor Stock Based Compensation*  and compensation expense for all share basedpayments granted after adoption based on the grant date fair values estimatedin accordance with SFAS No. 123(R) . The estimates of the grant date fairvalues are based on an option pricing model that uses assumptions based on theexpected option life, the level of estimated forfeitures, expected stockvolatility and the risk-free interest rate. The calculation of the fair valueof share based payments is by nature inexact, and represents management’s bestestimate of the grant date fair value of the share based payments.  See Note 4 to the Unaudited CondensedConsolidated Financial Statements for additional information related tostock-based compensation.

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*Revenuerecognition*

The Company’sprimary source of revenue is interest income, which is the difference betweenthe interest income it receives on interest-earning assets and the interestexpense it pays on interest-bearing liabilities, and (ii) fee income,which includes fees earned on deposit services, income from SBA lending,electronic-based cash management services, mortgage brokerage fee income andmerchant credit card processing services.

Interest income isrecorded on an accrual basis. Note 1 to the Consolidated Financial Statementsin the Company’s 2006 Annual Report to Shareholders on Form 10-K offers anexplanation of the process for determining when the accrual of interest incomeis discontinued on an impaired loan.

*IncomeTaxes*

The Companyaccounts for income taxes under the asset and liability method. Under the assetand liability method, 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 tax assets and liabilities are measured usingcurrently enacted tax rates applied to such taxable income in the years inwhich those temporary differences are expected to be recovered or settled. Theeffect on deferred tax assets and liabilities of a change in tax rates isrecognized in income in the period that includes the enactment date. If futureincome should prove non-existent or less than the amount of deferred tax assetswithin the tax years to which they may be applied, the asset may not berealized and our net income will be reduced. Effective January 1, 2007 theCompany adopted FinancialAccounting Standards Interpretation No. 48 (FIN 48), *Accounting for Uncertainty in Income Taxes—an Interpretation of FASBstatement No. 109*.   The Company previously recognized incometax positions based on management’s estimate of whether it is reasonablypossible that a liability has been incurred for unrecognized income taxbenefits by applying FASB Statement No. 5, *Accountingfor Contingencies*.  Theprovisions of FIN 48 have been applied to all tax positions of the Company asof January 1, 2007.

**Overview**

The Company recorded net income of $1,250,000 for the quarter ended March 31, 2007, which was a decrease of 39.9% from the $1,749,000 reported for the same period of 2006.  Diluted earnings per share for the First quarter of 2007 were $0.17, compared to the $0.23 recorded in the first quarter of 2006.  The annualized return on average equity (ROAE) and return on average assets (ROA) for the first quarter of 2007 were 11.05% and .90%, respectively, as compared to 17.30% and 1.43%, respectively, for the same period in 2006.  The primary reasons for the decrease in net income for the first three months of 2007 were a compression of the net interest margin of 99 basis points, the slowdown in the real estate construction market and increased expenses associated with the relocation of the branches in Red Bluff, Corning, Marysville and Redding as well as the new Administrative headquarters in Chico.  The new Anderson branch and the second branch in Redding will be opening in July of this year.

Total assets of the Company increased by $22,328,000 or (4.1%) from December 31, 2006 to $572,365,000 at March 31, 2007.  Net loans totaled $448,679,000, up $5,638,000 (1.3%) from the ending balances on December 31, 2006.  Deposit balances at March 31, 2007 totaled $505,535,000, up $20,679,000 (4.3%) from December 31, 2006.

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Table One below provides a summary of the components of net income for the periods indicated:

**Table One:  Components of Net Income**
|                                                                         | ** ** | **Three months ended** | ** ** |
|-------------------------------------------------------------------------|------------|----------------------------------|------------|
| ** **                                                              | ** ** | **March 31,**               | ** ** |
| **(In thousands, except percentages)**                   | ** ** | **2007**                         | ** ** | **2006** | ** ** |
|                                                                    |       |                             |       |   |   |
| Net interest income                                                     |       | $                                | 7,234      |   | $ | 7,541 |   |
| Provision for loan  losses                                              |       | (75                              | )          | (225 | ) |
| Non-interest income                                                     |       | 1,714                            |       | 1,483 |   |
| Non-interest expense                                                    |       | (6,705                           | )          | (5,760 | ) |
| Provision for income  taxes                                             |       | (918                             | )          | (1,290 | ) |
|                                                                    |       |                             |       |   |   |
| Net income                                                              |       | $                                | 1,250      |   | $ | 1,749 |   |
|                                                                    |       |                             |       |   |   |
| Average total assets  (In millions)                                     |       | $                                | 562.1      |   | $ | 498.2 |   |
| Net income (annualized)  as a percentage  of average total  assets |       | 0.90                             | %          | 1.42 | % |

 

**Results of Operations**

## **NetInterest Income and Net Interest Margin**

Net interestincome represents the excess of interest and fees earned on interest earningassets (loans, securities, federal funds sold and investments in time deposits)over the interest paid on deposits and borrowed funds.  Net interest margin is net interest incomeexpressed as a percentage of average earning assets.

The Company’s netinterest margin was 5.78% for the three months ended March 31, 2007 which wasdown from 6.77% for the three month period ending March 31, 2006.  Net interest income decreased $307,000 (4.2%)for the three months ended March 31, 2007 over the same period in 2006.  The primary reason for this decrease was thecompression of the net interest margin and slower growth of interest bearingassets as compared to interest bearing liabilities.

The averagebalances of interest bearing liabilities were $70,839,000 (19.7%) higher in thefirst quarter of 2007 versus the same quarter in 2006. Rates paid on theseliabilities also increased 124 basis points on a quarter over quarterbasis.  As a result, of both the increasein rates and the change in mix of interest bearing liabilities, interestexpense was $1,654,000 (95.8%) higher in the first quarter of 2007 versus theprior year period.  Management expects tosee a leveling off of interest rates for the remainder of this year although noassurances can be given that this will actually happen.

Table Two,Analysis of Net Interest Margin, and Table Three, Analysis of Volume and RateChanges on Net Interest Income and Expenses, are provided to enable the readerto understand the components and past trends of the Company’s interest incomeand expense.  Table Two provides ananalysis of net interest margin setting forth average assets, liabilities andshareholders’ equity; interest income earned and interest expense paid andaverage rates earned and paid; and the net interest margin.

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**Table Two:  Analysis of Net Interest Margin**
| ** **                                                                                              | ** ** | **2007**          | ** ** | **2006**     | ** ** |
|---------------------------------------------------------------------------------------------------------|------------|-------------------|------------|--------------|------------|
| **Three Months Ended March 31,  (In thousands, except percentages)** | ** ** | **Avg.  Balance** | ** ** | **Interest** | ** ** | **Avg.  Yield (4)** | ** ** | **Avg.  Balance** | ** ** | **Interest** | ** ** | **Avg.  Yield (4)** | ** ** |
| **Assets:**                                                                                             |       |              |       |         |       |   |   |   |   |   |   |   |   |
| Earning assets                                                                                          |       |              |       |         |       |   |   |   |   |   |   |   |   |
| Loans (1)                                                                                               |       | $                 | 454,342    |         | $          | 9,931 |   | 8.86 | % | $ | 421,695 |   | $ | 8,941 |   | 8.60 | % |
| Taxable investment securities                                                                           |       | 3,793             |       | 49           |       | 5.24 | % | 5,207 |   | 50 |   | 3.89 | % |
| Tax-exempt investment securities (2)                                                                    |       | 1,389             |       | 16           |       | 4.67 | % | 1,380 |   | 16 |   | 4.70 | % |
| Federal funds sold                                                                                      |       | 45,807            |       | 595          |       | 5.27 | % | 17,473 |   | 205 |   | 4.76 | % |
| Interest bearing deposits in banks                                                                      |       | 2,010             |       | 24           |       | 4.84 | % | 5,844 |   | 56 |   | 3.89 | % |
| Total earning  assets                                                                                   |       | 507,341           |       | $            | 10,615     |   | 8.49 | % | 451,599 |   | $ | 9,268 |   | 8.32 | % |
| Cash & due  from banks                                                                              |       | 17,673            |       |         |       |   |   | 16,037 |   |   |   |   |   |
| Other assets                                                                                            |       | 37,127            |       |         |       |   |   | 30,570 |   |   |   |   |   |
| Average total  assets                                                                                   |       | $                 | 562,141    |         |       |   |   |   | $ | 498,206 |   |   |   |   |   |
|                                                                                                    |       |              |       |         |       |   |   |   |   |   |   |   |   |
| **Liabilities  & Shareholders’ Equity**                                                        | ** ** | ** **        | ** ** | ** **   | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| Interest bearing  liabilities:                                                                          |       |              |       |         |       |   |   |   |   |   |   |   |   |
| NOW & MMDA                                                                                          |       | $                 | 153,002    |         | $          | 409 |   | 1.08 | % | $ | 186,297 |   | $ | 425 |   | 0.92 | % |
| Savings                                                                                                 |       | 103,684           |       | 847          |       | 3.31 | % | 36,770 |   | 44 |   | 0.49 | % |
| Time deposits                                                                                           |       | 163,896           |       | 1,917        |       | 4.74 | % | 126,280 |   | 1,070 |   | 3.44 | % |
| Other borrowings                                                                                        |       | 9,445             |       | 208          |       | 8.93 | % | 9,211 |   | 188 |   | 8.28 | % |
| Total interest  bearing liabilities                                                                     |       | 430,027           |       | $            | 3,381      |   | 3.19 | % | 359,188 |   | $ | 1,727 |   | 1.95 | % |
| Demand deposits                                                                                         |       | 76,003            |       |         |       |   |   | 87,958 |   |   |   |   |   |
| Other  liabilities                                                                                      |       | 9,502             |       |         |       |   |   | 8,354 |   |   |   |   |   |
| Total  liabilities                                                                                      |       | 515,532           |       |         |       |   |   | 455,500 |   |   |   |   |   |
| Shareholders’  equity                                                                              |       | 46,609            |       |         |       |   |   | 42,706 |   |   |   |   |   |
| Average  liabilities and equity                                                                         |       | $                 | 562,141    |         |       |   |   |   | $ | 498,206 |   |   |   |   |   |
|                                                                                                    |       |              |       |         |       |   |   |   |   |   |   |   |   |
| Net interest income  & margin (3)                                                                   |       | $                 | 507,341    |         | $          | 7,234 |   | 5.78 | % | $ | 451,599 |   | $ | 7,541 |   | 6.77 | % |

 

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| (1) | Loan interest includes loan fees of $492,000 and  $617,000 during the three months ended March 31, 2007 and March 31, 2006  respectively.                               |
|-----|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| (2) | Does not include taxable-equivalent adjustments that  primarily relate to income on certain securities that are exempt from federal  income taxes.                      |
| (3) | Net interest margin is computed by dividing net  interest income by total average earning assets.                                                                       |
| (4) | Average yield is calculated based on actual days in  quarter (90 for March 31, 2007 and March 31, 2006) and annualized to actual  days in year (365 for 2007 and 2006). |

 

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Table Three setsforth a summary of the changes in interest income and interest expense fromchanges in average asset and liability balances (volume) and changes in averageinterest rates.  On a quarter overquarter basis for the period ending March 31, 2007 net interest income hasdecreased $307,000 over the same time period in 2006.  Interest income from earning assets hasincreased by $1,347,000. Changes in the volume of earning assets, primarilyloans, have resulted in an increase in interest income of $973,000 whileinterest income from changes in rates has increased by $374,000.  Interest expense for the first quarter of2007 was $1,654,000 more than the same period in 2006.  Changes in the volume of interest bearingliabilities, primarily the increase in balances of time deposits, has resultedin a net increase of interest expense of $328,000.  Increases in average rates paid, primarily ona new savings account product, time deposits and junior subordinated debentureshave resulted in an interest expense increase of $1,326,000. 

**Table Three: Analysis of Volume and Rate Changes on Net Interest Income and Expenses**

(In thousands) Three Months Ended March 31, 2007 over2006

Increase (decrease)due to change in:
|                                      | ** ** | **Volume** | ** ** | **Rate (3)** | ** ** | **Net Change** | ** ** |
|--------------------------------------|------------|------------|------------|-------------------|------------|---------------------|------------|
| Interest-earning  assets:            |       |       |       |              |       |                |       |
| Net loans (1)                        |       | $          | 692        |              | $          | 298                 |       | $ | 990 |   |
| Taxable investment securities        |       | (14        | )          | 13                |       | (1                  | )          |
| Tax exempt investment securities (2) |       | 0          |       | 0                 |       | 0                   |       |
| Federal funds sold                   |       | 332        |       | 58                |       | 390                 |       |
| Interest bearing deposits in banks   |       | (37        | )          | 5                 |       | (32                 | )          |
| Total                                |       | 973        |       | 374               |       | 1,347               |       |
| Interest-bearing  liabilities:       |       |       |       |              |       |                |       |
| NOW & MMDA                       |       | (76        | )          | 60                |       | (16                 | )          |
| Savings deposits                     |       | 80         |       | 723               |       | 803                 |       |
| Time deposits                        |       | 319        |       | 528               |       | 847                 |       |
| Other borrowings                     |       | 5          |       | 15                |       | 20                  |       |
| Total                                |       | 328        |       | 1,326             |       | 1,654               |       |
| Interest differential                |       | $          | 645        |              | $          | (952                | )          | $ | (307 | ) |

 

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| (1)    | The average balance of non-accruing loans is not  significant as a percentage of total loans and, as such, has been included in  net loans.       |
|--------|---------------------------------------------------------------------------------------------------------------------------------------------------|
|   |                                                                                                                                              |
| (2)    | Does not include taxable-equivalent adjustments that  primarily relate to income on certain securities that is exempt from federal  income taxes. |
| (3)    | The rate/volume variance has been included in the  rate variance.                                                                                 |

 

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**Non-interest Income**

Table Four belowprovides a summary of the components of noninterest income for the periodsindicated (dollars in thousands) (percent of assets annualized):

**Table Four: Components of Noninterest Income**
|                                                      | ** ** | ** ** | ** ** | **% of Avg.** | ** ** | ** ** | ** ** | **% of Avg.** | ** ** |
|------------------------------------------------------|------------|------------|------------|-------------------------|------------|------------|------------|-------------------------|------------|
| **Three Months Ended March 31,** | ** ** | **2007**   | ** ** | **Assets**              | ** ** | **2006**   | ** ** | **Assets**              | ** ** |
|                                                 |       |       |       |                    |       |       |       |                    |       |
| Service charges  on deposit accounts                 |       | $          | 725        |                    | 0.52       | %          | $          | 578                     |       | 0.47 | % |
| Loan servicing  fees                                 |       | 104        |       | 0.08                    | %          | 104        |       | 0.08                    | %          |
| Fees -  alternative investment sales                 |       | 86         |       | 0.06                    | %          | 69         |       | 0.06                    | %          |
| Merchant fee  income                                 |       | 93         |       | 0.07                    | %          | 88         |       | 0.07                    | %          |
| Gain on the sale  of loans                           |       | 329        |       | 0.24                    | %          | 356        |       | 0.29                    | %          |
| Other                                                |       | 377        |       | 0.27                    | %          | 288        |       | 0.23                    | %          |
|                                                 |       |       |       |                    |       |       |       |                    |       |
| Total  non-interest income                           |       | $          | 1,714      |                    | 1.24       | %          | $          | 1,483                   |       | 1.20 | % |

 

## Non-interest income increased $231,000 (15.6%) to $1,714,000 for thethree months ended March 31, 2007 as compared to $1,483,000 for the threemonths ended March 31, 2006. Increases in non-interest income were realized infees from service charges (up 25.4%), fees from alternative investment sales(up 24.6%), merchant fee income (up 5.7%) and other (up 30.9%).  A decrease in non-interest income wasrealized in the gain on sale of loans (down 8.2%). Loan servicing fees wereunchanged from the three months ending March 31, 2006. The increase in service chargeincome was the result of additional deposit accounts opened during the firstquarter of 2007 and fees resulting from our overdraft privilege depositproduct.  The Investment Department,which sells third-party mutual funds and annuities, experienced an increase infees due to a higher volume of sales during the first quarter of 2007 as theperformance in the equity markets improved. Increases in the “Other” category were a result of increased fees fromATM transactions, commissions earned on the sales of insurance policies andfees paid for payroll processing through our Business Services Division.  The gain on sale of loans was the onlydecrease in non-interest income items as the level of real estate loans soldinto the secondary market decreased as refinancing and new housing constructionactivity slowed.

**Non-interest Expense**

Non-interest expense increased $945,000 (16.4%) to $6,705,000 in thefirst quarter of 2007 versus $5,760,000 in the first quarter of 2006.    Salary and employee benefits increased$329,000 (8.9%) resulting from normal cost of living raises, commissions paidand staffing additions made during the year as the Company continues to grow.Benefit costs and employer taxes increased commensurate with the salaries.    On a quarter over quarter basis, occupancyexpenses were higher by $171,000 (53.9%) which is related to additionalbuilding depreciation, utilities, janitorial services and property taxes.   Furniture and equipment expense was $545,000in the first quarter of 2007 compared to $456,000 in the same period of 2006,representing a 19.5% increase.   Thisincrease relates to the depreciation recorded on the purchase of new technologysoftware and hardware as well as additional furniture and fixtures as the RedBluff, Corning, Redding and Marysville branches have been relocated to largerfacilities. Additional depreciation expense associated with the newAdministrative Headquarters will begin in the second quarter as the departmentshoused in this building become fully operational. Other expenses increased$356,000 (27.4%) in the first quarter of 2007 versus the first quarter of2006.   This increase was attributed tohigher telephone, postage and insurance costs as well as increased advertisingand promotion costs associated with the new offices.

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## **Provision for Loan Losses**

The Companyprovided $75,000 for loan losses for the first quarter of 2007 which was$150,000 less than the amount in the first quarter of 2006.  There were no loan charge-offs or recoveriesfor the three months ended March 31, 2007 as compared to $1,000 in netrecoveries for the three months ended March 31, 2006.  Management assesses its loan quality on amonthly basis to maintain an adequate allowance for loan losses.  The Company’s loan portfolio composition,non-performing assets and allowance for loan losses are further discussed underthe Balance Sheet Analysis section below.

**Provision for Income Taxes**

The effective taxrate for the first quarter of 2007 was 42.3% consistent with the 42.5% for thesame period in 2006.

**Balance Sheet Analysis**

The Company’stotal assets were $572,365,000 at March 31, 2007 as compared to $550,037,000 atDecember 31, 2006, representing an increase of 4.1%.  The average balance of total assets for thethree months ended March 31, 2007 was $562,141,000, which represents anincrease of $63,935,000 (12.8%) over the $498,206,000 for the three-monthperiod ended March 31, 2006.

## **Loans**

The Companyconcentrates its lending activities in the following principal areas: 1)commercial; 2) real estate; 3) residential real estate and real estateconstruction (both commercial and residential); 4) agriculture; and 5) consumerloans.  Commercial and residential realestate loans are generally secured by improved property, with originalmaturities of 3-10 years.  At March 31,2007, these principal areas accounted for approximately 16%, 47%, 21%, 6% and10%, respectively, of the Company’s loan portfolio.    The mix at December 31, 2006 was 15%, 46%,23%, 6% and 10%.    Continuing strongeconomic activity in the Company’s market area, new borrowers developed throughthe Company’s marketing efforts and credit extensions expanded to existingborrowers, offset by normal loan pay-downs and payoffs, resulted in netincreases in loan balances for commercial loans ($7,222,000 or 11.1%),commercial real estate ($4,427,000 or 2.1%), agricultural loans ($509,000 or 2.0%) and consumer ($1,013,000 or2.3%).  A decrease was noted in realestate construction of ($8,903,000 or 9.2%) due to the housing slow down beingexperienced in our markets.  Table Fivebelow summarizes the composition of the loan portfolio as of March 31, 2007 andDecember 31, 2006.

**Table Five: Loan PortfolioComposition**
| (In thousands)        | ** ** | **March 31, 2007** | ** ** | **December 31, 2006** | ** ** |
|----------------------------|------------|------------------------------|------------|---------------------------------|------------|
|                       |       |                         |       |                            |       |
| Commercial                 |       | $                            | 72,463     |                            | $          | 65,241 |   |
| Real estate:               |       |                         |       |                            |       |
| Commercial                 |       | 212,529                      |       | 208,102                         |       |
| Construction               |       | 96,842                       |       | 105,449                         |       |
| Agriculture                |       | 26,254                       |       | 25,745                          |       |
| Consumer                   |       | 44,802                       |       | 43,789                          |       |
| Total loans                |       | 452,890                      |       | 448,326                         |       |
|                       |       |                         |       |                            |       |
| Allowance for  loan losses |       | (5,349                       | )          | (5,274                          | )          |
|                       |       |                         |       |                            |       |
| Deferred loan  fees, net   |       | (659                         | )          | (801                            | )          |
| Total net loans            |       | $                            | 446,882    |                            | $          | 442,251 |   |

 

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Themajority of the Company’s loans are direct loans made to individuals and localbusinesses.  The Company reliessubstantially on local promotional activity and personal contacts by bankofficers, directors and employees to compete with other financialinstitutions.  The Company makes loans toborrowers whose applications include a sound purpose and a viable primaryrepayment source, generally supported by a secondary source of repayment.

Commercialloans consist of credit lines for operating needs, loans for equipmentpurchases, working capital, and various other business loan products.  Consumer loans include a range of traditionalconsumer loan products such as personal lines of credit and loans to financepurchases of autos, boats, recreational vehicles, mobile homes and variousother consumer items.

Realestate construction loans are generally composed of commitments to customerswithin the Company’s service area for construction of both commercialproperties and custom and semi-custom single-family residences.  Real estate mortgage loans consist primarilyof loans secured by first trust deeds on commercial and residential propertiestypically with maturities from 3 to 10 years and original loan to value ratiosgenerally from 65% to 80%.  Agricultureloans consist primarily of crop loans to farmers of peaches, prunes, walnuts,and almonds.  In general, except in thecase of loans with SBA or FMHA guarantees, the Company does not make long-termmortgage loans; however, Butte Community Bank has a residential lendingdivision to assist customers in securing most forms of longer termsingle-family mortgage financing.

## **RiskElements**

TheCompany assesses and manages credit risk on an ongoing basis through a creditculture that emphasizes excellent credit quality, extensive internal monitoringand established formal lending policies. Additionally, the Company contracts with an outside loan review consultantto periodically review the existing loan portfolio.  Management believes its ability to identifyand assess risk and return characteristics of the Company’s loan portfolio iscritical for profitability and growth. Management strives to continue its emphasis on credit quality in theloan approval process, active credit administration and regularmonitoring.  With this in mind,management has designed and implemented a comprehensive loan review and gradingsystem that functions to continually assess the credit risk inherent in theloan portfolio.

Ultimately,underlying trends in economic and business cycles may influence creditquality.  The Company’s business isconcentrated in the Butte, Sutter and Shasta County Areas. The economy of thesethree counties is diversified with professional services, manufacturing,agriculture and real estate investment and construction.

Specialemphasis is placed within the communities in which the Company has branches(Chico, Paradise, Magalia, Oroville, Yuba City, Red Bluff, Marysville, Colusa,Corning and Redding).  The Company alsomaintains loan production offices in the cities of Citrus Heights and Gridley.Single-family residential construction is the primary lending product from theCitrus Heights location serving the greater Sacramento area.  The primary focus of the loan productionoffice in Gridley is commercial and agricultural loans.

TheCompany has significant extensions of credit and commitments to extend creditthat are secured by real estate.  Theultimate repayment of these loans is generally dependent on personal orbusiness cash flows or the sale or refinancing of the real estate.  The Company monitors the effects of currentand expected market conditions and other factors on the collectability of real estateloans.  The more significant factorsmanagement considers involve the following: lease, absorption and sale rates; real estate values and rates ofreturn; operating expenses; inflation; and sufficiency of collateralindependent of the real estate including, in limited instances, personalguarantees.

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Inextending credit and commitments to borrowers, the Company generally requirescollateral and/or guarantees as security. The repayment of such loans is expected to come from cash flow or fromproceeds from the sale of selected assets of the borrowers.  The Company’s requirement for collateraland/or guarantees is determined on a case-by-case basis in connection withmanagement’s evaluation of the creditworthiness of the borrower.  Collateral held varies but may includeaccounts receivable, inventory, property, plant and equipment, income-producingproperties, residences and other real property. The Company secures its collateral by perfecting its security interestin business assets, obtaining deeds of trust, or outright possession among othermeans.

## In management’s judgment, a concentration exists in real estate loans,which represented approximately 68.3% of the Company’s loan portfolio at March31, 2007, which is a slight decrease from the 69.9% concentration level atDecember 31, 2006.  Management believesthe concentration to have no more than the normal risk of collectability;however, a substantial decline in the economy in general, or a decline in realestate values in the Company’s primary market areas in particular, could havean adverse impact on the collectability of these loans and require an increasein the provision for loan losses which could adversely affect the Company’sfuture prospects, results of operations, profitability and stock price.  Management believes that its lending policiesand underwriting standards will tend to minimize losses in an economicdownturn; however, there is no assurance that losses will not occur under suchcircumstances.  The Company’s loanpolicies and underwriting standards include, but are not limited to, thefollowing: (1) maintaining a thorough understanding of the Company’s servicearea and originating a significant majority of its loans within that area, (2)maintaining a thorough understanding of borrowers’ knowledge, capacity, andmarket position in their field of expertise, (3) basing real estate loanapprovals not only on market demand for the project, but also on the borrowers’capacity to support the project financially in the event it does not perform toexpectations (whether sale or income performance), and (4) maintainingconforming and prudent loan to value and loan to cost ratios based onindependent outside appraisals and ongoing inspection and analysis by theCompany’s lending officers.  The Companydoes not participate in any sub-prime lending activities.

## **Nonaccrual,Past Due and Restructured Loans**

Managementgenerally places loans on nonaccrual status when they become 90 days past due,unless the loan is well secured and in the process of collection.  Loans are charged off when, in the opinion ofmanagement, collection appears unlikely.

Table Six belowsets forth nonaccrual loans as of March 31, 2007 and December 31, 2006.  There were no loans past due 90 days or moreand still accruing interest at March 31, 2007 or December 31, 2006.

**Table Six: Non-Performing Loans**
|                             | ** ** | **March 31,** | ** ** | **December 31,** | ** ** |
|-----------------------------|------------|--------------------|------------|-----------------------|------------|
| **(In thousands)**     | ** ** | **2007**           | ** ** | **2006**              | ** ** |
| Nonaccrual:                 |       |               |       |                  |       |
| Commercial                  |       |               |       | 1,502                 |       |
| Real estate                 |       | 78                 |       | 780                   |       |
| Consumer and other          |       |               |       |                  |       |
| Total  non-performing loans |       | $                  | 78         |                  | $          | 2,282 |   |
|                             |            |                    |            |                       |            |  |  |

 

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At March 31, 2007, there was one non-performing loanwhich was considered to be impaired.  It is a real estate secured $78,000loan.  The property is in foreclosure and management does not foresee aloss from this loan.  There were no loanconcentrations in excess of 10% of total loans not otherwise disclosed as acategory of loans as of March 31, 2007 or December 31, 2006.  Management is not aware of any potentialproblem loans, which were accruing and current at March 31, 2007, where seriousdoubt exists as to the ability of the borrower to comply with the presentrepayment terms.

## **Allowancefor Loan Losses Activity**

We employ a systematic methodology for determining theallowance for loan losses that includes a monthly review process and monthlyadjustment of the allowance.  Our process includes a periodic review ofindividual loans that have been specifically identified as problem loans orhave characteristics which could lead to impairment, as well as detailedreviews of other loans (either individually or in pools).  While thismethodology utilizes historical and other objective information, theestablishment of the allowance for loan losses and the classification of loansare, to some extent, based on management’s judgment and experience.

Our methodology incorporates a variety of riskconsiderations, both quantitative and qualitative, in establishing an allowancefor loan losses that management believes is appropriate at each reportingdate.  Quantitative factors include our historical loss experience, delinquencyand charge-off trends, collateral values, changes in non-performing loans, andother factors.  Quantitative factors also incorporate known informationabout individual loans, including borrowers’ sensitivity to interest ratemovements and borrowers’ sensitivity to quantifiable external factors includingcommodity prices as well as acts of nature (freezes, earthquakes, fires, etc.)that occur in a particular period.

Qualitative factors include the general economicenvironment in our markets and, in particular, the state of the agricultureindustry and other key industries in the Northern Sacramento Valley.  Theway a particular loan might be structured, the extent and nature of waivers ofexisting loan policies, loan concentrations and the rate of portfolio growthare other qualitative factors that are considered.

Our methodology is, and has been, consistentlyfollowed.  However, as we add new products, increase in complexity, andexpand our geographic coverage, we expect to enhance our methodology to keeppace with the size and complexity of the loan portfolio.  On an ongoingbasis we engage outside firms to independently assess our methodology, and toperform independent credit reviews of our loan portfolio.  The FDIC andthe California Department of Financial Institutions review the allowance forloan losses as an integral part of the examination processes.  Managementbelieves that our current methodology is appropriate given our size and levelof complexity.  Further, management believes that the allowance for loanlosses is adequate as of March 31, 2007 to cover known and inherent risks inthe loan portfolio.  However, fluctuations in credit quality, or changesin economic conditions or other factors could cause management to increase ordecrease the allowance for loan losses as necessary.

The Board of Directors of the Bank reviews theadequacy of the allowance for loan losses at least quarterly to includeconsideration of the relative risks in the portfolio and current economicconditions.  The allowance is adjustedbased on that review if, in the judgment of the loan committee and management,changes are warranted.  The allowance forloan losses totaled $5,349,000 or 1.19% of total loans at March 31, 2007 and$5,274,000 or 1.18% at December 31, 2006. The Company has established a separate reserve for unfunded loancommitments of $619,000 as of March 31, 2007 and December 31, 2006. There wereno charge-offs or recoveries for the three months ended March 31, 2007.

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Table Seven belowsummarizes, for the periods indicated, the activity in the allowance for loanlosses.

**Table Seven: Allowance for LoanLosses**
|                                                                           | ** ** | **Three Months** | ** ** |
|---------------------------------------------------------------------------|------------|-----------------------|------------|
| ** **                                                                | ** ** | **Ended**             | ** ** |
| ** **                                                                | ** ** | **March 31,**    | ** ** |
| **(In thousands, except for percentages)**            | ** ** | **2007**              | ** ** | **2006** | ** ** |
|                                                                      |       |                  |       |   |   |
| Average loans  outstanding                                                |       | $                     | 454,342    |   | $ | 421,695 |   |
|                                                                      |       |                  |       |   |   |
| Allowance for  possible loan losses at beginning of period                |       | $                     | 5,274      |   | $ | 4,716 |   |
| Loans charged  off:                                                       |       |                  |       |   |   |
| Commercial                                                                |       | —                |       | — |   |
| Real estate                                                               |       | —                |       | — |   |
| Consumer                                                                  |       | —                |       | -1 |   |
| Total                                                                     |       | —                |       | -1 |   |
| Recoveries of  loans previously charged off:                              |       |                  |       |   |   |
|                                                                      |       |                  |       |   |   |
| Commercial                                                                |       | —                |       | — |   |
| Real estate                                                               |       | —                |       | — |   |
| Consumer                                                                  |       | —                |       | 1 |   |
| Total                                                                     |       | —                |       | 1 |   |
| Net loan charge  offs                                                     |       | —                |       | — |   |
| Additions to  allowance charged  to operating  expenses              |       | 75                    |       | 225 |   |
| Allowance for  unfunded loan commitments                                  |       | 0                     |       | 20 |   |
| Allowance for  loan losses at end of period                               |       | $                     | 5,349      |   | $ | 4,961 |   |
|                                                                      |       |                  |       |   |   |
| Ratio of net  charge-offs to average loans outstanding                    |       | 0.00                  | %          | 0.00 | % |
| Provision for  possible loan losses to average loans  outstanding    |       | 0.017                 | %          | 0.053 | % |
| Allowance for loan  losses to loans net of deferred fees at end of period |       | 1.19                  | %          | 1.14 | % |

 

It isthe policy of management to maintain the allowance for loan losses at a leveladequate for known and inherent risks in the portfolio.  Based on information currently available toanalyze inherent credit risk, including economic factors, overall creditquality, historical delinquencies and a history of actual charge-offs,management believes that the provision for loan losses and the allowance areprudent and adequate.  The Companygenerally makes monthly allocations to the allowance for loan losses.  The budgeted allocation is based on estimatesof loss risk and loan growth. Adjustments may be made based on differences from estimated loan growth,the types of loans constituting this growth, changes in risk ratings within theportfolio, and general economic conditions. However, no prediction of the ultimate level of loans charged off infuture years can be made with any certainty.

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**Other Real Estate**

At March 31, 2007the Company had two single family residences that are classified as other realestate (“ORE”).  Both of these propertiesare new homes in Paradise and are being marketed through local realtychannels.  At December 31, 2006, the Companydid not have any other real estate ORE properties.

## **Deposits**

AtMarch 31, 2007, total deposits were $505,535,000 representing an increase of$20,679,000 (4.3%) over the December 31, 2006 balance of $484,856,000.  A change in the mix of deposits has occurredthroughout the first three months of 2007 due to a shift from non-interest andinterest bearing demand deposits and certificates of deposit to a new savingsproduct the Company introduced late in the fourth quarter of 2006.  Balances in these accounts increased by $44.4million with an average weighted yield of 4.01% while balances in interestbearing demand and certificates of deposit accounts decreased by $21.2 million.This product was created as a means of decreasing interest expense bychanneling depositors away from certificates of deposit which accounted fornearly all of the deposit growth in 2006 and have an average weighted yield of4.78% as of March 31, 2007. Non-interest bearing demand deposits have decreasedby $2.6 million. Brokered certificates of deposit represent $20 million whichis down from $22.5 million at the end of 2006. These funds are being returnedas they reach maturity and no additional brokered deposits have been purchasedsince the fourth quarter of 2006.

## **CapitalResources**

The current andprojected capital position of the Company and the impact of capital plans andlong-term strategies are reviewed regularly by management. The Company’scapital position represents the level of capital available to support continuedoperations and expansion.

TheBoard of Directors of the Company authorized the payment of quarterly cashdividends totaling $0.26 per share for 2006 and $0.8 per share for the firstquarter of 2007.  The payment of dividends in the future is subject to thediscretion of the Board of Directors of the Company and will depend onearnings, the financial condition of the Company and other relevant factors.

TheCompany and its subsidiary Bank are subject to certain regulations issued bythe Board of Governors of the Federal Reserve System and the FDIC which requiremaintenance of certain levels of capital.  At March 31, 2007,shareholders’ equity was $46,917,000, representing an increase of $1,190,000(2.6%) from $45,727,000 at December 31, 2006.  The increase is primarilythe result of the exercise of stock options and net income from the period offsetby the stock based compensation expense recorded and cash dividends discussedabove.  The Bank’s ratio of total risk-based capital to risk adjustedassets was 11.1% at March 31, 2007 and December 31, 2006.  Tier 1risk-based capital to risk-adjusted assets was 10.0% at March 31, 2007 andDecember 31, 2006.

TableEight below lists the Company and the Bank capital ratios at March 31, 2007 andDecember 31, 2006, as well as the minimum ratios required under regulatorydefinitions of capital adequacy. 

**Table Eight: Capital Ratios**

Capital to Risk-Adjusted Assets
| ** **                 | ** ** | **At March 31,  2007** | ** ** | **At December 31,  2006** | ** ** | **Minimum Regulatory  Requirement** | ** ** |
|----------------------------|------------|----------------------------------|------------|-------------------------------------|------------|------------------------------------------|------------|
| **Company**                |       |                             |       |                                |       |                                     |       |
| Leverage ratio             |       | 10.70                            | %          | 10.10                               | %          | 4.00                                     | %          |
| Tier 1  Risk-Based Capital |       | 11.00                            | %          | 10.90                               | %          | 4.00                                     | %          |
| Total Risk-Based  Capital  |       | 12.10                            | %          | 11.90                               | %          | 8.00                                     | %          |
| **Bank**                   | ** ** | ** **                       | ** ** | ** **                          | ** ** | ** **                               | ** ** |
| Leverage ratio             |       | 9.80                             | %          | 9.00                                | %          | 4.00                                     | %          |
| Tier 1  Risk-Based Capital |       | 10.00                            | %          | 10.00                               | %          | 4.00                                     | %          |
| Total Risk-Based  Capital  |       | 11.10                            | %          | 11.10                               | %          | 8.00                                     | %          |

 

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Capitalratios are reviewed on a regular basis to ensure that capital exceeds theprescribed regulatory minimums and is adequate to meet future needs.  All ratios are in excess of the regulatorydefinition of “Minimum” at March 31, 2007 and December 31, 2006.  The Bank was considered “well-capitalized” byregulatory standards, at March 31, 2007 and December 31, 2006.

**Item3.  Quantitative and QualitativeDisclosures about Market Risk**

**Market Risk Management**

*Overview*.  Market risk is the risk of loss from adversechanges in market prices and rates.  TheCompany’s market risk arises primarily from interest rate risk inherent in itsloan, investment and deposit portfolios. The goal for managing the assets and liabilities of the Company is tomaximize shareholder value and earnings while maintaining a high qualitybalance sheet without exposing the Company to undue interest rate risk.

TheBoard of Directors has overall responsibility for the interest rate riskmanagement policies.  The Bank has anAsset and Liability Management Committee (ALCO) that establishes and monitorsguidelines to control the sensitivity of earnings to changes in interest rates.

*Asset/LiabilityManagement*.  Activitiesinvolved in asset/liability management include, but are not limited to,lending, accepting and placing deposits, investing in securities, using trustpreferred securities and borrowings. Interest rate risk is the primary market risk associated withasset/liability management.  Sensitivityof earnings to interest rate changes arises when yields on assets change in adifferent time period or in a different amount from that of interest costs onliabilities.  To mitigate interest raterisk, the structure of the balance sheet is managed with the goal thatmovements of interest rates on assets and liabilities are correlated andcontributes to earnings even in periods of volatile interest rates.  The asset/liability management policy setslimits on the acceptable amount of variance in net interest margin and marketvalue of equity under changing interest environments.  The Company uses simulation models toforecast earnings, net interest margin and market value of equity.

Simulationof earnings is the primary tool used to measure the sensitivity of earnings tointerest rate changes.  Usingcomputer-modeling techniques, the Company is able to estimate the potentialimpact of changing interest rates on earnings. A balance sheet forecast is prepared monthly using inputs of actualloans, securities and interest bearing liability (i.e. deposits/borrowings)positions as the beginning base.  Theforecast balance sheet is processed against seven interest rate scenarios.  These scenarios include a 100, 200 and 300basis point rising rate forecast, a flat rate forecast and a 100, 200 and 300basis point falling rate forecast which take place within a one year time frame.

Thenet interest income is measured during the year assuming a gradual change inrates over the twelve-month horizon.  TheCompany’s net interest income, as forecast below, was modeled utilizing aforecast balance sheet projected from balances as of the date indicated.

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Table Nine belowsummarizes the effect on net interest income (NII) of a ±200 basis point changein interest rates as measured against a constant rate (no change)scenario.  The results shown in Tablenine for the two periods, fall within the parameters of the Bank’s policy forinterest rate risk.

**Table Nine: Interest Rate Risk Simulation of Net Interest as of March 31, 2007 andDecember 31, 2006**
| **(In thousands)**                  | ** ** | **$ Change in NII  from Current  12 Month Horizon  March 31, 2007** | ** ** | **$ Change in NII  from Current  12 Month Horizon  December 31, 2006** | ** ** |
|------------------------------------------|------------|-------------------------------------------------------------------------------------------------------------|------------|----------------------------------------------------------------------------------------------------------------|------------|
| Variation from a  constant rate scenario |       |                                                                                                        |       |                                                                                                           |       |
| +200bp                                   |       | $                                                                                                           | 3,775      |                                                                                                           | $          | 3,752 |   |
| - 200bp                                  |       | $                                                                                                           | (4,346     | )                                                                                                              | $          | (4,211 | ) |

 

Assumptionsare inherently uncertain, and, consequently, the model cannot precisely measurenet interest income or precisely predict the impact of changes in interestrates on net interest income. Actual results will differ from simulated resultsdue to timing, magnitude and frequency of interest rate changes, as well aschanges in market conditions and management strategies which might moderate thenegative consequences of interest rate deviations. In the model above, thesimulation shows that the Company is asset sensitive over the one-year horizonas increasing rates have a positive impact on net interest income and decliningrates have a negative impact.

## **Inflation**

The impact ofinflation on a financial institution differs significantly from that exerted onmanufacturing, or other commercial concerns, primarily because its assets andliabilities are largely monetary.  Ingeneral, inflation primarily affects the Company and it subsidiaries throughits effect on market rates of interest, which affects the Company’s ability toattract loan customers.  Inflationaffects the growth of total assets by increasing the level of loan demand, andpotentially adversely affects capital adequacy because loan growth ininflationary periods can increase at rates higher than the rate that capitalgrows through retention of earnings, which may be generated in the future.  In addition to its effects on interest rates,inflation increases overall operating expenses. Inflation has not had a material effect upon the results of operationsof the Company and its subsidiaries during the three month periods ended March31, 2007, and 2006.

**Liquidity**

Liquiditymanagement refers to the Company’s ability to provide funds on an ongoing basisto meet fluctuations in deposit levels as well as the credit needs andrequirements of its clients.  Both assetsand liabilities contribute to the Company’s liquidity position.  Federal funds lines, short-term investmentsand securities, and loan repayments contribute to liquidity, along with depositincreases, while loan funding and deposit withdrawals decrease liquidity.  The Company assesses the likelihood ofprojected funding requirements by reviewing historical funding patterns,current and forecasted economic conditions and individual client funding needs.

TheCompany’s sources of liquidity consist of cash and due from correspondentbanks, overnight funds sold to correspondent banks, unpledged marketableinvestments and loans held for sale.  OnMarch 31, 2007, consolidated liquid assets totaled $80,728 million or 14.1% oftotal assets compared to $64.3 million or 11.7% of total assets on December 31,2006.  In addition to liquid assets, theCompany maintains short-term lines of credit in the amount of $15,000,000 withcorrespondent banks.  There were noborrowings outstanding under these arrangements at March 31, 2007.

TheBank also has informal agreements with various other banks to sellparticipations in loans, if necessary. The Company serves primarily a business and professional customer baseand, as such, its deposit base is susceptible to economic fluctuations.  Accordingly, management strives to maintain abalanced position of liquid assets to volatile and cyclical deposits.

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Liquidity is alsoaffected by portfolio maturities and the effect of interest rate fluctuationson the marketability of both assets and liabilities.  The Company can sell any of its unpledgedsecurities held in the available-for-sale category to meet liquidity needs.

## **Off-BalanceSheet Items**

The Company hascertain ongoing commitments under operating leases.  These commitments do not significantly impactoperating results. As of March 31, 2007 and December 31, 2006, commitments toextend credit and letters of credit were the only financial instruments withoff-balance sheet risk.  The Company hasnot entered into any contracts for financial derivative instruments such asfutures, swaps, options or similar instruments. Commitments to fund loans and stand-by letters of credit at March 31,2007 and December 31, 2006 were approximately $142,032,000 and $191,438,000,respectively.  Such loans relateprimarily to revolving lines of credit and other commercial loans, and to realestate construction loans.  As apercentage of net loans, these off-balance sheet items represent 31.8% and43.3%, respectively.

**Item 4.Controls and Procedures**

(a) Disclosure Controls and Procedures: An evaluation of the Company’s disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) was carried out under the supervision and with the participation of the Company’s Chief Executive Officer, Chief Financial Officer and other members of the Company’s senior management as of the end of the Company’s fiscal quarter ended March 31, 2007. The Company’s Chief Executive Officer and Chief Financial Officer concluded that the Company’s disclosure controls and procedures as currently in effect are effective in ensuring that the information required to be disclosed by the Company in the reports it files or submits under the Exchange Act is (i) accumulated and communicated to the Company’s management (including the Chief Executive Officer and Chief Financial Officer) to allow timely decisions regarding required disclosure, and (ii) recorded, processed, summarized and reported within the time periods specified in the Commission’s rules and forms.

(b) Internal Control Over Financial Reporting: An evaluation of any changes in the Company’s internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)), that occurred during the Company’s fiscal quarter ended March 31, 2007, was carried out under the supervision and with the participation of the Company’s Chief Executive Officer, Chief Financial Officer and other members of the Company’s senior management. The Company’s Chief Executive Officer and Chief Financial Officer concluded that no change identified in connection with such evaluation has materially affected, or is reasonably likely to materially affect, the Company’s internal control over financial reporting.

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## **PARTII – OTHER INFORMATION**

Item 1.  Legal Proceedings.

None

Item 1A. Risk Factors

Inaddition to the other information set forth in this report, you shouldcarefully consider the factors discussed in Part I, “Item 1A. Risk Factors” inour Annual Report on Form 10-K for the year ended December 31, 2006, whichcould materially affect our business, financial condition or future results.The risks described in our Annual Report on Form 10-K are not the only risksfacing our Company. Additional risks and uncertainties not currently known tous or that we currently deem to be immaterial also may materially adverselyaffect our business, financial condition and/or operating results.”

Item 2.  Changes in Securities and Use of Proceeds.

TheBoard of Directors approved a plan at their March 27, 2007 meeting torepurchase up to $6,000,000 of the outstanding common stock of theCompany.  The plan states that stockrepurchases may be made from time to time on the open market or throughprivately negotiated transactions.  The timingof purchases and the exact number of shares to be purchased depends on marketconditions.  The share repurchase plandoes not include specific price targets or timetables and may be suspended atany time.  No shares were repurchasedduring the quarter ending March 31, 2007.

Item 3.  Defaults Upon Senior Securities.

None

Item 4.  Submission of Matters to a Vote of SecurityHolders.

None

Item 5.  Subsequent Event

None

Item 6.  Exhibits

(a)  Exhibits
| Exhibit    | ** ** | ** **                                                                       |
|------------|------------|----------------------------------------------------------------------------------|
| **Number** | ** ** | **Document Description**                                                         |
|       |       |                                                                             |
| (31.1)     |       | Certification of CEO pursuant to Section 302 of the  Sarbanes-Oxley Act of 2002. |
|       |       |                                                                             |
| (31.2)     |       | Certification of CFO pursuant to Section 302 of the  Sarbanes-Oxley Act of 2002. |
|       |       |                                                                             |
| (32.1)     |       | Certification of CEO pursuant to Section 906 of the  Sarbanes-Oxley Act of 2002. |
|       |       |                                                                             |
| (32.2)     |       | Certification of CFO pursuant to Section 906 of the  Sarbanes-Oxley Act of 2002. |

 

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**SIGNATURES**

Pursuant to therequirements of the Securities and Exchange Act of 1934, the registrant hasduly caused this report to be signed on its behalf by the undersigned,thereunto duly authorized.
|             |    COMMUNITY VALLEY BANCORP        |
|-------------|---------------------------------------------------|
|        |                                              |
| May 9, 2007 |                                              | By: | */s/ Keith C. Robbins* |   |
|        |                                              |   | * * |   |
|        | Keith C. Robbins                                  |
|        | President, Chief Executive Officer                |
|        |                                              |
|        |                                              |
| May 9, 2007 |                                              | By: | */s/ John F. Coger* | * * |
|        | * *                                          |
|        | John F. Coger                                     |
|        | Executive Vice President, Chief Financial Officer |
|        | and Chief Operating Officer                       |
|             |                                                   |  |  |  |  |  |

 

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