**UNITED STATESSECURITIES AND EXCHANGE COMMISSION**

**Washington,D.C. 20006**

 

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**FORM 10-K**

 

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

 

**For the fiscal year ended December 31,2004**

 

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| **COMMUNITY VALLEY BANCORP**                             |
|----------------------------------------------------------|
| (Exact name of registrant  as specified in its charter)  |
| ** **                                               | ** ** | ** ** |
| **California**                                           | ** ** | **68-0479553** |
| State of incorporation                                   |   | I.R.S. Employer  Identification Number |
|                                                     |   |   |
| **2041 Forest Avenue  Chico, California**                | ** ** | **95928** |
| Address of principal  executive offices                  |   | Zip Code |
|                                                     |   |   |
| **(530) 899-2344**                                       |
| Registrant’s telephone  number, including area code |

 

Securitiesregistered pursuant to Section 12(b) of the Act:  **None**

 

Securitiesregistered pursuant to Section 12(g) of the Act:  **CommonStock, No Par Value**

 

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Indicate by check mark whether the Registrant (1) hasfiled all reports required to be filed by Section 13 or 15(d) of theSecurities Exchange Act of 1934 during the preceding 12 months (or for suchshorter period that the registrant was required to file such reports), and (2)has been subject to such filing requirements for the past 90 days.

 

Yes   ý     No     o

 

Check if disclosure of delinquent filers pursuant toItem 405 of Regulation S-K is not contained herein, and will not be contained,to the best of Registrant’s knowledge, in definitive proxy or informationstatements incorporated by reference in Part III of this Form 10-K or anyamendment to this form 10-K.  ý

 

Indicate by check mark whether the registrant is anaccelerated filer (as defined in Rule 12b-2 of the Act). Yes   o   No   ý

 

As of June 30, 2004, the aggregate market valueof the voting stock held by non-affiliates of the Registrant was approximately$66.9 million, based on the sales price reported to the Registrant on that dateof $26.30 per share.

 

Shares of Common Stock held by each officer anddirector and each person owning more than five percent of the outstandingCommon Stock have been excluded in that such persons may be deemed to beaffiliates.  This determination of theaffiliate status is not necessarily a conclusive determination for otherpurposes.

 

The number of shares of Common Stock of theregistrant outstanding as of March 1, 2005 was 3,646,511.

 

Documents Incorporated by Reference: Portions of the definitive proxy statement for the 2005 Annual Meetingof Shareholders to be filed with the Federal Deposit Insurance Corporationpursuant to SEC Regulation 14A are incorporated by reference in Part III, Items10-14.

 

 

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**TABLE OFCONTENTS**

 
|       | **ITEM**                                                                                                 |
|------------|----------------------------------------------------------------------------------------------------------|
|       |                                                                                                     |
| PART I     |
|       |                                                                                                     |
|       | Item 1. Business                                                                                         |
|       |                                                                                                     |
|       | Item 2. Properties                                                                                       |
|       |                                                                                                     |
|       | Item 3. Legal Proceedings                                                                                |
|       |                                                                                                     |
|       | Item 4. Submission of Matters to a Vote of  Security Holders                                             |
|       |                                                                                                     |
| PART II    |
|       |                                                                                                     |
|       | Item 5. Market for Common Equity and  Related Shareholder Matters                                        |
|       |                                                                                                     |
|       | Item 6. Selected Financial Data                                                                          |
|       |                                                                                                     |
|       | Item 7. Management’s Discussion and  Analysis of Financial Condition and Results of Operations      |
|       |                                                                                                     |
|       | Item 7a. Quantitative and Qualitative  Disclosures About Market Risk.                                    |
|       |                                                                                                     |
|       | Item 8. Consolidated Financial Statements  and Supplementary Data                                        |
|       |                                                                                                     |
|       | Item 9. Changes in and Disagreements with  Accountants on Accounting and Financial Disclosure            |
|       |                                                                                                     |
|       | Item 9a. Controls and Procedures                                                                         |
| PART III   |
|       | Item 10. Directors and Executive Officers  of the Registrant                                             |
|       |                                                                                                     |
|       | Item 11. Executive Compensation                                                                          |
|       |                                                                                                     |
|       | Item 12. Security Ownership of Certain  Beneficial Owners and Management and Related Stockholder Matters |
|       |                                                                                                     |
|       | Item 13. Certain Relationships and Related  Transactions                                                 |
|       |                                                                                                     |
|       | Item 14. Principal Accountant Fees and  Services                                                         |
|       |                                                                                                     |
| PART IV    |
|       |                                                                                                     |
|       | Item 15. Exhibits, Financial Statement  Schedules, and Reports on Form 8-K                               |
|       |                                                                                                     |
| SIGNATURES |

 

1

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**PART I**

 

**Item 1.****           Business**

 

**General**

 

**The Company**

Community Valley Bancorp (the “Company”) is a California corporationregistered as a financial holding company under the Financial Holding CompanyAct of 1956, as amended (the “BHC Act”), and is headquartered in Chico,California.  The Company was incorporatedin July, 2001 and acquired all of the outstanding shares of Butte CommunityBank (the “Bank”) in May, 2002.  TheCompany’s principal subsidiary is the Bank. The Company also has a subsidiary in the name of Community ValleyBancorp Trust I, which was formed in December, 2002 solely to facilitate theissuance of capital trust pass-through securities.  The Company also has an insurance subsidiaryin the name of Community Valley Bancorp Insurance Agency, LLC which was formedin December 2004 to provide a full service insurance agency offering alllines of coverage.  The Company existsprimarily for the purpose of holding the stock of the Bank and of such othersubsidiaries as it may acquire or establish.

 

The Company’s principal source of income is currently dividends fromthe Bank, but the Company intends to explore additional supplemental sources ofincome in the future.  The expendituresof the Company, including (but not limited to) the payment of dividends toshareholders, if and when declared by the Board of Directors, and the cost ofservicing debt will generally be paid from such payments made to the Company bythe Bank.

 

At December 31, 2004, the Company had consolidated assets of$449.7million, deposits of $399.1 million and shareholders’ equity of $34.5million.  The Company’s liabilitiesinclude $8.2 million in subordinated debentures issued to Community ValleyTrust I (see “Recent Developments” for further details).

 

The Company’s Administrative Offices are located at 2041 Forest Avenue,Chico, California and its telephone number is (530) 899-2344.  References herein to the “Company” includethe Company and the Bank, unless the context indicates otherwise.

 

The Companyfiles annual, quarterly and other reports under the Securities Exchange Act of1934 with the Securities and Exchange Commission. These reports are posted andare available at no cost on the Company’s website, www.communityvalleybancorp.comthrough the reports link, as soon as reasonably practicable after the Companyfiles such documents with the SEC.  TheCompany’s filings are also available through the SEC’s website at www.sec.gov.

 

**The Bank**

Butte Community Bank was incorporated under the laws of the State ofCalifornia on May 11, 1990 and commenced operations as a Californiastate-chartered commercial bank on December 14, 1990.  The Bank’s Administrative Office is locatedat 2041 Forest Avenue, Chico, California. The Bank is an insured bank under the Federal Deposit Insurance Act upto the maximum limits thereof.  The Bankis not a member of the Federal Reserve System. At December 31, 2004, the Bank had approximately $449.1 million inassets, $345 million in loans and $403.2 million in deposits.

 

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We operate seven full-service branch offices in four Butte Countycommunities, one full-service branch office in Sutter County, one full-servicebranch in Tehama County, one full-service branch in Yuba County, onefull-service branch in Colusa County, one Loan Production office in SacramentoCounty, and one Loan Production office in Shasta County.  We offer a full range of banking services toindividuals and various-sized businesses in the communities we serve.  The locations of those offices are:

 
| Chico:         |   | Main Office                 |   | Paradise  |   | South Paradise Branch  |
|----------------|--------|-----------------------------|--------|-----------|--------|------------------------|
|           |   | 2041 Forest Avenue          |   |      |   | 672 Pearson Road       |
|           |   |                        |   |      |   |                   |
|           |   | Administrative Headquarters |   |      |   | North Paradise Branch  |
|           |   | 2041 Forest Avenue          |   |      |   |                   |
|           |   | 2041 Forest Avenue          |   |      |   | 6653 Clark Road        |
|           |   |                        |   |      |   |                   |
|           |   | North Chico Branch          |   | Oroville  |   | Oroville Branch        |
|           |   | 237 West East Avenue        |   |      |   | 2227 Myers Street      |
|           |   |                        |   |      |   |                   |
|           |   | Central Chico Branch        |   | Magalia   |   | Magalia Branch         |
|           |   | 900 Mangrove Avenue         |   |      |   | 14001 Lakeridge Circle |
|           |   |                        |   |      |   |                   |
| Citrus Heights |   | Citrus Heights Loan Office  |   | Yuba City |   | Yuba City Branch       |
|           |   | 5959 Greenback Lane #450    |   |      |   | 1600 Butte House Road  |
|           |   |                        |   |      |   |                   |
| Redding        |   | Redding Loan Office         |   | Red Bluff |   | Red Bluff Branch       |
|           |   | 100 East Cypress Ave.       |   |      |   | 84 Belle Mill Road     |
|           |   | Suite # 150                 |   |      |   |                   |
|           |   |                        |   |      |   |                   |
| Marysville     |   | Marysville Branch           |   | Colusa    |   | Colusa Branch          |
|           |   | 812 B Street                |   |      |   | 1017 Bridge Street     |

 

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In addition, our Real Estate Loan Center, Data Processing, Call Center,Central Note Department and Bank Card Center are located at 1390 RidgewoodDrive, Chico.  We also have specializedcredit centers for agricultural lending and construction and real estate lendingwithin a number of these branch offices. These facilities are located in the cities of Chico, Paradise, andOroville in Butte County, the city of Yuba City in Sutter County, The city ofRed Bluff in Tehama County, the city of Marysville in Yuba County, the city ofColusa in Colusa County, the city of Citrus Heights in Sacramento County, andthe city of Redding in Shasta County.

 

Throughout the history of Butte Community Bank, our growth has beenexclusively by establishing de novo full-service branch offices and creditcenters in various locations in California’s Northern Sacramento Valley andfoothill region.

 

With a predominant focus on personal service, Butte Community Bank haspositioned itself as a multi-community independent bank serving the financialneeds of individuals and businesses, including agricultural and real estatecustomers in Butte and other surrounding counties.  Our principal retail lending services includehome equity and consumer loans. In addition, we have two other significant dimensionswhich surround this core of retail community banking:  Agricultural lending, and real estatefinancing (both construction and long term).

 

The Agricultural Credit Centers located in Yuba City, Chico, and RedBluff provide a complete line of credit services in support of the agriculturalactivities which are key to the continued economic development of thecommunities we serve.  “Ag lending”clients include a full range of individual farming customers and small businessfarming organizations.

 

The Bank Card Center, headquartered in Chico, provides a range ofcredit, debit and ATM card services, which are made available to each of thecustomers served by the branch banking offices. In addition, we staff our Chico, Paradise, Oroville, Red Bluff and YubaCity offices with real estate lending specialists.  These officers are responsible for a completeline of land acquisition and development loans, construction loans forresidential and commercial development, and the origination of multifamilycredit facilities.  Secondary marketservices are provided though the Bank’s affiliations with Fannie Mae andvarious non-governmental programs.  TheBank services these real estate loans sold on the secondary market, and as ofyear end the portfolio was in excess of $161 million.  We also have an orientation toward SmallBusiness Administration lending and have been designated as a Preferred Lendersince 1998.  The Bank’s SBA programgenerated approximately $6.5 million in loans during the past year.  It is anticipated that loans under thisprogram will be an increasing segment of our loan portfolio over the next fewyears.  The Bank was also recognized asthe number one USDA Business and Industry Lender in California and first in thenation during 2004.  The Bank originated$15.7 million in loans through this program during 2004.

 

As of December 31, 2004, the principal areas in which we directedour lending activities, and the percentage of our total loan portfolio forwhich each of these areas was responsible, were as follows: (i) agriculturalloans (6%); (ii) commercial and industrial (including SBA) loans (21%); (iii)real estate loans (mortgage and construction) (63%); (iv) consumer loans (8%).

 

In addition to the lending activities noted above, we offer a widerange of deposit products for the retail banking market including checking,interest bearing transaction, savings, time certificates of deposit andretirement accounts, as well as telephone banking and internet banking withbill pay options.  As of December 31,2004, we had 26,242 deposit accounts with balances totaling approximately $399million, compared to 24,409 deposit accounts with balances totalingapproximately $343 million at December 31, 2003.  Butte Community Bank attracts depositsthrough its customer-oriented product mix, competitive pricing, convenientlocations, extended hours and drive-up banking, all provided with the highestlevel of customer service.

 

4

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We also offer other products and services to our customers, whichcomplement the lending and deposit services previously reviewed.  These include cashier’s checks, traveler’schecks, bank-by-mail, ATM, night depository, safe deposit boxes, directdeposit, automated payroll services and other customary banking services.  Shared ATM and Point of Sale (POS) networksallow customers access to the national and international funds transfernetworks.  During the past few years wehave substantially enhanced our ATM locations to include off-site areas notpreviously served by cash or deposit facilities.  We now have a total of five such remote ATM’sat five different locations, including a hospital, two convenience stores, anentertainment center, and a copy and postal service business.  These locations facilitate cash advanceswhich would not otherwise be available to consumers at non-branch locations,thereby increasing consumer convenience. In addition to such specifically oriented customer applications, weprovide safe deposit, wire transfer capabilities and a convenient customerservice group in our Call Center to answer questions and assure a high level ofcustomer satisfaction with the level of services and products we provide.

 

Most of the Bank’s deposits are attracted from individuals,business-related sources and smaller municipal entities.  This results in a relatively modest averagedeposit balance of approximately $12,000 at December 31, 2004, but makesthe Bank less subject to adverse effects from the loss of a substantialdepositor who may be seeking higher yields in other markets or who may haveneed of money otherwise on deposit with the Bank, especially during periods ofinflation or conservative monetary policies. The Bank has had a relationship with a local title company for many years.  They have kept substantial deposit balanceswhich have increased consistently with new home purchases and refinancingactivity.  Management believes thisrelationship to be very secure and does not anticipate this business leavingthe Bank.

 

For non-deposit services, we have a strategic alliance with FinancialNetwork Investment Corporation.  Throughthis arrangement, our registered and licensed representatives provide Bankcustomers with convenient access to annuities, insurance products, mutualfunds, and a full range of investment products which are not FDIC insured.  They conduct business from all of our fullservice offices.

 

We do not believe there is a significant demand for additional trustservices in our service areas, and we do not operate or have any presentintention to seek authority to operate a Trust Department.  We believe that the cost of establishing andoperating such a department would not be justified by the potential income tobe gained there from.

 

The officers and employees of the Bank are continually engaged inmarketing activities, including the evaluation and development of new productsand services, which enable the Bank to retain and improve its competitiveposition in its service area.  All ofthese developments are meant to increase public convenience and enhance publicaccess to the electronic payments system. The cost to the Bank for these development, implementation, andmarketing activities cannot expressly be calculated with any degree ofcertainty.

 

The Bank holds no patents or licenses (other than licenses required byappropriate bank regulatory agencies), franchises, or concessions.  The Bank is not dependent on a singlecustomer or group of related customers for a material portion of its deposits,nor is a material portion of the Bank’s loans concentrated within a singleindustry or group of related industries. There has been no material effect upon the Bank’s capital expenditures,earnings, or competitive position as a result of Federal, state, or localenvironmental regulation.

 

**Recent Developments**

 

On July 16, 2001, Community Valley Bancorp was incorporated as abank holding company, for the purpose of acquiring Butte Community Bank (the “Bank”)in a one bank holding company reorganization. Shortly after the incorporation,Community Valley Bancorp filed a registration statement on Form S-4 with theSecurities and Exchange Commission in order to register its common stock whichwas issued pursuant to the terms of a Plan of Reorganization and Agreement ofMerger dated April 22, 2002.

 

The Plan of Reorganization and Agreement of Merger provided for theexchange of shares of the Bank for shares of Community Valley Bancorp on ashare-for-share basis (the “Reorganization”). The registration statement was declared effective on April 16,2002.  The Reorganization was approved bythe Company’s shareholders on May 23, 2002, and all required regulatoryapprovals or non-disapprovals with respect to the Reorganization wereobtained.  The Reorganization wasconsummated on June 17, 2002, subsequent to which the Bank continued itsoperations as previously conducted but as a wholly-owned subsidiary ofCommunity Valley Bancorp.  The newcorporate structure is intended to give Community Valley Bancorp and the Bankgreater flexibility in terms of operation, expansion and diversification.

 

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On December 19, 2002, Community Valley Bancorp Trust I, a newlyformed Delaware statutory business trust and a wholly-owned, unconsolidatedsubsidiary of the Company (the “Trust”), issued an aggregate of $8,000,000 ofprincipal amount of Floating Rate Trust Preferred Securities (Capital TrustPass-through Securities of the Trust) (the “Trust Preferred Securities”).  Bear Stearns, Inc. acted as placement agentin connection with the offering of the trust securities. The securities issuedby the Trust are fully guaranteed by the Company with respect to distributionsand amounts payable upon liquidation, redemption or repayment.  The entire proceeds to the Trust from thesale of the Trust Preferred Securities, along with initial capitalization of$248,000 were used by the Trust in order to purchase $8,248,000 in principalamount of Fixed Rate Junior Subordinated Deferrable Interest Debentures due2032 issued by the Company (the “Subordinated Debt Securities”).  A portion of the Trust Preferred Securitiesis included as Tier 1 capital for purposes of calculating the Company’sregulatory capital ratios.  A portion ofthe proceeds was used to retire debt incurred during 2002 to pay for theformation of the holding company, and the remainder was placed in a demanddeposit account at the Bank.  On March 31,2003, the Company down streamed $4,760,000 to improve the bank’s capitalposition and support planned growth.  Theadditional $3,488,000 remains at the holding company level.

 

On September 29, 2004 the Company filedfor Financial Holding Company status with the Federal Reserve Bank of SanFrancisco with subsequent approval granted on October 29, 2004.  On October 15, 2004 the Company filedwith the California Department of Insurance for permission to operate asubsidiary of Community Valley Bancorp called CVB Insurance Agency LLC whichwas formed in December 2004 with a capital investment of $1 million downstreamed from the Company.

 

On October 28, 2004 the Company filed applications with theCalifornia Department of Financial Institutions and the Federal DepositInsurance Corporation for permission to establish a branch office in the cityof Colusa.  This branch was subsequentlyopened on December 20, 2004.

 

On February 2, 2005 the Company filed applications with theCalifornia Department of Financial Institutions and the Federal DepositInsurance Corporation for permission to establish a branch office in the cityof Corning and was subsequently approved on February 25, 2005.  This branch subsequently opened for businesson March 7, 2005.

 

**Competition**

 

The banking business in California generally, and specifically in ourmarket areas, is highly competitive with respect to virtually all products andservices and has become increasingly more so in recent years.  The industry continues to consolidate andstrong, unregulated competitors have entered banking markets with focusedproducts targeted at highly profitable customer segments.  Many largely unregulated competitors are ableto compete across geographic boundaries and provide customers increasing accessto meaningful alternatives to banking services in nearly all significantproducts.  These competitive trends arelikely to continue.

 

With respect to commercial bank competitors, the business is largelydominated by a relatively small number of major banks with many officesoperating over a wide geographical area, which banks have, among otheradvantages, the ability to finance wide-ranging and effective advertisingcampaigns and to allocate their investment resources to regions of highestyield and demand.  Many of the majorbanks operating in the area offer certain services which we do not offerdirectly but may offer indirectly through correspondent institutions.  By virtue of their greater totalcapitalization, such banks also have substantially higher lending limits thanwe do.

 

In addition to other banks, competitors include savings institutions,credit unions, and numerous non-banking institutions such as finance companies,leasing companies, insurance companies, brokerage firms, and investment bankingfirms.  In recent years, increasedcompetition has also developed from specialized finance and non-financecompanies that offer wholesale finance, credit card, and other consumer financeservices, including on-line banking services and personal financesoftware.  Strong competition for depositand loan products affects the rates of those products as well as the terms onwhich they are offered to customers.  Mergersbetween financial institutions have placed additional pressure on banks withinthe industry to streamline their operations, reduce expenses, and increaserevenues to remain competitive. Competition has also intensified due torecently enacted federal and state interstate banking laws, which permitbanking organizations to expand geographically, and the California market hasbeen particularly attractive to out-of-state institutions.  The Financial Modernization Act, which,effective March 11, 2000, has made it possible for full affiliations tooccur between banks and securities firms, insurance companies, and otherfinancial companies, is also expected to intensify competitive conditions.

 

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Technological innovation has also resulted in increased competition infinancial services markets.  Suchinnovation has, for example, made it possible for non-depository institutionsto offer customers automated transfer payment services that previously havebeen considered traditional banking products. In addition, many customers now expect a choice of several deliverysystems and channels, including telephone, mail, home computer, ATMs, selfservice branches, and/or in-store branches. In addition to other banks, thesources of competition for such products include savings associations, creditunions, brokerage firms, money market and other mutual funds, asset managementgroups, finance and insurance companies, internet-only financialintermediaries, and mortgage banking firms.

 

For many years, we have countered this increasing competition byproviding our own style of community-oriented, personalized service.  We rely upon local promotional activity,personal contacts by our officers, directors, employees, and shareholders,automated 24-hour banking, and the individualized service which we can providethrough our flexible policies.  Inaddition, to meet the needs of customers with electronic access requirements,the Company has embraced the electronic age and installed telephone banking andpersonal computer and internet banking with bill payment capabilities.  This high tech and high touch approach allowsthe individual to customize the Bank’s contact methodologies to theirparticular preference.  Moreover, forcustomers whose loan demands exceed our legal lending limit, we attempt toarrange for such loans on a participation basis with correspondent banks.  We also assist our customers in obtainingfrom our correspondent banks other services that the Bank may not offer.

 

Our credit card business is subject to an even higher level ofcompetitive pressure than our general banking business.  There are a number of major banks and creditcard issuers that are able to finance often highly successful advertisingcampaigns with which community banks generally do not have the resources tocompete.  As a result, our credit cardbalances outstanding are much more likely to increase at a slower rate thanthat which might be seen in nationwide issuers’ year-end statistics.  Additional competition comes from manynon-financial institutions, such as providers of various retail products, whichoffer many types of credit cards.

 

**Employees**

 

As of December 31, 2004 the Company had 137 full-time and 94part-time employees.  On a full time equivalentbasis, the Company’s staff level was 204 at December 31, 2004, as comparedto 177 at December 31, 2003.  Noneof our employees is concurrently represented by a union or covered by acollective bargaining agreement. Management of the Company believes its employee relations aresatisfactory.

 

**Regulation and Supervision**

 

The Company and the Bank are subject to significant regulation byfederal and state regulatory agencies. The following discussion of statutes and regulations is only a briefsummary and does not purport to be complete. This discussion is qualified inits entirety by reference to such statutes and regulations.  No assurance can be given that such statutesor regulations will not change in the future.

 

**Forward Looking Statements and RiskFactors That May Affect Results**

 

This report includesforward-looking statements within the meaning of the Securities Exchange Act of1934 (the “Exchange Act”). These statements are based on management’s beliefsand assumptions, and on information available to management as of the date ofthis document. Forward-looking statements include the information concerningpossible or assumed future results of operations of the Company set forth underthe heading “Management’s Discussion and Analysis of Financial Condition andResults of Operations.” Forward-looking statements also include statements inwhich words such as “expect,” “anticipate,” “intend,” “plan,” “believe,” “estimate,”“consider” or similar expressions are used. Forward-looking statements are notguarantees of future performance. They involve risks, uncertainties andassumptions, including the risks discussed under the heading “Risk Factors ThatMay Affect Results” and elsewhere in this report. The Company’s actual futureresults and shareholder values may differ materially from those anticipated andexpressed in these forward-looking statements. Many of the factors that willdetermine these results and values, including those discussed under the heading“Risk Factors That May Affect Results,” are beyond the Company’s ability tocontrol or predict. Investors are cautioned not to put undue reliance on anyforward-looking statements. In addition, the Company does not have anyintention or and assumes no obligation to update forward-looking statementsafter the date of the filing of this report, even if new information, futureevents or other circumstances have made such statements incorrect ormisleading. Except as specifically noted herein all referenced to the “Company”refer to Community Valley Bancorp, a California corporation, and itsconsolidated subsidiaries.

 

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**The Company**

 

The Company is a bank holding company within the meaning of the BankHolding Company Act of 1956 and is registered as such with the Board ofGovernors of the Federal Reserve System (the “Federal Reserve Board”).  A bank holding company is required to filewith the Federal Reserve Board annual reports and other information regardingits business operations and those of its subsidiaries.  It is also subject to examination by theFederal Reserve Board and is required to obtain Federal Reserve Board approvalbefore acquiring, directly or indirectly, ownership or control of any votingshares of any bank if, after such acquisition, it would directly or indirectlyown or control more than 5% of the voting stock of that bank, unless it alreadyowns a majority of the voting stock of that bank.

 

The Federal Reserve Board has by regulation determined certainactivities in which a bank holding company may or may not conductbusiness.  A bank holding company mustengage, with certain exceptions, in the business of banking or managing orcontrolling banks or furnishing services to or performing services for itssubsidiary banks.  The permissibleactivities and affiliations of certain bank holding companies have recentlybeen expanded.  (See “FinancialModernization Act” below.)

 

**The Bank**

 

As a California state-chartered bank whose accounts are insured by theFDIC up to a maximum of $100,000 per depositor, the Bank is subject toregulation, supervision and regular examination by the Department of FinancialInstitutions (the “DFI”) and the FDIC. In addition, while the Bank is not a member of the Federal ReserveSystem, it is subject to certain regulations of the Federal Reserve Board.  The regulations of these agencies govern mostaspects of the Bank’s business, including the making of periodic reports by theBank, and the Bank’s activities relating to dividends, investments, loans,borrowings, capital requirements, certain check-clearing activities, branching,mergers and acquisitions, reserves against deposits and numerous otherareas.  Supervision, legal action andexamination of the Bank by the FDIC are generally intended to protectdepositors and are not intended for the protection of shareholders.

 

The earnings and growth of the Bank are largely dependent on itsability to maintain a favorable differential or “spread” between the yield onits interest-earning assets and the rate paid on its deposits and otherinterest-bearing liabilities.  As aresult, the Bank’s performance is influenced by general economic conditions,both domestic and foreign, the monetary and fiscal policies of the federalgovernment, and the policies of the regulatory agencies, particularly theFederal Reserve Board.  The FederalReserve Board implements national monetary policies (such as seeking to curbinflation and combat recession) by its open-market operations in United StatesGovernment securities, by adjusting the required level of reserves forfinancial institutions subject to its reserve requirements and by varying thediscount rate applicable to borrowings by banks which are members of theFederal Reserve System.  The actions ofthe Federal Reserve Board in these areas influence the growth of bank loans,investments and deposits and also affect interest rates charged on loans anddeposits.  The nature and impact of anyfuture changes in monetary policies cannot be predicted.

 

**Capital Adequacy Requirements**

 

The Company and the Bank are subject to the regulations of the FederalReserve Board and the FDIC, respectively, governing capital adequacy.  Those regulations incorporate both risk-basedand leverage capital requirements.  Eachof the federal regulators has established risk-based and leverage capitalguidelines for the banks or bank holding companies it regulates, which settotal capital requirements and define capital in terms of “core capitalelements,” or Tier 1 capital; and “supplemental capital elements,” or Tier 2capital.  Tier 1 capital is generallydefined as the sum of the core capital elements less goodwill and certain otherdeductions, notably the unrealized net gains or losses (after tax adjustments)on available for sale investment securities carried at fair market value.  The following items are defined as corecapital elements: (i) common shareholders’ equity; (ii) trust preferredsecurities are a form of long-term borrowing that currently qualifies as Tier 1capital not to exceed 25% of pro-forma Tier 1 capital; (iii) qualifyingnon-cumulative perpetual preferred stock and related surplus (not to exceed 25%of pro-forma Tier 1 capital); and (iv) minority interests in the equityaccounts of consolidated subsidiaries. Supplementary capital elements include: (i) allowance for loan and lease losses (but not more than 1.25% of aninstitution’s risk-weighted assets); (ii) perpetual preferred stock and relatedsurplus not qualifying as core capital; (iii) hybrid capital instruments,perpetual debt and mandatory convertible debt instruments; and (iv) termsubordinated debt and intermediate-term preferred stock and relatedsurplus.  The maximum amount ofsupplemental capital elements which qualifies as Tier 2 capital is limited to100% of Tier 1 capital, net of goodwill.

 

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The minimum required ratio of qualifying total capital to totalrisk-weighted assets is 8.0% (“Total Risk-Based Capital Ratio”), at least onehalf of which must be in the form of Tier 1 capital, and the minimum requiredratio of Tier 1 capital to total risk-weighted assets is 4.0% (“Tier 1Risk-Based Capital Ratio”).  Risk-basedcapital ratios are calculated to provide a measure of capital that reflects thedegree of risk associated with a banking organization’s operations for bothtransactions reported on the balance sheet as assets, and transactions, such asletters of credit and recourse arrangements, which are recorded as off-balancesheet items.  Under the risk-based capitalguidelines, the nominal dollar amounts of assets and credit-equivalent amountsof off-balance sheet items are multiplied by one of several risk adjustmentpercentages, which range from 0% for assets with low credit risk, such ascertain U. S. Treasury securities, to 100% for assets with relatively highcredit risk, such as business loans.  Asof December 31, 2004 and 2003, the Bank’s Total Risk-Based Capital Ratioswere 11.3% and 12.1%, respectively and its Tier 1 Risk-Based CapitalRatios were 10.2% and 10.9%, respectively. As of December 31, 2004 and 2003, the Company’s Total Risk-BasedCapital was 12.5% and 13.3% respectively, and its Tier 1 Risk-Based CapitalRatio was 11.3%and 12.2% respectively. The risk-based capital requirements also take into account concentrationsof credit (i.e., relatively large proportions of loans involving one borrower,industry, location, collateral or loan type) and the risks of “non-traditional”activities (those that have not customarily been part of the banking business).The regulations require institutions with high or inordinate levels of risk tooperate with higher minimum capital standards, and authorize the regulators toreview an institution’s management of such risks in assessing an institution’scapital adequacy.

 

The risk-based capital regulations also include exposure to interestrate risk as a factor that the regulators will consider in evaluating a bank’scapital adequacy.  Interest rate risk isthe exposure of a bank’s current and future earnings and equity capital arisingfrom adverse movements in interest rates. While interest risk is inherent in a bank’s role as financialintermediary, it introduces volatility to bank earnings and to the economicvalue of the bank.

 

The FDIC and the Federal Reserve Board also require the maintenance ofa leverage capital ratio designed to supplement the risk-based capitalguidelines.  Banks and bank holdingcompanies that have received the highest rating of the five categories used byregulators to rate banks and are not anticipating or experiencing anysignificant growth must maintain a ratio of Tier 1 capital (net of allintangibles) to adjusted total assets (“Leverage Capital Ratio”) of at least3%.  All other institutions are requiredto maintain a leverage ratio of at least 100 to 200 basis points above the 3%minimum, for a minimum of 4% to 5%. Pursuant to federal regulations, banks must maintain capital levelscommensurate with the level of risk to which they are exposed, including thevolume and severity of problem loans, and federal regulators may, however, sethigher capital requirements when a bank’s particular circumstanceswarrant.  As of December 31, 2004and 2003, the Bank’s Leverage Capital Ratios were 8.6% and 8.8%,respectively.  As of December 31,2004 and 2003, the Company’s leverage capital ratios were 9.5% and 9.9%,respectively, exceeding regulatory minimums. At December 31, 2004 and 2003 the Company met all of its capitaladequacy guidelines and the Bank was considered “well capitalized” under theprompt corrective action provisions.  SeePart II, Item 7, Management’s Discussion and Analysis of Financial Conditionand Results of Operation — Liquidity and Market Risk Management.

 

**Prompt Corrective Action Provisions**

 

Federal law requires each federal banking agency to take promptcorrective action to resolve the problems of insured financial institutions,including but not limited to those that fall below one or more prescribedminimum capital ratios.  The federalbanking agencies have by regulation defined the following five capitalcategories: “well capitalized” (Total Risk-Based Capital Ratio of 10%; Tier 1Risk-Based Capital Ratio of 6%; and Leverage Ratio of 5%); “adequatelycapitalized” (Total Risk-Based Capital Ratio of 8%; Tier 1 Risk-Based CapitalRatio of 4%; and Leverage Ratio of 4%) (or 3% if the institution receives thehighest rating from its primary regulator); “undercapitalized” (TotalRisk-Based Capital Ratio of less than 8%; Tier 1 Risk-Based Capital Ratio ofless than 4%; or Leverage Ratio of less than 4%) (or 3% if the institutionreceives the highest rating from its primary regulator); “significantlyundercapitalized” (Total Risk-Based Capital Ratio of less than 6%; Tier 1Risk-Based Capital Ratio of less than 3%; or Leverage Ratio less than 3%); and “criticallyundercapitalized” (tangible equity to total assets less than 2%).  A bank may be treated as though it were inthe next lower capital category if after notice and the opportunity for ahearing, the appropriate federal agency finds an unsafe or unsound condition orpractice so warrants, but no bank may be treated as “criticallyundercapitalized” unless its actual capital ratio warrants such treatment.

 

At each successively lower capital category, an insured bank is subjectto increased restrictions on its operations. For example, a bank is generally prohibited from paying management feesto any controlling persons or from making capital distributions if to do sowould make the bank “undercapitalized.” Asset growth and branching restrictions apply to undercapitalized banks,which are required to submit written capital restoration plans meetingspecified requirements (including a guarantee by the parent holding company, ifany).  “Significantly undercapitalized”banks are subject to broad regulatory authority, including among other things,capital directives, forced mergers, restrictions on the rates of interest theymay pay on deposits, restrictions on asset growth and activities, andprohibitions on paying certain bonuses without FDIC approval.  Even more severe restrictions apply tocritically undercapitalized banks.  Mostimportantly, except under limited circumstances, not later than 90 days afteran insured bank becomes critically undercapitalized, the appropriate federalbanking agency is required to appoint a conservator or receiver for the bank.

 

9

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In addition to measures taken under the prompt corrective actionprovisions, insured banks may be subject to potential actions by the federalregulators for unsafe or unsound practices in conducting their businesses orfor violations of any law, rule, regulation or any condition imposed in writingby the agency or any written agreement with the agency.  Enforcement actions may include the issuanceof cease and desist orders, termination of insurance of deposits (in the caseof a bank), the imposition of civil money penalties, the issuance of directivesto increase capital, formal and informal agreements, or removal and prohibitionorders against “institution-affiliated” parties.

 

**Safety and Soundness Standards**

 

The federal banking agencies have also adopted guidelines establishingsafety and soundness standards for all insured depository institutions.  Those guidelines relate to internal controls,information systems, internal audit systems, loan underwriting anddocumentation, compensation and interest rate exposure.  In general, the standards are designed toassist the federal banking agencies in identifying and addressing problems atinsured depository institutions before capital becomes impaired.  If an institution fails to meet thesestandards, the appropriate federal banking agency may require the institutionto submit a compliance plan and institute enforcement proceedings if anacceptable compliance plan is not submitted.

 

**Premiums for Deposit Insurance**

 

The FDIC regulations also implement a risk-based premium system,whereby insured depository institutions are required to pay insurance premiumsdepending on their risk classification. Under this system, institutions such as the Bank which are insured bythe Bank Insurance Fund (“BIF”) are categorized into one of three capitalcategories (well capitalized, adequately capitalized, and undercapitalized) andone of three supervisory categories based on federal regulatoryevaluations.  The three supervisorycategories are: financially sound with only a few minor weaknesses (Group A),demonstrates weaknesses that could result in significant deterioration (GroupB), and poses a substantial probability of loss (Group C).  The capital ratios used by the FDIC to definewell capitalized, adequately capitalized and undercapitalized are the same inthe FDIC’s prompt corrective action regulations.  The current BIF base assessment rates(expressed as cents per $100 of deposits) are summarized as follows:

 
| ** **              | ** ** | **Group A** | ** ** | **Group B** | ** ** | **Group C** | ** ** |
|-------------------------|------------|-------------|------------|-------------|------------|-------------|------------|
|                    |       |        |       |        |       |        |       |
| Well  Capitalized       |       | 0           |       | 3           |       | 17          |       |
| Adequately  Capitalized |       | 3           |       | 10          |       | 24          |       |
| Undercapitalized        |       | 10          |       | 24          |       | 27          |       |

 

In addition, BIF member banks (such as the Bank) must pay an amount whichfluctuates but is currently 1.46 basis points, or cents per $100 of insureddeposits, toward the retirement of the Financing Corporation bonds issued inthe 1980’s to assist in the recovery of the savings and loan industry.

 

10

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**Community Reinvestment Act**

 

The Bank is subject to certain requirements and reporting obligationsinvolving Community Reinvestment Act (“CRA”) activities.  The CRA generally requires the federalbanking agencies to evaluate the record of a financial institution in meetingthe credit needs of its local communities, including low and moderate incomeneighborhoods. The CRA further requires the agencies to take a financialinstitution’s record of meeting its community credit needs into account whenevaluating applications for, among other things, domestic branches,consummating mergers or acquisitions, or holding company formations.  In measuring a bank’s compliance with its CRAobligations, the regulators utilize a performance-based evaluation system whichbases CRA ratings on the bank’s actual lending service and investmentperformance, rather than on the extent to which the institution conducts needsassessments, documents community outreach activities or complies with otherprocedural requirements.  In connectionwith its assessment of CRA performance, the FDIC assigns a rating of “outstanding,”“satisfactory,” “needs to improve” or “substantial noncompliance.”  The Bank was last examined for CRA compliancein January 2004 and received a “satisfactory” CRA Assessment Rating.

 

###### **Other ConsumerProtection Laws and Regulations**

###### ** **

The bank regulatory agencies are increasingly focusing attention oncompliance with consumer protection laws and regulations.  Examination and enforcement has becomeintense, and banks have been advised to carefully monitor compliance withvarious consumer protection laws and their implementing regulations. Thefederal Interagency Task Force on Fair Lending issued a policy statement ondiscrimination in home mortgage lending describing three methods that federalagencies will use to prove discrimination: overt evidence of discrimination,evidence of disparate treatment, and evidence of disparate impact.  In addition to CRA and fair lendingrequirements, the Bank is subject to numerous other federal consumer protectionstatutes and regulations.  Due toheightened regulatory concern related to compliance with consumer protectionlaws and regulations generally, the Bank may incur additional compliance costsor be required to expend additional funds for investments in the localcommunities it serves.

 

**Interstate Banking and Branching**

 

The Riegle-Neal Interstate Banking and Branching Efficiency Act of 1994(the “Interstate Banking Act”) regulates the interstate activities of banks andbank holding companies and establishes a framework for nationwide interstatebanking and branching.  Since June 1,1997, a bank in one state has generally been permitted to merge with a bank inanother state without the need for explicit state law authorization.  However, states were given the ability toprohibit interstate mergers with banks in their own state by “opting-out”(enacting state legislation applying equality to all out-of-state banksprohibiting such mergers) prior to June 1, 1997.

 

Since 1995, adequately capitalized and managed bank holding companieshave been permitted to acquire banks located in any state, subject to twoexceptions: first, any state may still prohibit bank holding companies fromacquiring a bank which is less than five years old; and second, no interstateacquisition can be consummated by a bank holding company if the acquirer wouldcontrol more than 10% of the deposits held by insured depository institutionsnationwide or 30% percent or more of the deposits held by insured depositoryinstitutions in any state in which the target bank has branches.

 

A bank may establish and operate de novo branches in any state in whichthe bank does not maintain a branch if that state has enacted legislation toexpressly permit all out-of-state banks to establish branches in that state.

 

In 1995 California enacted legislation to implement importantprovisions of the Interstate Banking Act discussed above and to repealCalifornia’s previous interstate banking laws, which were largely preempted bythe Interstate Banking Act.

 

The changes effected by Interstate Banking Act and California laws haveincreased competition in the environment in which the Bank operates to theextent that out-of-state financial institutions directly or indirectly enterthe Bank’s market areas.  It appears thatthe Interstate Banking Act has contributed to the accelerated consolidation ofthe banking industry. While many large out-of-state banks have already enteredthe California market as a result of this legislation, it is not possible topredict the precise impact of this legislation on the Bank and the Company andthe competitive environment in which they operate.

 

11

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**Financial Modernization Act**

 

Effective March 11, 2000 the Gramm-Leach-Bliley Act eliminatedmost barriers to affiliations among banks and securities firms, insurancecompanies, and other financial service providers, and enabled full affiliationsto occur between such entities.  Thislegislation permits bank holding companies to become “financial holdingcompanies” and thereby acquire securities firms and insurance companies andengage in other activities that are financial in nature.  A bank holding company may become a financialholding company if each of its subsidiary banks is well capitalized under theFDICIA prompt corrective action provisions, is well managed, and has at least asatisfactory rating under the CRA by filing a declaration that the bank holdingcompany wishes to become a financial holding company.  No regulatory approval will be required for afinancial holding company to acquire a company, other than a bank or savingsassociation, engaged in activities that are financial in nature or incidentalto activities that are financial in nature, as determined by the FederalReserve Board.  The Company became afinancial holding company in 2004 for the purpose of establishing thesubsidiary CVB Insurance Agency.

 

The Gramm-Leach-Bliley Act defines “financial in nature” to includesecurities underwriting, dealing and market making; sponsoring mutual funds andinvestment companies; insurance underwriting and agency; merchant bankingactivities; and activities that the Board has determined to be closely relatedto banking.  A national bank (andtherefore, a state bank as well) may also engage, subject to limitations oninvestment, in activities that are financial in nature, other than insuranceunderwriting, insurance company portfolio investment, real estate developmentand real estate investment, through a financial subsidiary of the bank, if thebank is well capitalized, well managed and has at least a satisfactory CRArating.  Subsidiary banks of a financialholding company or national banks with financial subsidiaries must continue tobe well capitalized and well managed in order to continue to engage inactivities that are financial in nature without regulatory actions orrestrictions, which could include divestiture of the financial in naturesubsidiary or subsidiaries.  In addition,a financial holding company or a bank may not acquire a company that is engagedin activities that are financial in nature unless each of the subsidiary banksof the financial holding company or the bank has a CRA rating of satisfactoryor better.

 

The Gramm-Leach-Bliley Act also imposes significant new requirements onthe sharing of customer information between financial institutions.  The Company has responded to these newrestrictions.

 

The Company and the Bank must file periodic reports with the variousregulators to keep them informed of their financial condition and operations aswell as their compliance with all the various regulations.  Three regulatory agencies - the FederalReserve Bank of San Francisco for the Company, and the FDIC and the CaliforniaDepartment of Financial Institutions - conduct periodic examinations of theCompany and the Bank to verify their reporting is accurate and to ascertainthat they are in compliance with regulations.

 

A banking agency may take action against a financial holding company ora bank should it find the financial institution has failed to maintain adequatecapital.  This action has usually takenthe form of restrictions on the payment of dividends to shareholders,requirements to obtain more capital from investors, and restrictions onoperations.  The FDIC may also takeaction against a bank that is not acting in a safe and sound manner.  Given the strong capital position andperformance of the Company and the Bank, Management does not expect to beimpacted by these types of restrictions in the foreseeable future.

 

In 2002, the Sarbanes-Oxley Act was enacted as Federallegislation.  This legislation imposes anumber of new requirements on financial reporting and corporate governance onall corporations.  Passed in response tocorporate accounting and reporting failures, the act requires all publiccompanies as of December 31, 2005 to document their internal controls overfinancial reporting, evaluate the design and effectiveness of those controls,periodically test all significant controls to ensure they are functioning, andprovide a certification by the Chief Executive Officer and Chief FinancialOfficer of the documentation, evaluation, and testing.  Among the new requirements is the inclusionin the Company’s Annual Report for 2005 of a report by Management on theCompany’s internal controls over financial reporting and the safeguarding ofassets.  The report must be evaluated bythe Company’s independent auditors.  TheCompany is in the process of documenting these internal controls, evaluatingtheir effectiveness, and ensuring that adequate testing is performed to ensurethat they are functioning as intended.

 

12

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**Other Pending and Proposed Legislation**

 

Other legislative and regulatory initiatives which could affect theCompany, the Bank and the banking industry in general are pending, andadditional initiatives may be proposed or introduced before the United StatesCongress, the California legislature and other governmental bodies in thefuture.  Such proposals, if enacted, mayfurther alter the structure, regulation and competitive relationship amongfinancial institutions, and may subject the Bank to increased regulation,disclosure and reporting requirements. In addition, the various banking regulatory agencies often adopt newrules and regulations to implement and enforce existing legislation.  It cannot be predicted whether, or in whatform, any such legislation or regulations may be enacted or the extent to whichthe business of the Company or the Bank would be affected thereby.

 

Recent Accounting Pronouncements

 

### ***Other-Than-Temporary Impairment ofSecurities***

 

In June 2004, the Financial Accounting Standards Board (FASB)ratified Emerging Issues Task Force (EITF) Issue 03-1, *The Meaning of Other-than-Temporary Impairment andIts Application to Certain Investments* (EITF 03-1).  EITF 03-1 includes additional guidance forevaluating and recording impairment losses on debt and equity investments, aswell as disclosure requirements for investments that are deemed to betemporarily impaired.  The proposedguidance indicates that an investor must have the intent and ability to hold aninvestment until a forecasted recovery of the fair value up to or beyond thecost of the investment in order to determine that any impairment istemporary.  In September 2004, theFASB delayed the effective date of the recognition and measurement guidance ofEITF 03-1, pending further deliberations. The disclosures for investments that are deemed temporarily impaired areincluded in Note 2 to the consolidated financial statements.  Once the FASB has reached a final decision onthe measurement and recognition provisions, the Company will evaluate theimpact of the adoption of EITF 03-1.

 

***Share-BasedPayments***

** **

In December 2004 the FASB issued StatementNumber 123 (revised 2004) (FAS 123 (R)), *Share-Based Payments*. FAS 123 (R) requires all entities to recognize compensation expense inan amount equal to the fair value of share-based payments such as stock optionsgranted to employees.  The Company isrequired to apply FAS 123 (R) on a modified prospective method.  Under this method, the Company is required torecord compensation expense (as previous awards continue to vest) for theunvested portion of previously granted awards that remain outstanding at thedate of adoption.  In addition, theCompany may elect to adopt FAS 123 (R) by restating previously issued financialstatements, basing the expense on that previously reported in their pro formadisclosures required by FAS 123.  FAS 123(R) is effective for the first reporting period beginning after June 15,2005. Management has not completed its evaluation of the effect that FAS 123(R) will have, but believes that the effect will be consistent with itsprevious pro forma disclosures.

 

***Accounting forLoans or Debt Securities Acquired in a Transfer***

** **

In December 2003, the Accounting Standards Executive Committee ofthe American Institute of Certified Public Accountants issued Statement ofPosition 03-03, *Accounting for Certain Loansor Debt Securities Acquired in a Transfer* (SOP).  This SOP addresses accounting for differencesbetween contractual cash flows and cash flows expected to be collected from aninvestor’s initial investment in loans or debt securities (loans) acquired in atransfer if those differences are attributable, at least in part, to creditquality.  It also includes such loansacquired in purchase business combinations. This SOP does not apply to loans originated by the entity.  This SOP limits the yield that may beaccreted and requires that the excess of contractual cash flows over cash flowsexpected to be collected not be recognized as an adjustment of yield, lossaccrual, or valuation allowance.

 

This SOP prohibits “carrying over” or creation of valuation allowancesin the initial accounting for loans acquired in a transfer that are within thescope of this SOP.  The prohibition ofthe valuation allowance carryover applies to the purchase of an individualloan, a pool of loans, a group of loans, and loans acquired in a purchasebusiness combination.

 

This SOP is effective for loans acquired in fiscal years beginningafter December 15, 2004.  Inmanagement’s opinion, the adoption of this pronouncement will not have amaterial impact on the Company’s financial position or results of operations.

 

13

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**RISKFACTORS**

 

This discussion and analysis provides insight into Management’sassessment of the operating trends over the last several years and itsexpectations for 2005.  Such expressionsof expectations are not historical in nature and are “forward-lookingstatements” within the meaning of the Private Securities Litigation Reform Actof 1995.  Forward-looking statements aresubject to risks and uncertainties that may cause actual future results todiffer materially from those expressed in any forward-looking statement.  Such risks and uncertainties with respect tothe Company include:

 

**•**                  increased competitive pressure amongfinancial services companies;

•                  changesin the interest rate environment reducing interest margins or increasinginterest rate risk;

•                  deteriorationin general economic conditions, internationally, nationally or in the State ofCalifornia;

•                  theoccurrence of future events such as the terrorist acts of September 11,2001;

•                  theavailability of sources of liquidity at a reasonable cost; and

•                  legislativeor regulatory changes adversely affecting the business in which the Companyengages.

 

**Competition**

 

The Company faces competition from other financial institutions andfrom businesses in other industries that have developed financialproducts.  Banks once had an almostexclusive franchise for deposit products and provided the majority of businessfinancing.  With deregulation in the 1980’s,other kinds of financial institutions began to offer competing products.  Also, increased competition in consumerfinancial products has come from companies not typically associated with thebanking and financial services industry, such as AT &T, General Motors andvarious software developers.  Similarcompetition is faced for commercial financial products from insurance companiesand investment bankers.  Community banks,including the Company, attempt to offset this trend by developing new productsthat capitalize on the service quality that a local institution can offer.  Among these are new loan, deposit, andinvestment products.  The Company’sprimary competitors are different for each specific product and marketarea.  While this offers specialchallenges for the marketing of our products, it offers protection from onecompetitor dominating the Company in its market areas.  Many of these competitors are much larger intotal assets and capitalization, have greater access to capital markets andoffer a broader array of financial services than we do, which creates certaincompetitive disadvantages for the Company.

 

14

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**Economic Conditions**

 

From a national perspective, the most significant economic factorsimpacting the Company in the last three years have been the slow of growth inthe economy and the actions of the Federal Reserve Board (“the Fed”) toincrease the pace of that growth.  Earlyin 2001, the Fed began to lower rates and continued throughout the year untilit had lowered its target short-term rate by 4.75%.  It lowered its target short-term rate againin 2002 by 0.50% and by 0.25% in 2003 to its lowest rate in 45 years.  These changes, especially given the extremerate of decline in 2001, impact the Company as market rates for loans,investments and deposits respond to the Fed’s actions.  Beginning in the summer of 2004 the Fed beganraising its target rate and by year end it had increased by 1.25% to 5.25%.

 

We are also affected by certain industry-specific economic factors. Forexample, a significant portion of our total loan portfolio is related to realestate obligations, particularly residential real estate loans.  A downturn in the residential real estateindustry in California could have an adverse effect on our operations.  Similarly, a sizable portion of our totalloan portfolio is to borrowers either directly or indirectly involved in theagricultural industry.

 

**Risk Management**

 

The Company sees the process of addressing the potential impacts of theexternal factors listed above as part of its management of risk.  In addition to common business risks such asdisasters, theft, and loss of market share, the Company is subject to specialtypes of risk due to the nature of its business.  New and sophisticated financial products arecontinually appearing with different types of risk which need to be defined andmanaged if the Company chooses to offer them to its customers.  Also, the risks associated with existingproducts must be reassessed periodically. The Company cannot operate risk-free and make a profit.  Instead, the process of risk definition andassessment allows the Company to select the appropriate level of risk for theanticipated level of reward and then decide on the steps necessary to managethis risk.  The Company’s Risk Officerand the other members of its Senior Management Team under the direction andoversight of the Board of Directors lead the risk management process.

 

Some of the risks faced by the Company are those faced by mostenterprises — reputational risk, operational risk, and legal risk.  The special risks related to financialproducts are **credit risk** and **interest rate risk.** Credit risk relates to the possibility that a debtor will not repayaccording to the terms of the debt contract. Credit risk is discussed in the sections related to loans.  Interest rate risk is discussed in thesections related to Liquidity and Market Risk Management and relates to theadverse impacts of changes in interest rates. The effective management of these and other risks mentioned above is thebackbone of the Company’s business strategy.

 

**Managing Our Growth**

 

Our Company’s(1) total assets increased from $387 million at December 31,2003 to $450 million at December 31, 2004, with most of the growthoccurring in the second half of the year. Management’s intention is to leverage the Company’s currentinfrastructure to sustain the momentum achieved in the latter part of 2004,although no assurance can be provided that this strategy will result insignificant growth.  Our ability tomanage growth will depend primarily on our ability to:

 

•                  monitoroperations;

•                  controlfunding costs and operating expenses;

•                  maintainpositive customer relations; and

•                  attract,assimilate and retain qualified personnel.

 

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(1) Inasmuchas the Company did not acquire the outstanding shares of the Bank until May,2002, the financial information contained throughout this Annual Report for2001 and earlier is for the Bank only. Information for 2002, 2003 and 2004 is for the Company on a consolidatedbasis unless otherwise stated.

 

15

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**The Impact of Changes in Assets andLiabilities to Net Interest Income and Net Interest Margin**

 

The Company earns income from two sources.  The primary source is from the management ofits financial assets and liabilities and the second is from charging fees forservices provided.  The first sourceinvolves functioning as a **financial intermediary**,that is, the Company accepts funds from depositors or obtains funds from othercreditors and then either lends the funds to borrowers or invests those fundsin securities or other financial instruments. Income is earned as a spread between the interest earned from the loansor investments and the interest paid on the deposits and other borrowings.  The second source, fee income, is discussedin other sections of this analysis, specifically in “Noninterest Revenue.”

 

**Changes in Net Interest Income and NetInterest Margin**

 

**Net interest income**is the difference or spread between the interest and fees earned on loans andinvestments (the Company’s **earning assets**)and the interest expense paid on deposits and other liabilities.  The amount by which interest income willexceed interest expense depends on two factors: (1) the volume or balance ofearning assets compared to the volume or balance of interest-bearing depositsand liabilities, and (2) the interest rate earned on those interest earningassets compared with the interest rate paid on those interest-bearing depositsand liabilities.

 

**Net interest margin**isnet interest income expressed as a percentage of average earning assets.  It is used to measure the difference betweenthe average rate of interest earned on assets and the average rate of interestthat must be paid on liabilities used to fund those assets.  To maintain its net interest margin, theCompany must manage the relationship between interest earned and paid.  A shift in the relative size of the majorbalance sheet categories has an impact on net interest income and net interestmargin.  To the extent that fundsinvested in securities can be repositioned into loans, earnings increasebecause of the higher rates paid on loans. However, additional credit risk is incurred with loans compared to thevery low risk of loss on securities, and the Company must carefully monitor theunderwriting process to ensure that the benefit of the additional interestearned is not offset by additional credit losses.  In general, depositors are willing to accepta lower rate on their funds than are other providers of funds because of theFederal Deposit Insurance Corporation (“FDIC”) insurance coverage.  To the extent that the Company can fund assetgrowth by deposits, especially the lower cost transaction accounts, rather thanborrowing funds from other financial institutions, the average rates paid onfunds will be less, and net interest income more.

 

16

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**The Allowance for Loan Losses May Not CoverActual Loan Losses.**  We attempt to limit the risk that borrowerswill fail to repay loans by carefully underwriting the loans, neverthelesslosses can and do occur.  We create anallowance for loan losses in our accounting records, based on estimates of thefollowing:

 

•                  industrystandards;

•                  historicalexperience with our loans;

•                  evaluationof economic conditions;

•                  regularreviews of the quality, mix and size of the overall loan portfolio;

•                  regularreviews of delinquencies; and

•                  thequality of the collateral underlying our loans;

•                  loanimpairment.

 

We maintain an allowance for loan losses at a level which we believe isadequate to absorb any specifically identified losses as well as any otherlosses inherent in our loan portfolio. However, changes in economic, operating and other conditions, includingchanges in interest rates, which are beyond our control, may cause our actualloan losses to exceed our current allowance estimates.  If the actual loan losses exceed the amountreserved, it will hurt our business.  Inaddition, the FDIC and the Department of Financial Institutions, as part oftheir supervisory functions, periodically review our allowance for loanlosses.  Such agencies may require us toincrease our provision for loan losses or to recognize further loan losses,based on their judgments, which may be different from those of ourmanagement.  Any increase in theallowance required by the FDIC or the California Department of FinancialInstitutions could also impact our business.

 

17

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**Item 2.****           Properties**

 

The following properties (real properties and/or improvements thereon)are owned by the Company(1) and are unencumbered.  In the opinion of Management, all propertiesare adequately covered by insurance.

 

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(1) As used throughout this Annual Report, the term “Company” includes,where appropriate, both Community Valley Bancorp and its consolidatedsubsidiaries, Butte Community Bank and CVB Insurance Agency LLC.

 
| **Location**                                                                                       | ** ** | **Use of Facilities** | ** ** | **Square Feet of  Office Space** | ** ** | **Land and  Building Cost** | ** ** |
|----------------------------------------------------------------------------------------------------|------------|-----------------------|------------|----------------------------------|------------|-----------------------------|------------|
|                                                                                               |       |                  |       |                             |       |                        |       |
| 672 Pearson  Road                                                                                  |       | Branch Office         |       | 4,200                            |       | $                           | 612,261    |   |
| Paradise,  California                                                                              |       |                  |       |                             |       |                        |       |
| (Opened December 1990)                                                                        |       |                  |       |                             |       |                        |       |
|                                                                                               |       |                  |       |                             |       |                        |       |
| 2227 Myers  Street                                                                                 |       | Branch Office         |       | 9,800                            |       | $                           | 1,029,737  |   |
| Oroville,  California                                                                              |       |                  |       |                             |       |                        |       |
| (Opened December 1990)                                                                        |       |                  |       |                             |       |                        |       |
|                                                                                               |       |                  |       |                             |       |                        |       |
| 2041 Forest  Avenue                                                                                |       | Branch Office         |       | 8,000                            |       | $                           | 1,543,845  |   |
| Chico,  California                                                                                 |       |                  |       |                             |       |                        |       |
| (Opened  September, 1996)                                                                          |       |                  |       |                             |       |                        |       |
|                                                                                               |       |                  |       |                             |       |                        |       |
| 1390  Ridgewood Drive                                                                              |       | Central Services      |       | 8,432                            |       | $                           | 1,098,293  |   |
| Chico,  California                                                                                 |       |                  |       |                             |       |                        |       |
| (Opened May,  1998)                                                                                |       |                  |       |                             |       |                        |       |
|                                                                                               |       |                  |       |                             |       |                        |       |
| 1600 Butte  House Road                                                                             |       | Branch Office         |       | 6,580                            |       | $                           | 1,448,340  |   |
| Yuba City,  California (Opened September, 1997)                                                    |       |                  |       |                             |       |                        |       |
|                                                                                               |       |                  |       |                             |       |                        |       |
| 237 West  East Ave                                                                                 |       | Branch Office         |       | 4,771                            |       | $                           | 845,493    |   |
| Chico,  California                                                                                 |       |                  |       |                             |       |                        |       |
| (Opened  June, 1999, moved to this location November 2003) Building is owned,  land is leased |       |                  |       |                             |       |                        |       |

 

18

----

 

The following facilities are leased by the Company:

 
| ** **                  | ** ** | ** **            | ** ** | **Square Feet of  Office Space** | ** ** | **Monthly Rent  as of 12/31/04** | ** ** | **Term of  Lease** | ** ** |
|-----------------------------|------------|-----------------------|------------|----------------------------------|------------|----------------------------------|------------|--------------------|------------|
| **Location**                | ** ** | **Use of Facilities** | ** ** | ** **                       | ** ** | ** **                       |
|                        |       |                  |       |                             |       |                             |       |               |       |
| 14001  Lakeridge Circle     |       | Branch Office         |       | 600                              |       | $                                | 570        |               | 3/31/2008  | (1) |
| Magalia,  California        |       |                  |       |                             |       |                             |       |               |       |
| Opened June 1993       |       |                  |       |                             |       |                             |       |               |       |
|                        |       |                  |       |                             |       |                             |       |               |       |
| 237 West  East Ave.         |       | Branch Office         |       |                             |       | $                                | 3,958      |               | 10/31/2028 | (2) |
| Chico,  California          |       |                  |       |                             |       |                             |       |               |       |
| land lease  only            |       |                  |       |                             |       |                             |       |               |       |
|                        |       |                  |       |                             |       |                             |       |               |       |
| 900 Mangrove  Ave.          |       | Branch Office         |       | 6,000                            |       | $                                | 6,456      |               | 9/30/2011  | (3) |
| Chico,  California          |       |                  |       |                             |       |                             |       |               |       |
|                        |       |                  |       |                             |       |                             |       |               |       |
| 6653 Clark  Road            |       | Branch Office         |       | 4,640                            |       | $                                | 4,700      |               | 3/31/2013  | (4) |
| Paradise,  California       |       |                  |       |                             |       |                             |       |               |       |
|                        |       |                  |       |                             |       |                             |       |               |       |
| 100 East  Cypress #150      |       | Loan Office           |       | 1,850                            |       | $                                | 2,276      |               | 4/30/2006  | (5) |
| Redding,  California        |       |                  |       |                             |       |                             |       |               |       |
|                        |       |                  |       |                             |       |                             |       |               |       |
| 5959  Greenback #450        |       | Loan Office           |       | 1,315                            |       | $                                | 1,973      |               | 7/31/2006  | (6) |
| Citrus  Heights, California |       |                  |       |                             |       |                             |       |               |       |
|                        |       |                  |       |                             |       |                             |       |               |       |
| 936 Mangrove  Ave.          |       | General Offices       |       | 6,000                            |       | $                                | 3,762      |               | 2/28/2013  | (7) |
| Chico,  California          |       |                  |       |                             |       |                             |       |               |       |
|                        |       |                  |       |                             |       |                             |       |               |       |
| 84 Belle  Mill Rd           |       | Branch office         |       | 3,825                            |       | $                                | 4,781      |               | 5/31/2007  | (8) |
| Red Bluff CA                |       |                  |       |                             |       |                             |       |               |       |
| opened May  2004            |       |                  |       |                             |       |                             |       |               |       |
|                        |       |                  |       |                             |       |                             |       |               |       |
| 812 B Street                |       | Branch Office         |       | 1,651                            |       | $                                | 2,888      |               | 5/31/2005  | (9) |
| Marysville,  California     |       |                  |       |                             |       |                             |       |               |       |
| Opened July 2004       |       |                  |       |                             |       |                             |       |               |       |
|                        |       |                  |       |                             |       |                             |       |               |       |
| 1017 Bridge  Street         |       | Branch Office         |       | 1,500                            |       | $                                | 1,300      |               | 2/28/2014  | (10) |
| Colusa,  California         |       |                  |       |                             |       |                             |       |               |       |
| Opened December 2004   |       |                  |       |                             |       |                             |       |               |       |

 

Additionally, the Bank has five remote ATM locations.  The amount of monthly rent at these locationsis minimal.

 

----

(1) Thisis the termination date of the current 5-year lease.  The Company also has two renewal options forfive years each.

(2) This is the terminationdate of the current 25-year lease.  TheCompany also has three renewal options for five years each.

(3) This is the terminationdate of the current 10-year lease.  TheCompany also has four renewal options for five years each.

(4) This is the terminationdate of the current 10-year lease.  TheCompany also has two renewal options for five years each.

(5) This is the terminationdate of the current 3-year lease.  TheCompany does not have renewal options on this property.

(6) This is the terminationdate of the current 3-year lease.  TheCompany does not have renewal options on this property.

(7) This is the terminationdate of the current 10-year lease.  TheCompany also has one renewal option for ten years.

(8) This is the terminationdate of the current 3-year lease.  TheCompany has one renewal option for three years.

(9) This is the termination date of thecurrent 1-year lease.  The Company hasone renewal option for one year, and two renewal options for five years each.

(10) This is the terminationdate of the current 10-year lease.  TheCompany does not have renewal options on the property.

 

19

----

 

On March 7, 2005 the Companyopened another branch office in the city of Corning.  The Loan Production office in the City ofRedding will be converted to a full service branch in either the second orthird quarter of 2005.  Other locationsalong the Interstate 5 corridor are also being contemplated for furtherexpansion.

 

**Item 3.****        Legal Proceedings**

 

From time to time, the Companyis a party to claims and legal proceedings arising in the ordinary course ofbusiness. After taking into consideration information furnished by counsel tothe Company as to the current status of these claims or proceedings to whichthe Company is a party, management is of the opinion that the ultimateaggregate liability represented thereby, if any, will not have a material adverseaffect on the financial condition of the Company.

 

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

 

Not applicable.

 

20

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**PART II**

 

**Item 5.****        Market for Common Equity and RelatedShareholder Matters**

 

**(a)****                                  MarketInformation**

 

Community Valley Bancorp hasbeen listed on the Nasdaq OTC Bulletin Board since June 17, 2002 (the effectivedate of the holding company reorganization), and Butte Community Bank waspreviously also listed on the Nasdaq OTC Bulletin Board.  Our Common Stock trades under the symbol CVLLand the CUSIP number for such common stock is #20415P101.  Previously the Butte Community Bank CUSIPnumber for the common stock was #12406Q107. Trading in the Company has not been extensive and such trades cannot becharacterized as amounting to an active trading market.  Management is aware of the followingsecurities dealers who make a market in the Company’s stock: Hoefer &Arnett, San Francisco, California, Wachovia First Union Securities, GrassValley, California, and Wedbush Morgan Securities, Portland, Oregon (the “SecuritiesDealers”).

 

The following table summarizestrades of the Company setting forth the approximate high and low sales pricesand volume of trading for the periods indicated, based upon informationprovided by public sources.  Theinformation in the following table does not include trading activity betweendealers.  The stock prices and approximatetrading volumes and cash dividends have been adjusted to give effect to thefour-for-three stock split issued in March 2004.

 
| **Calendar**       | ** ** | **Sale Price of the  Company’s  Common Stock** | ** ** | **Approximate  Trading Volume** | ** ** |
|--------------------|------------|-----------------------------------------------------|------------|---------------------------------|------------|
| **Quarter Ended**  | ** ** | **High**                                            | ** ** | **Low**                         | ** ** | **Shares** | ** ** |
| March 31, 2003     |       | 16.50                                               |       | 14.93                           |       | 139,900 |   |
| June 30, 2003      |       | 20.25                                               |       | 16.13                           |       | 78,000 |   |
| September 30, 2003 |       | 20.14                                               |       | 18.38                           |       | 112,300 |   |
| December 31, 2003  |       | 22.50                                               |       | 18.08                           |       | 118,500 |   |
| March 31, 2004     |       | 33.23                                               |       | 26.78                           |       | 92,586 |   |
| June 30, 2004      |       | 33.72                                               |       | 25.86                           |       | 114,634 |   |
| September 30, 2004 |       | 28.42                                               |       | 24.43                           |       | 56,003 |   |
| December 31, 2004  |       | 27.75                                               |       | 26.05                           |       | 109,095 |   |

 

###### **(b)**                                  Holders

 

On March 1, 2005 there were approximately 489 shareholders of record ofthe Company.

 

**(c)**                                  **Dividends**

 

As a financial holding company which currently has no significantassets other than its equity interest in the Bank and the proceeds from theissuance of the Trust Preferred Securities previously mentioned, the Company’sability to declare dividends depends primarily upon dividends it receives fromthe Bank.  The Bank’s dividend practicesin turn depend upon the Bank’s earnings, financial position, current andanticipated cash requirements and other factors deemed relevant by the Bank’sBoard of Directors at that time.

 

The Company paid cash dividends quarterly totaling $1.09 million or$0.30 per share in 2004 and $1.08 million or $0.30 per share in 2003,representing 19% and 24%, respectively of the prior year’s earnings. TheCompany anticipates paying dividends in the future consistent with the generaldividend policy which declares that dividends must meet applicable legalrequirements while maintaining the minimum capital ratios established by theCompany.

 

The policy is to declare and pay dividends of no more than 40% of itsprevious years net income to shareholders. However, no assurance can be given that the Bank’s and the Company’sfuture earnings and/or growth expectations in any given year will justify thepayment of such a dividend.

 

21

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The power of the Bank’s Board of Directors to declare cash dividends isalso limited by statutory and regulatory restrictions which restrict the amountavailable for cash dividends depending upon the earnings, financial conditionand cash needs of the Bank, as well as general business conditions.  Under California banking law, the Bank maydeclare dividends in an amount not exceeding the lesser of its retainedearnings or its net income for the last three years (reduced by dividends paidduring such period) or, with the prior approval of the California Commissionerof Financial Institutions, in an amount not exceeding the greatest of (i) theretained earnings of the Bank, (ii) the net income of the Bank for its lastfiscal year, or (iii) the net income of the Bank for its current fiscalyear.  The payment of any cash dividendsby the Bank will depend not only upon the Bank’s earnings during a specifiedperiod, but also on the Bank meeting certain regulatory capital requirements.

 

The Company’s ability to pay dividends is also limited by statecorporation law. The California General Corporation Law prohibits the Companyfrom paying dividends on the Common Stock unless: (i) its retained earnings,immediately prior to the dividend payment, equals or exceeds the amount of thedividend or (ii) immediately after giving effect to the dividend the sum of theCompany’s assets (exclusive of goodwill and deferred charges) would be at leastequal to 125% of its liabilities (not including deferred taxes, deferred incomeand other deferred liabilities) and the current assets of the Company would beat least equal to its current liabilities, or, if the average of its earningsbefore taxes on income and before interest expense for the two preceding fiscalyears was less than the average of its interest expense for the two precedingfiscal years, at least equal to 125% of its current liabilities.

 

**(d)****                                  StockRepurchase Plan**

 

The Board of Directors approved a plan to repurchase up to $3,000,000of the outstanding common stock of the Company in 2003.  Stock repurchases may be made from time totime on the open market or through privately negotiated transactions.  The timing of purchases and the exact numberof shares to be purchased will depend on market conditions.  The share repurchase program does not includespecific price targets or timetables and may be suspended at any time.  During 2004, 19,015 shares of the Company’scommon stock were repurchased for $502,200. No shares were repurchased under this program in 2003.

 

**(e)****                                 ****Equity Compensation PlanInformation**

 

Thefollowing chart sets forth information for the fiscal year ended December 31,2004, regarding equity based compensation plans of the Company.

 
| **Plan category**                                           | ** ** | **Number of securities to be  issued upon exercise of  outstanding options,  warrants and rights** | ** ** | **Weighted average exercise  price of outstanding  options, warrants and  rights** | ** ** | **Number of securities  remaining available for  future issuance under  equity compensation plans  (excluding securities  reflected in column (a)).** | ** ** |
|-------------------------------------------------------------|------------|----------------------------------------------------------------------------------------------------|------------|------------------------------------------------------------------------------------|------------|-------------------------------------------------------------------------------------------------------------------------------------------------------|------------|
| ** **                                                  | ** ** | **(a)**                                                                                            | ** ** | **(b)**                                                                            | ** ** | **(c)**                                                                                                                                               | ** ** |
|                                                        |       |                                                                                               |       |                                                                               |       |                                                                                                                                                  |       |
| Equity compensation plans approved by  security holders     |       | 483,014                                                                                            |       | $                                                                                  | 10.44      |                                                                                                                                                  | 37,200     |   |
|                                                        |       |                                                                                               |       |                                                                               |       |                                                                                                                                                  |       |
| Equity compensation plans not approved by  security holders |       | None                                                                                               |       | None                                                                               |       | None                                                                                                                                                  |       |
|                                                        |       |                                                                                               |       |                                                                               |       |                                                                                                                                                  |       |
| Total                                                       |       | 483,014                                                                                            |       | $                                                                                  | 10.44      |                                                                                                                                                  | 37,200     |   |

 

During2004, the Company did not conduct any unregistered offerings or sales of itssecurities.  The Company did repurchase19,015 shares of its outstanding securities.

 

22

----

 

**(f)****                                    RecentSales of Unregistered Securities**

 

On December 19, 2002, the Company issued an aggregate of $8,248,000 inprincipal amount of its Floating Rate Junior Subordinated Deferrable InterestDebentures due 2032 (the “Subordinated Debt Securities”).  All of the Subordinated Debt Securities wereissued to Community Valley Trust I, a Delaware statutory business trust and awholly-owned but unconsolidated subsidiary of the Company (the “Trust”).  The Subordinated Debt Securities were notregistered under the Securities Act in reliance on the exemption set forth inSection 4(2) thereof.  The SubordinatedDebt Securities were issued to the Trust in consideration for the receipt ofthe net proceeds (approximately $7.75 million) raised by the Trust from thesale of $8,000,000 in principal amount of the Trust’s Floating Rate CapitalTrust Pass-through Securities (the “Trust Preferred Securities”).  Bear Stearns & Co. Inc. acted as theplacement agent in connection with the offering of the Trust PreferredSecurities for aggregate commissions of $240,000 payable by the Trust.  The sale of the Trust Preferred Securitieswas part of a larger transaction arranged by Bear Stearns & Co. pursuant towhich the Trust Preferred Securities were deposited into a special purposevehicle along with similar securities issued by a number of other banks and thespecial purpose vehicle then issued its securities to the public (the “PooledTrust Preferred Securities”).  The PooledTrust Preferred Securities were sold by Bear Stearns & Co. Inc. only (i) tothose entities Bear Stearns & Co. Inc. reasonably believed were qualifiedinstitutional buyers (as defined in Rule 144A under the Securities Act), (ii)to “accredited investors” (as defined in Rule 501(a)(1), (2), (3) or (7) orRegulation D promulgated under the Securities Act) or (iii) in offshoretransactions in compliance with Rule 903 of Regulation S under the SecuritiesAct.  The Trust Preferred Securities werenot registered under the Securities Act in reliance on exemptions set forth inRule 144A, Regulation D and Regulation S, as applicable.

 

**Item 6.****        SelectedFinancial Data**

 

The “selected financial data” for 2004 which follows is derived fromthe audited Consolidated Financial Statements of the Company and other datafrom our internal accounting system.  Theselected financial data should be read in conjunction with the auditedConsolidated Financial Statements and Notes thereto, and Management’sDiscussion and Analysis of Financial Condition and Results of Operations inItem 7 below.  Statistical informationbelow is generally based on average daily amounts.

 

**Selected Financial Data**

 

As of December 31,

(Dollars in thousands, except per share data)

 
| ** **                                            | ** ** | **2004**  | ** ** | **2003**  | ** ** | **2002**  | ** ** | **2001**  | ** ** | **2000**  | ** ** |
|-------------------------------------------------------|------------|-----------|------------|-----------|------------|-----------|------------|-----------|------------|-----------|------------|
| **Income Statement Summary**                          |       |      |       |      |       |      |       |      |       |      |       |
| Interest income                                       |       | $         | 24,980     |      | $          | 21,517    |       | $         | 18,977     |      | $          | 19,756 |   | $ | 16,532 |   |
| Interest expense                                      |       | $         | 4,056      |      | $          | 4,396     |       | $         | 4,774      |      | $          | 7,344 |   | $ | 5,518 |   |
| Net interest income before provision for loan  losses |       | $         | 20,924     |      | $          | 17,121    |       | $         | 14,203     |      | $          | 12,411 |   | $ | 11,014 |   |
| Provision for loan losses                             |       | $         | 790        |      | $          | 655       |       | $         | 603        |      | $          | 500 |   | $ | 805 |   |
| Non-interest income                                   |       | $         | 6,019      |      | $          | 5,950     |       | $         | 6,164      |      | $          | 3,659 |   | $ | 3,168 |   |
| Non-interest expense                                  |       | $         | 16,740     |      | $          | 13,818    |       | $         | 12,539     |      | $          | 9,335 |   | $ | 8,398 |   |
| Income before provision for income taxes              |       | $         | 9,413      |      | $          | 8,598     |       | $         | 7,225      |      | $          | 6,235 |   | $ | 4,979 |   |
| Provision for income taxes                            |       | $         | 3,803      |      | $          | 3,329     |       | $         | 2,375      |      | $          | 2,424 |   | $ | 1,932 |   |
| Net Income                                            |       | $         | 5,610      |      | $          | 5,269     |       | $         | 4,850      |      | $          | 3,811 |   | $ | 3,047 |   |
|                                                  |       |      |       |      |       |      |       |      |       |      |       |
| **Balance Sheet Summary**                             |       |      |       |      |       |      |       |      |       |      |       |
| Total loans, net                                      |       | $         | 339,174    |      | $          | 270,231   |       | $         | 229,699    |      | $          | 197,875 |   | $ | 167,092 |   |
| Allowance for loan losses                             |       | $         | (4,381     | )         | $          | (3,587    | )          | $         | (3,007     | )         | $          | (2,397 | ) | $ | (2,000 | ) |
| Investment securities held to maturity                |       | $         | 2,582      |      | $          | 3,823     |       | $         | 2,873      |      | $          | 2,507 |   | $ | 4,105 |   |
| Investment securities available for sale              |       | $         | 4,379      |      | $          | 502       |       | $         | 514        |      | $          | 500 |   | $ | 463 |   |
| Interest-bearing deposits in banks                    |       | $         | 8,715      |      | $          | 7,925     |       | $         | 4,061      |      | $          | 694 |   | $ | 1,584 |   |
| Cash and due from banks                               |       | $         | 21,778     |      | $          | 26,205    |       | $         | 15,621     |      | $          | 12,402 |   | $ | 12,100 |   |
| Federal funds sold                                    |       | $         | 46,440     |      | $          | 50,605    |       | $         | 57,410     |      | $          | 37,270 |   | $ | 11,630 |   |
| Other real estate                                     |       |      |       |      | $          | —    |       | $         | —     |      | $          | 12 |   | $ | 52 |   |
| Premises and equipment, net                           |       | $         | 9,027      |      | $          | 8,554     |       | $         | 6,653      |      | $          | 5,642 |   | $ | 5,217 |   |
| Total interest-earning assets                         |       | $         | 401,290    |      | $          | 333,086   |       | $         | 294,557    |      | $          | 238,846 |   | $ | 184,874 |   |
| Total assets                                          |       | $         | 449,675    |      | $          | 386,723   |       | $         | 337,483    |      | $          | 272,464 |   | $ | 214,906 |   |
| Total interest-bearing deposits                       |       | $         | 318,266    |      | $          | 274,048   |       | $         | 243,092    |      | $          | 201,434 |   | $ | 162,210 |   |
| Total deposits                                        |       | $         | 399,059    |      | $          | 342,511   |       | $         | 297,981    |      | $          | 246,420 |   | $ | 194,125 |   |
| Total liabilities                                     |       | $         | 415,144    |      | $          | 356,774   |       | $         | 312,103    |      | $          | 251,644 |   | $ | 198,062 |   |
| Total shareholders’ equity                       |       | $         | 34,531     |      | $          | 29,949    |       | $         | 25,380     |      | $          | 20,820 |   | $ | 16,844 |   |
| **Per Share Data  (1)**                          |       |      |       |      |       |      |       |      |       |      |       |
| Net Income                                            |       | $         | 1.58       |      | $          | 1.50      |       | $         | 1.40       |      | $          | 1.15 |   | $ | 0.97 |   |
| Book value per weighted average share                 |       | $         | 9.71       |      | $          | 8.53      |       | $         | 7.33       |      | $          | 6.26 |   | $ | 5.34 |   |
| Cash Dividends                                        |       | $         | 0.30       |      | $          | 0.30      |       | $         | 0.25       |      | $          | 0.17 |   | $ | — |   |
| Weighted Average Common Shares Outstanding,  Basic    |       | 3,556,193 |       | 3,512,645 |       | 3,461,115 |       | 3,323,429 |       | 3,154,580 |       |
| Weighted Average Common Shares Outstanding,  Diluted  |       | 3,800,546 |       | 3,715,259 |       | 3,639,929 |       | 3,573,740 |       | 3,505,940 |       |

 

23

----

 
| **Key  Operating Ratios:**                                 | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
|------------------------------------------------------------|------------|------------|------------|------------|------------|------------|------------|------------|------------|------------|------------|
| **Performance Ratios:**                                    | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| Return on Average Equity  (2)                         |       | 17.20      | %          | 19.07      | %          | 20.82      | %          | 19.73      | %          | 20.08      | %          |
| Return on Average Assets (3)                               |       | 1.34       | %          | 1.44       | %          | 1.69       | %          | 1.54       | %          | 1.64       | %          |
| Net Interest Margin (4)                                    |       | 5.70       | %          | 5.32       | %          | 5.52       | %          | 5.49       | %          | 6.73       | %          |
| Dividend Payout Ratio (5)                                  |       | 19.02      | %          | 20.67      | %          | 17.84      | %          | 14.83      | %          |       |       |
| Equity to Assets Ratio (6)                                 |       | 7.82       | %          | 7.54       | %          | 8.12       | %          | 7.85       | %          | 8.09       | %          |
| Net Loans to Total Deposits at Period End                  |       | 84.99      | %          | 78.90      | %          | 77.09      | %          | 80.30      | %          | 86.07      | %          |
| **Asset Quality Ratios:**                                  |       |       |       |       |       |       |       |       |       |       |       |
| Non Performing Loans to Total Loans                        |       | 0.03       | %          | 0.02       | %          | 0.02       | %          | 0.25       | %          | 0.88       | %          |
| Nonperforming Assets to Total Loans and Other  Real Estate |       | 0.03       | %          | 0.02       | %          | 0.02       | %          | 0.22       | %          | 0.88       | %          |
| Net Charge-offs to Average Loans                           |       | 0.00       | %          | 0.03       | %          | 0.00       | %          | 0.05       | %          | 0.13       | %          |
| Allowance for Loan Losses to                               |       |       |       |       |       |       |       |       |       |       |       |
| Net Loans at Period End                                    |       | 1.27       | %          | 1.31       | %          | 1.29       | %          | 1.19       | %          | 1.17       | %          |
| Allowance for Loan Losses to Non-Performing  Loans         |       | 4337.62    | %          | 6642.59    | %          | 506.23     | %          | 134.81     | %          | 340.72     | %          |
| **Capital Ratios:**                                        |       |       |       |       |       |       |       |       |       |       |       |
| Tier 1 Capital to Adjusted Total Assets                    |       | 9.5        | %          | 9.9        | %          | 10.4       | %          | 7.7        | %          | 8.0        | %          |
| Tier 1 Capital to Total Risk-Weighted  Assets              |       | 11.3       | %          | 12.2       | %          | 12.8       | %          | 10.4       | %          | 9.5        | %          |
| Total Capital to Total Risk-Weighted Assets                |       | 12.5       | %          | 13.3       | %          | 14.0       | %          | 11.6       | %          | 10.6       | %          |

 

----

(1) All per share data and the average numberof shares outstanding have been retroactively restated on a split-adjustedbasis.

(2) Net income divided by averageshareholders’ equity.

(3) Net income divided by average totalassets.

(4) Net interest income divided by averageearning assets.

(5) Dividends declared per share divided bynet income per share.

(6) Average equity divided by average totalassets.

 

24

----

 

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

 

This discussion presents Management’s analysis of the financialcondition as of December 31, 2004 and 2003 and results of operations of theCompany for each of the years in the three-year period ended December 31, 2004.(1)The discussion should be read in conjunction with the Consolidated FinancialStatements of the Company and the Notes related thereto presented elsewhere inthis Form 10-K Annual Report (see Item 8).

 

Statements contained in this report that are not purely historical areforward looking statements within the meaning of Section 21E of the SecuritiesExchange Act of 1934 as amended, including the Company’s expectations,intentions, beliefs, or strategies regarding the future.  All forward-looking statements concerningeconomic conditions, rates of growth, rates of income or values as may beincluded in this document are based on information available to the Company onthe date noted, and the Company assumes no obligation to update any such forward-lookingstatements.  It is important to note thatthe Company’s actual results could materially differ from those in suchforward-looking statements.  Factors thatcould cause actual results to differ materially from those in suchforward-looking statements are fluctuations in interest rates, inflation,government regulations, economic conditions, customer disintermediation andcompetitive product and pricing pressures in the geographic and business areasin which the Company conducts its operations.

 

**Critical Accounting Policies**

 

*General*

 

TheCompany’s significant accounting principles are described in Note 1 of theconsolidated financial statements and are essential to understanding Management’sDiscussion and Analysis of Results of Operations and Financial Condition.Community Valley Bancorp’s consolidated financial statements are prepared inaccordance with accounting principles generally accepted in the United Statesof America (GAAP). The financial information contained within our statementsis, to a significant extent, financial information that is based on measures ofthe financial effects of transactions and events that have already occurred.Some of the Company’s accounting principles require significant judgment toestimate values of assets or liabilities. In addition, certain accountingprinciples require significant judgment in applying the complex accountingprinciples to transactions to determine the most appropriate treatment. Thefollowing is a summary of the more judgmental and complex accounting estimatesand principles.

 

*Allowance for Loan Losses (ALL)*

 

The allowance for loan losses is management’s best estimate of theprobable losses that may be sustained in our loan portfolio. The allowance isbased on two basic principles of accounting: (1) SFAS No.5 which requires that losses be accrued when they areprobable of occurring and estimable and (2) SFAS No. 114, which requiresthat losses be accrued on impaired loans based on the differences between thevalue of collateral, present value of future cash flows or values that areobservable in the secondary market and the loan balance. The Company performsperiodic and systematic detailed evaluations of its lending portfolio toidentify and estimate the inherent risks and assess the overall collectibility.These evaluations include general conditions such as the portfolio composition,size and maturities of various segmented portions of the portfolio such assecured, unsecured, construction, and Small Business Administration (“SBA”).

 

Additionalfactors include concentrations of borrowers, industries, geographical sectors,loan product, 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.

 

25

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(1) As the holding company reorganization pursuant to which the Companybecame the sole shareholder of the Bank was effective during June 2002, allfinancial information as of and for the years ended December 31, 2001 and anyearlier years or periods relates to the Bank rather than the Company.  Information as of and for the years endingDecember 31, 2002 and beyond is provided for the Bank and the Company on aconsolidated basis.

 

For individually impaired loans, SFAS No. 114 provides guidance onthe acceptable methods to measure impairment. Specifically, SFAS No. 114states that when a loan is impaired, the Company should measure impairmentbased on the present value of expected future principal and interest cash flowsdiscounted at the loan’s effective interest rate, except that as a practicalexpedient, a creditor may measure impairment based on a loan’s observablemarket price or the fair value of collateral, if the loan is collateraldependent. When developing the estimate of future cash flows for a loan, theCompany considers all available information reflecting past events and currentconditions, including the effect of existing environmental factors.

 

*Loan Sales and Servicing*

 

The Company originates government guaranteed loansand mortgage loans that may be sold in the secondary market.  The amounts of gains recorded on sales ofloans and the initial recording of servicing assets and interest only (I/O)strips is based on the estimated fair values of the respective components.  In recording the initial value of theservicing assets and the fair value of the I/O strips receivable, the Companyuses estimates which are made based on management’s expectations of futureprepayment and discount rates.  Servicingassets are amortized over the estimated life of the related loan.  I/O strips are not significant at December 31,2004.  These prepayment and discountrates were based on current market conditions and historical performance of thevarious pools of serviced loans.  Ifactual prepayments with respect to sold loans occur more quickly than projectedthe carrying value of the servicing assets may have to be adjusted through acharge to earnings.

 

*Stock-Based Compensation*

 

TheCompany uses the intrinsic value based method for measuring compensation costrelated to stock options. Under the intrinsic value based method, compensationcost is the excess, if any, of the quoted market price of the stock at grantdate over the amount an employee must pay to acquire the stock. This cost isamortized on a straight-line basis over the vesting period of the optionsgranted. The Company applies Accounting Principles Board Opinion (“APB”)No. 25 *Accounting for Stock Issued toEmployees*and related interpretations in accounting for stockoptions.  No compensation cost has beenrecorded in the accompanying financial statements because all options have beengranted at an exercise price of no less than the fair market value at date ofgrant.

 

*Revenue Recognition*

 

TheCompany’s primary source of revenue is interest income, which is the differencebetween the interest income it receives on interest-earning assets and theinterest expense it pays on interest-bearing liabilities, and (ii) feeincome, which includes fees earned on deposit services, income from SBAlending, electronic-based cash management services, mortgage brokerage feeincome and merchant credit card processing services. Interest income isrecorded on an accrual basis. Note 1 to the Consolidated Financial Statementsoffers an explanation of the process for determining when the accrual ofinterest income is discontinued on an impaired loan.

 

*Income Taxes*

 

TheCompany accounts for income taxes under the asset and liability method. Underthe asset and liability method, deferred tax assets and liabilities arerecognized for the future tax consequences attributable to differences betweenthe financial statement carrying amounts of existing assets and liabilities andtheir respective tax bases. Deferred tax assets and liabilities are measuredusing currently enacted tax rates applied to such taxable income in the yearsin which those temporary differences are expected to be recovered or settled.The effect 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.

 

###### **Summary of Performance**

###### ** **

For 2004, net income was $5.61 million, compared to the $5.27 millionearned in 2003 and net income of $4.85 million in 2002.  Net income per diluted share was $1.48 for2004, as compared to $1.42 during 2003 and $1.33 in 2002.  The Company’s Return on Average Assets (“ROA”)was 1.34% and Return on Average Equity (“ROE”) was 17.20% in 2004, as comparedto 1.44% and 19.07%, respectively, in 2003 and 1.69% and 20.82%, respectively,for 2002.

 

26

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The Federal Reserve Board’s record reduction in the target overnightfed funds rate and discount rate during 2001 continued to impact the Companyduring 2004.  These rate reductionsinjected liquidity into the banking system, which forced other market interestrates to decline in response.  Beginning inJune of 2004 the Fed began increasing its target rate and by year end the ratehad increased by 1.25% to 5.25%.  Thisupward movement in rates helped the Company achieve a better net interestmargin in the second half of the year. Net interest income, generated by a higher level of average earningassets and favorable changes in the Company’s deposit mix, increased by $3.8million from 2003 to 2004.  Moreover,stable market rates allowed the Company to maintain a steady volume of mortgageloans, which we were able to sell at substantial gains.  The Company was also able to sell severalUSDA Business and Industry guaranteed loans and SBA loans for substantialgains.

 

27

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###### **Results of Operations**

###### ** **

###### **Net Interest Income andNet Interest Margin**

###### ** **

The Company earns income from two primary sources.  The first is net interest income broughtabout by income from the successful deployment of earning assets less the costsof interest-bearing liabilities.  Thesecond is non-interest income, which generally comes from customer servicecharges and fees, but can also result from non-customer sources such as gainson loan sales.  The majority of theCompany’s expenses are operating costs which relate to providing a full rangeof banking services to our customers.

 

Net interest income, which is simply total interest income (includingfees) less total interest expense, was $20.9 million in 2004 compared to $17.1million and $14.2 million in 2003 and 2002, respectively.  This represents an increase of 22.2% in 2004over 2003 and an increase of 20.5% in 2003 over 2002.  The amount by which interest income exceedsinterest expense depends on several factors. Among those factors are yields on earning assets, the cost ofinterest-bearing liabilities, the relative volume of total earning assets andtotal interest-bearing liabilities, and the mix of products which comprise theCompany’s earning assets, deposits, and other interest-bearingliabilities.  Change in the amount andmix of interest-earning assets and interest-bearing liabilities is referred toas “volume change.”  Change in interestrates earned on assets and rates paid on deposits and other borrowed funds isreferred to as “rate change.”

 

The Volume and Rate Variances table which follows sets forth the dollaramount of changes in interest earned and paid for each major category ofinterest-earning assets and interest-bearing liabilities and the amount ofchange attributable to changes in average balances (volume) or changes inaverage interest rate.  The calculation isas follows: the change due to increase ordecrease in volume is equal to the increase or decrease in the average balancetimes the prior period’s rate.  Thechange due to an increase or decrease in the rate is equal to the increase ordecrease in the average rate times the current period’s balance. Thevariances attributable to both the volume and rate changes have been allocatedto the change in rate.

 

28

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**Volume& Rate Variances**

 
| ** **                         | ** ** | **Years Ended December 31,**  | ** ** |
|------------------------------------|------------|-------------------------------|------------|
| ** **                         | ** ** | **2004 over 2003**            | ** ** | **2003 over 2002** | ** ** |
| ** **                         | ** ** | **Increase(decrease) due to** | ** ** | **Increase(decrease) due to** | ** ** |
| **(dollars in thousands)**         | ** ** | **Volume**                    | ** ** | **Rate** | ** ** | **Net** | ** ** | **Volume** | ** ** | **Rate** | ** ** | **Net** | ** ** |
| **Earning Assets:**                |       |                          |       |   |   |   |   |   |   |   |   |   |   |
| Loans                              |       | $                             | 4,795      |   | $ | (1,280 | ) | $ | 3,515 |   | $ | 3,271 |   | $ | (900 | ) | $ | 2,371 |   |
| Federal funds sold                 |       | $                             | (207       | ) | $ | 61 |   | $ | (146 | ) | $ | 356 |   | $ | (295 | ) | $ | 61 |   |
| Investment Securities:             |       |                          |       |   |   | $ | — |   |   |   |   |   | $ | — |   |
| Taxable                            |       | $                             | 102        |   | $ | (55 | ) | $ | 47 |   | $ | 65 |   | $ | (51 | ) | $ | 14 |   |
| Non-taxable(1)                     |       | $                             | 7          |   | $ | (2 | ) | $ | 5 |   | $ | (38 | ) | $ | 11 |   | $ | (27 | ) |
| Deposits in banks                  |       | $                             | 79         |   | $ | (37 | ) | $ | 42 |   | $ | 219 |   | $ | (99 | ) | $ | 120 |   |
| Total earning assets               |       | $                             | 4,776      |   | $ | (1,313 | ) | $ | 3,463 |   | $ | 3,873 |   | $ | (1,334 | ) | $ | 2,539 |   |
|                               |       |                          |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| **Interest-Bearing Liabilities**   |       |                          |       |   |   |   |   |   |   |   |   |   |   |
| Interest bearing deposits:         |       |                          |       |   |   |   |   |   |   |   |   |   |   |
|                               |       |                          |       |   |   |   |   |   |   |   |   |   |   |
| Demand - interest bearing          |       | $                             | 233        |   | $ | (544 | ) | $ | (311 | ) | $ | 641 |   | $ | (619 | ) | $ | 22 |   |
| Savings Accounts                   |       | $                             | 38         |   | $ | (14 | ) | $ | 24 |   | $ | 32 |   | $ | (84 | ) | $ | (52 | ) |
| Certificates of Deposit            |       | $                             | 118        |   | $ | (170 | ) | $ | (52 | ) | $ | (60 | ) | $ | (721 | ) | $ | (781 | ) |
| Total interest bearing deposits    |       | $                             | 389        |   | $ | (728 | ) | $ | (339 | ) | $ | 613 |   | $ | (1,424 | ) | $ | (811 | ) |
| Borrowed funds:                    |       |                          |       |   |   | $ | — |   |   |   |   |   | $ | — |   |
| Other Borrowings                   |       | $                             | (5         | ) | $ | 4 |   | $ | (1 | ) | $ | 431 |   | $ | 1 |   | $ | 432 |   |
| Total Borrowed Funds               |       | $                             | (5         | ) | $ | 4 |   | $ | (1 | ) | $ | 431 |   | $ | 1 |   | $ | 432 |   |
| Total Interest Bearing Liabilities |       | $                             | 384        |   | $ | (724 | ) | $ | (340 | ) | $ | 1,044 |   | $ | (1,423 | ) | $ | (379 | ) |
| **Net Interest Margin/Income**     |       | $                             | 4,392      |   | $ | (589 | ) | $ | 3,803 |   | $ | 2,829 |   | $ | 89 |   | $ | 2,918 |   |

 

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(1) Yields on tax exempt income have not beencomputed on a tax equivalent basis.

 

The Company’s net interest margin is its net interest income expressedas a percentage of average earning assets. The Company’s net interest margin for 2004 was 5.70%, an increase of 38basis points from the 5.32% reported for 2003. For the year 2002, this margin was 5.52%.  The following Distribution, Rate and Yieldtable shows, for each of the past three years, the rates earned on eachcomponent of the Company’s investment and loan portfolio and the rates paid oneach segment of the Company’s interest bearing liabilities. That same tablealso shows the Company’s average daily balances for each principal category ofassets, liabilities and shareholders’ equity, the amount of interest income orinterest expense, and the average yield or rate for each category ofinterest-earning asset and interest-bearing liability along with the netinterest margin for each of the reported periods.

 

29

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**Distribution, Rate & Yield**

 
| ** **                                           | ** ** | **Year  Ended December 31,** | ** ** |
|------------------------------------------------------|------------|------------------------------|------------|
| ** **                                           | ** ** | **2004(a)**                  | ** ** | **2003(a)** | ** ** | **2002(a)** | ** ** |
| **(dollars in thousands)**                           | ** ** | **Average  Balance**         | ** ** | **Income/  Expense** | ** ** | **Average  Rate** | ** ** | **Average  Balance** | ** ** | **Income/  Expense** | ** ** | **Average  Rate** | ** ** | **Average  Balance** | ** ** | **Income/  Expense** | ** ** | **Average  Rate** | ** ** |
| **Assets**                                           |       |                         |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Investments:                                         |       |                         |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Federal Funds  Sold                                  |       | $                            | 38,945     |   | $ | 488 |   | 1.25 | % | $ | 57,811 |   | $ | 634 |   | 1.10 | % | $ | 35,641 |   | $ | 573 |   | 1.61 | % |
| Taxable                                              |       | $                            | 4,575      |   | $ | 151 |   | 3.30 | % | $ | 2,308 |   | $ | 104 |   | 4.51 | % | $ | 1,341 |   | $ | 90 |   | 6.71 | % |
| Non-taxable(1)                                       |       | $                            | 1,039      |   | $ | 54 |   | 5.20 | % | $ | 902 |   | $ | 49 |   | 5.43 | % | $ | 1,813 |   | $ | 76 |   | 4.19 | % |
| Interest-bearing  deposits in banks                  |       | $                            | 8,862      |   | $ | 244 |   | 2.75 | % | $ | 6,371 |   | $ | 201 |   | 3.15 | % | $ | 1,718 |   | $ | 81 |   | 4.71 | % |
| Total Investments                                    |       | $                            | 53,421     |   | $ | 937 |   | 1.75 | % | $ | 67,392 |   | $ | 988 |   | 1.47 | % | $ | 40,513 |   | $ | 820 |   | 2.02 | % |
| Loans:                                               |       |                         |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Agricultural                                         |       | $                            | 26,287     |   | $ | 1,909 |   | 7.26 | % | $ | 22,573 |   | $ | 1,671 |   | 7.40 | % | $ | 21,345 |   | $ | 1,511 |   | 7.08 | % |
| Commercial                                           |       | $                            | 60,261     |   | $ | 4,996 |   | 8.29 | % | $ | 55,694 |   | $ | 4,605 |   | 8.27 | % | $ | 50,412 |   | $ | 3,927 |   | 7.79 | % |
| Real Estate                                          |       | $                            | 203,675    |   | $ | 15,579 |   | 7.65 | % | $ | 156,452 |   | $ | 12,866 |   | 8.22 | % | $ | 126,486 |   | $ | 11,305 |   | 8.94 | % |
| Consumer                                             |       | $                            | 23,689     |   | $ | 1,559 |   | 6.58 | % | $ | 19,963 |   | $ | 1,386 |   | 6.94 | % | $ | 18,710 |   | $ | 1,414 |   | 7.56 | % |
| Total Loans                                          |       | $                            | 313,912    |   | $ | 24,043 |   | 7.66 | % | $ | 254,682 |   | $ | 20,528 |   | 8.06 | % | $ | 216,953 |   | $ | 18,157 |   | 8.37 | % |
| Total Earning  Assets(2)                             |       | $                            | 367,333    |   | $ | 24,980 |   | 6.80 | % | $ | 322,074 |   | $ | 21,516 |   | 6.68 | % | $ | 257,466 |   | $ | 18,977 |   | 7.37 | % |
| Non-Earning  Assets                                  |       | $                            | 49,825     |   |   |   |   |   | $ | 44,259 |   |   |   |   |   | $ | 29,401 |   |   |   |   |   |
| **Total  Assets**                                    |       | $                            | 417,158    |   |   |   |   |   | $ | 366,333 |   |   |   |   |   | $ | 286,867 |   |   |   |   |   |
| **Liabilities  and Shareholders’ Equity**       |       |                         |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Interest-Bearing  Deposits:                          |       |                         |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| NOW                                                  |       | $                            | 136,612    |   | $ | 811 |   | 0.59 | % | $ | 121,289 |   | $ | 1,050 |   | 0.87 | % | $ | 86,292 |   | $ | 1,043 |   | 1.21 | % |
| Savings                                              |       | $                            | 29,463     |   | $ | 145 |   | 0.49 | % | $ | 22,409 |   | $ | 121 |   | 0.54 | % | $ | 18,936 |   | $ | 173 |   | 0.91 | % |
| Money Market                                         |       | $                            | 37,820     |   | $ | 284 |   | 0.75 | % | $ | 29,494 |   | $ | 356 |   | 1.21 | % | $ | 17,989 |   | $ | 341 |   | 1.90 | % |
| TDOA’s, and IRA’s                          |       | $                            | 6,895      |   | $ | 177 |   | 2.57 | % | $ | 7,117 |   | $ | 201 |   | 2.82 | % | $ | 6,166 |   | $ | 228 |   | 3.70 | % |
| Certificates of  Deposit < $100,000               |       | $                            | 45,681     |   | $ | 1,032 |   | 2.26 | % | $ | 50,744 |   | $ | 1,343 |   | 2.65 | % | $ | 59,010 |   | $ | 2,143 |   | 3.63 | % |
| Certificates of  Deposit > $100,000               |       | $                            | 36,854     |   | $ | 1,136 |   | 3.08 | % | $ | 28,300 |   | $ | 853 |   | 3.01 | % | $ | 22,571 |   | $ | 807 |   | 3.58 | % |
| Total  Interest-Bearing Deposits                     |       | $                            | 293,325    |   | $ | 3,585 |   | 1.22 | % | $ | 259,353 |   | $ | 3,924 |   | 1.51 | % | $ | 210,964 |   | $ | 4,735 |   | 2.24 | % |
| Borrowed Funds:                                      |       |                         |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Other Borrowings                                     |       | $                            | 8,935      |   | $ | 471 |   | 5.27 | % | $ | 9,038 |   | $ | 472 |   | 5.22 | % | $ | 767 |   | $ | 40 |   | 5.22 | % |
| Total Borrowed  Funds                                |       | $                            | 8,935      |   | $ | 471 |   | 5.27 | % | $ | 9,038 |   | $ | 472 |   | 5.22 | % | $ | 767 |   | $ | 40 |   | 5.22 | % |
| Total Interest  Bearing Liabilities                  |       | $                            | 302,260    |   | $ | 4,056 |   | 1.34 | % | $ | 268,391 |   | $ | 4,396 |   | 1.64 | % | $ | 211,731 |   | $ | 4,775 |   | 2.26 | % |
| Demand Deposits                                      |       | $                            | 77,225     |   |   |   |   |   | $ | 66,347 |   |   |   |   |   | $ | 48,774 |   |   |   |   |   |
| Other Liabilities                                    |       | $                            | 5,066      |   |   |   |   |   | $ | 3,961 |   |   |   |   |   | $ | 3,073 |   |   |   |   |   |
| Shareholders’  Equity                           |       | $                            | 32,607     |   |   |   |   |   | $ | 27,634 |   |   |   |   |   | $ | 23,289 |   |   |   |   |   |
| **Total  Liabilities and Shareholders’ Equity** |       | $                            | 417,158    |   |   |   |   |   | $ | 366,333 |   |   |   |   |   | $ | 286,867 |   |   |   |   |   |
|                                                 |       |                         |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Interest  Income/Earning Assets                      |       |                         |       |   |   | 6.80 | % |   |   |   |   | 6.68 | % |   |   |   |   | 7.37 | % |
| Interest  Expense/Earning Assets                     |       |                         |       |   |   | 1.10 | % |   |   |   |   | 1.36 | % |   |   |   |   | 1.85 | % |
| **Net  Interest Margin(3)**                          |       |                         |       | $ | 20,924 |   | 5.70 | % |   |   | $ | 17,120 |   | 5.32 | % |   |   | $ | 14,202 |   | 5.52 | % |

 

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(a) Average balances are obtained from thebest available daily or monthly data.

(1) Yields on tax exempt income have not beencomputed on a tax equivalent basis.

(2) Non-accrual loans have been included intotal loans for purposes of total earning assets.

(3) Represents net interest income as apercentage of average interest-earning assets.

(4) Yields and amounts earned on loansinclude loan fees of $2,303,000, $1,954,000 and $2,355,000 for the years endedDecember 31, 2004, 2003 and 2002 respectively.

 

During 2004, the Company’s netinterest margin improved primarily as a result of the change in the mix ofinvestment that contributed to an overall increase in yields and the decreasein the rates paid on interest bearing deposits. On an average basis, the rates on loans decreased by 40 basis points resultingin a decrease in interest income of $1.3 million.  This decrease in rates was more than offsetby the increase in the average volume of loans of $59 million that generated anadditional $4.8 million in loan related interest income.  Overall interest income on earning assetsincreased by $3.5 million.

 

30

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A large portion of the Bank’sloans carry variable rates and re-price immediately, versus a large base ofcore deposits which are generally slower to re-price. Due to the favorablechanges in the Company’s mix of deposits from the growth in average balances ofNOW, savings and money market accounts, the Company was able to increase theoverall level of deposits while decreasing interest expense by $340,000 whichcontributed to the increase of $3.8 million in net interest income.  On an average basis, NOW account depositswere up $15.3 million, savings account deposits were up $7 million, moneymarket account deposits were up $8.3 million and certificate of depositbalances were up only $3.3 million. Average non interest bearing demand deposit balances also increased bynearly $11 million, or 16%, from 2003 to 2004. On a year over year basis certificates of deposit were up more than $19million with the majority of that growth occurring in the fourth quarter.  The Company funded much of its loan growth in2004 with funds that had been converted from the equity markets during 2003into liquid deposit accounts such as NOW and money market checking accounts.  As rates remained relatively stable duringmost of 2004, some existing customers were unwilling to accept the low ratesbeing offered for non-liquid deposits and chose to roll their maturing timedeposit money into money market and NOW accounts.

 

From 2003 to 2004, the Company’s average loan portfolio grew byapproximately $59 million, or 23.3%, building on the growth of $38 million, or17.4% from 2002 to 2003.  The earnings onthat growth, net of associated funding costs, is a significant contributor tonet interest income.  Additionally, loanbalances, which are the highest yielding component of the Company’s earningassets, increased during 2004 as a portion of the Company’s average assetbase.  During 2004, the loan portfolioaveraged 75.3% of total assets, while for 2003 and 2002 such balancesrepresented 69.5% and 75.6%, respectively, of average assets.

 

Based on these indications and current economic conditions, the Companyexpects moderate increases in the rates paid on interest-bearing liabilitiesand rates earned on both the investment and loan portfolio during 2005. TheCompany’s net interest margin is anticipated to stay approximately the same asin 2004, and net interest income should increase if loans grow as planned andthe loan growth is funded by reasonably priced deposits.  However, no assurance can be given that thiswill, in fact, occur.

 

###### **Non-interest Income andNon-interest Expense**

 

For the year 2004, non-interest income increased by $68,000 or (1%) to$6,018,000 as compared to $5,950,000 for 2003. Non interest income in 2002 was $6,164,000.  The primary traditional sources ofnon-interest income for the Company are service charges on deposit accounts,gains on the sale of loans, loan servicing income, alternative investment feesearned on the sales of non-deposit investment products and merchant credit cardfees.  Service charges on depositaccounts and loan sales income in 2004 accounted for 34.7% and 30.3%,respectively, of total non-interest income, as compared to 23.5% and 46.8%, respectively,for 2003 and 16.7% and 37.8%, respectively, for 2002.  Loan servicing income, alternative investmentfees and merchant credit card fees for 2004 were 6.4%, 7.1% and 5.1%respectively, of total non-interest income, as compared to 6.4%, 3.7% and 5.8%,respectively, for 2003 and 5.8%, 1.7% and 5.7%, respectively, for 2002.

 

The primary source of non-interest income during 2004 was from servicecharges on deposit accounts followed closely by the gain recognized on the saleof loans.  The increase in servicecharges on deposit accounts was primarily a result of the fees charged onadditional deposit accounts opened during the year, an overall increase in thefee structure charged for services and the overdraft privilege deposit productwhich on a year over year basis increased $623,000.  Loan sales income decreased proportionate tototal non-interest income as the volume of loans sold in 2004 decreased fromthe high volume of mortgage loans and government guaranteed loans originatedand sold during 2003.  Mortgage loanactivity, while still vigorous in 2004, decreased from the peak levels seenduring 2003 presumably because consumers who had contemplated refinancing theirhomes had probably done so.  Weanticipate sales of existing homes continuing throughout 2005 as mortgage ratesremain attractive and near their 40 year lows and the construction of new homescontinues.  The loan portfolio alsoincludes loans which are 75% to 90% guaranteed by the Small BusinessAdministration (SBA), U.S. Department of Agriculture, RuralBusiness-Cooperative Service (RBS) and Farm Services Agency (FSA).  The guaranteed portion of these loans may besold to a third party, with the Company retaining the unguaranteedportion.  The Company generally receivesa premium in excess of the adjusted carrying value of the loan at the time ofsale.

 

Loan servicing income increased slightly as the portfolio of realestate loans being serviced by the Company grew by 4% from 2003 to 2004.  The portfolio of SBA, RBS and FSA governmentguaranteed loans being serviced by the Company grew by 8% from 2003 to 2004.

 

Alternative investment fees earned on the sales of non-depositinvestment products increased significantly in 2004 compared to 2003 primarilyas a result of aggressive sales techniques and excellent referrals from the branchnetwork.  According to our broker dealer,Financial Network, our primary representative completed the production year2004 as the 14th highest performer in the Financial Institution Division ofmore than 1,500 representatives in 330 financial institutions nationwide.

 

Merchant credit card fees decreased slightly from 2003 to 2004, butwere approximately the same percentage of average earning assets. Through moreaggressive marketing efforts of this product, management expects income fromthis area to increase somewhat in 2005.

 

31

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The Company is increasingly focused on enhancing its fee income.  Based on the Company’s efficiency ratio of62% for 2004, 60% for 2003, and 63% for 2002 as compared to the 55% and lowerratios of certain major financial institutions, it is expected that thisactivity will continue for the foreseeable future.

 

The Company’s total non-interest expense increased to $16.7 million in2004, as compared to $13.8 million in 2003 and $12.5 million in 2002.

 

The largest dollar increase in non-interest expense was in salaries andemployee benefits, which increased by $1,829,000, or 22.4% from 2003 to2004.  This increase resulted from normalcost of living raises, salaries paid to employees at the three new branchoffices in Red Bluff, Marysville and Colusa commissions paid to Butte CommunityBank’s Real Estate Loan agents and staffing additions made during the year asthe Company continued to grow.  Theincrease in salaries and benefits in 2003 compared to 2002 was $1,592,000 or24.3%.  Full time equivalent employeesincreased to 204 at December 31, 2004 from 177 at December 31, 2003 and 152 atDecember 31, 2002. Benefit costs and employer taxes increased commensurate withthe salaries.  It is management’s opinionthat the Company can achieve significant growth in loans and deposits with thestaff as it exists.  Additional increasesin staff will take place during 2005 with the opening of the Corning office inMarch.  A full service branch is alsoplanned for Redding during the third quarter.

 

Occupancy expenses were higher by $488,000 or 24% when compared to the2003 total of $2,037,000.  Much of theincrease in occupancy expense was related to furniture, fixtures and equipmentfor the new Red Bluff, Marysville and Colusa branch offices.  The lease agreements and remodeling costsassociated with these offices, also added to the year over year increase.  The increase in occupancy expenses in 2003compared to 2002 was $480,000 or 30.8%. Advertising and marketing expenses increased slightly in 2004 from 2003after a slight decrease in 2003 from 2002 as we promoted the Bank within theareas we expanded to.  The majority ofthe increase in professional services costs of $96,000 from 2003 to 2004 relatesto outsourcing audit work.  The decreasein 2003 compared to 2002 was due to lower legal costs related to problem loansand the fees paid in 2002 to form the holding company.  We anticipate these costs going upsubstantially in 2005 as we go through the process of implementingSarbanes-Oxley 404 compliance.

 

Expenses representing telephone and data communications, postage andmail, stationery and supplies, merchant credit card and ATM operations, sundrylosses and other expenses totaled $3,479,000 for 2004 compared to $2,990,000 in2003 and $1,021,000 in 2002 an increase of 16.4% and 21.5% on a year over yearbasis.  Management considers thisincrease in expenses commensurate with the growth of the Company.

 

32

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| ** **                                     | ** ** | **For the year ended December 31,** | ** ** |
|------------------------------------------------|------------|-------------------------------------|------------|
| **Non Interest Income/Expense**                | ** ** | **2004**                            | ** ** | **% of Total** | ** ** | **2003** | ** ** | **% of Total** | ** ** | **2002** | ** ** | **% of Total** | ** ** |
| **(dollars in thousands,  unaudited)**         | ** ** | ** **                          | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| OTHER OPERATING INCOME:                        |       |                                |       |   |   |   |   |   |   |   |   |   |   |
| Service charges on deposit accounts            |       | $                                   | 2,086      |   | 34.66 | % | $ | 1,397 |   | 23.48 | % | $ | 1,028 |   | 16.68 | % |
| Merchant credit card fees                      |       | $                                   | 311        |   | 5.12 | % | $ | 343 |   | 5.76 | % | $ | 354 |   | 5.74 | % |
| Other service charges, commissions &  fees |       | $                                   | 712        |   | 11.83 | % | $ | 613 |   | 10.30 | % | $ | 467 |   | 7.58 | % |
| Gains on sales of loans                        |       | $                                   | 1,825      |   | 30.33 | % | $ | 2,783 |   | 46.77 | % | $ | 2,327 |   | 37.75 | % |
| Loan servicing income                          |       | $                                   | 383        |   | 6.36 | % | $ | 379 |   | 6.37 | % | $ | 356 |   | 5.78 | % |
| Other                                          |       | $                                   | 701        |   | 11.70 | % | $ | 435 |   | 7.31 | % | $ | 1,632 |   | 26.48 | % |
| Total non-interest income                      |       | $                                   | 6,018      |   | 100.00 | % | $ | 5,950 |   | 100.00 | % | $ | 6,164 |   | 100.00 | % |
| As a percentage of average earning assets      |       |                                |       | 1.64 | % |   |   | 1.85 | % |   |   | 2.39 | % |
|                                           |       |                                |       |   |   |   |   |   |   |   |   |   |   |
| OTHER OPERATING EXPENSES:                      |       |                                |       |   |   |   |   |   |   |   |   |   |   |
| Salaries and employee benefits                 |       | $                                   | 9,980      |   | 59.62 | % | $ | 8,151 |   | 58.99 | % | $ | 6,559 |   | 52.31 | % |
| Occupancy costs                                |       |                                |       |   |   |   |   |   |   |   |   |   |   |
| Furniture & Equipment                      |       | $                                   | 1,492      |   | 8.91 | % | $ | 1,180 |   | 8.54 | % | $ | 937 |   | 7.47 | % |
| Premises                                       |       | $                                   | 1,033      |   | 6.17 | % | $ | 857 |   | 6.20 | % | $ | 620 |   | 4.94 | % |
| Advertising and marketing costs                |       | $                                   | 302        |   | 1.80 | % | $ | 277 |   | 1.35 | % | $ | 191 |   | 1.52 | % |
| Professional services costs                    |       |                                |       |   |   |   |   |   |   |   |   |   |   |
| Legal & Accounting                         |       | $                                   | 268        |   | 1.60 | % | $ | 280 |   | 1.12 | % | $ | 305 |   | 2.43 | % |
| Other professional services                    |       | $                                   | 268        |   | 1.60 | % | $ | 173 |   | 2.16 | % | $ | 191 |   | 3.17 | % |
| Other operating costs                          |       |                                |       |   |   |   |   |   |   |   |   |   |   |
| Credit Card / ATM                              |       | $                                   | 140        |   | 0.84 | % | $ | 29 |   | 0.21 | % | $ | 70 |   | 0.56 | % |
| Telephone & data communications            |       | $                                   | 288        |   | 1.72 | % | $ | 263 |   | 1.90 | % | $ | 234 |   | 1.87 | % |
| Postage & mail                             |       | $                                   | 233        |   | 1.39 | % | $ | 241 |   | 1.75 | % | $ | 210 |   | 1.67 | % |
| Other                                          |       | $                                   | 2,037      |   | 12.17 | % | $ | 1,658 |   | 12.66 | % | $ | 2,625 |   | 20.93 | % |
| Stationery & supply costs                  |       | $                                   | 614        |   | 3.67 | % | $ | 632 |   | 4.57 | % | $ | 539 |   | 4.30 | % |
| Sundry & teller costs                      |       | $                                   | 85         |   | 0.51 | % | $ | 76 |   | 0.55 | % | $ | 58 |   | 0.46 | % |
| Total non-interest expense                     |       | $                                   | 16,740     |   | 100.00 | % | $ | 13,818 |   | 100.00 | % | $ | 12,539 |   | 100.00 | % |
| As a % of average earning assets               |       |                                |       | 4.56 | % |   |   | 4.29 | % |   |   | 4.87 | % |
|                                                |            |                                     |            |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

###### **Provision for Loan Losses**

 

Credit risk is inherent in the business of making loans.  The Company sets aside an allowance for loanlosses through charges to earnings.  Thecharges are shown in the income statements as provisions for loan losses, andspecifically identifiable and quantifiable losses are immediately charged offagainst the allowance.

 

The Company’s provisions in 2004, 2003, and 2002 were $790,000,$655,000, and $603,000 respectively.  Theloan loss provision is determined by conducting a monthly evaluation of the adequacyof the Company’s allowance for loan losses, and charging the shortfall, if any,to the current month’s expense.  This hasthe effect of creating variability in the amount and frequency of charges tothe Company’s earnings.  The proceduresfor monitoring the adequacy of the allowance, as well as detailed informationconcerning the allowance itself, are included below under “Allowance for LoanLosses.”

 

33

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###### **Income Taxes**

 

As indicated in Note 13 in the Notes to the Consolidated FinancialStatements, the provision for income taxes is the sum of two components, theprovision for current taxes and deferred taxes. The provision for current taxes results from applying the current taxrate to taxable income, and is in essence the actual current income taxliability.  Some items of income andexpense are recognized in different years for tax purposes than when applyingaccounting principles generally accepted in the United States of America,however, leading to differences between the Company’s actual tax liability andthe amount accrued for this liability based on book income.  These temporary timing differences comprisethe deferred portion of the Company’s tax provision.

 

Most of the Company’s temporary differences involve recognizing moreexpenses in its financial statements than it has been allowed to deduct for taxpurposes, and therefore the Company normally carries a net deferred tax asseton its books.  At December 31, 2004, theCompany’s $2.8 million net deferred tax asset was primarily due to temporarydifferences in the reported allowance for loan losses, deferred compensation,and future benefit of state tax deduction offset by the temporary differencesrelated to certain deferred tax liabilities.

 

###### **Financial Condition**

 

The following discussion of the financial condition of the Company isgrouped into earning assets, comprised of loans and investments; non-earningassets, comprised of cash and due from banks, premises and equipment and otherassets; liabilities, consisting of deposits and other borrowings; capitalresources; and liquidity and market risk. Each section provides details where applicable on volume, rates ofchange, and significance relative to the overall activities of the Company.

 

A comparison between the summary year-end balance sheets for 2004through 2000 was presented previously in the table of Selected Financial Data(see Item 6 above).  As indicated in thattable, the Company’s total assets, loans, deposits, and shareholders’ equity havegrown each year for the past four years, with asset growth, in terms of totaldollars, most pronounced in 2002 when the Company grew by $65 million, or23.8%.  Growth in the Company’s totalassets over the past year approximated $63 million, or 16.3%, as compared togrowth in 2003 of $49 million or 14.6%. Notable growth was also achieved during 2001 when total assets grew by$58 million or 26.8%.

 

On the liability side, the deposit mix changed in 2004 with the growthin CD’s outpacing the growth in the other lower cost deposit products.  However the average rates paid continued todecrease as the repricing of the deposits continued to lag the increases in theinterest rate environment in the second half of 2004.  This resulted in a positive impact on theCompany’s cost of interest-bearing liabilities. The Company had increased its reliance on wholesale funding sources in2001 to fund the ever increasing loan demand. This was an intentional asset/liability management strategy and wasplanned to be a temporary condition. Because deposit balances could not be grown as quickly as loan growth,the Company funded its loan growth with short-term brokered deposits.  Throughout 2002 we focused on increasingcustomer deposits to replace wholesale borrowings.  By the end of 2003 all of these brokereddeposits had been replaced with deposits from our local markets.

 

###### **Loan Portfolio**

 

The Company offers a wide variety of loan types and terms to customersalong with very competitive pricing and quick delivery of the creditdecision.  The Company’s loan portfoliorepresents the single largest portion of invested assets, substantially greaterthan the investment portfolio or any other asset category.  At December 31, 2004, gross loansrepresented 76.4% of total assets, as compared to 70.8% and 69.0% atDecember 31, 2003 and 2002, respectively. The quality and diversification of the Company’s loan portfolio areimportant considerations when reviewing the Company’s results of operations.

 

34

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The Selected Financial Data table in Item 6 reflects the net amount ofloans outstanding at December 31st for each year between 2000 and 2004.  The Loan Distribution table which followssets forth the amount of the Company’s total loans outstanding in each categoryat the dates indicated.

 

###### **Loan PortfolioComposition**

 

The following table sets forth the composition of the Company’s loanportfolio by type as of the dates indicated:

 

**Loan Distribution**

 
| ** **                           | ** ** | **As of December 31,** | ** ** |
|--------------------------------------|------------|------------------------|------------|
| **(dollars in thousands)**           | ** ** | **2004**               | ** ** | **2003** | ** ** | **2002** | ** ** | **2001** | ** ** | **2000** | ** ** |
| Agricultural                         |       | $                      | 22,177     |   | $ | 20,820 |   | $ | 18,935 |   | $ | 19,407 |   | $ | 18,832 |   |
| Commercial                           |       | $                      | 58,662     |   | $ | 57,739 |   | $ | 48,661 |   | $ | 42,517 |   | $ | 39,673 |   |
| Real estate -  mortgage              |       | $                      | 146,876    |   | $ | 111,249 |   | $ | 82,057 |   | $ | 52,315 |   | $ | 50,069 |   |
| Real estate -  construction          |       | $                      | 90,643     |   | $ | 63,345 |   | $ | 64,565 |   | $ | 68,943 |   | $ | 45,855 |   |
| Installment                          |       | $                      | 26,219     |   | $ | 21,698 |   | $ | 19,325 |   | $ | 17,764 |   | $ | 16,885 |   |
|                                 |       | $                      | 344,577    |   | $ | 274,851 |   | $ | 233,543 |   | $ | 200,946 |   | $ | 171,314 |   |
|                                 |       |                   |       |   |   |   |   |   |   |   |   |
| Deferred  loan origination fees, net |       | $                      | (1,022     | ) | $ | (1,033 | ) | $ | (837 | ) | $ | (674 | ) | $ | (562 | ) |
| Allowance  for loan losses           |       | $                      | (4,381     | ) | $ | (3,587 | ) | $ | (3,007 | ) | $ | (2,397 | ) | $ | (2,000 | ) |
|                                 |       | $                      | 339,174    |   | $ | 270,231 |   | $ | 229,699 |   | $ | 197,875 |   | $ | 168,752 |   |

 

**Percentage of Total Loans**

 
| Agricultural               |   | 6.44   | % | 7.58   | % | 8.11   | % | 9.66   | % | 10.99  | % |
|----------------------------|--------|--------|---|--------|---|--------|---|--------|---|--------|---|
| Commercial                 |   | 17.02  | % | 21.01  | % | 20.84  | % | 21.16  | % | 23.16  | % |
| Real Estate - mortgage     |   | 42.63  | % | 40.48  | % | 35.13  | % | 26.03  | % | 29.23  | % |
| Real Estate - construction |   | 26.31  | % | 23.05  | % | 27.65  | % | 34.31  | % | 26.77  | % |
| Installment                |   | 7.60   | % | 7.88   | % | 8.27   | % | 8.84   | % | 9.85   | % |
|                       |   | 100.00 | % | 100.00 | % | 100.00 | % | 100.00 | % | 100.00 | % |

 

As reflected in the Loan Distribution table, aggregate loan balanceshave increased $170 million, or 101%, over the last four years.  The largest percentage growth during 2004came in real estate construction while real estate mortgages showed the largestdollar volume increase.

 

Loan growth in the Company’s immediate market has been oriented towardloans secured by real estate, commercial loans, including Small BusinessAdministration loans, as well as consumer loans.  As a result, these areas have comprised themajor portion of the Company’s loan growth over the past few years.  Loans secured by real estate grew by $63million, or 36%, and commercial loans grew by $1 million, or 1.6%, during2004.  Loans secured by real estate andcommercial loans comprised 68.9% and 17%, respectively, of the Bank’s totalloan portfolio at the end of 2004.

 

The Company’s commercial loans are centered in locally orientedcommercial activities in the markets where the Company has a presence.  Additionally, the Company has a GovernmentLending Division dedicated to its SBA product and its Business and Industry(B&I) Guaranteed Loan Program.  Forthe fiscal year ended September 30, 2004, the Company was named the number oneUSDA Business and Industry lender not only in California but also for theentire United States by originating over $26 million in loans.  The Company is also designated as an SBAPreferred Lender, which means it has the authority to underwrite and approveSBA loans locally.  This recognitionlends credence to the Company’s success in meeting the needs of smallerbusiness owners in the communities in which the Company conducts its bankingactivities.

 

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The most significant shift in the loan portfolio mix over the past fiveyears has been in loans secured by real estate mortgages, which increased from29.2% of total loans at the end of 2000 to 42.6% of total loans at the end of2004.  Real estate lending is animportant part of the Company’s focus, and is likely to remain so for theimmediate future.  Consumer loans,however, declined to just 7.6% of total loan balances by the end of 2004 from9.9% at the end of 2000, and agricultural loans dropped during the same periodto 6.4% of the Company’s total loan balances from 11%.  The decline in the percentage of agriculturalloans to total loans over the last few years has been due to the growth in theother lending areas outpacing the growth in the agricultural lending.  We continue to have the same borrowingrelationships year after year and have not yet expanded this part of ourbusiness.

 

Another important aspect of the Company’s loan business has been thatof residential real estate loans which were generated internally by the realestate mortgage loan department and then sold in the secondary market togovernment sponsored enterprises or other long-term lenders. The Company hasconsistently been among the largest real estate mortgage lenders in ButteCounty for the past several years. During 2004, the Company originated and sold aggregate balances ofapproximately $69 million of such loans, a substantial decrease from the $125million originated and sold in 2003.  TheCompany services the mortgage loans sold to the Federal National MortgageAssociation (FNMA).  As of December 31,2004, aggregate balances of $162 million were being serviced as compared to$156 million at the end of 2003.

 

In the normal course of business, the Company makes commitments toextend credit as long as there are no violations of any condition establishedin the contractual arrangement.  Totalunused commitments to extend credit were $148 million at December 31, 2004 ascompared to $138 million at December 31, 2003. These commitments represented 44% of outstanding gross loans atDecember 31, 2004 and 49% at December 31, 2003, respectively.  The Company’s stand-by letters of credit atDecember 31, 2004 and 2003 were $4.6 million and $3.5 million,respectively, which represented approximately 1% of total commitmentsoutstanding at the end of 2004 and 2003. It is not anticipated that all of these stand-by letters of credit willfund.

 

Approximately one half of the loans held by the Company have floatingrates of interest tied to the Company’s base lending rate or to another marketrate indicator so that they may be re-priced as interest rates change.  The same interest rate and liquidity risksthat apply to securities are also applicable to lending activity.  Fixed-rate loans are subject to marketrisk:  they decline in value as interestrates rise.  The Company’s loans thathave fixed rates generally have relatively short maturities or amortizemonthly, which effectively lessens the market risk.  The table in Note 16 to the consolidatedfinancial statements shows that at December 31, 2004, the difference in thecarrying amount of loans, i.e., their face value, is about $ 4.3 million or 1.3% less than their fair value.  At the endof 2003, the fair value of loans was about $763,000 or .28% more than thecarrying amount.

 

Because the Company is not involved with chemicals or toxins that mighthave an adverse effect on the environment, its primary exposure toenvironmental legislation is through its lending activities.  The Company’s lending procedures includesteps to identify and monitor this exposure to avoid any significant loss orliability related to environmental regulations.

 

**Loan Maturities**

 

The following Loan Maturity table shows the amounts of total loansoutstanding as of December 31, 2004, which, based on remaining scheduledrepayments of principal, are due within one year, after one year but less thanfive years, and in more than five years. (Non-accrual loans are intermixed within each category.)

 

36

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**Loan Maturity**

 
| **(dollars in thousands)** | ** ** | **One  year or  less** | ** ** | **One  to five  years** | ** ** | **Over  five  years** | ** ** | **Total** | ** ** | **Floating  rate:  due after  one year** | ** ** | **Fixed  rate:  due after  one year** | ** ** |
|----------------------------|------------|------------------------|------------|-------------------------|------------|-----------------------|------------|-----------|------------|------------------------------------------|------------|---------------------------------------|------------|
| Agricultural               |       | $                      | 18,931     |                    | $          | 3,155                 |       | $         | 271        |                                     | $          | 22,357                                |       | $ | — |   | $ | 3,426 |   |
| Commercial                 |       | $                      | 27,264     |                    | $          | 14,046                |       | $         | 17,352     |                                     | $          | 58,662                                |       | $ | 1,575 |   | $ | 29,823 |   |
| Real Estate Mortgage       |       | $                      | 94,485     |                    | $          | 42,815                |       | $         | 9,576      |                                     | $          | 146,876                               |       | $ | — |   | $ | 52,391 |   |
| Real Estate Construction   |       | $                      | 76,130     |                    | $          | 13,837                |       | $         | 496        |                                     | $          | 90,463                                |       | $ | — |   | $ | 14,333 |   |
| Installment                |       | $                      | 13,386     |                    | $          | 11,397                |       | $         | 1,436      |                                     | $          | 26,219                                |       | $ | — |   | $ | 12,833 |   |
|                       |       |                   |       |                    |       |                  |       |      |       |                                     |       |                                  |       |
| TOTAL                      |       | $                      | 230,196    |                    | $          | 85,250                |       | $         | 29,131     |                                     | $          | 344,577                               |       | $ | 1,575 |   | $ | 112,806 |   |

 

This schedule, which aggregates contractual principal repayments bytime period, can be used in combination with the Investment Maturities table inthe Investment Securities section and the Deposit Maturities table in theDeposits section to identify time periods with potential liquidityexposure.  The referenced maturityschedules do not convey a complete picture of the Company’s re-pricing exposureor interest rate risk, however.  Fordetails on the re-pricing characteristics of the Company’s balance sheet and amore comprehensive discussion of the Company’s sensitivity to changes in interestrates, see the “Liquidity and Market Risk” section.

 

###### **Non-performing Assets**

###### ** **

Banks have generally suffered their most severe earnings declines as aresult of customers’ inability to generate sufficient cash flow to servicetheir debts, or as a result of the downturns in national and regional economieswhich have brought about declines in overall property values.  In addition, certain investments which theCompany may purchase have the potential of becoming less valuable as theconditions change in the obligor’s financial capacity to repay, based onregional economies or industry downturns. As a result of these types of failures, an institution may suffer assetquality risk, and may lose the ability to obtain full repayment of anobligation to the Company.  Since loansare the most significant assets of the Company and generate the largest portionof revenues, the Company’s management of asset quality risk is focusedprimarily on loan quality.

 

The Company achieves a certain level of loan quality by establishing asound credit plan, which includes defining goals and objectives and devisingand documenting credit policies and procedures. These policies and procedures identify certain markets, set goals forportfolio growth or contraction, and establish limits on industry andgeographic concentrations.  In addition,these policies establish the Company’s underwriting standards and the methodsof monitoring ongoing credit quality. Unfortunately, however, the Company’s asset-quality risk may be affectedby external factors such as the level of interest rates, employment, generaleconomic conditions, real estate values and trends in particular industries orcertain geographic markets.  The Company’sinternal factors for controlling risk are centered in underwriting practices,credit granting procedures, training, risk management techniques, andfamiliarity with our loan customers as well as the relative diversity andgeographic concentration of our loan portfolio.

 

As a multi-community, independent bank headquartered in and servingButte County (with a smaller presence in each of Colusa, Sutter, Sacramento,Shasta and Yuba counties); the Company has mitigated its risk to any onesegment of these Northern Sacramento Valley markets.  The Company’s asset quality continues to beexcellent with delinquency ratios at very low levels.  The Company is optimistic that the local andregional economy will continue to perform, but no assurance can be given thatthis performance will in fact continue.

 

37

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From time to time, Management has reason to believe that certainborrowers may not be able to repay their loans within the parameters of thepresent repayment term, even though, in some cases, the loans are current atthe time.  These loans are regarded aspotential problem loans, and a portion of the allowance is assigned and/orallocated, as discussed below, to cover the Company’s exposure to loss wouldthe borrowers indeed fail to perform according to the terms of the notes.  This class of loans does not include loans ina nonaccrual status or 90 days or more delinquent but still accruing, which areshown in the table below.

 

Non-performing assets are comprised of loans on non-accrual status,loans 90 days or more past due and still accruing interest, loans restructuredwhere the terms of repayment have been renegotiated resulting in a deferral ofinterest or principal and other real estate (“ORE”).  Loans are generally placed on non-accrualstatus when they become 90 days past due as to principal or interest.  Loans may be restructured by management whena borrower has experienced some change in financial status causing an inabilityto meet the original repayment terms and where the Company believes theborrower will eventually overcome those circumstances and repay the loan infull.  ORE consists of propertiesacquired by foreclosure or similar means that management intends to offer forsale.

 

Management’s classification of a loan as non-accrual is an indicationthat there is reasonable doubt as to the full collectibility of principal orinterest on the loan; at that point, the Company stops recognizing income fromthe interest on the loan and reverses any uncollected interest that had beenaccrued but unpaid.  These loans may ormay not be collateralized, but collection efforts are continuously pursued.

 

The following table provides information with respect to components ofthe Company’s non-performing assets at the date indicated.  The Company has not had any loans 90 days pastdue and still accruing interest in any periods presented.

 

**Non-performing Assets**

 
| ** **                                                               | ** ** | **As of December 31,** | ** ** |
|--------------------------------------------------------------------------|------------|------------------------|------------|
| **(dollars in thousands)**                                               | ** ** | **2004**               | ** ** | **2003** | ** ** | **2002** | ** ** | **2001** | ** ** | **2000** | ** ** |
| **Nonaccrual  Loans:**                                                   | ** ** | ** **             | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| Agricultural                                                             |       | $                      | 17         |   | $ | — |   | $ | — |   | $ | — |   | $ | — |   |
| Commercial and Industrial                                                |       |                   |       | $ | 46 |   | $ | 134 |   | $ | 1,554 |   | $ | 83 |   |
| Real Estate                                                              |       |                   |       |   |   |   |   |   |   |   |   |
| Secured by Commercial/Professional Office                                |       | $                      | —     |   | $ | — |   | $ | — |   | $ | — |   |   |   |
| Properties Including Construction and  Development                       |       | $                      | —     |   | $ | — |   |   |   | $ | 221 |   | $ | 453 |   |
| Secured by Residential Properties                                        |       | $                      | 84         |   | $ | — |   | $ | — |   | $ | — |   |   |   |
| Secured by Farmland                                                      |       | $                      | —     |   |   |   | $ | 460 |   | $ | — |   | $ | — |   |
| Consumer Loans                                                           |       |                   |       | $ | 8 |   | $ | — |   | $ | — |   |   |   |
| **SUBTOTAL**                                                             |       | $                      | 101        |   | $ | 54 |   | $ | 594 |   | $ | 1,765 |   | $ | 536 |   |
|                                                                     |       |                   |       |   |   |   |   |   |   |   |   |
| Other Real Estate (ORE)                                                  |       | $                      | —     |   | $ | — |   |   |   | $ | 13 |   | $ | 51 |   |
| Total non-performing Assets                                              |       | $                      | 101        |   | $ | 54 |   | $ | 594 |   | $ | 1,778 |   | $ | 587 |   |
| Restructured Loans                                                       |       | N/A                    |       | N/A |   | N/A |   | N/A |   | N/A |   |
| Non-performing loans as % of total gross  loans                          |       | 0.03                   | %          | 0.02 | % | 0.25 | % | 0.88 | % | 0.31 | % |
| Non-performing assets as a % of total gross  loans and other real estate |       | 0.03                   | %          | 0.02 | % | 0.22 | % | 0.88 | % | 0.34 | % |

 

Total non-performing balances stood at $101,000 at the end of 2004,$84,000 of which was a loan secured by real estate which is expected to befully recovered through foreclosure proceedings.  The other loan in the amount of $17,000 isalso expected to be recovered in the first quarter of 2005.  There was no ORE outstanding at December 31,2004, 2003 or 2002.  Other than the loansincluded as non-performing assets at December 31, 2004, the company has notidentified any potential problem loans that would result in any loan beingincluded as a non-performing asset at a future date.

 

38

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###### **Allowance for Loan Losses**

 

The allowance for loan losses is established through a provision forloan losses based on management’s evaluation of known and inherit risk in ourloan portfolio.  The allowance isincreased by provisions charged against current earnings and reduced by netcharge-offs.  Loans are charged off when theyare deemed to be uncollectible; recoveries are generally recorded only whencash payments are received subsequent to the charge off.  The following table summarizes the activityin the allowance for loan losses for the past five years.

 

**AllowanceFor Loan Losses**

 
| ** **                                                          | ** ** | **As of December 31,** | ** ** |
|---------------------------------------------------------------------|------------|------------------------|------------|
| **(dollars in thousands)**                                          | ** ** | **2004**               | ** ** | **2003** | ** ** | **2002** | ** ** | **2001** | ** ** | **2000** | ** ** |
| **Balances:**                                                       |       |                   |       |   |   |   |   |   |   |   |   |
| Average gross loans outstanding during  period                      |       | $                      | 313,912    |   | $ | 254,682 |   | $ | 216,953 |   | $ | 194,448 |   | $ | 146,517 |   |
| Gross loans outstanding at end of period                            |       | $                      | 344,577    |   | $ | 274,851 |   | $ | 233,542 |   | $ | 200,946 |   | $ | 171,315 |   |
|                                                                |       |                   |       |   |   |   |   |   |   |   |   |
| **Allowance for Loan Losses:**                                      |       |                   |       |   |   |   |   |   |   |   |   |
| Balance at beginning of period                                      |       | $                      | 3,587      |   | $ | 3,007 |   | $ | 2,397 |   | $ | 2,000 |   | $ | 1,390 |   |
| Adjustments                                                         |       |                   |       |   |   | $ | — |   | $ | — |   | $ | — |   |
| Provision Charged to Expense                                        |       | $                      | 790        |   | $ | 655 |   | $ | 603 |   | $ | 500 |   | $ | 805 |   |
|                                                                |       |                   |       |   |   |   |   |   |   |   |   |
| Loan Charge-offs                                                    |       |                   |       |   |   |   |   |   |   |   |   |
| Agricultural                                                        |       |                   |       | $ | — |   | $ | — |   | $ | — |   | $ | — |   |
| Commercial & Industrial Loans                                   |       | $                      | 11         |   | $ | 77 |   | $ | — |   | $ | 29 |   | $ | 112 |   |
| Real Estate Loans                                                   |       |                   |       | $ | — |   | $ | 4 |   | $ | — |   | $ | 37 |   |
| Consumer Loans                                                      |       | $                      | 12         |   | $ | 4 |   | $ | 3 |   | $ | 95 |   | $ | 4 |   |
| Credit Card Loans                                                   |       |                   |       | $ | — |   | $ | — |   | $ | 9 |   | $ | 63 |   |
| Total                                                               |       | $                      | 23         |   | $ | 81 |   | $ | 7 |   | $ | 133 |   | $ | 216 |   |
|                                                                |       |                   |       |   |   |   |   |   |   |   |   |
| Recoveries                                                          |       |                   |       |   |   |   |   |   |   |   |   |
| Agricultural                                                        |       |                   |       | $ | — |   | $ | — |   | $ | — |   | $ | — |   |
| Commercial & Industrial Loans                                   |       | $                      | 15         |   | $ | — |   | $ | 14 |   | $ | 16 |   | $ | 20 |   |
| Real Estate Loans                                                   |       |                   |       | $ | — |   | $ | — |   | $ | — |   | $ | — |   |
| Consumer Loans                                                      |       | $                      | 12         |   | $ | 6 |   | $ | — |   | $ | 10 |   | $ | 1 |   |
| Credit Card Loans                                                   |       |                   |       | $ | — |   | $ | — |   | $ | 4 |   | $ | — |   |
| Total                                                               |       | $                      | 27         |   | $ | 6 |   | $ | 14 |   | $ | 30 |   | $ | 21 |   |
|                                                                |       |                   |       |   |   |   |   |   |   |   |   |
| Net Loan Charge-offs                                                |       | $                      | (4         | ) | $ | 75 |   | $ | (7 | ) | $ | 103 |   | $ | 195 |   |
| Balance at end of period                                            |       | $                      | 4,381      |   | $ | 3,587 |   | $ | 3,007 |   | $ | 2,397 |   | $ | 2,000 |   |
|                                                                |       |                   |       |   |   |   |   |   |   |   |   |
| **Ratios:**                                                         |       |                   |       |   |   |   |   |   |   |   |   |
| Net Loan Charge-offs to Average Loans                               |       | 0.00                   | %          | 0.03 | % | 0.00 | % | 0.05 | % | 0.13 | % |
| Allowance for Loan Losses to Gross Loans at  End of Period          |       | 1.27                   | %          | 1.31 | % | 1.29 | % | 1.19 | % | 1.17 | % |
| Allowance for Loan Losses to Non-Performing  Loans                  |       | 4337.62                | %          | 6642.59 | % | 506.23 | % | 134.81 | % | 340.72 | % |
| Net Loan Charge-offs to Allowance for Loan  Losses at End of Period |       | -0.09                  | %          | 2.09 | % | -0.23 | % | 4.30 | % | 9.75 | % |
| Net Loan Charge-offs to Provision Charged  to Operating Expense     |       | -0.51                  | %          | 11.45 | % | -1.16 | % | 20.60 | % | 24.22 | % |

 

We employ a systematic methodology for determining the allowance forloan losses that includes a monthly review process and monthly adjustment ofthe allowance.  Our process includes aperiodic review of individual loans that have been specifically identified asproblem loans or have characteristics which could lead to impairment, as wellas detailed reviews of other loans (either individually or in pools).  While this methodology utilizes historicaland other objective information, the establishment of the allowance for loanlosses and the classification of loans are, to some extent, based on management’sjudgment and experience.

 

39

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Our methodology incorporates avariety of risk considerations, both quantitative and qualitative, inestablishing an allowance for loan losses that management believes isappropriate at each reporting date. Quantitative factors include our historical loss experience, delinquencyand charge-off trends, collateral values, changes in non-performing loans, andother factors.  Quantitative factors alsoincorporate known information about individual loans, including borrowers’sensitivity to interest rate movements and borrowers’ sensitivity toquantifiable external factors including commodity prices as well as acts ofnature (freezes, earthquakes, fires, etc.) that occur in a particular period.

 

Qualitative factors include thegeneral economic environment in our markets and, in particular, the state ofthe agriculture industry and other key industries in the Northern SacramentoValley.  The way a particular loan mightbe structured, the extent and nature of waivers of existing loan policies, loanconcentrations and the rate of portfolio growth are other qualitative factorsthat are considered.

 

Our methodology is, and hasbeen, consistently followed.  However, aswe add new products, increase in complexity, and expand our geographiccoverage, we expect to enhance our methodology to keep pace with the size andcomplexity of the loan portfolio.  On anongoing basis we engage outside firms to independently assess our methodology,and to perform independent credit reviews of our loan portfolio.  The FDIC and the California Department ofFinancial Institutions review the allowance for loan losses as an integral partof the examination processes.  Managementbelieves that our current methodology is appropriate given our size and levelof complexity.  Further, management believesthat the allowance for loan losses is adequate as of December 31, 2004 to coverknown and inherent risks in the loan portfolio. However, fluctuations in credit quality, or changes in economicconditions or other factors could cause management to increase or decrease theallowance for loan losses as necessary.

 

The following table provides asummary of the allocation of the allowance for loan losses for specific loancategories at the dates indicated. The allocation presented should not beinterpreted as an indication that charges to the allowance for loan losses willbe incurred in these amounts or proportions, or that the portion of theallowance allocated to each loan category represents the total amountsavailable for charge-offs that may occur within these categories. Theunallocated portion of the allowance for loan losses and the total allowance isapplicable to the entire loan portfolio.

 

**Allocationof Loan Loss Allowance**

 
| ** **                 | ** ** | **As of  December 31,** | ** ** |
|----------------------------|------------|-------------------------|------------|
| ** **                 | ** ** | **2004**                | ** ** | **2003** | ** ** | **2002** | ** ** | **2001** | ** ** | **2000** | ** ** |
| **(dollars in thousands)** | ** ** | **Amount**              | ** ** | **% Total  (1)  Loans** | ** ** | **Amount** | ** ** | **% Total  (1)  Loans** | ** ** | **Amount** | ** ** | **% Total  (1)  Loans** | ** ** | **Amount** | ** ** | **% Total  (1)  Loans** | ** ** | **Amount** | ** ** | **% Total  (1)  Loans** | ** ** |
| Agricultural               |       | $                       | 244        |   | 6.44 | % | $ | 179 |   | 7.58 | % | $ | 146 |   | 8.11 | % | $ | 142 |   | 9.66 | % | $ | 183 |   | 10.99 | % |
| Commercial                 |       | $                       | 690        |   | 17.02 | % | $ | 1,258 |   | 21.01 | % | $ | 735 |   | 20.84 | % | $ | 494 |   | 21.16 | % | $ | 407 |   | 23.16 | % |
| Real Estate                |       | $                       | 3,027      |   | 68.93 | % | $ | 1,815 |   | 63.52 | % | $ | 1,379 |   | 62.78 | % | $ | 1,201 |   | 60.34 | % | $ | 874 |   | 55.99 | % |
| Installment Loans          |       | $                       | 420        |   | 7.61 | % | $ | 335 |   | 7.89 | % | $ | 747 |   | 8.27 | % | $ | 560 |   | 8.84 | % | $ | 536 |   | 9.86 | % |
| **TOTAL**                  |       | $                       | 4,381      |   | 100.00 | % | $ | 3,587 |   | 100.00 | % | $ | 3,007 |   | 100.00 | % | $ | 2,397 |   | 100.00 | % | $ | 2,000 |   | 100.00 | % |
|                            |            |                         |            |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

----

(1) Represents percentage of loans in category to total loans.

 

**Allocationof Loan Loss Allowance**

 
| ** **                 | ** ** | **As of  December 31,** | ** ** |
|----------------------------|------------|-------------------------|------------|
| ** **                 | ** ** | **2004**                | ** ** | **2003** | ** ** | **2002** | ** ** | **2001** | ** ** | **2000** | ** ** |
| **(dollars in thousands)** | ** ** | **Amount**              | ** ** | **% Total  (1)  Loans** | ** ** | **Amount** | ** ** | **% Total  (1)  Loans** | ** ** | **Amount** | ** ** | **% Total  (1)  Loans** | ** ** | **Amount** | ** ** | **% Total  (1)  Loans** | ** ** | **Amount** | ** ** | **% Total  (1)  Loans** | ** ** |
| Agricultural               |       | $                       | 244        |   | 6.44 | % | $ | 179 |   | 7.58 | % | $ | 146 |   | 8.11 | % | $ | 142 |   | 9.66 | % | $ | 183 |   | 10.99 | % |
| Commercial                 |       | $                       | 690        |   | 17.02 | % | $ | 1,258 |   | 21.01 | % | $ | 735 |   | 20.84 | % | $ | 494 |   | 21.16 | % | $ | 407 |   | 23.16 | % |
| Real Estate                |       | $                       | 3,027      |   | 68.93 | % | $ | 1,815 |   | 63.52 | % | $ | 1,379 |   | 62.78 | % | $ | 1,201 |   | 60.34 | % | $ | 874 |   | 55.99 | % |
| Installment Loans          |       | $                       | 420        |   | 7.61 | % | $ | 335 |   | 7.89 | % | $ | 747 |   | 8.27 | % | $ | 560 |   | 8.84 | % | $ | 536 |   | 9.86 | % |
| **TOTAL**                  |       | $                       | 4,381      |   | 100.00 | % | $ | 3,587 |   | 100.00 | % | $ | 3,007 |   | 100.00 | % | $ | 2,397 |   | 100.00 | % | $ | 2,000 |   | 100.00 | % |

 

----

(1) Represents percentage of loans incategory to total loans.

 

40

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At December 31, 2004, theCompany’s allowance for loan losses was $4.4 million.  The loan loss provisions in 2004, 2003, and2002 totaled $790,000, $655,000, and $603,000, respectively.  Over the past five years, net charge-offshave averaged $72,000.  Through thediligent efforts of our loan officers and collection personnel, the Companyended 2004 with net loan recoveries of $4,000.

 

**Other LoanPortfolio Information**

 

LoanConcentrations: The concentration profile of the Company’s loans is discussed in Note 10to the accompanying Consolidated Financial Statements.

 

Loan Sales andMortgage Servicing Rights:  The Company sells or brokers some of thefixed-rate single family mortgage loans it originates as well as other selectedportfolio loans.  Some are sold“servicing released” and the purchaser takes over the collection of thepayments.  However, most are sold with“servicing retained” and the Company continues to receive the payments from theborrower and forwards the funds to the purchaser.  The Company earns a fee for thisservice.  The sales are made withoutrecourse, that is, the purchaser cannot look to the Company in the event theborrower does not perform according to the terms of the note.  The Company recognizes the rights to servicemortgage loans for others as separate assets. For loans originated for sale, a portion of the investment in the loanis attributed to the right to receive this fee for servicing and this value isrecorded as a separate asset.  Mortgageservicing assets are carried at their amortized cost, which approximates fairvalue.  At December 31, 2004 and 2003,the amortized cost of these assets was $1,348,200 and $1,397,000 respectively.

 

###### **Investment Portfolio**

 

The investment securitiesportfolio had a carrying value of $6.9 million at December 31, 2004.  The Company classified its investments intotwo portfolios: “held-to-maturity”, and “available-for-sale”.  The Company does not have any investmentsclassified as trading.  Theheld-to-maturity portfolio should consist only of investments that the Companyhas both the intention and ability to hold until maturity, to be sold only inthe event of concerns with an issuer’s creditworthiness, a change in tax lawthat eliminates their tax exempt status or other infrequent situations aspermitted under GAAP.  Given the smalland non complex nature of the portfolio, management does not rely heavily onthese investments as a source of funds for growth in the loan portfolio.

 

Securities pledged ascollateral on repurchase agreements, public deposits and for other purposes asrequired or permitted by law were $2,297,000 and $1,004,000, forDecember 31, 2004 and 2003, respectively.

 

The total investment portfolioincreased in size in 2004 to $6.9 million at the end of the year from itsstarting balance of $4.3 million.  TheCompany’s investment portfolio is composed primarily of:  (1) U.S. Treasury and Agency issues forliquidity and pledging; and (2) state, county and municipal obligations whichprovide tax free income and pledging potential. The relative distribution of these groups within the overall portfoliochanged in 2004, with most of the securities purchased being classified asavailable-for-sale.  The U.S. Treasuryand Agency issues continue to be the largest portion of the total portfolio at79%, down from 82.7% at the end of 2003. Municipal issues comprised 21% of total investments at the end of 2004,up from 17.3% at the end of 2003.

 

The following InvestmentPortfolio table reflects the amortized cost and fair market values for thetotal portfolio for each of the categories of investments for the past threeyears.

 

41

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**InvestmentPortfolio**

 
| ** **                                | ** ** | **As of December 31,** | ** ** |
|-------------------------------------------|------------|------------------------|------------|
| ** **                                | ** ** | **2004**               | ** ** | **2003** | ** ** | **2002** | ** ** |
| **(dollars in thousands)**                | ** ** | **Amortized  Cost**    | ** ** | **Fair Market  Value** | ** ** | **Amortized  Cost** | ** ** | **Fair Market  Value** | ** ** | **Amortized  Cost** | ** ** | **Fair Market  Value** | ** ** |
| **Held to maturity**                      |       |                   |       |   |   |   |   |   |   |   |   |   |   |
| US Government Agencies & Corporations |       | 2,481                  |       | 2,482 |   | 3,277 |   | 3,270 |   | 1,882 |   | 1,910 |   |
| State & political subdivisions        |       | 101                    |       | 101 |   | 545 |   | 554 |   | 991 |   | 1,014 |   |
| **Total held to maturity**                |       | $                      | 2,582      |   | $ | 2,583 |   | $ | 3,822 |   | $ | 3,824 |   | $ | 2,873 |   | $ | 2,924 |   |
| **Available for sale**                    |       |                   |       |   |   |   |   |   |   |   |   |   |   |
| US Government Agencies & Corporations |       | 3,004                  |       | 3,002 |   | 300 |   | 302 |   | 300 |   | 314 |   |
| State & political subdivisions        |       | 1,356                  |       | 1,377 |   | 200 |   | 200 |   | 200 |   | 200 |   |
| **Total available for sale**              |       | $                      | 4,360      |   | $ | 4,379 |   | $ | 500 |   | $ | 502 |   | $ | 500 |   | $ | 514 |   |
| **Total Investment Securities**           |       | $                      | 6,942      |   | $ | 6,962 |   | $ | 4,322 |   | $ | 4,326 |   | $ | 3,373 |   | $ | 3,438 |   |

 

The investment maturities tablebelow summarizes the maturity of the Company’s investment securities and theirweighted average yields at December 31, 2004. Expected remaining maturities may differ from remaining contractualmaturities because obligors may have the right to repay certain obligationswith or without penalties.

 

**Investment Maturities**

 
| ** **                                 | ** ** | **As of  December 31, 2004** | ** ** |
|--------------------------------------------|------------|------------------------------|------------|
| ** **                                 | ** ** | **Within  One  Year**        | ** ** | **After  One But  Within Five Years** | ** ** | **After  Five  But  Within Ten Years** | ** ** | **After  Ten  Years** | ** ** | **Total** | ** ** |
| **(dollars in thousands)**                 | ** ** | **Amount**                   | ** ** | **Yield** | ** ** | **Amount** | ** ** | **Yield** | ** ** | **Amount** | ** ** | **Yield** | ** ** | **Amount** | ** ** | **Yield** | ** ** | **Amount** | ** ** | **Yield** | ** ** |
| **Held to  maturity**                      |       |                         |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| US Government  agencies & corporations |       | 128                          |       | 6.75 | % | 1,001 |   | 3.14 | % | 1,202 |   | 5.20 | % | 150 |   | 5.88 | % | 2,481 |   | 4.49 | % |
| State &  political subdivisions        |       | 101                          |       | 6.50 | % |   |   |   |   | — |   | n/a |   | — |   | n/a |   | 101 |   | 6.50 | % |
| **Total  held to maturity**                |       | $                            | 229        |   | 6.65 | % | $ | 1,001 |   | 3.14 | % | 1,202 |   | 5.20 | % | $ | 150 |   | 5.88 | % | $ | 2,582 |   | 4.57 | % |
| **Available  for sale**                    |       |                         |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| US Government  agencies & corporations |       | —                       |       | n/a |   | 1,991 |   | 3.12 | % | 1,011 |   | 2.75 | % | — |   | n/a |   | 3,002 |   | 3.00 | % |
| State &  political subdivsions         |       | —                       |       | n/a |   | — |   | n/a |   | — |   | n/a |   | 1,377 |   | 4.73 | % | 1,377 |   | 4.73 | % |
| **Total  available for sale**              |       | $                            | —     |   | n/a |   | $ | 1,991 |   | 3.12 | % | $ | 1,011 |   | 2.75 | % | $ | 1,377 |   | n/a |   | $ | 4,379 |   | 3.54 | % |
| **Total  investment securities**           |       | $                            | 229        |   | 6.65 | % | $ | 2,992 |   | 3.13 | % | $ | 2,213 |   | 4.08 | % | $ | 1,527 |   | 4.84 | % | $ | 6,961 |   | 3.92 | % |

 

###### **Cash and Due From Banks**

 

Cash on hand and balances duefrom correspondent banks represent the major portion of the Company’snon-earning assets.  At December 31, 2004these areas comprised 4.8% of total assets, as compared to 6.8% of total assetsat December 31, 2002.  The Companystrives to maintain vault cash at a level consistent with the withdrawal needsof the customers.  Included in the vaultcash amount for December 31, 2004 is $9 million the Bank has committed to fundATM’s through a program facilitated by one of the Bank’s correspondent bankaffiliations.  This is not a loan, orovernight fed funds sold, as there is no physical counterparty.  This program merely provides for theadvancement of cash into an ATM in the form of currency.  The bank receives the federal funds targetrate for the day plus 50 basis points on the outstanding daily balance.

 

The Company’s operatingbranches lie within the Federal Reserve Bank (FRB) of San Francisco’sresponsibility area of check clearing activities, while the Company’s itemprocessing activities are performed in Chico. As a result of the Federal Reserve Banks’ new Check 21 services theCompany could take advantage of quicker clearing times to offset time zone andgeography challenges and improve availability. With traditional paper check clearing, all non-local and country itemsin the 12th District receive availability that is at least one daydeferred.  Under the new programsbecoming available from the Federal Reserve Banks, many of these items willreceive immediate availability if received by the 1:00 a.m. Pacific timedeadline.  With file deposit deadlinesstarting as early as 5:00 p.m. Pacific through 9:00 a.m. Pacific time, imagecash letters enable institutions on the West Coast to reduce the clearing timeof many high value East Coast items by at least one business day, therebyincreasing funds available for investment and reducing risk.

 

42

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###### **Premises and Equipment**

 

Premises and equipment arestated at cost less accumulated depreciation and amortization.  Depreciation is charged to income over theestimated useful lives of the assets and leasehold improvements are amortizedover the terms of the related lease, or the estimated useful lives of theimprovements, whichever is shorter. Depreciation expense was $1,313,000 for the year ended December 31, 2004as compared to $933,000 during 2003.  Thefollowing premises and equipment table reflects the balances by major categoryof fixed assets:

 

**Premises& Equipment**

 
| ** **                 | ** ** | **As of  December 31,** | ** ** |
|----------------------------|------------|-------------------------|------------|
| ** **                 | ** ** | **2004**                | ** ** | **2003** | ** ** | **2002** | ** ** |
| **(dollars in thousands)** | ** ** | **Cost**                | ** ** | **Accumulated  Depreciation** | ** ** | **Net Book  Value** | ** ** | **Cost** | ** ** | **Accumulated  Depreciation** | ** ** | **Net Book  Value** | ** ** | **Cost** | ** ** | **Accumulated  Depreciation** | ** ** | **Net  Book  Value** | ** ** |
| Land                       |       | $                       | 1,519      |   | $ | — |   | $ | 1,519 |   | $ | 1,193 |   | $ | — |   | $ | 1,193 |   | $ | 1,193 |   | $ | — |   | $ | 1,193 |   |
| Buildings                  |       | $                       | 5,761      |   | $ | 1,172 |   | $ | 4,589 |   | $ | 5,667 |   | $ | 946 |   | $ | 4,721 |   | $ | 4,633 |   | $ | 773 |   | $ | 3,860 |   |
| Leasehold  Improvements    |       | $                       | 841        |   | $ | 248 |   | $ | 593 |   | $ | 690 |   | $ | 168 |   | $ | 522 |   | $ | 330 |   | $ | 144 |   | $ | 186 |   |
| Construction in  progress  |       | $                       | 75         |   | $ | — |   | $ | 75 |   | $ | 138 |   | $ | — |   | $ | 138 |   | $ | 103 |   | $ | — |   | $ | 103 |   |
| Furniture and  Equipment   |       | $                       | 6,242      |   | $ | 3,991 |   | $ | 2,251 |   | $ | 5,106 |   | $ | 3,126 |   | $ | 1,980 |   | $ | 3,977 |   | $ | 2,665 |   | $ | 1,312 |   |
| **Total**                  |       | $                       | 14,438     |   | $ | 5,411 |   | $ | 9,027 |   | $ | 12,794 |   | $ | 4,240 |   | $ | 8,554 |   | $ | 10,236 |   | $ | 3,582 |   | $ | 6,654 |   |

 

The net book value of theCompany’s premises and equipment increased by $471,000 in 2004, primarily dueto the opening of the new branches in Red Bluff, Marysville and Colusa.  As a percentage of total assets, theCompany’s premises and equipment was 2.0%, at the end of 2004, 2.2% at the endof 2003 and 2.0% at the end of 2002.

 

###### **Deposits**

 

The composition and cost of theCompany’s deposit base are important components in analyzing the Company’s netinterest margin and balance sheet liquidity characteristics, both of which arediscussed in greater detail in other sections herein.  Net interest margin is improved to the extentthat growth in deposits can be concentrated in historically lower-cost coredeposits, namely non-interest-bearing demand, NOW accounts, savings accountsand money market deposit accounts. Liquidity is impacted by the volatility of deposits or other fundinginstruments, or in other words their propensity to leave the institution forrate-related or other reasons. Potentially, the most volatile deposits in a financial institution arelarge certificates of deposit, which generally mean time deposits with balancesexceeding $100,000.  Because thesedeposits (particularly when considered together with a customer’s otherspecific deposits) may exceed FDIC insurance limits, depositors may selectshorter maturities to offset perceived risk elements associated with depositsover $100,000. The Company’s community-oriented deposit gathering activities inButte, Colusa, Tehama Sutter and Yuba counties, however, have engendered a lessvolatile than usual base of depositor certificates over $100,000.

 

The Company’s total depositvolume increased to $399 million at the end of 2004, as compared to $343million at the end of 2003.  Depositgrowth of $56 million was achieved during 2004, both as a result of the threenew branches opening and the growth of the other existing eight branches withinthe system.  A change in the mix of thedeposits took place during 2004 with lower cost core deposit accounts (demanddeposits, NOW accounts, money market, and savings) increasing by 15% or $37million while the higher cost certificates of deposit balances increased by 25%or $19 million.  Due to the timing of theincrease in deposits during the latter part of the year the average balances ofdeposits reflects a greater increase in the lower cost deposit products ratherthan in time deposits.  The increase intime deposits and resulting change in mix at December 31, 2004 will impact theCompany’s cost of funds and net interest margin in 2005.

 

As deposit rates began to risein 2004 from their extremely low levels in 2003, depositors gradually movedtheir funds out of liquid transaction accounts back into certificates ofdeposit.  The average rates that are paidon deposits generally trail behind money market rates because financialinstitutions do not try to change deposit rates with each small increase ordecrease in short-term rates.  Thistrailing characteristic is stronger with time deposits, such as certificates ofdeposit that pay a fixed rate for some specified term, than with deposit typesthat have administered rates.  With timedeposits accounts, even when new offering rates are established, the averagerates paid during the year are a blend of the rates paid on individualaccounts.  Only new accounts and thosethat mature and are renewed will bear the new rate.

 

43

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The scheduled maturitydistribution of the Company’s time deposits as of December 31, 2004 was asfollows:

 

**DepositMaturity Distribution**

 
| ** **                                  | ** ** | **As of December 31, 2004** | ** ** |
|---------------------------------------------|------------|-----------------------------|------------|
| **(dollars in thousands)**                  | ** ** | **Three  months  or less**  | ** ** | **Three  to twelve  months** | ** ** | **One  to three  years** | ** ** | **Over  three  Years** | ** ** | **Total** | ** ** |
| Time Certificates of Deposits < $100,000 |       | $                           | 19,076     |   | $ | 30,209 |   | $ | 5,445 |   | $ | 1,807 |   | $ | 56,537 |   |
| Other Time Deposits > $100,000           |       | $                           | 23,552     |   | $ | 20,340 |   | $ | 2,066 |   | $ | 1,557 |   | $ | 47,515 |   |
| TOTAL                                       |       | $                           | 42,628     |   | $ | 50,549 |   | $ | 7,511 |   | $ | 3,364 |   | $ | 104,052 |   |

 

**NotesPayable and Other Borrowings**

 

The Company has $15 million inunsecured borrowing arrangements with two of its correspondent banks to meetshort-term liquidity needs.  There wereno borrowings outstanding under these arrangements at December 31, 2004 and2003.

 

The following summarizes thenote payable to the Company’s subsidiary grantor trust at December 31, 2004:

 

| ** **                                                                                                                                                                                                                                                           | ** ** | **(Dollars in thousands)** | ** ** |
|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|----------------------------|------------|
| Subordinated debentures due to Community  Valley Bancorp Trust I With interest adjusted and payable quarterly based on  3-month Libor plus 3.30% to a maximum of 12.5% (5.37% at December 31, 2004), redeemable  beginning December 31, 2007, due December 31, 2032. |       | $                          | 8,248      |   |
|                                                                                                                                                                                                                                                                      |            |                            |            |  |

 

The Company has guaranteed, ona subordinated basis, distributions and other payments due on the trustpreferred securities issued by the subsidiary grantor trust.  Interest expense recognized by the Companyfor the years ended December 31, 2004 and 2003 related to the juniorsubordinated debentures was $370,000 and $297,000, respectively. There was nointerest expense recognized in 2002. These junior subordinated debentures currently qualify as Tier 1 capitalwhen determining regulatory risk-based capital ratios.

 

The ESOP obtained financingthrough a $1.2 million unsecured line of credit from another financialinstitution with the Company acting as the guarantor.  The note has a variable interest rate, basedon an independent index, and a maturity date of November 12, 2012.  At December 31, 2004, the interest rate was5.37%.  Advances on the line of credittotaled $833,200, $831,900 at December 31, 2004 and 2003, respectively.  A summary of the activity in this line ofcredit follows.

 
| **ESOP Note Payable**                       | ** ** | **2004** | ** ** | **2003** | ** ** | **2002** | ** ** |
|---------------------------------------------|------------|----------|------------|----------|------------|----------|------------|
| **(dollars in thousands)**                  |       |     |       |     |       |     |       |
| Balance at December 31                      |       | $        | 835        |     | $          | 832      |       | $ | 733 |   |
|                                        |       |     |       |     |       |     |       |
| Average amount outstanding                  |       | $        | 778        |     | $          | 786      |       | $ | 788 |   |
|                                        |       |     |       |     |       |     |       |
| Maximum amount outstanding at any month end |       | $        | 848        |     | $          | 843      |       | $ | 843 |   |
|                                        |       |     |       |     |       |     |       |
| Average interest rate for the year          |       | 4.31     | %          | 4.15     | %          | 4.67     | %          |

 

44

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###### **Capital Resources**

 

At December 31, 2004, theCompany had total shareholders equity of $34.5 million, comprised of $6.7million in common stock, and $27.8 million in retained earnings. Total shareholdersequity at the end of 2003 was $29.9 million. Net income has provided $15.7 million in capital over the last threeyears, of which $3 million or approximately 19% was distributed in dividends.  The retention of earnings has been theCompany’s main source of capital since 1990, however the Company issued $8.2million in Subordinated Debentures in 2002, the proceeds of which areconsidered Tier 1 capital for regulatory purposes but long-term debt inaccordance with GAAP.

 

The Company paid quarterly cashdividends totaling $1,091,000 or $.307 per share in 2004 and $1,082,000 or$.308 per share in 2003, representing 19.5% and 20.5%, respectively of theprior year’s earnings.  (As the holdingcompany reorganization became effective on May 23, 2002, all of the dividendspaid prior to that date were paid by the Bank, rather than the Company.)  Since the second quarter of 2001, the Bank(or the Company, as applicable) has adhered to a policy of paying quarterlycash dividends totaling about 19% of the prior year’s net earnings to theextent consistent with general considerations of safety and soundness, providedthat such payments do not adversely affect the Bank’s or the Company’sfinancial condition and are not overly restrictive to its growth capacity.  The Company anticipates paying dividends inthe future consistent with the general dividend policy as described above.  However, no assurance can be given that theBank’s and the Company’s future earnings and/or growth expectations in anygiven year will justify the payment of such a dividend.

 

45

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The Company uses a variety ofmeasures to evaluate capital adequacy. Management reviews various capital measurements on a monthly basis andtakes appropriate action to ensure that such measurements are withinestablished internal and external guidelines. The external guidelines, which are issued by the FDIC, establish arisk-adjusted ratio relating capital to different categories of assets and offbalance sheet exposures.  There are twocategories of capital under the FDIC guidelines: Tier 1 and Tier 2Capital.  Tier 1 Capital includes commonshareholders’ equity and the proceeds from the issuance of trust-preferredsecurities (subject to the limitations previously discussed), less goodwill andcertain other deductions, notably the unrealized net gains or losses (after taxadjustments) on securities available for sale, which are carried at fair marketvalue.  Tier 2 Capital includes preferredstock and certain types of debt equity, which the Company does not hold, aswell as the allowance for loan losses, subject to certain limitations. (For amore detailed definition, see “Item 1, Business-Supervision and Regulation —Capital Adequacy Requirements” herein.)

 

At December 31, 2004, theCompany had a Tier 1 risk based capital ratio of 11.3%, a total capital torisk-weighted assets ratio of 12.5%, and a leverage ratio of 9.5%.  The Company had a Tier 1 risk-based capitalratio of 12.2%, a total risk-based capital ratio of 13.3%, and a leverage ratioof 9.9% at December 31, 2003.  Note 11 ofthe Notes to Consolidated Financial Statements provides more detailedinformation concerning the Company’s capital amounts and ratios as of December31, 2004 and 2003.

 

At the current time, the Bankis considered “well capitalized” under the Prompt Corrective Action standards.With the accumulation of retained earnings and the addition of regulatorycapital via the issuance of Trust Preferred Securities in 2002, the Company’sregulatory capital ratios improved substantially.  It is anticipated that the current level ofcapital will allow the Company to grow substantially and remain wellcapitalized, although no assurance can be given that this will be the case.

 

****Off-Balance Sheet Items and Contractual Obligations****

 

The Company has certain ongoing commitments underoperating leases. See Note 10 to the consolidated financial statements at Item8 of this report for the terms. These commitments do not significantly impactoperating results. As of December 31, 2004 commitments to extend credit werethe Company’s only financial instruments with off-balance sheet risk.  Loan commitments increased to $148 millionfrom $138 million at December 31, 2003. The commitments represent 44% of thetotal loans outstanding at year-end 2004 versus 49% at December 31, 2003.

 

The following chart summarizes certain contractual obligations of the Company as of December 31, 2004:

 
| ** **                        | ** ** | **Less than  1 year** | ** ** | **1-3 years** | ** ** | **3-5 years** | ** ** | **More than  5 years** | ** ** | **Total** | ** ** |
|-----------------------------------|------------|-----------------------|------------|---------------|------------|---------------|------------|------------------------|------------|-----------|------------|
| Subordinated  debentures          | ** ** | **—**            | ** ** | **—**    | ** ** | **—**    | ** ** | 8,248                  |       | 8,248     | ** ** |
| Operating lease obligations       |       | 492                   |       | 804           |       | 829           |       | 1,687                  |       | 3,812     |       |
| Deferred compensation (1)         |       | —                |       | —        |       | —        |       | 2,549                  |       | 2,549     |       |
| Supplemental retirement plans (1) |       | 112                   |       | 235           |       | 379           |       | 1,546                  |       | 2,272     |       |
| ESOP note payable                 |       |                  |       |          |       |          |       | 835                    |       | 835       |       |
|                              |       |                  |       |          |       |          |       |                   |       |      |       |
| Total contractual obligations     |       | $                     | 604        |          | $          | 1,039         |       | $                      | 1,208      |      | $          | 14,865 |   | $ | 17,716 |   |
|                                   |            |                       |            |               |            |               |            |                        |            |           |            |  |  |  |  |  |

 

----

(1)   These amounts represent known certainpayments to participants under the Company’s deferred compensation andsupplemental retirement plans. See Note 15 to the consolidated financialstatements at Item 8 of this report for additional information related to theCompany’s deferred compensation and supplemental retirement plan liabilities.

 

46

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###### **Liquidity and Market Risk Management**

 

The Company must address on adaily basis the various and sundry factors which impact its continuingoperations.  Three of these factors, theeconomic climate which encompasses our business environment, the regulatoryframework which governs our practices and procedures, and credit risk have beenpreviously discussed.  There are otherrisks specific to the operation of a financial institution which also need tobe managed, and this section will address liquidity risk and market risk.

 

Liquidity refers to theCompany’s ability to maintain a cash flow adequate to fund operations, and tomeet obligations and other commitments in a timely and cost-effectivefashion.  At various times the Companyrequires funds to meet short-term cash requirements brought about by loangrowth or deposit outflows, the purchase of assets, or liabilityrepayments.  To manage liquidity needsproperly, cash inflows must be timed to coincide with anticipated outflows, orsufficient liquidity resources must be available to meet varying demands.  The Company manages its own liquidity in sucha fashion as to be able to meet unexpected sudden changes in levels of itsassets or deposit liabilities, without maintaining excessive amounts ofon-balance sheet liquidity.  Excessbalance sheet liquidity can negatively impact the interest margin.

 

An integral part of theCompany’s ability to manage its liquidity position appropriately is provided bythe Company’s large base of core deposits, which were generated by offeringtraditional banking services in the communities in its service area and whichhave, historically, been a very stable source of funds.

 

Additionally, the Companymaintains $6 million in unsecured borrowing arrangements with two of itscorrespondent banks.  The Company alsohas the ability to raise deposits through various deposit brokers, sellinvestment securities, or sell loans if required for liquidity purposes

 

Market risk arises from changesin interest rates, exchange rates, commodity prices and equity prices.  The Company’s market risk exposure isprimarily that of interest rate risk, and it has risk management policies tomonitor and limit earnings and balance sheet exposure to changes in interestrates.  The Company does not engage inthe trading of financial instruments.

 

The principal objective ofinterest rate risk management (often referred to as “asset/liabilitymanagement”) is to manage the financial components of the Company in a mannerthat will optimize the risk/reward equation for earnings and capital inrelation to changing interest rates.  Inorder to identify areas of potential exposure to rate changes, the Companycalculates its re-pricing gap on a monthly basis.  It also performs an earnings simulationanalysis and a market value of portfolio equity calculation on a monthly basisto identify more dynamic interest rate risk exposures than those apparent inthe standard re-pricing gap analysis.

 

Modeling software is used bythe Company for asset/liability management in order to simulate the effects ofpotential interest rate changes on the Company’s net interest margin.  These simulations can also provide bothstatic and dynamic information on the projected fair market values of theCompany’s financial instruments under differing interest rate assumptions.  The simulation program utilizes specificindividual loan and deposit maturities, embedded options, rates and re-pricingcharacteristics to determine the effects of a given interest rate change on theCompany’s interest income and interest expense. Rate scenarios consisting of key rate and yield curve projections arerun against the Company’s investment, loan, deposit and borrowed fundsportfolios.  These rate projections canbe shocked (an immediate and sustained change in rates, up or down), ramped (anincremental increase or decrease in rates over a specified time period),economic (based on current trends and econometric models) or stable (unchangedfrom current actual levels).  The Companytypically uses seven standard interest rate scenarios in conducting thesimulation, namely stable, an upward shock of 100, 200, and 300 basis points,and a downward shock of 100, 200, and 300 basis points.

 

The Company’s policy is tolimit the change in the Company’s net interest margin and economic value toplus or minus 5%, 15%, and 25% upon application of interest rate shocks of 100bp, 200 bp, and 300 bp as compared to a base rate scenario.  As of December 31, 2004, the Company had thefollowing estimated net interest margin sensitivity profile:

 
| ** **             | ** ** | **Immediate Change in Rate** | ** ** | **Immediate Change in Rate** | ** ** | **Immediate Change in Rate** | ** ** |
|------------------------|------------|------------------------------|------------|------------------------------|------------|------------------------------|------------|
| ** **             | ** ** | **+100 bp**                  | ** ** | **-100 bp**                  | ** ** | **+200 bp**                  | ** ** | **-200 bp** | ** ** | **+300 bp** | ** ** | **-300 bp** | ** ** |
| Net Int. Income Change |       | $                            | 755,000    |                         | $          | 272,000                      |       | $ | 1,513,000 |   | $ | 395,000 |   | $ | 2,276,000 |   | $ | 377,000 |   |
|                        |            |                              |            |                              |            |                              |            |  |  |  |  |  |  |  |  |  |  |  |  |

 

The above profile illustratesthat if there were an immediate increase of 200 basis points in interest rates,the Company’s annual net interest income would likely increase by about$1,513,000, or approximately 7.03%. Likewise, if there were an immediate downward adjustment of 200 basispoints in interest rates, the Company’s net interest income would likelyincrease by approximately $395,000, or 1.84%, over the next year.

 

47

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The relationship between thechange in net interest income under rising and declining rate scenarios istypically inversely proportionate and given the current interest rateenvironment, the Company’s balance sheet is positioned to benefit from bothrising and declining rates.  Thisphenomenon is do to interest rate floors that still exist in a portion of theloan portfolio that were put into place as rates were falling rapidly in 2001and 2002.

 

Further, the economic value ofthe Company’s loan and deposit portfolios would also change under the interestrate variances previously discussed.  Theamount of change is based on the profiles of each loan and deposit class, whichinclude the rate, the likelihood of prepayment or repayment, whether its rateis fixed or floating, the maturity of the instrument and the particularcircumstances of the customer.  Thequantification of the change in economic value is somewhat apparent in Note 16,Fair Value of Financial Instruments, in the Consolidated Financial Report;however such values change over time based on certain assumptions aboutinterest rates and likely changes in the yield curve.

 

**Selected Quarterly Financial Data**

 

(Dollars in thousands, exceptper share data)

 

**2004Quarter**

 
| ** **                                           | ** ** | **1st**    | ** ** | **2nd**    | ** ** | **3rd**    | ** ** | **4th**    | ** ** |
|------------------------------------------------------|------------|------------|------------|------------|------------|------------|------------|------------|------------|
| ** **                                           | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| Interest income                                      |       | $          | 5,575      |       | $          | 5,840      |       | $          | 6,306      |   | $ | 7,259 |   |
| Net Interest income                                  |       | $          | 4,587      |       | $          | 4,881      |       | $          | 5,521      |   | $ | 5,935 |   |
| Net interest income after provision for loan  losses |       | $          | 4,362      |       | $          | 4,691      |       | $          | 5,296      |   | $ | 5,785 |   |
|                                                 |       |       |       |       |       |       |       |       |       |
| Net Income                                           |       | $          | 1,088      |       | $          | 1,465      |       | $          | 1,594      |   | $ | 1,463 |   |
|                                                 |       |       |       |       |       |       |       |       |       |
| Net income per share, basic                          |       | $          | 0.31       |       | $          | 0.41       |       | $          | 0.45       |   | $ | 0.41 |   |
|                                                 |       |       |       |       |       |       |       |       |       |
| Net income per share, diluted                        |       | $          | 0.29       |       | $          | 0.39       |       | $          | 0.42       |   | $ | 0.38 |   |
|                                                 |       |       |       |       |       |       |       |       |       |
| Dividends Declared                                   |       | $          | 0.075      |       | $          | 0.075      |       | $          | 0.075      |   | $ | 0.075 |   |

 

**2003Quarter**

 
| ** **                                           | ** ** | **1st**    | ** ** | **2nd**    | ** ** | **3rd**    | ** ** | **4th**    | ** ** |
|------------------------------------------------------|------------|------------|------------|------------|------------|------------|------------|------------|------------|
| ** **                                           | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| Interest income                                      |       | $          | 5,053      |       | $          | 5,164      |       | $          | 5,525      |   | $ | 5,775 |   |
| Net Interest income                                  |       | $          | 3,902      |       | $          | 4,033      |       | $          | 4,449      |   | $ | 4,736 |   |
| Net interest income after provision for loan  losses |       | $          | 3,752      |       | $          | 3,913      |       | $          | 4,239      |   | $ | 4,561 |   |
|                                                 |       |       |       |       |       |       |       |       |       |
| Net Income                                           |       | $          | 1,037      |       | $          | 1,116      |       | $          | 1,434      |   | $ | 1,682 |   |
|                                                 |       |       |       |       |       |       |       |       |       |
| Net income per share, basic                          |       | $          | 0.29       |       | $          | 0.31       |       | $          | 0.41       |   | $ | 0.49 |   |
|                                                 |       |       |       |       |       |       |       |       |       |
| Net income per share, diluted                        |       | $          | 0.28       |       | $          | 0.30       |       | $          | 0.38       |   | $ | 0.46 |   |
|                                                 |       |       |       |       |       |       |       |       |       |
| Dividends Declared                                   |       | $          | 0.075      |       | $          | 0.075      |       | $          | 0.075      |   | $ | 0.075 |   |

 

**Item 7a.  Quantitative andQualitative Disclosures About Market Risk**

 

The information require by Item7a of Form 10-K is contained in the Liquidity and Market Risk Managementsection of Item 7 – Managements Discussion and Analysis of Financial Conditionand Results of Operations.

 

48

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**Item 8.  Financial Statements andSupplementary Data**

 

The financial statements beginon page 70 of this report

 

**Item 9.  Changes in andDisagreements with Accountants on Accounting and Financial Disclosure**

 

There were no changes ordisagreements with Accountants for the year 2004.

 

# **Item 9a. Controlsand Procedures**

 

As of the end of the periodcovered by this report, we conducted an evaluation, under the supervision andwith the participation of our Chief Executive Officer and Chief FinancialOfficer, of our disclosure controls and procedures (as defined inRules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of1934).  Based on this evaluation, our Chief Executive Officer and ChiefFinancial Officer concluded that our disclosure controls and procedures areeffective to ensure that information required to be disclosed by us in reportsthat we file or submit under the Exchange Act is recorded, processed,summarized and reported within the time periods specified in Securities andExchange Commission rules and forms.  There was no change in our internalcontrol over financial reporting during our most recently completed fiscalquarter that has materially affected, or is reasonably likely to materiallyaffect, our internal control over financial reporting.

 

49

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**PART III**

 

**Item 10. Directors and Executive Officers ofthe Registrant**

 

The following table sets forth,as of March 1, 2005, the names of, and certain information regarding, thedirectors of Community Valley Bancorp.

 
| **Name and Title  Other than  Director**  | ** ** | **Age** | ** ** | **Year First  Appointed  Director** | ** ** | **Principal Occupation  During the  Past Five Years**                                                                                   | ** ** |
|-------------------------------------------|------------|---------|------------|-------------------------------------|------------|-----------------------------------------------------------------------------------------------------------------------------------------|------------|
| ** **                                |
|                                      |       |    |       |                                |       |                                                                                                                                    |       |
| M. Robert  Ching,  M.D.                   |       | 59      |       | 2002                                |       | Orthopedic  surgeon.                                                                                                                    |       |
|                                      |       |    |       |                                |       |                                                                                                                                    |       |
| John F.  Coger  Executive V.P.  CFO/COO   |       | 55      |       | 2004                                |       | Executive  Vice President Chief Financial Officer and  Chief Operating Officer of the Bank.                                             |       |
|                                      |       |    |       |                                |       |                                                                                                                                    |       |
| Eugene B. Even                            |       | 77      |       | 2002                                |       | Retired.                                                                                                                                |       |
|                                      |       |    |       |                                |       |                                                                                                                                    |       |
| John D. Lanam                             |       | 70      |       | 2002                                |       | Retired.  Former attorney and senior partner of  McKernan, Lanam, Bakke, Benson & Bodney, a law  firm.                              |       |
|                                      |       |    |       |                                |       |                                                                                                                                    |       |
| Donald W.  Leforce Chairman of the

Board |       | 57      |       | 2002                                |       | President  and former Secretary/Treasurer of Compass Equipment, Inc., a mining and heavy  equipment manufacturing corporation.          |       |
|                                      |       |    |       |                                |       |                                                                                                                                    |       |
| Charles J. Mathews                        |       | 67      |       | 2003                                |       | Owner of  Mathews Farms and Partner in Mathews Rice Dryer.                                                                              |       |
|                                      |       |    |       |                                |       |                                                                                                                                    |       |
| Ellis L. Matthews                         |       | 71      |       | 2002                                |       | Retired.  Former certified public accountant and senior partner of Matthews &  Hutton, an accountancy firm.                         |       |
|                                      |       |    |       |                                |       |                                                                                                                                    |       |
| Robert L.  Morgan, M.D.                   |       | 77      |       | 2002                                |       | Retired.                                                                                                                                |       |
|                                      |       |    |       |                                |       |                                                                                                                                    |       |
| James S.  Rickards  Secretary             |       | 54      |       | 2002                                |       | Real estate  broker associated with Century 21 Select since April, 2000. Former broker  associate with Prudential California from 1998. |       |
|                                      |       |    |       |                                |       |                                                                                                                                    |       |
| Keith C.  Robbins  President/CEO          |       | 63      |       | 2002                                |       | President  and Chief Executive Officer of the Bank.                                                                                     |       |
|                                      |       |    |       |                                |       |                                                                                                                                    |       |
| Gary B.  Strauss,  M.D.  Vice Chairman    |       | 74      |       | 2002                                |       | Retired.                                                                                                                                |       |
|                                      |       |    |       |                                |       |                                                                                                                                    |       |
| Hubert I.  Townshend                      |       | 68      |       | 2002                                |       | Semi-retired.  Involved in general engineering, contracting and equipment rental. Past  partner of S&T Logging Co. Inc.             |       |

 

50

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None of the directors wereselected pursuant to any arrangement or understanding other than with the directorsand executive officers of Community Valley Bancorp acting within theircapacities as such.  There are no familyrelationships between any of the directors of Community Valley Bancorp.  No director of Community Valley Bancorpserves as a director of any company which has a class of securities registeredunder, or which is subject to the periodic reporting requirements of theSecurities Exchange Act of 1934, or of any company registered as an investmentcompany under the Investment Company Act of 1940.

 

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(1)  As used in this statement, the term“executive officer” of Community Valley Bancorp includes the President/ChiefExecutive Officer and the Executive Vice President/Chief Financial Officer-ChiefOperating Officer.

 

**Compensationof Directors**

 

During 2004,directors, other than Mr. Robbins and Mr. Coger, received a base fee of $800.00per month for serving as directors (provided the director attends 75% of themeetings) and received additional fees for chairing meetings and attendingmeetings.  Mr. Robbins and Mr. Coger(appointed to the Board of Directors in September 2004) also received a basefee of $800.00 per month for serving as a director.  Community Valley Bancorp’s Chairman of theBoard also received an additional $300 per month for serving as theChairman.  Any director, other than Mr.Robbins and Mr. Coger, who chaired a Board of Directors or committee meeting,which met during the month, received an additional $50.00 per month for servingas the chairman.  In addition, directors,other than Mr. Robbins and Mr. Coger, but including the chairman, whoattended any Board meeting, also received an additional $315.00 per Board ofDirectors meeting attended.  Directors,other than Mr. Robbins and Mr. Coger, but including the chairman of anycommittee, who attended any committee meeting held at the same gathering as aBoard of Director’s meeting (other than one committee meeting held concurrentlywith the Board meeting) also received an additional $50.00 per committeemeeting attended.  Directors, other thanMr. Robbins and Mr. Coger, but including the chairman of any committee, whoattended any other committee meeting received $300 per committee meetingattended.  In addition, if any Board ofDirectors or committee meeting extended beyond three hours, directors, otherthan Mr. Robbins and Mr. Coger, received an additional $105.00 per hour foreach hour the meeting extended over three hours, subject to a maximumadditional $210.00 per meeting. Directors, other than Mr. Robbins and Mr. Coger, who traveled to a Boardof Directors or committee meeting held outside the town of the director’sresidence received an additional $15.00 travel fee per meeting and all othertravel in connection with the Board of Director’s or Community Valley Bancorp’sactivities was compensated at $.31 per mile.

 

During 2005,the compensation to directors will change to a base fee of $900.00 per monthfor serving as directors (provided the director attends 75% of the meetings)and receive additional fees for chairing meetings and attending meetings.  Mr. Robbins and Mr. Coger will alsoreceive a base fee of $900.00 per month for serving as a director.  Community Valley Bancorp’s Chairman of theBoard will also received an additional $500 per month for serving as theChairman.  Any director, other than Mr.Robbins and Mr. Coger, who chairs a Board of Directors or committee meeting,which meets during the month, will receive an additional $50.00 per month forserving as the chairman.  In addition,directors, other than Mr. Robbins and Mr. Coger, but including thechairman, who attend any Board meeting, will also receive an additional $365.00per Board of Directors meeting attended. Directors, other than Mr. Robbins and Mr. Coger, but including thechairman of any committee, who attend any committee meeting held at the samegathering as a Board of Director’s meeting (other than one committee meetingheld concurrently with the Board meeting) will also receive an additional$50.00 per committee meeting attended. Directors, other than Mr. Robbins and Mr. Coger, but including thechairman of any committee, who attend any other committee meeting will receive$350 per committee meeting attended.  Inaddition, if any Board of Directors or committee meeting extends beyond threehours, directors, other than Mr. Robbins and Mr. Coger, will receive anadditional $105.00 per hour for each hour the meeting extends over three hours,subject to a maximum additional $210.00 per meeting.  Directors, other than Mr. Robbins and Mr.Coger, who travel to a Board of Directors or committee meeting held outside thetown of the director’s residence will receive an additional $15.00 travel feeper meeting and all other travel in connection with the Board of Director’s orCommunity Valley Bancorp’s activities will be compensated at $.375 per mile.

 

In May, 1997,each director of Community Valley Bancorp received a stock option underCommunity Valley Bancorp’s 1997 Stock Option Plan to acquire 13,197 shares ofcommon stock, giving effect to all stock dividends and splits.  The exercise price for these shares is $4.63per share, giving effect to all stock dividends and splits.  The options are for a term of ten yearsexpiring in May, 2007 and are 100% vested.

 

In addition,in May, 2000, each director of Community Valley Bancorp, other thanMr. Robbins, received a stock option under Community Valley Bancorp’s 2000Stock Option Plan to acquire 13,333 shares of common stock, giving effect toall stock dividends and splits.  Theexercise price for these shares is $9.42 per share, post the two 4-for-3 stocksplits.  The options are for a term often years expiring in May, 2010.  Thevesting of the director options is 20% of the total option amount per year withthe first 20% amount having vested in May, 2001.

 

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**Director Retirement Agreements**

 

In April,1998, each director of Community Valley Bancorp, other than Mr. Robbins andsubsequently Mr. Coger, entered into a Director Retirement Agreement whichprovides for the payment of a monthly retirement benefit for a period of sixtymonths based upon an individualized vesting schedule which takes into accountthe years of service as a director and each director’s individual retirementage.  The agreement also pays in theevent of a change in control of Community Valley Bancorp or disability or deathof the director.  The vesting scheduleprovides for a maximum payment of $500 per month.

 

**Director Deferred Fee Agreements**

 

Directors ofCommunity Valley Bancorp have the option of participating in Community ValleyBancorp’s Director Deferred Fee Program. Pursuant to the Director Deferred Fee Program, directors make an initialdeferral election by filing with Community Valley Bancorp a signed electionform which sets forth the amount of the director’s fees to be deferred.  Community Valley Bancorp then establishes aDeferral Account on its books for the director and credits to the DeferralAccount the fees deferred by the director and interest on the account balanceat a rate equal to Community Valley Bancorp’s prime lending rate as of December31 of the previous year plus one-half percent compounded each December 31 andassuming all deferrals have been made as of January 1 of such year.  The Deferral Account is not a trust fund ofany kind and the director is a general unsecured creditor of Community ValleyBancorp for the payment of the benefits. Benefits under the Director Deferred Fee Program are payable upon thedirector’s termination of service.  Theamount of benefit payable is the Deferral Account balance at the date oftermination of service.  This amountshall be paid to the director in 120 monthly installments commencing on thefirst day of the month following the director’s termination of service.  Dr. Ching and Mr. Leforce have each enteredinto Director Deferred Fee Agreements with Community Valley Bancorp.

 

**Director Emeritus Plan**

 

During 2001,Community Valley Bancorp also established a Directors Emeritus Plan.  Those directors who have served ten or moreconsecutive years as an outside director and any outside directors who haveserved five or more consecutive years as an outside director and immediatelyprior thereto served five or more years as an inside director, are eligible toparticipate in the Directors Emeritus Plan. Each Director Emeritus will be a five year position or until a DirectorEmeritus shall sell a majority of his or her ownership in Community Valley Bancorp.  Directors Emeritus will receive a monthly feeequal to a percent of the base director fee they were receiving for serving asa director at the time they became Director Emeritus.  For the first year, they shall receive 90%,for the second year, they shall receive 80%, for the third year, they shallreceive 60%, for the fourth year, they shall receive 50%, and for the fifthyear, they shall receive 40%.  In theevent of any merger, consolidation of acquisition where Community ValleyBancorp is not the surviving entity, the Director Emeritus Plan shall remain infull force and effect; provided, however, the resulting corporation may electto pay the Director Emeritus a lump sum amount in cash equal to 50% of theremaining benefits due the Director Emeritus.

 

52

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**ExecutiveOfficers**

 

The followingtable sets forth information, as of March 1, 2005, concerning executiveofficers of Community Valley Bancorp:

 
| **Name**          | ** ** | **Age** | ** ** | **Position and Principal Occupation  For the Past Five Years**                                                  |
|-------------------|------------|---------|------------|-----------------------------------------------------------------------------------------------------------------|
| Keith C.  Robbins |       | 63      |       | President  and Chief Executive Officer of Community Valley Bancorp                                              |
|              |       |    |       |                                                                                                            |
| John F.  Coger    |       | 55      |       | Executive  Vice President and Chief Financial Officer and Chief Operating Officer of  Community Valley Bancorp. |

 

**Item 11. Executive Compensation**

 

The persons serving as theexecutive officers of Community Valley Bancorp received during 2004, and areexpected to continue to receive in 2004, cash compensation in their capacitiesas executive officers of Community Valley Bancorp

 

The following SummaryCompensation Table indicates the compensation of Community Valley Bancorp’sexecutive officers.

 

**2004**

 

**Summary Compensation Table**

 
| **Annual Compensation**                                    | ** ** | **Long Term Compensation** | ** ** | ** **      | ** ** |
|------------------------------------------------------------|------------|----------------------------|------------|-----------------|------------|
| ** **                                                 | ** ** | ** **                 | ** ** | ** **      | ** ** | ** ** | ** ** | ** ** | ** ** | **Awards** | ** ** | **Payouts** | ** ** | ** ** | ** ** |
| **(a)**                                                    | ** ** | **(b)**                    | ** ** | **(c)**         | ** ** | **(d)** | ** ** | **(e)** | ** ** | **(f)** | ** ** | **(g)** | ** ** | **(h)** | ** ** | **(i)** | ** ** |
| **Name and  Principal Position**                           | ** ** | **Year**                   | ** ** | **Salary  ($)** | ** ** | **Bonus  ($)** | ** ** | **Other  Annual  Compen-  sation ($)** | ** ** | **Restricted  Stock  Award(s)  ($)** | ** ** | **Options/  SARS** | ** ** | **LTIP  Payouts  ($)** | ** ** | **All Other Compen- sation  ($)(4)(5)** | ** ** |
| Keith C Robbins                                            |       | 2004                       |       | $               | 234,108(2  | ) | $ | 249,065 |   | 0 |   | 0 |   |   |   | 0 |   | $ | 20,998 |   |
| President and Chief                                        |       | 2003                       |       | $               | 234,108(2  | ) | $ | 237,527 |   | 0 |   | 0 |   |   |   | 0 |   | $ | 19,129 |   |
| Executive Officer                                          |       | 2002                       |       | $               | 216,121(1  | ) | $ | 240,851 |   | 0 |   | 0 |   |   |   | 0 |   | $ | 17,242 |   |
| John F Coger                                               |       | 2004                       |       | $               | 147,540(3  | ) | $ | 190,891 |   | 0 |   | 0 |   |   |   | 0 |   | $ | 13,460 |   |
| Executive Vice President Chief Financial Officer and Chief |       | 2003                       |       | $               | 145,140    |   | $ | 181,654 |   | 0 |   | 0 |   |   |   | 0 |   | $ | 10,948 |   |
| Operating  Officer                                         |       | 2002                       |       | $               | 135,644    |   | $ | 185,012 |   | 0 |   | 0 |   |   |   | 0 |   | $ | 10,255 |   |

 

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(1) Includes $6,300 in directors fees

(2) Includes $9,600 in directors fees

(3) Includes $2,400 in directors fees

(4) This amount represents Butte CommunityBank’s contribution under Butte Community Bank’s Employee Stock Ownership Plan,and the cost of premiums for excess medical, dental and life insurance

(5) This amount does not include ButteCommunity Bank’s contribution under Butte Community Bank’s Employee StockOwnership Plan as such amount has not yet been determined.

 

53

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**2004**

 

**Option/SAR Exercises and Year-End Value Table**

 

**Aggregated Option/SAR Exercises in LastFiscal Year and Year-End Option/SAR Value**

 
| **(a)**         | ** ** | **(b)**                               | ** ** | **(c)**                 | ** ** | **(d)**                                                                                | ** ** | **(e)**                                                                                              | ** ** |
|-----------------|------------|---------------------------------------|------------|-------------------------|------------|----------------------------------------------------------------------------------------|------------|------------------------------------------------------------------------------------------------------|------------|
| **Name**        | ** ** | **Shares Acquired  on  Exercise (#)** | ** ** | **Value Realized  ($)** | ** ** | **Number of  Unexercised  Options/SARs at  Year-End (#)  Exercisable/  Unexercisable** | ** ** | **Value of  Unexercised In-  the-Money  Options/SARs at  Year-End ($)  Exercisable/  Unexercisable** | ** ** |
|            |       |                                  |       |                    |       | Options Only                                                                           |       | Options Only                                                                                         |       |
| Keith C Robbins |       | -0-                                   |       | -0-                     |       | 23,388/2,667                                                                           |       | $490,149/$48,886                                                                                     |       |
|            |       |                                  |       |                    |       |                                                                                   |       |                                                                                                 |       |
|            |       |                                  |       |                    |       | Options Only                                                                           |       | Options Only                                                                                         |       |
| John F Coger    |       | -0-                                   |       | -0-                     |       | 10,566/2,667                                                                           |       | $193,675/$48,886                                                                                     |       |

 

54

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Mr. Robbinshas a three year employment contract with Community Valley Bancorp beginningApril 27, 1995 and which currently expires April 27, 2004.  In addition, unless the employment contractis otherwise terminated, the term of the employment contract shallautomatically extend in annual increments of one year so as to always remain athree year employment contract.  Mr.Robbins’ annual salary is currently fixed at $242,043 and may berenegotiated.  Under the terms of theemployment contract, Mr. Robbins is entitled to incentive compensationprovided that Community Valley Bancorp attains a minimum 10% return on equityeach year, as well as other criteria.  Inthe event Community Valley Bancorp attains the minimum 10% return on equity, aswell as meeting other requirements, a bonus pool will be established in anamount equal to 21.5% of the amount in excess of the 10% return on equity.  Mr. Robbins will be entitled to incentivecompensation in the amount of 38.46% of the bonus pool.  Mr. Robbins’ employment contractprovides that in the event he becomes disabled, he shall be entitled to 100% ofhis salary for ninety days.  In addition,if Community Valley Bancorp is merged, sold or acquired and the merging,purchasing or acquiring entity elects not to employ Mr. Robbins in a likeposition, he shall paid an amount equal to the remaining term of the employmentcontract.

 

Mr. Robbinshas a salary continuation agreement with Community Valley Bancorp whichprovides that Community Valley Bancorp will pay him $150,000 plus a 3% cost ofliving adjustment per year for 20 years following his retirement from CommunityValley Bancorp at age 65 (“Retirement Age”), or until the death of the Employeewhichever event last occurs.  In theevent of disability while Mr. Robbins is actively employed prior toRetirement Age, he will have the option to take the $150,000 plus a 3% cost ofliving adjustment per year for 20 years beginning at the earlier of the timewhen he reaches age 65 or the date on which he is no longer entitled todisability benefits under his principal disability insurance policy.  If termination of service occurs due to achange in control of Community Valley Bancorp, Mr. Robbins shall be entitled toreceive $150,000 plus a 3% cost of living adjustment per year for 20 yearspayable on the first day of each month commencing within six months of the dateof his termination of employment.  In theevent Mr. Robbins dies while actively employed by Community Valley Bancorpprior to Retirement Age, his beneficiary will receive from Community ValleyBancorp $150,000 plus a 3% cost of living adjustment per year for 20 yearsbeginning one month after his death.  Inthe event of termination without cause, early retirement, or voluntarytermination, Mr. Robbins shall receive $150,000 plus a 3% cost of livingadjustment per year for 20 years beginning with the month following the monthin which Mr. Robbins terminates employment and attains age 65.  In the event Mr. Robbins is terminated forcause he will forfeit any benefits from the salary continuation agreement.

 

Mr. Robbinshas an Executive Supplemental Retirement Plan Agreement that provides him withthe option of deferring a portion of his salary.  Mr. Robbins has elected to defer $20,000 peryear.  Community Valley Bancorp hasestablished a Deferral Account on its books for Mr. Robbins and credits tothe Deferral Account the fees deferred by Mr. Robbins and interest on theaccount balance at a rate equal to Community Valley Bancorp’s prime lendingrate as of December 31 of the previous year plus one-half percent compoundedeach December 31 and assuming all deferrals have been made as of January 1 ofsuch year.  In addition, Community ValleyBancorp has purchased an annuity for protection of the benefits.  All earnings received above Community ValleyBancorp’s normal anticipated after tax return earnings on the annuity and thecost of an insurance policy related to this benefit are also credited to Mr.Robbins’ Deferral Account.  The DeferralAccount is not a trust fund of any kind and Mr. Robbins is a general unsecuredcreditor of Community Valley Bancorp for the payment of the benefits.  Benefits under the Supplemental RetirementPlan Agreement are payable upon Mr. Robbins’ termination of service.  Upon Mr. Robbins’ retirement at age 65, hewill be entitled to the Deferral Account balance in one hundred eighty (180)monthly installments beginning on the first day of the month following his retirement,unless Mr. Robbins elects one year prior to receiving any benefits to takebenefits in a lump sum or otherwise.  IfMr. Robbins retires or terminates service prior to the age of 65, the amount ofbenefit payable is also the Deferral Account balance at the date of terminationof service in one hundred eighty (180) monthly installments beginning on thefirst day of month following his attaining age 65, unless Mr. Robbinselects one year prior to receiving any benefits to take benefits in a lump sumor otherwise.

 

55

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If termination of serviceoccurs due to disability, the amount of benefit payable is also the DeferralAccount balance at the date of termination of service in one hundred eighty(180) monthly installments beginning on the first day of month following hisdisability, unless Mr. Robbins elects one year prior to receiving anybenefits to take benefits in a lump sum or otherwise.  If termination of service occurs due to achange in control of Community Valley Bancorp, Community Valley Bancorp shallcredit Mr. Robbins’ Deferral Account with the entire amount that Mr. Robbinswould have deferred for the entire deferral period, and the amount of benefitshall be paid to Mr. Robbins within 30 days of the change in control.  If Mr. Robbins suffers hardship,Community Valley Bancorp may distribute to him all or a portion of the DeferralAccount balance as necessary to relieve the financial hardship.

 

Finally, iftermination of service occurs due to Mr. Robbins’ death, Community ValleyBancorp shall credit Mr. Robbins’ Deferral Account with the entire amount thatMr. Robbins would have deferred for the entire deferral period utilizing theproceeds from the insurance policy which Community Valley Bancorp purchased inconnection with this agreement.  Theamount shall be paid in one hundred eighty (180) monthly installments beginningon the first day of the month following his death.  Interest accrues on all amounts deferreduntil final payment.

 

Mr. Coger hasa three year employment contract with Community Valley Bancorp beginning April27, 1995 and which currently expires April 27, 2004.  In addition, unless the employment contractis otherwise terminated, the term of the employment contract shall automaticallyextend in annual increments of one year so as to always remain a three yearemployment contract.  Mr. Coger’sannual salary is currently fixed at $160,293 and may be renegotiated.  Under the terms of the employment contract,Mr. Coger is entitled to incentive compensation provided that CommunityValley Bancorp attains a minimum 10% return on equity each year, as well asother criteria.  In the event CommunityValley Bancorp attains the minimum 10% return on equity, as well as meetingother requirements, a bonus pool will be established in an amount equal to21.5% of the amount in excess of the 10% return on equity.  Mr. Coger will be entitled to incentivecompensation in the amount of 29.41% of the bonus pool.  Mr. Coger’s employment contract providesthat in the event he becomes disabled, he shall be entitled to 100% of hissalary for ninety days.  In addition, ifCommunity Valley Bancorp is merged, sold or acquired and the merging,purchasing or acquiring entity elects not to employ Mr. Coger in a like position,he shall paid an amount equal to the remaining term of the employment contract.

 

Mr. Coger hasa salary continuation agreement with Community Valley Bancorp which providesthat Community Valley Bancorp will pay him $125,000 plus a 3% cost of livingadjustment per year for 20 years following his retirement from Community ValleyBancorp at age 65 (“Retirement Age”), or until the death of the Employeewhichever event last occurs.  In theevent of disability while Mr. Coger is actively employed prior toRetirement Age, he will have the option to take the $125,000 plus a 3% cost ofliving adjustment per year for 20 years beginning at the earlier of the timewhen he reaches age 65 or the date on which he is no longer entitled todisability benefits under his principal disability insurance policy.  If termination of service occurs due to achange in control of Community Valley Bancorp, Mr. Coger shall be entitled toreceive $150,000 plus a 3% cost of living adjustment per year for 20 yearspayable on the first day of each month commencing within six months of the dateof his termination of employment. In the event Mr. Coger dies whileactively employed by Community Valley Bancorp prior to Retirement Age, hisbeneficiary will receive from Community Valley Bancorp $125,000 plus a 3% costof living adjustment per year for 20 years beginning one month after hisdeath.  In the event of terminationwithout cause, early retirement, or voluntary termination, Mr. Coger shall receive$125,000 plus a 3% cost of living adjustment per year for 20 years beginningwith the month following the month in which Mr. Coger terminates employment andattains age 65.  In the event Mr. Cogeris terminated for cause he will forfeit any benefits from the salarycontinuation agreement.

 

56

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Mr. Coger has an ExecutiveSupplemental Retirement Plan Agreement that provides him with the option ofdeferring a portion of his salary.  Mr.Coger has elected to defer $10,000 per year. Community Valley Bancorp has established a Deferral Account on its booksfor Mr. Coger and credits to the Deferral Account the fees deferred by Mr.Coger and interest on the account balance at a rate equal to Community ValleyBancorp’s prime lending rate as of December 31 of the previous year plusone-half percent compounded each December 31 and assuming all deferrals havebeen made as of January 1 of such year. In addition, Community Valley Bancorp has purchased an annuity for protectionof the benefits.

 

All earnings received aboveCommunity Valley Bancorp’s normal anticipated after tax return earnings on theannuity and the cost of an insurance policy related to this benefit are alsocredited to Mr. Coger’s Deferral Account. The Deferral Account is not a trust fund of any kind and Mr. Coger is ageneral unsecured creditor of Community Valley Bancorp for the payment of thebenefits.  Benefits under theSupplemental Retirement Plan Agreement are payable upon Mr. Coger’s terminationof service.  Upon Mr. Coger’s retirementat age 65, he will be entitled to the Deferral Account balance in one hundredeighty (180) monthly installments beginning on the first day of the monthfollowing his retirement, unless Mr. Coger elects one year prior toreceiving any benefits to take benefits in a lump sum or otherwise.  If Mr. Coger retires or terminatesservice prior to the age of 65, the amount of benefit payable is also theDeferral Account balance at the date of termination of service in two hundredforty (240) monthly installments beginning on the first day of month followinghis attaining age 65, unless Mr. Coger elects one year prior to receivingany benefits to take benefits in a lump sum or otherwise.  If termination of service occurs due todisability, the amount of benefit payable is also the Deferral Account balanceat the date of termination of service in two hundred forty (240) monthlyinstallments beginning on the first day of month following his disability,unless Mr. Coger elects one year prior to receiving any benefits to takebenefits in a lump sum or otherwise.

 

If termination of serviceoccurs due to a change in control of Community Valley Bancorp, Community ValleyBancorp shall credit Mr. Coger’s Deferral Account with the entire amount thatMr. Coger would have deferred for the entire deferral period, and theamount of benefit shall be paid to Mr. Coger within 30 days of the change incontrol.  If Mr. Coger suffershardship, Community Valley Bancorp may distribute to him all or a portion ofthe Deferral Account balance as necessary to relieve the financialhardship.  Finally, if termination ofservice occurs due to Mr. Coger’s death, Community Valley Bancorp shallcredit Mr. Coger’s Deferral Account with the entire amount that Mr. Coger wouldhave deferred for the entire deferral period utilizing the proceeds from theinsurance policy which Community Valley Bancorp purchased in connection withthis agreement.  The amount shall be paidin two hundred forty (240) monthly installments beginning on the first day ofthe month following his death.  Interestaccrues on all amounts deferred until final payment.

 

**Item 12. Security Ownership of Certain Beneficial Owners and Management**

 

Management of Community ValleyBancorp knows of no person who owns, beneficially or of record, eitherindividually or together with associates, 5 percent or more of the outstandingshares of common stock, except as set forth in the table below.  The following table sets forth, as ofMarch 1, 2005, the number and percentage of shares of outstanding commonstock beneficially owned, directly or indirectly, by each of Community ValleyBancorp’s directors and principal shareholders and by the directors andofficers of Community Valley Bancorp as a group.  The shares “beneficially owned” aredetermined under Securities and Exchange Commission Rules, and do notnecessarily indicate ownership for any other purpose.  In general, beneficial ownership includesshares over which the director, principal shareholder or officer has sole orshared voting or investment power and shares which such person has the right toacquire within 60 days of March 1, 2005. Unless otherwise indicated, the persons listed below have sole votingand investment powers of the shares beneficially owned.  Management is not aware of any arrangementswhich may, at a subsequent date, result in a change of control of CommunityValley Bancorp.

 

57

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| **Amount and Nature of  Beneficial Owner**         | ** ** | **Beneficial Ownership** | ** ** | **Percent of Class(1)** | ** ** |
|----------------------------------------------------|------------|--------------------------|------------|-------------------------|------------|
|                                               |
|                                               |       |                     |       |                    |       |
| Directors and Named Officers:                      |       |                     |       |                    |       |
| M. Robert Ching, M.D.                              |       | 107,053                  | (2)        |                    | 2.92       |   |   |
| John F. Coger                                      |       | 98,040                   | (3)        |                    | 2.68       |   |   |
| Eugene B. Even                                     |       | 59,657                   | (4)        |                    | 1.63       |   |   |
| John D. Lanam                                      |       | 87,055                   | (5)        |                    | 2.40       |   |   |
| Donald W. Leforce                                  |       | 104,203                  | (6)        |                    | 2.88       |   |   |
| Charles J. Mathews                                 |       | 2,398                    | (7)        |                    | 0.07       |   |   |
| Ellis L. Matthews                                  |       | 55,003                   | (8)        |                    | 1.50       |   |   |
| Robert L. Morgan, M.D.                             |       | 139,291                  | (9)        |                    | 3.80       |   |   |
| James S. Rickards                                  |       | 94,528                   | (10)       |                    | 2.58       |   |   |
| Keith C. Robbins                                   |       | 98,599                   | (11)       |                    | 2.68       |   |   |
| Gary B. Strauss, M.D.                              |       | 152,815                  | (12)       |                    | 4.16       |   |   |
| Hubert I. Townshend                                |       | 115,792                  | (13)       |                    | 3.16       |   |   |
|                                               |       |                     |       |                    |       |   |   |
| Principal Shareholder                              |       |                     |       |                    |       |   |   |
| Butte Community Bank ESOP                          |       | 196,090                  | (14)       |                    | 5.52       |   |   |
| Schmelke Family Trust                              |       | 194,844                  | (15)       |                    | 5.43       |   |   |
|                                               |       |                     |       |                    |       |   |   |
| All Directors and Officers as a Group  (12 in all) |       | 1,116,807                |       |                    | 28.90      |   |   |

 

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(1)           Includes shares subjectto options held by each director and the directors and officers as a group thatare exercisable within 60 days of March 1, 2005.  These are treated as issued and outstandingfor the purpose of computing the percentage of each director and the directorsand officers as a group but not for the purpose of computing the percentage ofclass of any other person.  Total sharesand ownership have been adjusted for four-for-three stock split with recorddate of March 1, 2004.

 

(2)           Dr. Ching has sharedvoting and investment powers as to 25,333 these shares and has 23,863acquirable by exercise of stock options.

 

(3)           Mr. Coger has sharedvoting and investment powers as to 62,806 of these shares and has 13,233 sharesacquirable by exercise of stock options.

 

(4)           Mr. Even has 10,666shares acquirable by exercise of stock options.

 

(5)           Mr. Lanam has sharedvoting and investment powers as to 55,377 shares and has 17,778 sharesacquirable by exercise of stock options.

 

(6)           Mr. Leforce has sharedvoting and investment powers as to 80,565 shares and has 21,703 sharesacquirable by exercise of stock options.

 

(7)           Mr. C. Mathews hasshared voting and investment powers as to 1,856 shares and has 533 sharesacquirable by exercise of stock options.

 

(8)           Mr. E. Matthews has20,530 shares acquirable by exercise of stock options.

 

(9)           Dr. Morgan has sharedvoting and investment powers as to 118,428 shares and has 20,863 sharesacquirable by exercise of stock options.

 

(10)         Mr. Rickards has sharedvoting and investment powers as to 56,514 shares and has 20,550 sharesacquirable by exercise of stock options.

 

58

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(11)         Mr. Robbins has sharedvoting and investment powers as to 20,047 shares and has 26,055 sharesacquirable by exercise of stock options.

 

(12)         Dr. Strauss has sharedvoting and investment powers as to 98,991 shares and has 23,863 sharesacquirable by exercise of stock options.

 

(13)         Mr. Townshend has 18,722shares acquirable by exercise of stock options.

 

(14)         Community Valley BancorpESOP’s address is c/o Community Valley Bancorp, 2041 Forest Avenue, Chico,California 95928.

 

(15)         The Schmelke FamilyTrust’s address is c/o Community Valley Bancorp, 2041 Forest Avenue, Chico,California 95928.

 

**Item 13. Certain Relationships and Related Transactions**

 

Some of the directors andofficers of Community Valley Bancorp and the companies with which they areassociated are customers of, or have had banking transactions with, CommunityValley Bancorp in the ordinary course of Community Valley Bancorp’s business,and Community Valley Bancorp expects to have banking transactions with suchpersons in the future.  In the opinion ofCommunity Valley Bancorp’s management, all loans and commitments to lend insuch transactions were made in compliance with applicable laws and onsubstantially the same terms, including interest rates and collateral, as thoseprevailing for comparable transactions with other persons of similarcreditworthiness and did not involve more than a normal risk of collectibilityor present other unfavorable features.

 

**Item 14.  Principal AccountantFees and Services**

 

The information required bythis item can be found in the Company’s Definitive Proxy Statement pursuant toRegulation 14A under the Securities and Exchange Act of 1934 and is by thisreference incorporated herein.

 

59

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**PART IV**

 

**Item 15.                 Exhibits,Financial Statement Schedules, and Reports on Form 8-K**.

 

(a)           **List ofdocuments filed as part of this report**

 

(1)           **FinancialStatements**

 

The following financial statements and independent auditor’s reportsare included in this Annual Report on Form 10-K immediately following.

 
| I.   |   | Independent Auditor’s Report                                                                                   |
|------|--------|---------------------------------------------------------------------------------------------------------------------|
| II.  |   | Consolidated Balance Sheet - December 31,  2004 and 2003                                                            |
| III. |   | Consolidated Statement of Income - Years  Ended December 31, 2004, 2003 and 2002                               |
| IV.  |   | Consolidated Statement of Changes in  Shareholders’ Equity - Years Ended December 31, 2004, 2003 and 2002 |
| V.   |   | Consolidated Statement of Cash Flows -  Years Ended December 31, 2004, 2003 and 2002                                |
| VI.  |   | Notes to the Consolidated Financial  Statements                                                                     |

 

(2)           **FinancialStatement Schedules**

 

Schedules to the financial statements are omitted because the requiredinformation is not applicable or because the required information is presentedin the Company’s Consolidated Financial Statements or related notes.

 

(3)           **Exhibits**

 
| **Exhibit  Number** | ** ** | **Document Description**                                                                                                                                                                                                                                                                                                             |
|---------------------|------------|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|                |       |                                                                                                                                                                                                                                                                                                                                 |
| (3.1)               |       | Articles of Incorporation incorporated by  reference from the Company’s Registration Statement Form S-4EF, file  #333-85950.                                                                                                                                                                                                    |
| (3.2)               |       | Bylaws  incorporated by reference from the Company’s Registration Statement Form  S-4EF, file #333-85950.                                                                                                                                                                                                                       |
| (4)                 |       | Specimen of Company’s Common Stock Certificate incorporated by  reference from the Company’s Registration Statement Form S-4EF, file  #333-85950.                                                                                                                                                                          |
| (10.1)              |       | Employment Agreement with Keith C. Robbins  dated April 27, 1995.  Incorporated by reference to the Company’s  Quarterly Report on Form 10-Q for the period ended June 30, 2002, filed with  the Commission on August 14, 2002.                                                                                            |
| (10.2)              |       | Salary Continuation Agreement dated April  14, 1998, and Amendment to Salary Continuation Agreement dated January 10,  2002, for Keith C. Robbins. Incorporated  by reference to the Company’s Quarterly Report on Form 10-Q for the period  ended June 30, 2002, filed with the Commission on August 14, 2002.                 |
| (10.2)1.            |       | Amendment to Salary  Continuation Agreement of April 14, 1998 for Keith C Robbins dated January 1,  2004.  Incorporated by reference to the  Company's Annual Report on Form 10-K for the period ended December 31, 2003,  filed with the Commission on March 20, 2004.                                                    |
| (10.3)              |       | Executive Supplemental Retirement Plan  dated August 1, 2000, and Amendment to Executive Supplement Retirement Plan  dated January 10, 2002, for Keith C. Robbins. Incorporated by reference to the Company’s Quarterly Report on Form  10-Q for the period ended June 30, 2002, filed with the Commission on August  14, 2002. |
| (10.4)              |       | 1997 Stock Option Agreement for Keith C.  Robbins dated May 1, 1997. Incorporated  by reference to the Company’s Quarterly Report on Form 10-Q for the period ended  June 30, 2002, filed with the Commission on August 14, 2002.                                                                                               |

 

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| (10.5)   |   | 2000 Stock Option Agreement for Keith C.  Robbins dated March 14, 2000. Incorporated  by reference to the Company’s Quarterly Report on Form 10-Q for the period  ended June 30, 2002, filed with the Commission on August 14, 2002.                                                                                         |
|----------|--------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| (10.6)   |   | Employment Agreement with John F. Coger  dated April 27, 1995. Incorporated  by reference to the Company’s Quarterly Report on Form 10-Q for the period  ended June 30, 2002, filed with the Commission on August 14, 2002.                                                                                                  |
| (10.7)   |   | Salary Continuation Agreement dated April  14, 1998, and Amendment to Salary Continuation Agreement dated January 10,  2002, for John F. Coger. Incorporated  by reference to the Company’s Quarterly Report on Form 10-Q for the period  ended June 30, 2002, filed with the Commission on August 14, 2002.                 |
| (10.7)1. |   | Amendment to Salary  Continuation Agreement of April 14, 1998 for John F. Coger dated January 1, 2004.   Incorporated by reference to the Company's Annual Report on Form 10-K  for the period ended December 31, 2003, filed with the Commission on March  20, 2004.                                              |
| (10.8)   |   | Executive Supplemental Retirement Plan  dated August 1, 2000, and Amendment to Executive Supplement Retirement Plan  dated January 10, 2002, for John F. Coger. Incorporated by reference to the Company’s Quarterly Report on Form  10-Q for the period ended June 30, 2002, filed with the Commission on August  14, 2002. |
| (10.9)   |   | 2000 Stock Option Agreement for John F. Coger  dated March 14, 2000 Incorporated by  reference to the Company’s Quarterly Report on Form 10-Q for the period ended  June 30, 2002, filed with the Commission on August 14, 2002                                                                                              |
| (10.10)  |   | 1997 Stock Option Agreement for M. Robert  Ching dated May 1, 1997 Incorporated  by reference to the Company’s Quarterly Report on Form 10-Q for the period  ended June 30, 2002, filed with the Commission on August 14, 2002                                                                                               |
| (10.11)  |   | 2000 Stock Option Agreement for M. Robert  Ching dated May 1, 2000. Incorporated  by reference to the Company’s Quarterly Report on Form 10-Q for the period  ended June 30, 2002, filed with the Commission on August 14, 2002.                                                                                             |
| (10.12)  |   | 1997 Stock Option Agreement for Eugene B.  Even dated May 1, 1997 Incorporated  by reference to the Company’s Quarterly Report on Form 10-Q for the period  ended June 30, 2002, filed with the Commission on August 14, 2002                                                                                                |
| (10.13)  |   | 2000 Stock Option Agreement for Eugene B.  Even dated May 1, 2000. Incorporated  by reference to the Company’s Quarterly Report on Form 10-Q for the period  ended June 30, 2002, filed with the Commission on August 14, 2002.                                                                                              |
| (10.14)  |   | 1997 Stock Option Agreement for John D.  Lanam dated May 1, 1997. Incorporated  by reference to the Company’s Quarterly Report on Form 10-Q for the period  ended June 30, 2002, filed with the Commission on August 14, 2002.                                                                                               |
| (10.15)  |   | 2000 Stock Option Agreement for John D.  Lanam dated May 1, 2000. Incorporated  by reference to the Company’s Quarterly Report on Form 10-Q for the period  ended June 30, 2002, filed with the Commission on August 14, 2002.                                                                                               |
| (10.16)  |   | 1997 Stock Option Agreement for Donald W.  Leforce dated May 1, 1997.  Incorporated by reference to the Company’s Quarterly Report on Form 10-Q for  the period ended June 30, 2002, filed with the Commission on August 14, 2002.                                                                                           |
| (10.17)  |   | 2000 Stock Option Agreement for Donald W.  Leforce dated May 1, 2000  Incorporated by reference to the Company’s Quarterly Report on Form 10-Q for  the period ended June 30, 2002, filed with the Commission on August 14, 2002..                                                                                           |
| (10.18)  |   | 1997 Stock Option Agreement for Ellis L.  Matthews dated May 1, 1997  Incorporated by reference to the Company’s Quarterly Report on Form 10-Q for  the period ended June 30, 2002, filed with the Commission on August 14, 2002..                                                                                           |
| (10.19)  |   | 2000 Stock Option Agreement for Ellis L.  Matthews dated May 1, 2000  Incorporated by reference to the Company’s Quarterly Report on Form 10-Q for  the period ended June 30, 2002, filed with the Commission on August 14, 2002..                                                                                           |
| (10.20)  |   | 1997 Stock Option Agreement for Robert L.  Morgan dated May 1, 1997  Incorporated by reference to the Company’s Quarterly Report on Form 10-Q for  the period ended June 30, 2002, filed with the Commission on August 14, 2002.                                                                                             |

 

61

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| (10.21) |   | 2000 Stock Option Agreement for Robert L.  Morgan dated May 1, 2000  Incorporated by reference to the Company’s Quarterly Report on Form 10-Q for  the period ended June 30, 2002, filed with the Commission on August 14, 2002..         |
|---------|--------|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| (10.22) |   | 1997 Stock Option Agreement for James S.  Rickards dated May 1, 1997. Incorporated  by reference to the Company’s Quarterly Report on Form 10-Q for the period  ended June 30, 2002, filed with the Commission on August 14, 2002.        |
| (10.23) |   | 2000 Stock Option Agreement for James S.  Rickards dated May 1, 2000 Incorporated  by reference to the Company’s Quarterly Report on Form 10-Q for the period  ended June 30, 2002, filed with the Commission on August 14, 2002..        |
| (10.24) |   | 1997 Stock Option Agreement for Gary B.  Strauss dated May 1, 1997  Incorporated by reference to the Company’s Quarterly Report on Form 10-Q for  the period ended June 30, 2002, filed with the Commission on August 14, 2002..          |
| (10.25) |   | 2000 Stock Option Agreement for Gary B.  Strauss dated May 1, 2000.  Incorporated by reference to the Company’s Quarterly Report on Form 10-Q for  the period ended June 30, 2002, filed with the Commission on August 14, 2002.          |
| (10.26) |   | 1997 Stock Option Agreement for Hubert I.  Townshend dated May 1, 1997  Incorporated by reference to the Company’s Quarterly Report on Form 10-Q for  the period ended June 30, 2002, filed with the Commission on August 14, 2002..      |
| (10.27) |   | 2000 Stock Option Agreement for Hubert I.  Townshend dated May 1, 2000  Incorporated by reference to the Company’s Quarterly Report on Form 10-Q for  the period ended June 30, 2002, filed with the Commission on August 14, 2002..      |
| (10.28) |   | Director Deferred Fee Agreement for M.  Robert Ching dated April 8, 1998  Incorporated by reference to the Company’s Quarterly Report on Form 10-Q for  the period ended June 30, 2002, filed with the Commission on August 14, 2002..    |
| (10.29) |   | Director Retirement Agreement for M. Robert  Ching dated April 14, 1998  Incorporated by reference to the Company’s Quarterly Report on Form 10-Q for  the period ended June 30, 2002, filed with the Commission on August 14, 2002..     |
| (10.30) |   | Director Retirement Agreement for Eugene B.  Even dated April 14, 1998  Incorporated by reference to the Company’s Quarterly Report on Form 10-Q for  the period ended June 30, 2002, filed with the Commission on August 14, 2002..      |
| (10.31) |   | Director Retirement Agreement for John D.  Lanam dated April 14, 1998. Incorporated  by reference to the Company’s Quarterly Report on Form 10-Q for the period  ended June 30, 2002, filed with the Commission on August 14, 2002.       |
| (10.32) |   | Director Deferred Fee Agreement for Donald  W. Leforce dated April 14, 1998  Incorporated by reference to the Company’s Quarterly Report on Form 10-Q for  the period ended June 30, 2002, filed with the Commission on August 14, 2002.. |
| (10.33) |   | Director Retirement Agreement for Donald W.  Leforce dated April 14, 1998  Incorporated by reference to the Company’s Quarterly Report on Form 10-Q for  the period ended June 30, 2002, filed with the Commission on August 14, 2002..   |
| (10.34) |   | Director Retirement Agreement for Ellis L.  Matthews dated April 14, 1998. Incorporated  by reference to the Company’s Quarterly Report on Form 10-Q for the period  ended June 30, 2002, filed with the Commission on August 14, 2002.   |
| (10.35) |   | Director Retirement Agreement for Robert L.  Morgan dated April 14, 1998  Incorporated by reference to the Company’s Quarterly Report on Form 10-Q for  the period ended June 30, 2002, filed with the Commission on August 14, 2002..    |
| (10.36) |   | Director Retirement Agreement James S.  Rickards dated April 14, 1998 Incorporated  by reference to the Company’s Quarterly Report on Form 10-Q for the period  ended June 30, 2002, filed with the Commission on August 14, 2002..       |
| (10.37) |   | Director Retirement Agreement for Gary B.  Strauss dated April 14, 1998. Incorporated  by reference to the Company’s Quarterly Report on Form 10-Q for the period  ended June 30, 2002, filed with the Commission on August 14, 2002.     |
| (10.38) |   | Director Retirement Agreement for Hubert I.  Townshend dated April 14, 1998.  Incorporated by reference to the Company’s Quarterly Report on Form 10-Q for  the period ended June 30, 2002, filed with the Commission on August 14, 2002. |

 

62

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| (10.39) |   | Lease agreement between Butte Community  Bank and Anna Laura Schilling Trust dated March 20, 2001, related to 900  Mangrove Ave., Chico, California. Incorporated  by reference to the Company’s Quarterly Report on Form 10-Q for the period  ended June 30, 2002, filed with the Commission on August 14, 2002.                                                                                     |
|---------|--------|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| (10.40) |   | Lease agreement between Butte Community  Bank and M&H Realty Partners IV L.P., a California limited partnership,  dated January 28, 2002, related to Unit #101-37 North Valley Plaza, East and  Cohasset Avenues, Chico, California. Incorporated  by reference to the Company’s Quarterly Report on Form 10-Q for the period  ended June 30, 2002, filed with the Commission on August 14, 2002. |
| (11)    |   | See Item 6. Selected Financial Data Note 1  for Statement re computation of earnings per share                                                                                                                                                                                                                                                                                                             |
| (12)    |   | See Item 6. Selected Financial Data Notes 2  through 6 for Statements re computation of ratios                                                                                                                                                                                                                                                                                                             |
| (23.1)  |   | Consent of Independent Registered Public  Accounting Firm                                                                                                                                                                                                                                                                                                                                                  |
| (31.1)  |   | Rule 13a-14(a)/15d-14(a) certification of  Chief Executive Officer                                                                                                                                                                                                                                                                                                                                         |
| (31.2)  |   | Rule 13a-14(a)/15d-14(a) certification of  Chief Financial Officer                                                                                                                                                                                                                                                                                                                                         |
| (32.1)  |   | Section 1350 certification of Chief  Executive Officer                                                                                                                                                                                                                                                                                                                                                     |
| (32.2)  |   | Section 1350 certification of Chief  Financial Officer                                                                                                                                                                                                                                                                                                                                                     |
| (99.1)  |   | 1991 Stock Option Plan is incorporated by  reference from the Company’s Registration Statement Form S-8, filed August  14, 2002.                                                                                                                                                                                                                                                                      |
| (99.2)  |   | 1997 Stock Option Plan is incorporated by  reference from the Company’s Registration Statement Form S-8, filed August  14, 2002.                                                                                                                                                                                                                                                                      |
| (99.3)  |   | 2000 Stock Option Plan is incorporated by  reference from the Company’s Registration Statement Form S-8, filed August  14, 2002.                                                                                                                                                                                                                                                                      |
| (99.4)  |   | Director Emeritus Plan dated March 20,  2001. Incorporated by reference to  the Company’s Quarterly Report on Form 10-Q for the period ended June 30,  2002, filed with the Commission on August 14, 2002.                                                                                                                                                                                            |

 

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(b)  Reports on Form 8-K

 

On October 18, 2004, theCompany issued a press release announcing earnings for the third quarter 2004.

 

On December 10, 2004, theCompany issued a press release announcing the opening of its subsidiary, CVBInsurance Agency, LLC.

 

On December 17, 2004, theCompany issued a press release announcing a seven and one half cent per sharedividend approved by the Board of Directors at their November 16, 2004 meeting.

 

On December 22, 2004, theCompany issued a press release announcing the opening of their branch office inColusa.

 

On January 31, 2005, theCompany issued a press release dated January 28, 2005, announcing earnings forthe fourth quarter and the full year 2004.

 

On February 2, 2005, theCompany issued a press release amending the press release dated January 28,2005.

 

64

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**SIGNATURES**

 

Pursuant to the requirements of Section 13 or 15(d) of the Securitiesand Exchange Act of 1934, the Registrant has duly caused this report to besigned on its behalf by the undersigned thereunto duly authorized.

 
| Dated: March 11, 2005 | **COMMUNITY VALLEY BANCORP** |
|-----------------------|------------------------------|
|                  | a California corporation     |
|                  |                         |   |
|                  | By:                          | /s*/ Keith C. Robbins* |   |
|                  |                         | Keith C. Robbins |
|                  |                         | President and Chief Executive Officer |
|                  |                         |   |
|                  | By:                          | */s/ John F. Coger* |   |
|                  |                         | John F. Coger |
|                  |                         | Executive Vice President  and Chief Financial Officer |
|                       |                              |  |  |  |

 

Pursuant to the requirements of the Securities Exchange Act of 1934,this report has been signed below by the following persons on behalf of theregistrant and in the capacities and on the dates indicated.

 
| **Signature**           | ** ** | **Title**            | ** **                        | **Date** |
|-------------------------|------------|----------------------|-----------------------------------|----------|
|                    |       |                 |                              |     |
| */s/ M. Robert Ching*   |       |                 | Director                          |     | March 11, 2005 |
| M. Robert Ching         |       |                 |                              |     |
|                    |       |                 |                              |     |
| */s/ John F. Coger*     | * *   |                 | Executive Vice President, CFO/COO |     | March 11, 2005 |
| John F. Coger           |       | and Director         |                              |     |
|                    |       |                 |                              |     |
| /*s/Eugene B. Even*     |       |                 | Director                          |     | March 11, 2005 |
| Eugene B. Even          |       |                 |                              |     |
|                    |       |                 |                              |     |
| */s/ John D. Lanam*     |       |                 | Director                          |     | March 11, 2005 |
| John D. Lanam           |       |                 |                              |     |
|                    |       |                 |                              |     |
| */s/ Donald W. Leforce* |       |                 | Chairman of the Board             |     | March 11, 2005 |
| Donald W. Leforce       |       |                 |                              |     |
|                    |       |                 |                              |     |
| */s/ Charles Mathews*   | * *   |                 | Director                          |     | March 11, 2005 |
| Charles Mathews         |       |                 |                              |     |
| * *                |       |                 |                              |     |
| */s/ Ellis L. Matthews* | * *   |                 | Director                          |     | March 11, 2005 |
| Ellis L. Matthews       |       |                 |                              |     |
|                    |       |                 |                              |     |
| */s Robert L. Morgan*   |       |                 | Director                          |     | March 11, 2005 |
| Robert L. Morgan        |       |                 |                              |     |
|                    |       |                 |                              |     |
| /s*/ Keith C. Robbins*  | * *   |                 | President, Chief Executive        |     | March 11, 2005 |
| Keith C. Robbins        |       | Officer and Director |                              |     |
|                    |       |                 |                              |     |
| */s/ James S. Rickards* |       |                 | Director and                      |     | March 11, 2005 |
| James S. Rickards       |       | Corporate Secretary  |                              |     |
|                    |       |                 |                              |     |
| */s/ Gary B. Strauss*   |       |                 | Director                          |     | March 11, 2005 |
| Gary B. Strauss         |       | Vice Chairman        |                              |     |
|                    |       |                 |                              |     |
| */s/ Hubert Townshend*  | * *   |                 | Director                          |     | March 11, 2005 |
| Hubert Townshend        |       |                 |                              |     |
|                         |            |                      |                                   |          |  |  |  |  |  |  |

 

65

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**COMMUNITYVALLEY BANCORP AND SUBSIDIARIES**

** **

**CONSOLIDATED FINANCIAL STATEMENTS**

 

**AS OF DECEMBER 31, 2004 AND 2003 AND**

 

**FOR THE YEARS ENDED**

 

**DECEMBER 31, 2004, 2003 AND 2002**

 

**AND**

 

**REPORT OF INDEPENDENT REGISTERED**

 

**PUBLIC ACCOUNTING FIRM**

 

66

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# ***REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM***

# *** ***

The Board of Directorsand Shareholders

Community Valley Bancorp

 

We haveaudited the accompanying consolidated balance sheet of Community Valley Bancorpand subsidiaries as of December 31, 2004 and 2003, and the related consolidatedstatements of income, changes in shareholders’ equity and cash flows for eachof the years in the three-year period ended December 31, 2004.  These financial statements are theresponsibility of the Company’s management. Our responsibility is to express an opinion on these financial statementsbased on our audits.

 

We conducted our audits in accordance with the standards of the PublicCompany Accounting Oversight Board (United States).  Those standards require that we plan andperform the audits to obtain reasonable assurance about whether theconsolidated financial statements are free of material misstatement.  An audit includes examining, on a test basis,evidence supporting the amounts and disclosures in the financial statements.  An audit also includes assessing theaccounting principles used and significant estimates made by management, aswell as evaluating the overall financial statement presentation.  We believe that our audits provide areasonable basis for our opinion.

 

In our opinion, the consolidated financial statements referred to abovepresent fairly, in all material respects, the consolidated financial positionof Community Valley Bancorp and subsidiaries as of December 31, 2004 and 2003and the consolidated results of their operations and their cash flows for eachof the years in the three-year period ended December 31, 2004, in conformitywith accounting principles generally accepted in the United States of America.

 

 

February 25, 2005

 

67

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**COMMUNITY VALLEY BANCORP AND SUBSIDIARIES**

 

**CONSOLIDATED BALANCE SHEET**

 

**December 31, 2004 and 2003**

 
| ** **                                                                                                                                   | ** ** | **2004**    | ** **  | **2003**    | ** ** |
|----------------------------------------------------------------------------------------------------------------------------------------------|------------|-------------|-------------|-------------|------------|
|                                                                                                                                         |       |        |        |        |       |
| **ASSETS**                                                                                                                                   |       |        |        |        |       |
| ** **                                                                                                                                   |       |        |        |        |       |
| Cash and due from banks                                                                                                                      |       | $           | 21,778,000  |        | $          | 26,204,700 |   |
| Federal funds sold                                                                                                                           |       | 46,440,000  |        | 50,605,000  |       |
|                                                                                                                                         |       |        |        |        |       |
| Total cash and cash equivalents                                                                                                              |       | 68,218,000  |        | 76,809,700  |       |
|                                                                                                                                         |       |        |        |        |       |
| Interest-bearing deposits in banks                                                                                                           |       | 8,715,000   |        | 7,925,000   |       |
| Loans held for sale, at lower of cost or  market                                                                                             |       | 1,489,800   |        | 2,279,100   |       |
| Investment securities (Note 2):                                                                                                              |       |        |        |        |       |
| Available-for-sale, at fair value                                                                                                            |       | 4,379,000   |        | 502,000     |       |
| Held-to-maturity, at cost                                                                                                                    |       | 2,581,900   |        | 3,822,500   |       |
| Loans, less allowance for loan losses of  $4,381,200 in 2004 and $3,587,200 in 2003 (Notes 3, 10 and 14)                                     |       | 339,173,900 |        | 270,231,300 |       |
| Premises and equipment, net (Note 5)                                                                                                         |       | 9,027,200   |        | 8,553,900   |       |
| Accrued interest receivable and other  assets (Notes 4, 13 and 15)                                                                           |       | 16,090,700  |        | 16,599,200  |       |
|                                                                                                                                         |       |        |        |        |       |
| Total assets                                                                                                                                 |       | $           | 449,675,500 |        | $          | 386,722,700 |   |
|                                                                                                                                         |       |        |        |        |       |
| **LIABILITIES  AND SHAREHOLDERS’ EQUITY**                                                                                               |       |        |        |        |       |
| ** **                                                                                                                                   |       |        |        |        |       |
| Deposits:                                                                                                                                    |       |        |        |        |       |
| Non-interest bearing                                                                                                                         |       | $           | 80,793,200  |        | $          | 68,463,100 |   |
| Interest bearing (Note 6)                                                                                                                    |       | 318,265,900 |        | 274,048,300 |       |
|                                                                                                                                         |       |        |        |        |       |
| Total deposits                                                                                                                               |       | 399,059,100 |        | 342,511,400 |       |
| Employee stock ownership plan (ESOP) note  payable (Notes 8 and 15)                                                                          |       | 833,200     |        | 831,900     |       |
| Junior subordinated debentures (Note 9)                                                                                                      |       | 8,248,000   |        | 8,248,000   |       |
| Accrued interest payable and other  liabilities (Note 15)                                                                                    |       | 7,004,100   |        | 5,182,900   |       |
|                                                                                                                                         |       |        |        |        |       |
| Total liabilities                                                                                                                            |       | 415,144,400 |        | 356,774,200 |       |
|                                                                                                                                         |       |        |        |        |       |
| Commitments and contingencies (Note 10)                                                                                                      |       |        |        |        |       |
|                                                                                                                                         |       |        |        |        |       |
| Shareholders’ equity (Note 11):                                                                                                         |       |        |        |        |       |
| Common stock - no par value; authorized –  20,000,000 shares, outstanding – 3,636,791 shares in 2004 and 3,621,824  shares in 2003 |       | 7,861,800   |        | 7,271,400   |       |
| Unallocated ESOP shares (89,628 shares in  2004 and 90,909 shares in 2003, at cost) (Note 15)                                                |       | (1,144,300  | )           | (1,070,700  | )          |
| Retained earnings                                                                                                                            |       | 27,802,000  |        | 23,745,700  |       |
| Accumulated other comprehensive income, net  of taxes (Note 2)                                                                               |       | 11,600      |        | 2,100       |       |
|                                                                                                                                         |       |        |        |        |       |
| Total shareholders’ equity                                                                                                              |       | 34,531,100  |        | 29,948,500  |       |
|                                                                                                                                         |       |        |        |        |       |
| Total liabilities and shareholders’ equity                                                                                              |       | $           | 449,675,500 |        | $          | 386,722,700 |   |

 

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

 

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**COMMUNITY VALLEY BANCORP AND SUBSIDIARIES**

 

**CONSOLIDATED STATEMENT OF INCOME**

 

### **Forthe Years Ended December 31, 2004, 2003 and 2002**

### ** **

| ** **                                                   | ** ** | **2004**   | ** ** | **2003**   | ** ** | **2002**   | ** ** |
|--------------------------------------------------------------|------------|------------|------------|------------|------------|------------|------------|
|                                                         |       |       |       |       |       |       |       |
| Interest income:                                             |       |       |       |       |       |       |       |
| Interest and fees on loans                                   |       | $          | 24,043,100 |       | $          | 20,528,000 |       | $ | 18,157,400 |   |
| Interest on Federal funds sold                               |       | 488,200    |       | 633,900    |       | 572,700    |       |
| Interest on deposits in banks                                |       | 244,400    |       | 201,400    |       | 81,200     |       |
| Interest on investment securities:                           |       |       |       |       |       |       |       |
| Taxable                                                      |       | 150,900    |       | 104,700    |       | 76,200     |       |
| Exempt from Federal income taxes                             |       | 53,600     |       | 48,600     |       | 89,400     |       |
|                                                         |       |       |       |       |       |       |       |
| Total interest income                                        |       | 24,980,200 |       | 21,516,600 |       | 18,976,900 |       |
|                                                         |       |       |       |       |       |       |       |
| Interest expense:                                            |       |       |       |       |       |       |       |
| Interest expense on deposits (Note 6)                        |       | 3,584,600  |       | 3,924,300  |       | 4,735,000  |       |
| Interest expense on junior subordinated debentures  (Note 9) |       | 437,700    |       | 438,800    |       |       |       |
| Interest expense on ESOP note payable (Notes  8 and 15)      |       | 33,400     |       | 33,100     |       | 39,500     |       |
|                                                         |       |       |       |       |       |       |       |
| Total interest expense                                       |       | 4,055,700  |       | 4,396,200  |       | 4,774,500  |       |
|                                                         |       |       |       |       |       |       |       |
| Net interest income before provision for  loan losses        |       | 20,924,500 |       | 17,120,400 |       | 14,202,400 |       |
|                                                         |       |       |       |       |       |       |       |
| Provision for loan losses (Note 3)                           |       | 790,000    |       | 655,000    |       | 603,000    |       |
|                                                         |       |       |       |       |       |       |       |
| Net interest income after provision for loan  losses         |       | 20,134,500 |       | 16,465,400 |       | 13,599,400 |       |
|                                                         |       |       |       |       |       |       |       |
| Non-interest income:                                         |       |       |       |       |       |       |       |
| Service charges and fees                                     |       | 2,086,200  |       | 1,397,300  |       | 1,028,300  |       |
| Gain on sale of loans                                        |       | 1,825,400  |       | 2,783,400  |       | 2,326,500  |       |
| Loan servicing income                                        |       | 382,700    |       | 379,500    |       | 356,200    |       |
| Other (Note 12)                                              |       | 1,724,000  |       | 1,390,200  |       | 2,453,000  |       |
|                                                         |       |       |       |       |       |       |       |
| Total non-interest income                                    |       | 6,018,300  |       | 5,950,400  |       | 6,164,000  |       |
|                                                         |       |       |       |       |       |       |       |
| Non-interest expenses:                                       |       |       |       |       |       |       |       |
| Salaries and employee benefits (Notes 3 and  15)             |       | 9,979,900  |       | 8,150,800  |       | 6,558,700  |       |
| Occupancy and equipment (Notes 5 and10)                      |       | 2,525,200  |       | 2,037,200  |       | 1,557,400  |       |
| Other (Note 12)                                              |       | 4,235,100  |       | 3,629,600  |       | 4,422,700  |       |
|                                                         |       |       |       |       |       |       |       |
| Total non-interest expenses                                  |       | 16,740,200 |       | 13,817,600 |       | 12,538,800 |       |
|                                                         |       |       |       |       |       |       |       |
| Income before provision for income taxes                     |       | 9,412,600  |       | 8,598,200  |       | 7,224,600  |       |
|                                                         |       |       |       |       |       |       |       |
| Provision for income taxes (Note 13)                         |       | 3,803,000  |       | 3,329,000  |       | 2,375,000  |       |
|                                                         |       |       |       |       |       |       |       |
| Net income                                                   |       | $          | 5,609,600  |       | $          | 5,269,200  |       | $ | 4,849,600 |   |
|                                                         |       |       |       |       |       |       |       |
| Basic earnings per share (Note 11)                           |       | $          | 1.58       |       | $          | 1.50       |       | $ | 1.40 |   |
|                                                         |       |       |       |       |       |       |       |
| Diluted earnings per share (Note 11)                         |       | $          | 1.48       |       | $          | 1.42       |       | $ | 1.33 |   |
|                                                              |            |            |            |            |            |            |            |  |  |  |  |  |  |  |

 

The accompanying notes are an integralpart of these consolidated financial statements.

 

69

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#### **COMMUNITY VALLEY BANCORP AND SUBSIDIARIES**

#### ** **

**CONSOLIDATED STATEMENT OF CHANGES INSHAREHOLDERS’ EQUITY**

 

**For the Years Ended December 31, 2004, 2003and 2002**

 
| ** **                                                                  | ** ** | **Common  Stock** | ** **   | **Unallocated  ESOP  Shares** | ** ** | **Retained** | ** ** | **Accumulated  Other  Compre-  hensive  Income  (Net of Taxes)** | ** ** | **Total  Share-  holders’  Equity** | ** ** | **Total  Compre-  hensive  Income** | ** ** |
|-----------------------------------------------------------------------------|------------|-------------------|--------------|-------------------------------|------------|--------------|------------|------------------------------------------------------------------|------------|------------------------------------------|------------|-------------------------------------|------------|
| **Shares**                                                                  | ** ** | **Amount**        | **Earnings** | ** **                    | ** ** | ** **   |
| ** **                                                                  | ** ** | ** **        | ** **   | ** **                    | ** ** | ** **   | ** ** | ** **                                                       | ** ** | ** **                               | ** ** | ** **                          | ** ** | ** ** | ** ** |
| Balance, January 1, 2002                                                    |       | 3,531,185         |         | $                             | 6,131,300  |         | (902,100   | )                                                                | $          | 15,591,000                               |       |                                |       | $ | 20,820,200 |   |   |   |
| Comprehensive  income:                                                      |       |              |         |                          |       |         |       |                                                             |       |                                     |       |                                |       |   |   |
| Net income                                                                  |       |              |         |                          |       |         |       | 4,849,600                                                        |       |                                     |       | 4,849,600                           |       | $ | 4,849,600 |   |
| Other  comprehensive income:                                                |       |              |         |                          |       |         |       |                                                             |       |                                     |       |                                |       |   |   |
| Net change in  unrealized gains on available-for-sale investment securities |       |              |         |                          |       |         |       |                                                             |       | $                                        | 14,100     |                                | 14,100     |   | 14,100 |   |
| Total  comprehensive income                                                 |       |              |         |                          |       |         |       |                                                             |       |                                     |       |                                |       | $ | 4,863,700 |   |
| Exercise of stock  options and related tax benefit (Note 11)                |       | 49,283            |         | 426,200                       |       |         |       |                                                             |       |                                     |       | 426,200                             |       |   |   |
| Amortization of  stock compensation - ESOP shares (Note 15)                 |       |              |         | 107,800                       |       | 50,200       |       |                                                             |       |                                     |       | 158,000                             |       |   |   |
| Cash dividends -  $.248 per share                                           |       |              |         |                          |       |         |       | (882,200                                                         | )          |                                     |       | (882,200                            | )          |   |   |
| Cash in lieu of  fractional shares in four- for-three stock split (Note 11) |       |              |         | (5,300                        | )          |         |       |                                                             |       |                                     |       | (5,300                              | )          |   |   |
| Balance, December  31, 2002                                                 |       | 3,580,468         |         | 6,660,000                     |       | (851,900     | )          | 19,558,400                                                       |       | 14,100                                   |       | 25,380,600                          |       |   |   |
| Comprehensive  income:                                                      |       |              |         |                          |       |         |       |                                                             |       |                                     |       |                                |       |   |   |
| Net income                                                                  |       |              |         |                          |       |         |       | 5,269,200                                                        |       |                                     |       | 5,269,200                           |       | $ | 5,269,200 |   |
| Other  comprehensive income:                                                |       |              |         |                          |       |         |       |                                                             |       |                                     |       |                                |       |   |   |
| Net change in  unrealized gains on available-for-sale investment securities |       |              |         |                          |       |         |       |                                                             |       | (12,000                                  | )          | (12,000                             | )          | (12,000 | ) |
| Total  comprehensive income                                                 |       |              |         |                          |       |         |       |                                                             |       |                                     |       |                                |       | $ | 5,257,200 |   |
| Exercise of stock  options and related tax benefit (Note 11)                |       | 41,356            |         | 461,900                       |       |         |       |                                                             |       |                                     |       | 461,900                             |       |   |   |
| Amortization of  stock compensation - ESOP shares (Note 15)                 |       |              |         | 149,500                       |       | 102,200      |       |                                                             |       |                                     |       | 251,700                             |       |   |   |
| Shares acquired  or redeemed by ESOP (Note 15)                              |       |              |         |                          |       | (321,000     | )          |                                                             |       |                                     |       | (321,000                            | )          |   |   |
| Cash dividends -  $0.30 per share                                           |       |              |         |                          |       |         |       | (1,081,900                                                       | )          |                                     |       | (1,081,900                          | )          |   |   |
| Balance, December  31, 2003                                                 |       | 3,621,824         |         | 7,271,400                     |       | (1,070,700   | )          | 23,745,700                                                       |       | 2,100                                    |       | 29,948,500                          |       |   |   |
| Comprehensive  income:                                                      |       |              |         |                          |       |         |       |                                                             |       |                                     |       |                                |       |   |   |
| Net income                                                                  |       |              |         |                          |       |         |       | 5,609,600                                                        |       |                                     |       | 5,609,600                           |       | $ | 5,609,600 |   |
| Other  comprehensive income:                                                |       |              |         |                          |       |         |       |                                                             |       |                                     |       |                                |       |   |   |
| Net change in  unrealized gains on available-for-sale investment securities |       |              |         |                          |       |         |       |                                                             |       | 9,500                                    |       | 9,500                               |       | 9,500 |   |
| Total  comprehensive income                                                 |       |              |         |                          |       |         |       |                                                             |       |                                     |       |                                |       | $ | 5,619,100 |   |
| Exercise of stock  options and related tax benefit (Note 11)                |       | 34,202            |         | 532,400                       |       |         |       |                                                             |       |                                     |       | 532,400                             |       |   |   |
| Amortization of  stock compensation - ESOP shares (Note 15)                 |       |              |         | 103,800                       |       | 76,400       |       |                                                             |       |                                     |       | 180,200                             |       |   |   |
| Shares acquired  or redeemed by ESOP (Note 15)                              |       |              |         |                          |       | (150,000     | )          |                                                             |       |                                     |       | (150,000                            | )          |   |   |
| Cash dividends -  $0.30 per share                                           |       |              |         |                          |       |         |       | (1,090,900                                                       | )          |                                     |       | (1,090,900                          | )          |   |   |
| Cash in lieu of  fractional shares in four- for-three stock split (Note 11) |       |              |         | (6,000                        | )          |         |       |                                                             |       |                                     |       | (6,000                              | )          |   |   |
| Repurchase and  retirement of common stock                                  |       | (19,235           | )            | (39,800                       | )          |         |       | (462,400                                                         | )          |                                     |       | (502,200                            | )          |   |   |
| Balance, December  31, 2004                                                 |       | 3,636,791         |         | $                             | 7,861,800  |         | (1,144,300 | )                                                                | $          | 27,802,000                               |       | $                                   | 11,600     |   | $ | 34,531,100 |   |   |   |
|                                                                             |            |                   |              |                               |            |              |            |                                                                  |            |                                          |            |                                     |            |  |  |  |  |  |  |  |  |  |  |

 

The accompanying notes are an integralpart of these consolidated financial statements.

 

70

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### **COMMUNITY VALLEY BANCORP AND SUBSIDIARIES**

### ** **

**CONSOLIDATED STATEMENT OF CASH FLOWS**

 

**For the Years Ended December 31, 2004, 2003and 2002**

 
| ** **                                                                         | ** ** | **2004**    | ** ** | **2003**    | ** ** | **2002**    | ** ** |
|------------------------------------------------------------------------------------|------------|-------------|------------|-------------|------------|-------------|------------|
|                                                                               |       |        |       |        |       |        |       |
| Cash flows from operating activities:                                              |       |        |       |        |       |        |       |
| Net income                                                                         |       | $           | 5,609,600  |        | $          | 5,269,200   |       | $ | 4,849,600 |   |
| Adjustments to reconcile net income to net cash  provided by operating activities: |       |        |       |        |       |        |       |
| Provision for loan losses                                                          |       | 790,000     |       | 655,000     |       | 603,000     |       |
| (Decrease) increase in loan origination fees,  net                                 |       | (11,000     | )          | 196,000     |       | 162,800     |       |
| Depreciation, amortization and accretion,  net                                     |       | 1,349,900   |       | 973,300     |       | 764,400     |       |
| Increase in cash surrender value of life insurance  policies, net                  |       | (284,400    | )          | (379,700    | )          | (176,600    | )          |
| Non-cash compensation cost associated with  the ESOP                               |       | 180,200     |       | 251,700     |       | 158,000     |       |
| Loss (gain) on disposition of equipment                                            |       |        |       | 8,400       |       | (153,000    | )          |
| Gain on life insurance death benefit                                               |       |        |       |        |       | (1,172,600  | )          |
| Decrease (increase) in loans held for sale                                         |       | 789,300     |       | 5,632,600   |       | (1,933,200  | )          |
| Decrease (increase) in accrued interest receivable  and other assets               |       | 1,218,500   |       | (1,019,700  | )          | (2,388,700  | )          |
| Increase in accrued interest payable and  other liabilities                        |       | 1,820,000   |       | 38,200      |       | 699,900     |       |
| Provision for deferred income taxes                                                |       | (64,000     | )          | (639,000    | )          | (634,000    | )          |
|                                                                               |       |        |       |        |       |        |       |
| Net cash provided by operating activities                                          |       | 11,398,100  |       | 10,986,000  |       | 779,600     |       |
|                                                                               |       |        |       |        |       |        |       |
| Cash flows from investing activities:                                              |       |        |       |        |       |        |       |
| Purchases of held-to-maturity investment securities                                |       | (1,012,700  | )          | (4,542,300  | )          | (1,617,000  | )          |
| Purchases of available-for-sale investment securities                              |       | (4,145,700  | )          |        |       |        |       |
| Proceeds from called available-for-sale investment  securities                     |       | 300,000     |       |        |       |        |       |
| Proceeds from matured or called held-to- maturity  investment securities           |       | 1,870,000   |       | 3,440,000   |       | 1,135,000   |       |
| Proceeds from principal repayments of held-to-maturity  investment securities      |       | 331,900     |       | 112,900     |       | 94,600      |       |
| Net increase in interest-bearing deposits  in banks                                |       | (790,000    | )          | (3,864,000  | )          | (3,367,000  | )          |
| Net increase in loans                                                              |       | (69,721,600 | )          | (41,383,100 | )          | (32,589,900 | )          |
| Premiums paid for life insurance policies                                          |       | (121,900    | )          | (1,626,200  | )          | (396,300    | )          |
| Death benefit from life insurance policies                                         |       |        |       |        |       | 1,750,000   |       |
| Purchases of premises and equipment                                                |       | (1,786,000  | )          | (2,869,600  | )          | (2,017,000  | )          |
| Proceeds from sale of equipment                                                    |       |        |       | 26,900      |       | 416,000     |       |
| Proceeds from sale of other real estate                                            |       |        |       |        |       | 12,600      |       |
|                                                                               |       |        |       |        |       |        |       |
| Net cash used in investing activities                                              |       | (75,076,000 | )          | (50,705,400 | )          | (36,579,000 | )          |
|                                                                                    |            |             |            |             |            |             |            |  |  |  |

 

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| ** **                                                                  | ** ** | **2004**   | ** ** | **2003**   | ** ** | **2002**    | ** ** |
|-----------------------------------------------------------------------------|------------|------------|------------|------------|------------|-------------|------------|
|                                                                        |       |       |       |       |       |        |       |
| Cash flows from financing activities:                                       |       |       |       |       |       |        |       |
| Net increase in demand, interest-bearing and  savings deposits              |       | $          | 37,110,000 |       | $          | 43,926,500  |       | $ | 72,408,500 |   |
| Net increase (decrease) in time deposits                                    |       | 19,437,500 |       | 604,100    |       | (20,847,600 | )          |
| Repayments of ESOP note payable                                             |       | (877,800   | )          | (221,200   | )          | (119,400    | )          |
| Proceeds from ESOP note payable                                             |       | 879,100    |       | 321,000    |       |        |       |
| Purchase of unallocated ESOP shares                                         |       | (150,000   | )          | (321,000   | )          |        |       |
| Proceeds from exercise of stock options                                     |       | 285,100    |       | 267,300    |       | 287,200     |       |
| Cash paid for fractional shares                                             |       | (6,000     | )          |       |       | (5,300      | )          |
| Payment of cash dividends                                                   |       | (1,089,500 | )          | (1,079,000 | )          | (812,200    | )          |
| Repurchase of common stock                                                  |       | (502,200   | )          |       |       |        |       |
| Proceeds from junior subordinated debentures                                |       |       |       |       |       | 8,248,000   |       |
|                                                                        |       |       |       |       |       |        |       |
| Net cash provided by financing activities                                   |       | 55,086,200 |       | 43,497,700 |       | 59,159,200  |       |
|                                                                        |       |       |       |       |       |        |       |
| Increase in cash and cash equivalents                                       |       | (8,591,700 | )          | 3,778,300  |       | 23,359,800  |       |
|                                                                        |       |       |       |       |       |        |       |
| Cash and cash equivalents at beginning of  year                             |       | 76,809,700 |       | 73,031,400 |       | 49,671,600  |       |
|                                                                        |       |       |       |       |       |        |       |
| Cash and cash equivalents at end of year                                    |       | $          | 68,218,000 |       | $          | 76,809,700  |       | $ | 73,031,400 |   |
|                                                                        |       |       |       |       |       |        |       |
| Supplemental disclosure of cash flow information:                           |       |       |       |       |       |        |       |
|                                                                        |       |       |       |       |       |        |       |
| Cash paid during the year for:                                              |       |       |       |       |       |        |       |
| Interest                                                                    |       | $          | 4,083,500  |       | $          | 4,395,700   |       | $ | 5,523,700 |   |
| Income taxes                                                                |       | $          | 2,830,000  |       | $          | 4,350,000   |       | $ | 2,751,000 |   |
|                                                                        |       |       |       |       |       |        |       |
| Non-cash investing activities:                                              |       |       |       |       |       |        |       |
| Net change in unrealized gain on available-  for-sale investment securities |       | $          | 9,500      |       | $          | (12,000     | )          | $ | 14,100 |   |
|                                                                        |       |       |       |       |       |        |       |
| Non-cash financing activities:                                              |       |       |       |       |       |        |       |
| Release of unallocated ESOP shares                                          |       | $          | 76,400     |       | $          | 102,200     |       | $ | 50,200 |   |
| Accrual of cash dividend declared                                           |       | $          | 272,800    |       | $          | 271,400     |       | $ | 268,500 |   |
|                                                                             |            |            |            |            |            |             |            |  |  |  |  |  |  |  |

 

The accompanying notes are an integralpart of these consolidated financial statements.

 

72

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##### **COMMUNITY VALLEY BANCORP AND SUBSIDIARIES**

##### ** **

**NOTES TO CONSOLIDATED FINANCIAL STATEMENTS**

 

**1.             SUMMARY OFSIGNIFICANT ACCOUNTING POLICIES**

 

###### General

 

In May 2002, Community Valley Bancorp (“Community Valley”) wasincorporated as a bank holding company for the purpose of acquiring ButteCommunity Bank (the “Bank”) in a one bank holding company reorganization.  In October 2004, Community Valley filed forstatus as a Financial Holding Company for the purpose of establishing CVBInsurance Agency LLC (“CVBIA”).  The newcorporate structure gives Community Valley, the Bank and CVBIA greaterflexibility in terms of operation, expansion and diversification.

 

Founded in 1990, the Bank is a state-chartered financial institutionwith eleven branches in eight cities including Chico, Magalia, Oroville,Paradise, Red Bluff, Colusa, Marysville and Yuba City and loan productionoffices in Citrus Heights and Redding. The Bank provides traditional deposit and lending services includingcommercial and construction loans, government guaranteed loans such as thoseavailable from the USDA and SBA, merchant services and investment services.

 

On December 19, 2002, Community Valley formed a wholly-ownedsubsidiary, Community Valley Bancorp Trust I (the “Trust”), a Delawarestatutory business trust, for the purpose of issuing trust preferred securities(see Note 9).

 

On December 1, 2004, Community Valley formed a wholly-owned subsidiary,CVB Insurance Agency LLC for the purpose of providing insurance relatedservices.

 

The accounting and reporting policies of Community Valley Bancorp andits subsidiaries (collectively, the “Company”) conform with accountingprinciples generally accepted in the United States of America and prevailingpractice within the banking industry. The more significant of these policies applied in the preparation of theaccompanying consolidated financial statements are discussed below.

 

###### Principlesof Consolidation

 

The accompanying consolidated financial statements include the accountsof Community Valley and its wholly-owned subsidiaries, Butte Community Bank andCVB Insurance Agency LLC.  Significantintercompany transactions and balances have been eliminated in consolidation.

 

For financial reporting purposes, the Company’s investment in the Trustof $248,000 (see Note 9) is accounted for under the equity method and isincluded in accrued interest receivable and other assets on the consolidatedbalance sheet.  The junior subordinateddebentures issued and guaranteed by the Company and held by the Trust arereflected as debt in the Company’s consolidated balance sheet.

 

Stock Splits

 

On February 20, 2004, the Board ofDirectors declared a four-for-three stock split effective March 26, 2004 forshareholders of record on March 2, 2004. On August 20, 2002, the Board of Directors declared a four-for-threestock split effective September 30, 2002 for shareholders of record onSeptember 16, 2002.  All share and pershare data has been retroactively adjusted to reflect these stock splits.

 

73

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###### Reclassifications

 

Certain reclassifications have been made to prior years’ balances toconform to classifications used in 2004.

 

Use of Estimates

 

The preparation of consolidated financial statements in conformity withaccounting principles generally accepted in the United States of Americarequires management to make estimates and assumptions.  These estimates and assumptions affect thereported amounts of assets and liabilities at the date of the financialstatements and the reported amounts of revenues and expenses during thereporting period.  Actual results coulddiffer from these estimates.

 

###### Cashand Cash Equivalents

 

For purposes of the consolidated statement of cash flows, cash and cashequivalents include cash and due from banks and federal funds sold.  Federal funds are generally sold for one-dayperiods.

 

###### ATMCash Funding Program

 

The Company has an ATM cash funding agreement through a correspondentbank.  The program provides fee income tothe Company equal to the average amount provided at the federal funds rate plusfifty basis points.  Under rules andregulations of the Federal Reserve Bank, these funds, totaling $8,970,000 atDecember 31, 2004, are considered to be vault cash and, accordingly, areincluded in the Company’s consolidated balance sheet as cash and due frombanks.

 

Investment Securities

 

Investment securities are classified intothe following categories:

 

•                                          Available-for-salesecurities, reported at fair value, with unrealized gains and losses excludedfrom earnings and reported, net of taxes, as accumulated other comprehensiveincome within shareholders’ equity.

 

•                                          Held-to-maturitysecurities, which management has the positive intent and ability to hold,reported at amortized cost, adjusted for the accretion of discounts andamortization of premiums.

 

Management determines the appropriate classification of its investmentsat the time of purchase and may only change the classification in certainlimited circumstances.  All transfersbetween categories are accounted for at fair value.

 

Gains or losses on the sale of investment securities are computed usingthe specific identification method. Interest earned on investment securities is reported in interest income,net of applicable adjustments for accretion of discounts and amortization ofpremiums.

 

74

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Investment securities are evaluated forimpairment on at least a quarterly basis and more frequently when economic ormarket conditions warrant such an evaluation to determine whether a decline intheir value is other than temporary. Management utilizes criteria such as the magnitude and duration of thedecline and the intent and ability of the Company to retain its investment inthe issues for a period of time sufficient to allow for an anticipated recoveryin fair value, in addition to the reasons underlying the decline, to determinewhether the loss in value is other than temporary.  The term “other than temporary” is notintended to indicate that the decline is permanent, but indicates that theprospects for a near-term recovery of value is not necessarily favorable, orthat there is a lack of evidence to support a realizable value equal to orgreater than the carrying value of the investment.  Once a decline in value is determined to beother than temporary, the value of the security is reduced and a corresponding chargeto earnings equal is recognized.

 

Loans

 

Loans are stated at principal balancesoutstanding, except for loans transferred from loans held for sale which arecarried at the lower of principal balance or market value at the date oftransfer, adjusted for accretion of discounts. Interest is accrued daily based upon outstanding loan balances.  However, when, in the opinion of management,loans are considered to be impaired and the future collectibility of interestand principal is in serious doubt, loans are placed on nonaccrual status and theaccrual of interest income is suspended. Any interest accrued but unpaid is charged against income.  Payments received are applied to reduceprincipal to the extent necessary to ensure collection.  Subsequent payments on these loans, orpayments received on nonaccrual loans for which the ultimate collectibility ofprincipal is not in doubt, are applied first to earned but unpaid interest andthen to principal.

 

A loan is considered impaired when, based on current information andevents, it is probable that the Company will be unable to collect all amountsdue (including both principal and interest) in accordance with the contractualterms of the loan agreement.  An impairedloan is measured based on the present value of expected future cash flowsdiscounted at the loan’s effective interest rate or, as a practical matter, atthe loan’s observable market price or the fair value of collateral if the loanis collateral dependent.  Interest incomeon impaired loans, if appropriate, is recognized on a cash basis.

 

Substantially all loan origination fees, commitment fees, direct loanorigination costs and purchase premiums and discounts on loans are deferred andrecognized as an adjustment of yield, to be amortized to interest income overthe contractual term of the loan.  Theunamortized balance of deferred fees and costs is reported as a component ofnet loans.

 

75

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Loans Held for Sale, Loan Sales and ServicingRights

 

The Company accounts for the transfer and servicing of financial assetsbased on the financial and servicing assets it controls and liabilities it hasincurred, derecognizes financial assets when control has been surrendered, andderecognizes liabilities when extinguished.

 

Servicing rights acquired through 1) a purchase or 2) the originationof loans which are sold with servicing rights retained are recognized asseparate assets or liabilities. Servicing assets or liabilities are recorded at the difference betweenthe contractual servicing fees and adequate compensation for performing theservicing, and are subsequently amortized in proportion to and over the periodof the related net servicing income or expense. Servicing assets are periodically evaluated for impairment.  Fair values are estimated using discountedcash flows based on current market interest rates.  For purposes of measuring impairment,servicing assets are stratified based on note rate and term.  The amount of impairment recognized is theamount by which the servicing assets for a stratum exceed their fair value.

 

Any servicing assets in excess of the contractually specified servicingfees have been reclassified at fair value as an interest-only (IO) stripreceivable and treated like an available-for-sale security.  The servicing asset, net of any requiredvaluation allowance, and IO strip receivable are included in accrued interestand other assets.

 

*GovernmentGuaranteed Loans*

 

Included in the loan portfolio are loans which are 85% to 90%guaranteed by the Small Business Administration (SBA), U.S. Department ofAgriculture, Rural Business – Cooperative Service (RBS) and Farm ServicesAgency (FSA).  The guaranteed portion ofthese loans may be sold to a third party, with the Company retaining theunguaranteed portion.  The Company generallyreceives a premium in excess of the adjusted carrying value of the loan at thetime of sale.  The Company may berequired to refund a portion of the sales premium if the borrower defaults orthe loan prepays within ninety days of the settlement date.

 

The Company’s investment in the loan is allocated between the retainedportion of the loan, the servicing asset, the IO strip, and the sold portion ofthe loan based on their relative fair values on the date the loan is sold.  The gain on the sold portion of the loan isrecognized as income at the time of sale. The carrying value of the retained portion of the loan is discountedbased on the estimated value of a comparable non-guaranteed loan.  The servicing asset is recognized andamortized over the estimated life of the related loan.  Significant future prepayments of these loanswill result in the recognition of additional amortization of related servicingassets and an adjustment to the carrying value of related IO strips.

 

The Company serviced SBA, RBS and FSA government guaranteed loans forothers totaling $68,608,700 and $63,510,800 as of December 31, 2004 and 2003,respectively.

 

76

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*MortgageLoans*

 

The Company originates mortgage loansthat are either held in the Company’s loan portfolio or sold in the secondarymarket.  Loans held for sale are carriedat the lower of cost or market value. Market value is determined by the specific identification method as ofthe balance sheet date or the date which the purchasers have committed topurchase the loans.  At the time the loanis sold, the related right to service the loan is either retained, with theCompany recognizing the servicing asset, or released in exchange for a one-timeservicing-released premium.  Loanssubsequently transferred to the loan portfolio are transferred at the lower ofcost or market value at the date of transfer. Any difference between the carrying amount of the loan and itsoutstanding principal balance is recognized as an adjustment to yield by theinterest method.

 

The Company serviced loans for the Federal National MortgageAssociation (FNMA) totaling $161,831,700 and $155,994,200 as of December 31,2004 and 2003, respectively.

 

*Participation Loans*

 

The Company also serviced loans which it has participated with otherfinancial institutions totaling $2,615,800 and $3,200,100 as of December 31,2004 and 2003, respectively.

 

## Allowancefor Loan Losses

 

The allowance for loan losses is maintained to provide for lossesrelated to impaired loans and other losses that can be reasonably expected tooccur in the normal course of business. The determination of the allowance for loan losses is based on estimatesmade by management, to include consideration of the character of the loanportfolio, specifically identified problem loans, potential losses inherent inthe portfolio taken as a whole and economic conditions in the Company’s servicearea.

 

Loans determined to be impaired orclassified are individually evaluated by management for specific risk ofloss.  In addition, a reserve factor isassigned to currently performing loans based on management’s assessment of thefollowing for each identified loan type: (1) inherent credit risk, (2) historical losses and, (3) where theCompany has not experienced losses, the loss experience of peer banks.  These estimates are particularly susceptibleto changes in the economic environment and market conditions.

 

The Company’s Board of Directors reviews the adequacy of the allowancefor loan losses at least quarterly, to include consideration of the relativerisks in the portfolio and current economic conditions.  The allowance for loan losses is adjustedbased on that review if, in the judgment of the Board of Directors andmanagement, changes are warranted.

 

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The allowance for loan losses is established through a provision forloan losses which is charged to expense. Additions to the allowance for loan losses are expected to maintain theadequacy of the total allowance after loan losses and loan growth.  The allowance for loan losses atDecember 31, 2004 and 2003 reflects management’s estimate of possiblelosses in the portfolio.

 

###### Premisesand Equipment

 

Premises and equipment are carried at cost.  Depreciation is determined using thestraight-line method over the estimated useful lives of the relatedassets.  The useful lives of premises areestimated to be thirty to thirty-nine years. Leasehold improvements are amortized over the life of the improvement orthe life of the related lease, whichever is shorter.  The useful lives of furniture, fixtures andequipment are estimated to be three to ten years.  When assets are sold or otherwise disposedof, the cost and related accumulated depreciation are removed from theaccounts, and any resulting gain or loss is recognized in income for theperiod.  The cost of maintenance andrepairs is charged to expense as incurred.

 

The Company evaluates premises and equipment for financial impairmentas events or changes in circumstances indicate that the carrying amount of suchassets may not be fully recoverable.

 

Income Taxes

 

The Company files its income taxes on aconsolidated basis with its subsidiaries. The allocation of income tax expense (benefit) represents each entity’sproportionate share of the consolidated provision for income taxes.

 

The Company accounts for income taxesusing the liability or balance sheet method. Under this method, deferred tax assets and liabilities are recognizedfor the tax consequences of temporary differences between the reported amountsof assets and liabilities and their tax bases. Deferred tax assets and liabilities are adjusted for the effects ofchanges in tax laws and rates on the date of enactment.  On the consolidated balance sheet, netdeferred tax assets are included in accrued interest receivable and otherassets.

 

###### EarningsPer Share

 

Basic earnings per share (EPS), which excludes dilution, is computed bydividing income available to common shareholders by the weighted-average numberof common shares outstanding for the period, excluding the effect ofunallocated shares of the Employee Stock Ownership Plan.  Diluted EPS reflects the potential dilutionthat could occur if securities or other contracts to issue common stock, suchas stock options, result in the issuance of common stock which shares in theearnings of the Company.  The treasurystock method has been applied to determine the dilutive effect of stock optionsin computing diluted EPS.

 

78

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###### Comprehensive Income

 

Comprehensive income is a more inclusive financialreporting methodology that includes disclosure of other comprehensive income(loss) that historically has not been recognized in the calculation of netincome.  Unrealized gains or losses onthe Company’s available-for-sale investment securities and IO strip are theprinciple source of other comprehensive income or loss.  Total comprehensive income and the componentsof accumulated other comprehensive income (loss) are presented in theconsolidated statement of changes in shareholders’ equity.

 

###### Stock-Based Compensation

 

At December 31, 2004, the Company has threestock-based compensation plans, which are described more fully in Note 11.  The Company accounts for these plans underthe recognition and measurement principles of APB Opinion No. 25, *Accounting for Stock Issued to Employees*,and related Interpretations.  Nostock-based compensation cost is reflected in net income, as all optionsgranted under these plans had an exercise price equal to the market value ofthe underlying common stock on the date of grant.

 

The following table illustrates the effect on netincome and earnings per share if the Company had applied the fair valuerecognition provisions of FASB Statement No. 123, *Accounting for Stock-Based Compensation*, to stock-basedcompensation.  Pro forma adjustments tothe Company’s consolidated net earnings and earnings per share are disclosedduring the years in which the options become vested.

 
| ** **                                                                                                                               | ** ** | **2004**   | ** ** | **2003**   | ** ** | **2002**   | ** ** |
|------------------------------------------------------------------------------------------------------------------------------------------|------------|------------|------------|------------|------------|------------|------------|
| ** **                                                                                                                               | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| Net income,  as reported                                                                                                                 |       | $          | 5,609,600  |       | $          | 5,269,200  |       | $ | 4,849,600 |   |
| Deduct:  Total stock-based compensation expense determined under the fair value based  method for all awards, net of related tax effects |       | 310,900    |       | 264,700    |       | 273,900    |       |
|                                                                                                                                     |       |       |       |       |       |       |       |
| Pro forma  net income                                                                                                                    |       | $          | 5,298,700  |       | $          | 5,004,500  |       | $ | 4,575,700 |   |
|                                                                                                                                     |       |       |       |       |       |       |       |
| Basic  earnings per share -as reported                                                                                                   |       | $          | 1.58       |       | $          | 1.50       |       | $ | 1.40 |   |
| Basic  earnings per share - pro forma                                                                                                    |       | $          | 1.49       |       | $          | 1.42       |       | $ | 1.32 |   |
|                                                                                                                                     |       |       |       |       |       |       |       |
| Diluted  earnings per share - as reported                                                                                                |       | $          | 1.48       |       | $          | 1.42       |       | $ | 1.33 |   |
| Diluted  earnings per share - pro forma                                                                                                  |       | $          | 1.40       |       | $          | 1.36       |       | $ | 1.28 |   |

 

79

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The fair value of eachoption is estimated on the date of grant using an option-pricing model with thefollowing assumptions:

 
| ** **                                                      | ** ** | **2004** | ** ** | **2003** | ** ** |
|-----------------------------------------------------------------|------------|----------|------------|----------|------------|
| Expected volatility                                             |       | 15.21    | %          | 30.09    | %          |
| Risk-free interest rate                                         |       | 4.02     | %          | 4.52     | %          |
| Expected option life                                            |       | 10 years |       | 10 years |       |
| Expected dividend yield                                         |       | 1.36     | %          | 1.72     | %          |
| Weighted average fair  value of options granted during the year |       | $        | 7.70       |     | $          | 7.31 |   |
|                                                                 |            |          |            |          |            |  |  |

 

There were no stock options granted in 2002.

 

Impact of New Financial Accounting Standards

 

### ***Other-Than-TemporaryImpairment of Securities***

### ** **

In June 2004, the Financial AccountingStandards Board (FASB) ratified Emerging Issues Task Force (EITF) Issue 03-1, *The Meaning of Other-than-Temporary Impairment andIts Application to Certain Investments* (EITF 03-1).  EITF 03-1 includes additional guidance forevaluating and recording impairment losses on debt and equity investments, aswell as disclosure requirements for investments that are deemed to betemporarily impaired.  The proposedguidance indicates that an investor must have the intent and ability to hold aninvestment until a forecasted recovery of the fair value up to or beyond thecost of the investment in order to determine that any impairment istemporary.  In September 2004, theFASB delayed the effective date of the recognition and measurement guidance ofEITF 03-1, pending further deliberations. The disclosures for investments that are deemed temporarily impaired areincluded in Note 2 to the consolidated financial statements.  Once the FASB has reached a final decision onthe measurement and recognition provisions, the Company will evaluate theimpact of the adoption of EITF 03-1.

 

***Share-Based Payments***

** **

InDecember 2004 the FASB issued Statement Number 123 (revised 2004)(FAS 123 (R)), *Share-BasedPayments*.  FAS 123 (R)requires all entities to recognize compensation expense in an amount equal tothe fair value of share-based payments such as stock options granted toemployees.  The Company is required toapply FAS 123 (R) on a modified prospective method.  Under this method, the Company is required torecord compensation expense (as previous awards continue to vest) for theunvested portion of previously granted awards that remain outstanding at thedate of adoption.  In addition, theCompany may elect to adopt FAS 123 (R) by restating previously issued financialstatements, basing the expense on that previously reported in their pro formadisclosures required by FAS 123.  FAS 123(R) is effective for the first reporting period beginning after June 15,2005. Management has not completed its evaluation of the effect that FAS 123(R) will have, but believes that the effect will be consistent with itsprevious pro forma disclosures.

 

80

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***Accounting for Loans or Debt Securities Acquired in aTransfer***

** **

In December 2003, the Accounting StandardsExecutive Committee of the American Institute of Certified Public Accountantsissued Statement of Position 03-03, *Accountingfor Certain Loans or Debt Securities Acquired in a Transfer*(SOP).  This SOP addresses accounting fordifferences between contractual cash flows and cash flows expected to be collectedfrom an investor’s initial investment in loans or debt securities (loans)acquired in a transfer if those differences are attributable, at least in part,to credit quality.  It also includes suchloans acquired in purchase business combinations.  This SOP does not apply to loans originatedby the entity.  This SOP limits the yieldthat may be accreted and requires that the excess of contractual cash flowsover cash flows expected to be collected not be recognized as an adjustment ofyield, loss accrual, or valuation allowance.

 

This SOP prohibits “carrying over” or creation ofvaluation allowances in the initial accounting for loans acquired in a transferthat are within the scope of this SOP. The prohibition of the valuation allowance carryover applies to thepurchase of an individual loan, a pool of loans, a group of loans, and loansacquired in a purchase business combination.

 

This SOP is effective for loans acquired in fiscalyears beginning after December 15, 2004. In management’s opinion, the adoption of this pronouncement will nothave a material impact on the Company’s financial position or results ofoperations.

 

**2.****                                     ****INVESTMENT SECURITIES**

 

The amortized cost andestimated fair value of investment securities at December 31, 2004 and2003 consisted of the following:

 

Available-for-Sale:

 
| ** **                                        | ** ** | **2004**            | ** ** |
|---------------------------------------------------|------------|---------------------|------------|
| ** **                                        | ** ** | **Amortized  Cost** | ** ** | **Gross  Unrealized  Gains** | ** ** | **Gross  Unrealized  Losses** | ** ** | **Estimated  Fair  Value** | ** ** |
| ** **                                        | ** ** | ** **          | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| Debt  securities:                                 |       |                |       |   |   |   |   |   |   |
| U.S.  Government agencies                         |       | $                   | 2,000,000  |   |   |   | $ | (9,000 | ) | $ | 1,991,000 |   |
| Obligations  of states and political subdivisions |       | 1,356,100           |       | $ | 20,900 |   |   |   | 1,377,000 |   |
| Treasuries                                        |       | 1,003,600           |       | 7,400 |   |   |   | 1,011,000 |   |
|                                              |       |                |       |   |   |   |   |   |   |
|                                              |       | $                   | 4,359,700  |   | $ | 28,300 |   | $ | (9,000 | ) | $ | 4,379,000 |   |

 

81

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| ** **                                        | ** ** | **2003**            | ** ** |
|---------------------------------------------------|------------|---------------------|------------|
| ** **                                        | ** ** | **Amortized  Cost** | ** ** | **Gross  Unrealized  Gains** | ** ** | **Gross  Unrealized  Losses** | ** ** | **Estimated  Fair  Value** | ** ** |
| ** **                                        | ** ** | ** **          | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| Debt  securities:                                 |       |                |       |   |   |   |   |   |   |
| U.S.  Government agencies                         |       | $                   | 299,900    |   | $ | 2,100 |   |   |   | $ | 302,000 |   |
| Obligations  of states and political subdivisions |       | 200,000             |       |   |   |   |   | 200,000 |   |
|                                              |       |                |       |   |   |   |   |   |   |
|                                              |       | $                   | 499,900    |   | $ | 2,100 |   | $ | — |   | $ | 502,000 |   |
|                                                   |            |                     |            |  |  |  |  |  |  |  |  |  |  |

 

Net unrealized gains on available-for-saleinvestment securities totaling $19,300 and $2,100 were recorded, net of $7,700and $0 in tax liabilities, respectively, as accumulated other comprehensiveincome within shareholders’ equity at December 31, 2004 and 2003,respectively.  There were no sales ortransfers of available-for-sale investment securities for the years ended December 31,2004, 2003 and 2002.

 

Held-to-Maturity:

 
| ** **                                        | ** ** | **2004**            | ** ** |
|---------------------------------------------------|------------|---------------------|------------|
| ** **                                        | ** ** | **Amortized  Cost** | ** ** | **Gross  Unrealized  Gains** | ** ** | **Gross  Unrealized  Losses** | ** ** | **Estimated  Fair  Value** | ** ** |
| ** **                                        | ** ** | ** **          | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| Debt  securities:                                 |       |                |       |   |   |   |   |   |   |
| U.S.  Government agencies                         |       | $                   | 2,481,300  |   | $ | 10,100 |   | $ | (8,900 | ) | $ | 2,482,500 |   |
| Obligations  of states and political subdivisions |       | 100,600             |       | 900 |   |   |   | 101,500 |   |
|                                              |       |                |       |   |   |   |   |   |   |
|                                              |       | $                   | 2,581,900  |   | $ | 11,000 |   | $ | (8,900 | ) | $ | 2,584,000 |   |

 
| ** **                                        | ** ** | **2003**            | ** ** |
|---------------------------------------------------|------------|---------------------|------------|
| ** **                                        | ** ** | **Amortized  Cost** | ** ** | **Gross  Unrealized  Gains** | ** ** | **Gross  Unrealized  Losses** | ** ** | **Estimated  Fair  Value** | ** ** |
| ** **                                        | ** ** | ** **          | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| Debt  securities:                                 |       |                |       |   |   |   |   |   |   |
| U.S.  Government agencies                         |       | $                   | 3,278,100  |   | $ | 18,100 |   | $ | (26,400 | ) | $ | 3,269,800 |   |
| Obligations  of states and political subdivisions |       | 544,400             |       | 9,500 |   |   |   | 553,900 |   |
|                                              |       |                |       |   |   |   |   |   |   |
|                                              |       | $                   | 3,822,500  |   | $ | 27,600 |   | $ | (26,400 | ) | $ | 3,823,700 |   |

 

There were no sales ortransfers of held-to-maturity investment securities for the years ended December 31,2004, 2003 and 2002.

 

82

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Held-to-Maturity:

 

At December 31, 2004, the Company held thirteeninvestment securities of which four U.S. Government agencies securities, withan estimated fair value of $3,927,000, had gross unrealized losses of$17,900.  None of these unrealized losseshave been in a continuous loss position for more than a year.  Management periodically evaluates eachinvestment security for other than temporary impairment relying primarily onindustry analyst reports, observation of market conditions and interest ratefluctuations.  Management believes itwill be able to collect all amounts due according to the contractual terms ofthe underlying investment securities and that the noted decline in fair valueis considered temporary and due only to interest rate fluctuations.

 

The amortized cost andestimated fair value of investment securities at December 31, 2004, bycontractual maturity, are shown below. Expected maturities will differ from contractual maturities because theissuers of securities may have the right to call or prepay obligations with orwithout prepayment penalties.

 
| ** **                                                          | ** ** | **Available-for-Sale** | ** ** | **Held-to-Maturity**       | ** ** |
|---------------------------------------------------------------------|------------|------------------------|------------|----------------------------|------------|
| ** **                                                          | ** ** | **Amortized  Cost**    | ** ** | **Estimated  Fair  Value** | ** ** | **Amortized  Cost** | ** ** | **Estimated  Fair  Value** | ** ** |
| ** **                                                          | ** ** | ** **             | ** ** | ** **                 | ** ** | ** ** | ** ** | ** ** | ** ** |
| Within one  year                                                    |       |                   |       |                       |       | $ | 100,600 |   | $ | 101,500 |   |
| After one  year through five years                                  |       | $                      | 2,000,000  |                       | $          | 1,991,000 |   | 1,001,200 |   | 997,200 |   |
| After five  years through ten years                                 |       | 1,003,600              |       | 1,011,000                  |       |   |   |   |   |
| After ten  years                                                    |       | 1,356,100              |       | 1,377,000                  |       |   |   |   |   |
|                                                                |       | 4,359,700              |       | 4,379,000                  |       | 1,101,800 |   | 1,098,700 |   |
| Investment  securities not due at a single maturity date: SBA pools |       |                   |       |                       |       | 1,480,100 |   | 1,485,300 |   |
|                                                                |       |                   |       |                       |       |   |   |   |   |
|                                                                |       | $                      | 4,359,700  |                       | $          | 4,379,000 |   | $ | 2,581,900 |   | $ | 2,584,000 |   |

 

Investment securitieswith amortized costs totaling $2,304,200 and $994,400 and fair values totaling$2,297,000 and $1,004,000 were pledged to secure public deposits and treasury,tax and loan accounts at December 31, 2004 and 2003, respectively.

 

83

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**3.****                                     ****LOANS**

 

Outstanding loans aresummarized as follows:

 
| ** **                           | ** ** | **December 31,** | ** **  |
|--------------------------------------|------------|-----------------------|-------------|
| ** **                           | ** ** | **2004**              | ** **  | **2003** | ** ** |
| Real estate  - mortgage              |       | $                     | 146,875,600 |   | $ | 114,911,700 |   |
| Real estate  - construction          |       | 90,643,000            |        | 63,195,500 |   |
| Commercial                           |       | 58,662,200            |        | 54,076,500 |   |
| Agricultural                         |       | 22,176,500            |        | 20,819,900 |   |
| Installment                          |       | 26,219,300            |        | 21,847,400 |   |
|                                 |       |                  |        |   |   |
|                                 |       | 344,576,600           |        | 274,851,000 |   |
|                                 |       |                  |        |   |   |
| Deferred  loan origination fees, net |       | (1,021,500            | )           | (1,032,500 | ) |
| Allowance  for loan losses           |       | (4,381,200            | )           | (3,587,200 | ) |
|                                 |       |                  |        |   |   |
|                                 |       | $                     | 339,173,900 |   | $ | 270,231,300 |   |

 

Changes in the allowancefor loan losses were as follows:

 
| ** **                       | ** ** | **Year Ended December 31,** | ** ** |
|----------------------------------|------------|----------------------------------|------------|
| ** **                       | ** ** | **2004**                         | ** ** | **2003** | ** ** | **2002** | ** ** |
| ** **                       | ** ** | ** **                       | ** ** | ** ** | ** ** | ** ** | ** ** |
| Balance,  beginning of year      |       | $                                | 3,587,200  |   | $ | 3,006,800 |   | $ | 2,396,700 |   |
| Provision  charged to operations |       | 790,000                          |       | 655,000 |   | 603,000 |   |
| Losses  charged to allowance     |       | (23,600                          | )          | (81,200 | ) | (7,400 | ) |
| Recoveries                       |       | 27,600                           |       | 6,600 |   | 14,500 |   |
|                             |       |                             |       |   |   |   |   |
| Balance, end  of year            |       | $                                | 4,381,200  |   | $ | 3,587,200 |   | $ | 3,006,800 |   |

 

At December 31,2004 and 2003, nonaccrual loans totaled $101,300 and $54,200, which wereconsidered impaired loans.  There was novaluation allowance related to these loans in 2004 or 2003.  Interest foregone on nonaccrual loans totaled$1,000, $1,200 and $35,400 for the years ended December 31, 2004, 2003 and2002, respectively.  Interest recognizedfor cash payment received on nonaccrual loans was not significant for the yearsended December 31, 2004, 2003 and 2002, respectively.

 

The Company did not hold any real estate acquired byforeclosure at December 31, 2004 or 2003.

 

Salaries and employee benefits totaling $1,190,100,$1,032,300 and $980,100 have been deferred as loan origination costs for theyears ended December 31, 2004, 2003 and 2002, respectively.

 

84

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**4.****                                     ****ACCRUED INTEREST RECEIVABLE ANDOTHER ASSETS**

 

Accrued interest receivable and other assetsconsisted of the following:

 
| ** **                                                 | ** ** | **December 31,** | ** ** |
|------------------------------------------------------------|------------|-----------------------|------------|
| ** **                                                 | ** ** | **2004**              | ** ** | **2003** | ** ** |
| ** **                                                 | ** ** | ** **            | ** ** | ** ** | ** ** |
| Accrued  interest receivable                               |       | $                     | 2,758,400  |   | $ | 2,607,300 |   |
| Deferred tax  assets, net (Note 13)                        |       | 2,844,000             |       | 2,787,000 |   |
| Cash  surrender value of life insurance policies (Note 15) |       | 6,703,100             |       | 6,296,800 |   |
| Mortgage  servicing assets                                 |       | 1,348,200             |       | 1,397,000 |   |
| Prepaid  expenses                                          |       | 1,019,400             |       | 872,200 |   |
| Other                                                      |       | 1,417,600             |       | 2,638,900 |   |
|                                                       |       |                  |       |   |   |
|                                                       |       | $                     | 16,090,700 |   | $ | 16,599,200 |   |

 

Originated mortgage servicing assets totaling$514,700, $1,111,400 and $546,000 were recognized during the years ended December 31,2004, 2003 and 2002, respectively. Amortization of mortgage servicing assets totaled $380,600, $475,700 and$209,900 for the years ended December 31, 2004, 2003 and 2002,respectively.

 

**5.****                                     ****PREMISES AND EQUIPMENT**

 

Premises and equipmentconsisted of the following:

 
| ** **                                      | ** ** | **December 31,** | ** ** |
|-------------------------------------------------|------------|-----------------------|------------|
| ** **                                      | ** ** | **2004**              | ** ** | **2003** | ** ** |
| ** **                                      | ** ** | ** **            | ** ** | ** ** | ** ** |
| Land                                            |       | $                     | 1,518,600  |   | $ | 1,192,800 |   |
| Buildings  and improvements                     |       | 5,761,300             |       | 5,667,200 |   |
| Furniture,  fixtures and equipment              |       | 6,241,700             |       | 5,106,200 |   |
| Leasehold  improvements                         |       | 841,500               |       | 690,100 |   |
| Construction  in progress                       |       | 75,400                |       | 137,600 |   |
|                                            |       |                  |       |   |   |
|                                            |       | 14,438,500            |       | 12,793,900 |   |
|                                            |       |                  |       |   |   |
| Less  accumulated depreciation and amortization |       | 5,411,300             |       | 4,240,000 |   |
|                                            |       |                  |       |   |   |
|                                            |       | $                     | 9,027,200  |   | $ | 8,553,900 |   |

 

Depreciation and amortization included in occupancyand equipment expense totaled $1,312,700, $933,500 and $742,800 for the yearsended December 31, 2004, 2003 and 2002, respectively.

 

 

85

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**6.****                                     ****INTEREST-BEARING DEPOSITS**

 

Interest-bearingdeposits consisted of the following:

 
| ** **                      | ** ** | **December 31,** | ** **  |
|---------------------------------|------------|-----------------------|-------------|
| ** **                      | ** ** | **2004**              | ** **  | **2003** | ** ** |
| ** **                      | ** ** | ** **            | ** **  | ** ** | ** ** |
| Savings                         |       | $                     | 33,824,200  |   | $ | 24,945,800 |   |
| Money market                    |       | 40,118,900            |        | 33,819,500 |   |
| NOW accounts                    |       | 140,270,700           |        | 130,275,200 |   |
| Individual  retirement accounts |       | 6,818,000             |        | 7,211,100 |   |
| Time,  $100,000 or more         |       | 46,120,200            |        | 31,393,700 |   |
| Other time                      |       | 51,113,900            |        | 46,403,000 |   |
|                            |       |                  |        |   |   |
|                            |       | $                     | 318,265,900 |   | $ | 274,048,300 |   |

 

Aggregate annualmaturities of time deposits at December 31, 2004 are as follows:

 
| **Year Ending  December 31,** | ** ** | ** ** | ** ** |
|------------------------------------|------------|------------|------------|
| ** **                         | ** ** | ** ** | ** ** |
| 2005                               |       | $          | 88,195,100 |   |
| 2006                               |       | 5,371,600  |       |
| 2007                               |       | 1,281,600  |       |
| 2008                               |       | —     |       |
| After 2008                         |       | 2,385,800  |       |
|                               |       |       |       |
|                               |       | $          | 97,234,100 |   |

 

Interest expense recognized on interest-bearingdeposits consisted of the following:

 
| ** **                      | ** ** | **Year Ended December 31,** | ** ** |
|---------------------------------|------------|----------------------------------|------------|
| ** **                      | ** ** | **2004**                         | ** ** | **2003** | ** ** | **2002** | ** ** |
| ** **                      | ** ** | ** **                       | ** ** | ** ** | ** ** | ** ** | ** ** |
| Savings                         |       | $                                | 145,100    |   | $ | 121,500 |   | $ | 173,400 |   |
| Money market                    |       | 284,400                          |       | 356,500 |   | 341,400 |   |
| NOW accounts                    |       | 810,800                          |       | 1,049,700 |   | 1,042,800 |   |
| Individual  retirement accounts |       | 161,300                          |       | 185,400 |   | 218,400 |   |
| Time,  $100,000 or more         |       | 1,136,200                        |       | 853,200 |   | 807,300 |   |
| Other time                      |       | 1,046,800                        |       | 1,358,000 |   | 2,151,700 |   |
|                            |       |                             |       |   |   |   |   |
|                            |       | $                                | 3,584,600  |   | $ | 3,924,300 |   | $ | 4,735,000 |   |

 

**7.****                                     ****SHORT-TERM BORROWING ARRANGEMENTS**

 

The Company has$15,000,000 in unsecured borrowing arrangements with two of its correspondentbanks to meet short-term liquidity needs. There were no borrowings outstanding under these arrangements at December 31,2004 and 2003.

 

 

86

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**8.****                                     ****EMPLOYEE STOCK OWNERSHIP PLAN(ESOP) NOTE PAYABLE**

 

The ESOP obtainedfinancing through a $1,200,000 unsecured line of credit from another financialinstitution with the Company acting as the guarantor (see Note 15).  The note has a variable interest rate, basedon an independent index, and a maturity date of November 12, 2012.  At December 31, 2004, the interest ratewas 5.0%.  Advances on the line of credittotaled $833,200 and $831,900 at December 31, 2004 and 2003, respectively.

 

**9.**                                      JUNIORSUBORDINATED DEBENTURES

** **

Community Valley Bancorp Trust I (CVB Trust I) is aDelaware statutory business trust formed by the Company for the sole purpose ofissuing trust preferred securities fully and unconditionally guaranteed by theCompany.  Under applicable regulatoryguidance, the amount of trust preferred securities that is eligible as Tier 1capital is limited to twenty-five percent of the Company’s Tier 1 capital on apro forma basis.  At December 31,2004, all of the trust preferred securities that have been issued qualify asTier 1 capital.

 

In December 2002, the Company issued to CVBTrust I Subordinated Debentures due December 31, 2032.  Simultaneously, CVB Trust I issued 8,000floating rate trust preferred securities, with liquidation values of $1,000 persecurity, for gross proceeds of $8,000,000. The Subordinated Debentures represent the sole assets of the Trust.  The Subordinated Debentures are redeemable bythe Company, subject to receipt by the Company of prior approval from theFederal Reserve Bank (FRB), if then required under applicable capitalguidelines or policies of the FRB.  TheCompany may redeem the Subordinated Debentures held by CVB Trust I on any December 31ston or after December 31, 2007.  Theredemption price shall be par plus accrued and unpaid interest, except in thecase of redemption under a special event, which is defined in thedebenture.  The floating rate trustpreferred securities are subject to mandatory redemption to the extent of anyearly redemption of the Subordinated Debentures and upon maturity of theSubordinated Debentures on December 31, 2032.

 

Holdersof the trust preferred securities are entitled to cumulative cash distributionson the liquidation amount of $1,000 per security.  Interest rates on the trust preferredsecurities and Subordinated Debentures are the same and are computed on a360-day basis.  The stated interest rateis the three-month London Interbank Offered Rate (LIBOR) plus 3.30% (5.37% at December 31,2004) with a maximum rate of 12.5% annually, adjustable quarterly.

 

Interestexpense recognized by the Company for the years ended December 31, 2004and 2003 related to the subordinated debentures was $437,716 and $438,750, respectively.  There was no interest expense recognized in2002.  The amount of deferred costs at December 31,2004 and 2003 was $144,000 and $192,000, respectively.  The amortization of the deferred costs was$48,000 for both of the years ended December 31, 2004 and 2003.  There was no amortization of deferred costsfor the year ended December 31, 2002.

 

87

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**10.****                              ****COMMITMENTS AND CONTINGENCIES**

 

###### Leases

 

The Company leases certain of its branch offices andcertain equipment under noncancellable operating leases.  These leases expire on various dates through2014 and have various renewal options ranging from five to fifteen years.  Rental payments include minimum rentals, plusadjustments for changing price indexes. Future minimum lease payments and sublease rental income are as follows:

 
| **Year Ending  December 31,** | ** ** | **Minimum  Lease  Payments** | ** ** | **Minimum  Sublease  Rental  Income** | ** ** |
|------------------------------------|------------|------------------------------|------------|---------------------------------------|------------|
| ** **                         | ** ** | ** **                   | ** ** | ** **                            | ** ** |
| 2005                               |       | $                            | 492,100    |                                  | $          | 128,400 |   |
| 2006                               |       | 434,700                      |       | 123,600                               |       |
| 2007                               |       | 369,100                      |       | 128,400                               |       |
| 2008                               |       | 314,900                      |       | 123,100                               |       |
| 2009                               |       | 254,700                      |       | 110,900                               |       |
| Thereafter                         |       | 499,300                      |       | 201,500                               |       |
|                               |       |                         |       |                                  |       |
|                               |       | $                            | 2,364,800  |                                  | $          | 815,900 |   |

 

Rental expense included in occupancy and equipmentexpense totaled $458,300, $391,200 and $190,200 for the years ended December 31,2004, 2003 and 2002, respectively. Sublease income included in occupancy expense totaled $132,400, $90,800and $45,400 for the years ended December 31, 2004, 2003 and 2002,respectively.

 

Financial Instruments With Off-Balance-Sheet Risk

 

The Company is a partyto financial instruments with off-balance-sheet risk in the normal course ofbusiness in order to meet the financing needs of its customers.  These financial instruments includecommitments to extend credit and standby letters of credit.  These instruments involve, to varyingdegrees, elements of credit and interest rate risk in excess of the amountrecognized on the consolidated balance sheet.

 

The Company’s exposure to credit loss in the eventof nonperformance by the other party for commitments to extend credit andstandby letters of credit is represented by the contractual amount of thoseinstruments.  The Company uses the samecredit policies in making commitments and standby letters of credit as it doesfor loans included on the consolidated balance sheet.

 

88

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The following financial instruments representoff-balance-sheet credit risk:

 
| ** **                    | ** ** | **December 31,** | ** **  |
|-------------------------------|------------|-----------------------|-------------|
| ** **                    | ** ** | **2004**              | ** **  | **2003** | ** ** |
| ** **                    | ** ** | ** **            | ** **  | ** ** | ** ** |
| Commitments  to extend credit |       | $                     | 147,750,600 |   | $ | 137,857,000 |   |
| Standby  letters of credit    |       | $                     | 4,648,700   |   | $ | 3,450,700 |   |

 

Commitments to extendcredit are agreements to lend to a customer as long as there is no violation ofany condition established in the contract. Commitments generally have fixed expiration dates or other terminationclauses and may require payment of a fee. Since some of the commitments are expected to expire without being drawnupon, the total commitment amounts do not necessarily represent future cashrequirements.  Each customer’screditworthiness is evaluated on a case-by-case basis.  The amount of collateral obtained, if deemednecessary upon extension of credit, is based on management’s credit evaluationof the borrower.  Collateral held varies,but may include deposit accounts, accounts receivable, inventory, equipment anddeeds of trust on residential real estate and income-producing commercialproperties.

 

Standby letters of credit are conditionalcommitments issued to guarantee the performance of a customer to a thirdparty.  The credit risk involved in issuingstandby letters of credit is essentially the same as that involved in extendingloans to customers.  The fair value ofthe liability related to these standby letters of credit, which represents thefees received for issuing the guarantees, was not significant at December 31,2004 and 2003.  The Company recognizesthese fees as revenues over the term of the commitment or when the commitmentis used.

 

Commercial loan commitments and standby letters ofcredit represent approximately 16% of total commitments and are generallyunsecured or secured by collateral other than real estate and have variableinterest rates.  Agricultural loancommitments represent approximately 6% of total commitments and are generallysecured by crop assignments, accounts receivable and farm equipment and havevariable interest rates.  Real estateloan commitments represent approximately 68% of total commitments and aregenerally secured by property with a loan-to-value ratio not to exceed 80%.  The majority of real estate commitments alsohave variable interest rates.  Personallines of credit and home equity lines of credit represent the remaining 10% oftotal commitments and are generally unsecured or secured by residential realestate and have both variable and fixed interest rates.

 

Concentrations of Credit Risk

 

The Company grants real estate mortgage, real estateconstruction, commercial, agricultural and consumer loans to customersthroughout Butte, Sutter, Yuba, Tehema and Placer Counties.

 

89

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Although the Company has a diversified loanportfolio, a substantial portion of its portfolio is secured by commercial andresidential real estate.  However,personal and business income represent the primary source of repayment for a majorityof these loans.

 

In addition, the Company’s real estate andconstruction loans represent approximately 69% of outstanding loans at December 31,2004, compared to approximately 65% at December 31, 2003.  Collateral values associated with thislending concentration can vary significantly based on the general level ofinterest rates and both local and regional economic conditions.  In management’s opinion, although thisconcentration has no more than the normal risk of collection, a substantialdecline in the performance of 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 collectibility of these loans.

 

###### Correspondent Banking Agreements

 

The Company maintains funds on deposit with otherfederally insured financial institutions under correspondent bankingagreements.  Uninsured deposits totaled$1,446,300 at December 31, 2004.

 

###### Federal Reserve Requirements

 

Banks are required to maintain reserves with theFederal Reserve Bank equal to a percentage of their reservable deposits lessvault cash.  The Bank’s vault cashfulfilled its reserve requirement at December 31, 2004.

 

###### Contingencies

 

The Company is subject to legal proceedings andclaims which arise in the ordinary course of business.  In the opinion of management, the amount ofultimate liability with respect to such actions will not materially affect theconsolidated financial position or consolidated results of operations of theCompany.

 

90

----

 

**11.****                              ****SHAREHOLDERS’ EQUITY**

 

Dividends

 

The shareholders of theCompany will be entitled to receive dividends when and as declared by its Boardof Directors, out of funds legally available for the payment of dividends, asprovided in the California General Corporation Law.  The California general corporation lawprohibits the Company from paying dividends on its common stock unless: (i) itsretained earnings, immediately prior to the dividend payment, equals or exceedsthe amount of the dividend or (ii) immediately after giving effect to thedividend, the sum of the Company’s assets (exclusive of goodwill and deferredcharges) would be at least equal to 125% of its liabilities (not includingdeferred taxes, deferred income and other deferred liabilities) and the currentassets of the Company would be at least equal to its current liabilities, or,if the average of its earnings before taxes on income and before interestexpense for the two preceding fiscal years was less than the average of itsinterest expense for the two preceding fiscal yeas, at least equal to 125% ofits current liabilities.  In certaincircumstances, the Company may be required to obtain the prior approval of theFederal Reserve Board to make capital distributions to shareholders of theCompany.

 

The California Financial Code restricts the totaldividend payment of any bank in any calendar year to the lesser of (1) the bank’sretained earnings or (2) the bank’s net income for its last three fiscal years,less distributions made to shareholders during the same three-year period.  At December 31, 2004, retained earningsof $11,688,800 were free of such restrictions.

 

###### Stock Repurchase Plan

 

The Board of Directors approved a plan to repurchaseup to $3,000,000 of the outstanding common stock of the Company in 2003.  Stock repurchases may be made from time totime on the open market or through privately negotiated transactions.  The timing of purchases and the exact numberof shares to be purchased will depend on market conditions.  The share repurchase program does not includespecific price targets or timetables and may be suspended at any time.  During 2004, 19,235 shares of the Company’scommon stock were repurchased for $502,200. No shares were repurchased under this program in 2003.

 

91

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Stock Options

 

The Company hasestablished stock option plans for which shares of common stock have beenreserved for issuance to employees and directors under incentive and nonstatutoryagreements.  The plans require that theoption price may not be less than the fair market value of the stock at thedate the option is granted, and that the stock must be paid in full at the timethe option is exercised.  The optionsexpire on a date determined by the Board of Directors, but not later than tenyears from the date of grant.  Thevesting period is determined by the Board of Directors and is generally overfive years; however, nonstatutory options granted during 1997 vestedimmediately.  Under the 1997 and 1991plans, 182,889 shares of common stock remain reserved for issuance to employeesand directors, and the related options are exercisable until theirexpiration.  However, no new options willbe granted under these plans.  Under the Company’s2000 stock option plan, 342,675 shares of common stock remain reserved forissuance to employees and directors, of which 37,200 shares are available forfuture grants.

 
| ** **                              | ** ** | **2004**   | ** ** | **2003**                               | ** ** | **2002**   | ** ** |
|-----------------------------------------|------------|------------|------------|----------------------------------------|------------|------------|------------|
| ** **                              | ** ** | **Shares** | ** ** | **Weighted  Average  Exercise  Price** | ** ** | **Shares** | ** ** | **Weighted  Average  Exercise  Price** | ** ** | **Shares** | ** ** | **Weighted  Average  Exercise  Price** | ** ** |
| ** **                              | ** ** | ** ** | ** ** | ** **                             | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| Incentive Options                       | ** ** | ** ** | ** ** | ** **                             | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
|                                    | ** ** | ** ** | ** ** | ** **                             | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| Options  outstanding, beginning of year |       | 240,535    |       | $                                      | 9.41       |       | 266,113    |   | $ | 8.84 |   | 216,865 |   | $ | 6.35 |   |
|                                    |       |       |       |                                   |       |       |       |   |   |   |   |   |   |
| Options  granted                        |       | 53,809     |       | $                                      | 25.98      |       | 6,667      |   | $ | 19.31 |   | 84,888 |   | $ | 14.16 |   |
| Options  exercised                      |       | (18,670    | )          | $                                      | 10.62      |       | (28,689    | ) | $ | 5.95 |   | (35,640 | ) | $ | 6.31 |   |
| Options  cancelled                      |       |       |       |                                   |       | (3,556     | )          | $ | 13.73 |   |   |   |   |   |
|                                    |       |       |       |                                   |       |       |       |   |   |   |   |   |   |
| Options  outstanding, end of year       |       | 275,674    |       | $                                      | 12.56      |       | 240,535    |   | $ | 9.41 |   | 266,113 |   | $ | 8.84 |   |
|                                    |       |       |       |                                   |       |       |       |   |   |   |   |   |   |
| Options  exercisable, end of year       |       | 163,477    |       | $                                      | 10.29      |       | 160,531    |   | $ | 7.36 |   | 144,207 |   | $ | 5.61 |   |
|                                    |       |       |       |                                   |       |       |       |   |   |   |   |   |   |
| Non-Qualified  Options                  |       |       |       |                                   |       |       |       |   |   |   |   |   |   |
|                                    |       |       |       |                                   |       |       |       |   |   |   |   |   |   |
| Options  outstanding, beginning of year |       | 222,872    |       | $                                      | 7.49       |       | 232,872    |   | $ | 7.35 |   | 246,515 |   | $ | 7.20 |   |
|                                    |       |       |       |                                   |       |       |       |   |   |   |   |   |   |
| Options  granted                        |       |       |       |                                   |       | 2,667      |       | $ | 19.31 |   |   |   |   |   |
| Options  exercised                      |       | (15,532    | )          | $                                      | 5.58       |       | (12,667    | ) | $ | 7.64 |   | (13,643 | ) | $ | 4.59 |   |
|                                    |       |       |       |                                   |       |       |       |   |   |   |   |   |   |
| Options  outstanding, end of year       |       | 207,340    |       | $                                      | 7.63       |       | 222,872    |   | $ | 7.49 |   | 232,872 |   | $ | 7.35 |   |
|                                    |       |       |       |                                   |       |       |       |   |   |   |   |   |   |
| Options  exercisable, end of year       |       | 180,777    |       | $                                      | 7.24       |       | 170,072    |   | $ | 6.73 |   | 152,872 |   | $ | 6.28 |   |

 

92

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A summary of options outstanding at December 31, 2004 follows:

 
| **Range of Exercise Prices** | ** ** | **Number of  Options  Outstanding  December 31,  2004** | ** ** | **Weighted  Average  Remaining  Contractual  Life** | ** ** | **Number of  Options  Exercisable  December 31,  2004** | ** ** |
|------------------------------|------------|---------------------------------------------------------|------------|-----------------------------------------------------|------------|---------------------------------------------------------|------------|
|                         |       |                                                    |       |                                                |       |                                                    |       |
| Incentive  Options           |       |                                                    |       |                                                |       |                                                    |       |
|                         |       |                                                    |       |                                                |       |                                                    |       |
| $                            | 2.05       | -                                                       | $          | 7.59                                                |       |                                                    | 93,446     |   | 2.5 years |   | 93,446 |   |
| $                            | 9.07       | -                                                       | $          | 10.58                                               |       |                                                    | 50,960     |   | 5.1 years |   | 40,193 |   |
| $                            | 13.78      | -                                                       | $          | 19.31                                               |       |                                                    | 77,436     |   | 7.9 years |   | 29,838 |   |
| $                            | 24.75      | -                                                       | $          | 27.75                                               |       |                                                    | 53,832     |   | 9.6 years |   |   |   |
|                         |       |                                                    |       |                                                |       |                                                    |       |
|                         |       | 275,674                                                 |       |                                                |       | 163,477                                                 |       |
|                         |       |                                                    |       |                                                |       |                                                    |       |
| Non-qualified  Options       |       |                                                    |       |                                                |       |                                                    |       |
|                         |       |                                                    |       |                                                |       |                                                    |       |
| $                            | 4.59       |                                                    |       | 82,543                                              |       | 2.3 years                                               |       | 82,543 |   |
| $                            | 9.42       |                                                    |       | 122,131                                             |       | 5.3 years                                               |       | 97,701 |   |
| $                            | 10.31      |                                                    |       | 2,666                                               |       | 8.8 years                                               |       | 533 |   |
|                         |       |                                                    |       |                                                |       |                                                    |       |
|                         |       | 207,340                                                 |       |                                                |       | 180,777                                                 |       |
|                              |            |                                                         |            |                                                     |            |                                                         |            |  |  |  |  |  |  |

 

###### Earnings Per Share

######  

A reconciliation of the numerators and denominators of the basic anddiluted earnings per share computations is as follows:

 
| **For the Year Ended**            | ** ** | **Net  Income** | ** ** | **Weighted  Average  Number of  Shares  Outstanding** | ** ** | **Per Share  Amount** | ** ** |
|-----------------------------------|------------|-----------------|------------|-------------------------------------------------------|------------|-----------------------|------------|
|                              |       |            |       |                                                  |       |                  |       |
| December 31, 2004                 | ** ** | ** **      | ** ** | ** **                                            | ** ** | ** **            | ** ** |
|                              |       |            |       |                                                  |       |                  |       |
| Basic earnings  per share         |       | $               | 5,609,600  |                                                  | 3,556,193  |                  | $          | 1.58 |   |
|                              |       |            |       |                                                  |       |                  |       |
| Effect of  dilutive stock options |       |            |       | 244,353                                               |       |                  |       |
|                              |       |            |       |                                                  |       |                  |       |
| Diluted earnings  per share       |       | $               | 5,609,600  |                                                  | 3,800,546  |                  | $          | 1.48 |   |

 

93

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| **For the Year Ended**            | ** ** | **Net  Income** | ** ** | **Weighted  Average  Number of  Shares  Outstanding** | ** ** | **Per Share  Amount** | ** ** |
|-----------------------------------|------------|-----------------|------------|-------------------------------------------------------|------------|-----------------------|------------|
|                              |       |            |       |                                                  |       |                  |       |
| December 31,  2003                |       |            |       |                                                  |       |                  |       |
|                              |       |            |       |                                                  |       |                  |       |
| Basic earnings  per share         |       | $               | 5,269,200  |                                                  | 3,512,645  |                  | $          | 1.50 |   |
|                              |       |            |       |                                                  |       |                  |       |
| Effect of  dilutive stock options |       |            |       | 202,613                                               |       |                  |       |
|                              |       |            |       |                                                  |       |                  |       |
| Diluted earnings  per share       |       | $               | 5,269,200  |                                                  | 3,715,258  |                  | $          | 1.42 |   |
|                              |       |            |       |                                                  |       |                  |       |
| December 31,  2002                |       |            |       |                                                  |       |                  |       |
|                              |       |            |       |                                                  |       |                  |       |
| Basic earnings  per share         |       | $               | 4,849,600  |                                                  | 3,461,115  |                  | $          | 1.40 |   |
|                              |       |            |       |                                                  |       |                  |       |
| Effect of  dilutive stock options |       |            |       | 178,815                                               |       |                  |       |
|                              |       |            |       |                                                  |       |                  |       |
| Diluted earnings  per share       |       | $               | 4,849,600  |                                                  | 3,639,930  |                  | $          | 1.33 |   |

 

All of the stock options outstanding were included in the computationof diluted earnings per share for the years ended December 31, 2004, 2003 and 2002as none of the stock options were anti-dilutive.

 

Regulatory Capital

 

The Company and the Bank are subject to certainregulatory capital requirements administered by the Board of Governors of theFederal Reserve System and the Federal Depository Insurance Corporation(FDIC).  Failure to meet these minimumcapital requirements can initiate certain mandatory, and possibly additionaldiscretionary, actions by regulators that, if undertaken, could have a directmaterial effect on the Company’s consolidated financial statements.  Under capital adequacy guidelines and theregulatory framework for prompt corrective action, the Bank must meet specificcapital guidelines that involve quantitative measures of their assets, liabilitiesand certain off-balance-sheet items as calculated under regulatory accountingpractices.  The Company’s and the Bank’scapital amounts and classifications are also subject to qualitative judgmentsby the regulators about components, risk weightings and other factors.

 

Quantitative measures established by regulation to ensure capitaladequacy require the Company and the Bank to maintain minimum amounts andratios of total and Tier 1 capital to risk-weighted assets and of Tier 1capital to average assets as set forth in the following table.  Each of these components is defined in theregulations.  Management believes thatthe Company and the Bank meet all their capital adequacy requirements as ofDecember 31, 2004 and 2003.

 

94

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In addition, the most recent notification from theFDIC categorized the Bank as well capitalized under the regulatory frameworkfor prompt corrective action.  To becategorized as well capitalized, the Bank must maintain minimum totalrisk-based, Tier 1 risk-based and Tier 1 leverage ratios as set forthbelow.  There are no conditions or eventssince that notification that management believes have changed the Bank’scategory.

 
| ** **                                 | ** ** | ** ** | ** ** | **For Capital  Adequacy Purposes** | ** ** | **To Be Well Capitalized  Under Prompt Corrective  Action Provisions** | ** ** |
|--------------------------------------------|------------|------------|------------|------------------------------------|------------|------------------------------------------------------------------------|------------|
| ** **                                 | ** ** | **Actual** | ** ** | **Minimum**                        | ** ** | **Minimum**                                                            | ** ** | **Minimum** | ** ** | **Minimum** | ** ** |
| ** **                                 | ** ** | **Amount** | ** ** | **Ratio**                          | ** ** | **Amount**                                                             | ** ** | **Ratio** | ** ** | **Amount** | ** ** | **Ratio** | ** ** |
|                                       |       |       |       |                               |       |                                                                   |       |   |   |   |   |   |   |
| December 31, 2004                          |       |       |       |                               |       |                                                                   |       |   |   |   |   |   |   |
|                                       |       |       |       |                               |       |                                                                   |       |   |   |   |   |   |   |
| Company:                                   |       |       |       |                               |       |                                                                   |       |   |   |   |   |   |   |
| Total capital (to  risk- weighted assets)  |       | $          | 46,741,700 |                               | 12.5       | %                                                                      | $          | 29,894,600 |   | 8.0 | % | N/A |   | N/A |   |
| Tier 1 capital  (to risk- weighted assets) |       | $          | 42,360,500 |                               | 11.3       | %                                                                      | $          | 14,947,300 |   | 4.0 | % | N/A |   | N/A |   |
| Tier 1 capital  (to average assets)        |       | $          | 42,360,500 |                               | 9.5        | %                                                                      | $          | 17,770,200 |   | 4.0 | % | N/A |   | N/A |   |
|                                       |       |       |       |                               |       |                                                                   |       |   |   |   |   |   |   |
| Bank:                                      |       |       |       |                               |       |                                                                   |       |   |   |   |   |   |   |
| Total capital (to  risk- weighted assets)  |       | $          | 42,336,700 |                               | 11.3       | %                                                                      | $          | 29,853,200 |   | 8.0 | % | $ | 37,316,500 |   | 10.0 | % |
| Tier 1 capital  (to risk- weighted assets) |       | $          | 37,955,500 |                               | 10.2       | %                                                                      | $          | 14,926,600 |   | 4.0 | % | $ | 22,389,900 |   | 6.0 | % |
| Tier 1 capital  (to average assets)        |       | $          | 37,955,500 |                               | 8.6        | %                                                                      | $          | 17,655,700 |   | 4.0 | % | $ | 22,069,600 |   | 5.0 | % |
|                                       |       |       |       |                               |       |                                                                   |       |   |   |   |   |   |   |
| December 31, 2003                          |       |       |       |                               |       |                                                                   |       |   |   |   |   |   |   |
|                                       |       |       |       |                               |       |                                                                   |       |   |   |   |   |   |   |
| Company:                                   |       |       |       |                               |       |                                                                   |       |   |   |   |   |   |   |
| Total capital (to  risk- weighted assets)  |       | $          | 41,380,600 |                               | 13.3       | %                                                                      | $          | 24,828,600 |   | 8.0 | % | N/A |   | N/A |   |
| Tier 1 capital  (to risk- weighted assets) |       | $          | 37,793,400 |                               | 12.2       | %                                                                      | $          | 12,414,300 |   | 4.0 | % | N/A |   | N/A |   |
| Tier 1 capital  (to average assets)        |       | $          | 37,793,400 |                               | 9.9        | %                                                                      | $          | 15,340,000 |   | 4.0 | % | N/A |   | N/A |   |
|                                       |       |       |       |                               |       |                                                                   |       |   |   |   |   |   |   |
| Bank:                                      |       |       |       |                               |       |                                                                   |       |   |   |   |   |   |   |
| Total capital (to  risk- weighted assets)  |       | $          | 37,406,300 |                               | 12.1       | %                                                                      | $          | 24,808,600 |   | 8.0 | % | $ | 31,010,700 |   | 10.0 | % |
| Tier 1 capital  (to risk- weighted assets) |       | $          | 33,819,100 |                               | 10.9       | %                                                                      | $          | 12,404,300 |   | 4.0 | % | $ | 18,606,400 |   | 6.0 | % |
| Tier 1 capital  (to average assets)        |       | $          | 33,819,100 |                               | 8.8        | %                                                                      | $          | 15,303,300 |   | 4.0 | % | $ | 19,129,200 |   | 5.0 | % |
|                                            |            |            |            |                                    |            |                                                                        |            |  |  |  |  |  |  |  |  |  |  |  |  |

 

95

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**12.****                               OTHERNON-INTEREST INCOME AND EXPENSES**

 

Other non-interest income consisted of the following:

 
| ** **                                                                                         | ** ** | **Year Ended December 31,** | ** ** |
|----------------------------------------------------------------------------------------------------|------------|-----------------------------|------------|
|                                                                                               |       | **2004**                    |       | **2003** |   | **2002** |   |
|                                                                                               |       |                        |       |   |   |   |   |
| Alternative  investment fees                                                                       |       | $                           | 427,700    |   | $ | 218,100 |   | $ | 102,500 |   |
| Merchant card  processing fees                                                                     |       | 337,000                     |       | 342,700 |   | 353,700 |   |
| Earnings and  death benefit from cash surrender value life  insurance policies, net (Note 15) |       | 284,400                     |       | 379,700 |   | 1,406,400 |   |
| Other                                                                                              |       | 674,900                     |       | 449,700 |   | 590,400 |   |
|                                                                                               |       |                        |       |   |   |   |   |
|                                                                                               |       | $                           | 1,724,000  |   | $ | 1,390,200 |   | $ | 2,453,000 |   |

 

Other expenses consisted of the following:

 
| ** **                                                            | ** ** | **Year Ended December 31,** | ** ** |
|-----------------------------------------------------------------------|------------|-----------------------------|------------|
|                                                                  |       | **2004**                    |       | **2003** |   | **2002** |   |
|                                                                  |       |                        |       |   |   |   |   |
| Professional fees                                                     |       | $                           | 633,000    |   | $ | 537,100 |   | $ | 622,300 |   |
| Telephone and  postage                                                |       | 511,200                     |       | 498,000 |   | 436,200 |   |
| Stationery and  supplies                                              |       | 521,200                     |       | 548,700 |   | 457,800 |   |
| Director fees  and retirement accrual                                 |       | 407,900                     |       | 357,400 |   | 298,000 |   |
| Advertising and  promotion                                            |       | 301,700                     |       | 276,600 |   | 252,500 |   |
| Beneficiary  benefit accrual under salary continuation plan (Note 15) |       |                        |       |   |   | 1,136,400 |   |
| Other                                                                 |       | 1,860,100                   |       | 1,411,800 |   | 1,219,500 |   |
|                                                                  |       |                        |       |   |   |   |   |
|                                                                  |       | $                           | 4,235,100  |   | $ | 3,629,600 |   | $ | 4,422,700 |   |

 

96

----

 

**13.****                               INCOMETAXES**

 

The provision for income taxes for the years endedDecember 31, 2004, 2003 and 2002 consisted of the following:

 
| ** **                  | ** ** | **Federal** | ** ** | **State**  | ** ** | **Total**  | ** ** |
|-----------------------------|------------|-------------|------------|------------|------------|------------|------------|
| 2004                        | ** ** | ** **  | ** ** | ** ** | ** ** | ** ** | ** ** |
|                        |       |        |       |       |       |       |       |
| Current                     |       | $           | 2,837,000  |       | $          | 1,030,000  |       | $ | 3,867,000 |   |
| Deferred                    |       | (21,000     | )          | (43,000    | )          | (64,000    | )          |
|                        |       |        |       |       |       |       |       |
| Provision for  income taxes |       | $           | 2,816,000  |       | $          | 987,000    |       | $ | 3,803,000 |   |
|                        |       |        |       |       |       |       |       |
| 2003                        |       |        |       |       |       |       |       |
|                        |       |        |       |       |       |       |       |
| Current                     |       | $           | 2,944,000  |       | $          | 1,024,000  |       | $ | 3,968,000 |   |
| Deferred                    |       | (487,000    | )          | (152,000   | )          | (639,000   | )          |
|                        |       |        |       |       |       |       |       |
| Provision for  income taxes |       | $           | 2,457,000  |       | $          | 872,000    |       | $ | 3,329,000 |   |
|                        |       |        |       |       |       |       |       |
| 2002                        |       |        |       |       |       |       |       |
|                        |       |        |       |       |       |       |       |
| Current                     |       | $           | 2,240,000  |       | $          | 769,000    |       | $ | 3,009,000 |   |
| Deferred                    |       | (497,000    | )          | (137,000   | )          | (634,000   | )          |
|                        |       |        |       |       |       |       |       |
| Provision for  Income taxes |       | $           | 1,743,000  |       | $          | 632,000    |       | $ | 2,375,000 |   |

 

Deferred tax assets (liabilities) are comprised of the following atDecember 31, 2004 and 2003:

 
| ** **                                                    | ** ** | **2004**  | ** ** | **2003**  | ** ** |
|---------------------------------------------------------------|------------|-----------|------------|-----------|------------|
|                                                          |       |      |       |      |       |
| Deferred tax  assets:                                         |       |      |       |      |       |
| Allowance for  loan losses                                    |       | $         | 1,800,000  |      | $          | 1,457,000 |   |
| Deferred  compensation                                        |       | 1,644,000 |       | 1,320,000 |       |
| Future benefit  of state tax deduction                        |       | 391,000   |       | 334,000   |       |
| Other                                                         |       | 5,000     |       |      |       |
|                                                          |       |      |       |      |       |
| Total deferred  tax assets                                    |       | 3,840,000 |       | 3,111,000 |       |
|                                                          |       |      |       |      |       |
| Deferred tax  liabilities:                                    |       |      |       |      |       |
| Future liability  of state deferred tax assets                |       | (230,000  | )          | (215,000  | )          |
| Bank premises  and equipment                                  |       | (182,000  | )          | (109,000  | )          |
| Accrual to cash  - deferred loan costs                        |       | (573,000  | )          |      |       |
| Unrealized gains  on available-for-sale-investment securities |       | (7,000    | )          |      |       |
| Other                                                         |       | (4,000    | )          |      |       |
|                                                          |       |      |       |      |       |
| Total deferred  tax liabilities                               |       | (996,000  | )          | (324,000  | )          |
|                                                          |       |      |       |      |       |
| Net deferred tax  assets                                      |       | $         | 2,844,000  |      | $          | 2,787,000 |   |

 

97

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The Company believes that it is more likely than notthat it will realize the above deferred tax assets in future periods;therefore, no valuation allowance has been provided against its deferred taxassets.

 

The provision for income taxes differs from amountscomputed by applying the statutory Federal income tax rate to operating incomebefore income taxes.  The items comprisingthese differences are as follows:

 
| ** **                                      | ** ** | **Year Ended December 31,** | ** ** |
|-------------------------------------------------|------------|-----------------------------|------------|
| ** **                                      | ** ** | **2004**                    | ** ** | **2003** | ** ** | **2002** | ** ** |
| ** **                                      | ** ** | **Amount**                  | ** ** | **Rate %** | ** ** | **Amount** | ** ** | **Rate %** | ** ** | **Amount** | ** ** | **Rate %** | ** ** |
|                                            |       |                        |       |   |   |   |   |   |   |   |   |   |   |
| Federal income  tax expense, at statutory rate  |       | $                           | 3,200,000  |   | 34.0 |   | $ | 2,923,000 |   | 34.0 |   | $ | 2,456,000 |   | 34.0 |   |
| State franchise  tax, net of Federal tax effect |       | 673,000                     |       | 7.1 |   | 589,000 |   | 6.9 |   | 422,000 |   | 5.9 |   |
| Tax-exempt  income from life insurance policies |       | (117,000                    | )          | (1.2 | ) | (137,000 | ) | (1.6 | ) | (478,000 | ) | (6.6 | ) |
| Other                                           |       | 47,000                      |       | .5 |   | (46,000 | ) | (.6 | ) | (25,000 | ) | (.4 | ) |
|                                            |       |                        |       |   |   |   |   |   |   |   |   |   |   |
|                                            |       | $                           | 3,803,000  |   | 40.4 |   | $ | 3,329,000 |   | 38.7 |   | $ | 2,375,000 |   | 32.9 |   |
|                                                 |            |                             |            |  |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

**14.****                               RELATEDPARTY TRANSACTIONS**

 

During the normal course of business, the Company enters intotransactions with related parties, including Directors and executiveofficers.  These transactions includeborrowings with substantially the same terms, including rates and collateral,as loans to unrelated parties.  Thefollowing is a summary of the aggregate activity involving related partyborrowers during 2004:

 
| Balance, January  1, 2004                                      |   | $          | 4,423,500 |   |
|----------------------------------------------------------------|--------|------------|-----------|--------|
|                                                           |   |       |      |
| Disbursements                                                  |   | 2,277,700  |      |
| Amounts repaid                                                 |   | (3,125,200 | )         |
|                                                           |   |       |      |
| Balance,  December 31, 2004                                    |   | $          | 3,576,000 |   |
|                                                           |   |       |      |
| Undisbursed commitments to related parties, December  31, 2004 |   | $          | 4,592,100 |   |

 

98

----

 

**15.****                               EMPLOYEEBENEFIT PLANS**

 

Salary Continuation andRetirement Plans

 

Salary continuation plans are in place for ten key executives.  In addition, a retirement plan is in placefor members of the Board of Directors. Under these plans, the directors and executives, or designatedbeneficiaries, will receive monthly payments for five to fifteen years afterretirement or death.  These benefits aresubstantially equivalent to those available under insurance policies purchasedby the Company on the lives of the directors and executives.  In addition, the estimated present value ofthese future benefits is accrued over the period from the effective dates ofthe plans until their expected retirement dates.  The expense recognized under these plans forthe years ended December 31, 2004, 2003 and 2002 totaled $714,600, $573,600 and$225,300, respectively.

 

In connection with these plans, the Company purchased single premiumlife insurance policies with cash surrender values totaling $6,703,100 and$6,296,800 at December 31, 2004 and 2003, respectively.  On the consolidated balance sheet, the cashsurrender values are included in accrued interest receivable and other assets.  Income earned on these policies, net ofexpenses, totaled $284,400, $379,700 and $233,800 for the years ended December31, 2004, 2003 and 2002, respectively.

 

In addition, upon the death of one of the executivesduring 2002, salary continuation plan benefit expense totaling $1,081,600 wasaccelerated to accrue for benefits to be paid to the beneficiary under theplan.  This expense was offset bytax-free death benefits totaling $1,172,600 from insurance policies on the lifeof the executive.

 

###### Savings Plan

######  

The Butte Community Bank 401(k) Savings Plan commencedJanuary 1, 1993 and is available to employees meeting certain servicerequirements.  Under the plan, employeesmay defer a selected percentage of their annual compensation.  The Bank may make a discretionarycontribution to the plan which would be allocated as follows:

 

•                                          A matchingcontribution to be determined by the Board of Directors each plan year underwhich the Bank will match a percentage of each participant’s contribution.

 

•                                          A basiccontribution that would be allocated in the same ratio as each participant’scontribution bears to total compensation.

 

There were no employer contributions for the yearsended December 31, 2004, 2003 or 2002.

 

99

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Employee Stock OwnershipPlan

 

Under the Butte Community Bank Employee StockOwnership Plan (“ESOP”), employees who have been credited with at least 1,000hours of service during a twelve month period and who have attained ageeighteen are eligible to participate. The ESOP has funded purchases of the Bank’s common stock through a loanfrom another financial institution (see Note 8).  The loan is repaid from discretionarycontributions to the ESOP determined by the Bank’s Board of Directors.  Annual contributions are limited on aparticipant-by-participant basis to the lesser of $30,000 or twenty-fivepercent of the participant’s compensation for the year.  Employee contributions are not permitted.

 

As a leveraged ESOP, interest expense is recognized onthe loan in the Company’s consolidated financial statements.  Shares are allocated on the basis of eligiblecompensation, as defined in the ESOP plan document, in the year ofallocation.  Benefits generally become100% vested after seven years of credited service.  Employees with at least three, but fewer thanseven, years of credited service receive a partial vesting according to asliding schedule.  However, in the eventof normal retirement, disability, or death, any unvested portion of benefitsvest immediately.

 

As shares are purchased by the ESOP with proceeds fromthe loan, the Company records the cost of these unearned ESOP shares as acontra-equity account.  These amounts areshown as a reduction of shareholders’ equity in the Company’s consolidatedbalance sheet.  As the debt is repaid,the shares are released from unallocated ESOP shares in proportion to the debtservice paid during the year and allocated to eligible employees.  As shares are released from unallocated ESOPshares, the Company reports compensation expense equal to the current marketprice of the shares, and the shares are recognized as outstanding for earningsper share computations.  Benefits aredistributed in the form of qualifying Company securities.  However, the Company will issue a put optionto each participant upon distribution of the securities which, if exercised,requires the Company to purchase the qualifying securities at fair marketvalue.

 

During 2004 and 2003, the ESOP purchased 5,660 and 10,733 shares of theCompany’s common stock at a cost of $150,000 and $186,000, respectively, using theproceeds from the line of credit to the ESOP. Additionally, during 2003, the ESOP redeemed 6,487 shares of the Company’scommon stock previously allocated to participants under the put optiondescribed above.  The cost of theseshares totaled $135,000 and was funded by the proceeds from the same line ofcredit.  No stock was purchased withproceeds from the line of credit during the year ended December 31, 2002.  Interest expense of $33,400, $33,100 and$39,500 was recognized in connection with the line of credit during the yearsended December 31, 2004, 2003 and 2002, respectively.

 

Compensation expense of $180,200, $251,700 and $158,000 was recognizedfor the years ended December 31, 2004, 2003 and 2002.

 

100

----

 

Allocated and unallocated ESOP shares at December 31,2004, 2003 and 2002, adjusted for stock splits, were as follows:

 
| ** **                        | ** ** | **2004** | ** ** | **2003** | ** ** | **2002**  | ** ** |
|-----------------------------------|------------|----------|------------|----------|------------|-----------|------------|
|                              |       |     |       |     |       |      |       |
| Allocated shares                  |       | 111,510  |       | 105,187  |       | 97,567    |       |
| Unallocated  shares               |       | 89,628   |       | 90,909   |       | 87,249    |       |
|                              |       |     |       |     |       |      |       |
| Total ESOP  shares                |       | 201,138  |       | 196,096  |       | 184,816   |       |
|                              |       |     |       |     |       |      |       |
| Fair value of  unallocated shares |       | $        | 2,487,177  |     | $          | 1,840,914 |       | $ | 1,328,371 |   |
|                                   |            |          |            |          |            |           |            |  |  |  |

 

**16.****                               DISCLOSURESABOUT FAIR VALUE OF FINANCIAL INSTRUMENTS**

 

Estimated fair values are disclosed for financialinstruments for which it is practicable to estimate fair value.  These estimates are made at a specific pointin time based on relevant market data and information about the financialinstruments.  These estimates do notreflect any premium or discount that could result from offering the Company’sentire holdings of a particular financial instrument for sale at one time, nordo they attempt to estimate the value of anticipated future business related tothe instruments.  In addition, the taxramifications related to the realization of unrealized gains and losses canhave a significant effect on fair value estimates and have not been consideredin any of these estimates.

 

Because no market exists for a significant portion ofthe Company’s financial instruments, fair value estimates are based onjudgments regarding current economic conditions, risk characteristics ofvarious financial instruments and other factors.  These estimates are subjective in nature andinvolve uncertainties and matters of significant judgment and therefore cannotbe determined with precision.  Changes inassumptions could significantly affect the fair values presented.

 

The following methods and assumptions were used by the Company toestimate the fair value of its financial instruments at December 31, 2004 and2003:

 

Cash and cash equivalents:  For cash and cash equivalents, the carryingamount is estimated to be fair value.

 

Interest-bearing depositsin banks:  The fairvalues of interest-bearing deposits in banks are estimated by discounting theirfuture cash flows using rates at each reporting date for instruments withsimilar remaining maturities offered by comparable financial institutions.

 

Investment securities:  For investment securities, fair values arebased on quoted market prices, where available. If quoted market prices are not available, fair values are estimatedusing quoted market prices for similar securities and indications of valueprovided by brokers.

 

101

----

 

Loans:  For variable-rate loans that repricefrequently with no significant change in credit risk, fair values are based oncarrying values.  Fair values of loansheld for sale are estimated using quoted market prices for similar loans or theamount that purchasers have committed to purchase the loans.  The fair values for other loans are estimatedusing discounted cash flow analyses, using interest rates offered at eachreporting date for loans with similar terms to borrowers of comparablecreditworthiness adjusted for the allowance for loan losses.  The carrying amount of accrued interestreceivable approximates its fair value.

 

Other investments:  Other investments include non-marketableequity securities.  The carrying value ofthese investments approximates their fair value.

 

Cash surrender value oflife insurance policies: The fair values of life insurance policies are based on cash surrendervalues at each reporting date provided by the insurers.

 

Mortgage servicing rights:  The fair value of mortgage servicing rightsis estimated using projected cash flows, adjusted for the effects ofanticipated prepayments, using a market discount rate.

 

Deposits:  The fair values for demand deposits are, bydefinition, equal to the amount payable on demand at each reporting daterepresented by their carrying amount. Fair values for fixed-rate certificates of deposit are estimated using adiscounted cash flow analysis using interest rates offered at each reportingdate by the Bank for certificates with similar remaining maturities.  The carrying amount of accrued interestpayable approximates its fair value.

 

Note payable:The note payable reprices based upon an independent index.  The carrying amount of the note payableapproximates its fair value.

 

Junior subordinated debentures:  The fair value of the junior subordinateddebentures was determined based on the current market for like-kind instrumentsof a similar maturity and structure.

 

Commitments to extendcredit and standby letters of credit:  Commitments to extend credit are primarilyfor variable rate loans and standby letters of credit.  For these commitments, there is no differencebetween the committed amounts and their fair values.  Commitments to fund fixed rate loans are atrates which approximate fair value at each reporting date.

 

102

----

 

The estimated fair values of the Company’s financial instruments are asfollows:

 
| ** **                                                  | ** ** | **December 31, 2004** | ** **  | **December 31, 2003** | ** ** |
|-------------------------------------------------------------|------------|-----------------------|-------------|-----------------------|------------|
| ** **                                                  | ** ** | **Carrying  Amount**  | ** **  | **Fair  Value**       | ** ** | **Carrying  Amount** | ** ** | **Fair  Value** | ** ** |
|                                                        |       |                  |        |                  |       |   |   |   |   |
| Financial  assets:                                          |       |                  |        |                  |       |   |   |   |   |
| Cash and due  from banks                                    |       | $                     | 21,778,000  |                  | $          | 21,778,000 |   | $ | 26,204,700 |   | $ | 26,204,700 |   |
| Federal funds  sold                                         |       | 46,440,000            |        | 46,440,000            |       | 50,605,000 |   | 50,605,000 |   |
| Interest-bearing  deposits in banks                         |       | 8,715,000             |        | 8,723,300             |       | 7,925,000 |   | 7,981,100 |   |
| Loans held for  sale                                        |       | 1,489,800             |        | 1,512,800             |       | 2,279,100 |   | 2,421,300 |   |
| Investment  securities                                      |       | 6,960,900             |        | 6,963,200             |       | 4,324,500 |   | 4,325,700 |   |
| Loans                                                       |       | 339,173,900           |        | 334,909,800           |       | 270,231,300 |   | 270,994,000 |   |
| Other  investments                                          |       | 118,200               |        | 118,200               |       | 233,200 |   | 233,200 |   |
| Accrued interest  receivable                                |       | 2,578,400             |        | 2,578,400             |       | 2,607,300 |   | 2,607,300 |   |
| Cash surrender  value of life insurance policies            |       | 6,703,100             |        | 6,703,100             |       | 6,296,800 |   | 6,296,800 |   |
| Mortgage  servicing assets                                  |       | 1,348,200             |        | 1,348,200             |       | 1,397,000 |   | 1,397,000 |   |
|                                                        |       |                  |        |                  |       |   |   |   |   |
| Financial  liabilities:                                     |       |                  |        |                  |       |   |   |   |   |
| Deposits                                                    |       | $                     | 399,059,100 |                  | $          | 398,939,800 |   | $ | 342,511,400 |   | $ | 343,424,300 |   |
| Note payable                                                |       | 833,200               |        | 833,200               |       | 831,900 |   | 831,900 |   |
| Junior  subordinated debentures                             |       | 8,248,000             |        | 8,248,000             |       | 8,248,000 |   | 8,248,000 |   |
| Accrued interest  payable                                   |       | 479,200               |        | 479,200               |       | 451,400 |   | 451,400 |   |
|                                                        |       |                  |        |                  |       |   |   |   |   |
| Notional value  of off-balance-sheet financial instruments: |       |                  |        |                  |       |   |   |   |   |
| Commitments to  extend credit                               |       | $                     | 147,750,600 |                  | $          | 147,750,600 |   | $ | 137,857,000 |   | $ | 137,857,000 |   |
| Standby letters  of credit                                  |       | $                     | 4,648,700   |                  | $          | 4,648,700 |   | $ | 3,450,700 |   | $ | 3,450,700 |   |

 

103

----

 

**17.****                              ****PARENT ONLY CONDENSEDFINANCIAL STATEMENTS**

 

**CONDENSEDBALANCE SHEET**

** **

**December31, 2004 and 2003**

 
| ** **                                            | ** ** | **2004**   | ** ** | **2003**   | ** ** |
|-------------------------------------------------------|------------|------------|------------|------------|------------|
|                                                  |       |       |       |       |       |
| **ASSETS**                                            |       |       |       |       |       |
|                                                  |       |       |       |       |       |
| Cash and cash  equivalents                            |       | $          | 3,296,400  |       | $          | 3,594,900 |   |
| Investment in  bank subsidiary                        |       | 38,126,100 |       | 33,868,700 |       |
| Investment in  non-bank subsidiary                    |       | 987,100    |       |       |       |
| Other assets                                          |       | 1,588,600  |       | 1,050,200  |       |
|                                                  |       |       |       |       |       |
| Total assets                                          |       | $          | 43,998,200 |       | $          | 38,513,800 |   |
|                                                  |       |       |       |       |       |
| **LIABILITIES  AND  SHAREHOLDERS’ EQUITY**       |       |       |       |       |       |
|                                                  |       |       |       |       |       |
| Liabilities:                                          |       |       |       |       |       |
| ESOP note  payable                                    |       | $          | 833,200    |       |       |   |
| Junior  subordinated debentures                       |       | 8,248,000  |       | $          | 8,248,000  |   |
| Other liabilities                                     |       | 385,900    |       | 317,300    |       |
|                                                  |       |       |       |       |       |
| Total  liabilities                                    |       | 9,467,100  |       | 8,565,300  |       |
|                                                  |       |       |       |       |       |
| Shareholders’  equity:                           |       |       |       |       |       |
| Common stock                                          |       | 7,861,800  |       | 7,271,400  |       |
| Unallocated ESOP  shares                              |       | (1,144,300 | )          | (1,070,700 | )          |
| Retained  earnings                                    |       | 27,802,000 |       | 23,745,700 |       |
| Accumulated  other comprehensive income, net of taxes |       | 11,600     |       | 2,100      |       |
|                                                  |       |       |       |       |       |
| Total  shareholders’ equity                      |       | 34,531,100 |       | 29,948,500 |       |
|                                                  |       |       |       |       |       |
| Total  liabilities and shareholders’ equity      |       | $          | 43,998,200 |       | $          | 38,513,800 |   |

 

104

----

 

**17.          PARENTONLY CONDENSED FINANCIAL STATEMENTS**

** **

**CONDENSEDSTATEMENT OF INCOME**

 

**For theYears Ended December 31, 2004, 2003 and 2002**

 
| ** **                                                    | ** ** | **2004**   | ** ** | **2003**   | ** ** | **2002**   | ** ** |
|---------------------------------------------------------------|------------|------------|------------|------------|------------|------------|------------|
| ** **                                                    | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| Income:                                                       |       |       |       |       |       |       |       |
| Dividends  declared by bank subsidiary                        |       | $          | 1,857,100  |       | $          | 2,064,100  |       | $ | 794,700 |   |
|                                                          |       |       |       |       |       |       |       |
| Expenses:                                                     |       |       |       |       |       |       |       |
| Professional  fees                                            |       | 179,500    |       | 147,200    |       | 97,200     |       |
| Interest expense                                              |       | 439,100    |       | 438,800    |       |       |       |
| Other expenses                                                |       | 142,900    |       | 100,700    |       | 23,300     |       |
|                                                          |       |       |       |       |       |       |       |
| Total expenses                                                |       | 761,500    |       | 686,700    |       | 120,500    |       |
|                                                          |       |       |       |       |       |       |       |
| Income before  equity in Undistributed income of subsidiaries |       | 1,095,600  |       | 1,377,400  |       | 674,200    |       |
|                                                          |       |       |       |       |       |       |       |
| Equity in  undistributed income of subsidiaries               |       | 4,235,000  |       | 3,577,800  |       | 4,127,400  |       |
|                                                          |       |       |       |       |       |       |       |
| Income before  income tax benefit                             |       | 5,330,600  |       | 4,955,200  |       | 4,801,600  |       |
|                                                          |       |       |       |       |       |       |       |
| Income tax  benefit                                           |       | 279,000    |       | 314,000    |       | 48,000     |       |
|                                                          |       |       |       |       |       |       |       |
| Net income                                                    |       | $          | 5,609,600  |       | $          | 5,269,200  |       | $ | 4,849,600 |   |

 

105

----

 

 

**17.          PARENTONLY CONDENSED FINANCIAL STATEMENTS**

 

**CONDENSEDSTATEMENT OF CASH FLOWS**

 

**For theYears Ended December 31, 2004, 2003 and 2002**

 
| ** **                                                                         | ** ** | **2004**   | ** ** | **2003**   | ** ** | **2002**   | ** ** |
|------------------------------------------------------------------------------------|------------|------------|------------|------------|------------|------------|------------|
| ** **                                                                         | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| Cash flows from  operating activities:                                             |       |       |       |       |       |       |       |
| Net income                                                                         |       | $          | 5,609,600  |       | $          | 5,269,200  |       | $ | 4,849,600 |   |
| Adjustments to  reconcile net income to net cash provided by operating activities: |       |       |       |       |       |       |       |
| Undistributed  net income of subsidiary                                            |       | (4,235,000 | )          | (3,577,800 | )          | (4,127,400 | )          |
| Increase in  other assets                                                          |       | (110,800   | )          | (375,200   | )          | (301,700   | )          |
| Increase in  other liabilities                                                     |       | 67,100     |       | 91,800     |       | (45,900    | )          |
|                                                                               |       |       |       |       |       |       |       |
| Net cash  provided by operating activities                                         |       | 1,330,900  |       | 1,408,000  |       | 374,600    |       |
|                                                                               |       |       |       |       |       |       |       |
| Cash flows from  investing activities:                                             |       |       |       |       |       |       |       |
| Investment in  Butte Community Bank                                                |       |       |       | (4,760,000 | )          | (85,700    | )          |
| Investment in  CVB Insurance Agency LLC                                            |       | (1,000,000 | )          |       |       |       |       |
| Investment in  Community Valley Bancorp Trust I                                    |       |       |       |       |       | (248,000   | )          |
|                                                                               |       |       |       |       |       |       |       |
| Net cash used in  investing activities                                             |       | (1,000,000 | )          | (4,760,000 | )          | (333,700   | )          |
|                                                                               |       |       |       |       |       |       |       |
| Cash flows from  financing activities:                                             |       |       |       |       |       |       |       |
| Proceed from  ESOP note payable                                                    |       | 848,900    |       |       |       |       |       |
| Repayments of  ESOP note payable                                                   |       | (15,700    | )          |       |       |       |       |
| Purchase of  unallocated ESOP shares                                               |       | (150,000   | )          |       |       |       |       |
| Proceeds from  the issuance of junior subordinated debentures                      |       |       |       |       |       | 8,248,000  |       |
| Proceeds from  exercise of stock options                                           |       | 285,100    |       | 267,300    |       | 287,200    |       |
| Cash paid for  fractional shares                                                   |       | (6,000     | )          |       |       | (5,300     | )          |
| Payment of cash  dividends                                                         |       | (1,089,500 | )          | (1,079,000 | )          | (812,200   | )          |
| Repurchase of  common stock                                                        |       | (502,200   | )          |       |       |       |       |
|                                                                               |       |       |       |       |       |       |       |
| Net cash used in  financing activities                                             |       | (629,400   | )          | (811,700   | )          | 7,717,700  |       |
|                                                                               |       |       |       |       |       |       |       |
| Decrease in cash  and cash equivalents                                             |       | (298,500   | )          | (4,163,700 | )          | 7,758,600  |       |
|                                                                               |       |       |       |       |       |       |       |
| Cash and cash  equivalents at beginning of year                                    |       | 3,594,900  |       | 7,758,600  |       | —     |       |
|                                                                               |       |       |       |       |       |       |       |
| Cash and cash  equivalents at end of year                                          |       | $          | 3,296,400  |       | $          | 3,594,900  |       | $ | 7,758,600 |   |

 

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