U.S. SECURITIES AND EXCHANGE COMMISSION

Washington D.C. 20549

FORM 10-K

x Annual report under Section 13 or 15(d) of the Securities Exchange Act of 1934 (Fee required)

~~(Fee required)~~ for fiscal year ended December 31, ~~2010~~2011

o Transition report under Section 13 or 15(d) of the Securities Exchange Act of 1934 (No fee required)

~~(No fee required)~~ for the period from to

Commission File Number 0-27666

NORTHERN CALIFORNIA BANCORP, INC.

(Exact name of registrant as specified in its Charter)

Incorporated in the State of California

IRS Employer Identification Number 77-0421107

Address: 601 Munras Avenue, Monterey, CA 93940

Telephone: (831) 649-4600

Securities registered under Section 12(g) of the Exchange Act: Common stock

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

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes o No x

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Exchange Act. Yes o No x

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No o.

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during ~~the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes o No o~~

the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes o No o

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

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

Large accelerated filer o		Accelerated filer o

Non-accelerated filer o		Smaller reporting company x

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

Aggregate market value of Common Stock held by non-affiliates as of the last business day of the registrant’s most recently completed second fiscal quarter ended June 30, ~~2010~~2011 was $1801,~~785,~~000.

Shares of stock outstanding as of March 1, 2011: 1,785,891.

DOCUMENTS INCORPORATED BY REFERENCE

None.

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FORM 10-K CROSS REFERENCE INDEX

		PAGE
PART I		3
ITEM 1.	BUSINESS	3
ITEM 1A.	RISK FACTORS	3029
ITEM 1B.	UNRESOLVED STAFF COMMENTS.	4429
ITEM 2.	PROPERTIES	4429
ITEM 3.	LEGAL PROCEEDINGS	4430
ITEM 4.	~~SUBMISSION~~MINE OFSAFETY ~~MATTERS TO A VOTE OF SECURITY HOLDERS~~DISCLOSURES	4630
PART II		4631
ITEM 5.	MARKET FOR THE COMMON EQUITY, RELATED STOCKHOLDER MATTERS, AND ISSUER OF PURCHASES OF EQUITY SECURITIES	4631
ITEM 6.	SELECTED FINANCIAL DATA	4933
ITEM 7.	MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATION	5034
ITEM 7A.	QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK.	7360
ITEM 8.	FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA	7461
ITEM 9.	CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS AND FINANCIAL DISCLOSURE	7562
ITEM 9A(T)	CONTROLS AND PROCEDURES	7562
ITEM 9B.	OTHER INFORMATION	7663
PART III		7764
ITEM 10.	DIRECTORS, EXECUTIVE OFFICERS, AND CORPORATE GOVERNANCE	7764
ITEM 11.	EXECUTIVE COMPENSATION	8066
ITEM 12.	SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT, AND RELATED STOCKHOLDER MATTERS	8269
ITEM 13.	CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE	8471
ITEM 14.	PRINCIPAL ACCOUNTANT FEES AND SERVICES	8572
ITEM 15.	EXHIBITS AND FINANCIAL STATEMENT SCHEDULES	8673

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Statements Regarding Forward-Looking Information

Except for historical information contained herein, the matters discussed or incorporated by reference in this report on Form 10-K contain forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended (the “Securities Act”), and Section 21E of the Securities Exchange Act of 1934 (the “Exchange Act”), that involve substantial risks and uncertainties. When used in this report, or in the documents incorporated by reference herein, the words “anticipate,” “believe,” “estimate,” “may,” “intend,” “expect,” and similar expressions identify certain of such forward-looking statements. Actual results of Northern California Bancorp, Inc. (the “Corporation”) could differ materially from such forward-looking statements contained herein. Factors that could cause future results to vary from current expectations include, but are not limited to, the following: changes in economic conditions (both generally and more specifically in the markets in which the Corporation operates): changes in interest rates, deposit flows, loan demand, real estate values and competition; changes in accounting principles, policies or guidelines and in government legislation and regulation (which change from time to time and over which the Corporation has no control); other factors affecting the Corporation’s operations, markets, products and services; and other risks detailed in this Form 10-K (see “Item 1A. Risk Factors”) and in the Corporation’s other reports filed with the Securities and Exchange Commission. Readers are cautioned not to place undue reliance on these forward-looking statements, which reflect management’s analysis only as of the date hereof. The Corporation undertakes no obligation to publicly revise these forward-looking statements to reflect events or circumstances that arise after the date thereof.

PART I

ITEM 1. BUSINESS

GENERAL

Northern California Bancorp, Inc. (the “Corporation”) was incorporated on August 29, 1995, as a for-profit corporation under California ~~corporate~~law ~~laws~~ for the principal purpose of engaging in banking and non-banking activities as allowed for a bank holding company. At December 31, ~~2010~~2011, on a consolidated basis, the Corporation had total assets of $~~263~~245,~~617~~677,000, total loans of $~~154~~153,~~708~~925,000 and total deposits of $~~207~~203,~~998~~613,000. ~~The~~It ~~Corporation~~ owns 100% of the stock of Monterey County Bank, Monterey, California (the “Bank”). The Corporation’s sources of revenues at this time are dividends on investments, gains on securities transactions and potential dividends, management fees and tax equalization payments, if any, from the Bank. As a result of various regulatory orders and agreements to which the Bank and the Corporation became subject in 2010, the Bank is presently prohibited from paying dividends and the Corporation has agreed not to accept dividends from the Bank absent prior regulatory authorization to do so.

The Corporation, as a bank holding company, engages in commercial banking through the Bank. The Corporation may also engage in certain non-banking activities closely related to banking and own certain other business companies that are not banks, subject to applicable laws and regulations, although it has no current plans to do so.

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MONTEREY COUNTY BANK

Monterey County Bank, an independent, California chartered commercial banking corporation, was chartered by the State of California on July 30, 1976. The Bank’s customer base includes individuals, small- and medium-sized businesses and a variety of government agencies with residences, offices or other relationships located in or about the city and county of Monterey, California, including the cities of Carmel-by-the-Sea, Pacific Grove and Salinas. The Bank offers its customers a wide variety of the normal personal, consumer and commercial services expected of a locally-owned, independently operated bank. The Bank’s deposits are insured by the Federal Deposit Insurance Corporation (the “FDIC”) and, as such, the Bank is subject to supervision and regulation by that federal agency and to periodic audits of its operations and documentary compliance by FDIC personnel. As a state chartered bank that is not a member of the Federal Reserve System, it is also regulated and periodically examined by the California Department of Financial Institutions (the “CDFI”).

The Bank’s activities are conducted at its main office, 601 Munras ~~Ave.~~Avenue, Monterey, California and at its ~~four~~three branch offices in Carmel~~-By-The-Sea,~~ ~~Carmel~~ Valley, Pacific Grove and Salinas, California and a loan production office in Monterey, California. The Bank ceased operations at its Carmel-By-The-Sea branch office effective December 30, 2011.

The Bank provides a range of competitive retail and commercial banking services. The deposit services offered include various types of personal and business checking accounts, savings accounts, money market investment accounts, certificates of deposit and retirement accounts. Lending services include consumer loans, various types of mortgage loans for residential and commercial real estate, personal lines of credit, home equity loans, real estate construction loans, accounts receivable financing and commercial loans to small- and medium-sized businesses and professionals. The Bank also provides drive-through facilities at its Monterey and Carmel offices and night depository facilities for customer convenience. The Bank offers safe deposit box facilities, cashiers’ checks, travelers’ checks, U.S. Savings Bonds and wire transfers. The Bank does not provide trust services.

While the Bank has the authority to engage in a wide range of banking activities and offers most of the types of banking services of a commercial bank, over the past three years it has derived ~~much~~a significant portion of its ~~profitability~~income from and differentiated itself from its competitors through: (i) commercial and real estate loans guaranteed by the Small Business Administration (“SBA”); (ii) sponsorship of credit card and debit card ~~programs~~program; although this is declining and (iii) credit card depository services for merchants.

The primary issues that affected the Corporation in ~~2010~~2011 were:

(1) The continued depressed economic conditions and the related stress in real estate markets -.

~~The~~During 2011, the Corporation continued to focus resources on managing the deterioration of asset quality resulting from the effect that ~~deteriorating~~the economic ~~conditions~~recession had on loans made primarily to residential real estate development projects and assets acquired through foreclosure. Whereas ~~The~~the Corporation’s did not have a provision for loan losses ~~decreased (no provisions were made~~ in 2010, ~~compared~~the toCorporation had a $37,~~368~~860,000 loan loss provision in ~~2009)~~2011 ~~while~~which materially impacted the Corporation’s net income. This was partially offset by a decrease of $1,897,000 in expenses related to foreclosed assets, ~~increased~~from ($3,070,000 in 2010 ~~compared~~ to $1,~~401~~173,000 in ~~2009)~~2011, ~~largely~~ due, toin ~~asset~~large ~~quality~~part, ~~issues~~to ~~related~~property values beginning to ~~this~~stabilize ~~market~~during ~~segment~~2011.

Management’s efforts focused on identifying potentially weak credits as early as possible, which enabled a proactive and aggressive approach to managing these credits and the development of workout strategies as appropriate. Nonetheless, loans 30 days or

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The Bank’s Management continued to focus their efforts on identifying potentially weak credits as early as possible, which enabled a proactive and aggressive approach to managing these credits and the development of workout strategies, as appropriate. As a result of their efforts, loans 30 days or more past due ~~increased~~decreased from $816,~~190~~117,000, (4or 10.94% of total loans), at December 31, ~~2009~~2010 to $174,~~780~~399,000, ~~(11~~or 2.59%, of total loans), at December 31, ~~2010~~2011. Past due loans ~~increased~~also decreased during ~~this~~the same period by $911,~~590~~718,000, or ~~117~~72.17%~~. During the same period~~, while non-performing loans (non-accrual loans and troubled debt restructurings which are not in conformity with their modified terms) ~~increased~~decreased from $812,~~884~~380,000, (5or 8.30% of total loans), at December 31, ~~2009~~2010 to $124,~~380~~691,000, (8or 3.01% of total loans), at December 31, ~~2010~~2011. Of the non-performing loans outstanding at December 31, 2011 and 2010, $4,342,000, or 92.6%, and $6,241,000, or 54.4%, respectively, were secured by real estate (net of any charge-offs previously taken). ~~Total~~Other ~~past~~real ~~due~~estate ~~loans~~owned, ~~and non-performing loans are~~ net of ~~the~~valuation ~~guaranteed~~allowance, ~~portion~~decreased ~~of SBA loans totaling~~ $1103,~~659,~~000 ~~and~~from $128,~~608~~825,000, ~~respectively. Management~~at ~~believes~~December 31, ~~the~~2010 ~~presence of real estate collateral mitigates the level of expected loss though the level of mitigation is uncertain due~~ to ~~the~~$28,722,000 ~~difficulty in ascertaining real estate values~~ at ~~this~~December 31, ~~time~~2011.

~~Management~~Total ~~utilized~~past adue ~~pricing~~loans ~~discipline~~ and ~~other strategies to offset pressure on the Corporation’s net yield on earning assets created by declining interest rates and an increase in~~ non-performing loans~~. To~~ ~~combat~~are ~~this and other adverse factors, Management’s efforts to improve its~~ net ~~yield~~of ~~on earning assets included~~ the ~~development~~guaranteed portion of aSBA ~~loan~~loans ~~pricing~~totaling ~~model~~$1,249,000 ~~establishing~~and ~~floors on variable rate loan products~~$1,608,000 ~~increased~~at ~~investment in tax-free municipal securities~~December 31, ~~increased~~2011 ~~efforts to attract lower cost checking accounts~~ and ~~increased~~2010, ~~use of competitively priced out-of-area deposits and Federal Reserve Bank borrowings~~respectively. ~~The~~Management ~~Corporation’s~~believes ~~tax-equivalent~~the ~~net~~presence ~~yield~~of onreal ~~earning~~estate ~~assets~~collateral ~~increased~~mitigates tothe ~~3.18%~~level ~~for~~of ~~2010~~expected ~~compared~~loss, toalthough ~~3.09%~~the ~~for~~level ~~2009. Non-accrual~~of ~~loans~~mitigation ~~totaled~~is ~~$11,473,000~~uncertain atdue ~~year-end 2010 compared~~ to ~~$8,080,000~~the atdifficulty ~~year-end 2009, an increase of $3,396,000 or 42.0%. The increase~~ in ~~non-accrual~~ascertaining ~~loans~~real ~~resulted~~estate ~~from~~values ~~depressed~~at ~~economic~~this ~~activity and a depressed real estate market~~time.

~~2) The~~Management ~~imposition~~utilized of a ~~joint~~pricing ~~consent~~discipline ~~order~~and other strategies to offset pressure on the ~~Bank~~Corporation’s net yield on earning assets created by the ~~FDIC~~low ~~and~~interest ~~the~~rate ~~CDFI,~~environment ~~the~~and ~~imposition~~an ofincrease ~~various~~in ~~regulatory~~non-performing ~~orders~~loans. To combat this and ~~civil~~other ~~money~~adverse ~~penalties~~factors, Management’s efforts to improve its net yield on ~~the~~earning ~~Bank~~assets byin 2011 included the ~~FDIC~~development of a loan pricing model, ~~and~~establishing ~~the~~floors ~~entry~~on ~~into~~variable arate ~~regulatory~~loan ~~agreement~~products, ~~between~~increased ~~the~~investment ~~Corporation~~in tax-free municipal securities, increased efforts to attract lower cost checking accounts and ~~the~~increased use of competitively priced out-of-area deposits and Federal Reserve Bank ofborrowings. The ~~San~~Corporation’s ~~Francisco~~tax-equivalent net yield on earning assets increased to 3.63% for 2011 compared to 3.18% for 2010.

~~The~~(2) Reduction ~~regulatory~~in ~~orders~~the ~~and~~Bank’s ~~agreement~~credit ~~are~~and ~~further~~debit ~~discussed~~card ~~under “Regulatory Enforcement Powers~~programs.”

~~3) Reduction~~The Bank has provided sponsorship of third-party credit card and debit card programs since August 2002. The Bank gave notice in June 2008 to the ~~Bank~~third-party card vendors that it planned to reduce its sponsorship of credit card and stored value card programs and terminated sponsorship agreements on all programs except a drug manufacture’s rebate card program. The characteristics of the drug manufactures’ rebate card program significantly reduces the level of required monitoring. The Bank decided to continue its sponsorship of a debit card program which issues payroll cards and sponsorship of one credit card program in order to preserve the third party’s indemnification of the Bank against potential expenses and/or ~~debit~~liabilities. The Bank also decided to grant extensions of its sponsorship of one credit card program to allow time for the final resolution of issues raised by the FDIC, as further discussed under “Regulatory Enforcement Powers.” Extension of the program sponsorship is considered quarterly with the third party paying an extension fee each time an extension is granted. The Bank’s sponsorship of the terminated programs ended in 2009. The Bank has been named as a defendant in a lawsuit brought by one of the third-party credit card companies, seeking to compel the Bank to continue its sponsorship for a period of time. (See “Item 3. Legal Proceedings” for further discussion.)

The Bank has provided sponsorship of third-party credit card and debit card programs since August 2002. The Bank gave notice in June 2008 to the third-party card vendors that it planned to reduce its sponsorship of credit card and stored value card programs and terminated sponsorship agreements on all programs except a drug manufactures’ rebate card program. The characteristics of the drug manufactures’ rebate card program significantly reduces the level of required monitoring. The Bank decided to continue its sponsorship of a debit card program which issues payroll cards and sponsorship of one credit card program in order to preserve the third party’s indemnification of the Bank against potential expenses and/or liabilities. The Bank also decided to grant extensions of its sponsorship of one credit card program to allow time for the final resolution of issues raised by the FDIC, as further discussed under “Regulatory Enforcement Powers.” Extension of the program sponsorship is considered quarterly with the third party paying an extension fee each time an extension is granted. The Bank’s sponsorship of the terminated programs ended in 2009. The Bank has been named as a defendant in a lawsuit brought by one of the third-party credit card

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~~companies~~The Bank’s revenues, ~~seeking~~consisting toof ~~compel~~a monthly fee per card or a minimum monthly fee, from the credit card programs were $721,000 and $1,246,000 in 2011 and 2010, respectively. The Bank’s torevenues ~~continue~~from ~~its~~credit ~~sponsorship~~card ~~for~~programs ain ~~period~~2011 decreased as the result of ~~time~~the June 30, 2011 termination of a card program sponsorship agreement. ~~(See~~The ~~“Item~~Bank’s 3.revenues, ~~Legal~~consisting ~~Proceedings”~~of ~~for~~a ~~further~~monthly ~~discussion~~fee per card or a minimum monthly fee, from the debit card programs were $35,000 and $59,000 in 2011 and 2010, respectively.)

The Bank’s revenues, consisting of a monthly fee per card or a minimum monthly fee, from the credit card programs were $1,246,000, $1,075,000 and $514,000 in 2010, 2009 and 2008, respectively. The Bank’s revenues from the credit card programs in 2010 and 2009 increased due to the collection of quarterly extension fees paid by one of the programs. The Bank’s revenues, consisting of a monthly fee per card or a minimum monthly fee, from the debit card programs were $59,000, $81,000 and $293,000 in 2010, 2009 and 2008, respectively.

NORTHERN CALIFORNIA BANCORP, INC. TRUST I

On March 27, 2003, Northern California Bancorp, Inc. Trust I, a Delaware statutory business trust and a wholly-owned subsidiary of the Corporation (“Trust I”), issued an aggregate of $3.0 million of principal amount of Floating Rate TRUPSâ (Capital Trust Pass-through Securities of the Trust) (the “Trust Preferred Securities”). The securities issued by Trust I are fully guaranteed by the Corporation with respect to distributions and amounts payable upon liquidation, redemption or repayment. The entire proceeds to Trust I from the sale of the Trust Preferred Securities were used by Trust I in order to purchase $3.0 million in principal amount of the Floating Rate Junior Subordinated Deferrable Interest Debentures due 2033 issued by the Corporation (the “Subordinated Debt Securities”).

Pursuant to Accounting Standards ~~and~~ Codification (“ASC”) 810-10 (formerly interpretation FIN 46(R)) entitled “Consolidation of Variable Interest Entities,” Trust I is not reflected on a consolidated basis in our Consolidated Financial Statements.

The Subordinated Debt Securities bear a variable interest rate equal to the three-month London Interbank Offered Rate (“LIBOR”) plus 3.25%. The effective rate at December 31, ~~2010~~2011 and ~~2009~~2010 was 3.5465% and 3.5354%, respectively. Total broker and legal costs of $115,000 associated with the issuance are being amortized over a 30 year period.

The Corporation has exercised its rights in accordance with ~~Section 2.11 Extension of Interest Payment Period of~~ the ~~Indentures~~indenture ~~dated March 27, 2003~~ for ~~Northern~~the ~~California~~Subordinated ~~Bancorp, Inc.~~Debt ~~Trust~~Securities I to defer interest payments for an undetermined period of time, not to exceed twenty (20) consecutive quarterly payments. The deferral of interest payments on Trust I was effective with the October 7, 2009 interest payment. At December 31, ~~2010~~2011 and ~~2009~~2010, accrued and unpaid interest totaled $~~177~~297,000 and $60177,000, respectively.

NORTHERN CALIFORNIA BANCORP, INC. TRUST II

On November 13, 2003, Northern California Bancorp, Inc. Trust II, a Delaware statutory business trust and a wholly-owned subsidiary of the Corporation (“Trust II”), issued an aggregate of $5.0 million of principal amount of Floating Rate TRUPSâ (the “Trust Preferred Securities-II”). The securities issued by Trust II are fully guaranteed by the Corporation with respect to distributions and amounts payable upon liquidation, redemption or repayment. The entire proceeds to Trust II from the sale of the Trust Preferred Securities were used by Trust II in order to purchase $5.0 million in principal amount of the Floating Rate Junior Subordinated Deferrable Interest Debentures due 2033 issued by the Corporation (the “Subordinated Debt Securities-II”).

Pursuant to ASC 810-10, Trust II is not reflected on a consolidated basis in our Consolidated Financial Statements.

The Subordinated Debt Securities-II bear a variable interest rate equal to the three-month LIBOR plus 2.85%. The effective rate at December 31, 2011 and 2010 was 3.28% and 3.14%, respectively. Total broker and legal costs of $54,000 associated with the issuance are being amortized over a 30 year period.

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~~Pursuant~~The Corporation has exercised its rights in accordance with the indenture for the Subordinated Debt Securities II to ~~ASC~~defer ~~810-10~~interest payments for an undetermined period of time, not to exceed twenty (20) consecutive quarterly payments. The deferral of interest payments on Trust II iswas ~~not~~effective ~~reflected~~with onthe aNovember 8, ~~consolidated~~2009 ~~basis~~interest inpayment. At ~~our~~December 31, ~~Consolidated~~2011 ~~Financial~~and ~~Statements~~2010, accrued and unpaid interest totaled $411,000 and $237,000, respectively.

The Subordinated Debt Securities-II bear a variable interest rate equal to the three-month LIBOR plus 2.85%. The effective rate at December 31, 2010 and 2009 was 3.14% and 3.13%, respectively. Total broker and legal costs of $54,000 associated with the issuance are being amortized over a 30 year period.

The Corporation has exercised its rights in accordance with Section 2.11 Extension of Interest Payment Period of the Indentures dated November 13, 2003 for Northern California Bancorp, Inc. Trust II to defer interest payments for an undetermined period of time, not to exceed twenty (20) consecutive quarterly payments. The deferral of interest payments on Trust II was effective with the November 8, 2009 interest payment. At December 31, 2010 and 2009 accrued and unpaid interest totaled $237,000 and $65,000, respectively.

EMPLOYEES

At December 31, ~~2010~~2011, the Corporation and the Bank employed a total of 5448 full-time equivalent persons. Our employees are not represented by any union or other collective bargaining agreement and we consider our relations with our employees to be excellent.

COMPETITION

All phases of the Bank’s business have been, since inception, and will continue to be, subject to significant competitive forces. Although the Bank has increasing recognition in its primary service area of Monterey County as a whole, it nevertheless has to compete with other independent local banking institutions, including commercial banks and savings and loan associations, as well as branch offices of regional and national commercial banks, which have assets, capital and lending limits substantially larger than the Bank, as well as wider geographic markets, more support services and larger media advertising capabilities. The Bank competes with respect to its lending activities, as well as in attracting demand deposits, with savings banks, savings and loan associations, insurance companies, regulated small loan companies and credit unions, as well as securities brokerage offices which can issue commercial paper and other securities (such as shares in money market funds).

Among the advantages such institutions have over the Bank are their ability to finance wide ranging advertising campaigns and to allocate their investment assets to regions of highest yields and demand. Many institutions offer certain services, such as trust services and international banking, which the Bank does not currently offer or plan to offer. By virtue of their greater total capital, such institutions have substantially higher lending limits than the Bank (legal lending limits to an individual customer being limited to a percentage of a bank’s total capital accounts). These competitors may intensify their advertising and marketing activities to counter any efforts by the Bank to further attract new business as a commercial bank. In addition, as a result of legislation enacted earlier in the decade, there is increased competition between banks, savings and loan associations and credit unions for the deposit and loan business of individuals. These activities may hinder the Bank’s ability to capture a significant market share.

To compete with the financial institutions in its primary service area, the Bank intends to use the flexibility which its independent status permits. Its activities in this regard include an ability and intention to respond quickly to changes in the interest rates paid on time and savings deposits and charged on loans, and to charges imposed on depository accounts, so as to remain competitive in the market place. It also will continue to emphasize specialized services for the small business person and professional and personal contacts by the Bank’s officers, directors and employees. If there are customers whose loan demands exceed the Bank’s lending limits, the Bank has the ability to arrange for such loans on a participation basis with other financial institutions. No assurances can be given, however, that the Bank’s efforts to compete with other financial institutions in its primary service area will be successful.

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~~person~~comprise ~~and~~the ~~professional~~major ~~and~~portion ~~personal~~of ~~contacts by~~ the Bank’s ~~officers, directors and employees~~earnings. IfThese ~~there~~rates are ~~customers~~highly ~~whose~~sensitive ~~loan~~to ~~demands~~many ~~exceed~~factors ~~the~~that ~~Bank’s~~are ~~lending~~beyond ~~limits,~~ the ~~Bank~~control ~~has~~of the ~~ability to arrange for such loans on a participation basis with other financial institutions~~Bank. NoAccordingly, ~~assurance~~the ~~can~~earnings beand ~~given,~~growth ~~however,~~of ~~that~~ the Bank’s ~~efforts~~are subject to ~~compete~~the ~~with~~influence ~~other~~of ~~financial~~domestic ~~institutions~~and inforeign ~~its~~economic ~~primary~~conditions, ~~service~~including ~~area~~inflation, ~~will~~recession beand ~~successful~~unemployment.

The Bank’s earnings depend largely on rate differentials. In general, the difference between the interest rate paid by the Bank on its deposits and its other borrowings, and the interest rate received by the Bank on loans extended to its customers and securities held in the Bank’s portfolio, comprise the major portion of the Bank’s earnings. These rates are highly sensitive to many factors that are beyond the control of the Bank. Accordingly, the earnings and growth of the Bank are subject to the influence of domestic and foreign economic conditions, including inflation, recession and unemployment.

Monetary and fiscal policies of the federal government and the policies of regulatory agencies, particularly the Federal Reserve Board, also impact on the Bank’s business. The Federal Reserve Board implements national monetary policies (with objectives such as curbing inflation and combating recession) by its open-market operations in U.S. Government securities, by adjusting the required level of reserves for financial intermediaries subject to its reserve requirements and by varying the discount rates applicable to borrowings by depository institutions. The actions of the Federal Reserve Board in these areas influence the growth of bank loans, investments and deposits and also affect interest rates charged on loans and paid on deposits. The nature and impact of any future changes in monetary policies cannot be predicted.

REGULATION AND SUPERVISION

General

The Corporation and the Bank are extensively regulated under Federal and State law. To the extent that the following information describes statutory or regulatory provisions, it is qualified in its entirety by reference to the particular statutory or regulatory provision. Any change in applicable laws or regulations may have a material effect on our business and our prospective business. Our operations may be adversely affected by legislative changes and by the policies of various regulatory authorities. We are unable to predict the nature or the extent of the effects on our business and earnings that fiscal or monetary policies, economic controls, or new Federal or State legislation may have in the future.

The Corporation is a registered bank holding company under the Bank Holding Company Act of 1956 (BHCA) and, as such, is subject to regulation, supervision, and examination by the Board of Governors of the Federal Reserve System (Federal Reserve). The Corporation is required to file annual reports with the Federal Reserve and to provide the Federal Reserve such additional information as it may require.

The Bank, as a California state bank and non- member of the Federal Reserve System, is supervised by CDFI and the FDIC. As such, the Bank is regularly examined by and subject to regulations promulgated by the CDFI and the FDIC.

Bank Holding Company Act

Under the BHCA, as amended, the Corporation’s activities are limited to business so closely related to banking, managing, or controlling banks as to be a proper incident thereto. We are also subject to capital requirements applied on a consolidated basis in a form substantially similar to those required of the Bank. The BHCA also requires a bank holding company to obtain approval from the Federal Reserve before (i) acquiring, or holding more than 5% voting interest in any bank or bank holding company, (ii) acquiring all or substantially all of the assets of another bank or bank holding company, or (iii) merging or consolidating with another bank holding company.

The BHCA also restricts non-bank activities to those which, by statute or by Federal Reserve regulation or order, have been identified as activities closely related to the business of banking or of managing or controlling banks. As discussed below, the Gramm-Leach-Bliley Act,

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~~related~~which towas ~~banking,~~enacted ~~managing~~in 1999, orestablished ~~controlling banks as to be~~ a ~~proper~~new ~~incident~~type ~~thereto. We are also subject to capital requirements applied on a consolidated basis in a form substantially similar to those required~~ of ~~the Bank. The BHCA also requires a~~ bank holding company toknown ~~obtain~~as ~~approval~~a ~~from~~“financial ~~the Federal Reserve before (i) acquiring, or~~ holding ~~more than 5% voting interest in any bank or bank holding~~ company,” ~~(ii) acquiring~~that ~~all~~has orpowers ~~substantially~~that ~~all~~are ofnot ~~the~~otherwise ~~assets~~available ofto ~~another~~ bank ~~or bank~~ holding ~~company, or (iii) merging or consolidating with another bank holding company~~companies.

~~The BHCA also restricts non~~Dodd-~~bank~~Frank ~~activities~~Wall toStreet ~~those~~Reform ~~which,~~and byConsumer ~~statute~~Protection ~~or by Federal Reserve regulation or order, have been identified as activities closely related to the business of banking or of managing or controlling banks. As discussed below, the Gramm-Leach-Bliley~~ Act~~, which was enacted in 1999, established a new type of bank holding company known as a “financial holding company” that has powers that are not otherwise available to bank holding companies.~~

~~Recent~~On ~~Regulatory~~July 21, ~~Developments~~2010, the Dodd-Frank Wall Street Reform and Consumer Protection Act (the “Dodd-Frank Act”) was signed into law. The Dodd-Frank Act is intended to effect a fundamental restructuring of federal banking regulation. Among other things, the Dodd-Frank Act creates a new Financial Stability Oversight Council to identify systemic risks in the financial system and gives federal regulators new authority to take control of and liquidate financial firms. The Dodd-Frank Act additionally creates a new independent federal regulator to administer federal consumer protection laws. The Dodd-Frank Act is expected to have a significant impact on our business operations as its provisions take effect. Among the provisions that may affect us are the following:

~~Beginning~~Holding inCompany late 2008 and continuing throughout 2010, there has been an unprecedented number of government initiatives designed to respond to economic stresses. In response to the financial crises affecting the banking system and financial markets and going concern threats to investment banks and other financial institutions, the Emergency Economic Stabilization Act of 2008 (“EESA”) was signed into law on October 3, 2008. Pursuant to EESA, the Treasury was given the authority to, among other things, purchase up to $700 billion of mortgages, mortgage-backed securities and certain other financial instruments from financial institutions for the purpose of stabilizing and providing liquidity to the United States financial markets. Pursuant to EESA, the Treasury established the Troubled Asset Relief Program (“TARP”) and has since injected capital into many financial institutions under the TARP Capital ~~Purchase Program (“TARP-CPP”). Neither the Corporation nor the Bank participated in TARP-CPP.~~Requirements

OnThe ~~February 10,~~Dodd-Frank ~~2009,~~Act ~~the~~requires ~~Treasury announced~~ the ~~Financial~~FRB ~~Stability Plan (the “FSP”), which, among other things, established a new Capital Assistance Program (“CAP”) through which eligible banking institutions will have access~~ to ~~Treasury~~apply consolidated capital asrequirements ~~a bridge~~ to ~~private~~depository ~~capital~~institution ~~until~~holding ~~market~~companies ~~conditions~~that ~~normalize,~~are ~~and~~no ~~extended~~less ~~the~~stringent ~~debt~~than ~~guarantee~~those ~~portion~~currently ofapplied ~~the TLGP~~ to ~~October 31,~~depository ~~2009~~institutions. Under ~~pursuant~~these ~~to which the FDIC fully guaranteed certain newly issued senior unsecured debt and provided full FDIC deposit insurance coverage for certain accounts~~standards, ~~including~~trust ~~noninterest-bearing~~preferred ~~transaction~~securities ~~deposit~~will ~~accounts.~~be ~~The~~excluded ~~FSP~~from ~~also~~Tier ~~extended~~1 ~~the~~capital ~~Transaction~~unless ~~Account~~such ~~Guarantee~~securities ~~Program~~were ofissued ~~the~~prior ~~TLGP~~ to ~~June~~May 3019, 2010 ~~which~~by ~~has been further extended to December 31, 2010. As~~ a ~~complement~~bank toholding ~~CAP,~~company awith ~~new~~less ~~Public-Private~~than ~~Investment Fund on an initial scale of up to~~ $~~500~~15 billion, ~~with~~in ~~the potential to expand up to $1 trillion, was established to catalyze the removal of legacy~~ assets ~~from the balance sheets of financial institutions~~. The ~~This~~Dodd-Frank ~~fund~~Act ~~combines~~additionally ~~public~~requires ~~and private~~ capital ~~with~~requirements ~~government financing~~ to ~~help~~be ~~free~~countercyclical upso ~~capital~~that ~~to support new lending. In addition,~~ the ~~existing~~required ~~Term~~amount ~~Asset-Backed~~of ~~Securities~~capital ~~Lending~~increases ~~Facility (“TALF”) was expanded (up to $1 trillion)~~ in ~~order~~times toof ~~reduce~~economic ~~credit~~expansion ~~spreads~~ and ~~restart~~decreases ~~the securitized credit markets that~~ in ~~recent~~times ~~years supported a substantial portion~~ of ~~lending~~economic ~~to households~~contraction, ~~students,~~consistent ~~small~~with ~~businesses,~~safety and ~~others~~soundness. Furthermore, the FSP established a new framework of governance and oversight to help ensure that banks receiving funds are held responsible for appropriate use of those funds through stronger conditions on lending, dividends and executive compensation along with enhanced reporting to the public.

OnDeposit February 17, 2009, the American Recovery and Reinvestment Act of 2009 (“ARRA”) was signed into law. ARRA is intended to provide (i) tax breaks for individuals and businesses, direct aid to distressed states and individuals, and (iii) infrastructure spending. In addition, ARRA imposes new executive compensation and expenditure limits on all previous and future TARP-CPP Insurance

The Dodd-Frank Act permanently increases the maximum deposit insurance amount for banks, savings institutions and credit unions to $250,000 per depositor, retroactive to January 1, 2009, and extends unlimited deposit insurance to non-interest bearing transaction accounts through December 31, 2012. The Dodd-Frank Act also broadens the base for FDIC insurance assessments. Assessments will now be based on the average consolidated total assets less tangible equity capital of a financial institution. The Dodd-Frank Act requires the FDIC to increase the reserve ratio of the Deposit Insurance Fund from 1.15% to 1.35% of insured deposits by 2020 and eliminates the requirement that the FDIC pay dividends to insured depository institutions when the reserve ratio exceeds certain thresholds. Effective one year from the date of enactment, the Dodd-Frank Act eliminates the federal statutory prohibition against the payment of interest on business checking accounts.

Corporate Governance

The Dodd-Frank Act will require publicly traded companies to give shareholders a non-binding vote on executive compensation at their first annual meeting taking place six months after the date of enactment and at least every three years thereafter and on so-called “golden parachute” payments in connection with approvals of mergers and acquisitions unless previously voted on by shareholders. The new legislation also authorizes the SEC to promulgate rules that would allow shareholders to nominate their own candidates using a company’s proxy materials. Additionally, the Dodd-Frank Act directs the federal banking regulators to promulgate rules prohibiting excessive compensation paid to executives of depository institutions and their holding companies with assets in excess of $1.0 billion, regardless of whether the company is publicly traded or not. The Dodd-Frank Act gives the SEC authority to prohibit broker discretionary voting on elections of directors and executive compensation matters.

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~~recipients~~Prohibition ~~and~~Against ~~expands~~Charter ~~the~~Conversions ~~class~~ of ~~employees~~Troubled to whom the limits and restrictions apply. ARRA also provides the opportunity for additional repayment flexibility for existing TARP-CPP recipients. Among other things, ARRA prohibits the payment of bonuses, other incentive compensation and severance to certain highly paid employees (except in the form of restricted stock subject to specified limitations and conditions), and requires each TARP-CPP recipient to comply with certain other executive compensation related requirements. These provisions modify the executive compensation provisions that were included in EESA, and in most instances apply retroactively for so long as any obligation arising from financial assistance provided to the recipient under TARP remains outstanding.Institutions

InEffective ~~addition,~~one ~~ARRA~~year ~~directs~~after ~~the~~enactment, ~~Secretary of~~ the ~~Treasury~~Dodd-Frank ~~(the~~Act ~~“Secretary”)~~prohibits toa ~~review~~depository ~~previously-paid~~institution ~~bonuses,~~from ~~retention~~converting ~~awards~~from ~~and~~a ~~other~~state ~~compensation paid~~ to ~~the~~federal ~~senior~~charter ~~executive~~or ~~officers~~vice ~~and~~versa ~~certain~~while ~~other~~it ~~highly~~is ~~compensated~~the ~~employees~~subject of ~~each~~a ~~TARP-CPP~~cease ~~recipient~~and todesist ~~determine~~order ~~whether~~or ~~any~~other ~~such~~formal ~~payments~~enforcement ~~were~~action ~~excessive,~~or ~~inconsistent~~a ~~with~~memorandum ~~the purposes~~ of ~~ARRA~~understanding orwith ~~TARP,~~respect ~~or otherwise contrary~~ to ~~the~~a ~~public~~significant ~~interest.~~supervisory Ifmatter ~~the~~unless ~~Secretary of~~ the ~~Treasury~~appropriate ~~determines~~federal ~~that~~banking ~~any~~agency ~~such~~gives ~~payments~~notice ~~have~~of ~~been~~the ~~made~~conversion byto ~~a TARP-CPP recipient,~~ the ~~Secretary~~federal ~~will~~or ~~seek~~state toauthority ~~negotiate~~that ~~with~~issued the ~~TARP-CPP~~enforcement ~~recipient~~action and ~~the~~that ~~subject~~agency ~~employee~~does ~~for appropriate reimbursements to the United States government (~~not ~~the~~object ~~TARP-CPP~~within ~~recipient)~~30 ~~with respect to any such compensation or bonuses~~days. The ~~ARRA~~notice ~~also~~must ~~permits~~include ~~the~~a ~~Secretary,~~plan ~~subject~~ to ~~consultation~~address ~~with~~ the ~~appropriate~~significant ~~federal~~supervisory ~~banking~~matter. The ~~agency,~~converting toinstitution ~~allow~~must aalso ~~TARP-CPP~~file ~~recipient~~a tocopy ~~repay~~of ~~any~~the ~~assistance~~conversion ~~previously~~application ~~provided~~with toits ~~such~~current ~~TARP-CPP~~federal ~~recipient~~regulator ~~under~~which ~~TARP,~~must ~~without~~notify ~~regard to whether~~ the ~~TARP-CPP~~resulting ~~recipient~~federal ~~has~~regulator ~~replaced~~of ~~such funds from~~ any ~~source,~~ongoing ~~and~~supervisory ~~without~~or ~~regard~~investigative toproceedings ~~any waiting period. Any TARP-CPP recipient~~ that ~~repays~~are ~~its~~likely ~~TARP assistance pursuant~~ to ~~this~~result ~~provision~~in ~~would~~an noenforcement ~~longer~~action beand ~~subject~~provide access to ~~the~~all ~~executive~~supervisory ~~compensation~~and ~~provisions~~investigative ~~under~~information ~~ARRA~~relating hereto.

OnInterstate February 18, 2009, the Treasury announced the Homeowners Affordability and Stability Plan (“HASP”), which proposes to provide refinancing for certain homeowners, to support low mortgage rates by strengthening confidence in Fannie Mae and Freddie Mac, and to establish a Homeowner Stability Initiative to reach at-risk homeowners. Among other things, the Homeowner Stability Initiative would offer monetary incentive to mortgage servicers and mortgage holders for certain modifications of at-risk loans, and would establish an insurance fund designed to reduce foreclosures.Branching

OnThe ~~June 21,~~Dodd-Frank ~~2010,~~Act ~~the~~authorizes ~~federal~~national ~~banking~~and ~~agencies~~state ~~issued~~banks ~~Final~~to ~~Guidance~~establish onbranches ~~Sound~~in ~~Incentive~~other ~~Compensation~~states ~~Policies. This guidance seeks~~ to ~~addresses~~ the ~~safety~~same ~~and~~extent ~~soundness~~as ~~risks~~a ~~posed~~bank bychartered ~~improperly-structured compensation arrangements~~ by ~~setting~~that ~~forth~~state awould ~~principles-based~~be ~~framework~~permitted ~~designed~~ to ~~ensure~~branch. Previously, ~~that~~banks ~~incentive~~could ~~compensation~~only atestablish ~~financial~~branches ~~institutions~~in ~~does~~other ~~not~~states ~~encourage~~if ~~employees~~the tohost ~~take~~state ~~excessive~~expressly ~~risks~~permitted ~~that~~out-of-state ~~undermine~~banks ~~the~~to ~~safety~~establish ~~and~~branches ~~soundness~~in atthat ~~these institutions~~state. Accordingly, ~~The~~banks ~~key~~will ~~principles~~be ofable ~~the~~to ~~guidance~~enter ~~are~~new asmarkets ~~follows:~~more freely.

~~· incentive~~Limits ~~compensation~~on ~~arrangements should provide employees incentives that appropriately balance risk and financial results in a manner that does not encourage employees to expose their organizations to imprudent risk;~~Derivatives

~~· these~~Effective ~~arrangements~~18 ~~should~~months beafter ~~compatible~~enactment, ~~with~~the ~~effective~~Dodd-Frank ~~controls~~Act ~~and~~prohibits ~~risk~~state-chartered ~~management;~~banks ~~and~~from engaging in derivatives transactions unless the loans to one borrower limits of the state in which the bank is chartered takes into consideration credit exposure to derivatives transactions. For this purpose, derivative transaction includes any contract, agreement, swap, warrant, note or option that is based in whole or in part on the value of, any interest in, or any quantitative measure or the occurrence of any event relating to, one or more commodities securities, currencies, interest or other rates, indices or other assets.

~~· these~~Transactions ~~arrangements~~with ~~should~~Affiliates ~~be supported by strong corporate governance, including active~~ and ~~effective oversight by an institution’s board of directors.~~Insiders

~~Financial~~Effective ~~institutions~~one ~~are~~year ~~required~~from the date of enactment, the Dodd-Frank Act expands the definition of “affiliate” for purposes of quantitative and qualitative limitations of Section 23A of the Federal Reserve Act to ~~regularly~~include ~~review~~mutual ~~their~~funds ~~incentive~~advised ~~compensation~~by a depository institution or its affiliates. The Dodd-Frank Act will apply Section 23A and Section 22(h) of the Federal Reserve Act (governing transactions with insiders) to derivative transactions, repurchase agreements and securities lending and borrowing transaction that create credit exposure to an affiliate or an insider. Any such transactions with affiliates must be fully secured. The current exemption from Section 23A for transactions with financial subsidiaries will be eliminated. The Dodd-Frank Act will additionally prohibit an insured depository institution from purchasing an asset from or selling an asset to an insider unless the transaction is on market terms and, if representing more than 10% of capital, is approved in advance by the disinterested directors.

Debit Card Interchange Fees

Effective July 21, 2011, the Dodd-Frank Act requires that the amount of any interchange fee charged by a debit card issuer with respect to a debit card transaction must be reasonable and proportional to the cost incurred by the issuer. Within nine months of enactment, the FRB is required to establish standards for reasonable and proportional fees which may take into account the

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~~arrangements~~costs ~~for all executive and non-executive employees who, either individually or as part~~ of apreventing ~~group,~~fraud. The ~~have~~restrictions ~~the~~on ~~ability~~interchange ~~to expose the organization to material amounts of risk~~fees, ~~as well as to regularly review the risk-management~~however, ~~control,~~do ~~and~~not ~~corporate~~apply ~~governance processes related~~ to ~~these~~banks ~~arrangements. Financial institutions must immediately address any identified deficiencies in these compensation arrangements or processes~~ that, ~~are~~together ~~inconsistent~~ with ~~safety and soundness and must ensure that~~ their ~~incentive~~affiliates, ~~compensation~~have ~~arrangements~~assets ~~are~~of ~~consistent~~less ~~with~~than ~~the~~$10 ~~principles discussed in the guidance~~billion.

~~On July 21, 2010, President Obama signed into law the Dodd-Frank Wall Street Reform and~~ Consumer Financial Protection Act, or the Dodd-Frank Act, a landmark financial reform bill that significantly changes the current bank regulatory structure and affects the lending, investment, trading and operating activities of financial institutions and their holding companies. Among other things, the Dodd-Frank Act dramatically impacts the rules governing the provision of consumer financial products and services, and implementation of the Dodd-Frank Act will require new mandatory and discretionary rulemakings by numerous federal regulatory agencies over the next several years. The new law includes, among other things, the following:Bureau

· The Dodd-Frank ~~Acts~~Act ~~establishes~~creates a new, independent federal agency called the Consumer Financial ~~Stability~~Protection ~~Oversight~~Bureau ~~Counsel~~(“CFPB”), towhich ~~monitor~~is ~~systemic~~granted broad rulemaking, supervisory and enforcement powers under various federal consumer financial ~~risks.~~protection ~~The~~laws, ~~Board~~including ofthe ~~Governors~~Equal Credit Opportunity Act, Truth in Lending Act, Real Estate Settlement Procedures Act, Fair Credit Reporting Act, Fair Debt Collection Act, the Consumer Financial Privacy provisions of the ~~Federal~~Gramm-Leach-Bliley ~~Reserve~~Act isand ~~given~~certain ~~extensive~~other ~~new~~statutes. ~~authorities~~The toCFPB ~~impose~~will ~~strict~~have ~~controls~~examination onand ~~large~~primary ~~bank~~enforcement ~~holding~~authority ~~companies~~with respect to depository institutions with ~~total~~$10 ~~consolidated~~billion or more in assets. Smaller ~~equal~~institutions will be subject to rules promulgated by the CFPB but will continue to be examined and supervised by federal banking regulators for consumer compliance purposes. The CFPB will have authority to prevent unfair, deceptive or abusive practices in ~~excess~~connection ofwith ~~$50~~the ~~billion~~offering ~~and~~of ~~systemically~~consumer ~~significant~~financial ~~non~~products. The Dodd-~~bank~~Frank ~~financial~~Act ~~companies~~authorizes the CFPB to ~~limit~~establish certain minimum standards for the ~~risk~~origination ~~they~~of ~~might~~residential ~~pose~~mortgages ~~for~~including a determination of the ~~economy~~borrower’s ~~and~~ability to repay. In addition, the Dodd-Frank Act will allow borrowers to raise certain defenses to foreclosure if they receive any loan other ~~large~~than ~~interconnected~~a ~~companies.~~“qualified mortgage” as defined by the CFPB. The Dodd-Frank Act ~~also~~permits ~~grants~~states to ~~the~~adopt ~~Treasury~~consumer ~~Department,~~protection ~~FDIC~~laws and ~~the~~standards ~~Federal~~that ~~Reserve~~are ~~Board~~more ~~(the~~stringent ~~“FRB”)~~than ~~broad~~those ~~new~~adopted ~~powers~~at tothe ~~seize,~~federal ~~close~~level and, ~~wind-down~~in ~~“too~~certain ~~big~~circumstances, permits state attorneys general to ~~fail”~~enforce ~~financial~~compliance ~~institutions~~with ~~(including~~both ~~non-bank~~the ~~institutions)~~state inand anfederal ~~orderly~~laws ~~fashion~~and regulations.

~~· The~~Bank ~~Dodd-Frank~~Holding ~~Act~~Company also establishes a new independent federal regulatory body for consumer protection within the Federal Reserve System known as the Bureau of Consumer Financial Protection (the “Bureau”), which will assume responsibility for most consumer protection laws. It will also be in charge of setting appropriate consumer banking fees and caps. The Bureau has examination and enforcement authority over all banks and savings institutions with more than $10 billion in assets. Banks and savings institutions with $10 billion or less in assets will be examined by their applicable bank regulators.Liquidity

· The ~~Dodd-Frank~~Corporation ~~Act~~is ~~restricts~~a ~~the~~legal ~~amount~~entity, ofseparate ~~trust~~and ~~preferred~~distinct ~~securities~~from ~~that~~The ~~may~~Bank. The beCorporation ~~considered~~has asthe ~~Tier~~ability 1to raise capital. ~~For~~on ~~depository~~its ~~institution~~own ~~holding~~behalf ~~companies~~or ~~below~~borrow ~~$15~~from ~~billion~~external insources. The ~~total~~Corporation ~~assets,~~may ~~trust~~also ~~preferred~~obtain ~~securities~~additional ~~issued~~funds ~~before~~from ~~May 19,~~dividends ~~2010~~paid ~~will be grandfathered~~by, soand ~~their~~fees ~~status~~charged asfor ~~Tier~~services 1provided ~~capital~~to, ~~does~~the ~~not change~~Bank. However, ~~going~~regulatory ~~forward~~constraints ~~trust~~on ~~preferred~~the ~~securities~~Bank ~~will~~preclude bethe ~~disallowed~~payment asof ~~Tier~~dividends 1by ~~capital~~the Bank to the Corporation.

~~· The~~Limitations Dodd-Frank Act effects changes in the FDIC assessment base with stricter oversight. A new council of regulators led by the U.S. Treasury will set higher requirements for the amount of cash banks must keep on ~~hand.~~Business The minimum reserve ratio is to be increased from 1.15% to 1.35%; however, financial institutions with assets of less than $10 billion like the Bank are to be exempt from the cost of the increase. FDIC insurance coverage is made permanent at the $250 thousand level retroactive to January 1, 2008 and ~~unlimited~~Investment ~~FDIC insurance is provided for non-interest-bearing demand deposits, which coverage will continue until December 31, 2013.~~Activities

Under the BHCA, a bank holding company must obtain the FRB’s approval before: (i) directly or indirectly acquiring more than 5% ownership or control of any voting shares of another bank or bank holding company; (ii) acquiring all or substantially all of the assets of another bank; (iii) or merging or consolidating with another bank holding company.

The FRB may allow a bank holding company to acquire banks located in any state of the United States without regard to whether the acquisition is prohibited by the law of the state in which the target bank is located. In approving interstate acquisitions, however, the FRB must give effect to applicable state laws limiting the aggregate amount of deposits that may be held by the acquiring bank holding company and its insured depository institutions in the state in which the target bank is located, provided that those limits do not discriminate against out-of-state depository institutions or their holding companies, and state laws which require that the target bank have been in existence for a minimum period of time, not to exceed five years, before being acquired by an out-of-state bank holding company.

In addition to owning or managing banks, bank holding companies may own subsidiaries engaged in certain businesses that the FRB has determined to be “so closely related to banking as to be a proper incident thereto.” As a registered bank holding company, the Corporation, therefore,

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~~· Under~~will ~~the~~be ~~Dodd-Frank~~permitted ~~Act, the Comptroller of the Currency’s ability~~ to ~~preempt~~engage ~~state~~in ~~consumer~~a ~~protection~~variety ~~laws~~of ~~was~~banking-related ~~made~~businesses. Some ~~more~~of ~~difficult~~the byactivities ~~raising~~that the ~~applicable~~FRB ~~preemption~~has ~~standards~~determined, ~~and~~pursuant ~~state~~to ~~attorneys~~its ~~general~~Regulation ~~are~~Y, ~~granted~~to ~~greater~~be ~~authority~~related to ~~enforce~~banking ~~state consumer protection laws against national banks and their operating subsidiaries.~~are:

· ~~The~~making ~~Dodd-Frank~~or ~~Act~~acquiring ~~adopts~~loans ~~the~~or ~~so-called~~other ~~“Volcker~~extensions ~~rule,”~~of ~~which,~~credit ~~subject~~for toits ~~certain~~own ~~exceptions,~~account ~~prohibits any banking entity from engaging in proprietary trading,~~ or ~~sponsoring~~for orthe ~~investing~~account inof ~~a hedge fund or private equity fund.~~others;

~~The~~· servicing ~~Corporation~~loans ~~is currently evaluating the potential impact of the Dodd-Frank Act on its business, financial condition, results of operations~~ and ~~prospects~~other ~~and~~extensions ~~expect that some provisions~~ of ~~the Dodd-Frank Act may have adverse effects on the Corporation and the Bank, such as the cost of complying with the numerous new regulations and reporting requirements mandated by the Dodd-Frank Act.~~credit;

~~Although~~· performing ~~the~~functions ~~Dodd-Frank Act will have a significant impact on the financial services industry, it is not clear at this time what impact EESA, the TARP-CPP, the TLGP, the FSP, ARRA, HASP,~~ or ~~other~~activities ~~liquidity~~that ~~and~~may ~~funding~~be ~~initiatives~~performed ~~will~~by ~~have~~a ontrust ~~the~~company ~~financial~~in ~~markets and~~ the ~~other~~manner ~~difficulties~~authorized ~~described~~by ~~above,~~federal ~~including the high levels of volatility and limited credit availability currently being experienced,~~ or onstate ~~the~~law ~~United~~under ~~States~~certain banking and financial industries and the broader United States and global economies. Failure of these programs to address the issues noted above could have an adverse effect on the Corporation and its business.circumstances;

· leasing personal and real property or acting as agent, broker, or adviser in leasing such property in accordance with various restrictions imposed by FRB regulations;

· acting as investment or financial advisor;

· providing management consulting advice under certain circumstances;

· providing support services, including courier services and printing and selling MICR-encoded items;

· acting as a principal, agent or broker for insurance under certain circumstances;

· making equity and debt investments in corporations or projects designed primarily to promote community welfare or jobs for residents;

· providing financial, banking or economic data processing and data transmission services;

· owning, controlling or operating a savings association under certain circumstances;

· selling money orders, travelers’ checks and U.S. Savings Bonds;

· providing securities brokerage services, related securities credit activities pursuant to Regulation T and other incidental activities; and

· underwriting and dealing in obligations of the U.S., general obligations of states and their political subdivisions and other obligations authorized for state member banks under federal law.

Additionally, qualifying bank holding companies making an appropriate election to the FRB may engage in a full range of financial activities, including insurance, securities and merchant banking.

Federal law prohibits a bank holding company and any subsidiary banks from engaging in certain tie-in arrangements in connection with the extension of credit. Thus, for example, the Bank may not extend credit, lease or sell property, or furnish any services, or fix or vary the consideration for any of the foregoing on the condition that:

· the customer must obtain or provide some additional credit, property or services from or to the Bank other than a loan, discount, deposit or trust services;

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· the customer must obtain or provide some additional credit, property or service from or to the Corporation or any subsidiaries; and

· the customer must not obtain some other credit, property or services from competitors, except reasonable requirements to assure soundness of credit extended.

Dividends and Capital Distributions

Dividends and capital distributions from the Bank constitute the principal source of cash to the Corporation. The Bank is subject to various federal or state statutory and regulatory restrictions on its ability to pay dividends and capital distributions to its ~~shareholder~~shareholders.

Under California law, banks may declare a cash dividend out of their net profits up to the lesser of retained earnings or the net income for the last three fiscal years (less any distributions made to shareholders during such period), or with the prior written approval of the CDFI, in an amount not exceeding the greatest of (i) the retained earnings of the Bank, (ii) the net income of the Bank for its last fiscal year or (iii) the net income of the Bank for its current fiscal year. In addition, under federal law, banks are prohibited from paying any dividends if after making such payment they would fail to meet any of the minimum regulatory capital requirements. The federal regulators also have the authority to prohibit state banks from engaging in any business practices which are considered to be unsafe or unsound, and in some circumstances the regulators might prohibit the payment of dividends on that basis even though such payments would otherwise be permissible.

As a result of the various regulatory orders and agreements imposed upon the Corporation and the Bank in 2010, the Bank is presently unable to pay and the Corporation has agreed with its federal regulators not to accept cash dividends from the Bank in the absence of prior regulatory authorization to do so.

Regulatory Capital Guidelines

Each of the Corporation and the Bank is required to maintain certain levels of capital. The FRB and the FDIC have substantially similar risk-based capital ratio and leverage ratio guidelines for banking organizations. The guidelines are intended to ensure that banking organizations have adequate capital given the risk levels of assets and off-balance sheet financial instruments. Under the guidelines, banking organizations are required to maintain minimum ratios for Tier 1 capital and total capital to risk-weighted assets (including certain off-balance sheet items, such as letters of credit). For purposes of calculating the ratios, a banking organization’s assets and some of its specified off-balance sheet commitments and obligations are assigned to various risk categories. A depository institution’s or holding company’s capital, in turn, is classified in one of three tiers, depending on type:

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for banking organizations. The guidelines are intended to ensure that banking organizations have adequate capital given the risk levels of assets and off-balance sheet financial instruments. Under the guidelines, banking organizations are required to maintain minimum ratios for Tier 1 capital and total capital to risk-weighted assets (including certain off-balance sheet items, such as letters of credit). For purposes of calculating the ratios, a banking organization’s assets and some of its specified off-balance sheet commitments and obligations are assigned to various risk categories. A depository institution’s or holding company’s capital, in turn, is classified in one of three tiers, depending on type:

· Core Capital (Tier 1). Tier 1 capital includes common equity, retained earnings, qualifying non-cumulative perpetual preferred stock, a limited amount of qualifying cumulative perpetual stock at the holding company level, minority interests in equity accounts of consolidated subsidiaries, and qualifying trust preferred securities less goodwill, most intangible assets and certain other assets.

· Supplementary Capital (Tier 2). Tier 2 capital includes, among other things, perpetual preferred stock and trust preferred securities not meeting the Tier 1 definition, qualifying mandatory convertible debt securities, qualifying subordinated debt, and allowances for possible loan and lease losses, subject to limitations.

· Market Risk Capital (Tier 3). Tier 3 capital includes qualifying unsecured subordinated debt.

The following table sets forth the regulatory capital guidelines and the actual capitalization levels for the Corporation and the Bank as of December 31, 2010:

Northern California Bancorp’s Consolidated Capital Ratios	Minimum Acceptable Regulatory Ratios		Actual Ratios
Total capital to risk-weighted assets	8	%	12.85	%
Tier I capital to risk-weighted assets	4	%	9.31	%
Tier I capital to average total assets	4	%	6.50	%

Monterey County Bank’s Regulatory Capital Ratios	Minimum Acceptable Regulatory Ratios		Ratios Required to be Considered “Well Capitalized” Under Prompt Corrective Action Regulations		Monterey County Bank’s Actual Ratios
Total capital to risk-weighted assets	12	%(1)	10	%	13.99	%
Tier I capital to risk-weighted assets	4	%	6	%	12.73	%
Tier I capital to average total assets	9	%(1)	5	%	9.06	%

(1) These Minimum Acceptable Regulatory Ratios have been increased above regulatory minimums pursuant to the terms of the Consent Order imposed upon the Bank by the FDIC and the CDFI, effective September 31, 2010.

The Corporation and the Bank recognize that a strong capital position is vital to growth, continued profitability, and depositor and investor confidence. The policy of the Bank is to maintain

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~~sufficient~~· Market ~~capital~~Risk atCapital ~~not~~(Tier ~~less~~3). ~~than~~Tier ~~those~~3 ~~required~~capital byincludes ~~the~~qualifying ~~consent~~unsecured ~~order~~subordinated ~~imposed upon the Bank by the FDIC and the CDFI, effective September 1, 2010~~debt.

The following table sets forth the regulatory capital guidelines and the actual capitalization levels for the Corporation and the Bank as of December 31, 2011:

	Minimum Acceptable Regulatory Ratios		Actual Ratios
Northern California Bancorp’s Consolidated Capital Ratios
Total capital to risk-weighted assets	8	%	6.61	%
Tier I capital to risk-weighted assets	4	%	1.49	%
Tier I capital to average total assets	4	%	1.04	%

	Minimum Acceptable Regulatory Ratios		Ratios Required to be Considered “Well Capitalized” Under Prompt Corrective Action Regulations		Monterey County Bank’s Actual Ratios
Monterey County Bank’s Regulatory Capital Ratios
Total capital to risk-weighted assets	12	%(1)	10	%	8.43	%
Tier I capital to risk-weighted assets	4	%	6	%	7.16	%
Tier I capital to average total assets	9	%(1)	5	%	5.01	%

(1) These Minimum Acceptable Regulatory Ratios have been increased above regulatory minimums pursuant to the terms of the Consent Order imposed upon the Bank by the FDIC and the CDFI, effective September 31, 2010.

The Corporation and the Bank recognize that a strong capital position is vital to growth, continued profitability, and depositor and investor confidence. The policy of the Bank is to maintain sufficient capital at not less than those required by the consent order imposed upon the Bank by the FDIC and the CDFI, effective September 1, 2010. The Corporation is exploring avenues to raise capital.

Prompt Corrective Action Requirements

The Federal Deposit Insurance Corporation Improvement Act, or FDICIA, requires each federal banking agency to take prompt corrective action to resolve the problems of insured depository institutions, including but not limited to those that fall below one or more prescribed minimum capital ratios. The federal banking agencies possess broad powers to take prompt corrective action to resolve the problems of insured banks. Each federal banking agency has issued regulations defining five capital categories: “well capitalized,” “adequately capitalized,” “undercapitalized,” “significantly undercapitalized,” and “critically undercapitalized.” Under the regulations, a bank shall be deemed to be:

· “well capitalized” if it has a total risk-based capital ratio of 10.0 percent or more, has a Tier 1 risk-based capital ratio of 6.0 percent or more, has a leverage capital ratio of 5.0 percent or more, and is not subject to specified requirements to meet and maintain a specific capital level for any capital measure;

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· “adequately capitalized” if it has a total risk-based capital ratio of 8.0 percent or more, a Tier 1 risk-based capital ratio of 4.0 percent or more, and a leverage capital ratio of 4.0 percent or more (3.0 percent under certain circumstances) and does not meet the definition of “well capitalized”;

· “undercapitalized” if it has a total risk-based capital ratio that is less than 8.0 percent, a Tier 1 risk-based capital ratio that is less than 4.0 percent, or a leverage capital ratio that is less than 4.0 percent (3.0 percent under certain circumstances);

· “significantly undercapitalized” if it has a total risk-based capital ratio that is less than 6.0 percent, a Tier 1 risk-based capital ratio that is less than 3.0 percent or a leverage capital ratio that is less than 3.0 percent; and

· “critically undercapitalized” if it has a ratio of tangible equity to total assets that is equal to or less than 2.0 percent.

Banks are prohibited from paying dividends or management fees to controlling persons or entities if, after making the payment, the bank would be “undercapitalized.” Asset growth and branching restrictions apply to “undercapitalized” banks. Broad regulatory authority was granted with respect to “significantly undercapitalized” banks, including forced mergers, growth restrictions, ordering new elections for directors, forcing divestiture by its holding company, if any, requiring management changes, and prohibiting the payment of bonuses to senior management. Even more severe restrictions are applicable to “critically undercapitalized” banks, those with capital at or less than 2 percent. Restrictions for these banks include the appointment of a receiver or conservator. All of the federal banking agencies have promulgated substantially similar regulations to implement this system of prompt corrective action.

In addition to measures taken under the prompt corrective action provisions, insured banks may be subject to potential enforcement actions by the federal banking agencies for unsafe or unsound practices in conducting their businesses or for violations of any law, rule, regulation or any condition imposed in writing by the agency or any written agreement with the agency.

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The CDFI, as the primary regulator for state-chartered banks, also has a broad range of enforcement measures, from cease and desist powers and the imposition of monetary penalties to the ability to take possession of a bank, including causing its liquidation.

Safety and Soundness Standards

The federal banking agencies have adopted guidelines designed to assist the federal banking agencies in identifying and addressing potential safety and soundness concerns before capital becomes impaired. The guidelines set forth operational and managerial standards relating to (i) internal controls, information systems and internal audit systems; (ii) loan documentation; (iii) credit underwriting; (iv) asset growth; (v) earnings; and (vi) compensation, fees and benefits. In addition, the federal banking agencies have also adopted safety and soundness guidelines with respect to asset quality and earnings standards. These guidelines provide nine standards for establishing and maintaining a system to identify problem assets and prevent those assets from deteriorating.

Transactions with Affiliates

Under Sections 23A and 23B of the Federal Reserve Act and the FRB’s Regulation W, loans by the Bank to affiliates, investments by them in affiliates’ stock, and taking affiliates’ stock as collateral for loans to any borrower is limited to 10 percent of the Bank’s capital, in the case of any one affiliate, and is limited to 20 percent of the Bank’s capital, in the case of all affiliates. The Bank’s holding company and any subsidiaries it may purchase or organize are deemed to be affiliates of the Bank within the meaning of Section 23A and 23B and Regulation W. In addition, transactions between the Bank and other affiliates must be on terms and conditions that are consistent with safe and sound banking practices; in particular, a bank and its subsidiaries generally may not purchase from an affiliate a low-quality asset, as defined in the Federal Reserve Act. These restrictions also prevent a bank holding company and its other affiliates from borrowing from a banking subsidiary of the bank holding company unless the loans are secured by marketable collateral of designated amounts. The Corporation and the Bank are also subject to certain restrictions with respect to engaging in the underwriting, public sale and distribution of securities.

FDIC Insurance and Insurance Premium Assessments

Banks and thrifts have historically paid varying amounts of premiums on deposits for federal deposit insurance depending upon a risk-based system that evaluated the institution’s regulatory and capital adequacy ratings. The FDIC operated two separate insurance funds, the Bank Insurance Fund (“BIF”) and the Savings Association Insurance Fund (“SAIF”). As a result of the Federal Deposit Insurance Reform Act of 2006 (the “FDI Reform Act”) and regulations adopted by the FDIC effective as of November 2, 2007: (i) the BIF and the SAIF have been merged into the Deposit Insurance Fund (the “DIF”); (ii) the $100,000 insurance level has been indexed to reflect inflation (the first adjustment for inflation will be effective January 1, 2011 and thereafter adjustments will occur every 5 years); (iii) deposit insurance coverage for retirement accounts has been increased to $250,000, and will also be subject to adjustment every five years; (iv) banks that historically have capitalized the BIF are entitled to a one-time credit that can be used to off-set premiums otherwise due (this addresses the fact that institutions that have grown rapidly have not had to pay deposit premiums); (v) a cap on the level of the DIF has been imposed and dividends will be paid when the DIF grows beyond a specified threshold; and (vi) the previous risk-based system for assessing premiums has been revised. On October 3, 2008, the $100,000 insurance level was raised temporarily to $250,000. Effective July 21, 2010, the Dodd-Frank Act made permanent the increase in the deposit insurance level to $250,000 retroactive to January 1, 2008 and continued unlimited FDIC insurance for noninterest-bearing demand deposits through December 31, 2013.

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~~Under~~collateral ~~the~~for ~~Federal~~loans ~~Deposit~~to ~~Insurance~~any ~~Act,~~borrower ~~the~~is ~~FDIC,~~limited ~~absent~~to ~~extraordinary~~10 ~~circumstances,~~percent ~~must~~of ~~establish~~the ~~and~~Bank’s ~~implement~~capital, ain ~~plan~~the tocase ~~restore~~of ~~the~~any ~~deposit~~one ~~insurance~~affiliate, ~~reserve~~and ~~ratio~~is limited to ~~1.15%~~20 percent of ~~insured~~the ~~deposits~~Bank’s atcapital, ~~any~~in ~~time that~~ the ~~reserve~~case ~~ratio~~of ~~falls~~all ~~below 1~~affiliates.~~15%.~~ ~~Recent~~The ~~bank~~Bank’s ~~failures~~holding ~~coupled~~company ~~with~~and ~~deteriorating~~any ~~economic~~subsidiaries ~~conditions~~it ~~have~~may ~~significantly~~purchase ~~reduced~~or ~~the~~organize ~~deposit~~are ~~insurance~~deemed ~~fund’s~~to ~~reserve~~be ~~ratio.~~affiliates ~~The~~of ~~FDIC~~the ~~expects~~Bank ~~insured~~within ~~institution~~the ~~failures~~meaning toof ~~peak~~Section 23A inand ~~2010~~23B ~~which~~and ~~will~~Regulation ~~result~~W. inIn ~~continued~~addition, ~~charges~~transactions ~~against~~between the ~~Deposit~~Bank ~~Insurance~~and ~~Fund,~~other ~~and~~affiliates ~~they~~must ~~have~~be ~~implemented~~on aterms ~~restoration~~and ~~plan~~conditions that ~~changes~~are ~~both~~consistent ~~its~~with ~~risk-based~~safe ~~assessment system~~ and ~~its~~sound ~~base~~banking ~~assessment~~practices; ~~rates.~~in Asparticular, ~~part~~a ofbank ~~this~~and ~~plan,~~its ~~the~~subsidiaries ~~FDIC~~generally ~~imposed~~may anot ~~special~~purchase ~~assessment~~from inan ~~2009.~~affiliate ~~The~~a ~~recently enacted Dodd~~low-~~Frank~~quality ~~Act~~asset, ~~provides~~as ~~for~~defined ain ~~new~~the ~~minimum~~Federal ~~reserve~~Reserve ~~ratio~~Act. ofThese ~~not~~restrictions ~~less~~also ~~than~~prevent ~~1.35%~~a ofbank ~~estimated~~holding ~~insured~~company ~~deposits~~ and ~~requires~~its ~~that~~other ~~the~~affiliates ~~FDIC~~from ~~take~~borrowing ~~steps~~from ~~necessary~~a tobanking ~~attain~~subsidiary ~~this~~of ~~1.35%~~the ~~ratio~~bank byholding ~~September 30,~~company ~~2020;~~unless ~~however,~~ the ~~Dodd-Frank~~loans ~~Act~~are ~~exempts~~secured ~~institutions~~by ~~with~~marketable ~~assets~~collateral of ~~less~~designated ~~than~~amounts. ~~$10~~The ~~billion, like the~~ Corporation and the Bank, ~~from~~are ~~the~~also ~~cost~~subject ofto ~~this~~certain ~~increase.~~restrictions Itwith isrespect ~~generally expected that assessment rates will continue~~ to ~~increase~~engaging in the ~~near term due to the significant cost of bank failures~~underwriting, ~~the~~public ~~relatively~~sale ~~large number of troubled banks,~~ and ~~the~~distribution ~~requirement that the FDIC increase the reserve ratio. Any increase in assessments will adversely impact future earnings~~ of ~~the Corporation and the Bank~~securities.

~~The~~ FDIC ~~utilizes~~Insurance ~~a risk-based assessment system to set semi-annual insurance premium assessments that categorizes banks into four risk categories based on capital levels~~ and ~~supervisory~~Insurance ~~“CAMELS”~~Premium ratings and names them Risk Categories I, II, III and IV. The “CAMELS” rating system is based upon an evaluation of the six critical elements of an institution’s operations: Capital adequacy, Asset quality, Management, Earnings, Liquidity, and Sensitivity to risk. This rating system is designed to take into account and reflect all significant financial and operational factors financial institution examiners assess in their evaluation of an institution’s performance. The following table sets forth these four risk categories:Assessments

~~Within~~Effective ~~Risk~~January 1, ~~Category I~~2007, the ~~assessment~~FDIC ~~system~~adopted ~~combines~~a ~~supervisory ratings with other~~ risk-based ~~measures to differentiate risk. For most institutions, the~~ assessment system ~~combines CAMELS component ratings with financial ratios~~ to ~~determine~~set ansemi-annual ~~institution’s~~insurance ~~assessment~~premium ~~rate.~~assessments ~~For~~which ~~large~~categorized ~~institutions~~banks ~~that~~into ~~have~~four ~~long-term~~risk ~~debt~~categories ~~issuer~~based ~~ratings,~~on ~~the~~capital ~~new~~levels ~~assessment~~and ~~system~~supervisory ~~differentiates risk by combining~~ “CAMELS” ~~component~~ ratings ~~with~~and ~~those~~names ~~ratings.~~them ~~For large institutions within~~ Risk ~~Category~~Categories I, ~~initial~~II, ~~assessment~~III ~~rate~~and ~~determinations~~IV. The ~~may~~CAMELS berating ~~modified~~system ~~within~~was ~~limits~~based upon ~~review~~an evaluation of ~~additional~~the ~~relevant~~six ~~information.~~critical ~~Those~~elements ~~institutions~~of ~~within~~an ~~Risk~~institution’s ~~Category~~operations: ICapital ~~that~~adequacy, ~~pose~~Asset ~~the~~quality, ~~least~~Management, ~~risk~~Earnings, ~~are~~Liquidity, ~~assessed a minimum assessment rate~~ and ~~those~~Sensitivity ~~that~~to ~~pose the greatest~~ risk. This ~~are~~rating ~~assessed~~system awas ~~maximum~~designed ~~assessment~~to ~~rate~~take ~~that~~into isaccount ~~two~~and ~~basis~~reflect ~~points~~all ~~higher.~~significant Anfinancial ~~institution~~and ~~that~~operational ~~poses~~factors anfinancial ~~intermediate~~institution ~~risk~~examiners ~~within~~assess ~~Risk~~in ~~Category~~their Ievaluation ~~will~~of bean ~~charged~~institution’s aperformance. The ~~rate~~following ~~between~~table ~~the~~sets ~~minimum~~forth ~~and~~these ~~maximum~~four ~~rates~~Risk ~~that will vary incrementally by institution.~~Categories:

On February 27, 2009, the FDIC adopted final rules modifying the risk-based assessment system and setting initial base assessment rates beginning April 1, 2009. Under these new rules, risk assessments for small Risk Category I institutions and large Risk Category I institutions with no long-term debt rating will include a consideration of such institution’s adjusted brokered deposit ratio. The adjusted brokered deposit ratio affects institutions whose brokered deposits are more than 10% of domestic deposits and whose total assets are more than 40% greater than they were four

Capital Group	Supervisory Subgroup
Capital Group	A	B	C
1. Well Capitalized	I		III
2. Adequately Capitalized		II
3. Undercapitalized	III		IV

Within Risk Category I, the assessment system combined supervisory ratings with other risk measures to differentiate risk. For most institutions, the assessment system combined CAMELS component ratings with financial ratios to determine an institution’s assessment rate. For large institutions that had long-term debt issuer ratings, the new assessment system differentiated risk by combining CAMELS component ratings with those ratings. For large institutions within Risk Category I, initial assessment rate determinations were modified within limits upon review of additional relevant information. The assessment system assessed those within Risk Category I that posed the least risk a minimum assessment rate and those that posed the greatest risk a maximum assessment rate that was two basis points higher. An institution that posed an intermediate risk within Risk Category I was charged a rate between the minimum and maximum that varied incrementally by institution.

On February 27, 2009, the FDIC adopted final rules modifying the risk-based assessment system and settled initial base assessment rates beginning April 1, 2009. Under these new rules, risk assessments for small Risk Category I institutions and large Risk Category I institutions with no long-term debt rating includes a consideration of such institution’s adjusted brokered deposit ratio. These new rules also revised the method for calculating the assessment rate for a large Risk Category I institution with a long-term debt issuer rating so that it equally weights the institution’s weighted average CAMELS component ratings, its long-term debt issuer ratings and the financial

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~~years~~ratios ~~previously~~method assessment rate. These ~~The~~new ~~adjusted~~rules ~~brokered~~set ~~deposit~~forth ~~ratio~~three ~~excludes~~possible ~~certain~~adjustments ~~reciprocal~~to ~~deposits~~an institution’s initial base assessment rate: (i) a decrease of up to five basis points for ~~institutions~~long-term inunsecured ~~Risk~~debt, ~~Category~~including I.senior ~~Brokered~~unsecured ~~deposits~~debt ~~that~~(other ~~consist~~than debt guaranteed under the Temporary Liquidity Guarantee Program) and subordinated debt and, for small institutions, a portion of ~~balances~~Tier ~~swept~~1 ~~into~~capital; (ii) an ~~insured~~increase not to exceed 50 percent of an institution’s ~~are~~assessment ~~included~~rate inbefore the ~~adjusted~~increase ~~brokered~~for ~~deposit~~secured ~~ratio~~liabilities in excess of 25 percent of domestic deposits; and (iii) for ~~all~~non-Risk Category I institutions, an increase not to exceed 10 basis points for brokered deposits in excess of 10 percent of domestic deposits.

~~Further,~~Under ~~the~~these new rules ~~revised~~, the ~~method~~FDIC ~~for~~adopted ~~calculating~~new ~~the~~initial ~~assessment~~base rate for a large Risk Category I institution with a long-term debt issuer rating so that it equally weights the institution’s weighted average CAMELS component ratings, its long-term debt issuer ratings and the financial ratios method assessment ~~rate.~~rates ~~The~~as ~~final~~of ~~rule~~April ~~updates~~1, ~~the~~2011, ~~uniform~~as ~~amount~~follows, ~~and~~expressed ~~the~~in ~~pricing~~terms ~~multipliers~~of ~~for~~cents ~~the~~per ~~weighted~~$100 ~~average~~in ~~CAMELS~~insured ~~component ratings and financial ratios method. It also increases the maximum possible large bank adjustment from 0.5 basis point to 1.0 basis point.~~deposits:

These new rules set forth three possible adjustments to an institution’s initial base assessment rate: (i) a decrease of up to five basis points for long-term unsecured debt, including senior unsecured debt (other than debt guaranteed under the Temporary Liquidity Guarantee Program) and subordinated debt and, for small institutions, a portion of Tier 1 capital; (ii) an increase not to exceed 50% of an institution’s assessment rate before the increase for secured liabilities in excess of 25% of domestic deposits; and (iii) for non-Risk Category I institutions, an increase not to exceed 10 basis points for brokered deposits in excess of 10% of domestic deposits.

Under these new rules, the FDIC adopted new initial base assessment rates as of August 31, 2010, as follows, expressed in terms of cents per $100 in insured deposits:

Initial Base Assessment Rates

Risk Category

I *

Large & Highly Complex

Minimum

Maximum

III

Institutions

Annual Rates (in basis points)

125

169

2214

3223

4535

5 - 35

*Initial base rates that were not the minimum or maximum ~~rate~~rates will vary between these rates.

After applying all possible adjustments, minimum and maximum total base assessment rates for each Risk Category are as follows:

Total Base Assessment Rates*

	Risk Category I	Risk Category II	Risk Category III	Risk Category IV	Large & Highly Complex Institutions
Initial base assessment rate	125 –— 169	2214	3223	4535	5 — 35
Unsecured debt adjustment	-5 – 0	-5 – 0	-5 – 0	-5 – 0
Unsecured debt adjustment**	-4.5 — 0	-5 — 0	-5 — 0	-5 — 0	-5 — 0
Secured liability adjustment	0 – 8	0 – 11	0 – 16	0 – 22.5
Brokered deposit adjustment	N/A	0 — 10	0 — 10	0 — 10	0 — 10
Brokered deposit adjustment		0 – 10	0 – 10	0 – 10
Total base assessment rate	2.5 — 9	9 — 24	18 — 33	30 — 45	2.5 — 45
Total base assessment rate	7 – 24	17 – 43	27 – 58	40 – 77.5

* ~~All amounts for all risk categories are in basis points annually.~~ Total base assessment rates ~~that~~do ~~are~~ not include the ~~minimum~~depository orinstitution ~~maximum~~debt ~~rate will vary between these rates~~adjustment.

In** ~~addition, on February 27, 2009, the FDIC adopted an interim rule that imposed a 20 basis point emergency special assessment on all insured depository institutions on June 30, 2009.~~ The ~~special~~unsecured ~~assessment~~debt ~~was~~adjustment ~~collected~~cannot onexceed ~~September 30, 2009, at~~ the ~~same~~lesser ~~time~~of ~~that~~5 ~~the~~basis ~~risk-based~~points ~~assessments~~or ~~for~~50% ~~the second quarter~~ of ~~2009 were collected. The interim rule also permits the FDIC to impose~~ an ~~emergency special assessment of up to 10 basis points on all~~ insured depository ~~institutions~~institution’s ~~whenever,~~initial ~~after~~base ~~June 30,~~assessment ~~2009, the FDIC estimates that the DIF reserve ratio will fall to~~ rate.

In addition, on February 27, 2009, the FDIC adopted an interim rule that imposes a 20 basis point emergency special assessment on all insured depository institutions on June 30, 2009. The special assessment was collected September 30, 2009, at the same time that the risk-based assessments for the second quarter of 2009 were collected. In November, 2009, instead of imposing additional special assessments, the FDIC amended the assessment regulations to require all insured depository institutions to prepay their estimated risk-based assessments for the fourth quarter of 2009, and for all of 2010, 2011 and 2012 on December 30, 2009. For purposes of estimating the future assessments, each institution’s base assessment rate in effect on September 30, 2009 was used, assuming a 5% annual growth rate in the assessment base and a 3 basis point increase in the assessment rate in 2011 and 2012. The prepaid assessment has been applied against actual quarterly assessments and will continue to be applied until exhausted. Any funds remaining after June 30, 2013 will be returned to the institution. Requiring this prepaid assessment did not preclude the FDIC from changing assessment rates or from further revising the risk-based assessment system.

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aEffective ~~level~~November 21, ~~that~~2008 and until December 31, 2009, the FDIC ~~believes~~expanded ~~would~~deposit ~~adversely~~insurance ~~affect~~limits ~~public~~for ~~confidence~~certain accounts under the FDIC’s Temporary Liquidity Guarantee Program, or toTLGP. Provided aan ~~level~~institution ~~close~~had tonot ~~zero~~opted out of the TLGP, the FDIC (i) guarantees, through the earlier of maturity or ~~negative~~June 30, 2012, certain newly issued senior unsecured debt issued by participating institutions on or after October 14, 2008 and before June 30, 2009 (which was subsequently extended to October 31, 2009) and (ii) provides full FDIC deposit insurance coverage for noninterest bearing transaction deposit accounts, Negotiable Order of Withdrawal (“NOW”) accounts paying less than 0.5% interest per annum and Interest on Lawyers Trust Accounts (IOLTAs) held at participating FDIC-insured institutions through December 31, 2009 (subsequently extended to June 30, 2010). Coverage under the ~~end~~TLGP was available for the first 30 days without charge. The fee assessment for coverage of asenior ~~calendar~~unsecured debt ranges from 50 basis points to 100 basis points per annum, depending on the initial maturity of the debt. The fee assessment for deposit insurance coverage is 10 basis points per quarter on amounts in covered accounts exceeding $250,000.

The Dodd-Frank Act requires the FDIC ~~may~~to ~~terminate~~take ~~its~~such ~~insurance~~steps as necessary to increase the reserve ratio of the Deposit Insurance Fund from 1.15% to 1.35% of insured deposits ifby it2020. In ~~finds~~setting the assessments, the FDIC is required to offset the effect of the higher reserve ratio against insured depository institutions with total consolidated assets of less than $10 billion. The Dodd-Frank Act also broadens the base for FDIC insurance assessments so that assessments will be based on the ~~Bank~~average ~~has~~consolidated ~~engaged~~total inassets ~~unsafe~~less ~~and~~average ~~unsound~~tangible ~~practices,~~equity iscapital inof ana ~~unsafe~~financial orinstitution ~~unsound~~rather ~~condition~~than toon ~~continue~~its ~~operations,~~insured ordeposits. The FDIC has ~~violated~~adopted ~~any~~a ~~applicable~~new ~~law,~~restoration ~~regulation,~~plan ~~rule~~to increase the reserve ratio to 1.35% by September 30, ~~order~~2020 orand ~~condition~~will ~~imposed~~issue additional rules regarding the method to be used to achieve a 1.35% reserve ratio by that date and offset the ~~FDIC~~effect on institutions with assets less than $10 billion in assets.

~~Effective~~The ~~November 21, 2008, the~~ FDIC ~~expanded deposit insurance limits for certain accounts under the FDIC’s Temporary Liquidity Guarantee Program (the “TLGP”). Provided an institution has not opted out of the TLGP, the FDIC~~ may ~~(i) guarantee,~~terminate ~~through~~its ~~the~~insurance ~~earlier~~ of ~~maturity~~deposits orif ~~June 30,~~it ~~2012,~~finds ~~certain~~that ~~newly~~a ~~issued~~bank ~~senior~~has ~~unsecured~~engaged ~~debt~~in ~~issued~~unsafe ~~by participating institutions on or after October 14, 2008~~ and ~~before~~unsound ~~June 30~~practices, ~~2009~~is ~~and~~in ~~(ii) provide~~an ~~full~~unsafe ~~FDIC~~or ~~deposit~~unsound ~~insurance~~condition coverage for noninterest bearing transaction deposit accounts, Negotiable Order of Withdrawal (NOW) accounts paying less than 0.5% interest per annum and Interest on Lawyers Trust Accounts (IOLTAs) held at participating FDIC-insured institutions through June 30, 2010. Coverage under the TLGP was available for the first 30 days without charge. The fee assessment for coverage of senior unsecured debt ranges from 50 basis points to ~~100~~continue ~~basis points per annum~~operations, ~~depending~~or onhas ~~the~~violated ~~initial~~any ~~maturity~~applicable ~~of the debt. The fee assessment for deposit insurance coverage is 10 basis points per quarter on amounts in covered accounts exceeding $250~~law,~~000.~~ ~~On June 29~~regulation, ~~2010~~rule, ~~the~~order ~~Treasury~~or ~~extended~~condition ~~the~~imposed ~~Transaction~~by ~~Account Guarantee Program of~~ the ~~TLGP to December 31, 2010~~FDIC. ~~The Bank does not intend to opt out of the TLGP if and when it becomes eligible to offer noninterest-bearing deposit accounts.~~

On October 16, 2008, in response to the problems facing the financial markets and the economy, the FDIC published a restoration plan (the “Restoration Plan”) designed to replenish the DIF such that the reserve ratio would return to 1.15% within five years. On December 16, 2008, the FDIC adopted a final rule increasing risk-based assessment rates uniformly by seven basis points, on an annual basis, for the first quarter of 2009. On February 27, 2009, the FDIC concluded that the problems facing the financial services sector and the economy at large constituted extraordinary circumstances and amended the Restoration Plan and extended the time within which the reserve ratio would return to 1.15% from five to seven years (the “Amended Restoration Plan”). In May 2009, Congress amended the statutory provision governing establishment and implementation of a Restoration Plan to allow the FDIC eight years to bring the reserve ratio back to 1.15%, absent extraordinary circumstances.

In a final rule issued on September 29, 2009, the FDIC amended the Amended Restoration Plan as follows:

· The period of the Amended Restoration Plan was extended from seven to eight years.

· The FDIC announced that it will not impose any further special assessments under the final rule it adopted in May 2009.

· The FDIC announced plans to maintain assessment rates at their current levels through the end of 2010. The FDIC also immediately adopted a uniform three basis point increase in assessment rates effective January 1, 2011 to ensure that the DIF returns to 1.15% within the Amended Restoration Plan period of eight years.

· The FDIC announced that, at least semi-annually following the adoption of the Amended Restoration Plan, it will update its loss and income projections for the DIF. The FDIC also announced that it may, if necessary, adopt a new rule prior to the end of the eight-year period to increase assessment rates in order to return the reserve ratio to 1.15 percent.

The recently enacted Dodd-Frank Act has set a new minimum reserve ratio of not less than

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1.35% of estimated insured deposits and requires the FDIC to take steps necessary to attain the 1.35% ratio by September 30, 2020. However, financial institutions like the Bank with assets of less than $10 billion are exempt from the cost of this increase.

Money Laundering and Currency Controls

Various federal statutory and regulatory provisions are designed to enhance record-keeping and reporting of currency and foreign transactions. Pursuant to the Bank Secrecy Act, financial institutions must report high levels of currency transactions or face the imposition of civil monetary penalties for reporting violations. The Money Laundering Control Act imposes sanctions, including revocation of federal deposit insurance, for institutions convicted of money laundering. In addition, the International Money Laundering Abatement and Financial Anti-Terrorism Act of 2001 (“IMLAFATA”), a part of the Patriot Act, authorizes the Secretary of the Treasury, in consultation with the heads of other government agencies, to adopt special measures applicable to banks and other financial institutions to enhance record-keeping and reporting requirements for certain financial transactions that are of primary money laundering concern.

The Treasury Department’s regulations implementing IMLAFATA mandate that federally-insured banks and other financial institutions establish customer identification programs designed to verify the identity of persons opening new accounts, maintain the records used for verification, and determine whether the person appears on any list of known or suspected terrorists or terrorist organizations.

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Branching

With prior regulatory approval and/or notices, as applicable, California law permits banks based in the state to either establish new or acquire existing branch offices throughout California. With respect to interstate branching, bank holding companies from any state may generally acquire banks and bank holding companies located in any other state, subject in some cases to nationwide and state-imposed deposit concentration limits and limits on the acquisition of recently established banks. Banks also have the ability, subject to specific restrictions, to acquire by acquisition or merger branches located outside their home state. The establishment of new interstate branches is also possible in those states with laws that expressly permit it. Interstate branches are subject to many of the laws of the states in which they are located.

The consent order imposed upon the Bank by the FDIC and the CDFI, effective September 1, 2010, prohibits the Bank from engaging in any expansionary activities, including establishing new or acquiring existing branch offices, in the absence of prior regulatory authorization to do so.

Community Reinvestment Act and Fair Lending

The Bank is subject to certain fair lending requirements and reporting obligations involving home mortgage lending operations and Community Reinvestment Act, or CRA, activities. The CRA is intended to encourage insured depository institutions, while operating safely and soundly, to help meet the credit needs of their communities. The CRA specifically directs the federal bank regulatory agencies, in examining insured depository institutions, to assess their record of helping to meet the credit needs of their entire community, including low-and moderate-income neighborhoods, consistent with safe and sound banking practices. The federal banking agencies have adopted regulations which measure a bank’s compliance with its CRA obligations on a performance-based evaluation system. This system bases CRA ratings on an institution’s actual lending service and investment performance rather than the extent to which the institution conducts needs assessments, documents community outreach or complies with other procedural requirements. In connection with its assessment of CRA performance, the FDIC assigns a rating of “outstanding”, “satisfactory”, “needs to improve” or “substantial noncompliance”.

19The Bank had a CRA rating of “Satisfactory” as of its most recent regulatory examination.

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“outstanding”, “satisfactory”, “needs to improve” or “substantial noncompliance”.

The Bank had a CRA rating of “Needs to Improve” as of its most recent regulatory examination.

Safeguarding of Customer Information and Privacy

The FRB and other bank regulatory agencies have adopted guidelines for safeguarding confidential, personal customer information. These guidelines require financial institutions to create, implement and maintain a comprehensive written information security program designed to ensure the security and confidentiality of customer information, protect against any anticipated threats or hazard to the security or integrity of such information and protect against unauthorized access to or use of such information that could result in substantial harm or inconvenience to any customer. The Bank has adopted a customer information security program to comply with such requirements. Federal banking rules also limit the ability of banks and other financial institutions to disclose non-public information about consumers to nonaffiliated third parties.

Patriot Act

On October 26, 2001, the President signed into law comprehensive anti-terrorism legislation, the Uniting and Strengthening America by Providing Appropriate Tools Required to Intercept and Obstruct Terrorism Act of 2001, known as the Patriot Act. The Patriot Act was designed to deny terrorists and others the ability to obtain access to the United States financial system, and has significant implications for depository institutions and other businesses involved in the transfer of money. The Patriot Act, as implemented by various federal regulatory agencies, requires financial institutions, including the Bank, to implement new policies and procedures or amend existing policies and procedures with respect to, among other matters, anti-money laundering, compliance, suspicious activity and currency transaction reporting and due diligence on customers. The Patriot Act and its underlying regulations also permit information sharing for counter-terrorist purposes between federal law enforcement agencies and financial institutions, as well as among financial institutions, subject to certain conditions, and require the FRB and other federal banking agencies to evaluate the effectiveness of an applicant in combating money laundering activities when considering regulatory merger applications. The Bank has augmented its systems and procedures to accomplish this. The Bank believes that the ongoing cost of compliance with the Patriot Act is not likely to be material to the Bank.

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requires financial institutions, including the Bank, to implement new policies and procedures or amend existing policies and procedures with respect to, among other matters, anti-money laundering, compliance, suspicious activity and currency transaction reporting and due diligence on customers. The Patriot Act and its underlying regulations also permit information sharing for counter-terrorist purposes between federal law enforcement agencies and financial institutions, as well as among financial institutions, subject to certain conditions, and require the FRB and other federal banking agencies to evaluate the effectiveness of an applicant in combating money laundering activities when considering regulatory merger applications. The Bank has augmented its systems and procedures to accomplish this. The Bank believes that the ongoing cost of compliance with the Patriot Act is not likely to be material to the Bank.

Impact of Monetary Policies

Banking is a business which depends on rate differentials. In general, the difference between the interest rate paid by a bank on its deposits and its other borrowings and the interest rate earned by a bank on its loans, securities and other interest-earning assets comprises the major source of the bank’s earnings. These rates are highly sensitive to many factors which are beyond the bank’s control and, accordingly, the earnings and growth of the bank are subject to the influence of economic conditions generally, both domestic and foreign, including inflation, recession, and unemployment; and also to the influence of monetary and fiscal policies of the United States and its agencies, particularly the FRB.

The actions of the FRB in these areas influence the growth of bank loans, investments, and deposits and also affect interest rates. The nature and timing of any future changes in such policies and their impact on the Corporation and/or the Bank cannot be predicted; however, depending on the degree to which their respective interest-earning assets and interest-bearing liabilities are rate sensitive, increases in rates would have a temporary effect of increasing their respective net interest margin, while decreases in interest rates would have the opposite effect. In addition, adverse economic conditions, including a downturn in the local or regional economy and rising energy prices, could make a higher provision for loan losses a prudent course and could cause higher loan charge-offs, thus adversely affecting the net income or other operating costs of the Corporation and the Bank.

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economic conditions, including a downturn in the local or regional economy and rising energy prices, could make a higher provision for loan losses a prudent course and could cause higher loan charge-offs, thus adversely affecting the net income or other operating costs of the Corporation and the Bank.

Other Aspects of Banking Law

The Corporation and the Bank are also subject to federal statutory and regulatory provisions covering, among other things, security procedures, insider and affiliated party transactions, management interlocks, electronic funds transfers, funds availability, and truth-in-savings. There are also a variety of federal statutes which regulate acquisitions of control and the formation of bank holding companies.

Regulatory Enforcement Powers

Commercial banking organizations, such as the Bank, may be subject to enforcement actions by the FDIC and the CDFI for engaging in unsafe or unsound practices in the conduct of their businesses or for violations of any law, rule, regulation or any condition imposed in writing by the agency or any written agreement with the agency. Enforcement actions may include the imposition of a conservator or receiver, the issuance of a cease-and-desist order that can be judicially enforced, the termination of insurance of deposits, the imposition of civil money penalties, the issuance of directives to increase capital, the issuance of formal and informal agreements, the issuance of removal and prohibition orders against institution-affiliated parties and the imposition of restrictions and sanctions under the prompt corrective action provisions of the FDICIA.

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The Bank has entered into a Consent Order with the FDIC and CDFI. The order became effective on September 1, 2010. The order was filed as an exhibit to the Corporation’s Current Report on Form 8-K filed on September 23, 2010.

The order requires the Bank to take corrective actions to address certain alleged violations of laws and/or regulations and imposes certain restrictions on the Bank. The following is a list of the corrective actions required of, and restrictions placed on, the Bank and the current status (in italics) of the actions taken as of the filing date hereof:

1. Have and retain qualified management having such qualifications and experience commensurate with his or her duties and responsibilities at the Bank and notify the FDIC and the CDFI prior to adding any individual to the Bank’s Board of Directors or employing any individual as a senior executive officer of the Bank.

The Board of Directors has undertaken a review of the qualifications and experience of individuals serving in key management positions. As a result of this review, the Board of Directors has initiated a search for a qualified individual to be hired to serve as President of the Bank, relieving the Chief Executive Officer of a portion of his heavy workload. ~~The~~Additionally, the Board of Directors initiated a search for a qualified individual to be hired as Chief Lending Officer ~~retired~~in replacement of the Bank’s former Chief Lending Officer who resigned on February 28, 2011. A ~~and~~qualified aindividual ~~search~~was ~~has~~hired ~~begun~~and ~~for~~appointed aChief ~~qualified~~Lending ~~replacement~~Officer on February 23, 2012.

2. Develop and adopt a capital plan that complies with the FDIC’s Statement of Policy on Risk-Based Capital contained in Appendix A to Part 325 of the FDIC’s rules and regulations in order to maintain Tier 1 capital in such an amount to ensure that the Bank’s leverage ratio equals or exceeds 9% and the Bank’s total risk-based capital ratio equals or exceeds 12%.

21The Bank has developed a capital plan that it believes complies with the FDIC’s Statement of Policy on Risk-Based Capital contained in Appendix A of Part 325 of the FDIC’s rules and regulations to ensure that the Bank’s leverage ratio equals or exceeds 9% and the Bank’s total risk-based capital ratio equals or exceeds 12%. This capital plan was approved by the Board on October 28, 2010. The Bank’s total risk-based capital ratio was 8.13% at December 31, 2011, which was below the required 12%. The Bank’s leverage capital ratio was 5.01% at December 31, 2011, which was below the required 9%. The Bank is in the process of implementing its capital plan and engaged an outside financial advisory firm to assist the Bank in taking appropriate actions to achieve and maintain the capital requirements of the order. Appropriate actions or combinations of actions may include raising additional capital, reducing the Bank’s assets through sales of branch offices, loans or other real estate owned, merger with another financial institution or sale of the Bank.

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The Bank has developed a capital plan that complies with the FDIC’s Statement of Policy on Risk-Based Capital contained in Appendix A of Part 325 of the FDIC’s rules and regulations to ensure that the Bank’s leverage ratio equals or exceeds 9% and the Bank’s total risk-based capital ratio equals or exceeds 12%. This capital plan was approved by the Board on October 28, 2010. The Bank’s total risk-based capital ratio was 13.99% at December 31, 2010, which was in excess of the required 12%. The Bank’s leverage capital ratio was 9.06% at December 31, 2010, which was in excess of the required 9%.

3. Not pay cash dividends or make any other payments to the Bank’s shareholders absent the prior written consent of the FDIC and the CDFI;

The Board has acknowledged the prohibition on payment of dividends or any other payments to the Bank’s shareholder (the Corporation) without the prior written consent of the FDIC and the CDFI. The Bank has not paid any dividends to the Corporation since the effective date of the order.

4. Eliminate, either by charge-off or collection, assets classified as “Loss” in the examination report of the FDIC and the CDFI relating to their examination of the Bank on February 16, 2010 (the “ROE”).21

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Assets classified as “Loss” in the examination report of the FDIC and the CDFI relating to their examination of the Bank on February 16, 2010 have been charged-off.

5. Formulate a written plan to reduce the Bank’s risk exposure in adversely classified “Substandard” or “Doubtful” assets listed in the ROE.

A written plan to reduce the Bank’s risk exposure in adversely classified “Substandard” or “Doubtful” assets listed in the ROE was approved by the Board on November 26, 2010, and submitted to the FDIC Regional Director and CDFI Commissioner for their review and comment.

6. Not extend any additional credit to or for the benefit of any borrower who has a loan or other extension of credit that either: (a) has been charged off or classified (in whole or in part) as “Loss” and is uncollected, or (b) absent the prior approval of the Bank’s board or loan committee, has been classified (in whole or in part) as “Doubtful” or “Substandard;”

The Bank has not extended any additional credit to or for the benefit of any borrower who has a loan or other extension of credit that either has been charged off or classified (in whole or in part) as “Loss,” “Doubtful” or “Substandard” since the date of the order. The Bank also has not extended any additional credit to or for the benefit of any borrower who has a loan or other extension of credit classified (in whole or in part) as “Doubtful” or “Substandard” without the prior approval of the Bank’s Board or loan committee since the date of the order.

7. Review the appropriateness of the Bank’s allowance for loan and lease losses (the “ALLL”) and establish a comprehensive policy for determining the appropriate level of the ALLL, including documenting the analysis according to the standards set forth in the applicable policy guidelines of the FDIC.

The ALLL policy has been reviewed and revised to ensure the determination of the appropriate level of the ALLL, including documenting the analysis according to the standards set forth in the applicable policy guidelines of the FDIC. The revised policy was approved by the Board on October 14, 2010. The Board reviews the ALLL on a quarterly basis to ensure it is at an appropriate level.

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quarterly basis to ensure it is at an appropriate level.

8. Develop or revise, adopt, and implement a written lending and collection policy to provide effective guidance and control over the Bank’s lending functions in accordance with the requirements of the order.

The Bank’s written lending and collection policy has been revised to provide effective guidance and control over the Bank’s lending functions. The revised policy was approved by the Board on October 28, 2010. Additional revisions were approved by the Board on March 9, 2011and August 18, 2011.

9. Develop or revise, adopt, and implement a written liquidity and funds management policy that adequately addresses liquidity needs and contingency funding, appropriately reduces the Bank’s reliance on non-core funding sources and complies with FDIC’s Guidance on Liquidity Risk Management, dated August 26, 2008.

A revised liquidity and funds management policy which addresses liquidity needs and contingency funding, appropriately reduces reliance on non-core funding sources, and complies with FDIC’s Guidance on Liquidity Risk Management, dated August 26, 2008 was approved by the Board on October 28, 2010, and has been implemented.22

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A revised liquidity and funds management policy which addresses liquidity needs and contingency funding and appropriately reduces reliance on non-core funding sources was approved by the Board on October 28, 2010 and has been implemented. Bank Management believes this policy complies with the FDIC’s Guidance on Liquidity Risk Management, dated August 26, 2008.

10. Comply with the FDIC’s rules and regulations relating to brokered deposits and formulate and submit for approval, a written plan to eliminate the Bank’s reliance on brokered deposits.

The Bank believes it is in compliance with the FDIC’s rules and regulations relating to brokered deposits and has formulated and submitted to the FDIC a written plan to eliminate its reliance on brokered deposits. The plan was approved by the Board on October 28, 2010 and was submitted to the FDIC on October 29, 2010. The Bank’s total brokered deposits have been reduced to $15 million as of December 31, 2011 from $64 million as of December 31, 2009.

11. Develop or revise, adopt, and implement a written plan addressing retention of profits, reducing overhead expenses, and setting forth a comprehensive budget to cover the three-year period from January 1, 2011 to December 31, 2013, which shall include formal goals, strategies and benchmarks which are consistent with sound banking practices to improve the Bank’s net interest margin, increase interest income, reduce discretionary expenses, and improve and sustain earnings.

The Board approved a Strategic Plan and Budget for the period from January 1, 2011 through December 31, 2013 on December 30, 2010 and the plan was submitted to the FDIC Regional Director and the CDFI Commissioner for their review. The Board approved a revised Strategic Plan and Budget for the period from July 1, 2011 through December 31, 2013 on August 22, 2011.

12. Develop and submit for regulatory review and approval, a written three-year strategic plan, including a written profit plan, which includes, among other things, specific goals for the dollar volume of total loans, total investment securities and total deposits as of December 31, 2011 through December 31, 2013.

See response to Item 11.

13. Refrain from engaging in any expansionary activities, including opening any branches absent prior regulatory approval.

The Bank currently does not anticipate any expansionary activities and acknowledges the requirement for prior regulatory approval before under taking any such activities.

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the requirement for prior regulatory approval before under taking any such activities.

14. Inform the FDIC and the CDFI prior to making any planned public announcement or notification regarding changes to the Bank’s financial condition, executive management or board of directors.

The Board and management acknowledge the requirement to inform the FDIC and the CDFI prior to making any planned public announcement or notification regarding changes to the Bank’s financial condition, executive management or Board.

15. Furnish written progress reports to the FDIC and the CDFI detailing the form and manner of any actions taken to secure compliance with the order; and provide a description of the order to the Bank’s shareholders in conjunction with the Bank’s next ~~shareholder communication and also in conjunction with the Bank’s notice or proxy statement preceding the next shareholder meeting.~~

~~The Bank filed the required progress reports with the FDIC & CDFI on October 30, 2010 and January 31, 2011.~~23

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shareholder communication and also in conjunction with the Bank’s notice or proxy statement preceding the next shareholder meeting.

The Bank filed the required progress reports with the FDIC & CDFI on October 30, 2010, January 31, 2011, April 30, 2011, July 29, 2011 October 27, 2011 and January 27, 2012.

The Bank, has stipulated to the issuance of a Consent Order, Order for Restitution and Order to Pay Civil Money Penalties with the FDIC. The orders became effective on September 29, 2010. The orders were filed as an exhibit to the Company’s Current Report on Form 8-K, filed on October 5, 2010.

In connection with the issuance of the orders, the FDIC alleged that the Bank had engaged in unsafe or unsound banking practices, deceptive practices and violations of law by:

1. offering credit cards (“Balance Transfer Credit Cards”) which are intended for the transfer and payment of charged-off consumer debt without disclosing the age of the debt and the fact that the transferred debt was time-barred and/or no longer reportable by credit reporting agencies;

2. offering Balance Transfer Credit Cards to consumers when the Bank does not have sufficient substantiation that the debtor is obligated for the amount of indebtedness subject to the balance transfer;

3. misleading consumers about the utility of Balance Transfer Credit Cards advertised as credit cards when, in fact, the consumers have no available credit at the time the credit card is issued;

4. misrepresenting debt collection programs as a credit card offer;

5. misleading consumers regarding the interest charged on debt transferred to Balance Transfer Credit Cards; and

6. misleading consumers concerning the fees associated with stored value debit cards through website solicitations for the cards.

The allegations contained in items 1 through 5 above were related to a credit card program offered to consumers under a card sponsorship agreement between the Bank and Tighorn Financial Services, LLC (“Tighorn”). Tighorn acquired consumer debt and solicited consumers as a part of its debt collection program. As an incentive to make payments, a portion of the debt was forgiven with the remainder of the debt transferred to a credit card.

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with the remainder of the debt transferred to a credit card.

The Bank agreed to issue credit cards on behalf of Tighorn to certain eligible consumers who Tighorn solicited. The card sponsorship agreement required, among other things, that Tighorn’s solicitations comply with laws, regulations and regulatory orders governing the Bank in the solicitation, issuance and administration of the credit cards.

In June 2008, the Bank provided notice of cancellation to Tighorn in accordance with provisions of the card sponsorship agreement. While the Bank continues to service existing credit card accounts, solicitations of new accounts were discontinued effective December 31, 2008.

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The allegation contained in item 6 above was related to a stored value card program which was canceled in June 2008 in accordance with provisions of the card sponsorship agreement. The card portfolio was transferred to another issuer on or about December 31, 2008.

Without admitting or denying any of the alleged charges of unsafe or unsound banking practices and any violations of law, the Bank has agreed to take the following corrective actions to address the foregoing alleged violations of law and/or regulation. Below each listed action is a description of the status of the Bank’s efforts to comply with the required action (in italics).

1. Provide full, accurate disclosure and refrain from making misleading statements to consumers regarding the Bank’s balance transfer credit card programs, the interest rates and fees associated with these programs, the Bank’s debt collection practices, and the Bank’s stored value card programs.

The Bank believes it has established procedures for the review of disclosures and solicitation materials for both credit card and stored value card programs which require disclosures and solicitation materials be reviewed by the Bank’s compliance department and independent legal counsel with expertise in credit card and stored value card regulations.

2. The Board of Directors to participate fully in the oversight of the Bank’s compliance management system and to assume full responsibility for the approval of sound compliance policies and objectives. The Board of Directors to establish a compliance committee comprised of at least three directors who are not Bank officers that will meet at least monthly to review among other things, compliance with consumer laws and compliance with the Order. The Board of Directors to develop and adopt a comprehensive educational program for periodic training of Board members.

A Compliance Committee, which meets on a monthly basis, was established prior to entering into the orders and is still in place. A training program for the Board was prepared and approved by the Board on October 28, 2010. Board members are participating in training as provided for in the training program.

3. Develop and maintain effective monitoring, training and audit procedures to review each aspect of the Bank’s agreement with third parties in order to ensure that third party vendors comply with consumer protection laws, regulatory guidance, regulations, and policies (“consumer laws”).

The Bank has engaged independent consultants with expertise in credit card and stored value card regulations to audit the third parties to ensure their compliance with consumer protection laws, regulatory guidance, regulations and policies.

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consumer protection laws, regulatory guidance, regulations and policies.

4. Develop and maintain an adequate compliance management system that implements a written compliance program to ensure the Bank’s compliance with consumer laws.

The Bank has developed and now maintains a written compliance program which is designed to ensure compliance with consumer laws. A Compliance Committee, consisting of three outside directors, a Compliance Officer, who reports directly to the Committee, and the Chief Executive Officer, meets monthly and reports its activities to the full Board.

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5. Retain a qualified compliance officer with the requisite knowledge and experience to administer an effective compliance management system, including experience with third-party debit and credit card agreements.

The Bank has appointed a Compliance Officer with 19 years of banking experience and an Assistant Compliance Officer with 29 years of banking experience and has engaged legal counsel and consultants having experience with third-party debit and credit card agreements to augment staff experience.

6. Have an independent audit to ensure compliance with consumer laws.

An independent audit has been conducted and the ~~Compliance~~audit ~~Committee~~report isindicates ~~awaiting~~that the ~~audit~~Bank ~~report~~is in compliance with consumer laws.

7. Correct, to the extent possible, all violations of consumer laws and refrain from making, either directly or indirectly, any false, deceptive or misleading representations with respect to any extension of credit or other Bank product; and

The Bank continues to make efforts to correct, to the extent possible, all violations of consumer laws and refrain from and acknowledges its legal obligations to refrain from making, either directly or indirectly, any false, deceptive or misleading representations with respect to any extension of credit or other Bank product.

8. Contribute $300,000 to an established local or national non-profit organization for the specific purpose of consumer financial education and counseling.

The Bank submitted the name and qualifications of a non-profit organization meeting the specific requirements as detailed in the orders for approval, and the FDIC Regional Director subsequently granted such approval. The Bank recorded the $300,000 expense in the third quarter of 2010 and funded the donation on February 2, 2011.

9. Make restitution payments to certain consumers who had or currently have a credit card and/or a prepaid debit card issued by the Bank through agreements with certain third party vendors. In this regard, the Bank must prepare a restitution plan for regulatory approval with respect to making restitution payments to such consumers not to exceed $2.5 million in the aggregate and reserve or deposit into a segregated account for the payment of restitution an amount not less than $1.5 million. The Bank is also required to retain an independent accounting firm to determine compliance with the restitution plan.

The Bank submitted the name and qualifications of the independent accounting firm to the FDIC Regional Director for non-objection which was received on December 6, 2010. The restitution plans were submitted to the FDIC Regional Director for review and approval on November 29, 2010. On April 4, 2011 the Bank received approval from the FDIC for one of the restitution plans. The Bank completed implementation of this plan on May 2, 2011. For the remaining restitution plan, the FDIC requested that the Bank make certain revisions to the plan. The Bank resubmitted a revised plan to the FDIC Regional Director on April 18, 2011 for his review and approval. On June 7, 2011 the Bank received approval from the FDIC for the revised restitution plan. The Bank completed implementation of this plan on July 6, 2011. The Bank recorded the $1.5 million expense for the restitution payments in the third quarter of 2010.

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~~2010.~~ The ~~restitution plans were submitted to the FDIC Regional Director for review and approval on November 29, 2010. On April 4, 2011 the~~ Bank ~~received~~retained ~~approval~~an ~~from~~independent ~~the~~accounting ~~FDIC~~firm ~~for one of the restitution plans. The Bank will begin implementing this plan. For the remaining restitution plan, the FDIC has requested that the Bank make certain revisions and resubmit the plan~~ to ~~the~~determine ~~FDIC~~compliance ~~Regional~~with ~~Director within 15 days for his review and approval Once this approval is received,~~ the ~~Bank will implement this~~ restitution ~~plan~~plans. The ~~Bank~~accounting ~~recorded~~firm’s ~~the~~report ~~$1.5~~indicated ~~million~~they ~~expense~~found inno ~~the third quarter of 2010~~exceptions.

10. Furnish written progress reports to the FDIC detailing the form and manner of any actions taken to secure compliance with the Order and provide a description of the Order to the Bank’s shareholders in conjunction with the Bank’s next shareholder communication and also in conjunction with the Bank’s notice or proxy statement preceding the next shareholder meeting.

The initial progress report was provided to the FDIC on October 29, 2010. The Bank was exempted from filing the progress report due January 30, 2011 since the FDIC performed an onsite visitation during December 2010 to monitor the Bank’s progress in complying with the orders. The Bank provided progress reports to the FDIC on April 30, 2011 and July 28, 2011. The Bank was exempted from the quarterly report due October 30, 2011 due to a recently completed compliance examination.

Additionally, as a result of the alleged violations of laws and/or regulation, the FDIC has assessed a civil money penalty in the amount of $500,000 against the Bank which has been paid to the United States Treasury. The $500,000 expense was recorded in the third quarter of 2010.

The Corporation has entered into a written agreement (the “Agreement”) with the Federal Reserve Bank of San Francisco, effective as of October 29, 2010, pursuant to which the Corporation has agreed to take the following actions listed below. The Agreement was filed as an exhibit to the Company’s Current Report on Form 8-K, filed on November 2, 2010. Below each listed action is a description of the status of the Corporation’s efforts to comply with the required action (in italics).

1. Take appropriate steps to fully utilize the Corporation’s financial and managerial resources to serve as a source of strength to the Bank, including taking steps to ensure the Bank’s compliance with the Consent Order, dated September 1, 2010, between the Bank and the FDIC and any other supervisory action taken by the Bank’s federal and state regulators;

The Corporation provided the Bank with a capital injection of $400,000 on December 31, 2010 in order to enhance the Bank’s capital.

2. Refrain from declaring or paying dividends, taking dividends or any form of payment from the Bank representing a reduction in the Bank’s capital, or making any distributions of interest, principal or other sums on the Corporation’s subordinated debentures or trust preferred securities absent prior regulatory approval;

The Board has acknowledged the requirement of obtaining regulatory approval prior to declaring or paying dividends, taking dividends or any form of payment from the Bank representing a reduction in the Bank’s capital, or making any distributions of interest, principal or other sums on the Corporation’s subordinated debentures or trust preferred securities. No such transactions have occurred which required regulatory approval.

3. Refrain from incurring, increasing or guaranteeing any debt or repurchasing or redeeming any shares of its stock absent prior regulatory approval;

The Board has acknowledged the requirement of regulatory approval prior to incurring, increasing or guaranteeing any debt or repurchasing or redeeming any

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~~redeeming any~~ shares of its stock. No ~~absent~~such ~~prior~~transactions have occurred which required regulatory approval;.

The Board has acknowledged the requirement of regulatory approval prior to incurring, increasing or guaranteeing any debt or repurchasing or redeeming any shares of its stock. No such transactions have occurred which required regulatory approval.

4. Develop and submit for regulatory approval a cash flow projection of the Company’s planned sources and uses of cash for debt service, operating expenses and other purposes;

The required cash flow ~~projection~~projections ~~was~~were submitted to the Federal Reserve Bank on December 27, 2010 and November 30, 2011.

5. Comply with appropriate regulatory notice and approval requirements when appointing any new directors or senior executive officers or changing the responsibilities of any senior executive officer and comply with the limitations on indemnification and severance payments set forth in Section 18(k) of the Federal Deposit Insurance Act (12 USC 1828(i)) and Part 359 of the FDIC’s implementing regulations; and

The Board has acknowledged the notice and approval requirements when appointing any new directors or senior executive officers or changing the responsibilities of any senior executive officer and the obligation to comply with the limitations on indemnification and severance payments set forth in Section 18(k) of the Federal Deposit Insurance Act (12 USC 1828(i)) and Part 359 of the FDIC’s implementing regulations. No changes have occurred which required regulatory approval.

6. Furnish written progress reports to the Federal Reserve Bank of San Francisco detailing the form and manner of any actions taken to secure compliance with the Agreement.

The ~~initial~~Corporation has filed the required progress ~~report~~reports ~~was~~with ~~submitted~~the Federal Reserve Bank of San Francisco on January 30, 2011, April 30, 2011, July 28, 2011, October 26, 2011 and January 27, 2011.

The Board of Directors and management believe the Corporation and the Bank are in substantial compliance or are taking steps toward compliance with all requirements of these regulatory actions.

California and Federal Change in Bank Control Laws

The Federal Change in Bank Control Act of 1978 prohibits a person or group of persons “acting in concert” from acquiring “control” of a bank or holding company unless the appropriate federal regulatory agency has been given 60 days’ prior written notice of such proposed acquisition and, within that time period, has not issued a notice disapproving the proposed acquisition or extending for up to another 30 days the period during which such a disapproval may be issued. An acquisition may be made prior to the expiration of the disapproval period if the agency issues written notice of its intent not to disapprove the action. The acquisition of more than 10% of a class of voting stock of a bank (or holding company) with a class of securities registered under Section 12 of the Securities Exchange Act of 1934, as amended (such as the Common stock), is generally presumed, subject to rebuttal, to constitute the acquisition of control.

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

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acquisition of control. A person would be deemed to have acquired control of the Corporation under this state law if such person, directly or indirectly, has the power (i) to vote 25% or more of the voting power of the Corporation or (ii) to direct or cause the direction of the management and policies of the Corporation. For purposes of this law, a person who directly or indirectly owns or controls 10% or more of the Common stock would be presumed to control the Corporation, subject to rebuttal.

In addition, any “company” would be required to obtain the approval of the Federal Reserve under the Bank Holding Company Act of 1956, as amended (the “BHC Act”), before acquiring 25% (5% in the case of an acquirer that is, or is deemed to be, a bank holding company) or more of the outstanding Common stock of, or such lesser number of shares as constitute control over, the Bank or the Corporation.

RESEARCH

Neither the Corporation nor the Bank makes any material expenditures for research and development.

DEPENDENCE UPON A SINGLE CUSTOMER

Neither the Corporation nor the Bank is dependent upon a single customer or very few customers. The Bank’s business is concentrated in, and largely dependent upon the strength of the local economy in, the Monterey Peninsula area of Northern California. The local economy is affected by both national trends and by local factors. Tourism and the activities at the former Fort Ord military base are among the major contributors to the local economy.

ITEM 1A. RISK FACTORS

Not Applicable.

ITEM 1B. UNRESOLVED STAFF COMMENTS.

None.

ITEM 2. PROPERTIES

The main branch office of the Bank, which also serves as the principal office of the Corporation, is located at 601 Munras Avenue, Monterey, California 93940. This facility contains a lobby, executive and customer service offices, teller stations, safe deposit boxes and related non-vault area, vault, operations area, lounge and miscellaneous areas. A drive-through facility and adequate paved parking are also on the premises. Both the land and all improvements thereto are owned by the Bank.

The Bank also owns a building located at 556 Abrego Street, Monterey, California 93940, which houses a loan production office and additional office space. The Bank currently operates three branch offices in Carmel Valley, Pacific Grove and Salinas, California, all within approximately 20 miles from the Bank’s main office. The land and improvements dedicated to the Carmel Valley, Pacific Grove and Salinas branch offices are leased. The Bank discontinued operation of the Carmel-By-The-Sea branch office on December 30, 2011. See Note 13 to the Corporation’s Consolidated Financial Statements included herein.

Generally, neither the Bank nor the Corporation may invest in equity interests in real estate, except for the direct use by the Bank or the Corporation in their business. However, the Bank acquires real estate through foreclosure or resolution of outstanding loans, which properties are treated as non-performing assets and are marketed for sale.

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ITEM 1A3. LEGAL ~~RISK FACTORS~~PROCEEDINGS

~~DIFFICULT~~For ~~ECONOMIC~~a ~~AND~~discussion ~~MARKET~~of ~~CONDITIONS~~legal ~~HAVE~~proceedings ~~ADVERSELY~~see ~~AFFECTED~~Note ~~THE~~14m ~~BANKING~~“Commitments ~~INDUSTRY~~and Contingencies” in the Consolidated financial Statements.

~~Dramatic~~Although ~~declines in~~ the ~~housing~~amount ~~market, with depressed home prices and high delinquencies and foreclosures during 2008 and through 2010, have negatively impacted the credit performance~~ of ~~mortgage~~any ~~and~~ultimate ~~construction~~liability ~~loans~~with ~~and~~respect ~~resulted~~to insuch ~~significant~~proceedings ~~write-downs~~cannot ofbe ~~assets by many financial institutions and government sponsored entities. General downward economic trends~~determined, ~~reduced availability of commercial credit and high unemployment have negatively impacted the credit performance of commercial and consumer credit, resulting~~ in ~~additional write-downs. Concerns over~~ the ~~stability~~opinion of the financial markets and the economy have resulted in decreased lending by financial institutions to their customers and to each other. This market turmoil and tightening of credit has led to increased commercial and consumer deficienciesmanagement, ~~lack~~any ofsuch ~~customer~~liability ~~confidence,~~will ~~increased~~not ~~market volatility and widespread reduction in general business activity. In some cases’ the related write-downs~~ have ~~caused~~a ~~many~~material ~~financial~~effect ~~institutions to seek additional capital, to merge with larger and stronger institutions or to fail. The resulting economic pressure~~ on ~~consumers and businesses and~~ the ~~lack~~consolidated ~~of confidence in the~~ financial ~~markets~~position ~~may adversely affect our business, financial condition, results~~ of ~~operations and stock price. A worsening of these conditions would likely exacerbate~~ the ~~adverse~~Corporation ~~effects~~or ~~of these difficult market conditions on us and others in~~ the ~~financial institutions industry~~Bank. ~~In particular, we may face the following risks in connection with these events:~~

~~· We~~ITEM ~~potentially face increased regulation of our industry~~4. MINE ~~Compliance~~SAFETY ~~with such regulation may increase our costs and limit our ability to pursue business opportunities.~~DISCLOSURES

~~· The~~Not process we use to estimate losses inherent in our credit exposure requires difficult, subjective and complex judgments, including forecasts of economic conditions and how these economic conditions might impair the ability of our borrowers to repay their loansApplicable. ~~The level of uncertainty concerning economic conditions may adversely affect the accuracy of our estimates which may, in turn, impact the reliability of the process.~~

~~· The value of the portfolio of investment securities that we hold may be adversely affected.~~30

~~· We~~Table ~~may be required to pay significantly higher FDIC premiums because market developments have significantly depleted the insurance fund~~ of ~~the FDIC and reduced the ratio of reserves to insured deposits.~~Contents

If economic conditions do not significantly improve, or current levels of market disruption and volatility continue or worsen, there can be no assurance that we will not experience an adverse effect, which may be material, on our business, financial condition and results of operations.PART II

~~Legislative~~ITEM ~~and~~5. MARKET ~~regulatory~~FOR ~~initiatives to address difficult market and economic conditions may not stabilize the U.~~REGISTRANT’S. ~~banking~~COMMON ~~system~~EQUITY, ~~including~~RELATED ~~the~~STOCKHOLDER ~~Emergency~~MATTERS ~~Economic~~AND ~~Stabilization~~ISSUER PURCHASES ~~Act,~~OF orEQUITY EESA, the American Recovery and Reinvestment Act, or AARA, and the Dodd-Frank Wall Street Reform and Consumer Protection Act, or Dodd-Frank Act. There can be no assurance, however, as to the actual impact that legislation and regulations will have on the financial markets, including the extreme levels of volatility and limited credit availability currently being experienced. The failure of legislation and regulations to help stabilize the financial markets and a continuation or worsening SECURITIES

30The Corporation’s stock is traded on the Over-the-Counter Bulletin Board, or OTCBB, under the stock symbol “NRLB,” which is a quotation service for securities not listed or traded on NASDAQ or a national securities exchange. In addition to the transactions in the common stock reported on the OTCBB, the Corporation also has knowledge of a limited number of transactions conducted between individual shareholders.

~~Table~~The Corporation currently is aware of ~~Contents~~one company that makes a market for its common stock, Howe Barnes Hoeffer & Arnett.

ofAt ~~current~~December 31, ~~financial~~2011, ~~market~~there ~~conditions~~were ~~could~~490 ~~have~~shareholders aof ~~material,~~record ~~adverse~~of ~~effect~~the oncommon ~~our~~stock ~~business,~~of ~~financial~~the ~~condition,~~Corporation. ~~results~~This does not reflect the number of ~~operations,~~persons ~~access~~or toentities ~~credit~~who hold their stock in nominee or ~~the~~street ~~value~~name ofthrough ~~our~~various ~~securities~~brokerage firms.

~~U.S.~~The ~~FINANCIAL~~Corporation ~~MARKETS~~did ~~AND~~not ~~ECONOMIC~~repurchase ~~CONDITIONS~~any ~~COULD~~shares ~~ADVERSELY~~of ~~AFFECT~~the ~~OUR~~common ~~LIQUIDITY,~~stock ~~RESULTS~~in OF2011 ~~OPERATIONS~~or ~~AND FINANCIAL CONDITION~~2010.

The ~~impact~~information ofin ~~recent~~the ~~adverse~~following ~~economic~~table ~~events~~indicates ~~has been particularly acute in~~ the ~~financial~~high ~~sector. The cost~~ and ~~availability~~low ofbid ~~funds~~information ~~may be adversely affected by illiquid credit markets~~ and ~~the~~volume ~~demand~~of trading for our ~~products~~common ~~and~~stock ~~services~~for ~~may~~each ~~decline~~quarter assince ~~our~~January 1, ~~borrowers~~2009, and ~~customers~~is ~~realize~~based ~~the~~upon ~~impact~~information ofprovided anby ~~economic~~the ~~slowdown~~OTCBB. InThe ~~view~~information ofdoes ~~the~~not ~~concentration~~include oftransactions ~~our~~for ~~operations~~which ~~and~~no ~~the~~public ~~collateral~~records ~~securing our loan portfolio in Northern California, we~~ are ~~particularly~~available. The ~~susceptible~~OTCBB tomarket ~~the~~quotations ~~adverse~~reflect ~~economic~~inter-dealer ~~conditions~~prices, inwithout ~~the~~retail ~~State~~mark-up, ofmark-down ~~California. In~~or ~~addition~~commissions, ~~the severity~~ and ~~duration of these adverse conditions is unknown and~~ may ~~exacerbate~~not ~~the~~necessarily ~~exposure~~represent toactual ~~credit risk and adversely affect the ability of our borrowers to perform under the terms of their lending arrangements with us~~transactions.

Moreover, deterioration in local, regional, national or global economic conditions has caused us to experience an increase in the number of borrowers who default on their loans and a reduction in the value of the collateral securing their loans, all of which have adversely affected our performance and financial condition. Unlike larger banks that are more geographically diversified, we provide banking and financial services locally, specifically within Monterey County, California. Therefore, we are particularly vulnerable to adverse local economic conditions.

Quarter/Year	Price ($)	Volume
1st quarter of 2009	$2.00-4.25	7,858
2nd quarter of 2009	$1.70-6.50	28,526
3rd quarter of 2009	$2.75-5.00	3,927
4th quarter of 2009	$3.50-6.00	6,007

1st quarter of 2010	$3.55-4.74	2,006
2nd quarter of 2010	$2.50-3.60	4,574
3rd quarter of 2010	$2.50-2.50	123
4th quarter of 2010	$1.50-2.50	12,663

1st quarter of 2011	$1.15-2.20	10,473
2nd quarter of 2011	$1.06-1.70	15,038
3rd quarter of 2011	$0.61-1.06	31,856
4th quarter of 2011	$0.12-1.00	14,590

~~CHANGES~~The INprincipal ~~FINANCIAL~~source ~~MARKETS~~of ~~AND~~cash ~~THE~~flow ~~ECONOMY~~of ~~MAY NEGATIVELY~~the ~~AFFECT~~Corporation, ~~OUR~~including ~~OPERATIONS~~cash flow to pay dividends on its common stock or principal and interest on debt, is from interest and dividends on investments as well as tax benefit payments and dividends received from the Bank. There are statutory and regulatory limitations on the payment of dividends by the Bank to the Corporation, as well as by the Corporation to its shareholders.

The United States economy is slowly recovering from a severe economic recession that began at the end of 2007 and no assurances can be provided as to the timeline for this economic recovery, which could be protracted. The economic recession has resulted in significant business failures, substantial reductions in real estate values, and a significant downturn in the residential and commercial real estate markets, resulting in high levels of loan defaults and foreclosures and significant job losses. Over 6.6 million jobs were lost in 2008 and 2009 and while the level of job losses has decreased recently, the unemployment rate nationally was 9.6%(1) as of August 2010 and in California was 12.4% as of August 2010.31

WeTable ~~conduct banking operations principally in Monterey County, California. As a result, our financial condition, results~~ of operations and cash flows are subject to changes in the economic conditions in Monterey County and Northern California, in general. Our business results are dependent in large part upon the business activity, population, income levels, deposits and real estate activity in Northern California, and continued adverse economic conditions could have a material effect upon us.Contents

~~Financial~~If ~~markets,~~in ~~securities~~the ~~trading~~opinion ~~markets,~~of ~~and~~ the ~~economy~~applicable ~~generally,~~federal ~~both~~and/or instate ~~the~~regulatory ~~United~~authority, ~~States~~a ~~and~~depository ~~throughout~~institution ~~the~~or ~~world,~~holding ~~have~~company ~~experienced~~is ~~significant~~engaged ~~turmoil~~in ~~resulting~~or ~~primarily~~is ~~from~~about ~~the~~to ~~declines~~engage in ~~real~~an ~~property~~unsafe ~~values,~~or ~~elevated~~unsound ~~foreclosures~~practice (which, depending on ~~residential~~the ~~and~~financial ~~commercial~~condition ~~properties~~of the depository institution or holding company, ~~extended~~could ~~leverage~~include bythe ~~securities~~payment ~~brokerage~~of ~~firms~~dividends), ~~and~~such ~~energy~~authority ~~price~~may ~~fluctuations.~~require, ~~This~~after ~~turmoil~~notice ~~has~~and ~~resulted~~hearing (except in the ~~failures~~case of ~~banks~~an ~~and~~emergency ~~securities~~proceeding ~~brokerage~~where ~~firms,~~there ~~government~~is ~~brokered~~in ~~mergers~~no ofnotice ~~such~~or ~~firms~~hearing), tothat ~~avoid~~such ~~bankruptcies~~institution or ~~failures,~~holding ~~and~~company ~~virtually~~cease ~~unprecedented~~and ~~intervention~~desist byfrom ~~governments~~such practice. Moreover, ~~particularly in~~ the ~~United~~Federal ~~States,~~Reserve ~~with~~and the ~~enactment~~FDIC ofhave ~~EESA~~issued inpolicy ~~October,~~statements ~~2008~~which ~~and~~provide ~~the~~that ~~extension~~bank ofholding ~~credit~~companies toand ~~insurance~~insured ~~companies~~depository ~~and~~institutions ~~the~~generally ~~government~~should ~~take-over~~only pay dividends out of ~~domestic~~current ~~auto~~operating earnings.

~~(1) Source:~~Under ~~U.S.~~the ~~Bureau~~FDICIA, ofan ~~Labor~~FDIC ~~Statistics~~insured depository institution may not pay any dividend if payment would cause it to become undercapitalized or once it is undercapitalized.

The Bank’s payment of dividends, as a California chartered commercial banking corporation, is also regulated by the California Financial Code. Under the California Financial Code, funds available for cash dividend payments by the Bank are restricted to the lessor of: (i) retained earnings; or (ii) the Bank’s net income for its last three fiscal years (less any distributions to the shareholders made during such period). As of December 31, 2011 the Bank had $3,027,000 in retained earnings. The Bank’s net income for the last three fiscal years less distributions to shareholders was $(11,795,000).

~~Table~~The Corporation did not pay a cash dividend in 2011, 2010 and 2009. The Bank paid cash dividends totaling $500,000 in 2009; no dividends were paid by the Bank in 2011 or 2010. The Bank is presently prohibited from paying and the Corporation has agreed not to accept from the Bank dividends absent prior regulatory authorization to do so under the terms of ~~Contents~~the regulatory orders and agreements that they became subject in 2010, as discussed under “Regulatory Enforcement Powers” of Item 1.

~~manufactures,~~The inCorporation anhas ~~effort~~deferred tointerest ~~support~~payments ~~the~~on ~~economy,~~its ~~provide~~subordinated ~~liquidity~~debt ~~to lending institutions, and stabilize the financial sector~~securities. ~~From~~Therefore ~~January 1,~~it ~~2008 through March 7, 2011, 344 banks have failed(2) and more failures are expected in 2011. These events~~ may ~~reduce:~~not ~~(i) our~~pay ~~ability~~any todividends ~~service~~or ~~existing~~make ~~customers~~a ~~and~~distribution toon ~~attract~~its ~~new~~common ~~customers;~~stock ~~(ii) our~~until ~~borrowers’~~the ~~ability~~total todeferred ~~successfully~~interest ~~operate~~is ~~their~~paid. Additionally, ~~businesses;~~the ~~and~~Corporation, ~~(iii) our~~prior ~~customers’ ability~~ to ~~repay~~paying ~~their~~any ~~loans~~dividend ~~with~~or usdistribution, inmust ~~accordance~~request ~~with~~the ~~their~~prior ~~terms.~~approval ~~Such developments would have a material negative effect on our earnings and financial condition. The full extent~~ of the ~~repercussions~~Federal toReserve ~~our nation’s economy in general and our business projections in particular are not fully known at this time~~Bank.

We can provide no assurance that economic conditions in the United States in general, in the State of California, or within our operating market will not further deteriorate or that such deterioration will not materially and adversely affect us. A further deterioration in the economic conditions locally, regionally or nationally could result in a further economic downturn in Northern California with the following consequences, any of which could further adversely affect our business:32

~~· loan~~Table ~~delinquencies~~of ~~and defaults may increase;~~Contents

~~· problem~~ITEM ~~assets~~6. ~~and~~SELECTED ~~foreclosures~~FINANCIAL ~~may increase;~~DATA

~~· demand~~The following summary presents the Corporation’s consolidated financial data as of ~~our~~and ~~products~~for the years ended December 31, 2011, 2010, 2009, 2008 and ~~services~~2007. The ~~may~~data ~~decline;~~presented are derived from the Corporation’s audited Consolidated Financial Statements. You should read this information in conjunction with Item 7 — MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS of this Annual Report on Form 10-K for the year ended December 31, 2011 and our audited Consolidated Financial Statements included herewith. The historical results presented in the following summary do not necessarily indicate expected results for future periods.

· low cost or non interest-bearing deposits may decrease;

	At or for the Year Ended December 31
(Dollars in thousands except share data)	2011			2010			2009			2008			2007
Five-Year Selected Financial Data
Summary of Operating Results:
Total interest income	$	11,293		$	12,421		$	15,262		$	16,500		$	16,941
Total interest expense	4,140			5,737			8,079			9,749			8,002
Net interest income	7,153			6,684			7,183			6,751			8,939
Provision for loan losses	7,860			0			3,368			1,132			865
Net interest income (loss) after provision for loan losses	(707		)	6,684			3,815			5,619			8,074
Total non-interest income	4,190			8,553			10,120			5,031			4,336
Total non-interest expenses	13,737			17,314			12,983			8,907			9,005
Income (loss) before provision (benefit)	(10,254		)	(2,077		)	952			1,743			3,405
Income tax provision (benefit)	3,398			(1,371		)	(659		)	281			1,476
Net income (loss)	$	(13,652	)	$	(706	)	$	1,611		$	1,462		$	1,929

Per Common Share Data:
Net (loss) income - Basic (1)	$	(7.64	)	$	(0.40	)	$	0.90		$	0.80		$	1.08
Net (loss) income - Diluted (2)	(7.64		)	(0.40		)	0.90			0.79			1.03
Book value, end of period	2.01			8.01			9.06			7.77			7.82
Avg shares outstanding (3)	1,785,359			1,785,359			1,791,218			1,823,965			1,785,812

Balance Sheet Data:

Total loans, net of unearned income (4)	$	149,498		$	151,549		$	163,213		$	167,180		$	168,748
Total assets	245,677			263,617			273,295			306,201			253,865
Total deposits	203,613			207,998			202,422			189,730			167,333
Stockholders’ equity	3,596			14,307			16,150			14,352			14,434
Return (loss) on average assets (5)	(5.07		)%	(0.25		)%	0.55		%	0.54		%	0.91		%
Return (loss) on average stockholders’ equity (5)	(116.37		)%	(4.43		)%	9.98		%	10.67		%	14.09		%
Dividend payout ratio	0.00		%	0.00		%	0.00		%	30.78		%	23.90		%
Net interest spread	3.57		%	3.03		%	2.77		%	2.45		%	4.07		%
Net yield on interest earning assets (5)	3.63		%	3.18		%	3.09		%	2.87		%	4.69		%
Avg shareholders’ equity to average assets (5)	4.35		%	5.62		%	5.47		%	5.04		%	6.44		%
Risked-Based capital ratios
Tier 1	1.49		%	9.31		%	10.24		%	8.80		%	9.23		%
Total	6.61		%	12.85		%	13.51		%	12.31		%	12.63		%
Total loans to total deposits at end of period (4)	75.65		%	74.46		%	82.37		%	88.11		%	100.85		%
Allowance for loan losses to total loans at end of period (4)	2.81		%	2.04		%	2.12		%	1.42		%	1.19		%
Nonperforming loans to total loans at end of period (4)	3.86		%	7.41		%	5.33		%	4.18		%	1.98		%
Net charge-offs to average loans (4)	4.30		%	0.23		%	1.33		%	0.45		%	0.17		%

· collateral for loans may decline in value, in turn reducing customers’ borrowing power, and reducing the value of assets and collateral as a source of repayment of existing loans;33

~~· foreclosed~~Table ~~assets~~of ~~may not be able to be sold;~~Contents

~~· volatile~~(1) Basic ~~securities~~earnings ~~market~~per ~~conditions~~share ~~could~~amounts ~~adversely~~were ~~affect~~computed ~~valuations~~on the basis of ~~investment~~the ~~portfolio~~weighted ~~assets;~~average number of shares of common stock during the year. The weighted average number of shares used for this computation was 1,785,891 for 2011, 1,785,891 for 2010, 1,791,218 for 2009, 1,890,591 for 2008 and 1,785,812 for 2007.

~~· reputational~~(2) Fully ~~risks~~diluted ~~may~~earnings ~~increase~~per ~~due~~share toamounts ~~public~~were ~~sentiment~~computed ~~regarding~~on the ~~banking~~basis ~~industry~~of the weighted average number of shares of common stock and common stock equivalents outstanding during the year. Common stock equivalents include employee stock options. The weighted average number of shares used for this computation was 1,785,891, 1,785,359, 1,795,764, 1,848,173 and 1,881,004 in 2011, 2010, 2009, 2008 and 2007, respectively.

~~LEGISLATIVE~~(3) Weighted ~~AND~~average ~~REGULATORY~~common ~~INITIATIVES TO ADDRESS DIFFICULT MARKET AND ECONOMIC CONDITIONS MAY NOT STABILIZE THE U~~shares.~~S. BANKING SYSTEM.~~

~~EESA, the Financial Stability Plan~~ (~~FSP~~4), Includes ~~AARA~~loans ~~and~~being ~~the~~held Homeowner Affordability and Stabilization Plan (HASP), and the numerous actions by the Board of Governors of the Federal Reserve System, the Treasury, the FDIC, the SEC and others are intended to address the liquidity and credit crisis, and to stabilize the U.S. banking, financial securities and housing markets. These measures include homeowner relief that encourage loan restructuring and modification; the establishment of significant liquidity and credit facilities for financial institutions and investment banks; the lowering of the federal funds rate; emergency action against short selling practices; a temporary guaranty program for money market funds; the establishment of a commercial paper funding facility to provide “back-stop” liquidity to commercial paper issuers; and coordinated international efforts to address illiquidity and other weaknesses in the banking sectorsale. ~~EESA and the other regulatory initiatives described above may not have their desired effects. If the volatility in the~~

(25) ~~Source:~~ Averages ~~www~~are of daily balances.~~fdic.gov/bank/individual/failed/banklist.html~~

32ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

~~Table of Contents~~OVERVIEW

~~markets continues and economic conditions fail to improve or worsen, our business, financial condition and results of operations could be materially and adversely affected.~~General

~~RECENTLY~~The ~~ENACTED~~following ~~LEGISLATIVE~~discussion ~~REFORMS~~reviews ~~AND~~and ~~FUTURE~~analyzes ~~REGULATORY~~the ~~REFORMS~~operating ~~REQUIRED~~results BYand ~~SUCH~~financial ~~LEGISLATION~~condition ~~COULD~~of ~~HAVE~~the ACorporation, ~~SIGNIFICANT~~focusing ~~IMPACT~~on ONthe ~~OUR~~Bank. It ~~BUSINESS,~~should ~~FINANCIAL~~be ~~CONDITION~~read ~~AND~~in ~~RESULTS~~conjunction OFwith ~~OPERATIONS~~the Consolidated Financial Statements and the other financial data presented elsewhere herein.

OnNet ~~July 21~~income (loss) for 2011, 2010, ~~President~~and ~~Obama~~2009 ~~signed~~was ~~the~~$(13,652,000), ~~Dodd-Frank~~$(706,000), ~~Act~~and ~~into~~$1,611,000, ~~law~~respectively. The ~~Dodd-Frank~~net ~~Act~~income ~~will~~(loss) ~~have~~per ashare ~~broad~~for ~~impact~~2011, on2010 ~~the~~and ~~financial~~2009 ~~services~~was ~~industry~~$(7.64), ~~including~~$(0.40), ~~significant regulatory~~ and ~~compliance~~$0.90, ~~changes~~respectively. The ~~Many~~diluted ofnet ~~the~~income ~~requirements~~(loss) ~~called~~per share for in the ~~Dodd-Frank~~same ~~Act~~time ~~will~~periods bewas ~~implemented~~$(7.64), ~~over~~$(0.40) ~~time~~ and ~~most~~$0.90, ~~will~~respectively. Return be(loss) ~~subject~~on toaverage ~~implementing~~shareholders’ ~~regulations~~equity ~~over~~was ~~the~~(116.37%), ~~course~~(4.43%), ofand ~~several years~~9.98% ~~Given the uncertainty associated with the manner~~ in ~~which~~2011, ~~the~~2010 ~~provisions~~and of2009, ~~the~~respectively. Return ~~Dodd-Frank~~(loss) ~~Act~~on ~~will~~average beassets ~~implemented~~was by(5.07%), ~~the various regulatory agencies~~(0.25%), ~~the~~and ~~full~~0.55% ~~extent~~in of2011, ~~the~~2010 ~~impact~~and ~~such~~2009, ~~requirements will have on our operations is unclear~~respectively. ~~The Dodd-Frank Act:~~

~~· eliminates,~~2011 ~~effective one year after the date of enactment, the federal prohibitions on paying interest on demand deposits, thus allowing businesses to have interest-bearing checking accounts~~vs. ~~Depending on competitive responses, this significant change to existing law could have an adverse impact on our interest expense;~~2010

~~· broadens~~The ~~the~~increase ~~base~~in ~~for~~net ~~FDIC~~loss ~~insurance~~in ~~assessments.~~2011 ~~Assessments~~from ~~will~~2010 ~~now~~levels can be ~~based~~attributed onprimarily to: (i) the ~~average~~decrease ~~consolidated~~of ~~total~~$1.1 ~~assets~~million ~~less~~or ~~tangible~~9.08% ~~equity~~in ~~capital~~interest income from $12.4 million in 2010 to $11.3 million in 2011; (ii) the decrease in non-interest income of $4.4 million or 51.01% from $8.6 million in 2010 to $4.19 million in 2011; (iii) a ~~financial~~$7.9 ~~institution~~million provision for loan losses in 2011 whereas there was no provision for loan losses in 2010; and (iv) an increase in income tax provision of $4.8 million from a benefit of $1.4 million in 2010 to a provision of $3.4 million in 2011. The increase in net loss was partially offset by decreases in expenses with non-interest expenses decreasing $3.6 million or 20.66% from $17.3 million in 2010 to $13.7 million in 2011 and interest expenses decreasing $1.6 million or 27.84% from $5.7 million in 2010 to $4.1 million in 2011.

~~· permanently~~Interest ~~increases~~income ~~the~~decreased ~~maximum~~primarily ~~amount~~because ofaverage ~~deposit~~interest-earning ~~insurance~~assets ~~for~~decreased ~~banks,~~$18.1 ~~savings~~million ~~institutions~~or ~~and~~7.44% ~~credit~~from ~~unions~~$243.5 million in 2010 to $~~250,000~~225.4 ~~per~~million ~~depositor,~~in ~~retroactive~~2011. Interest toexpense ~~January 1,~~decreased ~~2008,~~primarily ~~and~~because ~~noninterest~~average interest-bearing ~~transaction~~liabilities ~~accounts~~decreased ~~have~~$9.3 ~~unlimited~~million ~~deposit~~or ~~insurance~~4.09% ~~through~~from ~~December 31,~~$228.3 ~~2013;~~in 2010 to $219.0 in 2011 and the average rate paid decrease 62 basis points or 24.7% from 2.51% in 2010 to 1.89% in 2011.

~~· requires~~The ~~publicly~~primary ~~traded~~reasons ~~companies~~for the decrease in non-interest income of $4.4 million or 51.0% from $8.6 million in 2010 to ~~give~~$4.2 ~~shareholders~~million in 2011 are: (i) decreases in other income of $2.4 million; (ii) decrease in gain on sales of investment securities of $623,000; (iii) a ~~non-binding~~decrease ~~vote~~in service charges on ~~executive~~deposit ~~compensation~~accounts of $87,000; and ~~so-called~~(iv) a ~~“golden~~gain ~~parachute”~~of ~~payments~~$1.5 million recognized in ~~certain~~2010 ~~circumstances;~~on the sale of

· authorizes the SEC to promulgate rules that would allow stockholders to nominate their own candidates using a company’s proxy materials, and the SEC has recently promulgated such rules;34

~~· directs~~Table ~~the~~of ~~FRB to promulgate rules prohibiting excessive compensation paid to bank holding company executives; and~~Contents

~~· creates~~merchant acredit ~~new~~card ~~Consumer~~processing ~~Financial Protection Bureau with broad powers to supervise and enforce consumer protection laws~~accounts. The ~~Consumer~~decreases ~~Financial~~were ~~Protection~~partially ~~Bureau~~offset ~~has~~by ~~broad~~an ~~rule-making~~increase ~~authority~~in ~~for~~income afrom ~~wide~~sales ~~range of consumer protection laws that apply to all banks~~ and ~~savings~~servicing ~~institutions,~~of ~~including~~Small ~~the~~Business ~~authority~~Administration toloans ~~prohibit~~of ~~“unfair, deceptive or abusive” acts and practices. The Consumer Financial Protection Bureau has examination and enforcement authority over all banks and savings institutions with more than~~ $~~10 billion in assets. Institutions with $10 billion or less in assets~~146, ~~such as the Bank, will continue to be examined for compliance with the consumer laws by their primary bank regulators~~000.

33The primary reasons for the decrease in non-interest expenses of $3.6 million or 20.66% from $17.3 million in 2010 to $13.7 million in 2011 are: (i) a decrease of $353,000 or 9.91% in salaries and benefits; (ii) a decrease in expenses of $1.9 million or 61.78% associated with the Corporation’s foreclosed assets; (iii) a decrease of $1.5 million or 36.82% in other general and administrative expense; (iv) an expense of $1.8 million that was recognized in 2010 in connection with a settlement with the FDIC that resulted from the issuance of various regulatory orders and the imposition of civil money penalties associated with the Bank’s card programs. The decreases were partially offset by increases of $1.3 million or 108.61% in litigation settlement expense; $709,000 in professional fees; and $134,000 in FDIC and State assessments.

~~Table~~2010 ofvs. ~~Contents~~2009

InThe ~~addition,~~decrease wein ~~anticipate~~net ~~that~~income ~~the~~in ~~potential~~2010 ~~impact~~from 2009 levels can be attributed primarily to: (i) the decrease of $2.8 million or 18.61% in interest income from $15.3 million in 2009 to $12.4 million in 2010; (ii) the ~~Dodd~~decrease in non-~~Frank~~interest ~~Act~~income onof ~~our~~$1.6 ~~operations~~million or 15.48% from $10.1 million in 2009 to $8.6 million in 2010; and ~~activities~~(iii) the increase in non-interest expenses of $4.3 million or 33.36% from $13.0 million in 2009 to $17.3 million in 2010. The decrease in net income in 2010 from 2009 was partially offset by a decrease in interest expenses of $2,342,000, ~~both~~or ~~currently~~29.0%, ~~and~~a ~~prospectively~~reduction of $3.4 million, ~~may~~or ~~include~~100%, ~~among~~in ~~others:~~the provision for loan losses, and an increase in income tax benefit of $712,000.

~~· a~~Interest ~~reduction~~income indecreased ~~our~~primarily ~~ability~~because toaverage ~~generate~~interest-earning assets decreased $21.6 million or ~~originate~~8.16% ~~revenue~~from $265.1 million in 2009 to $243.5 million in 2010. Interest expense decreased primarily for the same reason; however, the average balance of time deposits in excess of $100,000, which comprise approximately 29% of the Corporation’s average interest-~~producing~~bearing ~~assets~~liabilities asand awhich ~~result~~represent the highest cost of ~~compliance~~interest-bearing ~~with~~liabilities ~~heightened~~to ~~capital~~the ~~standards;~~Corporation, increased approximately $8.5 million or 14.67% from $58.0 million in 2009 to $66.5 million in 2010.

~~· an~~The ~~increase~~primary inreasons for the ~~cost~~decrease in non-interest income of ~~operations~~$1.6 ~~due~~million or 15.48% from $10.1 million in 2009 to ~~greater~~$8.6 ~~regulatory~~million ~~oversight,~~in ~~supervision~~2010 ~~and~~are: ~~examination~~(i) decreases in gain on sales of ~~banks~~investment ~~and~~securities ~~bank~~of ~~holding~~$2.2 ~~companies~~million; (ii) decrease in other income of $751,000; and ~~higher~~(iii) a decrease in service charges on deposit ~~insurance~~accounts ~~premiums;~~of $219,000. The decreases were partially offset by a gain of $1.5 million on the sale of merchant credit card processing accounts and an increase in income from sales and servicing of Small Business Administration loans.

~~· a~~The ~~limitation~~primary onreasons ~~our~~for ~~ability~~the increase in non-interest expenses of $4.3 million or 33.36% from $13.0 million in 2009 to ~~raise~~$17.3 ~~capital~~million ~~through~~in ~~the~~2010 ~~use~~are: (i) an increase of ~~trust~~$470,000 ~~pref1erred~~or ~~securities~~15.21% asin ~~these~~salaries ~~securities~~and ~~may~~benefits; no(ii) an ~~longer~~increase bein ~~included~~expenses asof ~~Tier~~$1.67 million or 119.13% associated with the Corporation’s foreclosed assets; (iii) an expense of $1.8 ~~capital~~million ~~going~~that ~~forward~~was recognized in 2010 in connection with a settlement with the FDIC that resulted from the issuance of various regulatory orders and the imposition of civil money penalties associated with the Bank’s card programs; and (iv) expenses of $1.1 million that were recognized in 2010 in connection with the settlement of three lawsuits.

~~· a~~Critical ~~limitation~~Accounting ~~on our ability to expand consumer product and service offerings due to anticipated stricter consumer protection laws and regulations.~~Policies

~~Further,~~The wepreparation ~~may~~of befinancial ~~required~~statements toin ~~invest~~accordance ~~significant management attention and resources to evaluate and make any changes necessary to comply~~ with ~~new~~accounting ~~statutory~~principles ~~and~~generally ~~regulatory~~accepted ~~requirements~~in ~~under~~ the ~~Dodd-Frank~~United ~~Act. Failure~~States ~~to comply with the new requirements may negatively impact our results~~ of ~~operations~~America ~~and~~requires ~~financial~~management ~~condition. While it is difficult~~ to ~~predict~~make ~~at this time what specific impact the Dodd-Frank Act and the yet to be written implementing rules and regulations will have on us, we expect that at~~ a ~~minimum,~~number ~~our~~of ~~operating and compliance costs and interest expense will increase.~~judgments,

~~FDIC DEPOSIT INSURANCE PREMIUMS HAVE INCREASED SUBSTANTIALLY AND MAY INCREASE FURTHER, WHICH WILL ADVERSELY AFFECT OUR RESULTS OF OPERATIONS.~~35

~~Our~~Table FDIC insurance expense for the years ended December 31, 2010 and 2009 amounted to $731,000, and $535,000, respectively. The expense for the 2009 period included a $133,000 special assessment imposed in June 2009. We expect deposit insurance premiums will continue to increase for all banks, including the possibility of additional special assessments, due to recent strains on the FDIC deposit insurance fund resulting from the cost of recent bank failures and an increase in the number of banks likely to fail over the next few years. Our current level of FDIC insurance expense as well as any further increases thereto will continue to adversely affect our operating results.Contents

~~Under~~estimates ~~the~~and ~~Federal~~assumptions ~~Deposit~~that ~~Insurance~~affect ~~Act,~~ the ~~FDIC,~~reported ~~absent~~amount ~~extraordinary~~of ~~circumstances~~assets, ~~must~~liabilities, ~~establish~~income and ~~implement~~expenses ain ~~plan to restore~~ the deposit insurance reserve ratio to 1.15% of insured deposits at any time that the reserve ratio falls below 1.15%. Recent bank failures coupled with deteriorating economic conditions have significantly reduced the deposit insurance fundCorporation’s ~~reserve~~financial ~~ratio. The~~statements ~~FDIC expected insured institution failures to peak in 2010 which would result in continued charges against the Deposit Insurance Fund,~~ and ~~they~~accompanying ~~have implemented a restoration plan that changes both its risk-based assessment system and its base assessment rates~~notes. AsManagement ~~part~~believes of this plan, the FDIC imposed a special assessment in 2009. The recently enacted Dodd-Frank Act provides for a new minimum reserve ratio of not less than 1.35% of estimated insured deposits and required that the ~~FDIC take steps necessary to attain this 1.35% ratio by September 30~~judgments, ~~2020;~~estimates ~~however,~~and ~~the~~assumptions ~~Dodd-Frank~~used ~~Act~~in ~~exempts~~preparation ~~institutions with assets~~ of ~~less than $10 billion, like~~ the ~~Bank,~~Corporation’s ~~from~~financial ~~the~~statements ~~cost~~are ofappropriate ~~this~~given ~~increase. It is generally expected that assessment rates will continue to increase in~~ the ~~near~~factual ~~term~~circumstances ~~due~~as ~~to the significant cost~~ of ~~bank failures~~December 31, ~~the relatively large number of troubled banks, and the requirement that the FDIC increase the reserve ratio~~2011. ~~Any increase in assessments will adversely impact our future earnings.~~

34Various elements of the Corporation’s accounting policies, by their nature, are inherently subject to estimation techniques, valuation assumptions and other subjective assessments. Critical accounting policies are those that involve the most complex and subjective decisions and assessments and have the greatest potential impact on the Corporation’s results of operations. In particular, management has identified one accounting policy that, due to judgments, estimates and assumptions inherent in this policy, and the sensitivity of the Corporation’s Consolidated Financial Statements to those judgments, estimates and assumptions that is critical to an understanding of the Corporation’s Consolidated Financial Statements. This policy relates to the methodology that determines the allowance for loan and lease losses. Management has discussed the development and selection of this critical accounting policy with the Audit Committee of the Board of Directors. Although Management believes the level of the allowance at December 31, 2011 is at an appropriate level and is adequate to absorb losses inherent in the loan portfolio, any number of factors, including a decline in the regional economy, may result in increasing losses that cannot reasonably be predicted at this time. For further information regarding the allowance for loan losses see “Provision and Allowance for Loan and Lease Losses,” and Note 7 to the Corporation’s audited Consolidated Financial Statements included elsewhere herein.

~~Table~~Another critical accounting policy relates to the valuation of ~~Contents~~other real estate owned (OREO). Assets acquired through, or in lieu of, loan foreclosure are held for sale and are initially recorded at fair value less cost to sell at the date of foreclosure, establishing a new cost basis. Subsequent to foreclosure, valuations are periodically performed by management and the assets are carried at the lower of carrying amount or fair value less estimated cost to sell. Any write-down to fair value at the time of transfer to OREO is charged to the allowance for loan and lease losses. Property is evaluated regularly to ensure that the recorded amount is supported by its current fair value and that valuation allowances to reduce the carrying amount to fair value less estimated costs to dispose are recorded as necessary. Revenue and expenses from operations of OREO and changes in the valuation allowance are included in net expenses from OREO.

WEA ~~ARE~~third ~~SUBJECT~~critical TOaccounting ~~REGULATORY~~policy ~~ENFORCEMENT~~relates ~~ACTIONS~~to the valuation of deferred tax assets. The Corporation is permitted to recognize deferred tax assets only to the extent that they are expected to be used to reduce amounts that have been paid or will be paid to tax authorities. Management reviews this each year by comparing the amount of the deferred tax assets with amounts paid in the past that might be recovered by carryback provisions in the tax code and with anticipated taxable income expected to be generated from operations in the future. If it does not appear that the deferred tax assets are usable, a valuation allowance would be established to acknowledge their uncertain benefit.

~~Effective~~Recently ~~September 1,~~Issued ~~2010,~~Accounting the FDIC and the CDFI placed the Bank under a Joint Consent Order. The Joint Consent Order requires the Bank to: (i) have and retain qualified management having such qualifications and experience commensurate with his or her duties and responsibilities at the Bank and notify the FDIC and the CDFI prior to adding any individual to the Bank’s Board of Directors or employing any individual as a senior executive officer of the Bank; (ii) develop and adopt a capital plan that complies with the FDIC’s Statement of Policy on Risk-Based Capital contained in Appendix A to Part 325 of the FDIC’s rules and regulations in order to maintain Tier 1 capital in such an amount to ensure that the Bank’s leverage ratio equals or exceeds 9% and the Bank’s total risk-based capital ratio equals or exceeds 12%; (iii) not pay cash dividends or make any other payments to the Bank’s shareholders absent the prior written consent of the FDIC and the CDFI; (iv) eliminate, either by charge-off or collection, assets classified as “Loss” in the examination report of the FDIC and the CDFI relating to their examination of the Bank on February 16, 2010 (the “ROE”); (v) formulate a written plan to reduce the Bank’s risk exposure in adversely classified “Substandard” or “Doubtful” assets listed in the ROE; (vi) not extend any additional credit to or for the benefit of any borrower who has a loan or other extension of credit that either: (a) has been charged off or classified (in whole or in part) as “Loss” and is uncollected, or (b) absent the prior approval of the Bank’s board or loan committee, has been classified (in whole or in part) as “Doubtful” or “Substandard;” (vii) review the appropriateness of the Bank’s allowance for loan and lease losses (“ALLL”) and establish a comprehensive policy for determining the appropriate level of the ALLL, including documenting the analysis according to the standards set forth in the applicable policy guidelines of the FDIC; (viii) develop or revise, adopt, and implement a written lending and collection policy to provide effective guidance and control over the Bank’s lending functions in accordance with the requirements of the order; (ix) develop or revise, adopt, and implement a written liquidity and funds management policy that adequately addresses liquidity needs and contingency funding, appropriately reduces the Bank’s reliance on non-core funding sources and complies with FDIC’s Guidance on Liquidity Risk Management, dated August 26, 2008; (x) comply with the FDIC’s rules and regulations relating to brokered deposits and formulate and submit for approval, a written plan to eliminate the Bank’s reliance on brokered deposits; (xi) develop or revise, adopt, and implement a written plan addressing retention of profits, reducing overhead expenses, and setting forth a comprehensive budget to cover the three-year period from January 1, 2011 to December 31, 2013, which shall include formal goals, strategies and benchmarks which are consistent with sound banking practices to improve the Bank’s net interest margin, increase interest income, reduce discretionary expenses, and improve and sustain earnings; (xii) develop and submit for regulatory review and approval, a written three-year strategic plan, including a written profit plan, which includes, among other things, specific goals for the dollar volume of total loans, total investment securities and total deposits as of December 31, 2011 through December 31, 2013; (xiii) refrain from engaging in any expansionary activities, including opening any branches absent prior regulatory approval; (xiv) inform the FDIC and the CDFI prior to making any planned public announcement or notification regarding changes to the Bank’s financial condition, executive management or board of directors; and (xv) furnish written progress reports to the FDIC and the CDFI detailing the form and manner of any actions taken to secure compliance with the order; and provide a description of the order to the Bank’s shareholders in conjunction with the Bank’s next shareholder communication and also in conjunction with the Bank’s notice or proxy statement preceding the next shareholder meeting.Standards

~~Effective~~Refer ~~September 29,~~to ~~the~~Note ~~FDIC~~1 ~~placed~~to the ~~Bank~~Consolidated ~~under~~Financial aStatements ~~Consent~~— ~~Order,~~“Summary anof ~~Order~~Significant ~~for~~Accounting ~~Restitution and an Order to Pay Civil Money Penalties (collectively, the “Order~~Policies”~~). In~~ ~~connection~~for ~~with~~discussion ~~the issuance~~ of the ~~Order,~~recently ~~the~~issued ~~FDIC~~accounting ~~alleged that the Bank had engaged in unsafe or unsound banking practices relating to its balance transfer credit cards offered to consumers under a card~~ standards.

35NET INTEREST INCOME

~~Table~~Net interest income, the difference between: (i) interest and fees earned on interest-earning assets, and (ii) interest paid on interest-bearing liabilities, is the most significant component of ~~Contents~~the Bank’s earnings. Changes in net interest income from period to period result from increases or

sponsorship agreement between the Bank and Tighorn Financial Services, LLC (“Tighorn”) and a stored value card program, both of which have since been cancelled. The Order requires the Bank to: (i) provide full accurate disclosure and refrain from making misleading statements to consumers regarding the Bank’s balance transfer credit card programs, the interest rates and fees associated with these programs, the Bank’s debt collection practices, and the Bank’s stored value card programs; (ii) develop and maintain effective monitoring, training and audit procedures to review each aspect of the Bank’s agreement with third parties in order to ensure that third party vendors comply with consumer protection laws, regulatory guidance, regulations, and policies (“consumer laws”); (iii) develop and maintain an adequate compliance management system that implements a written compliance program to ensure the Bank’s compliance with consumer laws; (iv) retain a qualified compliance officer with the requisite knowledge and experience to administer an effective compliance management system, including experience with third-party debit and credit card agreements; (v) have an independent audit to ensure compliance with consumer laws; (vi) correct, to the extent possible, all violations of consumer laws and refrain from making, either directly or indirectly, any false, deceptive or misleading representations with respect to any extension of credit or other Bank product; (vii) contribute $300,000 to an established local or national non-profit organization for the specific purpose of consumer financial education and counseling; (viii) make restitution payments to certain consumers who had or currently have a credit card and/or a prepaid debit card issued by the Bank through agreements with certain third party vendors. In this regard, the Bank must prepare a restitution plan for regulatory approval with respect to making restitution payments to such consumers not to exceed $2.5 million in the aggregate and reserve or deposit into a segregated account for the payment of restitution an amount not less than $1.5 million. The Bank is also required to retain an independent accounting firm to determine compliance with the restitution plan; (ix) furnish written progress reports to the FDIC detailing the form and manner of any actions taken to secure compliance with the Order and provide a description of the Order to the Bank’s shareholders in conjunction with the Bank’s next shareholder communication and also in conjunction with the Bank’s notice or proxy statement preceding the next shareholder meeting. In addition, the Order requires the Bank’s Board to: (a) participate fully in the oversight of the Bank’s compliance management system; (b) assume full responsibility for the approval of sound compliance policies and objectives; (c) establish a compliance committee comprised of at least three directors who are not Bank officers that will meet at least monthly to review among other things, compliance with consumer laws and compliance with the Order; and (d) develop and adopt a comprehensive educational program for periodic training of Board members; As a result of the alleged violations of laws and/or regulation, the FDIC assessed a civil money penalty in the amount of $500,000 against the Bank which has been paid to the United States Treasury.36

~~The~~Table ~~Corporation has entered into a written regulatory agreement with the Federal Reserve Bank~~ of San Francisco, effective as of October 29, 2010. The regulatory agreement requires the Corporation to: (i) take appropriate steps to fully utilize the Corporation’s financial and managerial resources to serve as a source of strength to the Bank, including taking steps to ensure the Bank’s compliance with the Joint Consent Order, the Order and any other supervisory action taken by the Bank’s federal and state regulators; (ii) refrain from declaring or paying dividends, taking dividends or any form of payment from the Bank representing a reduction in the Bank’s capital, or making any distributions of interest, principal or other sums on the Corporation’s subordinated debentures or trust preferred securities absent prior regulatory approval; (iii) refrain from incurring, increasing or guaranteeing any debt or repurchasing or redeeming any shares of its stock absent prior regulatory approval; (iv) develop and submit for regulatory approval a cash flow projection of the Corporation’s planned sources and uses of cash for debt service, operating expenses and other purposes; (v) comply with appropriate regulatory notice and approval requirements when appointing any new directors or senior executive officers or changing the responsibilities of any senior executive officer and comply with the limitations on indemnification and severance payments set forth in Section 18(k) of the Federal Deposit Insurance Act (12 USC 1828(i)) and Contents

36decreases in the average balances of the interest-earning assets and interest-bearing liabilities, the availability of particular sources of funds and changes in prevailing interest rates.

~~Table~~The offollowing ~~Contents~~table summarizes the Corporation’s net interest income:

Part 359 of the FDIC’s implementing regulations; and (vi) furnish written progress reports to the Federal Reserve Bank of San Francisco detailing the form and manner of any actions taken to secure compliance with the regulatory agreement.

	Years Ended December 31,						Increase (Decrease)From Prior Year
	2011		2010		2009		2011/2010					2010/2009
							Amt			%		Amt			%
	(Dollars in thousands)
Interest Income	$	11,293	$	12,421	$	15,262	$	(1,128	)	(9.08	)	$	(2,841	)	(18.61	)
Interest Expense	4,140		5,737		8,079		(1,597		)	(27.84	)	(2,342		)	(28.99	)
	$	7,153	$	6,684	$	7,183	$	469		7.02		$	(499	)	(6.95	)

WeNet ~~are~~interest ~~working~~income onincreased ~~addressing~~$469,000 ~~the~~or ~~concerns~~7.02% ~~raised~~from in2010 ~~these enforcement actions and management is committed~~ to ~~taking~~2011. Average ~~all~~interest-earning ~~actions~~assets ~~necessary~~decreased ~~to address and resolve any weaknesses so identified~~7. ~~However~~44%, nowhile ~~assurances~~the ~~can~~average berate ~~given~~earned ~~that~~on ~~full~~the ~~compliance~~Bank’s ~~will~~interest-earning beassets ~~achieved~~decreased ~~and~~8 inbasis ~~such case~~points, noresulting ~~assurance~~in ~~can~~a bedecrease ~~given~~of ~~that~~$1,128,000 ~~further~~in ~~enforcement~~total ~~actions~~interest ~~will not be taken~~income. ~~Such~~Interest ~~action~~expense ~~could~~decreased ~~impose limitations on our ability to implement components of our business plan~~$1, ~~require recognition of additional loan losses~~597,000, ~~mandate additions to~~ the ~~loan~~result ~~loss reserve and capital, and enforce monetary penalties, any one~~ of ~~which may have~~ a ~~material~~decrease ~~adverse effect on our results~~ of ~~operations and financial condition~~4. ~~For~~09% ain ~~more~~average ~~complete~~interest-bearing ~~discussion of these regulatory actions~~liabilities, ~~including~~while the ~~specific~~average ~~actions~~rate ~~taken~~paid bydecreased ~~the~~62 ~~Bank~~basis ~~and/or the Corporation thus far in compliance with these regulatory actions, please refer to “Item 1 — Business - Regulation and Supervision — Regulatory Enforcement Powers,” herein~~points.

WENet ~~ARE~~interest ~~SUBJECT~~income TOdecreased A$499,000 ~~REGULATORY~~or ~~ORDER~~6.95% ~~THAT~~from ~~REQUIRES~~2009 ~~THAT~~to WE2010. Average ~~INCREASE~~interest-earning ~~OUR~~assets ~~CAPITAL~~decreased 8.16%, while the average rate earned on the Bank’s interest-earning assets decreased 60 basis points, resulting in a decrease of $2,841,000 in total interest income. Interest expense decreased $2,342,000, the result of a decrease of 4.85% in average interest-bearing liabilities, while the average rate paid decreased 86 basis points.

The FDIC and the CDFI have imposed a Joint Consent Order on the Bank that requires that the Bank increase its capital to meet certain regulatory ratios. Specifically, the Joint Consent Order requires that the Bank increase and thereafter maintain its Tier 1 capital to ensure that the Bank’s leverage ratio equals or exceeds 9% and thereafter maintain its total risk-based capital ratio in such an amount as to equal or exceed 12%. The Bank has developed a capital plan to ensure that the Bank’s leverage ratio equals or exceeds 9% and the Bank’s total risk-based capital ratio equals or exceeds 12%. This capital plan was approved by the Board on October 28, 2010. Although the Bank has consistently maintained a total risk-based capital ratio in excess of the required 12%, we anticipate conducting an offering to raise capital to meet the heightened capital requirements of the Joint Consent Order and to ensure continued compliance with the 9% leverage ratio requirement. However, no assurance can be given that we will be able to raise sufficient capital to meet the heightened capital requirements. The failure to meet the heightened regulatory capital requirements of the Joint Consent Order or the failure to comply with any other condition of the regulatory actions imposed on us may result in the imposition of additional enforcement actions which may have a material adverse effect on our results of operation and financial condition and limit our ability to grow.37

~~For~~Table ~~a more complete discussion~~ of ~~the Joint Consent Order and the other regulatory actions that we are subject to, please refer to “Item 1 — Business - Regulation and Supervision — Regulatory Enforcement Powers,” herein.~~Contents

~~OUR~~Average ~~ABILITY~~Balances, Interest TOIncome ~~RAISE~~and ~~DEPOSITS~~Expense, ISRates ~~CURRENTLY~~and ~~IMPAIRED.~~Yields

WeThe ~~derive~~following ~~liquidity~~table ~~through~~shows ~~deposit~~the ~~growth~~components ~~and payoff, maturity and sale~~ of ~~investment~~net ~~securities~~interest ~~and~~income, ~~loans. As~~setting aforth ~~result~~for each of the ~~issuance~~three ofyears ~~the~~ended ~~regulatory~~December 31, ~~orders~~2011, we2010 ~~are~~and ~~deemed~~2009: by(i) average ~~the~~assets, ~~FDIC~~liabilities toand beinvestments; ~~only~~(ii) interest ~~“adequately~~income ~~capitalized”~~earned ~~and,~~on ~~therefore,~~interest-earning ~~must~~assets ~~obtain~~and ainterest ~~waiver~~expense ~~from~~paid ~~the~~on ~~FDIC~~interest-bearing inliabilities; ~~order~~(iii) average toyields ~~accept,~~earned ~~renew~~on orinterest-earning ~~roll~~assets ~~over~~and ~~brokered~~average ~~deposits.~~rates Inpaid ~~addition,~~on ~~certain~~ interest-~~rate~~bearing ~~limits~~liabilities; ~~apply~~(iv) the tonet ~~our~~interest ~~deposit~~spread ~~offerings~~(i.e., ~~Even~~the ~~with~~average ayield ~~waiver,~~earned ~~which~~on ~~has~~interest-earning ~~not~~assets ~~been~~less ~~granted,~~ the ~~interest~~average rate ~~limitations~~paid on ~~brokered~~interest-bearing liabilities); and ~~solicited~~(v) the ~~deposits~~net ~~could~~interest ~~also~~yield ~~have~~on ~~the~~average ~~effect~~interest-earning ofassets ~~reducing~~(i.e., ~~demand~~net ~~for~~interest ~~some~~income ofdivided ~~our~~by ~~deposit~~average ~~products~~interest-earning assets). IfYields ~~our~~are ~~level~~computed ofon ~~deposits~~a ~~were~~tax-equivalent ~~to be reduced~~basis, weresulting ~~would~~in ~~likely~~adjustments ~~be forced~~ to ~~further~~interest ~~reduce~~earned ~~our~~on ~~interest~~non-~~earning~~taxable ~~assets~~securities ~~and~~of ~~seek~~$1,019,000, ~~alternative~~$1,071,000 ~~funding~~and ~~sources~~$1,027,000 ~~that~~in ~~may~~2011, ~~not~~2010 beand ~~available~~2009, respectively. ~~Other~~Interest ~~possible~~income ~~consequences~~on ~~include~~loans ~~the~~includes ~~potential~~loan ~~for~~fees ~~increases~~of in$455,000, ~~our~~$492,000 ~~borrowing~~and ~~costs~~$858,000 asin ~~well~~2011, as2010 ~~increases~~and in2009, ~~our~~respectively. Non-accrual ~~premiums~~loans toand ~~the~~overdrafts ~~Deposit~~are ~~Insurance~~included ~~Fund~~in ~~administered~~average byloan ~~the~~balances. Average ~~FDIC~~loans toare ~~insure~~presented net of unearned income.

	As of and for the Years Ended December 31,
	2011							2010							2009
	Average					Yield/		Average					Yield/		Average					Yield/
(dollars in thousands)	Balance			Interest		Rate		Balance			Interest		Rate		Balance			Interest		Rate
Assets:
Loans	$	155,710		$	8,886	5.71	%	$	160,035		$	9,641	6.02	%	$	169,853		$	10,779	6.35	%
Time deposits - in other banks	19,374			45		0.23	%	24,860			58		0.23	%	12,536			27		0.22	%
Investment securities - taxable	5,058			93		1.84	%	9,895			338		3.42	%	37,936			2,171		5.72	%
Investment securities - nontaxable	45,235			3,288		7.27	%	48,701			3,454		7.09	%	44,795			3,312		7.39	%
Federal funds sold	—			—		0.00	%	—			—		0.00	%	—			—		0.00	%
Total interest-earning assets	225,377			12,312		5.46	%	243,491			13,491		5.54	%	265,120			16,289		6.14	%

Allowance for loan and lease losses	(3,168		)					(3,349		)					(2,723		)
Non-interest bearing assets:
Cash and due from banks	4,216							4,945							6,714
Bank premises and equipment	4,544							4,938							4,889
Accrued interest receivable	1,182							1,340							1,590
Other assets	37,093							32,182							19,506
Total average assets	$	269,424						$	283,547						$	295,096

Liabilities and Shareholders’ Equity:
Interest-bearing liabilities:
Interest-bearing demand	$	16,501		$	16	0.10	%	$	15,752		$	15	0.10	%	$	14,707		$	18	0.12	%
Money market savings	1,875			4		0.21	%	1,842			5		0.27	%	1,425			3		0.21	%
Savings deposits	12,069			49		0.41	%	7,730			39		0.50	%	5,856			29		0.50	%
Time deposits >$100M	56,368			1,051		1.86	%	66,459			1,616		2.43	%	57,959			2,060		3.55	%
Time deposits <$100M	95,170			1,502		1.58	%	92,996			2,063		2.22	%	95,712			3,389		3.54	%
Other Borrowings	36,978			1,518		4.11	%	43,530			1,999		4.59	%	64,295			2,580		4.01	%
Total interest-bearing liabilities	218,961			4,140		1.89	%	228,309			5,737		2.51	%	239,954			8,079		3.37	%

Non-interest bearing liabilities:
Noninterest-bearing checking	33,315							33,905							31,414
Accrued interest payable	1,423							1,443							1,485
Other liabilities	3,814							3,944							6,089
Total Liabilities	257,513							267,601							278,942
Total shareholders’ equity	11,731							15,946							16,154
Total average liabilities and shareholders’ equity	$	269,424						$	283,547						$	295,096

Net interest income				$	8,172						$	7,754						$	8,210
Interest expense as a percentage of average earning assets						1.84	%						2.36	%						3.05	%
Net yield on interest earning assets						3.63	%						3.18	%						3.10	%
Net interest spread						3.57	%						3.03	%						2.77	%

~~Table of Contents~~38

~~deposits. Such~~Table ~~changes~~of ~~could have a materially adverse effect on our operations.~~Contents

WERate ~~ARE~~and ~~LIMITED~~Volume ~~IN OUR ABILITY TO LEND.~~Analysis

AtThe ~~December 31,~~following ~~2010,~~tables ~~our~~show ~~legal~~the ~~lending~~increase ~~limit~~or ~~was~~decrease ~~approximately~~in ~~$6.8~~interest ~~million~~income, ~~for~~interest ~~secured~~expense ~~loans~~ and ~~$4.1~~net ~~million~~interest ~~for~~income ~~unsecured~~resulting ~~loans. Accordingly,~~from ~~the~~changes ~~size~~in ofrates ~~the~~and ~~loans~~volumes ~~which~~for ~~we can offer to potential customers is less than~~ the ~~size~~year ofended ~~loans~~December 31, ~~which~~2011 ~~many~~compared ~~of our competitors~~ with ~~larger~~the ~~lending~~same ~~limits~~period ~~can~~in ~~offer. Our~~2010 ~~legal~~and ~~lending~~for ~~limit~~the ~~affects~~year ~~our~~ended ~~ability~~December 31, to2010 ~~seek~~compared ~~relationships~~ with the ~~region’s~~same ~~larger~~period ~~and~~in ~~more established businesses.~~2009:

CURTAILMENT OF GOVERNMENT GUARANTEED LOAN PROGRAMS COULD AFFECT A SEGMENT OF OUR BUSINESS.

	December 31, 2011 compared with December 31, 2010
	Volume			Rate			Total
Increase (decrease) in interest income:
Loans	$	(261	)	$	(494	)	$	(755	)
Time deposits - in other banks	(13		)	—			(13		)
Investment securities - taxable	(165		)	(80		)	(245		)
Investment securities - nontaxable	(246		)	80			(166		)
	(685		)	(494		)	(1,179		)

Increase (decrease) in interest expense:
Interest-bearing demand	1			—			1
Money market savings	—			(1		)	(1		)
Savings deposits	22			(12		)	10
Time deposits >$100M	(245		)	(320		)	(565		)
Time deposits <$100M	48			(609		)	(561		)
Other Borrowing	(301		)	(180		)	(481		)
	(475		)	(1,122		)	(1,597		)
Increase (decrease) in net interest income:	$	(210	)	$	628		$	418

A significant segment of our business consists of originating and periodically selling U.S. Government guaranteed loans, in particular those guaranteed by the Small Business Administration. Presently, the U.S. Government guarantees 75% to 90% of the principal amount of each qualifying SBA loan under the 7(a) loan program. There is no assurance that the U.S. Government will maintain the SBA program or if it does, that such guaranteed portion will remain at its current funding level. In addition, from time to time, the government agencies that guarantee these loans reach their internal limits and cease to guarantee loans. In addition, these agencies may change their rules for loans or Congress may adopt legislation that would have the effect of discontinuing or changing the loan programs. Non-governmental programs could replace government programs for some borrowers, but the terms might not be equally acceptable. Therefore, if these changes occur, the volume of loans to small business, industrial and agricultural borrowers of the types that now qualify for government guaranteed loans could decline. Also, the profitability of these loans could decline. As the funding and subsequent sale of the guaranteed portion of 7(a) loans is a major portion of our business, the long-term resolution to the funding for the 7(a) loan program may have an unfavorable impact on our future performance and results of operations.

	December 31, 2010 compared with December 31, 2009
(dollars in thousands)	Volume			Rate			Total
Increase (decrease) in interest income:
Loans	$	(623	)	$	(515	)	$	(1138	)
Time deposits - in other banks	27			4			31
Investment securities - taxable	(1,605		)	(228		)	(1,833		)
Investment securities - nontaxable	289			(146		)	143
	1,912			(885		)	(2,797		)

Increase (decrease) in interest expense:
Interest-bearing demand	1			(4		)	(3		)
Money market savings	1			1			2
Savings deposits	9			1			10
Time deposits >$100M	302			(746		)	(444		)
Time deposits <$100M	(96		)	(1,229		)	(1,325		)
Other Borrowing	(833		)	252			(581		)
	(616		)	(1,725		)	(2,341		)
Increase (decrease) in net interest income:	$	(1296	)	$	840		$	(456	)

~~RECOGNITION~~The OFaffect Aof ~~GAIN~~changes ONin ~~THE~~the ~~SALE~~amount OFand ~~OUR~~mix ~~SBA~~of ~~LOANS~~interest-eraning ~~MAY BE~~assets ~~DEFERRED~~and ~~FOR~~interest-bearing Aliabilities ~~PERIOD~~is OFreferred 90to ~~DAYS~~as “volume change.” The affect of changes in yields on interest-earning assets and rates paid on interest-bearing liabilities is referred to as “rate change.”

In June 2009, the Financial Accounting Standards Board issued Statement No. 166, “Accounting for Transfers of Financial Assets” (“FAS 166”). Under FAS 166, if a transfer of a portion of an entire financial asset meets the definition of a “participating interest,” then the transferor must evaluate whether the transfer meets all of the conditions of FAS 166 to qualify for sale accounting. The participating interest definition in FAS 166 also applies to transfers of government-guaranteed portions of loans, such as those guaranteed by the Small Business Administration. In this regard, if a bank transfers the guaranteed portion of an SBA loan at a premium, the bank is obligated to refund the premium to the purchaser if the loan is repaid within 90 days of the transfer, known as the “Warranty Period.” In addition, if the client does not make the first three (3) payments within the month they are due, the Warranty Period is extended to 275 days. Under FAS 166, this premium refund obligation is a form of recourse, which means that the transferred guaranteed portion of the loan does not meet the definition of a “participating interest” for the 90-day, or potentially 275-day period that the premium refund obligation exists. As a result, the transfer must be accounted for as a secured borrowing during this period. After the Warranty Period, assuming the transferred guaranteed portion and the retained unguaranteed portion of the SBA loan then meet the definition of a “participating interest,” the transfer of the guaranteed portion can be accounted for as a sale if all of the conditions for sale accounting in FAS 166 are met. As a result of FAS 166, we may not be able to recognize the gain on the sale of SBA loans during the Warranty Period thereby delaying the contribution to our capital base and reducing profitability. In light of the impact of FAS 166 on banks engaged in selling SBA loans, the National Association of 39

38Table of Contents

~~Table~~PROVISION ofAND ~~Contents~~ALLOWANCE FOR LOAN AND LEASE LOSSES

~~Government~~The ~~Guaranteed~~Corporation ~~Lenders~~maintains isa ~~working~~detailed, ~~with~~systematic analysis and procedural discipline to determine the ~~FDIC~~amount ~~and~~of the ~~SBA~~allowance for loan and lease losses (“ALLL”). The ALLL is based on estimates and is intended to ~~potentially~~be ~~reverse~~adequate to provide for probable losses inherent in the ~~effects~~loan ofportfolio. This ~~FAS~~process ~~166~~involves byderiving ~~possibly~~probable ~~eliminating~~loss orestimates ~~making~~that ~~optional~~are ~~the~~based ~~SBA~~on ~~Warranty~~individual ~~Period~~loan loss estimation, historical loss rates and management’s judgment.

~~Effective~~The ~~February 2011~~Corporation ~~SBA~~employs ~~revised~~several ~~Form 1086,~~methodologies ~~Secondary~~for ~~Participation~~estimating ~~Guaranty~~probable ~~Agreement,~~losses. Methodologies ~~removing~~are ~~all~~determined ~~reference~~based toon a ~~warranty~~number ~~period for loans sold at a premium in the secondary market. Transfers~~ of ~~the~~factors, ~~guaranteed~~including ~~portion~~type of ~~loans~~asset, ~~sold~~risk ~~utilizing~~rating, ~~the~~concentrations, ~~revised~~and ~~Form 1086~~collateral ~~are accounted for as a sale on the date of transfer~~value.

~~THE~~The ~~RECENT~~Corporation ~~REPEAL~~calculates OFthe ~~FEDERAL~~required ~~PROHIBITIONS~~ALLL ~~REGARDING~~on ~~PAYMENT~~a OFquarterly ~~INTEREST~~basis ONand ~~DEMAND~~makes ~~DEPOSITS~~adjusting ~~COULD~~entries ~~INCREASE~~as ~~THE~~needed. The ~~CORPORATION~~review of the adequacy of the allowance takes into consideration such factors as concentrations of credit, changes in the growth, size and composition of the loan portfolio, overall and individual portfolio quality, review of specific problem loans, collateral, guarantees and economic conditions that may affect the borrowers’S ~~INTEREST~~ability ~~EXPENSE~~to pay and/or the value of the underlying collateral. Additional factors considered include: geographic location of borrowers, changes in the Corporation’s product-specific credit policy and lending staff experience. These estimates depend on subjective factors and, therefore, contain inherent uncertainties.

~~Federal~~The ~~prohibitions~~Corporation’s onALLL ~~the~~is ~~ability~~maintained ofat ~~financial~~a ~~institutions~~level tobelieved ~~pay~~adequate ~~interest~~by onmanagement ~~demand~~to ~~deposit~~absorb ~~accounts~~known ~~were~~and ~~repealed~~inherent asprobable ~~part~~losses ofon ~~the~~existing ~~Dodd-Frank Act~~loans. A Asprovision afor ~~result,~~loan ~~beginning~~losses onis ~~July 21,~~charged ~~2011,~~to ~~financial~~expense. The ~~institutions~~allowance ~~can~~is ~~commence~~charged ~~offering interest on demand deposits to compete~~ for ~~clients.~~losses ~~The~~when ~~Corporation~~management ~~does~~believes ~~not~~that ~~yet~~full ~~know~~recovery ~~what~~on ~~interest~~the ~~rates,~~loan ifis ~~any~~unlikely. Generally, ~~other~~the ~~institutions may offer. The~~ Corporation’s ~~interest~~charges ~~expense~~off ~~will~~any ~~increase~~loan ~~and~~classified ~~its~~as ~~net~~a ~~interest~~“loss,” ~~margin~~portions ~~will~~of ~~decrease~~loans ifwhich itare ~~begins~~deemed ~~offering~~to ~~interest~~be onuncollectible, ~~demand~~overdrafts ~~deposits~~which tohave ~~attract~~been ~~customers~~outstanding orfor tomore ~~maintain~~than ~~existing~~90 ~~customers~~days, ~~which~~and ~~could~~all ~~have~~other aunsecured ~~material~~loans ~~adverse~~past ~~effect~~due on120 ~~the~~or ~~Corporation’s~~more ~~business~~days. Subsequent recoveries, ~~financial~~if ~~condition~~any, ~~and~~are ~~results~~credited ofto ~~operations~~the ALLL.

~~THE~~Although ~~GEOGRAPHIC~~no ~~CONCENTRATION~~assurances OFcan ~~OUR~~be ~~MARKETS~~given ~~MAKES~~that ~~OUR~~actual ~~BUSINESS~~losses ~~HIGHLY~~will ~~SUSCEPTIBLE~~not TOexceed ~~LOCAL~~the ~~ECONOMIC~~amount ~~CONDITIONS~~provided for in the allowance, Management believes that the level of the allowance is appropriate to provide for all estimated credit losses in light of all known relevant factors. At the end of 2011, 2010 and 2009, the Bank’s allowance stood at 2.81%, 2.04%, and 2.12% of gross loans, respectively. Provisions were made to the allowance for loan and lease losses in 2011 and 2009 of $7,860,000 and $3,368,000, respectively. No provision was made to the allowance for loan and lease losses in 2010. The primary reason no provision to the ALLL was made in 2010 was a decrease in the average loan balance of $9,818,000 resulting from the migration of loans to foreclosed assets and loan payoffs. Loans charged off in 2011, 2010 and 2009 totaled $6,703,000, $372,000 and $2,329,000, respectively. Recoveries for these same periods were $4,000, $2,000, and $77,000, respectively.

~~Unlike~~The ~~larger~~Bank’s ~~banking~~non-performing ~~organizations~~(delinquent ~~that~~90 ~~are~~days or more ~~geographically~~and ~~diversified,~~on ~~our~~non-accrual) ~~operations~~loans ~~are~~as ~~currently~~a ~~concentrated~~percentage inof ~~the~~total ~~Monterey~~loans ~~Peninsula~~were ~~and Salinas~~3.86%, ~~California markets~~7.99% Asand a4.85% ~~result~~as of ~~this~~the ~~geographic~~end ~~concentration~~of 2011, ~~our~~2010 ~~financial~~and ~~results~~2009, ~~depend largely upon economic conditions in these market areas~~respectively. ~~Deterioration~~The insignificant ~~economic conditions in one or all of these markets could result in an~~ increase in ~~loan~~non-accrual ~~delinquencies,~~loans anis ~~increase~~primarily inattributable ~~problem~~to ~~assets and foreclosures, a decrease in~~ the ~~demand~~economic ~~for~~recession ~~our products~~ and ~~services~~the orcontinued asoftening ~~decrease~~of in the ~~value of collateral for loans, especially~~ real estate, ~~in turn reducing customers’ borrowing power, the value of assets associated with problem loans and collateral coverage~~market.

~~WE HAVE A CONCENTRATION OF LOANS SECURED BY REAL ESTATE AND THE RECENT DOWNTURN IN THE LOCAL REAL ESTATE MARKET COULD HURT OUR BUSINESS AND OUR PROSPECTS.~~40

AtTable ~~December 31, 2010, real estate served as the principal source~~ of collateral with respect to approximately 77.7% of our loan portfolio. The recent downturn in the local and regional economies has had a material adverse effect on our borrower’s ability to repay these loans. Further, the deterioration in economic conditions has severely impaired the value of the real property held as collateral. As a result, the value of real estate collateral securing our loans has been reduced. Our ability to recover on defaulted loans by foreclosing and selling the real estate collateral has been diminished and we will likely suffer losses on defaulted loans. In addition, acts of nature, including earthquakes, brush fires and floods, which may cause uninsured damage and other loss of value to real estate that secures these loans, may also negatively impact our financial condition and results of operations.Contents

39NON-INTEREST INCOME

~~Table~~The following table presents a summary of ~~Contents~~the noninterest income:

FUTURE GROWTH OR OPERATING RESULTS MAY REQUIRE THE CORPORATION TO RAISE ADDITIONAL CAPITAL BUT THAT CAPITAL MAY NOT BE AVAILABLE OR IT MAY BE DILUTIVE.

	Years ended December 31,
	2011		2010		2009
	(Dollars in thousands)
Service charges on deposit accounts	$	321	$	408	$	627
Gain on sale of investment securities	341		964		3,189
Merchant discount fees	1,359		3,676		4,495
Credit card programs fees	756		1,246		1,075
Gain on sale of merchant credit card processing accounts	50		1,500		—
Income from sales and servicing of SBA Loans	674		528		400
Miscellaneous Income	410		2		3
Other income	279		229		331

Totasl noninterest income	$	4,190	$	8,553	$	10,120

~~The~~Total ~~Corporation~~noninterest isincome ~~required~~decreased ~~by federal and state regulatory authorities to maintain adequate levels of capital to support its operations. To the extent the Corporation’s future operating results erode capital~~$4, ~~federal or state regulatory authorities require us to increase our capital~~363,000 or ~~the~~51.01% ~~Corporation~~in ~~elects~~2011 towhen ~~expand~~compared ~~through~~with ~~loan growth or acquisition it may be required to raise capital~~2010. The ~~Corporation’s~~decrease ~~ability~~resulted tofrom ~~raise~~decreases ~~capital will depend on conditions~~ in ~~the~~merchant ~~capital~~discount ~~markets,~~fees ~~which are outside~~ of ~~its control~~$2,317,000, ~~and~~gain on ~~the~~sale ~~Corporation’s~~of ~~financial~~merchant ~~performance.~~credit ~~Accordingly,~~card ~~the~~processing ~~Corporation~~accounts ~~cannot be assured~~ of ~~its~~$1,450,000, ~~ability~~gain ~~to raise capital when needed or~~ on ~~favorable~~sales ~~terms.~~of Ifinvestment ~~the~~securities ~~Corporation~~of ~~cannot raise additional capital when needed~~$623,000, itcredit ~~will~~card beprogram ~~subject~~fees toof ~~increased~~$490,000, ~~regulatory~~service ~~supervision~~charges ~~and~~on ~~the~~deposit ~~imposition~~accounts of ~~restrictions~~$87,000; onwhich ~~its~~was ~~growth~~partially ~~and~~offset ~~business. These~~by ~~could~~increases ~~negatively~~in ~~impact~~miscellaneous ~~the~~income ~~Corporation’s ability to operate or further expand its operations through acquisitions or the establishment~~ of ~~additional~~$408,000 ~~branches~~ and ~~may~~income ~~result~~from insales ~~increases in operating expenses~~ and ~~reductions~~servicing inof ~~revenues~~Small ~~that~~Business ~~could~~Administration ~~have~~(SBA) aloans ~~material~~of ~~adverse~~$146,000 ~~effect on its financial condition~~ and ~~results~~other income of ~~operations~~$50,000.

~~THE~~Total ~~CORPORATION’S~~noninterest ~~ALLOWANCE~~income ~~FOR~~decreased ~~POSSIBLE~~$1,567,000 ~~LOAN~~or ~~LOSSES~~15.48% ~~MAY BE~~in ~~INSUFFICIENT~~2010 when compared with 2009. The decrease resulted from decreases in gain on sales of investment securities of $2,225,000, merchant discount fees of $819,000, service charges on deposit accounts of $219,000 and other income of $103,000; which was partially offset by a gain of $1,500,000 on the sale of merchant credit card processing accounts and increases in credit card program fees of $171,000 and income from sales and servicing of Small Business Administration (SBA) loans of $128,000.

~~The~~In ~~Corporation maintains an allowance for possible loan losses~~2009, ~~which~~the isBank asold ~~reserve established through~~ a ~~provision for possible loan losses charged to expense that represents management’s best estimate of probable losses within the existing~~ portfolio of ~~loans. The~~securities ~~allowance,~~and inused the ~~judgment~~proceeds ~~of management, is necessary~~ to ~~reserve~~prepay ~~for estimated loan losses and risks inherent in the loan portfolio~~borrowings. The level of the allowance reflects management’s continuing evaluation of industry concentrations; specific credit risks; loan loss experience; current loan portfolio quality; present economic, political and regulatory conditions and unidentified losses inherent in the current loan portfolio. The ~~determination~~gains of the appropriate level of the allowance for possible loan losses inherently involves a high degree of subjectivity and requires management to make significant estimates of current credit risks and future trends, all of which may undergo material changes. In addition, bank regulatory agencies periodically review the Corporation’s allowance for loan losses and may require an increase in the provision for possible loan losses or the recognition of further loan charge-offs, based on ~~judgments~~sale ~~different~~recorded ~~than those of management. If charge-offs~~ in ~~future~~2009 ~~periods~~were ~~exceed~~partially ~~the~~offset ~~allowance~~by ~~for~~prepayment ~~possible~~fees loan losses, the Corporation will need additional provisions to increase the allowance for possible loan losses. Any increases in the allowance for possible loan losses will result in a decrease in net income and, possibly, capital, and may have a material adverse effect on the ~~Corporation’s financial condition and results of operations~~borrowings.

~~THE~~The ~~CORPORATION~~sale of SBA guaranteed loans is a contributor to the Bank’s income. SBA guaranteed loans yield up to 3.75% over the New York prime rate, and the guaranteed portions can be sold at premiums which vary with market conditions. SBA loans are guaranteed by the full faith of the United States Government up to 85% of the principal amount. The guaranteed portion has risks comparable for an investor in a U.S. ~~VALUATION~~Government ~~ALLOWANCE~~security ~~FOR~~and ~~FORECLOSED~~can ~~ASSETS~~usually ~~MAY BE~~be ~~INSUFFICIENT~~sold in the secondary financial market, either at a premium or at a yield which allows the Bank to maintain a significant spread for itself.

The ~~majority~~American ofRecovery ~~our foreclosed assets consist of real estate property located in the Monterey Peninsula~~ and ~~Salinas,~~Reinvestment ~~California~~Act ~~markets.~~provided The Corporation maintains a valuation allowance on foreclosed assets to reduce the carrying amount of these assets to their fair value less estimated cost to sell. We regularly obtain independent appraisals on each of these properties until each is sold and adjust the amount of the valuation allowance to the current appraised value less estimated cost to sell. The determination of the appropriate level of the valuation allowance for ~~foreclosed~~reductions ~~assets inherently involves some degree~~ of ~~subjectivity~~loan ~~since~~fees, ithigher ~~requires~~guarantees ~~management~~up to ~~make~~ninety ~~estimates~~(90%) ~~of selling costs for each property which may differ from actual costs incurred. In addition~~percent, ~~significant~~new ~~declines~~SBA in the local real estate market may occur which would affect the value of our foreclosed real estate properties. Management may not become aware of these changes until an updated appraisal is obtained or a sale is negotiated at which time an increase to the valuation allowance or a loss upon sale would be recordedprograms, ~~each~~secondary ~~of which would decrease net income. In instances where management becomes aware of significant~~ market ~~value declines~~incentives, weand ~~may~~enhancements ~~discount~~to ~~the~~current ~~value~~SBA ~~of the~~ programs.

40There can be no assurance that the gains on sale of SBA loans will continue at or above the levels realized in the past three years. The Small Business Administration has recently increased

~~Table of Contents~~41

~~existing~~Table ~~appraisal until an updated appraisal is obtained. Management’s estimate~~ of the amount by which appraised values are discounted is very subjective and may not reflect a property’s current value when compared to the value reflected when the updated appraisal is received. Due to foreclosed asset concentrations we have in various single family subdivisions, a significant decline in real estate values in these subdivisions will result in an increase in the valuation allowance, which will decrease net income and capital, and may have a material adverse effect on the Corporation’s financial condition and results of operations.Contents

~~THE~~the ~~CORPORATION~~guarantee ISfees ~~SUBJECT~~borrowers TOmust ~~INTEREST~~pay. Increasing ~~RATE~~competition ~~RISK~~among lenders for qualified SBA borrowers may make it difficult for the Bank to continue to expand its program in this area, and may limit the level of premium that can be earned with regard thereto.

The ~~Corporation’s~~following ~~earnings~~table ~~and~~presents ~~cash~~a ~~flows~~summary are largely dependent upon its net interest income. Net interest income is the difference between interest income earned on interest-earning assets such as loans and securities and interest expense paid on interest-bearing liabilities such as deposits and borrowed funds. Interest rates are highly sensitive to many factors that are beyond the Corporation’s control, including general economic conditions and policies of ~~various~~activity ~~governmental and regulatory agencies. Changes~~ in ~~monetary~~SBA ~~policy, including changes in interest rates, could influence not only the interest the Corporation receives on~~ loans ~~and~~for ~~securities and~~ the ~~amount~~years ofended interest it pays on deposits and borrowings, but such changes could also affect the Corporation’s ability to originate loans and obtain deposits and the fair value of the Corporation’s financial assets and liabilities. If the interest rates paid on deposits and other borrowings increase at a faster rate than the interest rates received on loans and other investments, the Corporation’s net interest income, and earnings, could be adversely affected. Earnings could also be adversely affected if the interest rates received on loans and other investments fall more quickly than the interest rates paid on deposits and other borrowings.December 31:

THE CORPORATION IS SUBJECT TO LENDING RISK.

(Dollars in thousands)	2011		2010		2009

SBA loans authorized	$	2,940	$	9,275	$	8,393
SBA loans sold	$	4,970	$	4,128	$	2,740

~~There~~The ~~are~~following ~~inherent~~table ~~risks~~presents ~~associated~~a ~~with~~summary ~~the Corporation’s lending activities. These risks include, among other things, the impact~~ of ~~changes~~income infrom ~~interest~~sales ~~rates~~ and ~~changes~~servicing ~~in the economic conditions in the markets where the Corporation operates as well as those across the State~~ of ~~California~~SBA ~~and the United States. Increases in interest rates and/or weakening economic conditions could adversely impact the ability of borrowers to repay outstanding~~ loans orfor the ~~value~~years ofended the collateral securing these loans. The Corporation is also subject to various laws and regulations that affect its lending activities. Failure to comply with applicable laws and regulations could subject the Corporation to regulatory enforcement action that could result in the assessment of significant civil money penalties against the Corporation.December 31:

As of December 31, 2010, approximately 64% of the Corporation’s loan portfolio consisted of commercial and industrial, construction and land, and commercial real estate mortgage loans. These types of loans are generally viewed as having more risk of default than residential real estate loans or consumer loans. These types of loans are also typically larger than residential real estate loans and consumer loans. Because the Corporation’s loan portfolio contains a significant number of commercial and industrial, construction and land, and commercial real estate loans with relatively large balances, the deterioration of one or a few of these loans could cause a significant increase in non-performing loans. An increase in non-performing loans could result in a loss of earnings from these loans, an increase in the provision for possible loan losses and an increase in loan charge-offs, all of which could have a material adverse effect on the Corporation’s financial condition and results of operations. See the section captioned “Loans” in Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations located elsewhere in this report for further discussion related to commercial and industrial, construction and land, and commercial real estate loans.

(Dollars in thousands)	2011		2010		2009
Income from premium	$	491	$	349	$	255
Income from servicing	193		179		145
Total income from sales and servicing of SBA loans	$	684	$	528	$	400

41NON-INTEREST EXPENSES

~~Table~~The following table presents a summary of ~~Contents~~non-interest expenses:

THE CORPORATION IS SUBJECT TO LIQUIDITY RISK.

	Years ended December 31,
	2011		2010		2009
	(Dollars in thousands)
Salaries and benefits	$	3,208	$	3,561	$	3,091
Occupancy and equipment expense	1,020		1,031		1,030
Foreclosed assets, net	1,173		3,070		1,401
Professional fees	2,194		1,485		1,034
Data processing	245		252		292
Prepayment fees on borrowings	—		39		888
Fdic and state assessments	865		731		535
FDIC Settlement - card programs	—		1,800		—
Litigation settlement	2,374		1,138		—
Other general and admin. expenses	2,658		4,207		4,712
	$	13,737	$	17,314	$	12,983

~~The~~Salary ~~Corporation must maintain adequate liquidity to meet its deposit~~ and ~~debt~~benefits ~~obligations~~expenses asdecreased ~~they~~$353,000 ~~become~~in 2011 due. ~~The~~primarily ~~Corporation’s access~~ to ~~funding~~a ~~sources~~vacancy in ~~amounts~~the ~~sufficient~~Chief toLending ~~finance~~Officer ~~its~~position ~~activities~~ and~~/or~~ on terms that are acceptable to it could be impaired by factors that affect it specifically or the financial services industry or economy generally. Factors that could reduce its access to liquidity sources include a ~~downturn~~vacancy in the ~~California~~commercial orlending ~~national~~officer ~~economy~~position, ~~difficult credit markets or adverse regulatory actions against~~ the ~~Corporation.~~elimination ~~The Corporation’s access to deposits may also be affected by the liquidity needs~~ of ~~its~~four ~~depositors.~~staff Inpositions ~~particular,~~and ~~approximately~~a ~~30%~~decrease of ~~the Corporation’s liabilities are demand~~$42,000 ~~savings,~~in ~~interest~~salary ~~checking~~continuation/post ~~and~~retirement ~~money~~expenses; ~~market~~partially ~~deposits,~~offset ~~which are payable on demand or upon several days’ notice, while~~ by ~~comparison,~~an aincrease ~~substantial portion~~ of ~~its assets are loans~~$39,000 ~~which cannot be called or sold~~ in ~~the~~recruitment ~~same time frame~~expense. Salary ~~Although the Corporation historically has been able to replace maturing deposits~~ and ~~other~~benefits ~~borrowings~~expense asincreased ~~needed~~$470,000 itin ~~might~~2010 ~~not~~due beprimarily ~~able~~ to ~~replace~~a ~~such~~salary ~~funds~~continuation inexpense ~~the~~of ~~future~~$56,000 ~~especially~~compared ifto a ~~large~~credit ~~number~~ of ~~its~~$184,000 ~~depositors~~in ~~sought~~2009, toand ~~withdraw~~increases ~~their~~in ~~accounts,~~salary ~~regardless~~expenses of ~~the~~$131,000, ~~reason.~~employee ~~The~~benefits ~~failure~~and totaxes ~~maintain~~of ~~adequate~~$76,000 ~~liquidity~~and ~~could~~employee ~~have~~training aexpenses ~~material adverse effect on the Corporation’s financial condition and results~~ of ~~operations~~$25,000.

~~THE CORPORATION IS SUBJECT TO REPUTATIONAL RISK.~~42

OnTable ~~occasion, other financial institutions and customers make claims and take legal action pertaining to the Corporation’s performance~~ of its fiduciary responsibilities. Whether these claims and legal actions related to the Corporation’s performance of its fiduciary responsibilities are founded or unfounded, if such claims and legal actions are not resolved in a manner favorable to the Corporation they may result in significant financial liability and/or adversely affect the community’s perception of the Corporation and its products and services which could impact customer demand for those products and services. Any financial liability or reputational damage could have a material adverse effect on the Corporation’s business, which, in turn, could have a material adverse effect on the Corporation’s financial condition and results of operations.Contents

~~THE~~Occupancy ~~CORPORATION~~and ISequipment ~~SUBJECT~~expenses TOdecreased ~~ENVIRONMENTAL~~$11,000 ~~LIABILITY~~in ~~RISK~~2011 ~~ASSOCIATED~~due ~~WITH~~to ~~LENDING~~a ~~ACTIVITIES~~decrease in depreciation expense of $52,000 and a decrease of $18,000 in rental expense; partially offset by increases of $39,000 in storage expense, $5,000 in property taxes, $8,000 in equipment rental and $7,000 in maintenance and repairs. Occupancy and equipment expenses in 2010 remained at the same level as in 2009.

AForeclosed ~~significant~~asset ~~portion~~expense ~~(approximately~~decreased ~~77.7%) of the Corporation’s loan portfolio is secured by real property. During the ordinary course of business~~$1,897,000 ~~the~~in ~~Corporation~~2011 ~~may~~due ~~foreclose~~primarily ~~on and take title~~ to ~~properties~~modest ~~securing~~improvement ~~certain~~in ~~loans. In~~real ~~doing~~estate ~~so, there is a risk that hazardous or toxic substances could be found on these properties~~values. IfForeclosed ~~hazardous~~asset orexpense ~~toxic~~increased ~~substances are found~~$1, ~~the Corporation may be liable for remediation costs~~669,000 asin ~~well~~2010 asdue ~~for~~primarily ~~personal injury and property damage. Environmental laws may require the Corporation~~ to ~~incur~~continued ~~substantial~~deterioration ~~expenses~~in ~~and~~real ~~may~~estate ~~materially reduce the affected property’s value or limit the Corporation’s ability to use or sell the affected property~~values. In addition, future laws or more stringent interpretations or enforcement policies with respect to existing laws may increase the Corporation’s exposure to environmental liability. The remediation costs and any other financial liabilities associated with an environmental hazard could have a material adverse effect on the Corporation’s financial condition and results of operations.

~~THE~~Professional ~~CORPORATION~~fees ISfor ~~SUBJECT~~2011 TOincreased ~~EXTENSIVE~~$709,000 ~~GOVERNMENT~~due ~~REGULATION~~primarily ~~AND~~to ~~SUPERVISION~~increases of $816,000 in consultant and advisory fees, $133,000 in legal fees, $6,000 in audit fees; partially offset by a decrease of $246,000 in loan collection expenses. The increase in legal fees was due to ongoing litigation (See “Item 3 Legal Proceedings” for further discussion). The increase in consultant and advisory fees was due the use of consultants until qualified individuals could be hired to fill the Chief Lending Officer and commercial loan officer vacancies and to assist with meeting the requirements of the regulatory orders. The decrease in collection expense was due primarily reduced collection activities when compared to the prior year. The increase in audit fees was due to increased third-party reviews and additional reviews of compliance related matters. Professional fees for 2010 increased $451,000 due primarily to increases of $208,000 in legal fees, $201,000 in audit fees and $42,000 in loan collection expenses. The increases in legal fees and collection expenses were a result of increased collection expenses on loans and costs associated with legal proceedings. The increase in audit fees was due to increased third-party reviews and additional reviews of compliance related matters.

~~The~~Data ~~Corporation,~~processing ~~primarily~~expenses ~~through~~for ~~the~~2011 ~~Bank~~decreased $7,000 isdue ~~subject~~primarily to ~~extensive~~decreases ~~federal~~in ~~and~~the ~~state~~number ~~regulation~~of ~~and~~customer ~~supervision.~~accounts ~~Banking~~and ~~regulations~~transaction ~~are~~volumes ~~primarily~~processed. Data ~~intended~~processing toexpenses ~~protect~~for ~~depositors’~~2010 ~~funds~~decreased $40,000 ~~federal~~as ~~deposit~~the ~~insurance~~Bank ~~funds~~realized ~~and~~ the ~~banking~~full ~~system~~year asbenefit of a ~~whole,~~new ~~not~~data ~~shareholders.~~processing ~~These~~contract ~~regulations~~negotiated ~~affect~~in ~~the Corporation’s lending practices, capital structure, investment practices,~~ 2009.

42No prepayment fees on borrowings were paid in 2011. Prepayment fees on borrowings in 2010 were $39,000 compared to $888,000 in 2009, a decrease of $849,000.

~~Table~~FDIC and state assessments for 2011 were $865,000 compared to $731,000 in 2010, an increase of ~~Contents~~$134,000. FDIC and state assessments for 2010 were $731,000 compared to $535,000 in 2009, an increase of $137,000. The increase in assessments in 2011 was due primarily to the decrease in the Bank’s average tangible equity. The increase in assessments in 2010 was due primarily to increased FDIC insurance premium rates and the Bank’s risk-based capital level being lowered to “adequately capitalized” from “well capitalized” as a result of the issuance of various regulatory orders as more fully discussed under “ITEM 1. BUSINESS — REGULATION AND SUPRVISION - Regulatory Enforcement Powers” herein,

~~dividend~~The ~~policy~~Bank ~~and~~recognized ~~growth,~~an ~~among~~expense ~~other~~of ~~things.~~$1,800,000 ~~Congress~~in ~~and~~2010 ~~federal~~relating ~~regulatory~~to ~~agencies~~a ~~continually~~settlement ~~review~~entered ~~banking~~into ~~laws,~~with ~~regulations~~the ~~and~~FDIC ~~policies~~that ~~for~~resulted ~~possible~~in ~~changes. Changes~~the toissuance ~~statutes,~~of ~~regulations~~a orConsent ~~regulatory policies~~Order, ~~including~~Order ~~changes~~for inRestitution ~~interpretation~~and orOrder ~~implementation~~to ofPay ~~statutes,~~Civil ~~regulations~~Money orPenalties ~~policies,~~by ~~could affect~~ the ~~Corporation in substantial and unpredictable ways~~FDIC. ~~Such~~The ~~changes~~Consent ~~could~~Order, ~~subject~~Order ~~the~~for ~~Corporation~~Restitution toand ~~additional~~Order ~~costs,~~to ~~limit~~Pay ~~the~~Civil ~~types~~Money ofPenalties ~~financial~~are ~~services~~more ~~and~~fully ~~products~~discussed ~~the~~under ~~Corporation~~“ITEM ~~may~~1. ~~offer~~BUSINESS ~~and/or~~— ~~increase~~REGULATION ~~the~~AND ~~ability~~SUPRVISION ~~of non~~-~~banks~~ toRegulatory ~~offer~~Enforcement ~~competing~~Powers” ~~financial~~herein, After ~~services~~completion ~~and~~of ~~products,~~the ~~among~~Bank’s ~~other~~restitution ~~things. Failure~~plans toin ~~comply~~2011 ~~with~~it ~~laws,~~was ~~regulations~~determined orthat ~~policies~~excess ~~could~~reserves ~~result~~ in ~~sanctions~~the byamount ~~regulatory~~of ~~agencies~~$402,000 ~~civil~~had ~~money~~been ~~penalties~~established ~~and/or~~for ~~reputation~~consumer ~~damage,~~restitution. The ~~which~~excess ~~could~~reserve ~~have~~amount awas ~~material~~credited ~~adverse~~to ~~effect~~miscellaneous onincome during the ~~Corporation’s~~fourth ~~business,~~quarter ~~financial condition and results~~ of ~~operations~~2011.

~~THE CORPORATION’S CONTROLS AND PROCEDURES MAY FAIL OR BE CIRCUMVENTED.~~43

~~Management~~Table ~~regularly reviews and updates the Corporation’s internal controls, disclosure controls and procedures, and corporate governance policies and procedures. Any system~~ of controls, however well designed and operated, is based in part on certain assumptions and can provide only reasonable, not absolute, assurances that the objectives of the system are met. Any failure or circumvention of the Corporation’s controls and procedures or failure to comply with regulations related to controls and procedures could have a material adverse effect on the Corporation’s business, results of operations and financial condition.Contents

~~THE~~The ~~CORPORATION’S~~Bank ~~INFORMATION~~also ~~SYSTEMS~~recognized ~~MAY EXPERIENCE~~litigation ANsettlement ~~INTERRUPTION~~expense ORof ~~BREACH~~$2,374,000 INin ~~SECURITY~~2011 which was incurred in connection with the resolution of a lawsuit which involved claims related to loan participations purchased from the Bank and sought rescission of the participation agreements and attorneys’ fees and costs.

The ~~Corporation~~Bank ~~relies~~also ~~heavily~~recognized onlitigation ~~communications~~settlement ~~and~~expense ~~information~~of ~~systems~~$1,138,000 toin ~~conduct~~2010 ~~its~~which ~~business.~~was ~~Any~~incurred ~~failure,~~in ~~interruption~~connection orwith ~~breach~~the inresolution ~~security~~ of ~~these~~three ~~systems~~lawsuits. One ~~could~~lawsuit ~~result~~involved inclaims ~~failures~~related orto ~~disruptions~~loan inparticipations ~~the~~purchased ~~Corporation’s~~from ~~customer~~the ~~relationship~~Bank ~~management,~~and ~~general~~sought ~~ledger,~~rescission ~~deposit,~~of ~~loan~~the ~~and~~participation ~~other~~agreements ~~systems. While~~or ~~the~~damages ~~Corporation~~and ~~has~~attorneys’ ~~policies~~fees and ~~procedures~~costs. The ~~designed~~parties toreached ~~prevent~~a orsettlement ~~limit~~of the ~~effect~~claims ofraised in the ~~failure,~~litigation ~~interruption~~which orresulted ~~security~~in ~~breach~~a ofcharge ~~its~~to ~~information~~earnings ~~systems~~of $888,000. Another ~~there~~lawsuit ~~can~~sought beto noforeclose ~~assurance~~a ~~that~~mechanic’s ~~any~~lien ~~such~~in ~~failures,~~connection ~~interruptions~~with ora ~~security~~single ~~breaches~~family ~~will~~residence ~~not~~financed ~~occur~~by ~~or,~~the ifBank. The ~~they~~Bank doestablished ~~occur,~~a ~~that~~reserve ~~they~~equal ~~will~~to beits ~~adequately~~estimated ~~addressed. The~~cost ~~occurrence~~ of ~~any~~settling ~~failures,~~the ~~interruptions~~lawsuit. The orthird ~~security~~lawsuit ~~breaches~~alleged violations of the ~~Corporation’s~~Fair ~~information~~Debt ~~systems~~Collections ~~could~~Act ~~damage~~and the ~~Corporation’s~~Minnesota ~~reputation,~~Deceptive ~~result~~Trade Practices Act in aconnection ~~loss~~with ofcredit ~~customer~~card ~~business~~mailings sent to approximately 6,500 ~~subject~~persons ~~the~~in ~~Corporation~~Minnesota. toThe ~~additional~~Bank, ~~regulatory~~Total ~~scrutiny~~Card, Inc., orTighorn ~~expose~~Financial ~~the~~Services, ~~Corporation~~L.L.C. todba ~~civil~~New ~~litigation~~Horizons and ~~possible~~an ~~financial~~individual ~~liability,~~associated ~~any~~with ofTighorn ~~which~~were ~~could~~named as defendants in the lawsuit. The parties have reached a ~~material~~settlement ~~adverse~~of ~~effect~~the onclaims raised in the ~~Corporation’s~~litigation ~~financial~~which ~~condition~~resulted ~~and~~in ~~results~~the Bank recording a charge to earnings of ~~operations~~$150,000.

~~CHANGES~~Other INgeneral ~~TECHNOLOGY~~and ~~COULD~~administrative BEexpense ~~COSTLY~~for 2011 totaled $2,658,000 compared with $4,207,000 for 2010, an decrease of $1,549,000. Significant changes occurred in the following categories: (i) operating losses increased $137,000; (ii) information technology expenses increased $118,000; (iii) insurance expense increased $55,000; (iv) director fees increased $35,000; (v) miscellaneous expenses increased $30,000; (vi) business development expense increased $22,000; (vii) business credit card expenses decreased $32,000; (viii) telephone expense decreased $18,000; and (ix) donations decreased $14,000; (x) merchant credit card expense decreased $1,889,000 from 2010 to 2011, reflecting the sale of the Bank’s local merchant processing account portfolio in November of 2010.

~~The~~Other ~~banking~~general ~~industry~~and isadministrative ~~undergoing~~expense ~~technological~~for ~~innovation. In~~2010 ~~order~~totaled to$4,207,000 ~~maintain~~compared ~~its~~with ~~competitive~~$4,712,000 ~~position~~for 2009, an decrease of $505,000. Significant changes occurred in the ~~Corporation~~following ~~must~~categories: ~~react~~(i) operational losses totaled $109,000 in 2010 compared to ~~these~~recoveries ~~innovations~~which ~~and~~totaled ~~evaluate~~$174,000 ~~the~~in ~~technologies~~2009; to(ii) director ~~enable~~fees itincreased to$74,000; ~~compete~~(iii) business oncredit acard ~~cost-effective~~expenses ~~basis. The~~increased ~~cost~~$67,000; of(iv) ATM ~~such~~expenses ~~technology~~increased $46,000; ~~including~~(v) prepaid ~~personnel~~card expenses decreased $57,000; ~~may~~(vi) loan beexpenses ~~high~~decreased in$56,000; ~~both~~(vii) ~~absolute~~credit ~~and~~card ~~relative~~program ~~terms. There~~expenses ~~can~~decreased be$36,000; no(viii) Poppy ~~assurance~~club account expenses decreased $25,000; ~~given~~(ix) bank ~~the~~security ~~fast~~expenses ~~pace~~decreased of$18,000; ~~change~~(x) advertising ~~and~~expenses ~~innovation~~decreased $16,000 ~~that~~(xi) miscellaneous ~~the~~expenses ~~Corporation’s~~decreased ~~technology~~$15,000; ~~will~~(xii) merchant ~~meet~~credit orcard ~~continue~~processing toexpense ~~meet~~declined ~~its~~$750,000 ~~needs~~from 2009 to 2010.

~~THE~~INCOME ~~TRADING~~TAXES ~~VOLUME IN THE CORPORATION’S COMMON STOCK IS LESS THAN THAT OF OTHER LARGER FINANCIAL SERVICES COMPANIES.~~(BENEFIT)

~~Although~~In ~~the~~2011 ~~Corporation’s~~a ~~common~~provision ~~stock~~for isfederal ~~listed~~and ~~for~~state ~~trading~~income ontaxes ~~the~~was ~~Over~~$3,398,000 ~~The~~compared ~~Counter~~to ~~Bulletin~~a ~~Board~~tax benefit of $1,371,000 and $659,000 in 2010 and 2009, respectively. This represents (~~OTCBB~~33.14%), and 66.01% of the ~~trading~~loss ~~volume~~before taxes in ~~its~~2011 ~~common~~and ~~stock~~2010, isrespectively, ~~less~~and ~~than~~69.22% ~~that~~ of ~~other~~income ~~larger~~before ~~financial~~taxes ~~services~~in ~~companies~~2009. AThe ~~public~~provision ~~trading~~of ~~market~~$3,398,000 ~~having~~in ~~the~~2011 ~~desired~~was ~~characteristics~~the result of ~~depth,~~establishing ~~liquidity~~a ~~and~~valuation ~~orderliness~~allowance ~~depends~~for onthe full amount of the ~~presence~~deferred tax asset. The decrease in the ~~marketplace~~effective tax rate for 2009 is a direct result of ~~willing~~the ~~buyers~~Bank’s investing in tax-exempt securities, increased taxable deductions for provisions to the allowance for loan and ~~sellers~~lease losses and recognition of a tax benefit for losses on trading assets.

4344

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~~the~~The ~~Corporation’s~~amount ~~common~~of ~~stock~~the attax ~~any~~provision ~~given~~is ~~time. This~~determined ~~presence~~by ~~depends~~applying on the ~~individual~~statutory ~~decisions~~income oftax ~~investors~~rates ~~and~~to ~~general~~pre-tax ~~economic~~book ~~and~~income, ~~market~~adjusted ~~conditions~~for ~~over~~permanent ~~which~~differences ~~the~~between ~~Corporation~~pre-tax ~~has~~book noincome ~~control~~and actual taxable income. ~~Given~~Such ~~the~~permanent ~~lower~~differences ~~trading~~include ~~volume~~but ofare ~~the~~not ~~Corporation’s~~limited ~~common~~to ~~stock,~~tax-exempt ~~significant~~interest ~~sales~~income, ofincreases in the ~~Corporation’s~~cash ~~common~~surrender ~~stock,~~value orof ~~the~~life ~~expectation~~insurance, ofand ~~these~~certain ~~sales,~~other ~~could~~expenses ~~cause~~that ~~the~~are ~~Corporation’s~~not ~~stock~~allowed ~~price~~as totax ~~fall~~deductions.

~~WE CURRENTLY ARE UNABLE TO PAY DIVIDENDS ON OUR COMMON STOCK.~~LOANS

~~The Corporation is a separate and distinct legal entity from the Bank~~Loans, ~~and a substantial portion of~~ the ~~revenues~~largest itcomponent ~~receives consists~~ of ~~dividends~~earning ~~from~~assets, ~~the~~represented ~~Bank~~69. ~~Various~~09% ~~federal~~of ~~and~~average ~~state~~interest-earning ~~laws~~assets and ~~regulations~~57.79% ~~limit the amount~~ of ~~dividends~~average ~~that~~total aassets ~~bank~~during ~~may~~2011, ~~pay~~compared towith ~~its~~65.73% ~~parent~~and ~~company~~56.44%, ~~In addition~~respectively, ~~the~~during ~~Corporation’s~~2010 ~~right~~and compared to ~~participate~~64.07% inand a57.56%, ~~distribution~~respectively, ofduring ~~assets~~2009. In ~~upon~~2011, ~~the~~average ~~liquidation~~loans ordecreased ~~reorganization~~2.70% offrom a$160,035,000 ~~subsidiary~~in ~~may~~2010 ~~be subject~~ to ~~the~~$155,710,000. Average ~~prior~~construction ~~claims~~loans ofdecreased ~~the~~$2,060,000 ~~subsidiary’s~~or ~~creditors~~99.50%, Ifaverage ~~the~~real ~~Bank~~estate isloans ~~unable~~decreased to$4,189,000 ~~pay~~or ~~dividends~~3.48%, toand ~~the~~average ~~Corporation~~consumer ~~for~~loans ~~any~~decreased ~~reason~~$771,000 inor ~~turn~~75.95%; ~~the~~while ~~Corporation~~average ~~may~~commercial ~~not~~loans beincreased ~~able to service its debt~~$2, ~~pay its other obligations~~695,000 or ~~pay dividends on its common stock, which could have a material adverse effect on our business~~7.35%.

~~Presently~~In 2010, ~~the~~average ~~Corporation~~loans isdecreased ~~unable~~5.78% tofrom ~~pay~~$169,853,000 ~~dividends~~in on2009 ~~the~~to ~~common~~$160,035,000. Average ~~stock~~construction ~~because~~loans itdecreased ~~has~~$10,140,000 ~~deferred~~or ~~interest~~83.05%, ~~payments~~average onreal ~~its~~estate ~~outstanding~~loans ~~subordinated~~decreased ~~debt~~$668,000 ~~securities~~or 0.55%, and ~~has~~average ~~agreed~~consumer ~~with~~loans ~~the~~decreased ~~Federal~~$945,000 ~~Reserve~~or ~~Bank~~48.21%; ofwhile ~~San~~average ~~Francisco~~commercial ~~not~~loans toincreased ~~declare~~$1,935,000 or ~~pay dividends on its outstanding common stock~~5.57%.

~~ITEM~~The 1BBank’s commercial and industrial loans are generally made for the purpose of providing working capital, financing the purchase of equipment or inventory, and other business purposes. ~~UNRESOLVED~~Such ~~STAFF~~loans ~~COMMENTS~~generally have maturities ranging from one year to several years. Short-term business loans are generally intended to finance current transactions and typically provide for monthly interest payments with principal being payable at maturity or at 90-day intervals. Term loans (usually for a term of two to five years) normally provide for monthly installments of principal and interest. The Bank, from time to time, utilizes accounts receivable and inventory as security for loans.

~~None~~The Bank is the recognized leader for SBA lending in Monterey County. Generally, SBA loans are guaranteed by the SBA for up to 85% of their principal amount, which can be retained in portfolio or sold to investors. Such loans are made at floating interest rates, but generally for longer terms (up to 25 years) than are available on a conventional basis to small businesses. The unguaranteed portion of the loans, although generally supported by collateral, is considered to be more risky than conventional commercial loans because they may be based upon credit standards the Bank would not otherwise apply, such as lower cash flow coverage, or longer repayment terms.

~~ITEM~~The 2Bank’s real estate loan portfolio consists both of real estate construction loans and real estate mortgage loans. ~~PROPERTIES~~ The Bank has initiated a program to generate more SBA loans, which generally yield higher returns than normal commercial loans. The Bank does not make real estate development loans. Real estate construction loans are made for a much shorter term and often at higher interest rates than conventional single-family residential real estate loans. The cost of administering such loans is often higher than for other real estate loans, as principal is drawn on periodically as construction progresses.

The ~~main~~Bank ~~branch~~also ~~office~~makes ofreal ~~the~~estate ~~Bank,~~loans ~~which~~secured ~~also~~by ~~serves~~a asfirst ~~the~~deed ~~principal office~~ of ~~the~~trust ~~Corporation,~~on issingle ~~located~~family atresidential ~~601~~properties ~~Munras~~and ~~Ave.,~~commercial ~~Monterey,~~and ~~California~~industrial ~~93940~~real estate. ~~This~~California ~~facility~~commercial ~~contains~~banks aare ~~lobby~~permitted, ~~executive~~depending on the type and ~~customer~~maturity ~~service~~of ~~offices~~the loan, ~~teller~~to ~~stations,~~lend ~~safe~~up ~~deposit~~to ~~boxes~~90% ~~and~~of ~~related~~the ~~non-vault~~fair ~~area,~~market ~~vault,~~value ~~operations~~of ~~area,~~real ~~lounge~~property ~~and~~(or ~~miscellaneous~~more ~~areas. A~~if ~~drive-through~~the ~~facility~~loan ~~and~~is ~~adequate~~insured ~~paved~~either ~~parking~~by ~~are~~private ~~also~~mortgage oninsurers ~~the~~or ~~premises~~governmental agencies). ~~Both~~In ~~the~~certain ~~land~~instances, ~~and~~the ~~all~~appraised ~~improvements~~value ~~thereto~~may ~~are~~be ~~owned~~less bythan the ~~Bank.~~actual

The Bank also owns a building located at 556 Abrego Street, Monterey, California 93940, which houses a loan production office and additional office space. The Bank currently operates four branch offices in Carmel-By-The-Sea, Carmel Valley, Pacific Grove and Salinas, California, all within approximately 20 miles from the Bank’s main office. The land and improvements dedicated to the Carmel-By-The-Sea, Carmel Valley, Pacific Grove and Salinas branch offices are leased. See Note 13 to the Corporation’s Consolidated Financial Statements included herein.45

~~Generally,~~Table neither the Bank nor the Corporation may invest in equity interests in real estate, except for the direct use by the Bank or the Corporation in their business. However, the Bank acquires real estate through foreclosure or resolution of ~~outstanding loans, which properties are treated as non-performing assets and are marketed for sale.~~Contents

~~ITEM~~amount ~~3. LEGAL~~which ~~PROCEEDINGS~~could be realized by the Bank upon foreclosure, or declines in market value subsequent to making the loan may impair the Bank’s collateral position.

~~The~~Consumer ~~Bank~~loans are made for the purpose of financing the purchase of various types of consumer goods, ~~its~~home ~~Chief~~improvement ~~Executive~~loans, ~~Officer~~auto loans and ~~Chief~~other ~~Credit~~personal ~~Officer~~loans. Consumer ~~were~~installment ~~named~~loans asgenerally ~~defendants~~provide infor amonthly ~~lawsuit~~payments ~~filed~~of ~~July 27~~principal and interest, ~~2009~~at ina fixed rate. Most of the ~~Monterey~~Bank’s ~~County~~consumer ~~Superior~~installment ~~Court~~loans byare ~~Bank~~generally ofsecured by the ~~Orient~~personal property being purchased. The ~~lawsuit~~Bank ~~involved~~generally ~~claims~~makes ~~related~~consumer loans to ~~loan~~those ~~participations~~customers ~~purchased~~with ~~from~~a ~~the~~prior ~~Bank~~banking ~~and~~relationship ~~sought~~with the Bank.

44The following table presents the composition of the loan portfolio, including loans held for sale, at December 31 for each of the last five years:

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	December 31,
	2011			2010			2009			2008			2007
	(Dollars in thousands)
Commercial and industrial	$	31,183		$	33,993		$	33,605		$	29,887		$	30,197
Construction	—			1,265			8,705			16,040			23,396
Real Estate	122,518			119,093			121,887			122,951			116,625
Consumer	223			512			2,746			966			876
Government guaranteed loans purchased	1			6			16			24			32
Total Gross Loans	153,925			154,869			166,959			169,868			171,126

Allowance for loan and lease losses	(4,320		)	(3,159		)	(3,529		)	(2,413		)	(2,028		)
Deferred origination fees, net	(107		)	(161		)	(217		)	(275		)	(350		)
Loans, net	$	149,498		$	151,549		$	163,213		$	167,180		$	168,748

~~rescission~~The offollowing ~~the~~table ~~participation~~shows ~~agreements~~the ormaturity ~~damages~~distribution and ~~attorneys~~repricing intervals of the Bank’s ~~fees~~outstanding ~~and~~loans, ~~costs~~excluding non-accrual loans, at December 31, 2011. ~~While~~Balances ~~the~~of ~~action~~fixed ~~was~~rate ~~originally~~loans ~~filed~~are displayed in the ~~Superior~~column ~~Court,~~representative ~~under~~of the ~~terms~~loan’s ofstated ~~the~~maturity ~~participation~~date. Balances ~~agreements,~~for ~~the~~variable ~~matter~~rate ~~was~~loans ~~submitted~~are todisplayed ~~arbitration~~in ~~through~~the column representative of the ~~American~~loan’s ~~Arbitration~~next ~~Association~~interest rate change.

The parties reached a settlement of the claims raised in the litigation which has been consummated. The settlement resulted in a one-time pretax charge to the Bank’s earnings of $880,000 in the second quarter of 2010.

	Within One Year		After One But Within Five Years		After Five Years		Total
Commercial and industrial	$	19,661	$	7,758	$	2,166	$	29,585
Real Estate	33,783		57,809		26,746		118,338
Consumer	74		55		94		223
Government guaranteed loans purchased	1		—		—		1
Nonaccrual loans	—		—		—		5,778
Total Gross Loans	$	53,519	$	65,622	$	29,006	$	153,925

Loans with variable (floating) interest rates	$	41,775	$	2,044	$	—	$	43,819
Loans with predetermined (fixed) interest rates	11,745		63,577		29,006		104,328
Nonaccrual loans	—		—		—		5,778
	$	53,519	$	65,622	$	29,006	$	153,925

~~The~~Loan Bank, its Chief Financial Officer and a former Senior Vice President were named as defendants in a lawsuit filed February 26, 2009 in Monterey County Superior Court, Civil Division, by Tighorn Financial Services, LLC (“Tighorn”). The lawsuit seeks to compel the Bank to continue its credit card sponsorship program with Tighorn and the servicing of a credit card portfolio under a card sponsorship agreement with a third party. The suit also alleges that Tighorn was misled into entering the credit card sponsorship agreement. For its part, the Bank has responded by contending that it properly terminated the sponsorship agreement pursuant to termination provisions contained in the parties’ Agreement, and that the Bank properly gave Tighorn written notice of termination of the Agreement in June 2008. The Bank has filed a counter claim for damages and equitable relief against Tighorn, and the Bank’s Chief Financial Officer has filed cross-complaints against two Tighorn representatives and a third party claiming indemnity and equitable apportionment under California law.Concentrations

The ~~Bank~~Corporation ~~and~~has ~~its Chief Executive Officer and Chief Credit Officer were named as defendants in~~ a ~~lawsuit~~concentration ~~filed April 29, 2009~~ in ~~the~~real ~~Monterey~~estate ~~County~~secured ~~Superior Court, by First Foundation Bank~~loans. ~~The~~At ~~lawsuit~~December 31, ~~involves~~2011, ~~claims~~loans ~~related~~secured ~~to two loan participations purchased~~ by ~~First~~real ~~Foundation~~estate ~~Bank~~totaled ~~from~~$122,518,000, ~~the~~or ~~Bank~~78. ~~The~~92% ~~lawsuit~~of ~~seeks to rescind~~ the ~~participation~~total ~~agreements~~loan portfolio, ~~payment~~compared ofto ~~all principal and interest~~$119, ~~damages~~093,000, ~~attorneys’~~or ~~fees and costs~~76. ~~This~~90%, ~~matter~~at ~~was tried before a three member arbitration panel from January~~December ~~10 through January 19~~31, ~~2011 and is presently under submission for a decision~~2010. ItWhile there is ~~reasonably possible but not probable that an unfavorable arbitration ruling will result in~~ a ~~loss. The~~concentration ~~loss cannot be reasonably estimated, but the range of possible loss is zero to $4 million, with no number~~ in ~~the~~real ~~range more reasonable than another number.~~estate

The Bank was named as defendant in two separate actions filed June 17, 2008 and June 26, 2008 to foreclose mechanic’s liens on site improvements performed in the amounts of $1.5 million and $6.5 million, respectively. The actions assert that the mechanic’s liens have priority over the Bank’s Deeds of Trust against various lots in the subdivision that were benefited by the site improvements. The Bank is being defended by its title insurer and in legal counsel’s opinion the Bank does not have any exposure in these matters because the priority of its trust deeds is insured by policies of title insurance.46

~~The~~Table ~~Bank and its Chief Lending Officer were named as defendants in a lawsuit filed January 23, 2009 by Travis Construction Company in the Superior Court~~ of Monterey County to foreclose a mechanic’s lien in connection with a single family residence financed by the Bank. The parties reached a settlement of the claims raised in the litigation which has been consummated. The settlement resulted in a one-time pretax charge to the Bank’s earnings of $113,000 in the fourth quarter of 2010.Contents

~~The~~secured ~~Bank~~loans, ~~Total~~the ~~Card, Inc,~~risk ~~Tighorn~~associated ~~Financial~~with ~~Services,~~that ~~L.L.C.~~concentration ~~dba~~is ~~New~~mitigated ~~Horizons~~by ~~and~~the ~~Mr. Gordon~~diversity ~~Shaffer~~of ~~were~~types ~~named~~of asreal ~~defendants~~estate inheld aas ~~lawsuit~~collateral ~~filed~~and ~~July 31, 2008 in~~ the ~~United~~variety ~~States~~of ~~District~~businesses ~~Court~~and ~~District~~individuals ofthat ~~Minnesota~~are ~~by Mr~~borrowers. ~~Dennis Reeves.~~ The ~~lawsuit~~Corporation’s ~~alleged~~lending ~~defendants~~is ~~were~~concentrated ~~liable~~in ~~for~~its ~~violations~~primary oflending ~~the~~area ~~Fair~~of ~~Debt~~Monterey ~~Collections~~County, ~~Practices~~California ~~Act~~with ~~(FDCPA)~~$128,964,000, ~~and~~or ~~the~~83.07%, ~~Minnesota~~located ~~Deceptive~~in ~~Trade~~this ~~Practices~~area ~~Act~~at inDecember 31, ~~connection~~2011 ~~with~~compared ~~mailings sent~~ to ~~approximately~~$128,421,000, 6or 82.92%,~~500~~ ~~persons~~at inDecember 31, 2010.

45Concentration of loans for specific industries and their percentage of total loans at December 31, 2011 and 2010 are as follows:

Table of Contents

	2011		2010
Accommodation and food	24.56	%	24.73	%
Real estate and rental and leasing	23.97	%	16.50	%
Finance and insurance	11.29	%	9.07	%
Professional, scientific, and technical services	11.15	%	12.16	%

~~Minnesota. On~~Non-performing ~~May 18, 2010, the District Court granted defendant’s motion for summary judgment to dismiss the Minnesota Deceptive Trade Practices Act claims,~~ and ordered a trial on the remaining claims under the Fair Debt Collections Practices Act. In the same order the court granted Plaintiff’s motion for class certification and certified a class of approximately 6,500 Minnesota consumers who had received letters similar to those received by Mr. Reeves. The parties reached a settlement of the claims raised in the litigation, the Court gave its final approval of the settlement on January 24, 2011. The settlement was consummated on March 2, 2011. The settlement resulted in a oneNon-~~time~~accrual ~~pretax charge to the Bank’s earnings of $150,000 in the third quarter of 2010.~~Loans

~~Northern~~The ~~California~~Bank’s ~~Bancorp, Inc,~~present ~~Monterey~~policy ~~County~~is ~~Bank~~to ~~and~~cease ~~the~~accruing ~~Chief~~interest ~~Executive~~on ~~Officer~~loans ~~among~~which ~~other~~are ~~unrelated~~past ~~parties~~due ~~were~~as ~~named~~to asprincipal ~~defendants~~or ininterest a90 ~~lawsuit~~days ~~filed~~or ~~July 22~~more, ~~2010~~except infor ~~the~~loans ~~Monterey~~which ~~County~~are ~~Superior~~well ~~Court~~secured byor ~~South~~when ~~Valley~~collection ~~Developers, Inc.~~of interest and ~~Paseo~~principal ~~Vista~~is ~~LLC~~deemed likely. ~~The~~When ~~lawsuit seeks~~ a ~~declaration~~loan ofis ~~the~~placed ~~parties’~~on ~~respective~~non-accrual, ~~obligations~~previously ~~under~~accrued aand ~~profit~~unpaid ~~participation~~interest ~~agreement in which the Bank~~ is agenerally ~~successor~~reversed inout ~~interest, as well as damages for breach~~ of ~~contract~~income ~~and~~unless ~~fraud~~adequate ~~related~~collateral tofrom awhich ~~loan extended~~ to ~~one~~collect of the ~~plaintiffs,~~ principal and ~~injunctive~~interest ~~relief~~on ~~pending~~ the ~~declaratory~~loan ~~judgment. Because~~appears ~~discovery in this case only recently began, it is too early~~ to ~~assess~~be ~~the risk of loss~~available.

~~Although~~The ~~the~~following ~~amount~~table ofpresents ~~any~~information ~~ultimate liability~~ with respect to ~~the~~loans ~~above~~which, ~~proceedings~~as ~~cannot~~of bethe ~~determined~~dates indicated, inwere ~~the~~past ~~opinion~~due of90 ~~management,~~days anor ~~adverse~~more ~~ruling~~or inwere ~~the~~placed ~~First~~on ~~Foundation~~non-accrual ~~lawsuit~~status ~~may~~(referred ~~have~~to acollectively ~~material~~as ~~effect~~“non-performing onloans”), ~~the~~loans ~~consolidated~~classified ~~financial~~as ~~position~~troubled ofdebt ~~the~~restructurings ~~Corporation~~ and ~~its~~other ~~subsidiary.~~real estate owned (“OREO”), which are foreclosed properties:

~~ITEM 4. (REMOVED AND RESERVED)~~47

~~PART II~~Table of Contents

ITEM 5. MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES

	As of December 31,
	2011			2010			2009			2008			2007
Accruing,
past due 90 days or more:

Real Estate	$	—		$	896		$	—		$	—		$	—
Commercial	—			11			—			—			—
Consumer	—			—			—			—			—
Other	—			—			—			—			—
Total accruing	—			907			—			—			—

Troubled Debt Restructurings:

Performing loans classified as troubled debt restructurings (TDR) not in conformity with modified term	162			—			—			—			—

Nonaccrual Loans:

Real Estate	4,179			6,241			5,137			6,876			3,200
Commercial	1,599			5,219			2,943			215			41
Consumer	—			13			—			—			155
Other	—			—			—			—			—
Total nonaccrual	5,778			11,473			8,080			7,091			3,396
Total nonperforming loans	5,940			12,380			8,080			7,091			3,396
Foreclosed assets	28,722			28,825			14,333			7,364			—
Total nonperforming assets	$	34,662		$	41,205		$	22,413		$	14,455		$	3,396

Total loans end of period	$	153,925		$	154,869		$	166,959		$	169,868		$	171,126

Performing loans classified as troubled debt restructurings (TDR) in conformity with modified term	$	10,400		$	—		$	—		$	—		$	—

Ratio of nonperforming loans to total loans at end of period	3.86		%	7.99		%	4.84		%	4.17		%	1.98		%

Ratio of nonperforming assets to total loans and foreclosed assets at end of period	18.98		%	22.43		%	12.36		%	8.16		%	1.98		%

~~The~~Interest ~~Corporation’s~~income ~~stock~~of ~~is traded on the Over-the-Counter Bulletin Board~~$763,000 orand ~~OTCBB~~$263,000 ~~under~~for the ~~stock~~years ~~symbol~~ended ~~“NRLB~~December 31,” ~~which~~2011 isand a2010, ~~quotation~~was ~~service~~recognized ~~for securities not listed or traded~~ on ~~NASDAQ~~the ornon-accruing aand ~~national~~restructured ~~securities~~loans ~~exchange.~~listed ~~In addition to the transactions~~ in the ~~common~~table ~~stock~~above; ~~reported on the OTCBB~~whereas, ~~the~~interest ~~Corporation~~income ~~also~~of ~~has~~$871,000 ~~knowledge~~and of$573,000 awould ~~limited~~have ~~number~~been ofrecognized ~~transactions~~under ~~conducted~~their ~~between~~original ~~individual shareholders~~terms.

~~The~~Performing ~~Corporation~~troubled ~~currently~~debt isrestructurings, ~~aware~~or ofTDRs, ~~one~~are ~~company~~not ~~that~~included ~~makes~~in anonperforming ~~market~~loans ~~for~~above, ~~its~~nor ~~common~~are ~~stock,~~they ~~Howe~~included ~~Barnes~~in ~~Hoeffer &~~the ~~Arnett~~numerators used to calculate the ratios disclosed above.

AtPotential ~~December 31,~~Problem 2010, there were 530 shareholders of record of the common stock of the Corporation. This does not reflect the number of persons or entities who hold their stock in nominee or street name through various brokerage firms.Loans

~~The~~In ~~Corporation~~addition ~~did~~to ~~not~~loans ~~repurchase~~classified ~~any~~for ~~shares~~regulatory ofpurposes, ~~the~~management ~~common~~also ~~stock~~designates certain loans for internal monitoring purposes in ~~2010~~a “watch” category. ~~The~~Loans ~~Corporation~~may ~~repurchased~~be ~~20,678~~placed ~~and~~on ~~46,010~~management’s ~~shares~~watch list as a result of delinquent status, concern about the ~~common~~borrower’s ~~stock~~financial incondition ~~2009~~or ~~and~~the ~~2008,~~value ~~respectively~~of the collateral securing the loan, atsubstandard anclassification ~~average~~during ~~price~~regulatory ofexaminations, ~~$4.10~~or ~~and~~simply ~~$7.41~~as ~~per~~a ~~share~~result inof ~~2009~~management’s ~~and~~desire ~~2008,~~to ~~respectively.~~monitor more closely a

The information in the following table indicates the high and low bid information and volume of trading for our common stock for each quarter since January 1, 2008, and is based upon information provided by the OTCBB. The information does not include transactions for which no 48

46Table of Contents

~~Table~~borrower’s financial condition and performance. “Watch” category loans may include loans with loss potential that are still performing and accruing interest and may be current under the terms of ~~Contents~~the loan agreements; however, management may have a significant degree of concern about the borrowers’ ability to continue to perform according to the terms of the loans. Loss exposure on these loans is typically evaluated based primarily upon adequacy of the cash flow repaying the loan or the estimated liquidation value of the collateral securing these loans. Also, “watch” category loans may include credits which, although adequately secured and performing, have past delinquency problems or where unfavorable financial trends are exhibited by borrowers.

~~public~~All ~~records~~watch list loans are ~~available~~subject to additional scrutiny and monitoring on a monthly or quarterly basis. The ~~OTCBB~~Corporation’s ~~market~~philosophy ~~quotations~~encourages ~~reflect~~loan ~~inter-dealer~~officers ~~prices,~~to ~~without~~identify ~~retail~~borrowers ~~mark-up,~~that ~~mark-down~~should orbe ~~commissions,~~monitored in this fashion and ~~may~~believes ~~not~~this ~~necessarily~~process ~~represent~~ultimately ~~actual~~results ~~transactions~~in the identification of problem loans in a more timely fashion.

Quarter/Year	Price ($)	Volume
1st quarter of 2008	$9.10-11.05	17,484
2nd quarter of 2008	$7.35-9.00	82,830
3rd quarter of 2008	$3.50-7.80	41,596
4th quarter of 2008	$2.25-4.72	33,085
1st quarter of 2009	$2.00-4.25	7,858
2nd quarter of 2009	$1.70-6.50	28,526
3rd quarter of 2009	$2.75-5.00	3,927
4th quarter of 2009	$3.50-6.00	6,007
1st quarter of 2010	$3.55-4.74	2,006
2nd quarter of 2010	$2.50-3.60	4,574
3rd quarter of 2010	$2.50-2.50	123
4th quarter of 2010	$1.50-2.50	12,663

Management did not identify any loans on its watch list, which were not included in impaired or non-performing loans at December 31, 2011. Management identified $10,289,000 of loans, net of the SBA guaranteed portion, on its watch list, which were not included in impaired or non-performing loans at December 31, 2010.

The ~~principal~~Bank ~~source~~does ofnot ~~cash~~have ~~flow~~any offoreign ~~the~~loans ~~Corporation, including cash flow to pay dividends on its common stock~~ or ~~principal~~loans ~~and~~for ~~interest~~highly onleveraged ~~debt, is from interest and dividends on investments as well as tax benefit payments and dividends received from the Bank~~transactions. ~~There are statutory and regulatory limitations on the payment of dividends by the Bank to the Corporation, as well as by the Corporation to its shareholders.~~

If in the opinion of the applicable federal and/or state regulatory authority, a depository institution or holding company is engaged in or is about to engage in an unsafe or unsound practice (which, depending on the financial condition of the depository institution or holding company, could include the payment of dividends), such authority may require, after notice and hearing (except in the case of an emergency proceeding where there is in no notice or hearing), that such institution or holding company cease and desist from such practice. Moreover, the Federal Reserve and the FDIC have issued policy statements which provide that bank holding companies and insured depository institutions generally should only pay dividends out of current operating earnings.49

~~Under~~Table ~~the~~of ~~FDICIA, an FDIC insured depository institution may not pay any dividend if payment would cause it to become undercapitalized or once it is undercapitalized.~~Contents

~~The~~Summary ~~Bank’s payment~~ of ~~dividends,~~Loan asLoss a California chartered commercial banking corporation, is also regulated by the California Financial Code. Under the California Financial Code, funds available for cash dividend payments by the Bank are restricted to the lessor of: (i) retained earnings; or (ii) the Bank’s net income for its last three fiscal years (less any distributions to the shareholders made during such period). As of December 31, 2010 the Bank had $16,007,000 in retained earnings. The Bank’s net income for the last three fiscal years less distributions to shareholders was $4,809,000.Experience

The ~~Corporation~~following ~~did~~table ~~not~~reflects ~~pay~~the aactivity ~~cash dividend~~ in ~~2010 and 2009. In December 2008~~ the Corporation’s ~~paid~~allowance afor ~~cash~~loan ~~dividend~~and oflease ~~$0.25~~losses ~~per~~for ~~share. The~~the ~~Bank~~year ~~paid~~ended ~~cash~~December 31, ~~dividends~~2011, ~~totaling $500~~2010,~~000~~ in 2009;, ~~no dividends were paid by the Bank in 2010 or~~ 2008. ~~The~~and ~~Bank is presently~~ 2007:

	For the Year ended December 31,
	2011		2010		2009		2008		2007
	(Dollars in thousands)
Average loans outstanding	$	155,710	$	160,035	$	169,853	$	166,960	$	146,944

Total loans outstanding at end of the period	$	153,925	$	154,869	$	166,959	$	169,868	$	171,126

Allowance, beginning of period	3,159		3,529		2,413		2,028		1,409

Loans charged off during period:
Commercial	3,207		372		358		187		249
Consumer	113		—		37		—		1
Real Estate	3,378		—		1,908		563		—
Other	5		—		26		—		—
Total charge offs	6,703		372		2,329		750		250

Recoveries during period:
Commercial	3		2		2		3		4
Real Estate	1		—		—		—		—
Consumer	—		—		75		—		—
Other	—		—		—		—		—
Total recoveries	4		2		77		3		4

Net Loans charged off during the period	6,699		370		2,252		747		246

Additions to allowance for possible loan losses	7,860		0		3,368		1,132		865

Allowance, end of period	$	4,320	$	3,159	$	3,529

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