TCBK 10-Q Quarter ended June 30, 2018

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q

☒	Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

for the quarterly period ended: June 30, 2018

☐	Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

for the transition period from to .

Commission File Number: 000-10661

TriCo Bancshares

(Exact Name of Registrant as Specified in Its Charter)

CALIFORNIA		94-2792841
(State or Other Jurisdiction of Incorporation or Organization)		(I.R.S. Employer Identification Number)

63 Constitution Drive

Chico, California 95973

(Address of Principal Executive Offices)(Zip Code)

(530) 898-0300

(Registrant’s Telephone Number, Including Area Code)

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     ☐  No

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     ☐  No

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

Large accelerated filer		☒		Accelerated filer		☐
Non-accelerated filer		☐		Smaller reporting company		☐
Emerging growth company		☐

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act.  ☐

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

Indicate the number of shares outstanding for each of the issuer’s classes of common stock, as of the latest practical date:

Common stock, no par value: 30,411,135 shares outstanding as of August 3, 2018

TriCo Bancshares

FORM 10-Q

TABLE OF CONTENTS

		Page
Forward-Looking Statements			1
PART I – FINANCIAL INFORMATION			2
Item 1 – Financial Statements (Unaudited)			2
Item 2 – Management’s Discussion and Analysis of Financial Condition and Results of Operations			52
Item 3 – Quantitative and Qualitative Disclosures about Market Risk			74
Item 4 – Controls and Procedures			74
PART II – OTHER INFORMATION			75
Item 1 – Legal Proceedings			75
Item 1A – Risk Factors			75
Item 2 – Unregistered Sales of Equity Securities and Use of Proceeds			75
Item 6 – Exhibits			76
Signatures			77
Exhibits

FORWARD-LOOKING STATEMENTS

Cautionary Statements Regarding Forward-Looking Information

This report on Form 10-Q contains forward-looking statements about TriCo Bancshares (the “Company”) that are subject to the protection of the safe harbor provisions contained in the Private Securities Litigation Reform Act of 1995. These forward-looking statements are based on the current knowledge and belief of the Company’s management (“Management”) and include information concerning the Company’s possible or assumed future financial condition and results of operations. When you see any of the words “believes”, “expects”, “anticipates”, “estimates”, or similar expressions, it may mean the Company is making forward-looking statements. Such statements involve inherent risks and uncertainties, many of which are difficult to predict and are generally beyond the control of the Company. There can be no assurance that future developments affecting the Company will be the same as those anticipated by management. The Company cautions readers that a number of important factors could cause actual results to differ materially from those expressed in, or implied or projected by, such forward-looking statements. These risks and uncertainties include, but are not limited to, the following: the strength of the United States economy in general and the strength of the local economies in which the Company conducts operations; the effects of, and changes in, trade, monetary and fiscal policies and laws, including interest rate policies of the Board of Governors of the Federal Reserve System; inflation, interest rate, market and monetary fluctuations; the impact of changes in financial services policies, laws and regulations; technological changes; mergers and acquisitions, including costs or difficulties related to the integration of acquired companies; changes in the level of the Company’s nonperforming assets and charge-offs; any deterioration in values of California real estate, both residential and commercial; the effect of changes in accounting standards and practices; possible other-than-temporary impairment of securities held by the Company; changes in consumer spending, borrowing and savings habits; ability to attract deposits and other sources of liquidity; changes in the financial performance and/or condition of our borrowers; the impact of competition from financial and bank holding companies and other financial service providers; the possibility that any of the anticipated benefits of the Company’s recent merger with FNB Bancorp (“FNB”) will not be realized or will not be realized within the expected time period, or that integration of FNB’s operations with those of the Company will be materially delayed or will be more costly or difficult than expected; the challenges of integrating and retaining key employees; the possibility that the merger may be more expensive to complete than anticipated, including as a result of unexpected factors or events; unanticipated regulatory or judicial proceedings; the costs and effects of litigation and of unexpected or adverse outcomes in such litigation; and the Company’s ability to manage the risks involved in the foregoing. Annualized, pro forma, projections and estimates are not forecasts and may not reflect actual results. A number of factors, some of which are beyond the Company’s ability to predict or control, could cause future results to differ materially from those contemplated. The reader is directed to the Company’s annual report on Form 10-K for the year ended December 31, 2017 and Part II, Item 1A of this report for further discussion of factors which could affect the Company’s business and cause actual results to differ materially from those suggested by any forward-looking statement made in this report. Such Form 10-K and this report should be read in their entirety to put any forward-looking statements in context and to gain a more complete understanding of the risks and uncertainties involved in the Company’s business. Any forward-looking statement may turn out to be wrong and cannot be guaranteed. The Company does not intend to update any forward-looking statement after the date of this report.

1

PART I – FINANCIAL INFORMATION

Item 1.

Financial Statements (unaudited)

TRICO BANCSHARES

CONDENSED CONSOLIDATED BALANCE SHEETS

(In thousands, except share data; unaudited)

		At June 30, 2018				At December 31, 2017
Assets:
Cash and due from banks		$	94,661			$	105,968
Cash at Federal Reserve and other banks			89,401				99,460
Cash and cash equivalents			184,062				205,428
Investment securities:
Marketable equity securities			2,868				2,938
Available for sale debt securities			754,207				727,945
Held to maturity debt securities			477,745				514,844
Restricted equity securities			16,956				16,956
Loans held for sale			3,601				4,616
Loans			3,146,313				3,015,165
Allowance for loan losses			(29,524	)			(30,323	)
Total loans, net			3,116,789				2,984,842
Foreclosed assets, net			1,374				3,226
Premises and equipment, net			59,014				57,742
Cash value of life insurance			99,047				97,783
Accrued interest receivable			14,253				13,772
Goodwill			64,311				64,311
Other intangible assets, net			4,496				5,174
Mortgage servicing rights			7,021				6,687
Other assets			57,409				55,051
Total assets		$	4,863,153			$	4,761,315
Liabilities and Shareholders’ Equity:
Liabilities:
Deposits:
Noninterest-bearing demand		$	1,369,834			$	1,368,218
Interest-bearing			2,707,388				2,640,913
Total deposits			4,077,222				4,009,131
Accrued interest payable			1,175				930
Reserve for unfunded commitments			3,727				3,164
Other liabilities			58,896				63,258
Other borrowings			152,839				122,166
Junior subordinated debt			56,950				56,858
Total liabilities			4,350,809				4,255,507
Commitments and contingencies (Note 18)
Shareholders’ equity:
Preferred stock, no par value: 1,000,000 shares authorized, zero issued and outstanding at June 30, 2018 and December 31, 2017			—				—
Common stock, no par value: 50,000,000 shares authorized; issued and outstanding:
23,004,153 at June 30, 2018			256,590
22,955,963 at December 31, 2017							255,836
Retained earnings			276,877				255,200
Accumulated other comprehensive loss, net of tax			(21,123	)			(5,228	)
Total shareholders’ equity			512,344				505,808
Total liabilities and shareholders’ equity		$	4,863,153			$	4,761,315

See accompanying notes to unaudited condensed consolidated financial statements.

2

TRICO BANCSHARES

CONDENSED CONSOLIDATED STATEMENTS OF INCOME

(In thousands, except per share data; unaudited)

		Three months ended June 30,								Six months ended June 30,
		2018				2017				2018				2017
Interest and dividend income:
Loans, including fees		$	39,304			$	36,418			$	77,353			$	71,332
Investments:
Taxable securities			7,438				6,903				14,760				13,606
Tax exempt securities			1,042				1,042				2,083				2,083
Dividends			298				328				634				719
Interest bearing cash at
Federal Reserve and other banks			396				353				769				788
Total interest and dividend income			48,478				45,044				95,599				88,528
Interest expense:
Deposits			1,234				974				2,330				1,868
Other borrowings			586				13				928				15
Junior subordinated debt			789				623				1,486				1,218
Total interest expense			2,609				1,610				4,744				3,101
Net interest income			45,869				43,434				90,855				85,427
Benefit from reversal of provision for loan losses			(638	)			(796	)			(874	)			(2,353	)
Net interest income after benefit from reversal of provision for loan losses			46,507				44,230				91,729				87,780
Noninterest income:
Service charges and fees			9,228				9,479				18,584				18,386
Gain on sale of loans			666				777				1,292				1,687
Commissions on sale of non-deposit investment products			810				705				1,686				1,312
Increase in cash value of life insurance			656				626				1,264				1,311
Other			814				1,323				1,638				1,917
Total noninterest income			12,174				12,910				24,464				24,613
Noninterest expense:
Salaries and related benefits			21,453				20,494				43,105				41,387
Other			16,417				15,410				32,927				30,339
Total noninterest expense			37,870				35,904				76,032				71,726
Income before income taxes			20,811				21,236				40,161				40,667
Provision for income taxes			5,782				7,647				11,222				14,999
Net income		$	15,029			$	13,589			$	28,939			$	25,668
Earnings per share:
Basic		$	0.65			$	0.59			$	1.26			$	1.12
Diluted		$	0.65			$	0.58			$	1.24			$	1.10

See accompanying notes to unaudited condensed consolidated financial statements.

3

TRICO BANCSHARES

CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

(In thousands; unaudited)

		Three months ended June 30,								Six months ended June 30,
		2018				2017				2018				2017
Net income		$	15,029			$	13,589			$	28,939			$	25,668
Other comprehensive income (loss), net of tax:
Unrealized gains (losses) on available for sale securities arising during the period			(3,998	)			2,846				(15,024	)			3,303
Change in minimum pension liability			80				55				160				109
Other comprehensive income (loss)			(3,918	)			2,901				(14,864	)			3,412
Comprehensive income		$	11,111			$	16,490			$	14,075			$	29,080

See accompanying notes to unaudited condensed consolidated financial statements.

TRICO BANCSHARES

CONDENSED CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY

(In thousands, except share and per share data; unaudited)

		Shares of Common Stock				Common Stock				Retained Earnings				Accumulated Other Comprehensive Income (loss)				Total
Balance at December 31, 2016			22,867,802			$	252,820			$	232,440			$	(7,913	)		$	477,347
Net income											25,668								25,668
Other comprehensive income															3,412				3,412
Stock option vesting							162												162
Service condition RSU vesting							419												419
Market plus service condition RSU vesting							193												193
Stock options exercised			117,850				2,163												2,163
Service condition RSUs released			25,069
Repurchase of common stock			(85,652	)			(949	)			(2,143	)							(3,092	)
Dividends paid ($0.30 per share)											(7,328	)							(7,328	)
Balance at June 30, 2017			22,925,069			$	254,808			$	248,637			$	(4,501	)		$	498,944
Balance at December 31, 2017			22,955,963			$	255,836			$	255,200			$	(5,228	)		$	505,808
Net income											28,939								28,939
Adoption ASU 2016-01											(62	)			62				—
Adoption ASU 2018-02											1,093				(1,093	)			—
Other comprehensive loss															(14,864	)			(14,864	)
Stock option vesting							54												54
Service condition RSU vesting							471												471
Market plus service condition RSU vesting							197												197
Service condition RSUs released			25,398
Market plus service condition RSUs released			25,512
Stock options exercised			14,500				223												223
Repurchase of common stock			(17,220	)			(191	)			(480	)							(671	)
Dividends paid ($0.34 per share)											(7,813	)							(7,813	)
Balance at June 30, 2018			23,004,153			$	256,590			$	276,877			$	(21,123	)		$	512,344

See accompanying notes to unaudited condensed consolidated financial statements.

4

TRICO BANCSHARES

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(In thousands; unaudited)

		For the six months ended June 30,
		2018				2017
Operating activities:
Net income		$	28,939			$	25,668
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation of premises and equipment, and amortization			3,229				3,287
Amortization of intangible assets			678				711
Benefit from reversal of provision for loan losses			(874	)			(2,353	)
Amortization of investment securities premium, net			1,340				1,606
Originations of loans for resale			(43,389	)			(63,022	)
Proceeds from sale of loans originated for resale			45,437				64,699
Gain on sale of loans			(1,292	)			(1,687	)
Change in market value of mortgage servicing rights			(75	)			470
Provision for losses on foreclosed assets			90				28
Gain on sale of foreclosed assets			(388	)			(271	)
Loss on disposal of fixed assets			54				28
Gain on sale of premises held for sale			—				(3	)
Increase in cash value of life insurance			(1,264	)			(1,311	)
Life insurance proceeds in excess of cash value			—				(108	)
Loss on marketable equity securities			70				—
Equity compensation vesting expense			722				774
Change in:
Reserve for unfunded commitments			563				(120	)
Interest receivable			(481	)			422
Interest payable			245				(37	)
Other assets and liabilities, net			(660	)			(1,225	)
Net cash from operating activities			32,944				27,556
Investing activities:
Proceeds from maturities of securities available for sale			32,906				27,997
Proceeds from maturities of securities held to maturity			36,587				42,361
Purchases of securities available for sale			(81,300	)			(145,584	)
Loan origination and principal collections, net			(131,073	)			(69,491	)
Proceeds from sale of other real estate owned			2,150				1,424
Proceeds from sale of premises held for sale			36				3,338
Purchases of premises and equipment			(4,119	)			(5,885	)
Life insurance proceeds			—				649
Net cash from investing activities			(144,813	)			(145,191	)
Financing activities:
Net change in deposits			68,091				(17,138	)
Net change in other borrowings			30,673				5,067
Repurchase of common stock			(633	)			(1,122	)
Dividends paid			(7,813	)			(7,328	)
Exercise of stock options			185				193
Net cash from financing activities			90,503				(20,328	)
Net change in cash and cash equivalents			(21,366	)			(137,963	)
Cash and cash equivalents at beginning of year			205,428				305,612
Cash and cash equivalents at end of year		$	184,062			$	167,649
Supplemental disclosure of noncash activities:
Unrealized (loss) gain on securities available for sale		$	(21,304	)		$	5,698
Loans transferred to foreclosed assets		$	—			$	684
Market value of shares tendered in-lieu of cash to pay for exercise of options and/or related taxes		$	671			$	3,092
Supplemental disclosure of cash flow activity:
Cash paid for interest expense		$	4,499			$	3,138
Cash paid for income taxes		$	8,525			$	10,650
Insurance proceeds receivable reclassified to other assets		$	—			$	921

See accompanying notes to unaudited condensed consolidated financial statements.

5

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

Note 1 – Summary of Significant Accounting Policies

Description of Business and Basis of Presentation

TriCo Bancshares (the “Company” or “we”) is a California corporation organized to act as a bank holding company for Tri Counties Bank (the “Bank”). The Company and the Bank are headquartered in Chico, California. The Bank is a California-chartered bank that is engaged in the general commercial banking business in 26 California counties. The Bank operates from 57 traditional branches, 9 in-store branches and 2 loan production offices. The Company has five capital subsidiary business trusts (collectively, the “Capital Trusts”) that issued trust preferred securities, including two organized by TriCo and three acquired with the acquisition of North Valley Bancorp. See Note 17 – Junior Subordinated Debt.

The consolidated financial statements are prepared in accordance with accounting policies generally accepted in the United States of America and general practices in the banking industry. The financial statements include the accounts of the Company. All inter-company accounts and transactions have been eliminated in consolidation. For financial reporting purposes, the Company’s investments in the Capital Trusts of $1,710,000 are accounted for under the equity method and, accordingly, are not consolidated and are included in other assets on the consolidated balance sheet. The subordinated debentures issued and guaranteed by the Company and held by the Capital Trusts are reflected as debt on the Company’s consolidated balance sheet.

Use of Estimates in the Preparation of Financial Statements

The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires Management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. The Company bases its estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions.

Significant Group Concentration of Credit Risk

The Company grants agribusiness, commercial, consumer, and residential loans to customers located throughout the northern San Joaquin Valley, the Sacramento Valley and northern mountain regions of California. The Company has a diversified loan portfolio within the business segments located in this geographical area. The Company currently classifies all its operation into one business segment that it denotes as community banking.

Cash and Cash Equivalents

For purposes of the consolidated statements of cash flows, cash and cash equivalents include cash on hand, amounts due from banks, and federal funds sold. Net cash flows are reported for loan and deposit transactions and other borrowings.

Marketable Equity Securities

As of December 31, 2017, marketable equity securities with a fair value of $2,938,000 were recorded within investment securities available for sale on the consolidated balance sheets with changes in the fair value recorded through other comprehensive income and accumulated other comprehensive income (loss). As of January 1, 2018, the Company adopted Accounting Standard Update (“ASU”) 2016-01 using a prospective transition approach and reclassified its marketable equity securities from investments available for sale into a separate component of investment securities. The ASU requires marketable equity securities to be reported at fair value with changes in the fair value recorded through earnings. As of January 1, 2018, unrealized losses of $62,000 were reclassified from accumulated other comprehensive loss to retained earnings and the deferred tax asset was reduced by $18,000. During the six months ended June 30, 2018, the Company recognized $70,000 of unrealized losses in the condensed consolidated statements of income related to marketable equity securities.

Debt Securities

The Company classifies its debt securities into one of three categories: trading, available for sale or held to maturity. Trading securities are bought and held principally for the purpose of selling in the near term. Held to maturity securities are those securities which the Company has the ability and intent to hold until maturity. These securities are carried at cost adjusted for amortization of premium and accretion of discount, computed by the effective interest method over their contractual lives. All other securities not included in trading or held to maturity are classified as available for sale. Available for sale securities are recorded at fair value. Unrealized gains and losses, net of the related tax effect, on available for sale securities are reported as a separate component of other accumulated comprehensive income in shareholders’ equity until realized. Premiums and discounts are amortized or accreted over the life of the related investment security as an adjustment to yield using the effective interest method. Dividend and interest income are recognized when earned. Realized gains and losses are derived from the amortized cost of the security sold. During the six months ended June 30, 2018 and throughout 2017, the Company did not have any debt securities classified as trading.

The Company assesses other-than-temporary impairment (“OTTI”) based on whether it intends to sell a security or if it is likely that the Company would be required to sell the security before recovery of the amortized cost basis of the investment, which may be maturity. For debt securities, if we intend to sell the security or it is more likely than not that we will be required to sell the security before recovering its cost basis, the entire impairment loss would be recognized in earnings as an OTTI. If we do not intend to sell the security and it is not likely that we will be required to sell the security but we do not expect to recover the entire amortized cost basis of the security, only the portion of the impairment loss representing credit losses would be recognized in earnings. The credit loss on a security is measured as the difference between the amortized cost basis and the present value of the cash flows expected to be collected. Projected cash flows are discounted by the original or current effective interest rate depending on the nature of the security being measured for potential OTTI. The remaining impairment related to all other factors, the difference between the present value of the cash flows expected to be collected and fair value, is recognized as a charge to other comprehensive income (“OCI”). Impairment losses related to all other factors are presented as separate categories within OCI. The accretion of the amount recorded in OCI increases the carrying value of the investment and does not affect earnings. If there is an indication of additional credit losses the security is re-evaluated according to the procedures described above. No OTTI losses were recognized during the six months ended June 30, 2018 or the year ended December 31, 2017.

6

Restricted Equity Securities

Restricted equity securities represent the Company’s investment in the stock of the Federal Home Loan Bank of San Francisco (“FHLB”) and are carried at par value, which reasonably approximates its fair value. While technically these are considered equity securities, there is no market for the FHLB stock. Therefore, the shares are considered as restricted investment securities. Management periodically evaluates FHLB stock for other-than-temporary impairment. Management’s determination of whether these investments are impaired is based on its assessment of the ultimate recoverability of cost rather than by recognizing temporary declines in value. The determination of whether a decline affects the ultimate recoverability of cost is influenced by criteria such as (1) the significance of any decline in net assets of the FHLB as compared to the capital stock amount for the FHLB and the length of time this situation has persisted, (2) commitments by the FHLB to make payments required by law or regulation and the level of such payments in relation to the operating performance of the FHLB, (3) the impact of legislative and regulatory changes on institutions and, accordingly, the customer base of the FHLB, and (4) the liquidity position of the FHLB.

As a member of the FHLB system, the Bank is required to maintain a minimum level of investment in FHLB stock based on specific percentages of its outstanding mortgages, total assets, or FHLB advances. The Bank may request redemption at par value of any stock in excess of the minimum required investment. Stock redemptions are at the discretion of the FHLB.

Loans Held for Sale

Loans originated and intended for sale in the secondary market are carried at the lower of aggregate cost or fair value, as determined by aggregate outstanding commitments from investors of current investor yield requirements. Net unrealized losses are recognized through a valuation allowance by charges to noninterest income.

Mortgage loans held for sale are generally sold with the mortgage servicing rights retained by the Company. Gains or losses on the sale of loans that are held for sale are recognized at the time of the sale and determined by the difference between net sale proceeds and the net book value of the loans less the estimated fair value of any retained mortgage servicing rights.

Loans and Allowance for Loan Losses

Loans originated by the Company, i.e., not purchased or acquired in a business combination, are referred to as originated loans. Originated loans that management has the intent and ability to hold for the foreseeable future or until maturity or payoff are reported at the principal amount outstanding, net of deferred loan fees and costs. Loan origination and commitment fees and certain direct loan origination costs are deferred, and the net amount is amortized as an adjustment of the related loan’s yield over the actual life of the loan. Originated loans on which the accrual of interest has been discontinued are designated as nonaccrual loans.

Originated loans are placed in nonaccrual status when reasonable doubt exists as to the full, timely collection of interest or principal, or a loan becomes contractually past due by 90 days or more with respect to interest or principal and is not well secured and in the process of collection. When an originated loan is placed on nonaccrual status, all interest previously accrued but not collected is reversed. Income on such loans is then recognized only to the extent that cash is received and where the future collection of principal is probable. Interest accruals are resumed on such loans only when they are brought fully current with respect to interest and principal and when, in the judgment of Management, the loan is estimated to be fully collectible as to both principal and interest.

An allowance for loan losses for originated loans is established through a provision for loan losses charged to expense. The allowance is maintained at a level which, in Management’s judgment, is adequate to absorb probable incurred credit losses inherent in the loan portfolio as of the balance sheet date. Originated loans and deposit related overdrafts are charged against the allowance for loan losses when Management believes that the collectability of the principal is unlikely or, with respect to consumer installment loans, according to an established delinquency schedule. The allowance is an amount that Management believes will be adequate to absorb probable incurred losses inherent in existing loans, based on evaluations of the collectability, impairment and prior loss experience of loans. The evaluations take into consideration such factors as changes in the nature and size of the portfolio, overall portfolio quality, loan concentrations, specific problem loans, and current economic conditions that may affect the borrower’s ability to pay. The Company defines an originated loan as impaired when it is probable the Company will be unable to collect all amounts due according to the original contractual terms of the loan agreement. Impaired originated loans are measured based on the present value of expected future cash flows discounted at the loan’s original effective interest rate. As a practical expedient, impairment may be measured based on the loan’s observable market price or the fair value of the collateral if the loan is collateral dependent. When the measure of the impaired loan is less than the recorded investment in the loan, the impairment is recorded through a specific reserve allocation within the allowance for loan losses.

In situations related to originated loans where, for economic or legal reasons related to a borrower’s financial difficulties, the Company grants a concession for other than an insignificant period of time to the borrower that the Company would not otherwise consider, the related loan is classified as a troubled debt restructuring (TDR). The Company strives to identify borrowers in financial difficulty early and work with them to modify to more affordable terms before their loan reaches nonaccrual status. These modified terms may include rate reductions, principal forgiveness, payment forbearance and other actions intended to minimize the economic loss and to avoid foreclosure or repossession of the collateral. In cases where the Company grants the borrower new terms that result in the loan being classified as a TDR, the Company measures any impairment on the restructuring as noted above for impaired loans. TDR loans are classified as impaired until they are fully paid off or charged off. Loans that are in nonaccrual status at the time they become TDR loans, remain in nonaccrual status until the borrower demonstrates a sustained period of performance which the Company generally believes to be six consecutive months of payments, or equivalent. Otherwise, TDR loans are subject to the same nonaccrual and charge-off policies as noted above with respect to their restructured principal balance.

Credit risk is inherent in the business of lending. As a result, the Company maintains an allowance for loan losses to absorb probable incurred losses inherent in the Company’s originated loan portfolio. This is maintained through periodic charges to earnings. These charges are included in the Consolidated Statements of Income as provision for loan losses. All specifically identifiable and quantifiable losses are immediately charged off against the allowance. However, for a variety of reasons, not all losses are immediately known to the Company and, of those that are known, the full extent of the loss may not be quantifiable at that point in time. The balance of the Company’s allowance for originated loan losses is meant to be an estimate of these probable incurred losses inherent in the portfolio.

7

The Company formally assesses the adequacy of the allowance for originated loan losses on a quarterly basis. Determination of the adequacy is based on ongoing assessments of the probable risk in the outstanding originated loan portfolio, and to a lesser extent the Company’s originated loan commitments. These assessments include the periodic re-grading of credits based on changes in their individual credit characteristics including delinquency, seasoning, recent financial performance of the borrower, economic factors, changes in the interest rate environment, growth of the portfolio as a whole or by segment, and other factors as warranted. Loans are initially graded when originated. They are re-graded as they are renewed, when there is a new loan to the same borrower, when identified facts demonstrate heightened risk of nonpayment, or if they become delinquent. Re-grading of larger problem loans occurs at least quarterly. Confirmation of the quality of the grading process is obtained by independent credit reviews conducted by consultants specifically hired for this purpose and by various bank regulatory agencies.

The Company’s method for assessing the appropriateness of the allowance for originated loan losses includes specific allowances for impaired originated loans, formula allowance factors for pools of credits, and allowances for changing environmental factors (e.g., interest rates, growth, economic conditions, etc.). Allowance factors for loan pools were based on historical loss experience by product type and prior risk rating.

Loans purchased or acquired in a business combination are referred to as acquired loans. Acquired loans are valued as of the acquisition date in accordance with Financial Accounting Standards Board Accounting Standards Codification (“FASB ASC”) Topic 805, Business Combinations . Loans acquired with evidence of credit deterioration since origination for which it is probable that all contractually required payments will not be collected are referred to as purchased credit impaired (PCI) loans. PCI loans are accounted for under FASB ASC Topic 310-30, Loans and Debt Securities Acquired with Deteriorated Credit Quality . Under FASB ASC Topic 805 and FASB ASC Topic 310-30, PCI loans are recorded at fair value at acquisition date, factoring in credit losses expected to be incurred over the life of the loan. Accordingly, an allowance for loan losses is not carried over or recorded as of the acquisition date. Fair value is defined as the present value of the future estimated principal and interest payments of the loan, with the discount rate used in the present value calculation representing the estimated effective yield of the loan. Default rates, loss severity, and prepayment speed assumptions are periodically reassessed and our estimate of future payments is adjusted accordingly. The difference between contractual future payments and estimated future payments is referred to as the nonaccretable difference. The difference between estimated future payments and the present value of the estimated future payments is referred to as the accretable yield. The accretable yield represents the amount that is expected to be recorded as interest income over the remaining life of the loan. If after acquisition, the Company determines that the estimated future cash flows of a PCI loan are expected to be more than originally estimated, an increase in the discount rate (effective yield) would be made such that the newly increased accretable yield would be recognized, on a level yield basis, over the remaining estimated life of the loan. If, thereafter, the Company determines that the estimated future cash flows of a PCI loan are expected to be less than previously estimated, an allowance for loan loss would be established through a provision for loan losses charged to expense to decrease the present value to the required level. If the estimated cash flows improve after an allowance has been established for a loan, the allowance may be partially or fully reversed depending on the improvement in the estimated cash flows. Only after the allowance has been fully reversed may the discount rate be increased. PCI loans are put on nonaccrual status when cash flows cannot be reasonably estimated. PCI loans on nonaccrual status are accounted for using the cost recovery method or cash basis method of income recognition. The Company refers to PCI loans on nonaccrual status that are accounted for using the cash basis method of income recognition as “PCI – cash basis” loans; and the Company refers to all other PCI loans as “PCI – other” loans PCI loans are charged off when evidence suggests cash flows are not recoverable. Foreclosed assets from PCI loans are recorded in foreclosed assets at fair value with the fair value at time of foreclosure representing cash flow from the loan. ASC 310-30 allows PCI loans with similar risk characteristics and acquisition time frame to be “pooled” and have their cash flows aggregated as if they were one loan. The Company elected to use the “pooled” method of ASC 310-30 for PCI – other loans in the acquisition of certain assets and liabilities of Granite Community Bank, N.A. (“Granite”) during 2010 and Citizens Bank of Northern California (“Citizens”) during 2011.

Acquired loans that are not PCI loans are referred to as purchased not credit impaired (PNCI) loans. PNCI loans are accounted for under FASB ASC Topic 310-20, Receivables – Nonrefundable Fees and Other Costs, in which interest income is accrued on a level-yield basis for performing loans. For income recognition purposes, this method assumes that all contractual cash flows will be collected, and no allowance for loan losses is established at the time of acquisition. Post-acquisition date, an allowance for loan losses may need to be established for acquired loans through a provision charged to earnings for credit losses incurred subsequent to acquisition. Under ASC 310-20, the loss would be measured based on the probable shortfall in relation to the contractual note requirements, consistent with our allowance for loan loss policy for similar loans.

Throughout these financial statements, and in particular in Note 4 and Note 5, when we refer to “Loans” or “Allowance for loan losses” we mean all categories of loans, including Originated, PNCI, PCI – cash basis, and PCI - other. When we are not referring to all categories of loans, we will indicate which we are referring to – Originated, PNCI, PCI – cash basis, or PCI - other.

When referring to PNCI and PCI loans we use the terms “nonaccretable difference”, “accretable yield”, or “purchase discount”. Nonaccretable difference is the difference between undiscounted contractual cash flows due and undiscounted cash flows we expect to collect, or put another way, it is the undiscounted contractual cash flows we do not expect to collect. Accretable yield is the difference between undiscounted cash flows we expect to collect and the value at which we have recorded the loan on our financial statements. On the date of acquisition, all purchased loans are recorded on our consolidated financial statements at estimated fair value. Purchase discount is the difference between the estimated fair value of loans on the date of acquisition and the principal amount owed by the borrower, net of charge offs, on the date of acquisition. We may also refer to “discounts to principal balance of loans owed, net of charge-offs”. Discounts to principal balance of loans owed, net of charge-offs is the difference between principal balance of loans owed, net of charge-offs, and loans as recorded on our financial statements. Discounts to principal balance of loans owed, net of charge-offs arise from purchase discounts, and equal the purchase discount on the acquisition date.

8

Foreclosed Assets

Foreclosed assets include assets acquired through, or in lieu of, loan foreclosure. Foreclosed assets are held for sale and are initially recorded at fair value less estimated costs to sell at the date of foreclosure, establishing a new cost basis. Physical possession of residential real estate property collateralizing a consumer mortgage loan occurs when legal title is obtained upon completion of foreclosure or when the borrower conveys all interest in the property to satisfy the loan through completion of a deed in lieu of foreclosure or through a similar legal agreement. Any write-downs based on the asset’s fair value less costs to sell at the date of acquisition are charged to the allowance for loan and lease losses. Any recoveries based on the asset’s fair value less estimated costs to sell in excess of the recorded value of the loan at the date of acquisition are recorded to the allowance for loan and lease losses. These assets are subsequently accounted for at lower of cost or fair value less estimated costs to sell. If fair value declines subsequent to foreclosure, a valuation allowance is recorded through expense. Operating costs after acquisition are expensed. Revenue and expenses from operations and changes in the valuation allowance are included in other noninterest expense. Gain or loss on sale of foreclosed assets is included in noninterest income. Foreclosed assets that are not subject to a FDIC loss-share agreement are referred to as noncovered foreclosed assets.

Foreclosed assets acquired through FDIC-assisted acquisitions that are subject to a FDIC loss-share agreement, and all assets acquired via foreclosure of covered loans are referred to as covered foreclosed assets. Covered foreclosed assets are reported exclusive of expected reimbursement cash flows from the FDIC. Foreclosed covered loan collateral is transferred into covered foreclosed assets at the loan’s carrying value, inclusive of the acquisition date fair value discount.

Covered foreclosed assets are initially recorded at estimated fair value less estimated costs to sell on the acquisition date based on similar market comparable valuations less estimated selling costs. Any subsequent valuation adjustments due to declines in fair value will be charged to noninterest expense, and will be mostly offset by noninterest income representing the corresponding increase to the FDIC indemnification asset for the offsetting loss reimbursement amount. Any recoveries of previous valuation adjustments will be credited to noninterest expense with a corresponding charge to noninterest income for the portion of the recovery that is due to the FDIC. On May 9, 2017, the Company and the FDIC terminated their loss sharing agreements.

Premises and Equipment

Land is carried at cost. Land improvements, buildings and equipment, including those acquired under capital lease, are stated at cost less accumulated depreciation and amortization. Depreciation and amortization expenses are computed using the straight-line method over the shorter of the estimated useful lives of the related assets or lease terms. Asset lives range from 3-10 years for furniture and equipment and 15-40 years for land improvements and buildings.

Goodwill and Other Intangible Assets

Goodwill represents the excess of costs over fair value of net assets of businesses acquired. Goodwill and other intangible assets acquired in a purchase business combination and determined to have an indefinite useful life are not amortized, but instead tested for impairment at least annually. Intangible assets with estimable useful lives are amortized over their respective estimated useful lives to their estimated residual values, and reviewed for impairment.

The Company has an identifiable intangible asset consisting of core deposit intangibles (CDI). CDI are amortized over their respective estimated useful lives, and reviewed for impairment.

Impairment of Long-Lived Assets and Goodwill

Long-lived assets, such as premises and equipment, and purchased intangibles subject to amortization, are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. Recoverability of assets to be held and used is measured by a comparison of the carrying amount of an asset to estimated undiscounted future cash flows expected to be generated by the asset. If the carrying amount of an asset exceeds its estimated future cash flows, an impairment charge is recognized by the amount by which the carrying amount of the asset exceeds the fair value of the asset. Assets to be disposed of would be separately presented in the balance sheet and reported at the lower of the carrying amount or fair value less costs to sell, and are no longer depreciated. The assets and liabilities of a disposed group classified as held for sale would be presented separately in the appropriate asset and liability sections of the consolidated balance sheet.

As of December 31 of each year, goodwill is tested for impairment, and is tested for impairment more frequently if events and circumstances indicate that the asset might be impaired. An impairment loss is recognized to the extent that the carrying amount exceeds the asset’s fair value. This determination is made at the reporting unit level. The Company may choose to first assess qualitative factors to determine whether the existence of events or circumstances leads to a determination that it is more likely than not that the fair value of a reporting unit is less than its carrying amount. If, after assessing the totality of events or circumstances, the Company determines it is not more likely than not that the fair value of a reporting unit is less than its carrying amount, then goodwill is deemed not to be impaired. However, if the Company concludes otherwise, or if the Company elected not to first assess qualitative factors, then the Company performs the first step of a two-step impairment test by calculating the fair value of the reporting unit and comparing the fair value with the carrying amount of the reporting unit. Second, if the carrying amount of the reporting unit exceeds its fair value, an impairment loss is recognized for any excess of the carrying amount of the reporting unit’s goodwill over the implied fair value of that goodwill. The implied fair value of goodwill is determined by allocating the fair value of the reporting unit in a manner similar to a purchase price allocation. The residual fair value after this allocation is the implied fair value of the reporting unit goodwill. Currently, and historically, the Company is comprised of only one reporting unit that operates within the business segment it has identified as “community banking”. Goodwill was not impaired as of December 31, 2017 because the fair value of the reporting unit exceeded its carrying value.

9

Mortgage Servicing Rights

Mortgage servicing rights (MSR) represent the Company’s right to a future stream of cash flows based upon the contractual servicing fee associated with servicing mortgage loans. Our MSR arise from residential and commercial mortgage loans that we originate and sell, but retain the right to service the loans. The net gain from the retention of the servicing right is included in gain on sale of loans in noninterest income when the loan is sold. Fair value is based on market prices for comparable mortgage servicing contracts, when available, or alternatively, is based on a valuation model that calculates the present value of estimated future net servicing income. The valuation model incorporates assumptions that market participants would use in estimating future net servicing income, such as the cost to service, the discount rate, the custodial earnings rate, an inflation rate, ancillary income, prepayment speeds and default rates and losses. Servicing fees are recorded in noninterest income when earned.

The Company accounts for MSR at fair value. The determination of fair value of our MSR requires management judgment because they are not actively traded. The determination of fair value for MSR requires valuation processes which combine the use of discounted cash flow models and extensive analysis of current market data to arrive at an estimate of fair value. The cash flow and prepayment assumptions used in our discounted cash flow model are based on empirical data drawn from the historical performance of our MSR, which we believe are consistent with assumptions used by market participants valuing similar MSR, and from data obtained on the performance of similar MSR. The key assumptions used in the valuation of MSR include mortgage prepayment speeds and the discount rate. These variables can, and generally will, change from quarter to quarter as market conditions and projected interest rates change. The key risks inherent with MSR are prepayment speed and changes in interest rates. The Company uses an independent third party to determine fair value of MSR.

Indemnification Asset/Liability

The Company accounts for amounts receivable or payable under its loss-share agreements entered into with the FDIC in connection with its purchase and assumption of certain assets and liabilities of Granite as indemnification assets in accordance with FASB ASC Topic 805, Business Combinations . FDIC indemnification assets are initially recorded at fair value, based on the discounted value of expected future cash flows under the loss-share agreements. The difference between the fair value and the undiscounted cash flows the Company expects to collect from or pay to the FDIC will be accreted into noninterest income over the life of the FDIC indemnification asset. FDIC indemnification assets are reviewed quarterly and adjusted for any changes in expected cash flows based on recent performance and expectations for future performance of the covered portfolios. These adjustments are measured on the same basis as the related covered loans and covered other real estate owned. Any increases in cash flow of the covered assets over those expected will reduce the FDIC indemnification asset and any decreases in cash flow of the covered assets under those expected will increase the FDIC indemnification asset. Increases and decreases to the FDIC indemnification asset are recorded as adjustments to noninterest income. On May 9, 2017, the Company and the FDIC terminated their loss sharing agreements.

Reserve for Unfunded Commitments

The reserve for unfunded commitments is established through a provision for losses – unfunded commitments charged to noninterest expense. The reserve for unfunded commitments is an amount that Management believes will be adequate to absorb probable losses inherent in existing commitments, including unused portions of revolving lines of credits and other loans, standby letters of credits, and unused deposit account overdraft privilege. The reserve for unfunded commitments is based on evaluations of the collectability, and prior loss experience of unfunded commitments. The evaluations take into consideration such factors as changes in the nature and size of the loan portfolio, overall loan portfolio quality, loan concentrations, specific problem loans and related unfunded commitments, and current economic conditions that may affect the borrower’s or depositor’s ability to pay.

Low Income Housing Tax Credits

The Company accounts for low income housing tax credits and the related qualified affordable housing projects using the proportional amortization method. Under the proportional amortization method, the Company amortizes the initial cost of the investment in proportion to the tax credits and other tax benefits received and recognizes the net investment performance in the income statement as a component of income tax expense (benefit). Upon entering into a qualified affordable housing project, the Company records, in other liabilities, the entire amount that it has agreed to invest in the project, and an equal amount, in other assets, representing its investment in the project. As the Company disburses cash to satisfy its investment obligation, other liabilities are reduced. Over time, as the tax credits and other tax benefits of the project are realized by the Company, the investment recorded in other assets is reduced using the proportional amortization method.

Revenue Recognition

The Company records revenue from contracts with customers in accordance with Accounting Standards Codification Topic 606, “Revenue from Contracts with Customers” (“Topic 606”). Under Topic 606, the Company must identify the contract with a customer, identify the performance obligations in the contract, determine the transaction price, allocate the transaction price to the performance obligations in the contract, and recognize revenue when (or as) the Company satisfies a performance obligation. Significant revenue has not been recognized in the current reporting period that results from performance obligations satisfied in previous periods.

Most of our revenue-generating transactions are not subject to ASC 606, including revenue generated from financial instruments, such as our loans and investment securities. In addition, certain noninterest income streams such as fees associated with mortgage servicing rights, financial guarantees, derivatives, and certain credit card fees are also not in scope of the new guidance. The Company’s noninterest revenue streams are largely based on transactional activity, or standard month-end revenue accruals such as asset management fees based on month-end market values. Consideration is often received immediately or shortly after the Company satisfies its performance obligation and revenue is recognized. The Company does not typically enter into long-term revenue contracts with customers, and therefore, does not experience significant contract balances. As of June 30, 2018 and December 31, 2017, the Company did not have any significant contract balances. The Company has evaluated the nature of its revenue streams and determined that further disaggregation of revenue into more granular categories beyond what is presented in the Note 21 was not necessary.

10

Income Taxes

The Company’s accounting for income taxes is based on an asset and liability approach. The Company recognizes the amount of taxes payable or refundable for the current year, and deferred tax assets and liabilities for the future tax consequences that have been recognized in its financial statements or tax returns. The measurement of tax assets and liabilities is based on the provisions of enacted tax laws. A valuation allowance, if needed, reduces deferred tax assets to the expected amount most likely to be realized. Realization of deferred tax assets is dependent upon the generation of a sufficient level of future taxable income and recoverable taxes paid in prior years. Although realization is not assured, management believes it is more likely than not that all of the deferred tax assets will be realized. Interest and/or penalties related to income taxes are reported as a component of noninterest income.

Off-Balance Sheet Credit Related Financial Instruments

In the ordinary course of business, the Company has entered into commitments to extend credit, including commitments under credit card arrangements, commercial letters of credit, and standby letters of credit. Such financial instruments are recorded when they are funded.

Geographical Descriptions

For the purpose of describing the geographical location of the Company’s loans, the Company has defined northern California as that area of California north of, and including, Stockton; central California as that area of the state south of Stockton, to and including, Bakersfield; and southern California as that area of the state south of Bakersfield.

Reclassifications

During the three months ended September 30, 2017, the Company changed its classification of 1st lien and 2nd lien non-owner occupied 1-4 residential real estate mortgage loans from commercial real estate mortgage loans to residential real estate mortgage loans and consumer home equity loans, respectively. This change in loan category classification was made to better align the Company’s financial reporting classifications with regulatory reporting classifications, and to properly classify these loans for regulatory risk-based capital ratio calculations. Certain amounts reported in previous consolidated financial statements have been reclassified and recalculated to conform to the presentation in this report. These reclassifications did not affect previously reported net income, total loans or total shareholders’ equity.

Recent Accounting Pronouncements

FASB Accounting Standards Update (ASU) No.2014-09, Revenue from Contracts with Customers (Topic 606): ASU 2014-09 is intended to clarify the principles for recognizing revenue, and to develop common revenue standards and disclosure requirements that would: (1) remove inconsistencies and weaknesses in revenue requirements; (2) provide a more robust framework for addressing revenue issues; (3) improve comparability of revenue recognition practices across entities, industries, jurisdictions, and capital markets; (4) provide more useful information to users of financial statements through improved disclosures; and (5) simplify the preparation of financial statements by reducing the number of requirements to which an entity must refer. The guidance affects any entity that either enters into contracts with customers to transfer goods or services or enters into contracts for the transfer of nonfinancial assets. The core principle is that an entity should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. The guidance provides steps to follow to achieve the core principle. An entity should disclose sufficient information to enable users of financial statements to understand the nature, amount, timing and uncertainty of revenue and cash flows arising from contracts with customers. Qualitative and quantitative information is required with regard to contracts with customers, significant judgments and changes in judgments, and assets recognized from the costs to obtain or fulfill a contract. ASU 2014-09 is effective for annual reporting periods beginning after December 15, 2017, including interim periods therein, with early adoption permitted for reporting periods beginning after December 15, 2016. ASU 2014-09 does not apply to revenue associated with financial instruments such as loans and investments, which are accounted for under other provisions of GAAP. The Company adopted ASU 2014-09 on January 1, 2018 utilizing the modified retrospective approach. Since there was no net income impact upon adoption of the new guidance, a cumulative effect adjustment to opening retained earnings was not deemed necessary.

In January 2016, the FASB issued ASU No. 2016-01, “Recognition and Measurement of Financial Assets and Financial Liabilities.” This ASU addresses certain aspects of recognition, measurement, presentation, and disclosure of financial instruments by making targeted improvements to GAAP as follows: (1) require equity investments (except those accounted for under the equity method of accounting or those that result in consolidation of the investee) to be measured at fair value with changes in fair value recognized in net income. However, an entity may choose to measure equity investments that do not have readily determinable fair values at cost minus impairment, if any, plus or minus changes resulting from observable price changes in orderly transactions for the identical or a similar investment of the same issuer; (2) simplify the impairment assessment of equity investments without readily determinable fair values by requiring a qualitative assessment to identify impairment. When a qualitative assessment indicates that impairment exists, an entity is required to measure the investment at fair value; (3) eliminate the requirement to disclose the fair value of financial instruments measured at amortized cost for entities that are not public business entities; (4) eliminate the requirement for public business entities to disclose the method(s) and significant assumptions used to estimate the fair value that is required to be disclosed for financial instruments measured at amortized cost on the balance sheet; (5) require public business entities to use the exit price notion when measuring the fair value of financial instruments for disclosure purposes; (6) require an entity to present separately in other comprehensive income the portion of the total change in the fair value of a liability resulting from a change in the instrument-specific credit risk when the entity has elected to measure the liability at fair value in accordance with the fair value option for financial instruments; (7) require separate presentation of financial assets and financial liabilities by measurement category and form of financial asset (that is, securities or loans and receivables) on the balance sheet or the accompanying notes to the financial statements; and (8) clarify that an entity should evaluate the need for a valuation allowance on a deferred tax asset related to available-for-sale securities in combination with the entity’s other deferred tax assets. The adoption of ASU No. 2016-01 on January 1, 2018 did not have a material impact on the Company’s Consolidated Financial Statements. In accordance with (1) above, the Company recorded a reclassification of cumulative unrealized losses of its marketable equity securities from accumulated other comprehensive income (loss) to retained earnings as of January 1, 2018. Additionally, the Company recognized changes in the fair value of its marketable equity securities in the condensed consolidated statements of net income for the three and six months ended June 30, 2018. In accordance with (5) above, the Company measured the fair value of its loan portfolio as of June 30, 2018 using an exit price notion (see Note 27 Fair Value Measurement ).

FASB issued ASU No. 2016-02 , Leases (Topic 842) . ASU 2016-2, among other things, requires lessees to recognize most leases on-balance sheet, increasing reported assets and liabilities. Lessor accounting remains substantially similar to current U.S. GAAP. ASU 2016-02 will be effective for the Company on January 1, 2019, utilizing the modified retrospective transition approach. FASB has issued incremental guidance to the new leasing standard through ASU No. 2018-10 and 2018-11. Based on current leases, subject to change, the Company estimates that the adoption of this standard will result in an increase in assets of approximately $24 million to recognize the present value of the lease obligations with a corresponding increase in liabilities of approximately $24 million. This amount is subject to change as the Company continues to evaluate the provisions of ASU No. 2016-02, 2018-10 and 2018-11. The Company does not expect this to have a material impact on the Company’s results of operations or cash flows.

11

FASB issued ASU No. 2016-13, Financial Instruments – Credit Losses (Topic 326). ASU 2016-13 is the final guidance on the new current expected credit loss (‘‘CECL’’) model. ASU 2016-13, among other things, requires the incurred loss impairment methodology in current GAAP be replaced with a methodology that reflects expected credit losses and requires consideration of a broader range of reasonable and supportable information to estimate future credit loss estimates. As CECL encompasses all financial assets carried at amortized cost, the requirement that reserves be established based on an organization’s reasonable and supportable estimate of expected credit losses extends to held to maturity (‘‘HTM’’) debt securities. ASU 2016-13 amends the accounting for credit losses on available-for-sale securities (‘‘AFS’’), whereby credit losses will be presented as an allowance as opposed to a write-down. In addition, CECL will modify the accounting for purchased loans with credit deterioration since origination, so that reserves are established at the date of acquisition for purchased loans. Lastly, ASU 2016-13 requires enhanced disclosures on the significant estimates and judgments used to estimate credit losses, as well as on the credit quality and underwriting standards of an organization’s portfolio. These disclosures require organizations to present the currently required credit quality disclosures disaggregated by the year of origination or vintage. ASU 2016-13 allows for a modified retrospective approach with a cumulative effect adjustment to the balance sheet upon adoption (charge to retained earnings instead of the income statement). ASU 2016-13 will be effective for the Company on January 1, 2020, and early adoption is permitted. While the Company is currently evaluating the provisions of ASU 2016-13 to determine the potential impact the new standard will have on the Company’s Consolidated Financial Statements, it has taken steps to prepare for the implementation when it becomes effective, such as forming an internal task force, gathering pertinent data, consulting with outside professionals, and evaluating its current IT systems. Management expects to recognize a one-time cumulative effect adjustment to the allowance for loan losses as of the first reporting period in which the new standard is effective, but cannot yet estimate the magnitude of the one-time adjustment or the overall impact of the new guidance on the Company’s financial position, results of operations or cash flows.

FASB issued ASU No. 2016-18, Statement of Cash Flows - Restricted Cash (Topic 230). ASU 2016-18 requires that a statement of cash flows explain the change during the period in the total of cash, cash equivalents, and amounts generally described as restricted cash or restricted cash equivalents. Therefore, amounts generally described as restricted cash and restricted cash equivalents should be included with cash and cash equivalents when reconciling the beginning-of-period and end-of-period total amounts shown on the statement of cash flows. ASU 2016-18 was effective for the Company on January 1, 2018 and did not have a significant impact on the Company’s consolidated financial statements.

FASB issued ASU No. 2017-01, Business Combinations - Clarifying the Definition of a Business (Topic 805). ASU 2017-01 clarifies the definition and provides a more robust framework to use in determining when a set of assets and activities constitutes a business. ASU 2017-01 is intended to provide guidance when evaluating whether transactions should be accounted for as acquisitions (or disposals) of assets or businesses. ASU 2017-01 was effective for us on January 1, 2018 and did not have a significant impact on our financial statements.

FASB issued ASU No. 2017-04, Intangibles—Goodwill and Other: Simplifying the Test for Goodwill Impairment (Topic 350): ASU 2017-04 eliminates step two of the goodwill impairment test (the hypothetical purchase price allocation used to determine the implied fair value of goodwill) when step one (determining if the carrying value of a reporting unit exceeds its fair value) is failed. Instead, entities simply will compare the fair value of a reporting unit to its carrying amount and record goodwill impairment for the amount by which the reporting unit’s carrying amount exceeds its fair value. ASU 2017-04 will be effective for the Company on January 1, 2020 and is not expected to have a significant impact on the Company’s consolidated financial statements.

FASB issued ASU No. 2017-07, Compensation - Retirement Benefits (Topic 715). ASU 2017-07 requires that an employer report the service cost component in the same line item or items as other compensation costs arising from services rendered by the pertinent employees during the period. The other components of net benefit cost are required to be presented in the income statement separately from the service cost component. ASU 2017-07 was effective for the Company on January 1, 2018 and did not have a significant impact on the Company’s consolidated financial statements.

FASB issued ASU 2017-08, Receivables - Nonrefundable Fees and Other Costs (Topic 310). ASU 2017-08 shortens the amortization period for certain callable debt securities held at a premium to require such premiums to be amortized to the earliest call date unless applicable guidance related to certain pools of securities is applied to consider estimated prepayments. Under prior guidance, entities were generally required to amortize premiums on individual, non-pooled callable debt securities as a yield adjustment over the contractual life of the security. ASU 2017-08 does not change the accounting for callable debt securities held at a discount. ASU 2017-08 will be effective for the Company on January 1, 2019, and is not expected to have a significant impact on the Company’s consolidated financial statements.

FASB issued ASU 2017-09, Compensation - Stock Compensation (Topic 718). ASU 2017-09 clarifies when changes to the terms or conditions of a share-based payment award must be accounted for as modifications. Under ASU 2017-09, an entity will not apply modification accounting to a share-based payment award if all of the following are the same immediately before and after the change: (i) the award’s fair value, (ii) the award’s vesting conditions and (iii) the award’s classification as an equity or liability instrument. ASU 2017-09 was effective for the Company on January 1, 2018 and did not have a significant impact on the Company’s consolidated financial statements.

12

FASB issued ASU 2018-02, Income Statement - Reporting Comprehensive Income (Topic 220). ASU 2018-02 allows, but does not require, entities to reclassify certain income tax effects in accumulated other comprehensive income (AOCI) to retained earnings that resulted from the Tax Cuts and Jobs Act (Tax Act) that was enacted on December 22, 2017. The Tax Act included a reduction to the Federal corporate income tax rate from 35 percent to 21 percent effective January 1, 2018. The amount of the reclassification would be the difference between the income tax effects in AOCI calculated using the historical Federal corporate income tax rate of 35 percent and the income tax effects in AOCI calculated using the newly enacted 21 percent Federal corporate income tax rate. The amendments in ASU 2018-02 are effective for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. Early adoption is permitted. The Company adopted ASU 2018-02 on January 1, 2018, and elected to reclassify certain income tax effects in AOCI to retained earnings. This change in accounting principle was accounted for as a cumulative-effect adjustment to the balance sheet resulting in a $1,093,000 increase to retained earnings and a corresponding decrease to AOCI on January 1, 2018.

Note 2 - Business Combinations

Merger with FNB Bancorp

On July 6, 2018, pursuant to a previously announced Agreement and Plan of Merger and Reorganization dated as of December 11, 2017 (the “Merger Agreement”) between the Company and FNB Bancorp (“FNB”), FNB merged with and into the Company with the Company continuing as the surviving corporation (the “Merger”). Immediately after the Merger, First National Bank of Northern California, the wholly owned bank subsidiary of FNB (“First National Bank”), merged with and into the Bank, with the Bank continuing as the surviving bank. The Merger and Bank Merger are collectively referred to as the “Transaction.”

As part of its business strategy, the Company evaluates opportunities to acquire bank holding companies, banks and other financial institutions, which is an important element of its strategic plan. The Transaction is consistent with the Company’s business strategy, which will (1) extend The Company’s geographic footprint into the San Francisco Peninsula, (2) create opportunities for the Company to provide additional products and services to First National Bank customers and other potential customers, and (3) strengthen the Company’s deposit base with a mature base of core deposits.

At the close of the transaction each share of FNBB common stock issued and outstanding immediately prior to the effective time of the Merger was canceled and converted into 0.98 shares of the Company’s common stock (the “Exchange Ratio”), with cash paid in lieu of fractional shares of the Company’s common stock. In addition, on July 6, 2018, each outstanding and unexercised option to acquire shares of FNBB common stock held by FNBB’s employees and directors was canceled and, in exchange, the holder of each option received a lump sum cash payment equal to the product of (1) the number of shares of FNBB common stock remaining under the option multiplied by (2) the Exchange Ratio multiplied by (3) the amount, if any, by which the Average Closing Share Price, as defined in the Merger Agreement, exceeded the exercise price of the option.

These exchanges resulted in the Company issuing 7,405,277 shares of common stock, paying $6,000 in lieu of fractional shares, and paying $6,690,000 in exchange for the outstanding FNBB options. Based on the closing price of the Company’s common stock of $38.41 on July 6, 2018, the consideration value issued to the shareholders of FNBB was $284.4 million in aggregate. The 7,405,277 shares of the Company’s shares issued to the shareholders of FNBB on July 6, 2018 represented 24.4% of the Company’s 30,409,430 shares outstanding immediately subsequent to the Transaction.

Immediately subsequent to the Transaction, the newly combined company, operating as TriCo Bancshares with its banking subsidiary, Tri Counties Bank, had total assets of approximately $6.1 billion. Immediately prior to the merger on July 6, 2018, FNBB had investment securities of approximately $344 million, loans of approximately $868 million, deposits of approximately $995 million, borrowings from the Federal Home Loan Bank of San Francisco (FHLB) of $165 million, and total assets of approximately $1.3 billion. These amounts are subject to change as the Company is in the process of determining the fair value of FNBB assets and liabilities acquired in accordance with generally accepted accounting principles. The Company anticipates recording goodwill and core deposit intangibles with this acquisition. During July 9 and 10, 2018, the Company sold approximately $292 million of the $344 million of investment securities obtained in the Transaction at no material gain or loss from their fair value on July 6, 2018. The proceeds from these security sales were used to pay off all of the Company’s $136 million of FHLB borrowings that existed at June 30, 2018 and all of FNBB’s $165 million of FHLB borrowings that existed at July 6, 2018 and matured in steps through August 6, 2018.

The Company will file an amended Form 8-K on or before September 23, 2018 that will include financial statements for FNBB and combined pro forma financial information for the Company and FNBB as if the merger was effective on June 30, 2018 for the balance sheet and January 1, 2017 for the statements of income. The pro forma financial information will reflect various adjustments required by applicable acquisition accounting rules.

While FNBB’s banking subsidiary, First National Bank of Northern California officially became part of Tri Counties Bank on July 6, 2018, the First National Bank branches continued to operate under the name “First National Bank” until the conversion of its operating systems to the operating systems of Tri Counties Bank on July 22, 2018 at which time First National Bank banking centers along with the client relationships and all accounts converted to Tri Counties Bank.

13

Note 3 - Investment Securities

The amortized cost and estimated fair values of investments in debt and equity securities are summarized in the following tables:

		June 30, 2018
						Gross				Gross				Estimated
		Amortized				Unrealized				Unrealized				Fair
		Cost				Gains				Losses				Value
		(in thousands)
Debt Securities Available for Sale
Obligations of U.S. government corporations and agencies		$	657,335			$	257			$	(22,164	)		$	635,428
Obligations of states and political subdivisions			121,523				359				(3,103	)			118,779
Total debt securities available for sale		$	778,858			$	616			$	(25,267	)		$	754,207
Debt Securities Held to Maturity
Obligations of U.S. government corporations and agencies		$	463,162			$	291			$	(9,211	)		$	454,242
Obligations of states and political subdivisions			14,583				77				(281	)			14,379
Total debt securities held to maturity		$	477,745			$	368			$	(9,492	)		$	468,621
		December 31, 2017
						Gross				Gross				Estimated
		Amortized				Unrealized				Unrealized				Fair
		Cost				Gains				Losses				Value
		(in thousands)
Debt Securities Available for Sale
Obligations of U.S. government corporations and agencies		$	609,695			$	695			$	(5,601	)		$	604,789
Obligations of states and political subdivisions			121,597				1,888				(329	)			123,156
Total debt securities available for sale		$	731,292			$	2,583			$	(5,930	)		$	727,945
Debt Securities Held to Maturity
Obligations of U.S. government corporations and agencies		$	500,271			$	5,101			$	(1,889	)		$	503,483
Obligations of states and political subdivisions			14,573				146				(37	)			14,682
Total debt securities held to maturity		$	514,844			$	5,247			$	(1,926	)		$	518,165

No investment securities were sold during the six months ended June 30, 2018 or the six months ended June 30, 2017. Investment securities with an aggregate carrying value of $410,073,000 and $285,596,000 at June 30, 2018 and December 31, 2017, respectively, were pledged as collateral for specific borrowings, lines of credit and local agency deposits.

The amortized cost and estimated fair value of debt securities at June 30, 2018 by contractual maturity are shown below. Actual maturities may differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties. At June 30, 2018, obligations of U.S. government corporations and agencies with a cost basis totaling $1,120,497,000 consist almost entirely of residential real estate mortgage-backed securities whose contractual maturity, or principal repayment, will follow the repayment of the underlying mortgages. For purposes of the following table, the entire outstanding balance of these mortgage-backed securities issued by U.S. government corporations and agencies is categorized based on final maturity date. At June 30, 2018, the Company estimates the average remaining life of these mortgage-backed securities issued by U.S. government corporations and agencies to be approximately 6.1 years. Average remaining life is defined as the time span after which the principal balance has been reduced by half.

Debt Securities		Available for Sale								Held to Maturity
(In thousands)		Amortized				Estimated				Amortized				Estimated
		Cost				Fair Value				Cost				Fair Value
Due in one year		$	1			$	1			$	—			$	—
Due after one year through five years			233				234				1,223				1,239
Due after five years through ten years			3,229				3,331				27,400				26,800
Due after ten years			775,395				750,641				449,122				440,582
Totals		$	778,858			$	754,207			$	477,745			$	468,621

14

Gross unrealized losses on debt securities and the fair value of the related securities, aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position, were as follows:

		Less than 12 months								12 months or more								Total
		Fair				Unrealized				Fair				Unrealized				Fair				Unrealized
		Value				Loss				Value				Loss				Value				Loss
										(in thousands)
June 30, 2018
Debt Securities Available for Sale
Obligations of U.S. government corporations and agencies		$	437,859			$	(14,490	)		$	152,004			$	(7,674	)		$	589,863			$	(22,164	)
Obligations of states and political subdivisions			66,052				(1,785	)			16,556				(1,318	)			82,608				(3,103	)
Total debt securities available for sale		$	503,911			$	(16,275	)		$	168,560			$	(8,992	)		$	672,471			$	(25,267	)
Debt Securities Held to Maturity
Obligations of U.S. government corporations and agencies		$	326,966			$	(5,578	)		$	91,801			$	(3,633	)		$	418,767			$	(9,211	)
Obligations of states and political subdivisions			8,884				(152	)			2,536				(129	)			11,420				(281	)
Total debt securities held to maturity		$	335,850			$	(5,730	)		$	94,337			$	(3,762	)		$	430,187			$	(9,492	)
		Less than 12 months								12 months or more								Total
		Fair				Unrealized				Fair				Unrealized				Fair				Unrealized
		Value				Loss				Value				Loss				Value				Loss
										(in thousands)
December 31, 2017
Debt Securities Available for Sale
Obligations of U.S. government corporations and agencies		$	284,367			$	(2,176	)		$	166,338			$	(3,425	)		$	450,705			$	(5,601	)
Obligations of states and political subdivisions			4,904				(35	)			17,085				(294	)			21,989				(329	)
Total securities available for sale		$	289,271			$	(2,211	)		$	183,423			$	(3,719	)		$	472,694			$	(5,930	)
Debt Securities Held to Maturity
Obligations of U.S. government corporations and agencies		$	93,017			$	(567	)		$	95,367			$	(1,322	)		$	188,384			$	(1,889	)
Obligations of states and political subdivisions			1,488				(7	)			2,637				(30	)			4,125				(37	)
Total debt securities held to maturity		$	94,505			$	(574	)		$	98,004			$	(1,352	)		$	192,509			$	(1,926	)

Obligations of U.S. government corporations and agencies: Unrealized losses on investments in obligations of U.S. government corporations and agencies are caused by interest rate increases. The contractual cash flows of these securities are guaranteed by U.S. Government Sponsored Entities (principally Fannie Mae and Freddie Mac). It is expected that the securities would not be settled at a price less than the amortized cost of the investment. Because the decline in fair value is attributable to changes in interest rates and not credit quality, and because the Company does not intend to sell and more likely than not will not be required to sell, these investments are not considered other-than-temporarily impaired. At June 30, 2018, 143 debt securities representing obligations of U.S. government corporations and agencies had unrealized losses with aggregate depreciation of (3.02%) from the Company’s amortized cost basis.

Obligations of states and political subdivisions: The unrealized losses on investments in obligations of states and political subdivisions were caused by increases in required yields by investors in these types of securities. It is expected that the securities would not be settled at a price less than the amortized cost of the investment. Because the decline in fair value is attributable to changes in interest rates and not credit quality, and because the Company does not intend to sell and more likely than not will not be required to sell, these investments are not considered other-than-temporarily impaired. At June 30, 2018, 98 debt securities representing obligations of states and political subdivisions had unrealized losses with aggregate depreciation of (3.47%) from the Company’s amortized cost basis.

Marketable equity securities: All unrealized losses recognized during the reporting period were for equity securities still held at June 30, 2018.

15

Note 4 – Loans

A summary of loan balances follows (in thousands):

		June 30, 2018
		Originated				PNCI				PCI -				PCI -				Total
										Cash basis				Other
Mortgage loans on real estate:
Residential 1-4 family		$	326,149			$	56,823			$	—			$	1,720			$	384,692
Commercial			1,805,830				202,923				—				7,595				2,016,348
Total mortgage loans on real estate			2,131,979				259,746				—				9,315				2,401,040
Consumer:
Home equity lines of credit			270,283				14,578				1,530				45				286,436
Home equity loans			38,082				2,449				—				455				40,986
Other			21,421				2,039				—				43				23,503
Total consumer loans			329,786				19,066				1,530				543				350,925
Commercial			227,591				7,555				—				2,473				237,619
Construction:
Residential			73,570				8				—				—				73,578
Commercial			82,912				239				—				—				83,151
Total construction			156,482				247				—				—				156,729
Total loans, net of deferred loan fees and discounts		$	2,845,838			$	286,614			$	1,530			$	12,331			$	3,146,313
Total principal balance of loans owed, net of charge-offs		$	2,855,594			$	293,151			$	4,898			$	16,032			$	3,169,675
Unamortized net deferred loan fees			(9,756	)			—				—				—				(9,756	)
Discounts to principal balance of loans owed, net of charge-offs			—				(6,537	)			(3,368	)			(3,701	)			(13,606	)
Total loans, net of unamortized deferred loan fees and discounts		$	2,845,838			$	286,614			$	1,530			$	12,331			$	3,146,313
Allowance for loan losses		$	(28,761	)		$	(624	)		$	(7	)		$	(132	)		$	(29,524	)
		December 31, 2017
		Originated				PNCI				PCI - Cash basis				PCI - Other				Total
Mortgage loans on real estate:
Residential 1-4 family		$	320,522			$	63,519			$	—			$	1,385			$	385,426
Commercial			1,690,510				215,823				—				8,563				1,914,896
Total mortgage loan on real estate			2,011,032				279,342				—				9,948				2,300,322
Consumer:
Home equity lines of credit			269,942				16,248				2,069				429				288,688
Home equity loans			39,848				2,698				—				485				43,031
Other			22,859				2,251				—				45				25,155
Total consumer loans			332,649				21,197				2,069				959				356,874
Commercial			209,437				8,391				—				2,584				220,412
Construction:
Residential			67,920				10				—				—				67,930
Commercial			69,364				263				—				—				69,627
Total construction			137,284				273				—				—				137,557
Total loans, net of deferred loan fees and discounts		$	2,690,402			$	309,203			$	2,069			$	13,491			$	3,015,165
Total principal balance of loans owed, net of charge-offs		$	2,699,053			$	316,238			$	5,863			$	17,318			$	3,038,472
Unamortized net deferred loan fees			(8,651	)			—				—				—				(8,651	)
Discounts to principal balance of loans owed, net of charge-offs			—				(7,035	)			(3,794	)			(3,827	)			(14,656	)
Total loans, net of unamortized deferred loan fees and discounts		$	2,690,402			$	309,203			$	2,069			$	13,491			$	3,015,165
Allowance for loan losses		$	(29,122	)		$	(929	)		$	(17	)		$	(255	)		$	(30,323	)

The following is a summary of the change in accretable yield for PCI – other loans during the periods indicated (in thousands):

		Three months ended June 30,								Six months ended June 30,
		2018				2017				2018				2017
Change in accretable yield:
Balance at beginning of period		$	4,147			$	9,560			$	4,262			$	10,348
Accretion to interest income			(261	)			(1,058	)			(516	)			(1,960	)
Reclassification (to) from nonaccretable difference			110				(546	)			250				(432	)
Balance at end of period		$	3,996			$	7,956			$	3,996			$	7,956

16