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Item 7A. Quantitative and Qualitative Disclosures About Market Risk

2021-03-15 compared with 2020-03-13 · 42 added, 1818 removed, 50 unchanged (97% of the section changed)

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Risk Management

The Company has adopted risk management policies and procedures, which aim to ensure the proper control and management of all risk factors inherent in the operation of the Company, most importantly credit risk,

interest rate risk and liquidity risk.

These risk factors are not mutually exclusive.

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Credit risk is the risk to earnings or capital arising from an obligor’s failure to meet the terms of any contract or otherwise fail to perform as agreed.

Credit risk is found in all activities where success

depends on counterparty, issuer, or borrower performance.

Credit risk is found in all activities where success depends on counterparty, issuer, or borrower performance.

Credit risk in the investment portfolio and correspondent bank accounts is addressed through defined limits in the Company’s policy statements.

In addition, certain securities carry insurance to enhance credit

quality of the bond.

In order to control credit risk in the loan & lease portfolio the Company has established credit management policies and procedures that govern both the approval of new loans & leases and the monitoring of

the existing portfolio.

principal market area where management believes it is best able to assess the applicable risk.

Additionally, management has established guidelines to ensure the diversification of the Company’s credit portfolio such that even within key portfolio

sectors such as real estate or agriculture, the portfolio is diversified across factors such as location, building type, crop type, etc.

However, as a financial institution that assumes credit risks as a principal element of its business, credit

losses will be experienced in the normal course of business.

In addition, certain securities carry insurance to enhance credit quality of the bond.

The Company manages and controls credit risk through comprehensive underwriting and approval standards, dollar limits on loans & leases to one borrower, and by restricting loans & leases made primarily to its principal market area where management believes it is best able to assess the applicable risk.

Additionally, management has established guidelines to ensure the diversification of the Company’s credit portfolio such that even within key portfolio sectors such as real estate or agriculture, the portfolio is diversified across factors such as location, building type, crop type, etc.

However, as a financial institution that assumes credit risks as a principal element of its business, credit losses will be experienced in the normal course of business.

The allowance for credit losses is maintained at a level considered by management to be adequate to provide for risks inherent in the loan & lease portfolio.

The allowance is

increased by provisions charged to operating expense and reduced by net charge-offs.

The allowance is increased by provisions charged to operating expense and reduced by net charge-offs.

The Company’s methodology for assessing the appropriateness of the allowance is applied on a regular basis and considers all loans & leases.

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The first phase is conducted in accordance with the “Receivables” topic of the FASB ASC.

Individual loans & leases are

reviewed to identify them for impairment.

Individual loans & leases are reviewed to identify them for impairment.

A loan or lease is impaired when principal and interest are deemed uncollectible in accordance with the original contractual terms of the loan or lease.

Impairment is measured as either the expected

future cash flows discounted at each loan’s or lease’s effective interest rate, the fair value of the loan’s or lease’s collateral if the loan or lease is collateral dependent, or an observable market price of the loan or lease, if one exists.

Impairment is measured as either the expected future cash flows discounted at each loan’s or lease’s effective interest rate, the fair value of the loan’s or lease’s collateral if the loan or lease is collateral dependent, or an observable market price of the loan or lease, if one exists.

Upon measuring the impairment, the Company will ensure an appropriate level of allowance is present or established.

Central to the first phase of the analysis of the loan & lease portfolio is the risk rating system.

The originating credit officer assigns each borrower an initial risk rating, which is based primarily on a

thorough analysis of that borrower’s financial position in conjunction with industry and economic trends.

Approvals are made based upon the amount of inherent credit risk specific to the transaction and are reviewed for appropriateness by senior

credit administration personnel.

The originating credit officer assigns each borrower an initial risk rating, which is based primarily on a thorough analysis of that borrower’s financial position in conjunction with industry and economic trends.

Approvals are made based upon the amount of inherent credit risk specific to the transaction and are reviewed for appropriateness by senior credit administration personnel.

Credits are monitored by credit administration personnel for deterioration in a borrower’s financial condition, which would impact the ability of the borrower to perform under the contract.

Risk ratings are

adjusted as necessary.

Risk ratings are reviewed by both the Company’s independent third-party credit examiners and bank examiners from the DBO and FDIC.

Based on the risk rating system, specific allowances are established in cases where management has identified significant conditions or circumstances related to a credit that management believes indicates that the

loan or lease is impaired and there is a probability of loss.

Management performs a detailed analysis of these loans & leases, including, but not limited to, cash flows, appraisals of the collateral, conditions of the marketplace for

liquidating the collateral, and assessment of the guarantors.

Risk ratings are adjusted as necessary.

Risk ratings are reviewed by both the Company’s independent third-party credit examiners and bank examiners from the DFPI and FDIC.

Management performs a detailed analysis of these loans & leases, including, but not limited to, cash flows, appraisals of the collateral, conditions of the marketplace for liquidating the collateral, and assessment of the guarantors.

Management then determines the inherent loss potential and allocates a portion of the allowance for losses as a specific allowance for each of these credits.

The second phase is conducted by segmenting the loan & lease portfolio by risk rating and into groups of loans & leases with similar characteristics in accordance with the “Contingency” topic of the FASB

In this second phase, groups of loans & leases with similar characteristics are reviewed and the appropriate allowance factor is applied based on the historical average charge-off rate for each particular group of loans or leases.

Part 2 - considers qualitative internal and external factors that may affect a loan or lease’s collectability, is based upon management’s evaluation of various conditions, the effects of which are not directly

measured in the determination of the historical and specific allowances.

The evaluation of the inherent loss with respect to these conditions is subject to a higher degree of uncertainty because they are not identified with specific problem

credits or portfolio segments.

The evaluation of the inherent loss with respect to these conditions is subject to a higher degree of uncertainty because they are not identified with specific problem credits or portfolio segments.

The conditions evaluated in connection with the second element of the analysis of the allowance include, but are not limited to the following conditions that existed as of the balance sheet date:

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(1) economic conditions in the Central Valley;

(2) the long-term risks associated with the availability of water in the Central Valley.

and (2) the long-term risks associated with the availability of water in the Central Valley.

Management reviews all of these conditions in discussion with the Company’s senior credit officers.

To the extent that any of these conditions is evidenced by a specifically identifiable impaired credit or

portfolio segment as of the evaluation date, management’s estimate of the effect of such condition may be reflected as a specific allowance applicable to such credit or portfolio segment.

Where any of these conditions is not evidenced by a

specifically identifiable impaired credit or portfolio segment as of the evaluation date, management’s evaluation of the inherent loss related to such condition is reflected in the second element of the allowance or in the unallocated allowance.

To the extent that any of these conditions is evidenced by a specifically identifiable impaired credit or portfolio segment as of the evaluation date, management’s estimate of the effect of such condition may be reflected as a specific allowance applicable to such credit or portfolio segment.

Where any of these conditions is not evidenced by a specifically identifiable impaired credit or portfolio segment as of the evaluation date, management’s evaluation of the inherent loss related to such condition is reflected in the second element of the allowance or in the unallocated allowance.

Management believes, that based upon the preceding methodology, and using information currently available, the allowance for credit losses at December 31, 2020 was adequate.

No assurances can be given that future

events may not result in increases in delinquencies, non-performing loans & leases, or net loan & lease charge-offs that would require increases in the provision for credit losses and thereby adversely affect the results of operations.

No assurances can be given that future events may not result in increases in delinquencies, non-performing loans & leases, or net loan & lease charge-offs that would require increases in the provision for credit losses and thereby adversely affect the results of operations.

Interest Rate Risk

The mismatch between maturities of interest sensitive assets and liabilities results in uncertainty in the Company’s earnings and economic value and is referred to as interest rate risk.

The Company does not

attempt to predict interest rates and positions the balance sheet in a manner, which seeks to minimize, to the extent possible, the effects of changing interest rates.

The Company does not attempt to predict interest rates and positions the balance sheet in a manner, which seeks to minimize, to the extent possible, the effects of changing interest rates.

The Company measures interest rate risk in terms of potential impact on both its economic value and earnings.

The methods for governing the amount of interest rate risk include:

(1) analysis of asset and liability

mismatches (Gap analysis);

(1) analysis of asset and liability mismatches (Gap analysis);

(2) the utilization of a simulation model;

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The Gap analysis measures, at specific time intervals, the divergence between earning assets and interest bearing liabilities for which repricing opportunities will occur.

A positive difference, or Gap, indicates

that earning assets will reprice faster than interest-bearing liabilities.

This will generally produce a greater net interest margin during periods of rising interest rates and a lower net interest margin during periods of declining interest

A positive difference, or Gap, indicates that earning assets will reprice faster than interest-bearing liabilities.

This will generally produce a greater net interest margin during periods of rising interest rates and a lower net interest margin during periods of declining interest rates.

Conversely, a negative Gap will generally produce a lower net interest margin during periods of rising interest rates and a greater net interest margin during periods of decreasing interest rates.

The interest rates paid on deposit accounts do not always move in unison with the rates charged on loans & leases.

In addition, the magnitude of changes in the rates charged on loans & leases is not always

proportionate to the magnitude of changes in the rate paid for deposits.

Consequently, changes in interest rates do not necessarily result in an increase or decrease in the net interest margin solely as a result of the differences between

repricing opportunities of earning assets or interest bearing liabilities.

In addition, the magnitude of changes in the rates charged on loans & leases is not always proportionate to the magnitude of changes in the rate paid for deposits.

Consequently, changes in interest rates do not necessarily result in an increase or decrease in the net interest margin solely as a result of the differences between repricing opportunities of earning assets or interest bearing liabilities.

The Company also utilizes the results of a dynamic simulation model to quantify the estimated exposure of net interest income to sustained interest rate changes.

The sensitivity of the Company’s net interest income

is measured over a rolling one-year horizon.

The simulation model estimates the impact of changing interest rates on interest income from all interest earning assets and the interest expense paid on all interest bearing liabilities reflected on the Company’s

balance sheet.

This sensitivity analysis is compared to policy limits, which specify a maximum tolerance level for net interest income exposure over a one-year horizon assuming no balance sheet growth, given a 200 basis point upward and a 100

basis point downward shift in interest rates.

The sensitivity of the Company’s net interest income is measured over a rolling one-year horizon.

A shift in rates over a 12-month period is assumed.

Results that exceed policy limits, if any, are analyzed for risk tolerance and reported to the Board with appropriate recommendations.

31, 2019, the Company’s estimated net interest income sensitivity to changes in interest rates, as a percent of net interest income was an increase in net interest income of 2.0% if rates increase by 200 basis points and a decrease in net

interest income of 2.0% if rates decline 100 basis points.

At December 31, 2020, the Company’s estimated net interest income sensitivity to changes in interest rates, as a percent of net interest income was a slight decrease in net interest income of .03% if rates increase by 200 basis points and a decrease in net interest income of 0.2% if rates decline 100 basis points.

The estimated sensitivity does not necessarily represent a Company forecast and the results may not be indicative of actual changes to the Company’s net interest income.

These estimates are based upon a number of

assumptions including:

These estimates are based upon a number of assumptions including:

the nature and timing of interest rate levels including yield curve shape;

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pricing strategies on loans & leases and deposits;

replacement of asset and liability cash

replacement of asset and liability cash flows;

and other assumptions.

While the assumptions used are based on current economic and local market conditions, there is no assurance as to the predictive nature of these conditions including how customer preferences or competitor influences

might change.

Liquidity Risk

Liquidity risk is the risk to earnings or capital resulting from the Company’s inability to meet its obligations when they come due without incurring unacceptable losses.

It includes the ability to manage unplanned

decreases or changes in funding sources and to recognize or address changes in market conditions that affect the Company’s ability to liquidate assets or acquire funds quickly and with minimum loss of value.

The Company endeavors to maintain a

cash flow adequate to fund operations, handle fluctuations in deposit levels, respond to the credit needs of borrowers, and to take advantage of investment opportunities as they arise.

It includes the ability to manage unplanned decreases or changes in funding sources and to recognize or address changes in market conditions that affect the Company’s ability to liquidate assets or acquire funds quickly and with minimum loss of value.

The Company endeavors to maintain a cash flow adequate to fund operations, handle fluctuations in deposit levels, respond to the credit needs of borrowers, and to take advantage of investment opportunities as they arise.

The Company’s principal operating sources of liquidity include (see “Item 8.

Financial Statements and Supplementary Data – Consolidated Statements of Cash Flows”) cash and cash equivalents, cash provided by

operating activities, principal payments on loans & leases, proceeds from the maturity or sale of investments, and growth in deposits.

To supplement these operating sources of funds the Company maintains Federal Funds credit lines of $78

million and repurchase lines of $112 million with major banks.

Financial Statements and Supplementary Data – Consolidated Statements of Cash Flows”) cash and cash equivalents, cash provided by operating activities, principal payments on loans & leases, proceeds from the maturity or sale of investments, and growth in deposits.

To supplement these operating sources of funds the Company maintains Federal Funds credit lines of $118 million and repurchase lines of $112 million with major banks.

As of December 31, 2020, the Company has additional borrowing capacity of $630.5 million with the Federal Home Loan Bank and $438 million with the Federal Reserve Bank.

under these lines are collateralized with loans or securities that have been accepted for pledging at the FHLB and FRB.

At December 31, 2019, the Company had available sources of liquidity, which included cash and cash equivalents and unpledged investment securities available-for-sale of approximately $407.9 million, which

represents 11% of total assets.

Financial Statements and Supplementary Data

INDEX TO CONSOLIDATED FINANCIAL STATEMENTS

AND FINANCIAL STATEMENT SCHEDULES

Report of Management on Internal Control Over Financial Reporting

Report of Independent Registered Public Accounting Firm

Consolidated Financial Statements

Consolidated Balance Sheets – December 31, 2019, and 2018

Consolidated Statements of Income – Years ended December 31, 2019, 2018 and 2017

Consolidated Statements of Comprehensive Income – Years Ended December 31, 2019, 2018 and 2017

Consolidated Statements of Changes in Shareholders’ Equity – Years ended December 31, 2019, 2018 and 2017

Consolidated Statements of Cash Flows - Years Ended December 31, 2019, 2018 and 2017

Notes to Consolidated Financial Statements

Farmers & Merchants Bancorp

Report of Management on Internal Control Over Financial Reporting

Management of Farmers & Merchants Bancorp and Subsidiaries (the “Company”) is responsible for establishing and maintaining adequate internal control over financial reporting as defined in Rules 13a-15(f) and

15d-15(f) under the Securities Exchange Act of 1934, and for performing an assessment of the effectiveness of internal control over financial reporting as of December 31, 2019.

The Company’s internal control over financial reporting is a process

designed under the supervision of the Company’s management, including the Chief Executive Officer and Chief Financial Officer, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial

statements for external purposes in accordance with accounting principles generally accepted in the United States.

The Company’s system of internal control over financial reporting includes policies and procedures that (i) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect

transactions and dispositions of assets of the Company;

(ii) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with accounting principles generally accepted in the

United States, and that receipts and expenditures of the Company are being made only in accordance with authorizations of management and directors of the Company;

and (iii) provide reasonable assurance regarding prevention or timely detection of

unauthorized acquisition, use or disposition of the Company’s assets that could have a material effect on the financial statements.

Management recognizes that there are inherent limitations in the effectiveness of any system of internal control, and accordingly, even effective internal control can provide only reasonable assurance with respect

to financial statement preparation and fair presentation.

Further, because of changes in conditions, the effectiveness of internal control may vary over time.

Under the supervision and with the participation of the Company’s management, including the Company’s Chief Executive Officer and Chief Financial Officer, the Company performed an assessment of the effectiveness of

the Company’s internal control over financial reporting as of December 31, 2019 as described in “Internal Control-Integrated Framework (2013)” issued by the Committee of Sponsoring Organizations of the Treadway

As a result of this assessment, management has concluded that the Company’s internal control over financial reporting was effective as of December 31, 2019.

Moss Adams LLP, the independent registered public accounting firm that audited the financial statements included in this Annual Report, was engaged to express an opinion as to the fairness of

presentation of such financial statements.

Moss Adams LLP was also engaged to audit the effectiveness of the Company’s internal control over financial reporting.

The report of Moss Adams LLP follows this report.

Chairman, President & Chief Executive Officer

Executive Vice President & Chief Financial Officer

Report of Independent Registered Public Accounting Firm

To the Shareholders and the Board of Directors

Farmers & Merchants Bancorp

Opinions on the Financial Statements and Internal Control over Financial Reporting

We have audited the accompanying consolidated balance sheets of Farmers & Merchants Bancorp and subsidiaries (the “Company”) as

of December 31, 2019 and 2018 , the related consolidated statements of income, comprehensive income, changes in shareholders’

equity and cash flows for each of the three years in the period ended December 31, 2019 , and the related notes (collectively referred to as the “consolidated financial statements”).

audited the Company’s internal control over financial reporting as of December 31, 2019 , based on criteria established in Internal Control - Integrated Framework 2013

issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO).

In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the consolidated financial position of the Company as of December 31, 2019 and 2018 , and the consolidated results of its operations and its cash flows for each of the three years in the period ended December 31, 2019 , in conformity with accounting principles generally accepted in the United States of America.

Also in our opinion, the Company maintained, in all material respects, effective internal control over financial

reporting as of December 31, 2019 , based on criteria established in Internal Control - Integrated Framework 2013 issued by COSO.

Basis for Opinions

The Company’s management is responsible for these consolidated financial statements, for maintaining effective internal control over financial reporting, and for its

assessment of the effectiveness of internal control over financial reporting, included in the accompanying Report of Management on Internal Control over Financial Reporting included in Item 8 .

responsibility is to express an opinion on the Company’s consolidated financial statements and an opinion on the Company’s internal control over financial reporting based on our audits.

We are a public accounting firm registered with the Public Company Accounting Oversight Board (United States) (“PCAOB”) and are required to be independent with respect to the Company in accordance with the U.S.

securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.

We conducted our audits in accordance with the standards of the PCAOB.

Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the consolidated

financial statements are free of material misstatement, whether due to error or fraud, and whether effective internal control over financial reporting was maintained in all material respects.

Our audits of the consolidated financial statements included performing procedures to assess the risks of material misstatement of the consolidated financial statements, whether due to error or fraud, and performing procedures to respond to those risks.

Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the consolidated financial statements.

Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the consolidated financial statements.

Our audit of internal control over financial reporting included obtaining an understanding of internal control over financial reporting, assessing the risk that a material

weakness exists, and testing and evaluating the design and operating effectiveness of internal control based on the assessed risk.

Our audits also included performing such other procedures as we considered necessary in the circumstances.

believe that our audits provide a reasonable basis for our opinions.

Definition and Limitations of Internal Control Over Financial Reporting

A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external

purposes in accordance with generally accepted accounting principles.

A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail,

accurately and fairly reflect the transactions and dispositions of the assets of the Company;

(2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally

accepted accounting principles, and that receipts and expenditures of the Company are being made only in accordance with authorizations of management and directors of the company;

and (3) provide reasonable assurance regarding prevention or

timely detection of unauthorized acquisition, use, or disposition of the Company’s assets that could have a material effect on the consolidated financial statements.

Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements.

Also, projections of any evaluation of effectiveness to future periods are subject to the risk

that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

San Francisco, California

March 13, 2020

We have served as the Company’s auditor since 2013.

Farmers & Merchants Bancorp

Consolidated Balance Sheets

(in thousands except share and per share data)

Cash and Cash Equivalents:

Cash and Due from Banks

Interest Bearing Deposits with Banks

Total Cash and Cash Equivalents

Investment Securities:

Available-for-Sale

Held-to-Maturity

Total Investment Securities

Loans & Leases:

Allowance for Credit Losses

Loans& Leases, Net

Premises and Equipment, Net

Bank Owned Life Insurance, Net

Interest Receivable and Other Assets

Interest-Bearing Transaction

Savings and Money Market

Total Deposits

Subordinated Debentures

Interest Payable and Other Liabilities

Total Liabilities

Commitments & Contingencies (See Note 18)

Shareholders’ Equity

Preferred Stock:

No Par Value, 1,000,000 Shares Authorized, None Issued or Outstanding

Common Stock:

Par Value $0.01, 7,500,000 Shares Authorized, 793,033 and 783,721

Shares Issued and Outstanding at December 31, 2019 and 2018, respectively.

Additional Paid-In Capital

Retained Earnings

Accumulated Other Comprehensive Income (Loss)

Total Shareholders’ Equity

Total Liabilities and Shareholders’ Equity

The accompanying notes are an integral part of these consolidated financial statements

Farmers & Merchants Bancorp

Consolidated Statements of Income

(in thousands except per share data)

Year Ended December 31,

Interest Income

Interest and Fees on Loans & Leases

Interest on Deposits with Banks

Interest on Investment Securities:

Exempt from Federal Tax

Total Interest Income

Interest Expense

Borrowed Funds

Subordinated Debentures

Total Interest Expense

Net Interest Income

Provision for Credit Losses

Net Interest Income After Provision for Credit Losses

Non-Interest Income

Service Charges on Deposit Accounts

Net Gain (Loss) on Investment Securities

Increase in Cash Surrender Value of Life Insurance

Debit Card and ATM Fees

Net Gain on Deferred Compensation Investments

Total Non-Interest Income

Non-Interest Expense

Salaries and Employee Benefits

Net Gain on Deferred Compensation Investments

FDIC Insurance

Gain on Sale of ORE

Acquisition Expenses

Total Non-Interest Expense

Income Before Income Taxes

Provision for Income Taxes

Basic and Diluted Earnings Per Common Share

The accompanying notes are an integral part of these consolidated financial statements

FARMERS & MERCHANTS BANCORP

Consolidated Statements of Comprehensive Income

(in thousands)

Year Ended December 31,

Other Comprehensive Loss

Net Unrealized Gain (Loss) on Available-for-Sale Securities

Deferred Tax Benefit Related to Unrealized (Gain) Losses

Reclassification Adjustment for Realized (Gain) Loss on Available-for-Sale Securities Included in Net Income

Tax (Benefit) Expense Related to Reclassification Adjustment

Change in Net Unrealized Gain (Loss) on Available-for-Sale Securities, Net of Tax

Total Other Comprehensive Income (Loss)

Comprehensive Income

The accompanying notes are an integral part of these consolidated financial statements

Farmers & Merchants Bancorp

Consolidated Statements of Changes in Shareholders’ Equity

(in thousands except share and per share data)

Comprehensive

(Loss) Income

Shareholders’

Balance, January 1, 2017

Cash Dividends Declared on Common Stock ($13.55 per share)

Issuance of Common Stock

Tax Adjustment of Available-for-Sale Securities Reclassed from AOCI

Change in Net Unrealized Loss on Securities Available-for-Sale

Balance, December 31, 2017

Cash Dividends Declared on Common Stock ($13.90 per share)

Repurchase of Common Stock

Issuance of Common Stock

Change in Net Unrealized Loss on Securities Available-for-Sale

Balance, December 31, 2018

Cash Dividends Declared on Common Stock ($14.20 per share)

Issuance of Common Stock

Change in Net Unrealized Gain on Securities Available-for-Sale

Balance, December 31, 2019

The accompanying notes are an integral part of these consolidated financial statements

Farmers & Merchants Bancorp

Consolidated Statements of Cash Flows

(in thousands)

Year Ended December 31,

Operating Activities

Adjustments to Reconcile Net Income to Net Cash Provided by Operating Activities:

Provision for Credit Losses

Depreciation and Amortization

(Benefit) Provision for Deferred Income Taxes

Net Amortization of Investment Security Premium & Discounts

Amortization of Core Deposit Intangible

Accretion of Discount on Acquired Loans

Net (Gain) Loss on Investment Securities

Net Loss (Gain) on Sale of Property & Equipment

Net Gain on sale of ORE

Earnings from Equity Investment

Dividends from Equity Investment

Gain on Remeasurement of Previously Held Equity Investment

Net Change in Operating Assets & Liabilities:

Net Decrease (Increase) in Interest Receivable and Other Assets

Net Increase (Decrease) in Interest Payable and Other Liabilities

Net Cash Provided by Operating Activities

Investing Activities

Purchase of Investment Securities Available-for-Sale

Proceeds from Sold, Matured, or Called Securities Available-for-Sale

Purchase of Investment Securities Held-to-Maturity

Proceeds from Matured, or Called Securities Held-to-Maturity

Net Loans & Leases Paid, Originated or Acquired

Principal Collected on Loans & Leases Previously Charged Off

Cash Paid for Acquisition, Net

Additions to Premises and Equipment

Purchase of Other Investment

Proceeds from Sale of Property & Equipment

Proceeds from Sale of ORE

Net Cash Used in Investing Activities

Financing Activities

Net Increase in Deposits

Stock Repurchases

Cash Dividends

Net Cash Provided by Financing Activities

Net Change in Cash and Cash Equivalents

Cash and Cash Equivalents at Beginning of Year

Cash and Cash Equivalents at End of Year

Supplementary Data

Cash Payments Made for Income Taxes

Issuance of Common Stock to the Bank’s Non-Qualified Retirement Plans

Interest Paid

Supplementary Noncash Disclosure

Lease Liabilities Arising from Obtaining Right-of-Use Assets

Acquisitions:

Fair Value of Assets Acquired

Fair Value of Liabilities Acquired

The accompanying notes are an integral part of these consolidated financial statements

Notes to Consolidated Financial Statements

Significant Accounting Policies

Farmers & Merchants Bancorp (the “Company”) was organized March 10, 1999.

Primary operations are related to traditional banking activities through its subsidiary Farmers & Merchants Bank of Central

California (the “Bank”) which was established in 1916.

The Bank’s wholly owned subsidiaries include Farmers & Merchants Investment Corporation and Farmers/Merchants Corp.

Farmers & Merchants Investment Corporation has been dormant since

Farmers/Merchants Corp.

acts as trustee on deeds of trust originated by the Bank.

The Company’s other wholly owned subsidiaries include F & M Bancorp, Inc.

and FMCB Statutory Trust I.

F & M Bancorp, Inc.

was created in March 2002 to protect the name F & M Bank.

During 2002, the

Company completed a fictitious name filing in California to begin using the streamlined name “F & M Bank” as part of a larger effort to enhance the Company’s image and build brand name recognition.

In December 2003, the Company formed a

wholly owned subsidiary, FMCB Statutory Trust I, for the sole purpose of issuing Trust Preferred Securities and related subordinated debentures, in accordance with generally accepted accounting principles in the United States (“U.S.

Statutory Trust I is a non-consolidated subsidiary.

On October 10, 2018, Farmers & Merchants Bancorp completed the acquisition of the Bank of Rio Vista, headquartered in Rio Vista, California, a locally owned and operated community bank established in 1904.

of the acquisition date, Bank of Rio Vista had approximately $217.5 million in assets and three branch locations in the communities of Rio Vista, Walnut Grove, and Lodi.

Since the Company had a 39.65% interest in Bank of Rio Vista prior to the

acquisition of the remaining interest, the transaction was accounted for as a business combination achieved in stages or a step acquisition.

The Company, through an independent valuation, remeasured its previously held equity interest in Bank of

Rio Vista at fair value, which resulted in a gain for the excess of the acquisition-date fair value over its carrying value of $997,000 which is included in other non-interest income in the consolidated statements of income.

At the effective time

of the acquisition, Bank of Rio Vista was merged into Farmers & Merchants Bank of Central California.

The accounting and reporting policies of the Company conform to U.S.

GAAP and prevailing practice within the banking industry.

The following is a summary of the significant accounting and reporting policies used in

preparing the consolidated financial statements.

Basis of Presentation

The accompanying consolidated financial statements and notes thereto have been prepared in accordance with accounting principles generally accepted in the United States of America for financial information.

The accompanying consolidated financial statements include the accounts of the Company and the Company’s wholly owned subsidiaries, F & M Bancorp, Inc.

and the Bank, along with the Bank’s wholly owned

subsidiaries, Farmers & Merchants Investment Corporation and Farmers/Merchants Corp.

Significant inter-company transactions have been eliminated in consolidation.

The preparation of consolidated financial statements in conformity with U.S.

GAAP requires management to make estimates and assumptions.

These estimates and assumptions affect the reported amounts of assets and

liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period.

Actual results could differ from these estimates.

Certain amounts in the prior years’ financial statements and related footnote disclosures have been reclassified to conform to the current-year presentation.

These reclassifications had no effect on previously

reported net income or total shareholders’ equity.

New Accounting Changes

The FASB issued guidance in February 2016, with amendments in 2018 and 2019, which changed the accounting for leases.

The guidance requires lessees to recognize right-of-use (ROU) assets and lease liabilities for

most leases where we are the lessee in the Consolidated Balance Sheets.

The guidance also made some changes to lessor accounting, including the elimination of the use of third-party residual value guarantee insurance in the lease classification

test, and overall aligns with the new revenue recognition guidance.

The guidance also requires qualitative and quantitative disclosures to assess the amount, timing and uncertainty of cash flows arising from leases.

2016-02 provides for a modified retrospective transition approach requiring lessees to recognize and measure leases on the consolidated balance sheet at the beginning of either the earliest period presented or as of the beginning of the period of

adoption with the option to elect certain practical expedients.

The Company elected the package of practical expedients not to reassess prior conclusions related to contracts containing leases, lease classification and initial direct costs

From a lessor perspective, the changes in lease termination guidance, IDC and removal of third-party residual value guarantee insurance in the lease classification test did not have a material impact on the consolidated financial

We adopted ASU No.

2016-02 Leases (Topic 842) , as of January 1, 2019, using the cumulative effect transition approach.

The cumulative effect transition approach provides a method for recording

existing leases at adoption and not restated comparative periods;

rather the effect of the change is recorded at the beginning of the year of adoption.

The Company elected the ASU’s package of three practical expedients, which allowed the

Company to forego a reassessment of (i) whether any expired or existing contracts contain leases, (ii) the lease classification for any expired or existing leases and (iii) the initial direct costs for any existing leases.

The Company elected the option not to separate lease and non-lease components and instead to account for them as a single lease component and the hindsight practical expedient, which allows entities to use hindsight when determining

lease term and impairment of right-of-use assets.

The Company has several lease agreements, such as branch locations, which are considered operating leases, and therefore, were not previously recognized on the Company’s consolidated statements

of condition.

The new guidance requires these lease agreements to be recognized as a right-of-use asset and corresponding lease liability.

Our operating leases relate primarily to office space and bank branches.

As a result of implementing ASU 2016-02, we recognized an operating lease right-of-use (“ROU”) asset of $4.73 million and an operating lease

liability of $4.73 million on January 1, 2019, with no impact on our consolidated statement of income or consolidated statement of cash flows compared to the prior lease accounting model.

The ROU asset and operating lease liability are recorded

in other assets and other liabilities, respectively, in the consolidated balance sheets.

See Note 19 – “Leases” for additional information.

Out of Period Adjustment

During the quarter ended September 30, 2018, while preparing 2017 tax returns, the Company identified certain items related to IRS Code Section 162(m) that were not appropriately reflected in the 2014 through 2017

Provision for Income Taxes.

To reflect this change, the cumulative impact of $990,000 was recognized by reducing the Company’s Provision for Income Taxes in the third quarter of 2018.

After evaluating the quantitative and qualitative aspects of

the adjustment, the Company concluded that its 2017 financial statements were not materially misstated and, therefore, no restatement was required.

Revenue from Contracts with Customers

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.

The Company elected to use the

modified retrospective transition method which requires application of ASU 2014-09 to uncompleted contracts at the date of adoption however, periods prior to the date of adoption will not be retrospectively revised, as the impact of the ASU on

uncompleted contracts at the date of adoption was not material.

The Company’s primary sources of revenue are derived from interest and dividends earned on loans, investment securities, and other financial instruments that are not within the scope of Topic

The Company has evaluated the nature of its contracts with customers and determined that further disaggregation of revenue from contracts with customers into more granular categories beyond what is presented in the Consolidated Statements of

Income was not necessary.

The Company generally fully satisfies its performance obligations on its contracts with customers as services are rendered and the transaction prices are typically fixed;

charged either on a periodic basis or based on

Because performance obligations are satisfied as services are rendered and the transaction prices are fixed, there is limited judgment involved in applying Topic 606 that significantly affects the determination of the amount and timing

of revenue from contracts with customers.

Cash and Cash Equivalents

For purposes of the Consolidated Statements of Cash Flows, the Company has defined cash and cash equivalents as those amounts included in the balance sheet captions Cash and Due from Banks, Interest Bearing

Deposits with Banks and Federal Funds Sold, which have original maturity dates of 3 months or less.

For these instruments, the carrying amount is a reasonable estimate of fair value.

Investment Securities

Investment securities are classified at the time of purchase as held-to-maturity (“HTM”) if it is management’s intent and the Company has the ability to hold the securities until maturity.

These securities are

carried at cost, adjusted for amortization of premium and accretion of discount using a level yield of interest over the estimated remaining period until maturity.

Losses, reflecting a decline in value judged by the Company to be other than

temporary, are recognized in the period in which they occur.

Securities are classified as available-for-sale (“AFS”) if it is management’s intent, at the time of purchase, to hold the securities for an indefinite period of time and/or to use the securities as part of the

Company’s asset/liability management strategy.

These securities are reported at fair value with aggregate unrealized gains or losses excluded from income and included as a separate component of shareholders’ equity, net of related income taxes.

Fair values are based on quoted market prices or broker/dealer price quotations on a specific identification basis.

Gains or losses on the sale of these securities are computed using the specific identification method.

Trading securities, if any, are acquired for short-term appreciation and are recorded in a trading portfolio and are carried at fair value, with unrealized gains and losses recorded in non-interest income.

Management evaluates securities for other-than-temporary impairment (“OTTI”) on at least a quarterly basis, and more frequently when economic or market conditions warrant such an evaluation.

For securities in an

unrealized loss position, management considers the extent and duration of the unrealized loss, and the financial condition and near-term prospects of the issuer.

Management also assesses whether it intends to sell, or it is more likely than not

that it will be required to sell, a security in an unrealized loss position before recovery of its amortized cost basis.

If either of the criteria regarding intent or requirement to sell is met, the entire difference between amortized cost and

fair value is recognized as impairment through earnings.

For debt securities that do not meet the aforementioned criteria, the amount of impairment is split into two components as follows:

(1) OTTI related to credit loss, which must be recognized

in the income statement;

and (2) OTTI related to other factors, which is recognized in other comprehensive income.

The credit loss is defined as the difference between the present value of the cash flows expected to be collected and the amortized

For equity securities, the entire amount of a market adjustment is recognized through earnings.

Loans & Leases

Loans & leases are reported at the principal amount outstanding net of unearned discounts and deferred loan & lease fees and costs.

Interest income on loans & leases is accrued daily on the outstanding

balances using the simple interest method.

Loan & lease origination fees are deferred and recognized over the contractual life of the loan or lease as an adjustment to the yield.

Loans & leases are placed on non-accrual status when the

collection of principal or interest is in doubt or when they become past due for 90 days or more unless they are both well-secured and in the process of collection.

For this purpose, a loan or lease is considered well-secured if it is

collateralized by property having a net realizable value in excess of the amount of the loan or lease or is guaranteed by a financially capable party.

When a loan or lease is placed on non-accrual status, the accrued and unpaid interest

receivable is reversed and charged against current income;

thereafter, interest income is recognized only as it is collected in cash.

Additionally, cash would be applied to principal if all principal was not expected to be collected.

leases placed on non-accrual status are returned to accrual status when the loans or leases are paid current as to principal and interest and future payments are expected to be made in accordance with the contractual terms of the loan or lease.

A loan or lease is considered impaired when, based on current information and events, it is probable that the Company will be unable to collect all amounts due, including principal and interest, according to the

contractual terms of the original agreement.

Impaired loans & leases are either:

(1) non-accrual loans & leases;

or (2) restructured loans & leases that are still accruing interest.

Loans or leases determined to be impaired are

individually evaluated for impairment.

When a loan or lease is impaired, the Company measures impairment based on the present value of expected future cash flows discounted at the loan or lease’s effective interest rate, except that as a

practical expedient, it may measure impairment based on a loan or lease’s observable market price, or the fair value of the collateral if the loan or lease is collateral dependent.

A loan or lease is collateral dependent if the repayment of the

loan or lease is expected to be provided solely by the underlying collateral.

A restructuring of a loan or lease constitutes a troubled debt restructuring (TDR) if the Company for economic or legal reasons related to the borrower’s (the term “borrower” is used herein to describe a customer

who has entered into either a loan or lease transaction) financial difficulties grants a concession to the borrower that it would not otherwise consider.

Restructured loans & leases typically present an elevated level of credit risk as the

borrowers are not able to perform according to the original contractual terms.

If the restructured loan or lease was current on all payments at the time of restructure and management reasonably expects the borrower will continue to perform after

the restructure, management may keep the loan or lease on accrual.

Loans & leases that are on nonaccrual status at the time they become TDR, remain on 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.

A loan or lease can be removed from TDR status if it was restructured at a market rate in a prior calendar year and is currently in compliance with its

modified terms.

However, these loans or leases continue to be classified as impaired and are individually evaluated for impairment as described above.

Generally, the Company will not restructure loans or leases for borrowers unless:

(1) the existing loan or lease is brought current as to principal and interest payments;

and (2) the restructured loan or lease can

be underwritten to reasonable underwriting standards.

If these standards are not met other actions will be pursued (e.g., foreclosure) to collect outstanding loan or lease amounts.

After restructure, a determination is made whether the loan or

lease will be kept on accrual status based upon the underwriting and historical performance of the restructured credit.

Allowance for Credit Losses

The allowance for credit losses is an estimate of probable incurred credit losses inherent in the Company’s loan & lease portfolio as of the balance sheet date.

The allowance is established through a provision

for credit losses, which is charged to expense.

Additions to the allowance are expected to maintain the adequacy of the total allowance after credit losses and loan & lease growth.

Credit exposures determined to be uncollectible are charged

against the allowance.

Cash received on previously charged off amounts is recorded as a recovery to the allowance.

The overall allowance consists of three primary components:

specific reserves related to impaired loans & leases;

reserves for inherent losses related to loans & leases that are not impaired;

and an unallocated component that takes into account the imprecision in estimating and allocating allowance balances associated with macro factors.

The determination of the general reserve for loans & leases that are collectively evaluated for impairment is based on estimates made by management, to include, but not limited to, consideration of historical

losses by portfolio segment, internal asset classifications, qualitative factors that include economic trends in the Company’s service areas, industry experience and trends, geographic concentrations, estimated collateral values, the Company’s

underwriting policies, the character of the loan & lease portfolio, and probable losses inherent in the portfolio taken as a whole.

The Company maintains a separate allowance for each portfolio segment (loan & lease type).

These portfolio segments include:

(1) commercial real estate;

(2) agricultural real estate;

(3) real estate

construction (including land and development loans);

(4) residential 1 st mortgages;

(5) home equity lines and loans;

(6) agricultural;

(7) commercial;

and (9) equipment leases.

The allowance for credit losses attributable to each portfolio segment, which includes both individually evaluated impaired loans & leases and loans & leases that are collectively evaluated for

impairment, is combined to determine the Company’s overall allowance, which is included on the consolidated balance sheet.

The Company assigns a risk rating to all loans & leases and periodically performs detailed reviews of all such loans & leases over a certain threshold to identify credit risks and assess overall

collectability.

For smaller balance loans & leases, such as consumer and residential real estate, a credit grade is established at inception, and then updated only when the loan or lease becomes contractually delinquent or when the borrower

requests a modification.

For larger balance loans, management monitors and analyzes the financial condition of borrowers and guarantors, trends in the industries in which borrowers operate and the fair values of collateral securing these loans

These credit quality indicators are used to assign a risk rating to each individual loan or lease.

These risk ratings are also subject to examination by independent specialists engaged by the Company.

The risk ratings can be grouped

into five major categories, defined as follows:

Pass – A pass loan or lease is a strong credit with no existing or known potential weaknesses deserving of management’s close attention.

Special Mention – A special mention loan or lease has potential weaknesses that deserve management’s close attention.

If left uncorrected, these potential weaknesses may result in deterioration of the repayment

prospects for the loan or lease or in the Company’s credit position at some future date.

Special mention loans & leases are not adversely classified and do not expose the Company to sufficient risk to warrant adverse classification.

Substandard – A substandard loan or lease is not adequately protected by the current financial condition and paying capacity of the borrower or the value of the collateral pledged, if any.

Loans or leases

classified as substandard have a well-defined weakness or weaknesses that jeopardize the liquidation of the debt.

Well-defined weaknesses include a project’s lack of marketability, inadequate cash flow or collateral support, failure to complete

construction on time or the project’s failure to fulfill economic expectations.

They are characterized by the distinct possibility that the Company will sustain some loss if the deficiencies are not corrected.

Doubtful – Loans or leases classified doubtful have all the weaknesses inherent in those classified as substandard with the added characteristic that the weaknesses make

collection or liquidation in full, based on currently known facts, conditions and values, highly questionable or improbable.

Loss – Loans or leases classified as loss are considered uncollectible.

Once a loan or lease becomes delinquent and repayment becomes questionable, the Company will address collateral shortfalls with the borrower

and attempt to obtain additional collateral.

If this is not forthcoming and payment in full is unlikely, the Company will estimate its probable loss and immediately charge-off some or all of the balance.

The general reserve component of the allowance for credit losses also consists of reserve factors that are based on management’s assessment of the following for each portfolio segment:

(1) inherent credit risk;

historical losses;

and (3) other qualitative factors.

These reserve factors are inherently subjective and are driven by the repayment risk associated with each portfolio segment described below:

Commercial Real Estate – Commercial real estate mortgage loans are generally considered to possess a higher inherent risk of loss than the Company’s commercial, agricultural and consumer loan types.

economic developments or an overbuilt market impact commercial real estate projects and may result in troubled loans.

Trends in vacancy rates of commercial properties impact the credit quality of these loans.

High vacancy rates reduce operating

revenues and the ability for properties to produce sufficient cash flow to service debt obligations.

Real Estate Construction – Real estate construction loans, including land loans, are generally considered to possess a higher inherent risk of loss than the Company’s commercial, agricultural and consumer loan

A major risk arises from the necessity to complete projects within specified cost and time lines.

Trends in the construction industry significantly impact the credit quality of these loans, as demand drives construction activity.

addition, trends in real estate values significantly impact the credit quality of these loans, as property values determine the economic viability of construction projects.

Commercial – These loans are generally considered to possess a moderate inherent risk of loss because they are shorter-term;

typically made to relationship customers;

generally underwritten to existing cash flows

of operating businesses;

and may be collateralized by fixed assets, inventory and/or accounts receivable.

Debt coverage is provided by business cash flows and economic trends influenced by unemployment rates and other key economic indicators are

closely correlated to the credit quality of these loans.

Agricultural Real Estate and Agricultural – These loans are generally considered to possess a moderate inherent risk of loss since they are typically made to relationship customers and are secured by crop

production, livestock and related real estate.

These loans are vulnerable to two risk factors that are largely outside the control of Company and borrowers:

commodity prices and weather conditions.

Leases – Equipment leases are generally considered to possess a moderate inherent risk of loss.

As lessor, the Company is subject to both the credit risk of the borrower and the residual value risk of the

Credit risks are underwritten using the same credit criteria the Company would use when making an equipment term loan.

Residual value risk is managed through the use of qualified, independent appraisers that establish the residual

values the Company uses in structuring a lease.

Residential 1st Mortgages and Home Equity Lines and Loans – These loans are generally considered to possess a lower inherent risk of loss.

The degree of risk in residential real estate lending depends primarily on

the loan amount in relation to collateral value, the interest rate and the borrower’s ability to repay in an orderly fashion.

Economic trends determined by unemployment rates and other key economic indicators are closely correlated to the credit

quality of these loans.

Weak economic trends indicate that the borrowers’ capacity to repay their obligations may be deteriorating.

Consumer & Other – A consumer installment loan portfolio is usually comprised of a large number of small loans scheduled to be amortized over a specific period.

Most installment loans are made for consumer

Economic trends determined by unemployment rates and other key economic indicators are closely correlated to the credit quality of these loans.

Weak economic trends indicate that the borrowers’ capacity to repay their obligations may

be deteriorating.

At least quarterly, the Board of Directors reviews the adequacy of the allowance, including consideration of the relative risks in the portfolio, current economic conditions and other factors.

If the Board of

Directors and management determine that changes are warranted based on those reviews, the allowance is adjusted.

In addition, the Company’s and Bank’s regulators, including the Federal Reserve Board (“FRB”), the California Department of Business

Oversight (“DBO”) and the Federal Deposit Insurance Corporation (“FDIC”), as an integral part of their examination process, review the adequacy of the allowance.

These regulatory agencies may require additions to the allowance based on their

judgment about information available at the time of their examinations.

Acquired Loans

Loans acquired through purchase or through a business combination are recorded at their fair value at the acquisition date.

Credit discounts, which reflect estimates of credit losses, expected to be incurred over

the life of the loan, are included in the determination of fair value;

therefore, an allowance for loan losses is not recorded at the acquisition date.

Allowance for Credit Losses on Off-Balance-Sheet Credit Exposures

The Company also maintains a separate allowance for off-balance-sheet commitments.

Management estimates anticipated losses using historical data and utilization assumptions.

The allowance for off-balance-sheet

commitments is included in Interest Payable and Other Liabilities on the Company’s Consolidated Balance Sheet.

Premises and Equipment

Premises, equipment, and leasehold improvements are stated at cost, less accumulated depreciation and amortization.

Depreciation is computed principally by the straight-line method over the estimated useful lives

of the assets.

Estimated useful lives of buildings range from 30 to 40 years, and for furniture and equipment from 3 to 7 years.

Leasehold improvements are amortized over the lesser of the terms of the respective leases, or their useful lives,

which are generally 5 to 10 years.

Remodeling and capital improvements are capitalized while maintenance and repairs are charged directly to occupancy expense.

Other Real Estate

Other real estate, which is included in other assets, is expected to be sold and is comprised of properties no longer utilized for business operations and property acquired through foreclosure in satisfaction of

indebtedness.

These properties are recorded at fair value less estimated selling costs upon acquisition.

Revised estimates to the fair value less cost to sell are reported as adjustments to the carrying amount of the asset, provided that such

adjusted value is not in excess of the carrying amount at acquisition.

Initial losses on properties acquired through full or partial satisfaction of debt are treated as credit losses and charged to the allowance for credit losses at the time of

Subsequent declines in value from the recorded amounts, routine holding costs, and gains or losses upon disposition, if any, are included in non-interest expense as incurred.

The Company uses the liability method of accounting for income taxes.

This method results in the recognition of deferred tax assets and liabilities that are reflected at currently enacted income tax rates

applicable to the period in which the deferred tax assets or liabilities are expected to be realized or settled.

As changes in tax laws or rates are enacted, deferred tax assets and liabilities are adjusted through the provision for income taxes.

The deferred provision for income taxes is the result of the net change in the deferred tax asset and deferred tax liability balances during the year.

This amount combined with the current taxes payable or refundable results in the income tax

expense for the current year.

The Company follows the standards set forth in the “Income Taxes” topic of the Financial Accounting Standards Board (“FASB”) Accounting Standard Codification (“ASC”), which clarifies the

accounting for uncertainty in income taxes recognized in an enterprise’s financial statements.

This standard prescribes a recognition threshold and measurement standard for the financial statement recognition and measurement of an income tax

position taken or expected to be taken in a tax return.

It also provides guidance on derecognition, classification, interest and penalties, accounting in interim periods, disclosure, and transition.

The Company accounts for leases with Investment Tax Credits (ITC) under the deferred method as established in ASC 740-10.

ITC are viewed and accounted for as a reduction of the cost of the related assets and

presented as deferred income on the Company’s financial statement.

The Company accounts for its interest in LIHTC using the cost method as established in ASC 323-740.

As an investor, the Company obtains income tax credits and deductions from the operating losses of these tax

credit entities.

The income tax credits and deductions are allocated to the investors based on their ownership percentages and are recorded as a reduction of income tax expense (or an increase to income tax benefit) and a reduction of federal

income taxes payable.

When tax returns are filed, it is highly certain that some positions taken would be sustained upon examination by the taxing authorities, while others are subject to uncertainty about the

merits of the position taken or the amount of the position that would be ultimately sustained.

The benefit of a tax position is recognized in the financial statements in the period during which, based on all available evidence, management

believes it is more likely than not that the position will be sustained upon examination, including the resolution of appeals or litigation processes, if any.

Tax positions taken are not offset or aggregated with other positions.

Tax positions

that meet the more-likely-than-not recognition threshold are measured as the largest amount of tax benefit that is more than 50 percent likely of being realized upon settlement with the applicable taxing authority.

The portion of the benefits

associated with tax positions taken that exceeds the amount measured as described above is reflected as a liability for unrecognized tax benefits in the accompanying consolidated balance sheet along with any associated interest and penalties that

would be payable to the taxing authorities upon examination.

At December 31, 2019 and 2018, the Company has no material uncertain tax positions and recognized no interest or penalties.

The Company’s policy is to recognize interest and penalties related

to income taxes in the provision for income taxes in the Consolidated Statement of Income.

Basic and Diluted Earnings Per Common Share

The Company’s common stock is not traded on any exchange.

However, trades are reported on the OTCQX under the symbol “FMCB”.

The shares are primarily held by local residents and are not actively traded.

earnings per common share amounts are computed by dividing net income by the weighted average number of common shares outstanding for the period.

There are no common stock equivalent shares.

Therefore, there is no presentation of diluted basic

earnings per common share.

See Note 14 - “Dividends and Basic Earnings Per Common Share” for additional information.

Segment Reporting

The “Segment Reporting” topic of the FASB ASC requires that public companies report certain information about operating segments.

It also requires that public companies report certain information about their

products and services, the geographic areas in which they operate, and their major customers.

The Company is a holding company for a community bank, which offers a wide array of products and services to its customers.

Pursuant to its banking

strategy, emphasis is placed on building relationships with its customers, as opposed to building specific lines of business.

As a result, the Company is not organized around discernible lines of business and prefers to work as an integrated unit

to customize solutions for its customers, with business line emphasis and product offerings changing over time as needs and demands change.

Comprehensive Income

The “Comprehensive Income” topic of the FASB ASC establishes standards for the reporting and display of comprehensive income and its components in the financial statements.

Other comprehensive income refers to

revenues, expenses, gains, and losses that U.S.

GAAP recognize as changes in value to an enterprise but are excluded from net income.

For the Company, comprehensive income includes net income and changes in fair value of its available-for-sale

investment securities.

Loss Contingencies

Loss contingencies, including claims and legal actions arising in the ordinary course of business, are recorded as liabilities when the likelihood of loss is probable and an amount or range of loss can be

reasonably estimated.

Management does not believe there now are such matters that will have a material effect on the financial statements.

Business Combinations And Related Matters

Business combinations are accounted for under the acquisition method of accounting in accordance with ASC 805, Business Combinations.

Under the acquisition method, the acquiring entity in a business combination

recognizes 100 percent of the acquired assets and assumed liabilities, regardless of the percentage owned, at their estimated fair values as of the date of acquisition.

Any excess of the fair value over the purchase price of net assets and other

identifiable intangible assets acquired is recorded as bargain purchase gain.

Assets acquired and liabilities assumed from contingencies must also be recognized at fair value, if the fair value can be determined during the measurement period.

Results of operations of an acquired business are included in the statement of operations from the date of acquisition.

Acquisition-related costs, including conversion charges, are expensed as incurred.

Goodwill and Other Intangible Assets :

Goodwill is determined as the excess of the fair value of the consideration transferred, plus the fair value of any

noncontrolling interests in the acquiree, over the fair value of the net assets acquired and liabilities assumed as of the acquisition date.

Goodwill that arises from a business combination is periodically evaluated for impairment at the

reporting unit level, at least annually.

Intangible assets with definite useful lives are amortized over their estimated useful lives to their estimated residual values.

Core deposit intangible (“CDI”) represents the estimated future benefit of

deposits related to an acquisition and is booked separately from the related deposits and evaluated periodically for impairment.

The CDI asset is amortized on a straight-line method over its estimated useful life of ten years.

At December 31,

2019, the future estimated amortization expense for the CDI arising from our past acquisitions is as follows:

(in thousands)

Core Deposit Intangible Amortization

We make a qualitative assessment of whether it is more likely than not that the fair value of a reporting unit where goodwill is assigned is less than its carrying amount.

If we conclude that

it is more likely than not that the fair value is more than its carrying amount, no impairment is recorded.

Goodwill is tested for impairment on an interim basis if circumstances change or an event occurs between annual tests that would more

likely than not reduce the fair value of the reporting unit below its carrying amount.

The qualitative assessment includes adverse events or circumstances identified that could negatively affect the reporting units’ fair value as well as positive

and mitigating events.

Such indicators may include, among others, a significant change in legal factors or in the general business climate, significant change in our stock price and market capitalization, unanticipated competition, and an action

or assessment by a regulator.

If the fair value of a reporting unit is less than its carrying amount, an impairment charge for the amount by which the carrying amount exceeds the reporting unit’s fair value is recognized.

The loss recognized

should not exceed the total amount of goodwill allocated to that reporting unit.

Investment Securities

The amortized cost, fair values, and unrealized gains and losses of the securities available-for-sale are as follows:

(in thousands)

Gross Unrealized

December 31, 2019

US Treasury Notes

Mortgage Backed Securities (1)

Gross Unrealized

December 31, 2018

Government Agency & Government-Sponsored Entities

US Treasury Notes

Mortgage Backed Securities (1)

(1) All Mortgage Backed Securities were issued by an agency or government sponsored entity of the U.S.

The book values, estimated fair values and unrealized gains and losses of investments classified as held-to-maturity are as follows:

Gross Unrealized

December 31, 2019

Obligations of States and Political Subdivisions

Gross Unrealized

December 31, 2018

Obligations of States and Political Subdivisions

Fair values are based on quoted market prices or dealer quotes.

If a quoted market price or dealer quote is not available, fair value is estimated using quoted market prices for similar securities.

The amortized cost and estimated fair values of investment securities at December 31, 2019 by contractual maturity are shown in the following tables.

(in thousands)

Available-for-Sale

Held-to-Maturity

December 31, 2019

Within One Year

After One Year Through Five Years

After Five Years Through Ten Years

After Ten Years

Investment Securities Not Due at a Single Maturity Date:

Mortgage Backed Securities

Expected maturities of mortgage-backed securities may differ from contractual maturities because borrowers have the right to call or prepay obligations with or without call or prepayment penalties.

The following tables show those investments with gross unrealized losses and their market value aggregated by investment category and length of time that individual securities have been in a continuous unrealized

loss position at the dates indicated.

(in thousands)

Less Than 12 Months

12 Months or More

December 31, 2019

Securities Available-for-Sale

Mortgage Backed Securities

Securities Held-to-Maturity

Obligations of States and Political Subdivisions

Less Than 12 Months

12 Months or More

December 31, 2018

Securities Available-for-Sale

US Treasury Notes

Mortgage Backed Securities

Securities Held-to-Maturity

Obligations of States and Political Subdivisions

As of December 31, 2019, the Company held 595 investment securities of which 29 were in an unrealized loss position for less than twelve months and 74 securities were in an unrealized loss position for twelve

months or more.

Management periodically evaluates each investment security for other-than-temporary impairment relying primarily on industry analyst reports and observations of market conditions and interest rate fluctuations.

Management believes

it will be able to collect all amounts due according to the contractual terms of the underlying investment securities.

Securities of Government Agency and Government Sponsored Entities – At December 31, 2019 and December 31, 2018, no securities of government agency and

government sponsored entities were in a loss position.

Treasury Notes – At December 31, 2019, no U.S.

Treasury Note security investments were in a loss position for less than 12 months and none were in a loss position for

12 months or more.

The unrealized losses on the Company’s investment in US treasury notes were $0 at December 31, 2019 and $158,000 at December 31, 2018.

The unrealized losses were caused by interest rate fluctuations.

Because the decline in

market value is attributable to changes in interest rates and not credit quality, and because the Company does not intend to sell the securities and it is more likely than not that the Company will not have to sell the securities before recovery

of their cost basis, the Company did not consider these investments to be other-than-temporarily impaired at December 31, 2019 and December 31, 2018.

Government SBA – At December 31, 2019, 18 U.S.

Government SBA security investments were in a loss position for less than 12 months and 53 were in a loss position for 12

months or more.

The unrealized losses on the Company’s investment in U.S.

Government SBA were $113,000 at December 31, 2019 and $160,000 at December 31, 2018.

The unrealized losses were caused by interest rate fluctuations.

Because the decline in

of their cost basis, the Company did not consider these investments to be other-than-temporarily impaired at December 31, 2019 and December 31, 2018.

Mortgage Backed Securities - At December 31, 2019, 9 mortgage backed security investments were in a loss position for less than 12 months and 21 was in a loss position for

12 months or more.

The unrealized losses on the Company’s investment in mortgage-backed securities were $99,000 at December 31, 2019 and $5.1 million at December 31, 2018.

The unrealized losses were caused by interest rate fluctuations.

contractual cash flows of these investments are guaranteed by an agency or government sponsored entity of the U.S.

Accordingly, it is expected that the securities would not be settled at a price less than the amortized cost of the

Company’s investment.

Because the decline in market value is attributable to changes in interest rates and not credit quality, and because the Company does not intend to sell the securities and it is more likely than not that the Company will not

have to sell the securities before recovery of their cost basis, the Company did not consider these investments to be other-than-temporarily impaired at December 31, 2019 or 2018.

Obligations of States and Political Subdivisions - At December 31, 2019, 2 obligations of states and political subdivisions were in a loss position for less than 12 months.

None were in a loss position for 12 months or more.

As of December 31, 2019, one-hundred percent of the Company’s bank-qualified municipal bond portfolio is rated at either the issue or the issuer level, and all of these ratings are “investment

grade.” The Company monitors the status of all municipal investments in the portfolio, and at the current time does not believe any of them to be exhibiting financial problems that could result in a loss in any individual security.

The unrealized losses on the Company’s investment in obligation of states and political subdivisions were $12,000 at December 31, 2019 and $39,000 at December 31, 2018.

Management believes that any unrealized

losses on the Company’s investments in obligations of states and political subdivisions were caused by interest rate fluctuations.

The contractual terms of these investments do not permit the issuer to settle the securities at a price less than

the amortized cost of the investment.

Because the Company does not intend to sell the securities and it is more likely than not that the Company would not have to sell the securities before recovery of their cost basis, the Company did not

consider these investments to be other-than-temporarily impaired at December 31, 2019 and December 31, 2018.

Proceeds from sales and calls of these securities were as follows:

(in thousands)

Gross Proceeds

Pledged Securities

As of December 31, 2019, securities carried at $352.5 million were pledged to secure public deposits, Federal Home Loan Bank (“FHLB”) borrowings, and other government agency deposits as required by law.

was $268.8 million at December 31, 2018.

Federal Home Loan Bank Stock and Other Equity Securities, at Cost

The Bank is a member of the FHLB system.

Members are required to own a certain amount of stock based on the level of borrowings and other factors, and may invest in additional amounts.

stock and other equity securities are carried at cost, classified as restricted securities, and periodically evaluated for impairment based on ultimate recovery of par value.

Both cash and stock dividends are reported as income.

FHLB stock and

other equity securities are reported in Interest Receivable and Other Assets on the Company’s Consolidated Balance Sheets and totaled $12.7 million at December 31, 2019 and $12.6 million at December 31, 2018.

Loans & Leases

Loans & leases as of December 31 consisted of the following:

(in thousands)

Commercial Real Estate

Agricultural Real Estate

Real Estate Construction

Residential 1st Mortgages

Home Equity Lines and Loans

Consumer & Other

Total Gross Loans & Leases

Unearned Income

Allowance for Credit Losses

Loans & Leases, Net

At December 31, 2019, the portion of loans that were approved for pledging as collateral on borrowing lines with the Federal Home Loan Bank (“FHLB”) and the Federal Reserve Bank (“FRB”) were $793.5 million and

$696.5 million, respectively.

The borrowing capacity on these loans was $668.4 million from FHLB and $441.3 million from the FRB.

Allowance for Credit Losses

The following tables show the allocation of the allowance for credit losses at December 31, 2019 and December 31, 2018 by portfolio segment and by impairment methodology (in

December 31, 2019

Residential 1st

Lines & Loans

Year-To-Date Allowance for Credit Losses:

Beginning Balance- January 1, 2019

Ending Balance- December 31, 2019

Ending Balance Individually Evaluated for Impairment

Ending Balance Collectively Evaluated for Impairment

Loans & Leases:

Ending Balance

Ending Balance Individually Evaluated for Impairment

Ending Balance Collectively Evaluated for Impairment

December 31, 2018

Residential 1st

Lines & Loans

Year-To-Date Allowance for Credit Losses:

Beginning Balance- January 1, 2018

Ending Balance- December 31, 2018

Ending Balance Individually Evaluated for Impairment

Ending Balance Collectively Evaluated for Impairment

Loans & Leases:

Ending Balance

Ending Balance Individually Evaluated for Impairment

Ending Balance Collectively Evaluated for Impairment

The ending balance of loans individually evaluated for impairment includes restructured loans in the amount of $2.6 million and $2.8 million at December 31, 2019 and 2018, respectively, which are no longer

disclosed or classified as TDR’s.

The following tables show the loan & lease portfolio allocated by management’s internal risk ratings at December 31, 2019 and December 31, 2018 (in thousands) :

December 31, 2019

Loans & Leases:

Commercial Real Estate

Agricultural Real Estate

Real Estate Construction

Residential 1st Mortgages

Home Equity Lines and Loans

Consumer & Other

December 31, 2018

Loans & Leases:

Commercial Real Estate

Agricultural Real Estate

Real Estate Construction

Residential 1st Mortgages

Home Equity Lines and Loans

Consumer & Other

Significant Accounting Policies – Allowance for Credit Losses for a description of the internal risk ratings used by the Company.

There were no loans & leases outstanding at December 31, 2019 and

2018 rated doubtful or loss.

The following tables show an aging analysis of the loan & lease portfolio by the time past due at December 31, 2019 and December 31, 2018 (in thousands) :

December 31, 2019

Still Accruing

Loans & Leases

Loans & Leases:

Commercial Real Estate

Agricultural Real Estate

Real Estate Construction

Residential 1st Mortgages

Home Equity Lines and Loans

Consumer & Other

December 31, 2018

Still Accruing

Loans & Leases

Loans & Leases:

Commercial Real Estate

Agricultural Real Estate

Real Estate Construction

Residential 1st Mortgages

Home Equity Lines and Loans

Consumer & Other

There were no non-accrual loans & leases at December 31, 2019 or at December 31, 2018.

There was no i nterest income forgone on loans & leases placed on non-accrual

status for the years ended December 31, 2019, 2018, and 2017, respectively.

The following tables show information related to impaired loans & leases at and for the year ended December 31, 2019 and December 31, 2018 (in thousands) :

December 31, 2019

With no related allowance recorded:

Commercial Real Estate

Agricultural Real Estate

With an allowance recorded:

Commercial Real Estate

Residential 1st Mortgages

Home Equity Lines and Loans

Consumer & Other

December 31, 2018

With no related allowance recorded:

Commercial Real Estate

Agricultural Real Estate

Residential 1st Mortgages

With an allowance recorded:

Commercial Real Estate

Residential 1st Mortgages

Home Equity Lines and Loans

Consumer & Other

Total recorded investment shown in the prior table will not equal the total ending balance of loans & leases individually evaluated for impairment on the allocation of allowance table.

This is because this

table does not include impaired loans that were previously modified in a troubled debt restructuring, are currently performing and are no longer disclosed or classified as TDR’s.

At December 31, 2019, there were no formal foreclosure proceedings in process for consumer mortgage loans secured by residential real estate properties.

At December 31, 2019, the Company allocated $612,000 of specific reserves to $12.1 million of troubled debt restructured loans, all of which were performing.

At December 31, 2018, the Company allocated $511,000 of

specific reserves to $13.6 million of troubled debt restructured loans, all of which were performing.

The Company had no commitments at December 31, 2019 and December 31, 2018 to lend additional amounts to customers with outstanding loans that

are classified as troubled debt restructurings.

During the year ended December 31, 2019, the terms of certain loans were modified as troubled debt restructurings.

The modification of the terms of such loans included one or a combination of the following:

reduction of the stated interest rate of the loan;

an extension of the maturity date at a stated rate of interest lower than the current market rate for new debt with similar risk;

or a permanent reduction of the recorded investment in the loan.

There were no modifications involving a reduction of the stated interest rate.

Modifications involving an extension of the maturity date ranged from 3 months to 6 years.

The following table presents loans by class modified as troubled debt restructured loans for the year ended December 31, 2019 (in thousands) :

December 31, 2019

Troubled Debt Restructurings

Pre-Modification

Post-Modification

Consumer & Other

The troubled debt restructurings described above increased the allowance for credit losses by $101,000.

There were no charge-offs for the twelve months ended December 31, 2019.

During the year ended December 31, 2019, there were no payment defaults on loans modified as troubled debt restructurings within twelve months following the modification.

The Company considers a loan to be in

payment default once it is greater than 90 days contractually past due under the modified terms.

During the year ended December 31, 2018, the terms of certain loans were modified as troubled debt restructurings.

The modification of the terms of such loans included one or a combination of the following:

reduction of the stated interest rate of the loan;

an extension of the maturity date at a stated rate of interest lower than the current market rate for new debt with similar risk;

or a permanent reduction of the recorded investment in the loan.

Modifications involving a reduction of the stated interest rate of the loan were for 5 years.

Modifications involving an extension of the maturity date were for 10 years.

The following table presents loans by class modified as troubled debt restructured loans for the year ended December 31, 2018 (in thousands) :

December 31, 2018

Troubled Debt Restructurings

Number of Loans

Pre-Modification

Post-Modification

Agricultural Real Estate

Residential 1st Mortgages

The troubled debt restructurings described above had minimal impact on the allowance for credit losses and resulted in charge-offs of $31,000 for the twelve months ended December 31, 2018.

During the year ended December 31, 2018, there were no payment defaults on loans modified as troubled debt restructurings within twelve months following the modification.

The Company considers a loan to be in

payment default once it is greater than 90 days contractually past due under the modified terms.

Premises and Equipment

Premises and equipment as of December 31 st , consisted of the following:

(in thousands)

Land and Buildings

Furniture, Fixtures and Equipment

Leasehold Improvement

Accumulated Depreciation and Amortization

Depreciation and amortization on premises and equipment included in occupancy and equipment expense amounted to $2,756,000, $2,421,000, and $2,186,000 for the years ended December 31, 2019, 2018 and 2017,

respectively.

Rental income was $183,000, $173,000, and $169,000 for the years ended December 31, 2019, 2018, and 2017, respectively.

Other Real Estate

The Bank reported $873,000 in other real estate at December 31, 2019, and December 31, 2018.

Other real estate includes property no longer utilized for business operations and property acquired through foreclosure

These properties are carried at fair value less selling costs determined at the date acquired.

Losses, if any, arising from properties acquired through foreclosure are charged against the allowance for loan losses at the time of

Subsequent declines in value, periodic holding costs, and net gains or losses on disposition are included in other operating expense as incurred.

Other real estate is reported in Interest Receivable and Other Assets on the Company’s

Consolidated Balance Sheets.

Time Deposits

Time Deposits of $250,000 or more as of December 31 were as follows:

(in thousands)

At December 31, 2019, the scheduled maturities of time deposits were as follows:

(in thousands)

Scheduled Maturities

Current and deferred income tax expense (benefit) provided for the years ended December 31 consisted of the following:

(in thousands)

Total Current

Total Deferred

Total Provision for Taxes

The total provision for income taxes differs from the federal statutory rate as follows:

(in thousands)

Tax Provision at Federal Statutory Rate

Interest on Obligations of States and Political

Subdivisions exempt from Federal Taxation

State and Local Income Taxes, Net of Federal Income

Bank Owned Life Insurance

Low-Income Housing Tax Credit

Out of Period Adjustment

Deferred Tax Asset Remeasurement

Total Provision for Taxes

The components of net deferred tax assets as of December 31 are as follows:

The net deferred tax assets are reported in Interest Receivable and Other Assets on the Company’s Consolidated Balance Sheet.

(in thousands)

Deferred Tax Assets

Allowance for Credit Losses

Accrued Liabilities

Deferred Compensation

State Franchise Tax

Tax Credit Carry Forward

Lease Liability

Acquired Net Operating Loss

Fair Value Adjustment on Loans Acquired

Fair Value Adjustment on ORE Acquired

Unrealized Loss on Securities Available-for-Sale

Low-Income Housing Investment

Total Deferred Tax Assets

Deferred Tax Liabilities

Premises and Equipment

Securities Accretion

Unrealized Gain on Securities Available-for-Sale

Leasing Activities

Core Deposit Intangible Asset

ROU Lease Asset

Total Deferred Tax Liabilities

Net Deferred Tax Assets

The Tax Cuts and Jobs Act of 2017, which lowers the Company’s previous 35% federal corporate tax rate to 21%, was signed into law by President Trump on December 22, 2017.

In accordance with the ASC Topic 740,

Income Taxes, companies must recognize the effect of tax law changes in the period of enactment.

As a result, the Company was required to re-measure its deferred tax assets (DTA) and deferred tax liabilities (DTL) at the new tax rate of 21%.

onetime re-measurement resulted in a $6.3 million increase in the Company’s income tax provision in 2017.

Based upon the level of historical taxable income and projections for future taxable income over the periods during which the deferred tax

assets are expected to be deductible, Management believes it is more likely than not we will realize the benefit of the remaining deferred tax assets.

The net deferred tax assets are reported in Interest Receivable and Other Assets on the

Company’s Consolidated Balance Sheet.

The Company and its subsidiaries file income tax returns in the U.S.

federal and California jurisdictions.

With few exceptions, the Company is no longer subject to U.S.

federal, state and local, or non-U.S.

tax examinations by the tax authorities for the years before 2015.

Short Term Borrowings

As of December 31, 2019 and 2018, the Company had unused lines of credit available for short-term liquidity purposes of $1.3 billion and $1.2 billion, respectively.

Federal Funds purchased and advances are

generally issued on an overnight basis.

There were no advances from the FHLB at December 31, 2019 or 2018.

There were no Federal Funds purchased or advances from the FRB at December 31, 2019 or 2018.

Federal Home Loan Bank Advances

The Company had no short-term or long-term advances from the Federal Home Loan Bank of San Francisco at December 31, 2019 or 2018.

In accordance with the Collateral Pledge and Security Agreement, advances are secured by all FHLB stock held by the Company.

At December 31, 2019, $793.5 million in loans were approved for pledging as collateral on

borrowing lines with the FHLB.

The borrowing capacity on these loans was $668.4 million.

Long-term Subordinated Debentures

In December 2003, the Company formed a wholly owned Connecticut statutory business trust, FMCB Statutory Trust I (“Statutory Trust I”), which issued $10.0 million of guaranteed preferred beneficial interests in the

Company’s junior subordinated deferrable interest debentures (the “Trust Preferred Securities”).

The Company is not considered the primary beneficiary of the trust (variable interest entity), therefore the trust is not consolidated in the

Company’s financial statements, but rather the subordinated debentures are shown as a liability.

These debentures qualify as Tier 1 capital under current regulatory guidelines.

All of the common securities of Statutory Trust I are owned by the

The proceeds from the issuance of the common securities and the Trust Preferred Securities were used by FMCB Statutory Trust to purchase $10.3 million of junior subordinated debentures of the Company, which carry a floating rate based on

three-month LIBOR plus 2.85%.

The debentures represent the sole asset of Statutory Trust I.

The Trust Preferred Securities accrue and pay distributions at a floating rate of three-month LIBOR plus 2.85% per annum of the stated liquidation value

of $1,000 per capital security.

The Company has entered into contractual arrangements which, taken collectively, fully and unconditionally guarantee payment to the extent that Statutory Trust I has funds available therefore of:

(i) accrued and

unpaid distributions required to be paid on the Trust Preferred Securities;

(ii) the redemption price with respect to any Trust Preferred Securities called for redemption by Statutory Trust I;

and (iii) payments due upon a voluntary or

involuntary dissolution, winding up, or liquidation of Statutory Trust I.

The Trust Preferred Securities are mandatorily redeemable upon maturity of the subordinated debentures on December 17, 2033, or upon earlier redemption as provided in the

The Company has the right to redeem the subordinated debentures purchased by Statutory Trust I, in whole or in part, on or after December 17, 2008.

As specified in the indenture, if the subordinated debentures are redeemed prior to

maturity, the redemption price will be the principal amount and any accrued but unpaid interest.

Additionally, if the Company decided to defer interest on the subordinated debentures, the Company would be prohibited from paying cash dividends on

the Company’s common stock.

Shareholders’ Equity

In 1998, the Board approved the Company’s first common stock repurchase program.

This program has been extended and expanded several times since then, and most recently, on November 6, 2018, the Board of Directors

approved an extension of the $20 million stock repurchase program to December 31, 2021.

Repurchases under the program may be made from time to time on the open market or through private transactions.

The repurchase program also requires that no repurchases may be made if the Bank would not remain

“well-capitalized” after the repurchase.

There were no stock repurchases made in 2019 or 2018 under the Common Stock Repurchase Plan.

However, in the third quarter of 2018 the Company did repurchase $31.2 million of shares, at $700 per share, in

a single transaction from the estate of a large shareholder.

Dividends from the Bank constitute the principal source of cash to the Company.

The Company is a legal entity separate and distinct from the Bank.

Under regulations controlling California state chartered banks, the

Bank is, to some extent, limited in the amount of dividends that can be paid to the Company without prior approval of the California DBO.

These regulations require approval if total dividends declared by a state chartered bank in any calendar

year exceed the bank’s net profits for that year combined with its retained net profits for the preceding two calendar years.

During 2019, the Company issued a combined total 9,312 shares of common stock to the Bank’s non-qualified deferred compensation retirement plans.

All of the shares were issued at prices ranging from $715.00 to

$770.00 per share based upon valuations completed during the quarter of issuance by a nationally recognized bank consulting and advisory firm and in reliance upon the exemption in Section 4(a)(2) of the Securities Act of 1933, as amended, and the

regulations promulgated thereunder.

The proceeds were contributed to the Bank as equity capital.

During 2018, the Company issued a combined total 13,520 shares of common stock to the Bank’s non-qualified deferred compensation retirement plans.

There were also 2,400 shares issued to individuals during 2018.

of the shares were issued at prices ranging from $635.00 to $690.00 per share based upon valuations completed during the quarter of issuance by a nationally recognized bank consulting and advisory firm and in reliance upon the exemption in

Section 4(a)(2) of the Securities Act of 1933, as amended, and the regulations promulgated thereunder.

The proceeds were contributed to the Bank as equity capital.

The Company and the Bank are subject to various federal regulatory capital requirements under the Basel III Capital Rules.

Failure to meet minimum capital requirements can initiate certain mandatory, and possibly

discretionary, actions by regulators that, if undertaken, could have a direct material effect on the Company’s and the Bank’s financial statements.

Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the

Company and the Bank must meet specific capital guidelines that involve quantitative measures of the Company and the Bank’s assets, liabilities, and certain off-balance-sheet items as calculated under regulatory accounting practices.

and the Bank’s capital amounts and classification are also subject to qualitative judgments by the regulators about components, risk weightings, and other factors.

The implementation of Basel III requirements increased the required capital levels that the Company and the Bank must maintain.

The final rules included new minimum risk-based capital and leverage ratios, which

were phased in over time.

The new minimum capital level requirements applicable to the Company and the Bank under the final rules are:

(i) a common equity Tier 1 capital ratio of 4.5% of risk-weighted assets (“RWA”);

(ii) a Tier 1 capital ratio

of 6% of RWA;

(iii) a total capital ratio of 8% of RWA;

and (iv) a Tier 1 leverage ratio of 4% of total assets.

The final rules also established a “capital conservation buffer” of 2.5% above each of the new regulatory minimum capital ratios,

which resulted in the following minimum ratios:

(i) a common equity Tier 1 capital ratio of 7.0% of RWA;

(ii) a Tier 1 capital ratio of 8.5% of RWA;

and (iii) a total capital ratio of 10.5% of RWA.

An institution will be subject to limitations on

paying dividends, engaging in share repurchases, and paying discretionary bonuses if its capital level falls below the buffer amount.

The final rules also permit the Company’s subordinated debentures issued in 2003 to continue to be counted as

Tier 1 capital.

The final rules became effective as applied to the Company and the Bank on January 1, 2015, with a phase in period through January 1, 2019.

The Company believes that it is currently in compliance with all of these

capital requirements and that they will not result in any restrictions on the Company’s business activity.

In addition, the most recent notification from the FDIC categorized the Bank as “well capitalized” under the regulatory framework for prompt corrective action.

To be categorized as well capitalized, the Bank must

maintain minimum total risk-based, Tier 1 risk-based and Tier 1 leverage ratios as set forth in the following tables.

There are no conditions or events since that notification that management believes have changed the Bank’s category.

(in thousands)

Regulatory Capital

Well Capitalized

Corrective Action

December 31, 2019

Total Bank Capital to Risk Weighted Assets

Total Consolidated Capital to Risk Weighted Assets

Total Bank Common Equity Tier 1 Capital Ratio

Total Consolidated Common Equity Tier 1 Capital Ratio

Tier 1 Bank Capital to Risk Weighted Assets

Tier 1 Consolidated Capital to Risk Weighted Assets

Tier 1 Bank Capital to Average Assets

Tier 1 Consolidated Capital to Average Assets

(in thousands)

Regulatory Capital

Well Capitalized

Corrective Action

December 31, 2018

Total Bank Capital to Risk Weighted Assets

Total Consolidated Capital to Risk Weighted Assets

Total Bank Common Equity Tier 1 Capital Ratio

Total Consolidated Common Equity Tier 1 Capital Ratio

Tier 1 Bank Capital to Risk Weighted Assets

Tier 1 Consolidated Capital to Risk Weighted Assets

Tier 1 Bank Capital to Average Assets

Tier 1 Consolidated Capital to Average Assets

Dividends and Basic Earnings Per Common Share

Total cash dividends during 2019 were $11,221,000 or $14.20 per share of common stock, an increase of 2.2% per share from $11,151,000 or $13.90 per share in 2018.

In 2017, cash dividends

totaled $10,982,000 or $13.55 per share.

Basic earnings per common share amounts are computed by dividing net income by the weighted average number of common shares outstanding for the period.

The Company has no securities or other contracts, such as

stock options, that could require the issuance of common stock.

Accordingly, diluted earnings per share are not presented.

The following table calculates the basic earnings per common share for the periods indicated.

( net income in thousands )

Weighted Average Number of Common Shares Outstanding

Basic Earnings Per Common Share

Employee Benefit Plans

Profit Sharing Plan

The Company, through the Bank, sponsors a Profit Sharing Plan for substantially all full-time employees of the Company with one or more years of service.

Participants receive up to two annual employer

contributions, one is discretionary and the other is mandatory.

The discretionary contributions to the Profit Sharing Plan are determined annually by the Board of Directors.

The discretionary contributions totaled $1.4 million, $1.2 million, and

$1.0 million for the years ended December 31, 2019, 2018, and 2017, respectively.

The mandatory contributions to the Profit Sharing Plan are made according to a predetermined set of criteria.

Mandatory contributions totaled $1.6 million, $1.4

million, and $1.2 million for the years ended December 31, 2019, 2018, and 2017, respectively.

Company employees are permitted, within limitations imposed by tax law, to make pretax contributions and after tax (Roth) contributions to the 401(k)

feature of the Profit Sharing Plan.

The Company does not match employee contributions within the 401(k) feature of the Profit Sharing Plan and the Company can terminate the Profit Sharing Plan at any time.

Benefits pursuant to the Profit Sharing

Plan vest 0% during the first year of participation, 25% per full year thereafter and after five years such benefits are fully vested.

Executive Retirement Plan and Life Insurance Arrangements

The Company, through the Bank, sponsors an Executive Retirement Plan for certain executive level employees.

The Executive Retirement Plan is a non-qualified deferred compensation plan and was developed to

supplement the Company’s Profit Sharing Plan, which, as a qualified retirement plan, has a ceiling on benefits as set by the Internal Revenue Service.

The Plan is comprised of:

(1) a Performance Component which makes contributions based upon

long-term cumulative profitability and increase in market value of the Company;

(2) a Salary Component which makes contributions based upon participant salary levels;

and (3) an Equity Component for which contributions are discretionary and

subject to Board of Directors approval.

Executive Retirement Plan contributions are invested in a mix of financial instruments;

however, the Equity Component contributions are invested primarily in stock of the Company.

The Company expensed $6.6 million to the Executive Retirement Plan during the year ended December 31, 2019, $6.2 million during the year ended December 31, 2018 and $4.3 million during the year ended December 31,

The Company’s total accrued liability under the Executive Retirement Plan was $58.6 million as of December 31, 2019 and $48.5 million as of December 31, 2018.

All amounts have been fully funded into a Rabbi Trust as of December 31, 2019.

The investments held in the Rabbi Trust are recorded at fair value with changes in unrealized gains or losses recorded within non-interest income and the equal and offsetting charges in the related liability are recorded in non-interest expense

in the consolidated statements of income.

Net gains on deferred compensation plan investments were $2.6 million in 2019 compared to net gains of $1.1 million in 2018.

Balances in non-qualified deferred compensation plans may be invested in financial

instruments whose market value fluctuates based upon trends in interest rates and stock prices.

The Company has purchased single premium life insurance policies on the lives of certain key employees of the Company.

These policies provide:

(1) financial protection to the Company in the event of the death of a

key employee;

and (2) significant income to the Company to offset the expense associated with the Executive Retirement Plan and other employee benefit plans, since the interest earned on the cash surrender value of the policies is tax exempt as

long as the policies are used to finance employee benefits.

As compensation to each employee for agreeing to allow the Company to purchase an insurance policy on his or her life, split dollar agreements have been entered into with those

These agreements provide for a division of the life insurance death proceeds between the Company and each employee’s designated beneficiary or beneficiaries.

The Company earned tax-exempt interest on the life insurance policies of $2.0 million for the year ended December 31, 2019, $1.9 million for the year ended December 31, 2018, and $1.8 million for the year ended

December 31, 2017.

As of December 31, 2019 and 2018, the total cash surrender value of the insurance policies was $67.1 million and $65.1 million, respectively.

Senior Management Retention Plan

The Company, through the Bank, sponsors a Senior Management Retention Plan (“SMRP”) for certain senior level employees.

The SMRP is a non-qualified deferred compensation plan and was developed to supplement the

Company’s Profit Sharing Plan, which, as a qualified retirement plan, has a ceiling on benefits as set by the Internal Revenue Service.

All contributions are discretionary and subject to the Board of Directors approval.

Contributions are invested

primarily in stock of the Company.

The Company expensed $1.3 million to the SMRP during the year ended December 31, 2019, $1.5 million during the year ended December 31, 2018 and $765,000 during the year ended December 31, 2017.

The Company’s

total accrued liability under the SMRP was $8.1 million as of December 31, 2019 and $5.7 million as of December 31, 2018.

All amounts have been fully funded into a Rabbi Trust as of December 31, 2019.

Fair Value Measurements

The Company follows the “Fair Value Measurement and Disclosures” topic of the FASB ASC, which establishes a framework for measuring fair value in U.S.

GAAP and expands disclosures about fair value measurements.

This standard applies whenever other standards require, or permit, assets or liabilities to be measured at fair value but does not expand the use of fair value in any new circumstances.

In this standard, the FASB clarifies the principle that fair

value should be based on the assumptions market participants would use when pricing the asset or liability.

In support of this principle, this standard establishes a fair value hierarchy that prioritizes the information used to develop those

The fair value hierarchy is as follows:

Level 1 inputs – Unadjusted quoted prices in active markets for identical assets or liabilities that the entity has the ability to access at the measurement date.

Level 2 inputs - Inputs other than quoted prices included in Level 1 that are observable for the asset or liability, either directly or indirectly.

These might include quoted prices for similar assets and

liabilities in active markets, and inputs other than quoted prices that are observable for the asset or liability, such as interest rates and yield curves that are observable at commonly quoted intervals.

Level 3 inputs - Unobservable inputs for determining the fair values of assets or liabilities that reflect an entity’s own assumptions about the assumptions that market participants would use in pricing the assets

or liabilities.

Management monitors the availability of observable market data to assess the appropriate classification of financial instruments within the fair value hierarchy.

Changes in economic conditions

or model-based valuation techniques may require the transfer of financial instruments from one fair value level to another.

In such instances, the transfer is reported at the beginning of the reporting period.

Management evaluates the significance of transfers between levels based upon the nature of the financial instrument and size of the transfer relative to total assets, total liabilities or total

Securities classified as available-for-sale are reported at fair value on a recurring basis utilizing Level 1, 2 and 3 inputs.

For these securities, the Company obtains fair value measurements from an independent

pricing service.

The fair value measurements consider observable data that may include dealer quotes, market spreads, cash flows, the U.S.

Treasury yield curve, live trading levels, trade execution data, market consensus prepayment speeds, credit

information and the bond’s terms and conditions, among other things.

The Company does not record all loans & leases at fair value on a recurring basis.

However, from time to time, a loan or lease is considered impaired and an allowance for

credit losses is established.

Once a loan or lease is identified as individually impaired, management measures impairment in accordance with the “Receivable” topic of the FASB ASC.

The fair value of impaired loans or leases is estimated using

one of several methods, including collateral value when the loan is collateral dependent, market value of similar debt, enterprise value, and discounted cash flows.

Impaired loans & leases not requiring an allowance represent loans &

leases for which the fair value of the expected repayments or collateral exceed the recorded investments in such loans & leases.

Impaired loans & leases where an allowance is established based on the fair value of collateral require

classification in the fair value hierarchy.

The fair value of collateral dependent impaired loans is generally based on recent real estate appraisals.

These appraisals may utilize a single valuation approach or a combination of

approaches including sales comparison, cost and the income approach.

Adjustments are often made in the appraisal process by the appraisers to take in to account differences between the comparable sales and income and other available data.

adjustments can be significant and typically result in a Level 3 classification of the inputs for determining fair value.

The valuation technique used for Level 3 nonrecurring impaired loans is primarily the sales comparison approach less selling

costs of 10%.

Other Real Estate (“ORE”) is reported at fair value on a non-recurring basis.

Fair values are based on recent real estate appraisals.

These appraisals may use a single

valuation approach or a combination of approaches including sales comparison, cost and the income approach.

Adjustments are often made in the appraisal process by the appraisers to take in to account differences between the comparable sales and

income and other available data.

Such adjustments can be significant and typically result in a Level 3 classification of the inputs for determining fair value.

The valuation technique used for Level 3 nonrecurring ORE is primarily the sales

comparison approach less selling costs of 10%.

The following tables present information about the Company’s assets and liabilities measured at fair value on a recurring basis and indicate the fair value hierarchy of the valuation techniques utilized by the

Company to determine such fair value for the periods indicated.

Fair Value Measurements

At December 31, 2019, Using

(in thousands)

Quoted Prices

Available-for-Sale Securities:

US Treasury Notes

Mortgage Backed Securities

Total Assets Measured at Fair Value On a Recurring Basis

Fair Value Measurements

At December 31, 2018, Using

(in thousands)

Quoted Prices

Available-for-Sale Securities:

Government Agency & Government-Sponsored Entities

US Treasury Notes

Mortgage Backed Securities

Total Assets Measured at Fair Value On a Recurring Basis

Fair values for Level 2 available-for-sale investment securities are based on quoted market prices for similar securities.

During the year ended December 31, 2019, there were no transfers in or

out of level 1, 2, or 3.

The following tables present information about the Company’s impaired loans & leases and other real estate, classes of assets or liabilities that the Company carries at fair value on a non-recurring basis, and

indicates the fair value hierarchy of the valuation techniques utilized by the Company to determine such fair value for the periods indicated.

Not all impaired loans & leases are carried at fair value.

Impaired loans & leases are only

included in the following tables when their fair value is based upon an appraisal of the collateral, and if that appraisal results in a partial charge-off or the establishment of a specific reserve.

Fair Value Measurements

At December 31, 2019, Using

(in thousands)

Quoted Prices

Impaired Loans:

Commercial Real Estate

Residential 1st Mortgage

Home Equity Lines and Loans

Total Impaired Loans

Other Real Estate:

Real Estate Construction

Total Other Real Estate

Total Assets Measured at Fair Value On a Non-Recurring Basis

Fair Value Measurements

At December 31, 2018, Using

(in thousands)

Quoted Prices

Impaired Loans:

Commercial Real Estate

Residential 1st Mortgage

Home Equity Lines and Loans

Total Impaired Loans

Other Real Estate:

Real Estate Construction

Total Other Real Estate

Total Assets Measured at Fair Value On a Non-Recurring Basis

The Company’s property appraisals are primarily based on the sales comparison approach and the income approach methodologies, which consider recent sales of comparable properties, including their income generating

characteristics, and then make adjustments to reflect the general assumptions that a market participant would make when analyzing the property for purchase.

These adjustments may increase or decrease an appraised value and can vary significantly

depending on the location, physical characteristics and income producing potential of each property.

Additionally, the quality and volume of market information available at the time of the appraisal can vary from period to period and cause

significant changes to the nature and magnitude of comparable sale adjustments.

Given these variations, comparable sale adjustments are generally not a reliable indicator for how fair value will increase or decrease from period to period.

certain circumstances, management discounts are applied based on specific characteristics of an individual property.

The following table presents quantitative information about Level 3 fair value measurements for financial instruments measured at fair value on a nonrecurring basis at December 31, 2019 and 2018:

December 31, 2019

(in thousands)

Valuation Technique

Unobservable Inputs

Range, Weighted Avg.

Impaired Loans:

Commercial Real Estate

Income Approach

Capitalization Rate

Residential 1st Mortgages

Sales Comparison Approach

Adjustment for Difference Between Comparable Sales

0.8% - 6.4%, 3

Home Equity Lines and Loans

Sales Comparison Approach

Adjustment for Difference Between Comparable Sales

Income Approach

Capitalization Rate

Income Approach

Capitalization Rate

Sales Comparison Approach

Adjustment for Difference Between Comparable Sales

Other Real Estate:

Real Estate Construction

Sales Comparison Approach

Adjustment for Difference Between Comparable Sales

December 31, 2018

(in thousands)

Valuation Technique

Unobservable Inputs

Range, Weighted Avg.

Impaired Loans:

Commercial Real Estate

Income Approach

Capitalization Rate

Residential 1st Mortgages

Sales Comparison Approach

Adjustment for Difference Between Comparable Sales

Home Equity Lines and Loans

Sales Comparison Approach

Adjustment for Difference Between Comparable Sales

Income Approach

Capitalization Rate

2.95% - 8.70%, 3.40

Other Real Estate:

Real Estate Construction

Sales Comparison Approach

Adjustment for Difference Between Comparable Sales

Fair Value of Financial Instruments

GAAP requires disclosure of fair value information about financial instruments, whether or not recognized on the balance sheet, for which it is practical to estimate that value.

The estimated fair value

amounts have been determined by the Company using available market information and appropriate valuation methodologies.

The use of assumptions and various valuation techniques, as well as the absence of secondary markets for certain financial

instruments, will likely reduce the comparability of fair value disclosures between financial institutions.

In some cases, book value is a reasonable estimate of fair value due to the relatively short period of time between origination of the

instrument and its expected realization.

The valuation of loans held for investment was impacted by the adoption of ASU 2016-01.

In accordance with ASU 2016-01, the fair value of loans held for investment, excluding previously presented impaired

loans measured at fair value on a non-recurring basis, is estimated using discounted cash flow analyses.

The discount rates used to determine fair value use interest rate spreads that reflect factors such as liquidity, credit, and nonperformance

risk of the loans.

Loans are considered a Level 3 classification.

The following tables summarize the book value and estimated fair value of financial instruments for the periods indicated:

Fair Value of Financial Instruments Using

December 31, 2019 (in thousands)

Quoted Prices

Identical Assets

Cash and Cash Equivalents

Investment Securities Available-for-Sale

Investment Securities Held-to-Maturity

Loans & Leases, Net of Deferred Fees & Allowance

Accrued Interest Receivable

Subordinated Debentures

Accrued Interest Payable

Fair Value of Financial Instruments Using

December 31, 2018 (in thousands)

Quoted Prices

Cash and Cash Equivalents

Investment Securities Available-for-Sale

Investment Securities Held-to-Maturity

Loans & Leases, Net of Deferred Fees & Allowance

Accrued Interest Receivable

Subordinated Debentures

Accrued Interest Payable

Commitments and Contingencies

In the normal course of business, the Company enters into financial instruments with off balance sheet risk in order to meet the financing needs of its customers and to reduce its own exposure to fluctuations in

interest rates.

These instruments include commitments to extend credit, letters of credit, and other types of financial guarantees.

The Company had the following off balance sheet commitments as of the dates indicated.

(in thousands)

December 31, 2019

December 31, 2018

Commitments to Extend Credit

Letters of Credit

Performance Guarantees Under Interest Rate Swap Contracts Entered Into Between Our Borrowing Customers and Third Parties

The Company’s exposure to credit loss in the event of nonperformance by the other party with regard to standby letters of credit, undisbursed loan commitments, and financial guarantees is represented by the

contractual notional amount of those instruments.

Commitments to extend credit are agreements to lend to a customer as long as there is no violation of any condition established in the contract.

The Company uses the same credit policies in making

commitments and conditional obligations as it does for recorded balance sheet items.

The Company may or may not require collateral or other security to support financial instruments with credit risk.

Evaluations of each customer’s

creditworthiness are performed on a case-by-case basis.

Standby letters of credit are conditional commitments issued by the Company to guarantee performance of or payment for a customer to a third party.

Outstanding standby letters of credit have maturity dates ranging

from 1 to 25 months with final expiration in January 2022.

Commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee.

In the ordinary course of business, the Company becomes involved in litigation arising out of its normal business activities.

Management, after consultation with legal counsel, believes that the ultimate liability,

if any, resulting from the disposition of such claims would not be material in relation to the financial position of the Company.

The Company may be required to maintain average reserves on deposit with the Federal Reserve Bank primarily based on deposits outstanding.

Reserve requirements are offset by the Company’s vault cash and deposit

balances maintained with the Federal Reserve Bank.

Lessee – Operating Leases

Effective January 1, 2019, the Company adopted the provisions of Accounting Standards Update (“ASU”) No.

2016-02, “Leases (Topic 842),” for all open leases with a term greater than one year as

of the adoption date, using the modified retrospective approach.

Prior comparable periods are presented in accordance with previous guidance under Accounting Standards Codification ASC 840.

Operating leases in which we are the lessee are recorded as operating lease right-of-use (“ROU”) assets and operating lease liabilities, included in other assets and other liabilities, respectively, on our

consolidated balance sheets.

We do not currently have any significant finance leases in which we are the lessee.

Operating lease ROU assets represent our right to use an underlying asset during the lease term and operating lease liabilities represent our obligation to make lease payments arising from the lease.

ROU assets and

operating lease liabilities are recognized at lease commencement based on the present value of the remaining lease payments using a discount rate that represents our incremental borrowing rate at the lease commencement date.

ROU assets are

further adjusted for lease incentives.

Operating lease expense, which is comprised of amortization of the ROU asset and the implicit interest accreted on the operating lease liability, is recognized on a straight-line basis over the lease term,

and is recorded net in occupancy expense in the consolidated statements of income.

Our leases relate primarily to office space and bank branches with remaining lease terms of generally 1 to 10 years.

Certain lease arrangements contain extension options which typically range from 5 to 10 years at

the then fair market rental rates.

ASC 842 requires lessees to evaluate whether option periods, if available, will be exercised in order to determine the full life of the lease.

The Company used the first option period, unless it is a relatively

new lease that has a long initial lease term or other extenuating circumstances.

As of December 31, 2019, operating lease ROU assets and liabilities were $4.98 million and $5.03 million, respectively.

Operating lease expenses that were in scope of ASU 2016-02 totaled $836,000 for the year ended

December 31, 2019.

The table below summarizes the information related to our operating leases:

(in thousands except for percent and period data)

December 31, 2019

Cash Paid for Amounts Included in the Measurement of Lease Liabilities

Operating Cash Flow from Operating Leases

Right-of-Use Assets Obtained in Exchange for New Operating Lease Liabilities

Weighted-Average Remaining Lease Term - Operating Leases, in Years

Weighted-Average Discount Rate - Operating Leases

The table below summarizes the maturity of remaining lease liability:

(in thousands)

December 31, 2019

2025 and thereafter

Total Lease Payments

Present Value of Lease Liabilities

As of December 31, 2019, we have no additional operating leases for office space that have not yet commenced or that are anticipated to commence during the first quarter of 2020.

Lessor - Direct Financing Leases

The Company is the lessor in direct finance lease arrangements.

Leases are recorded at the principal balance outstanding, net of unearned income and charge-offs.

Interest income is recognized using the interest

Leases typically have a maturity of three to ten years, and fixed rates that are most often tied to treasury indices with an appropriate spread based on the amount of perceived risk.

Credit risks are underwritten using the same credit

criteria the Company would use when making an equipment term loan.

Residual value risk is managed through the use of qualified, independent appraisers that establish the residual values the Company uses in structuring a lease.

The impact of

adopting Topic 842 for lessor accounting was not significant.

Lease payments due to the Company are typically fixed and paid in equal installments over the lease term.

Variable lease payments that do not depend on an index or a rate (e.g., property taxes) that are paid

directly by the Company are minimal.

The majority of property taxes are paid directly by the client to a third party and are not considered part of variable payments and therefore are not recorded by the Company.

As a lessor, the Company leases certain types of agriculture equipment, solar equipment, construction equipment and other equipment to its customers.

The Company’s net investment in direct

financing leases was $105.4 million at December 31, 2019 and $107.3 million at December 31, 2018.

Recent Accounting Pronouncements

Recently Adopted Accounting Guidance

The following paragraphs provide descriptions of recently adopted accounting standards that may have had a material effect on the Company’s financial position or results of operations.

The FASB issued guidance in February 2016, with amendments in 2018 and 2019, which changed the accounting for leases.

The guidance requires lessees to recognize right-of-use (ROU) assets and lease liabilities for

most leases where we are the lessee in the Consolidated Statement of Financial Position.

The guidance also made some changes to lessor accounting, including the elimination of the use of third-party residual value guarantee insurance in the lease

classification test, and overall aligns with the new revenue recognition guidance.

The guidance also requires qualitative and quantitative disclosures to assess the amount, timing and uncertainty of cash flows arising from leases.

ASU 2016-02 provides for a modified retrospective transition approach requiring lessees to recognize and measure leases on the consolidated balance sheet at the beginning of either the earliest period presented

or as of the beginning of the period of adoption with the option to elect certain practical expedients.

The Company elected the package of practical expedients not to reassess prior conclusions related to contracts containing leases, lease

classification and initial direct costs (IDC’s).

From a lessor perspective, the changes in lease termination guidance, IDC and removal of third-party residual value guarantee insurance in the lease classification test did not have a material

impact on the consolidated financial results.

We adopted ASU No.

2016-02 Leases (Topic 842) , as of January 1, 2019, using the cumulative effect transition approach.

The cumulative effect transition

approach provides a method for recording existing leases at adoption and not restated comparative periods;

rather the effect of the change is recorded at the beginning of the year of adoption.

The Company elected the ASU’s package of three

practical expedients, which allowed the Company to forego a reassessment of (i) whether any expired or existing contracts contain leases, (ii) the lease classification for any expired or existing leases and (iii) the initial direct costs for any

existing leases.

The Company elected the option not to separate lease and non-lease components and instead to account for them as a single lease component and the hindsight practical expedient, which allows entities

to use hindsight when determining lease term and impairment of right-of-use assets.

The Company has several lease agreements, such as branch locations, which are considered operating leases, and therefore, were not previously recognized on the Company’s consolidated statements

of condition.

The new guidance requires these lease agreements to be recognized as a right-of-use asset and corresponding lease liability.

Our operating leases relate primarily to office space and bank branches.

As a result of implementing ASU 2016-02, we recognized an operating lease right-of-use (“ROU”) asset of $4.73 million and an operating lease

liability of $4.73 million on January 1, 2019, with no impact on our consolidated statement of income or consolidated statement of cash flows compared to the prior lease accounting model.

The ROU asset and operating lease liability are recorded

in other assets and other liabilities, respectively, in the consolidated balance sheets.

See Note 19 – “Leases” for additional information.

In January 2016, the FASB issued ASU 2016-01, Financial Instruments – Overall (Subtopic 825-10):

Recognition and Measurement of Financial Assets and Financial

Liabilities .

The ASU addresses certain aspects of recognition, measurement, presentation, and disclosure of financial instruments.

Most notably, the ASU changes the income statement impact of equity investments held by the Company and

the requirement for the Company to use the exit price notion when measuring the fair value of financial instruments for disclosure purposes.

The Company adopted the ASU provisions on January 1, 2018.

The adoption of the ASU resulted in the use of

an exit price rather than an entrance price to determine the fair value of loans not measured at fair value on a non-recurring basis in the consolidated balance sheets.

See Note 17 – Fair Value of Financial Instruments for further information

regarding the valuation of these loans.

In February 2018, the FASB issued ASU 2018-02, Income Statement – Reporting Comprehensive Income (Topic 220):

Reclassification of Certain Tax Effects from

Accumulated Other Comprehensive Income.

The amendments in ASU 2018-02 allow a reclassification from accumulated other comprehensive income (“AOCI”) to retained earnings for stranded tax effects resulting from the newly enacted Tax Cuts

and Jobs Act (“Tax Act”).

The amount of the reclassification consists of the difference between the historical corporate income tax rates and the newly enacted 21 percent corporate federal income tax rate.

The amendments are effective for all

entities for the interim and annual reporting periods beginning after December 15, 2018, and early adoption is permitted, including interim periods in those years.

The Company adopted the amendments as of December 31, 2017, which resulted in a

net reclassification of $144,000 between AOCI and retained earnings.

Accounting Guidance Pending Adoption at December 31, 2019

The following paragraphs provide descriptions of newly issued but not yet effective accounting standards that could have a material effect on the Company’s financial position or results of

In June 2016, the FASB issued ASU 2016-13, Financial Instruments – Credit Losses (Topic 326):

Measurement of Credit

Losses on Financial Instruments.

The ASU will require the earlier recognition of credit losses on loans and other financial instruments based on an expected loss model, replacing the incurred loss model

that is currently in use.

Under the new guidance, an entity will measure all expected credit losses for financial instruments held at the reporting date based on historical experience, current conditions and reasonable and supportable

The expected loss model will apply to loans and leases, unfunded lending commitments, held-to-maturity debt securities and other debt instruments measured at amortized cost.

The impairment model for available-for-sale debt securities

will require the recognition of credit losses through a valuation allowance when fair value is less than amortized cost, regardless of whether the impairment is considered to be other-than-temporary.

The new guidance is effective on January 1,

During 2109 Company completed an assessment of its CECL data and system needs, and engaged a third-party vendor to assist in developing a CECL model.

The Company, in conjunction with this vendor, researched and analyzed modeling

standards, loan segmentation, as well as potential external inputs to supplement our historical loss history.

Model validation began in the third quarter, enabling us to complete a parallel run using second, third

and fourth quarter 2019 data.

The ultimate impact of adopting the standard on January 1, 2020 will depend on the characteristics of the Company’s portfolios, macroeconomic conditions and forecasts, the ultimate validation of models and

methodologies, and other management judgments.

Parent Company Financial Information

The following financial information is presented as of December 31 for the periods indicated.

Farmers & Merchants Bancorp

Condensed Balance Sheets

(in thousands)

Investment in Farmers & Merchants Bank of Central California

Investment Securities

Subordinated Debentures

Shareholders’ Equity

Total Liabilities and Shareholders’ Equity

Farmers & Merchants Bancorp

Condensed Statements of Income

Year Ended December 31,

(in thousands)

Equity (Loss) in Undistributed Earnings in Farmers & Merchants Bank of Central California

Dividends from Subsidiary

Interest Income

Other Expenses, Net

Farmers & Merchants Bancorp

Condensed Statements of Cash Flows

Year Ended December 31,

(in thousands)

Cash Flows from Operating Activities:

Adjustments to Reconcile Net Income to Net Cash Provided by Operating Activities:

(Equity) Loss in Undistributed Net Earnings from Subsidiary

Net (Increase) in Other Assets

Net Increase (Decrease) in Liabilities

Net Cash Provided by Operating Activities

Investing Activities:

Securities Sold or Matured

Payments for Business Acquisition

Payments for Investments in Subsidiaries

Net Cash Used by Investing Activities

Financing Activities:

Stock Repurchased

Issuance of Common Stock

Cash Dividends

Net Cash Used by Financing Activities

Increase in Cash and Cash Equivalents

Cash and Cash Equivalents at Beginning of Year

Cash and Cash Equivalents at End of Year

Quarterly Unaudited Financial Data

The following tables set forth certain unaudited historical quarterly financial data for each of the eight consecutive quarters in 2019 and 2018.

This information is derived from unaudited consolidated financial

statements that include, in management’s opinion, all adjustments (consisting of normal recurring adjustments) necessary for a fair presentation when read in conjunction with the consolidated financial statements and notes thereto included

elsewhere in this Form 10-K.

(in thousands except per share data)

Total Interest Income

Total Interest Expense

Net Interest Income

Provision for Credit Losses

Net Interest Income After

Provision for Credit Losses

Total Non-Interest Income

Total Non-Interest Expense

Income Before Income Taxes

Provision for Income Taxes

Basic Earnings Per Common Share

(in thousands except per share data)

Total Interest Income

Total Interest Expense

Net Interest Income

Provision for Credit Losses

Net Interest Income After

Provision for Credit Losses

Total Non-Interest Income

Total Non-Interest Expense

Income Before Income Taxes

Provision for Income Taxes

Basic Earnings Per Common Share

Subsequent Events

On January 10, 2020, the Company issued 523 shares of common stock to the Bank’s non-qualified deferred compensation retirement plans at a price of $770 per share based upon a valuation completed by a nationally

recognized bank consulting and advisory firm and in reliance upon the exemption in Section 4(a)(2) of the Securities Act of 1933, as amended, and the regulations promulgated thereunder.

The proceeds will be contributed to the Bank as equity

Changes in and Disagreements with Accountants on Accounting and Financial Disclosure

Controls and Procedures

The Company maintains controls and procedures designed to ensure that all relevant information is recorded and reported in all filings of financial reports.

Such information is reported to the Company’s management,

including its Chief Executive Officer and its Chief Financial Officer to allow timely and accurate disclosure based on the definition of “disclosure controls and procedures” in Rule 13a-15(e).

In accordance with Rule 13a-15(b) of the Exchange

Act, we carried out an evaluation as of December 31, 2019, under the supervision and with the participation of our management, including our Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of

our disclosure controls and procedures as defined in Rule 13a-15(e) under the Exchange Act.

Based on that evaluation, our Chief Executive Officer and Chief Financial Officer have concluded that our disclosure controls and procedures are effective

as of December 31, 2019.

There have been no significant changes in the Company’s internal controls or in other factors that could significantly affect the internal controls subsequent to the date the Company completed its evaluation.

Management’s report on internal control over financial reporting is set forth in “Item 8.

Financial Statements and Supplementary Data,” and is incorporated herein by reference.

Moss Adams LLP, the independent registered public accounting firm that audited the consolidated financial statements included in this Annual Report, was engaged to audit the effectiveness of the Company’s internal control over financial

The report of Moss Adams LLP , which is set forth in “Item 8.

Financial Statements and Supplementary Data,” is incorporated herein by reference.

Other Information

Directors, Executive Officers and Corporate Governance

Set forth below is certain information regarding the Executive Officers of the Company and/or Bank:

Name and Position(s)

Principal Occupation during the Past Five Years

Chairman, President

& Chief Executive Officer

of the Company and Bank

Chairman, President & Chief Executive Officer of the Company and Bank.

Executive Vice President & Chief Administrative Officer of the Bank

Executive Vice President & Chief Administrative Officer of the Bank.

Executive Vice President

& Chief Financial Officer & Secretary of the Company and Bank

Executive Vice President & Chief Financial Officer of the Company and Bank.

Executive Vice President

& Senior Credit Officer

of the Company and Bank

Executive Vice President & Senior Credit Officer of the Company and Bank.

Executive Vice President,

Wholesale Banking Division of the Bank

Executive Vice President, Wholesale Banking Division of the Bank since May 2017.

Senior Vice President – Northern California Regional Executive – Umpqua Bank, April 2014 – May 2017.

Executive Vice President,

Wholesale Banking Division of the Bank

Executive Vice President, Wholesale Banking Division of the Bank.

Executive Vice President,

Retail Banking Division of the Bank

Executive Vice President, Retail Banking Division of the Bank.

Also, see “Election of Directors” and “Compliance with Section 16(a) of the Exchange Act” in the Company’s definitive proxy statement for the 2020 Annual Meeting of Stockholders which will be filed with the SEC and

which is incorporated herein by reference.

During 2019, there were no changes in procedures for the election of directors.

The Company has adopted a Code of Conduct, which complies with the Code of Ethics requirements of the SEC.

A copy of the Code of Conduct is posted on the Company’s website .

The Company intends

to disclose promptly any amendment to, or waiver from any provision of, the Code of Conduct applicable to senior financial officers, and any waiver from any provision of the Code of Conduct applicable to directors, on its website on the About Us page.

The Company’s website address is www.fmbonline.com.

This website address is for information only and is not intended to be an active link, or to incorporate any website information into this

Executive Compensation

The information required by Item 11 of Form 10-K is incorporated by reference from the information contained in the Company’s definitive proxy statement for the 2020 Annual Meeting of Stockholders, which will be

filed pursuant to Regulation 14A.

Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters

The information required by Item 12 of Form 10-K is incorporated by reference from the information contained in the Company’s definitive proxy statement for the 2020 Annual Meeting of Stockholders, which will be

filed pursuant to Regulation 14A.

The Company does not have any equity compensation plans, which require disclosure under Item 201(d) of Regulation S-K.

Certain Relationships and Related Transactions, and Director Independence

The information required by Item 13 of Form 10-K is incorporated by reference from the information contained in the Company’s definitive proxy statement for the 2020 Annual Meeting of Stockholders, which will be

filed pursuant to Regulation 14A.

Principal Accounting Fees and Services

The information required by Item 14 of Form 10-K is incorporated by reference from the information contained in the Company’s definitive proxy statement for the 2020 Annual Meeting of Stockholders, which will be

filed pursuant to Regulation 14A.

Exhibits, Financial Statement Schedules

Financial Statements.

Incorporated herein by reference, are listed in Item 8 hereof.

Financial Statement Schedules.

Not applicable.

Amended Certificate of Incorporation (incorporated by reference to Proposal #2 in the Registrant’s Definitive Proxy Statement on Schedule 14A

for its 2012 Annual Meeting of Stockholders , Appendices 1 and 2 to the Registrant’s Definitive Proxy Statement on Schedule 14A for its 2007

Annual Meeting of Stockholders , and Exhibit 3(i) to the Registrant’s Current Report on Form 8-K dated April 30, 1999 ).

Amended By-Laws (incorporated by reference to the Registrant’s Current Report on Form 8-K dated April 4, 2016 , the Registrant’s Current Report on Form 8-K dated September 19, 2008 , Appendix

3 to the Registrant’s Definitive Proxy Statement on Schedule 14A for its 2007 Annual Meeting of Stockholders , Exhibit 3.1 to the

Registrant’s Current Report on Form 8-K dated June 7, 2005 , and Exhibit 3(ii) to the Registrant’s Current Report on Form 8-K dated April 30, 1999 ).

Certificate of Designation for the Series A Junior Participating Preferred Stock (included as Exhibit A to the Rights Agreement between Farmers

& Merchants Bancorp and Registrar and Transfer Company, dated as of August 5, 2008, filed as Exhibit 4.1 below), filed on the Registrant’s Form 10-Q for the quarter ended June 30, 2008, is incorporated herein by reference.

Rights Agreement between Farmers & Merchants Bancorp and Registrar and Transfer Company , dated as of August 5, 2008, including Form of Right

Certificate attached thereto as Exhibit B, filed on the Registrant’s Form 10-Q for the quarter ended June 30, 2008, is incorporated herein by reference.

Amendment No.

1 to Rights Agreement between Farmers & Merchants Bancorp and Computershare Trust, N.A., as Rights Agent , dated as of February 18, 2016, incorporated herein by reference to Exhibit 4.2 of the Registrant’s Form 8-A/A filed on February 19, 2016.

Description of F&M Bancorp Capital Stock, filed on Registrant’s Form 10-K for the year ended December 31, 2019.

Amended and Restated Employment Agreement effective August 1, 2019, between Farmers & Merchants Bank of Central California and Kent A.

filed on Registrant’s Form 10-Q for the quarter ended June 30, 2019, is incorporated herein by reference.

Amended and Restated Employment Agreement effective August 1, 2019, between Farmers & Merchants Bank of Central California and Deborah E.

Skinner , filed on Registrant’s Form 10-Q for the quarter ended June 30, 2019, is incorporated herein by reference.

Amended and Restated Employment Agreement effective August 1, 2019, between Farmers & Merchants Bank of Central California and Kenneth W.

filed on Registrant’s Form 10-Q for the quarter ended June 30, 2019, is incorporated herein by reference.

Amended and Restated Employment Agreement effective August 1, 2019, between Farmers & Merchants Bank of Central California and Stephen W.

filed on Registrant’s Form 10-Q for the quarter ended June 30, 2019, is incorporated herein by reference.

Amended and Restated Employment Agreement effective August 1, 2019, between Farmers & Merchants Bank of Central California and Jay J.

filed on Registrant’s Form 10-Q for the quarter ended June 30, 2019, is incorporated herein by reference.

Amended and Restated Employment Agreement effective August 1, 2019, between Farmers & Merchants Bank of Central California and Ryan J.

filed on Registrant’s Form 10-Q for the quarter ended June 30, 2019, is incorporated herein by reference.

Employment Agreement effective May 1, 2017, between Farmers & Merchants Bank of Central California and David M.

Zitterow , filed on the

Registrant’s Current Report on Form 8-K dated June 30, 2017, is incorporated herein by reference.

Executive Retirement Plan – Performance Component as amended on November 5, 2010, filed on

Registrant’s Form 10-Q for the period ended September 30, 2010, is incorporated herein by reference.

Executive Retirement Plan – Retention Component as amended on November 5, 2010, filed on Registrant’s Form 10-Q for the period ended September

30, 2010, is incorporated herein by reference.

Executive Retirement Plan – Salary Component , amended and restated on November 29, 2014, filed on Registrant’s Form 10-K for the year ended

December 31, 2014, is incorporated herein by reference.

Executive Retirement Plan – Equity Component , amended and restated on November 29, 2014, filed on Registrant’s Form 10-K for the year ended

December 31, 2014, is incorporated herein by reference.

Senior Management Retention Plan , amended and restated on November 29, 2014, filed on Registrant’s Form 10-K for the year ended December 31,

2014, is incorporated herein by reference.

Code of Conduct of Farmers & Merchants Bancorp , filed on Registrant’s Form 10-K for the year ended December 31, 2003, is

incorporated herein by reference.

Subsidiaries of the Registrant , filed on Registrant’s Form 10-K for the year ended December 31, 2003, is incorporated herein by

Certification of the Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.*

Certification of the Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.*

Certification of the Chief Executive Officer and Chief Financial Officer pursuant to 18 U.S.C.

Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.*

XBRL Instance Document

XBRL Schema Document

XBRL Calculation Linkbase Document

XBRL Label Linkbase Document

XBRL Presentation Linkbase Document

XBRL Definition Linkbase Document

*Filed herewith

Form 10-K Summary

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

Farmers & Merchants Bancorp

/s/ Stephen W.

March 13, 2020

Executive Vice President &

Chief Financial Officer

Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities indicated on March 13, 2020.

Chairman, President & Chief Executive Officer

(Principal Executive Officer)

/s/ Stephen W.

Executive Vice President & Chief Financial Officer

(Principal Financial and Accounting Officer)

/s/ Gary Long

/s/ Calvin Suess

Gary Long, Director

Calvin Suess, Director

/s/ Kevin Sanguinetti

/s/ Edward Corum, Jr.

Kevin Sanguinetti, Director

Edward Corum, Jr., Director

/s/ Stephenson K.

/s/ Terrence A.

Stephenson K.

Green, Director

Young, Director

Borrowings under these lines are collateralized with loans or securities that have been accepted for pledging at the FHLB and FRB.

At December 31, 2020, the Company had available sources of liquidity, which included cash and cash equivalents and unpledged investment securities available-for-sale of approximately $583.4 million, which represents 13% of total assets.

Compared sentence by sentence after normalising whitespace, quotation marks, case and digits, so re-formatting and restated figures do not read as changed language. Wording changes appear as one removal and one addition. The current filing and the prior one are authoritative.

What changed 10-K

Item 7A. Quantitative and Qualitative Disclosures About Market Risk