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UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
 
 
 
 
FORM 10-K
 
     
þ
  ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
    For the Fiscal Year Ended December 31, 2006
or
o
  TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
    For the Transition Period From          To          
 
Commission file number: 000-30421
 
 
 
HANMI FINANCIAL CORPORATION
(Exact Name of Registrant as Specified in its Charter)
 
     
Delaware   95-4788120
(State or Other Jurisdiction of Incorporation or Organization)   (I.R.S. Employer Identification No.)
3660 Wilshire Boulevard, Penthouse Suite ALos Angeles, California  
90010
(Address of Principal Executive Offices)   (Zip Code)
(213) 382-2200
(Registrant’s Telephone Number, Including Area Code)
 
Securities Registered Pursuant to Section 12(b) of the Act:
 
     
Title of Each Class
 
Name of Each Exchange on Which Registered
Common Stock, $.001 Par Value
  The NASDAQ Global Market
 
Securities Registered Pursuant to Section 12(g) of the Act:
None
 
(Title of Class)
 
Indicate by check mark if the Registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.  Yes o     No þ
 
Indicate by check mark if the Registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.  Yes o     No þ
 
Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.  Yes þ     No o
 
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of Registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.  o
 
Indicate by check mark whether the Registrant is a large accelerated filer, an accelerated filer or a non-accelerated filer. See definition of “accelerated filer” and “large accelerated filer” in Exchange Act Rule 12b-2.
 
Large Accelerated Filer þ Accelerated Filer o Non-Accelerated Filer o
 
Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Act).  Yes o     No þ
 
As of June 30, 2006, the aggregate market value of the common stock held by non-affiliates of the Registrant was approximately $793,388,000. For purposes of the foregoing calculation only, in addition to affiliated companies, all directors and officers of the Registrant have been deemed affiliates.
 
Number of shares of common stock of the Registrant outstanding as of February 14, 2007 was 49,193,917 shares.
 
Documents Incorporated By Reference Herein:  Registrant’s Definitive Proxy Statement for its Annual Meeting of Stockholders, which will be filed within 120 days of the fiscal year ended December 31, 2006, is incorporated by reference into Part III of this report.
 


 

 
HANMI FINANCIAL CORPORATION
 
ANNUAL REPORT ON FORM 10-K FOR THE FISCAL YEAR ENDED DECEMBER 31, 2006
 
TABLE OF CONTENTS
 
             
        Page
 
  Business   1
  Risk Factors   16
  Unresolved Staff Comments   17
  Properties   17
  Legal Proceedings   18
  Submission of Matters to a Vote of Security Holders   18
 
  Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities   19
  Selected Financial Data   20
  Management’s Discussion and Analysis of Financial Condition and Results of Operations   24
  Quantitative and Qualitative Disclosures About Market Risk   47
  Financial Statements and Supplementary Data   47
  Changes In and Disagreements With Accountants on Accounting and Financial Disclosure   47
  Controls and Procedures   47
  Other Information   50
 
  Directors, Executive Officers and Corporate Governance   50
  Executive Compensation   50
  Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters   50
  Certain Relationships and Related Transactions, and Director Independence   50
  Principal Accounting Fees and Services   50
 
  Exhibits, Financial Statement Schedules   51
    Index to Consolidated Financial Statements   52
    Report of Independent Registered Public Accounting Firm   53
    Consolidated Statements of Financial Condition as of December 31, 2006 and 2005   54
    Consolidated Statements of Income for the Years Ended December 31, 2006, 2005 and 2004   55
    Consolidated Statements of Changes in Shareholders’ Equity and Comprehensive Income for the Years Ended December 31, 2006, 2005 and 2004   56
    Consolidated Statements of Cash Flows for the Years Ended December 31, 2006, 2005 and 2004   57
    Notes to Consolidated Financial Statements   58
  92
  93
 EXHIBIT 10.4
 EXHIBIT 23
 EXHIBIT 31.1
 EXHIBIT 31.2
 EXHIBIT 32.1
 EXHIBIT 32.2


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FORWARD-LOOKING STATEMENTS
 
Some of the statements under “Item 1.  Business,” “Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations” and elsewhere in this Form 10-K constitute forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. In some cases, you can identify forward-looking statements by terminology such as “may,” “will,” “should,” “could,” “expects,” “plans,” “intends,” “anticipates,” “believes,” “estimates,” “predicts,” “potential,” or “continue,” or the negative of such terms and other comparable terminology. Although we believe that the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future results, levels of activity, performance or achievements. These statements involve known and unknown risks, uncertainties and other factors that may cause our actual results, levels of activity, performance or achievements to differ from those expressed or implied by the forward-looking statement. For a discussion of some of the factors that might cause such a difference, see “Item 1A. Risk Factors,” “Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations — Interest Rate Risk Management” and “— Liquidity and Capital Resources.” We undertake no obligation to update these forward-looking statements to reflect events or circumstances that occur after the date on which such statements were made, except as required by law.
 
PART I
 
ITEM 1.   BUSINESS
 
General
 
Hanmi Financial Corporation (“Hanmi Financial,” “we” or “us”) is a Delaware corporation incorporated on March 14, 2000 pursuant to a Plan of Reorganization and Agreement of Merger to be the holding company for Hanmi Bank (the “Bank”). Hanmi Financial became the holding company for the Bank in June 2000 and is subject to the Bank Holding Company Act of 1956, as amended (“BHCA”). Hanmi Financial also elected financial holding company status under the BHCA in 2000. Our principal office is located at 3660 Wilshire Boulevard, Penthouse Suite A, Los Angeles, California 90010, and our telephone number is (213) 382-2200.
 
Hanmi Bank, our primary subsidiary, was incorporated under the laws of the State of California on August 24, 1981 and was licensed by the California Department of Financial Institutions (“DFI”) on December 15, 1982. The Bank’s deposit accounts are insured under the Federal Deposit Insurance Act (“FDI Act”) up to applicable limits thereof, and the Bank is a member of the Federal Reserve System. The Bank’s headquarters is located at 3660 Wilshire Boulevard, Penthouse Suite A, Los Angeles, California 90010.
 
Hanmi Bank is a community bank conducting general business banking, with its primary market encompassing the Korean-American community as well as other communities in the multi-ethnic population of Los Angeles, Orange, San Diego, San Francisco and Santa Clara counties. The Bank’s full-service offices are located in business areas where many of the businesses are run by immigrants and other minority groups. The Bank’s client base reflects the multi-ethnic composition of these communities. At December 31, 2006, the Bank had 22 full-service branch offices in California and nine loan production offices in California, Colorado, Georgia, Illinois, Texas, Virginia and Washington.
 
Our revenues are derived primarily from interest on our loan and securities portfolios and service charges on deposit accounts. A summary of revenues for the periods indicated follows:
 
                                                 
    Year Ended December 31,  
    2006     2005     2004  
    (Dollars in thousands)  
 
Interest and Fees on Loans
  $ 239,075       80.8 %   $ 180,845       78.2 %   $ 117,999       72.9 %
Interest on Investments
    19,710       6.7 %     18,507       8.0 %     17,372       10.7 %
Other Interest Income
    1,404       0.5 %     1,589       0.7 %     183       0.1 %
Service Charges on Deposit Accounts
    17,134       5.8 %     15,782       6.8 %     14,441       8.9 %
Other Non-Interest Income
    18,470       6.2 %     14,600       6.3 %     11,770       7.4 %
                                                 
Total Revenues
  $ 295,793       100.0 %   $ 231,323       100.0 %   $ 161,765       100.0 %
                                                 


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Business Acquisitions
 
In 2004, Hanmi Financial completed the acquisition of Pacific Union Bank (“PUB”), Los Angeles, California, and PUB was merged with Hanmi Bank.
 
Effective January 3, 2007, Hanmi Financial acquired two full-service insurance agencies, Chun-Ha Insurance Services, Inc. (“Chun-Ha”) and All World Insurance Services, Inc. (“AWI”), Garden Grove, California, as wholly-owned subsidiaries. The acquisition is not expected to have a significant effect on our financial position or results of operations.
 
Market Area
 
Hanmi Bank historically has provided its banking services through its branch network, located primarily in the Koreatown area of Los Angeles, to a wide variety of small- to medium-sized businesses. In recent years, it has expanded its service areas through de novo branching to Orange County, Santa Clara and San Diego and through acquisition to San Francisco and Seattle. Throughout the Bank’s service area, competition is intense for both loans and deposits. While the market for banking services is dominated by a few nationwide banks with many offices operating over a wide geographic area, savings banks, thrift and loan associations, credit unions, mortgage companies, insurance companies and other lending institutions, the Bank’s primary competitors are relatively smaller community banks that focus their marketing efforts on Korean-American businesses in the Bank’s service areas. Substantially all of our assets are located in, and substantially all of our revenues are derived from clients located within, the State of California.
 
In 2005 and 2006, the Bank opened loan production offices in Atlanta, Chicago, Dallas, Denver and Annandale. These offices will expand our geographic coverage by providing commercial and industrial, real estate and Small Business Administration (“SBA”) loans. The Bank also has loan production offices in Los Angeles, California; the San Jose, California metropolitan area; and the Seattle, Washington metropolitan area. We plan to continue to expand our business services by opening additional loan production offices in selected locations throughout the United States. The Bank is a preferred SBA lender in the following SBA districts: California (Los Angeles, Santa Ana, San Diego, Fresno, San Francisco and Sacramento), Portland, Seattle, Anchorage, Denver, Texas (Dallas and Houston), Illinois, Georgia, Florida, Virginia, Washington, D.C., Maryland, New Jersey and New York.
 
Lending Activities
 
Hanmi Bank originates loans for its own portfolio and for sale in the secondary market. Lending activities include commercial loans, SBA guaranteed loans, loans secured by real estate (commercial mortgage loans, real estate construction loans and residential mortgage loans) and consumer loans.
 
Commercial Loans
 
Hanmi Bank offers commercial loans for intermediate and short-term credit. Commercial loans may be unsecured, partially secured or fully secured. The majority of the origination of commercial loans is in Los Angeles and Orange Counties, and loan maturities are normally 12 to 60 months. Hanmi Bank requires a credit underwriting before considering any extension of credit. The Bank finances primarily small and middle market businesses in a wide spectrum of industries. Commercial and industrial loans consist of credit lines for operating needs, loans for equipment purchases and working capital, and various other business purposes. As compared to consumer lending, commercial lending entails significant additional risks. These loans typically involve larger loan balances, are generally dependent on the business’s cash flow and may be subject to adverse conditions in the general economy or in a specific industry. Short-term business loans generally are intended to finance current operations and typically provide for periodic principal payments, with interest payable monthly. Term loans normally provide for floating interest rates, with monthly payments of both principal and interest.
 
In general, it is the intent of Hanmi Bank to take collateral whenever possible, regardless of the loan purpose(s). Collateral may include liens on inventory, accounts receivable, fixtures and equipment, leasehold improvements and real estate. When real estate is the primary collateral, the Bank obtains formal appraisals in


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accordance with applicable regulations to support the value of the real estate collateral. Typically, Hanmi Bank requires all principals of a business to be co-obligors on all loan instruments and all significant stockholders of corporations to execute a specific debt guaranty. All borrowers must demonstrate the ability to service and repay not only their obligations to Hanmi Bank debt, but also all outstanding business debt, without liquidating the collateral, based on historical earnings or reliable projections.
 
SBA Guaranteed Loans
 
Hanmi Bank originates loans qualifying for guarantees issued by the United States SBA, an independent agency of the Federal government. The SBA guarantees on such loans currently range from 75 percent to 85 percent of the principal and accrued interest. Under certain circumstances, the guarantee of principal and interest may be less than 75 percent. In general, the guaranteed percentage is less than 75 percent for loans over $1.3 million. Hanmi Bank typically requires that SBA loans be secured by business assets and by a first or second deed of trust on any available real property. When the loan is secured by a first deed of trust on real property, the Bank obtains appraisals in accordance with applicable regulations. SBA loans have terms ranging from five to twenty years depending on the use of the proceeds. To qualify for a SBA loan, a borrower must demonstrate the capacity to service and repay the loan, without liquidating the collateral, on the basis of historical earnings or reliable projections.
 
Hanmi Bank generally sells to unrelated third parties a substantial amount of the guaranteed portion of the SBA guaranteed loans that it originates. During the fourth quarter of 2006, the Bank began selling the unguaranteed portion of SBA loans. When Hanmi Bank sells a SBA loan, it may be obligated to repurchase the loan (for a period of 90 days after the sale) if the loan fails to comply with certain representations and warranties given by the Bank. The Bank is also obligated to repurchase the loan (before 120 days past due) if the loan is past due. Hanmi Bank retains the obligation to service the SBA loans, for which it receives servicing fees. The unsold portions of the SBA loans that remain owned by Hanmi Bank are included in Loans Receivable on the Consolidated Statements of Financial Condition. As of December 31, 2006, Hanmi Bank had $171.6 million in SBA loans in its portfolio, and was servicing $236.0 million of SBA loans sold to investors.
 
Loans Secured by Real Estate
 
Real estate lending involves risks associated with the potential decline in the value of the underlying real estate collateral and the cash flow from income-producing properties. Declines in real estate values and cash flows can be caused by a number of factors, including adversity in general economic conditions, rising interest rates, changes in tax and other laws and regulations affecting the holding of real estate, environmental conditions, governmental and other use restrictions, development of competitive properties and increasing vacancy rates. When real estate values decline, Hanmi Bank’s real estate dependence increases the risk of loss both in Hanmi Bank’s loan portfolio and any holdings of other real estate owned as a result of foreclosures on loans.
 
Commercial Mortgage Loans
 
Hanmi Bank offers commercial real estate loans. These loans are generally collateralized by first deeds of trust. For these commercial mortgage loans, the Bank obtains formal appraisals in accordance with applicable regulations to support the value of the real estate collateral. All appraisal reports on commercial mortgage loans are reviewed by an appraisal review officer. The review generally covers an examination of the appraiser’s assumptions and methods that were used to derive a value for the property, as well as compliance with the Uniform Standards of Professional Appraisal Practice (the “USPAP”). Hanmi Bank also considers the cash flow from the business. The majority of the properties securing these loans are located in Los Angeles and Orange Counties.
 
Hanmi Bank’s commercial real estate loans are principally secured by investor-owned commercial buildings and owner-occupied commercial and industrial buildings. Generally, these types of loans are made for a period of up to seven years, with monthly payments based upon a portion of the principal plus accrued interest, and with a loan-to-value ratio of 65 percent or less, using an adjustable rate indexed to the prime rate appearing in the West Coast edition of The Wall Street Journal (“WSJ Prime Rate”) or Hanmi Bank’s prime rate (“Bank Prime Rate”), as adjusted from time to time. Hanmi Bank also offers fixed-rate commercial real estate loans, including hybrid-fixed


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rate loans that are fixed for one to five years and convert to adjustable rate loans for the remaining term. Amortization schedules for commercial real estate loans generally do not exceed 25 years.
 
Payments on loans secured by investor-owned and owner-occupied properties are often dependent upon successful operation or management of the properties. Repayment of such loans may be subject to a greater extent to the risk of adverse conditions in the real estate market or the economy. The Bank seeks to minimize these risks in a variety of ways, including limiting the size of such loans and strictly scrutinizing the property securing the loan. The Bank seeks to manage these risks in a variety of ways, including vacancy and interest rate hike sensitivity analysis at the time of loan origination and quarterly risk assessment of the total commercial real estate secured loan portfolio that includes most recent industry trends. When possible, the Bank also obtains corporate or individual guarantees from financially capable parties. Representatives of the Bank visit all of the properties securing the Bank’s real estate loans before the loans are approved. The Bank requires title insurance insuring the status of its lien on all of the real estate secured loans when a first or second trust deed on the real estate is taken as collateral. The Bank also requires the borrower to maintain fire insurance, extended coverage casualty insurance and, if the property is in a flood zone, flood insurance, in an amount equal to the outstanding loan balance, subject to applicable laws that may limit the amount of hazard insurance a lender can require to replace such improvements. We cannot assure that these procedures will protect against losses on loans secured by real property.
 
Real Estate Construction Loans
 
Hanmi Bank finances the construction of multifamily, low-income housing, commercial and industrial properties within its market area. The future condition of the local economy could negatively affect the collateral values of such loans. The Bank’s construction loans typically have the following characteristics:
 
  •  maturities of two years or less;
 
  •  a floating rate of interest based on the Bank Prime Rate or a nationally recognized index such as the WSJ Prime Rate;
 
  •  minimum cash equity of 35 percent of project cost;
 
  •  reserve of anticipated interest costs during construction or advance of fees;
 
  •  first lien position on the underlying real estate;
 
  •  loan-to-value ratios generally not exceeding 65 percent; and
 
  •  recourse against the borrower or a guarantor in the event of default.
 
Hanmi Bank does, on a case-by-case basis, commit to making permanent loans on the property with loan conditions that command strong project stability and debt service coverage. Construction loans involve additional risks compared to loans secured by existing improved real property. These include the following:
 
  •  the uncertain value of the project prior to completion;
 
  •  the inherent uncertainty in estimating construction costs, which are often beyond the borrower’s control;
 
  •  construction delays and cost overruns;
 
  •  possible difficulties encountered in connection with municipal or other governmental regulations during construction; and
 
  •  the difficulty in accurately evaluating the market value of the completed project.
 
As a result of these uncertainties, construction lending often involves the disbursement of substantial funds with repayment dependent, in part, on the success of the ultimate project rather than the ability of the borrower or guarantor to repay principal and interest. If Hanmi Bank is forced to foreclose on a project prior to or at completion due to a default, there can be no assurance that Hanmi Bank will be able to recover all of the unpaid balance of, or accrued interest on, the loans as well as the related foreclosure and holding costs. In addition, Hanmi Bank may be required to fund additional amounts to complete a project and may have to hold the property for an indeterminable period of time. Hanmi Bank has underwriting procedures designed to identify what it believes to be acceptable


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levels of risk in construction lending. Among other things, qualified and bonded third parties are engaged to provide progress reports and recommendations for construction disbursements. No assurance can be given that these procedures will prevent losses arising from the risks described above.
 
Residential Mortgage Loans
 
Hanmi Bank originates fixed-rate and variable-rate mortgage loans secured by one- to four-family properties with amortization schedules of 15 to 30 years and maturities of up to 30 years. The loan fees charged, interest rates and other provisions of the Bank’s residential loans are determined by an analysis of the Bank’s cost of funds, cost of origination, cost of servicing, risk factors and portfolio needs. The Bank may sell some of the mortgage loans that it originates to secondary market participants. The typical turn-around time from origination to sale is between 30 and 90 days. The interest rate and the price of the loan are typically agreed to prior to the loan origination.
 
Consumer Loans
 
Consumer loans are extended for a variety of purposes. Most are for the purchase of automobiles. Other consumer loans include secured and unsecured personal loans, home improvement loans, home equity lines of credit (“HELOC’s”), overdraft protection loans, unsecured lines of credit and credit cards. Management assesses the borrower’s creditworthiness and ability to repay the debt through a review of credit history and ratings, verification of employment and other income, review of debt-to-income ratios and other measures of repayment ability. Although creditworthiness of the applicant is of primary importance, the underwriting process also includes a comparison of the value of the collateral, if any, to the proposed loan amount. Most of Hanmi Bank’s loans to individuals are repayable on an installment basis.
 
Any repossessed collateral for a defaulted consumer loan may not provide an adequate source of repayment of the outstanding loan balance, because the collateral is more likely to suffer damage, loss or depreciation. The remaining deficiency often does not warrant further collection efforts against the borrower beyond obtaining a deficiency judgment. In addition, the collection of loans to individuals is dependent on the borrower’s continuing financial stability, and thus is more likely to be adversely affected by job loss, divorce, illness or personal bankruptcy. Furthermore, various Federal and state laws, including bankruptcy and insolvency laws, often limit the amount that the lender can recover on loans to individuals. Loans to individuals may also give rise to claims and defenses by a consumer borrower against the lender on these loans, and a borrower may be able to assert against any assignee of the note these claims and defenses that the borrower has against the seller of the underlying collateral.
 
Off-Balance Sheet Commitments
 
As part of its service to its small- to medium-sized business customers, Hanmi Bank from time to time issues formal commitments and lines of credit. These commitments can be either secured or unsecured. They may be in the form of revolving lines of credit for seasonal working capital needs or may take the form of commercial letters of credit or standby letters of credit. Commercial letters of credit facilitate import trade. Standby letters of credit are conditional commitments issued by Hanmi Bank to guarantee the performance of a customer to a third party.
 
Lending Procedures and Loan Limits
 
Loan applications may be approved by the Board of Directors’ Loan Committee, or by Hanmi Bank’s management or lending officers to the extent of their lending authority. Individual lending authority is granted to the Chief Credit Officer, the Deputy Chief Credit Officer and the Senior Credit Officer. In early 2006, the Bank granted lending authority to certain additional officers including Branch Managers and the line managers to whom they report. Loans for which direct and indirect borrower liability exceeds an individual’s lending authority are referred to Hanmi Bank’s Management Credit Committee and, for those in excess of the Management Credit Committee’s approval limits, to the Board of Directors’ Loan Committee.
 
At December 31, 2006, Hanmi Bank’s authorized legal lending limits for loans to one borrower were $56.5 million for unsecured loans plus an additional $37.6 million for specific secured loans. Legal lending limits are calculated in conformance with California law, which prohibits a bank from lending to any one individual or entity or its related interests an aggregate amount that exceeds 15 percent of primary capital plus the allowance for


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loan losses on an unsecured basis, plus an additional 10 percent on a secured basis. Hanmi Bank’s primary capital plus allowance for loan losses at December 31, 2006 totaled $376.4 million.
 
Hanmi Bank seeks to mitigate the risks inherent in its loan portfolio by adhering to certain underwriting practices. The review of each loan application includes analysis of the applicant’s experience, prior credit history, income level, cash flow, financial condition, tax returns, cash flow projections, and the value of any collateral to secure the loan, based upon reports of independent appraisers and/or audits of accounts receivable or inventory pledged as security. In the case of real estate loans over a specified amount, the review of collateral value includes an appraisal report prepared by an independent Bank-approved appraiser. All appraisal reports on commercial real property secured loans are reviewed by an Appraisal Review Officer. The review generally covers an examination of the appraiser’s assumptions and methods that were used to derive a value for the property, as well as compliance with the USPAP.
 
Allowance for Loan Losses, Allowance for Off-Balance Sheet Items and Provision for Credit Losses
 
Hanmi Bank maintains an allowance for loan losses at a level considered by management to be adequate to cover the inherent risks of loss associated with its loan portfolio under prevailing economic conditions. In addition, the Bank maintains an allowance for off-balance sheet items associated with unfunded commitments and letters of credit, which is included in Other Liabilities on the Consolidated Statements of Financial Condition.
 
Hanmi Bank follows the “Interagency Policy Statement on the Allowance for Loan and Lease Losses” and analyzes the allowance for loan losses on a quarterly basis. In addition, as an integral part of the quarterly credit review process of the Bank, the allowance for loan losses and allowance for off-balance sheet items are reviewed for adequacy. The DFI and/or the Board of Governors of the Federal Reserve System (the “FRB”) require the Bank to recognize additions to the allowance for loan losses based upon their assessment of the information available to them at the time of their examinations.
 
Deposits
 
We raise funds primarily through Hanmi Bank’s network of branches. The Bank attracts deposits by offering a wide variety of transaction and term accounts and personalized customer service. Accounts offered include business and personal checking accounts, savings accounts, negotiable order of withdrawal (“NOW”) accounts, money market accounts and certificates of deposit.
 
Website
 
We maintain an Internet website at www.hanmi.com. We make available free of charge on the website our Annual Reports on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K and any amendments thereto, as soon as reasonably practicable after we file such reports with the Securities and Exchange Commission (“SEC” or “the Commission”). None of the information on or hyperlinked from our website is incorporated into this Annual Report on Form 10-K.
 
Employees
 
As of December 31, 2006, we had 589 full-time equivalent employees. Our employees are not represented by a union or covered by a collective bargaining agreement.
 
Insurance
 
We maintain financial institution bond and commercial insurance at levels deemed adequate by management to protect Hanmi Financial from certain damages.
 
Competition
 
The banking and financial services industry in California generally, and in Hanmi Bank’s market areas specifically, are highly competitive. The increasingly competitive environment faced by banks is a result primarily of changes in laws and regulation, changes in technology and product delivery systems, new competitors in the


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market, and the accelerating pace of consolidation among financial service providers. We compete for loans, deposits and customers with other commercial banks, savings institutions, securities and brokerage companies, mortgage companies, real estate investment trusts, insurance companies, finance companies, money market funds, credit unions and other non-bank financial service providers. Some of these competitors are larger in total assets and capitalization, have greater access to capital markets, including foreign-ownership, and/or offer a broader range of financial services.
 
Among the advantages that the major banks have over Hanmi Bank is their ability to finance extensive advertising campaigns and to allocate their investment assets to regions of highest yield and demand. Many of the major commercial banks operating in Hanmi Bank’s service areas offer specific services (for instance, trust services) that are not offered directly by Hanmi Bank. By virtue of their greater total capitalization, these banks also have substantially higher lending limits than Hanmi Bank does.
 
The recent trend has been for other institutions, including brokerage firms, credit card companies and retail establishments, to offer banking services to consumers, including money market funds with check access and cash advances on credit card accounts. In addition, other entities (both public and private) seeking to raise capital through the issuance and sale of debt or equity securities compete with banks in the acquisition of deposits.
 
Hanmi Bank’s major competitors are relatively smaller community banks that focus their marketing efforts on Korean-American businesses in Hanmi Bank’s service areas. Amongst these banks, Hanmi Bank is the largest, with a loan portfolio that is 67.3 percent larger than its nearest competitor’s loan portfolio, and a deposit portfolio that is 68.1 percent larger than its nearest competitor’s deposit portfolio. These banks compete for loans primarily through the interest rates and fees they charge and the convenience and quality of service they provide to borrowers. The principal bases of competition for deposits are the interest rate paid, convenience and service.
 
In order to compete with other financial institutions in its service area, Hanmi Bank relies principally upon local promotional activity, including advertising in the local media, personal contacts, direct mail and specialized services. The Bank’s promotional activities emphasize the advantages of dealing with a locally owned and headquartered institution attuned to the particular needs of the community.
 
Economic Conditions, Government Policies, Legislation and Regulation
 
Our profitability, like that of most financial institutions, is primarily dependent on interest rate differentials. In general, the difference between the interest rates paid by us on interest-bearing liabilities, such as deposits and other borrowings, and the interest rates received by us on our interest-earning assets, such as loans extended to our customers and securities held in our investment portfolio, will comprise the major portion of our earnings. These rates are highly sensitive to many factors that are beyond our control, such as inflation, recession and unemployment, and the impact that future changes in domestic and foreign economic conditions might have on us cannot be predicted.
 
Our business is also influenced by the monetary and fiscal policies of the federal government and the policies of regulatory agencies, particularly the FRB. The FRB implements national monetary policies (with objectives such as curbing inflation and combating recession) through its open-market operations in U.S. Government securities, by adjusting the required level of reserves for depository institutions subject to its reserve requirements, and by varying the target federal funds and discount rates applicable to borrowings by depository institutions. The actions of the FRB in these areas influence the growth of bank loans, investments and deposits and also affect interest earned on interest-earning assets and interest paid on interest-bearing liabilities. The nature and impact on us of any future changes in monetary and fiscal policies cannot be predicted.
 
From time to time, federal and state legislation is enacted which may have the effect of materially increasing the cost of doing business, limiting or expanding permissible activities, or affecting the competitive balance between banks and other financial services providers, such as recent federal legislation permitting affiliations among commercial banks, insurance companies and securities firms. We cannot predict whether or when any potential legislation will be enacted, and if enacted, the effect that it, or any implementing regulations, would have on our financial condition or results of operations. In addition, the outcome of any investigations initiated by state authorities or litigation raising issues may result in necessary changes in our operations, additional regulation and increased compliance costs.


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Supervision and Regulation
 
General
 
We are extensively regulated under both Federal and certain state laws. Regulation and supervision by the federal and state banking agencies is intended primarily for the protection of depositors and the Deposit Insurance Fund (“DIF”) administered by the Federal Deposit Insurance Corporation (“FDIC”), and not for the benefit of stockholders. Set forth below is a summary description of the key laws and regulations that relate to our operations. These descriptions are qualified in their entirety by reference to the applicable laws and regulations.
 
Hanmi Financial
 
As a financial holding company, we are subject to regulation and examination by the FRB under the BHCA. We are required to file with the FRB periodic reports and such additional information as the FRB may require.
 
The FRB may require us to terminate an activity or terminate control of, liquidate or divest certain subsidiaries, affiliates or investments if the FRB believes the activity or the control of the subsidiary or affiliate constitutes a significant risk to the financial safety, soundness or stability of our banking subsidiary. The FRB also has the authority to regulate provisions of certain bank holding company debt, including the authority to impose interest ceilings and reserve requirements on such debt. Under certain circumstances, we must file written notice and obtain FRB approval prior to purchasing or redeeming our equity securities. Further, we are required by the FRB to maintain certain levels of capital. See “Capital Standards.”
 
We are required to obtain prior FRB approval for the acquisition of more than five percent of the outstanding shares of any class of voting securities or substantially all of the assets of any bank or bank holding company. Prior FRB approval is also required for the merger or consolidation of a bank holding company with another bank holding company. Similar state banking agency approvals may also be required. Certain competitive, management, financial and other factors are considered by the bank regulatory agencies in granting these approvals.
 
We are prohibited by the BHCA, except in certain statutorily prescribed instances, from acquiring direct or indirect ownership or control of more than five percent of the outstanding voting shares of any company that is not a bank or bank holding company and from engaging directly or indirectly in activities other than those of banking, managing or controlling banks, or furnishing services to subsidiaries. However, subject to prior notice or FRB approval, we may engage in any, or acquire shares of companies engaged in, those non-banking activities that the FRB deems to be so closely related to banking or managing or controlling banks as to be a proper incident thereto. We may make acquisitions and engage in these non-banking and certain other activities without prior FRB approval pursuant to our election as a financial holding company.
 
FRB regulations require that each bank holding company serve as a source of financial and managerial strength to its subsidiary bank(s) and commit resources as necessary to support each subsidiary bank. A bank holding company’s failure to meet its obligations to serve as a source of strength to its subsidiary banks will generally be considered by the FRB to be an unsafe and unsound banking practice or a violation of FRB regulations or both. The FRB’s bank holding company rating system emphasizes risk management and evaluation of the potential impact of non-depository entities on safety and soundness.
 
We are also a bank holding company within the meaning of the California Financial Code. As such, Hanmi Financial and our subsidiary are subject to examination by, and may be required to file reports with, the DFI.
 
Financial Holding Status
 
In order to elect or retain financial holding company status, our depository institution subsidiary must be well-capitalized, well-managed, and, except in limited circumstances, in satisfactory compliance with the Community Reinvestment Act (“CRA”). Failure to sustain compliance with these requirements or correct any non-compliance within a fixed time period could lead to divestiture of subsidiary banks or require us to conform all of our activities to those permissible for a bank holding company. We elected financial holding company status in 2000.
 
As a bank holding company that has elected to be a financial holding company, we may affiliate with securities firms and insurance companies and engage in other activities, without prior FRB notice or approval, that are


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determined to be financial in nature or are incidental or complementary to activities that are financial in nature. “Financial in nature” activities include:
 
  •  lending, exchanging, transferring, investing for others, or safeguarding financial assets other than money or securities;
 
  •  providing any device or other instrumentality for transferring money or other financial assets;
 
  •  arranging, effecting or facilitating financial transactions for the account of third parties;
 
  •  securities underwriting;
 
  •  dealing and market making;
 
  •  sponsoring mutual funds and investment companies;
 
  •  insurance underwriting and agency sales;
 
  •  merchant banking investments; and
 
  •  activities that the FRB, in consultation with the Secretary of the Treasury, determines from time to time to be so closely related to banking or managing or controlling banks as to be a proper incident thereto.
 
The Bank
 
As a California chartered bank that is a member of the Federal Reserve, we are subject to primary supervision, periodic examination and regulation by the DFI and the FRB through the Federal Reserve Bank of San Francisco, as well as certain regulations promulgated by the FDIC. If, as a result of an examination of the Bank, the FRB or DFI determines that the financial condition, capital resources, asset quality, earnings prospects, management, liquidity, or other aspects of our banking operations are unsatisfactory or that the Bank is violating or has violated any law or regulation, various remedies are available to the FRB, including the power to require affirmative action to correct any conditions resulting from any violation or practice; enter into informal non-public or formal public memoranda of understanding or written agreements with the Bank to take corrective action; issue an administrative order that can be judicially enforced; enjoin “unsafe or unsound” practices; direct an increase in capital; restrict our growth; assess civil monetary penalties; and remove officers and directors. Ultimately, the DFI could take possession and close and liquidate the Bank.
 
The DFI also possesses broad powers to take corrective and other supervisory actions to resolve the problems of California state-chartered banks. These enforcement powers include cease and desist orders, the imposition of fines, the ability to take possession of a bank and the ability to close and liquidate a bank.
 
Changes, such as the following, in Federal or state banking laws or the regulations, policies or guidance of the Federal or state banking agencies could have a material adverse impact on us, the Bank and our operations:
 
  •  In December 2006, the Federal banking agencies issued final guidance to reinforce sound risk management practices for bank holding companies and banks in commercial real estate (“CRE”) loans which establishes CRE concentration thresholds as criteria for examiners to identify CRE concentration that may warrant further analysis. The implementation of these guidelines could result in increased reserves and capital costs for banks with “CRE concentration.” As of December 31, 2006, the Bank’s CRE portfolio would not meet the definition of CRE concentration as set forth in the guidelines.
 
  •  In September 2006, the Federal banking agencies issued final guidance on alternative residential mortgage products that allow borrowers to defer repayment of principal and sometimes interest, including “interest-only” mortgage loans, and “payment option” adjustable rate mortgages where a borrower has flexible payment options, including payments that have the potential for negative amortization. While acknowledging that innovations in mortgage lending can benefit some consumers, the final guidance states that management should (1) assess a borrower’s ability to repay the loan, including any principal balances added through negative amortization, at the fully indexed rate that would apply after the introductory period, (2) recognize that certain nontraditional mortgages are untested in a stressed environment and warrant strong risk management standards as well as appropriate capital and loan loss reserves, and (3) ensure that


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  borrowers have sufficient information to clearly understand loan terms and associated risks prior to making a product or payment choice. The Bank believes its products and disclosures are in conformance with the requirements of the guidance.
 
  •  Pursuant to the Financial Services Regulatory Relief Act of 2006, the SEC and the FRB have released, as Regulation R, joint proposed rules expected to be finalized by midyear to implement exceptions provided for in the Gramm-Leach-Bliley Act for bank securities activities which banks may conduct without registering with the SEC as securities brokers or moving such activities to a broker-dealer affiliate. The proposed Regulation R “push out” rules exceptions would allow a bank, subject to certain conditions, to continue to conduct securities transactions for customers as part of the bank’s trust and fiduciary, custodial and deposit “sweep” functions, and to refer customers to a securities broker-dealer pursuant to a networking arrangement with the broker-dealer. The proposed rules, if adopted, are not expected to have a material effect on the current securities activities which the Bank now conducts for customers.
 
Because California permits commercial banks chartered by the state to engage in any activity permissible for national banks, the Bank may form subsidiaries to engage in the many so-called “closely related to banking” or “non-banking” activities commonly conducted by national banks in operating subsidiaries, and may conduct certain “financial activities” in a subsidiary to the same extent as may a national bank. However, in order to form a financial subsidiary, the Bank must be “well-capitalized,” “well-managed” and in satisfactory compliance with the CRA. Further, the Bank must exclude from its assets and equity all equity investments, including retained earnings, in a financial subsidiary. The assets of the subsidiary may not be consolidated with the Bank’s assets. The Bank must also have policies and procedures to assess financial subsidiary risk and protect the Bank from such risks and potential liabilities and would be subject to the same capital deduction, risk management and affiliate transaction rules as applicable to national banks. Generally, a financial subsidiary is permitted to engage in activities that are “financial in nature” or incidental thereto, even though they are not permissible for the national bank to conduct directly within the Bank. The definition of “financial in nature” includes, among other items, underwriting, dealing in or making a market in securities, including, for example, distributing shares of mutual funds. The subsidiary may not, however, under present law, engage as principal in underwriting insurance (other than credit life insurance), issue annuities or engage in real estate brokerage or in merchant banking activities. Chun-Ha and AWI are financial subsidiaries of Hanmi Financial.
 
Federal Home Loan Bank (“FHLB”) System
 
The Bank is a member of the FHLB of San Francisco. Among other benefits, each FHLB serves as a reserve or central bank for its members within its assigned region. Each FHLB is financed primarily from the sale of consolidated obligations of the FHLB system. Each FHLB makes available loans or advances to its members in compliance with the policies and procedures established by the Board of Directors of the individual FHLB. As a FHLB member, we are required to own a certain amount of capital stock in the FHLB. At December 31, 2006, we were in compliance with the stock requirements.
 
Interstate Banking and Branching
 
Subject to certain size limitations under the Riegle-Neal Interstate Banking Act, bank holding companies and banks have the ability to acquire and merge with banks in other states; and, subject to certain state restrictions, banks may also acquire or establish new branches outside their home states. Interstate branches are subject to certain laws of the states in which they are located. Competition may increase further as banks branch across state lines and enter new markets.
 
The Sarbanes-Oxley Act of 2002
 
The Sarbanes-Oxley Act of 2002 addressed accounting oversight and corporate governance matters, and, among other things:
 
  •  required executive certification of financial presentations;
 
  •  increased requirements for board audit committees and their members;


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  •  enhanced disclosure of controls and procedures and internal control over financial reporting;
 
  •  enhanced controls on, and reporting of, insider trading; and
 
  •  increased penalties for financial crimes and forfeiture of executive bonuses in certain circumstances.
 
The legislation and its implementing regulations have resulted in increased costs of compliance, including certain outside professional costs. To date, these costs have not had a material impact on our operations.
 
Dividends and Other Transfers of Funds
 
Dividends from the Bank constitute the principal source of income to Hanmi Financial, which is a legal entity separate and distinct from the Bank. A FRB policy statement on the payment of cash dividends states that a bank holding company should pay cash dividends only to the extent that the holding company’s net income for the past year is sufficient to cover both the cash dividends and a rate of earnings retention that is consistent with the holding company’s capital needs, asset quality and overall financial condition. The FRB also indicated that it would be inappropriate for a company experiencing serious financial problems to borrow funds to pay dividends. Furthermore, under the Federal prompt corrective action regulations, the FRB may prohibit a bank holding company from paying any dividends if the holding company’s bank subsidiary is classified as “undercapitalized.” See “Capital Standards” below.
 
The Bank is subject to various statutory and regulatory restrictions on its ability to pay dividends. Under such restrictions, the amount available for payment of dividends to Hanmi Financial by the Bank totaled $131.0 million at December 31, 2006. In addition, the Bank’s regulators have the authority to prohibit the Bank from paying dividends, depending upon the Bank’s financial condition, if such payment is deemed to constitute an unsafe or unsound practice.
 
Capital Standards
 
The Federal banking agencies have adopted risk-based minimum capital guidelines for bank holding companies and banks that are intended to provide a measure of capital that reflects the degree of risk associated with a banking organization’s operations for both transactions reported on the balance sheet as assets and transactions which are recorded as off balance sheet items. Under these guidelines, nominal dollar amounts of assets and credit equivalent amounts of off balance sheet items are multiplied by one of several risk adjustment percentages, which range from zero percent for assets with low credit risk, such as certain U.S. Treasury securities, to 100 percent for assets with relatively high credit risk, such as business loans.
 
Under the capital guidelines, a banking organization’s total capital is divided into tiers. “Tier I capital” consists of (1) common equity, (2) qualifying non-cumulative perpetual preferred stock, (3) a limited amount of qualifying cumulative perpetual preferred stock and (4) minority interests in the equity accounts of consolidated subsidiaries (including trust-preferred securities), less goodwill and certain other intangible assets. Qualifying Tier I capital may consist of trust-preferred securities, subject to the FRB’s final rule adopted March 4, 2005, which changed the criteria and quantitative limits for inclusion of restricted core capital elements in Tier I capital. “Tier II capital” consists of hybrid capital instruments, perpetual debt, mandatory convertible debt securities, a limited amount of subordinated debt, preferred stock and trust-preferred securities that do not qualify as Tier I capital, a limited amount of the allowance for loan and lease losses and a limited amount of unrealized holding gains on equity securities. “Tier III capital” consists of qualifying unsecured subordinated debt. The sum of Tier II and Tier III capital may not exceed the amount of Tier I capital.
 
The risk-based capital guidelines require a minimum ratio of qualifying total capital to risk-adjusted assets of 8.0 percent and a minimum ratio of Tier 1 capital to risk-adjusted assets of 4.0 percent. In addition to the risk-based guidelines, Federal banking regulators require banking organizations to maintain a minimum amount of Tier 1 capital to total assets, referred to as the leverage ratio. For a banking organization rated in the highest of the five categories used by regulators to rate banking organizations, the minimum leverage ratio of Tier 1 capital to total assets must be 3.0 percent.


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As of December 31, 2006, the regulatory capital guidelines and the actual capital ratios for Hanmi Financial and the Bank were as follows:
 
                                 
          Actual as of
 
    Requirement     December 31, 2006  
    Adequately
    Well
    Hanmi
    Hanmi
 
    Capitalized     Capitalized     Bank     Financial  
 
Total Risk-Based Capital Ratio
    8.0 %     10.0 %     12.28 %     12.55 %
Tier 1 Risk-Based Capital Ratio
    4.0 %     6.0 %     11.31 %     11.58 %
Tier 1 Leverage Capital Ratio
    4.0 %     5.0 %     9.85 %     10.08 %
 
The current risk-based capital guidelines are based upon the 1988 capital accord of the International Basel Committee on Banking Supervision. A new international accord, referred to as Basel II, which emphasizes internal assessment of credit, market and operational risk, supervisory assessment and market discipline in determining minimum capital requirements, currently becomes mandatory outside the U.S. in 2008. In October 2006, the U.S. federal banking agencies issued a notice of proposed rulemaking for comment to implement Basel II for U.S. banks with certain differences from the international Basel II framework and which would not be fully in effect for U.S. banks until 2012. Further, the U.S. banking agencies propose to retain the minimum leverage requirement and prompt corrective action regulatory standards. In December 2006, the federal banking agencies issued another notice of proposed rulemaking for comment, referred to as Basel IA, which proposed alternative capital requirements for smaller U.S. banks that may be negatively impacted competitively by certain provisions of Basel II. Additional guidance on Basel II issued in February 2007 stated the agencies’ expectation that to determine the extent to which banks should hold capital in excess of regulatory minimum levels, examiners would examine the combined implications of a bank’s compliance with qualification requirements for regulatory risk-based capital standards, the quality and results of the bank’s internal capital adequacy assessment process, and the examiners’ assessment of the bank’s risk profile and capital position. At this time, the impact that proposed changes in capital requirements may have on the cost and availability of different types of credit and the compliance cost of implementing Basel II or Basel IA, as applicable, are uncertain.
 
The federal banking agencies possess broad power under the FDI Act to take “prompt corrective action” to resolve the problems of insured depository institutions that fall within any undercapitalized category. In addition, the federal banking agencies have adopted non-capital safety and soundness standards relating to: (i) internal controls, information systems and internal audit systems, (ii) loan documentation, (iii) credit underwriting, (iv) asset quality and growth, (v) earnings, (vi) risk management, and (vii) compensation and benefits.
 
Premiums for Deposit Insurance
 
Through the DIF, the FDIC insures our customer deposits up to prescribed limits for each depositor. The amount of FDIC assessments paid by each DIF member institution is based on its relative risk of default as measured by regulatory capital ratios and other factors. Specifically, the assessment rate is based on the institution’s capitalization risk category and supervisory subgroup category. An institution’s capitalization risk category is based on the FDIC’s determination of whether the institution is well capitalized, adequately capitalized or less than adequately capitalized. An institution’s supervisory subgroup category is based on the FDIC’s assessment of the financial condition of the institution and the probability that FDIC intervention or other corrective action will be required.
 
The assessment rate currently ranges from zero to 27 cents per $100 of domestic deposits. The FDIC may increase or decrease the assessment rate schedule on a semi-annual basis. Due principally to continued growth in deposits, the BIF is nearing its minimum ratio of 1.25 percent of insured deposits as mandated by law. The Federal Deposit Insurance Reform Act of 2006 (“FDIRA”) provided, among other things, for changes in the formula and factors to be considered by the FDIC in calculating the FDIC reserve ratio, assessments and dividends, and a one-time aggregate assessment credit for depository institutions in existence on December 31, 1996 (or their successors) which paid assessments to recapitalize the insurance funds after the banking crises of the late 1980s and early 1990s. The FDIC issued final regulations, effective January 1, 2007, implementing the provisions of FDIRA and, in February 2007, issued for comment guidelines, including business line concentrations and risk of failure and


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severity of loss in the event of failure to be used by the FDIC for possibly raising premiums by up to 0.50 basis points for large banks with $10 billion or more in assets.
 
The FDIC may terminate a depository institution’s deposit insurance upon a finding by the FDIC that the institution’s financial condition is unsafe or unsound or that the institution has engaged in unsafe or unsound practices that pose a risk to the DIF or they may prejudice the interests of the bank’s depositors. The termination of deposit insurance for the Bank also result in the revocation of the Bank’s charter by the DFI.
 
All FDIC-insured depository institutions must also pay an annual assessment to provide funds for the payment of interest on bonds issued by the Financing Corporation, a Federal corporation chartered under the authority of the Federal Housing Finance Board. The bonds, commonly referred to as FICO bonds, were issued to capitalize the Federal Savings and Loan Insurance Corporation. The FICO assessment rate for the fourth quarter of fiscal 2006 was 1.24 basis points for each $100 of assessable deposits. The FICO assessments are adjusted quarterly to reflect changes in the assessment bases of the FDIC’s insurance funds and do not vary depending on a depository institution’s capitalization or supervisory evaluations.
 
Extensions of Credit to Insiders and Transactions with Affiliates
 
The Federal Reserve Act and FRB Regulation O place limitations and conditions on loans or extensions of credit to:
 
  •  a bank’s or bank holding company’s executive officers, directors and principal shareholders (i.e., in most cases, those persons who own, control or have power to vote more than 10 percent of any class of voting securities);
 
  •  any company controlled by any such executive officer, director or shareholder; or
 
  •  any political or campaign committee controlled by such executive officer, director or principal shareholder.
 
Loans and leases extended to any of the above persons must comply with the loan-to-one-borrower limits, require prior full board approval when aggregate extensions of credit to the person exceed specified amounts, must be made on substantially the same terms (including interest rates and collateral) as, and follow credit-underwriting procedures that are not less stringent than, those prevailing at the time for comparable transactions with non-insiders, and must not involve more than the normal risk of repayment or present other unfavorable features. In addition, Regulation O provides that the aggregate limit on extensions of credit to all insiders of a bank as a group cannot exceed the bank’s unimpaired capital and unimpaired surplus. Regulation O also prohibits a bank from paying an overdraft on an account of an executive officer or director, except pursuant to a written pre-authorized interest-bearing extension of credit plan that specifies a method of repayment or a written pre-authorized transfer of funds from another account of the officer or director at the bank.
 
The Bank also is subject to certain restrictions imposed by Federal Reserve Act Sections 23A and 23B and FRB Regulation W on any extensions of credit to, or the issuance of a guarantee or letter of credit on behalf of, any affiliates, the purchase of, or investments in, stock or other securities thereof, the taking of such securities as collateral for loans, and the purchase of assets of any affiliates. Such restrictions prevent any affiliates from borrowing from the Bank unless the loans are secured by marketable obligations of designated amounts. Further, such secured loans and investments to or in any affiliate are limited, individually, to 10.0 percent of our capital and surplus (as defined by Federal regulations), and such secured loans and investments are limited, in the aggregate, to 20.0 percent of our capital and surplus. Some of the entities included in the definition of an affiliate are parent companies, sister banks, sponsored and advised companies, investment companies whereby the Bank’s affiliate serves as investment advisor, and financial subsidiaries of the Bank. Additional restrictions on transactions with affiliates may be imposed on us under the prompt corrective action provisions of Federal law and the supervisory authority of the Federal and state banking agencies.


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USA PATRIOT Act
 
The USA PATRIOT Act of 2001 and its implementing regulations significantly expanded the anti-money laundering and financial transparency laws. Under the USA PATRIOT Act, financial institutions are required to establish and maintain anti-money laundering programs, which include:
 
  •  the establishment of a customer identification program;
 
  •  the development of internal policies, procedures, and controls;
 
  •  the designation of a compliance officer;
 
  •  an ongoing employee training program; and
 
  •  an independent audit function to test the programs.
 
The Bank has adopted comprehensive policies and procedures to address the requirements of the USA PATRIOT Act. Material deficiencies in anti-money laundering compliance can result in public enforcement actions by the banking agencies, including the imposition of civil money penalties and supervisory restrictions on growth and expansion. Such enforcement actions could have serious reputation consequences for Hanmi Financial and the Bank.
 
Consumer Laws
 
Examination and enforcement by the bank regulatory agencies for non-compliance with consumer protection laws and their implementing regulations have become more intense in nature. The Bank is subject to many Federal consumer protection statutes and regulations, some of which are discussed below.
 
The Home Ownership and Equal Protection Act of 1994 (“HOEPA”) requires extra disclosures and consumer protections to borrowers for certain lending practices. The term “predatory lending,” much like the terms “safety and soundness” and “unfair and deceptive practices,” is far-reaching and covers a potentially broad range of behavior. As such, it does not lend itself to a concise or a comprehensive definition. Typically, predatory lending involves at least one, and perhaps all three, of the following elements:
 
  •  making unaffordable loans based on the assets of the borrower rather than on the borrower’s ability to repay an obligation (“asset-based lending”);
 
  •  inducing a borrower to refinance a loan repeatedly in order to charge high points and fees each time the loan is refinanced (“loan flipping”); and/or
 
  •  engaging in fraud or deception to conceal the true nature of the loan obligation from an unsuspecting or unsophisticated borrower.
 
Regulatory and banking agency guidelines aimed at curbing predatory lending significantly widen the pool of high cost home secured loans covered by HOEPA. In addition, the regulations bar certain refinances within a year with another loan subject to HOEPA by the same lender or loan servicer. Lenders also will be presumed to have violated the law — which says loans should not be made to people unable to repay them — unless they document that the borrower has the ability to repay. Lenders that violate the rules face cancellation of loans and penalties equal to the finance charges paid. We do not expect these rules and potential state action in this area to have a material impact on our financial condition or results of operation.
 
Privacy policies are required by Federal banking regulations that limit the ability of banks and other financial institutions to disclose non-public information about consumers to non-affiliated third parties. Pursuant to those rules, financial institutions must provide:
 
  •  initial notices to customers about their privacy policies, describing the conditions under which they may disclose non-public personal information to non-affiliated third parties and affiliates;
 
  •  annual notices of their privacy policies to current customers; and
 
  •  a reasonable method for customers to “opt out” of disclosures to non-affiliated third parties.


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These privacy protections affect how consumer information is transmitted through diversified financial companies and conveyed to outside vendors.
 
In addition, state laws may impose more restrictive limitations on the ability of financial institution to disclose such information. California has adopted such a privacy law that among other things generally provides that customers must “opt in” before information may be disclosed to certain non-affiliated third parties.
 
The Fair Credit Reporting Act, as amended by the Fair and Accurate Credit Transactions Act (“FACT Act”), requires financial firms to help deter identity theft, including developing appropriate fraud response programs, and gives consumers more control of their credit data. It also reauthorizes a Federal ban on state laws that interfere with corporate credit granting and marketing practices. In connection with FACT Act, financial institution regulatory agencies proposed rules that would prohibit an institution from using certain information about a consumer it received from an affiliate to make a solicitation to the consumer, unless the consumer has been notified and given a chance to opt out of such solicitations. A consumer’s election to opt out would be applicable for at least five years.
 
The Check Clearing for the 21st Century Act (“Check 21”) facilitates check truncation and electronic check exchange by authorizing a new negotiable instrument called a “substitute check,” which is the legal equivalent of an original check. Check 21 does not require banks to create substitute checks or accept checks electronically; however, it does require banks to accept a legally equivalent substitute check in place of an original. In addition to its issuance of regulations governing substitute checks, the Federal Reserve has issued final rules governing the treatment of remotely created checks (sometimes referred to as “demand drafts”) and electronic check conversion transactions (involving checks that are converted to electronic transactions by merchants and other payees).
 
The Equal Credit Opportunity Act (“ECOA”) generally prohibits discrimination in any credit transaction, whether for consumer or business purposes, on the basis of race, color, religion, national origin, sex, marital status, age (except in limited circumstances), receipt of income from public assistance programs, or good faith exercise of any rights under the Consumer Credit Protection Act.
 
The Truth in Lending Act (“TILA”) is designed to ensure that credit terms are disclosed in a meaningful way so that consumers may compare credit terms more readily and knowledgeably. As a result of the TILA, all creditors must use the same credit terminology to express rates and payments, including the annual percentage rate, the finance charge, the amount financed, the total of payments and the payment schedule, among other things.
 
The Fair Housing Act (“FH Act”) regulates many practices, including making it unlawful for any lender to discriminate in its housing-related lending activities against any person because of race, color, religion, national origin, sex, handicap or familial status. A number of lending practices have been found by the courts to be, or may be considered, illegal under the FH Act, including some that are not specifically mentioned in the FH Act itself.
 
The CRA is intended to encourage insured depository institutions, while operating safely and soundly, to help meet the credit needs of their communities. The CRA specifically directs the Federal regulatory agencies, in examining insured depository institutions, to assess a bank’s record of helping meet the credit needs of its entire community, including low-and moderate-income neighborhoods, consistent with safe and sound banking practices. The CRA further requires the agencies to take a financial institution’s record of meeting its community credit needs into account when evaluating applications for, among other things, domestic branches, mergers or acquisitions, or holding company formations. The agencies use the CRA assessment factors in order to provide a rating to the financial institution. The ratings range from a high of “outstanding” to a low of “substantial non-compliance.” In its last examination for CRA compliance, as of August 30, 2004, the Bank was rated “Satisfactory.”
 
The Home Mortgage Disclosure Act (“HMDA”) grew out of public concern over credit shortages in certain urban neighborhoods and provides public information that will help show whether financial institutions are serving the housing credit needs of the neighborhoods and communities in which they are located. The HMDA also includes a “fair lending” aspect that requires the collection and disclosure of data about applicant and borrower characteristics as a way of identifying possible discriminatory lending patterns and enforcing anti-discrimination statutes. The Federal Reserve Board amended regulations issued under HMDA to require the reporting for 2004 of certain pricing data with respect to higher priced mortgage loans. The expanded 2004 HMDA data is being reviewed by Federal banking agencies and others from a fair lending perspective. We do not expect that the HMDA data reported by the Bank for 2005 will raise material issues regarding the Bank’s compliance with the fair lending laws.


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The Real Estate Settlement Procedures Act (“RESPA”) requires lenders to provide borrowers with disclosures regarding the nature and cost of real estate settlements. Also, RESPA prohibits certain abusive practices, such as kickbacks, and places limitations on the amount of escrow accounts. Penalties under the above laws may include fines, reimbursements and other penalties.
 
The National Flood Insurance Act (“NFIA”) requires homes in flood-prone areas with mortgages from a federally regulated lender to have flood insurance. Hurricane Katrina focused awareness on this requirement. Lenders are required to provide notice to borrowers of special flood hazard areas and require such coverage before making, increasing, extending or renewing such loans. Financial institutions that demonstrate a pattern and practice of lax compliance are subject to the issuance of cease and desist orders and the imposition of per loan civil money penalties, up to a maximum fine, which currently is $125,000. Fine payments are remitted to the Federal Emergency Management Agency for deposit into the National Flood Mitigation Fund.
 
Due to heightened regulatory concern related to compliance with HOEPA, privacy laws and regulations, FACT, Check 21, ECOA, TILA, FH Act, CRA, HMDA, RESPA and NFIA generally, the Bank may incur additional compliance costs or be required to expend additional funds for CRA investments.
 
Regulation of Subsidiaries
 
Non-bank subsidiaries are subject to additional or separate regulation and supervision by other state, Federal and self-regulatory bodies. Chun-Ha and AWI are subject to the licensing and supervisory authority of the California Commissioner of Insurance.
 
ITEM 1A.   RISK FACTORS
 
In addition to other factors set forth herein, below is a discussion of certain factors that may affect our financial operations and should be considered in evaluating us:
 
Our Southern California business focus and economic conditions in Southern California could adversely affect our operations.  The Bank’s operations are located primarily in Los Angeles and Orange counties. Because of this geographic concentration, our results depend largely upon economic conditions in these areas. Deterioration in economic conditions in the Bank’s market area, or a significant natural or man-made disaster in these market areas, could have a material adverse effect on the quality of the Bank’s loan portfolio, the demand for its products and services and on its overall financial condition and results of operations.
 
Our concentrations in commercial real estate loans located primarily in Southern California could have adverse effects on credit quality.  Approximately 33.5 percent of the Bank’s loan portfolio consists of commercial real estate and construction loans, primarily in Southern California. As a result of this concentration, a deterioration of the Southern California commercial real estate market could have adverse consequences for the Bank. Among the factors that could contribute to such a decline are general economic conditions in Southern California, interest rates and local market construction and sales activity.
 
Our earnings are affected by changing interest rates.  Changes in interest rates affect the level of loans, deposits and investments, the credit profile of existing loans, the rates received on loans and securities and the rates paid on deposits and borrowings. Significant fluctuations in interest rates may have a material adverse effect on our financial condition and results of operations.
 
We are subject to government regulations that could limit or restrict our activities, which in turn could adversely affect our operations.  The financial services industry is subject to extensive Federal and state supervision and regulation. Significant new laws, changes in existing laws, or repeals of existing laws may cause our results to differ materially. Further, Federal monetary policy, particularly as implemented through the Federal Reserve System, significantly affects credit conditions and a material change in these conditions could have a material adverse affect on our financial condition and results of operations.
 
Competition may adversely affect our performance.  The banking and financial services businesses in our market areas are highly competitive. We face competition in attracting deposits, in making loans and attracting and retaining employees. The increasingly competitive environment is a result of changes in regulation, changes in


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technology and product delivery systems, new competitors in the market, and the pace of consolidation among financial services providers. Our results in the future may differ depending upon the nature and level of competition.
 
If a significant number of borrowers, guarantors or related parties fail to perform as required by the terms of their loans, we could sustain losses.  A significant source of risk arises from the possibility that losses will be sustained because borrowers, guarantors or related parties may fail to perform in accordance with the terms of their loans. We have adopted underwriting and credit monitoring procedures and credit policies, including the establishment and review of the allowance for loan losses, that management believes are appropriate to limit this risk by assessing the likelihood of non-performance, tracking loan performance and diversifying our credit portfolio. These policies and procedures, however, may not prevent unexpected losses that could have a material adverse effect on our financial condition and results of operations.
 
ITEM 1B.   UNRESOLVED STAFF COMMENTS
 
None.
 
ITEM 2.   PROPERTIES
 
Hanmi Financial’s principal office is located at 3660 Wilshire Boulevard, Penthouse Suite A, Los Angeles, California. The office is leased pursuant to a five-year term, which expires on November 30, 2008.
 
The following table sets forth information about our offices:
 
                 
                Owned/
Office   Type of Office   Address   City/State   Leased
 
Corporate Headquarters
  Headquarters(1)   3660 Wilshire Boulevard, Penthouse Suite A   Los Angeles, CA   Leased
Cerritos Branch
  Branch   11754 East Artesia Boulevard   Artesia, CA   Leased
Downtown Branch
  Branch   950 South Los Angeles Street   Los Angeles, CA   Leased
Fashion District Branch
  Branch   726 East 12th Street, Suite 211   Los Angeles, CA   Leased
Garden Grove Branch
  Branch   9820 Garden Grove Boulevard   Garden Grove, CA   Owned
Gardena Branch
  Branch   2001 West Redondo Beach Boulevard   Gardena, CA   Leased
Irvine Branch
  Branch   14474 Culver Drive, Suite D   Irvine, CA   Leased
Koreatown Galleria Branch
  Branch   3250 West Olympic Boulevard, Suite 200   Los Angeles, CA   Leased
Koreatown Plaza Branch
  Branch(2)   928 South Western Avenue, Suite 260   Los Angeles, CA   Leased
Mid-Olympic Branch
  Branch(3)   3099 West Olympic Boulevard   Los Angeles, CA   Owned
Olympic Branch
  Branch(4)   3737 West Olympic Boulevard   Los Angeles, CA   Owned
Rowland Heights Branch
  Branch   18720 East Colima Road   Rowland Heights, CA   Leased
San Diego Branch
  Branch   4637 Convoy Street, Suite 101   San Diego, CA   Leased
San Francisco Branch
  Branch   1491 Webster Street   San Francisco, CA   Leased
Silicon Valley Branch
  Branch   2765 El Camino Real   Santa Clara, CA   Leased
South Cerritos Branch
  Branch   11900 South Street, Suite 109   Cerritos, CA   Leased
Torrance Branch
  Branch   2370 Crenshaw Boulevard, Suite H   Torrance, CA   Leased
Van Nuys Branch
  Branch   14427 Sherman Way   Van Nuys, CA   Leased
Vermont Branch
  Branch(5)   933 South Vermont Avenue   Los Angeles, CA   Owned
West Garden Grove Branch
  Branch   9122 Garden Grove Boulevard   Garden Grove, CA   Owned
West Torrance Branch
  Branch   21838 Hawthorne Boulevard   Torrance, CA   Leased
Western Branch
  Branch   120 South Western Avenue   Los Angeles, CA   Leased
Wilshire Branch
  Main Branch(6)   3660 Wilshire Boulevard, Suite 103   Los Angeles, CA   Leased
Commercial Loan Department
  Loan Office(1)   3660 Wilshire Boulevard, Suite 1050   Los Angeles, CA   Leased
SBA Loan Department
  Loan Office(1)   3327 Wilshire Boulevard   Los Angeles, CA   Leased
Atlanta LPO
  Loan Office(1)   3585 Peachtree Industrial Boulevard, Suite 144   Duluth, GA   Leased
Chicago LPO
  Loan Office(1)   6200 North Hiawatha, Suite 235   Chicago, IL   Leased
Dallas LPO
  Loan Office(1)   2711 LBJ Freeway, Suite 114   Farmers Branch, TX   Leased


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                Owned/
Office   Type of Office   Address   City/State   Leased
 
Denver LPO
  Loan Office(1)   3033 South Parker Road, Suite 340   Aurora, CO   Leased
Northern California LPO
  Loan Office(1)   39899 Balentine Drive, Suite 200   Newark, CA   Leased
Northwest Region LPO No. 1
  Loan Office(1)   33110 Pacific Highway South, Suite 4   Federal Way, WA   Leased
Northwest Region LPO No. 2
  Loan Office(1)   3500 108th Avenue Northeast, Suite 280   Bellevue, WA   Leased
Virginia LPO
  Loan Office(1)   7535 Little River Turnpike, Suite 200B   Annandale, VA   Leased
 
 
(1) Deposits are not accepted at this facility.
 
(2) Residential Mortgage Center is also located at this facility.
 
(3) Auto Loan Center and Consumer Loan Center are also located at this facility.
 
(4) Training Facility is also located at this facility.
 
(5) Administrative offices are also located at this facility.
 
(6) International Finance Department is also located at this facility.
 
Hanmi Financial and Hanmi Bank consider their present facilities to be sufficient for their current operations.
 
ITEM 3.   LEGAL PROCEEDINGS
 
From time to time, Hanmi Financial and Hanmi Bank are parties to litigation that arises in the ordinary course of business, such as claims to enforce liens, claims involving the origination and servicing of loans, and other issues related to the business of Hanmi Financial and Hanmi Bank. In the opinion of management, the resolution of any such issues would not have a material adverse impact on the financial condition, results of operations, or liquidity of Hanmi Financial or Hanmi Bank.
 
ITEM 4.   SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
 
During the fourth quarter of 2006, no matters were submitted to stockholders for a vote.

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PART II
 
ITEM 5.   MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES
 
Market Information
 
The following table sets forth, for the periods indicated, the high and low trading prices of Hanmi Financial’s common stock for the last two years as reported by NASDAQ under the symbol “HAFC.”
 
                         
    High     Low     Cash Dividend  
2006:
                       
Fourth Quarter
  $ 22.88     $ 18.89     $ 0.06 per share  
Third Quarter
  $ 20.00     $ 18.13     $ 0.06 per share  
Second Quarter
  $ 20.46     $ 17.09     $ 0.06 per share  
First Quarter
  $ 19.95     $ 17.04     $ 0.06 per share  
2005:
                       
Fourth Quarter
  $ 20.42     $ 16.51     $ 0.05 per share  
Third Quarter
  $ 19.72     $ 16.27     $ 0.05 per share  
Second Quarter
  $ 17.90     $ 14.05     $ 0.05 per share  
First Quarter
  $ 19.19     $ 15.62     $ 0.05 per share  
 
Hanmi Financial had 344 registered stockholders of record as of February 14, 2007.
 
Dividends
 
The amount and timing of dividends will be determined by Hanmi Financial’s Board of Directors and substantially depend upon the earnings and financial condition of Hanmi Financial. The ability of Hanmi Financial to obtain funds for the payment of dividends and for other cash requirements is largely dependent on the amount of dividends that may be declared by Hanmi Bank.
 
The power of the board of directors of a state chartered bank, such as Hanmi Bank, to declare a cash dividend is limited by statutory and regulatory restrictions that restrict the amount available for cash dividends depending upon the earnings, financial condition and cash needs of the bank, as well as general business conditions. See “Item 1. Business — Dividends and Other Transfers of Funds.”
 
Securities Authorized for Issuance Under Equity Compensation Plans
 
The following table summarizes information as of December 31, 2006 relating to equity compensation plans of Hanmi Financial pursuant to which grants of options, restricted stock awards or other rights to acquire shares may be granted from time to time.
 
                         
                Number of Securities
 
                Remaining Available for
 
    Number of Securities to be
    Weighted-Average
    Future Issuance Under
 
    Issued Upon Exercise of
    Exercise Price of
    Equity Compensation
 
    Outstanding Options,
    Outstanding Options,
    Plans (Excluding Securities
 
    Warrants and Rights     Warrants and Rights     Reflected in Column (a))  
    (a)     (b)        
Equity Compensation Plans Approved By Security Holders
    1,755,813     $ 15.31       2,206,092  
Equity Compensation Plans Not Approved By Security Holders
    678,502(1 )   $ 13.45        
                         
Total Equity Compensation Plans
    2,434,315     $ 14.79       2,206,092  
                         
 
 
(1) Composed of: a) stock options granted to Chief Executive Officer to purchase 350,000 shares of common stock at an exercise price of $17.165 per share with vesting in equal annual installments of 16.66%, subject to accelerated vesting upon certain corporate transactions, and expiring no later than November 3, 2014; and b) remaining stock warrants issued to affiliates of Castle Creek Financial LLC (for services rendered in connection with the placement of Hanmi Financial’s equity securities) to purchase a total of 328,502 shares of common stock at an exercise price of $9.50 per share.


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Performance Graph
 
Set forth below is a graph comparing stockholder return on Hanmi Financial’s common stock valued on the market price of common stock with the cumulative total returns for companies on an indexed basis of a $100 investment in Hanmi Financial common stock, the NASDAQ Composite® (U.S.) Index and the Standard and Poors (“S&P) 500 Financials Index. The performance graph shall not be deemed incorporated by reference to any general statement incorporating by reference this Annual Report into any filing under the Security Act of 1933 or under the Exchange Act, except to the extent that we specifically incorporate this information by reference, and shall not otherwise be deemed filed under such Acts.
 
COMPARISON OF CUMULATIVE TOTAL RETURN ON $100 INVESTMENT
AMONG HANMI FINANCIAL, NASDAQ COMPOSITE ® (U.S.) INDEX AND S&P 500 FINANCIALS INDEX COMPARATIVE RETURN
 
(GRAPH)
 
                                                                       
                December 31,
Index
      Symbol         2001         2002         2003         2004         2005         2006  
Hanmi Financial
      HAFC         100.00         125.24         148.62         270.18         268.53         338.74  
NASDAQ Composite
      ^IXIC         100.00         68.47         102.71         111.53         113.06         123.82  
S&P 500 Financials
      S5FINL         100.00         83.58         106.92         115.72         120.03         139.43  
                                                                       
 
ITEM 6.   SELECTED FINANCIAL DATA
 
The following table presents selected historical financial information, including per share information as adjusted for the stock dividends and stock splits declared by us. This selected historical financial data should be read in conjunction with our consolidated financial statements and the notes thereto appearing elsewhere in this Report and the information contained in “Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations.” The selected historical financial data as of and for each of the years in the five years ended December 31, 2006 is derived from our audited financial statements. In the opinion of management, the information


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presented reflects all adjustments, including normal and recurring accruals, considered necessary for a fair presentation of the results of such periods.
 
                                         
    As of and for the Year Ended December 31,  
    2006     2005     2004     2003     2002  
    (Dollars in thousands, except for per share data)  
 
SUMMARY STATEMENT OF INCOME:
                                       
Interest Income
  $ 260,189     $ 200,941     $ 135,554     $ 77,417     $ 69,316  
Interest Expense
    106,429       62,111       32,617       20,796       21,345  
                                         
Net Interest Income Before Provision for Credit Losses
    153,760       138,830       102,937       56,621       47,971  
Provision for Credit Losses
    7,173       5,395       2,907       5,680       4,800  
Non-Interest Income
    35,604       30,382       26,211       20,022       21,204  
Non-Interest Expenses
    75,954       69,133       66,566       39,325       38,333  
                                         
Income Before Provision for Income Taxes
    106,237       94,684       59,675       31,638       26,042  
Provision for Income Taxes
    40,588       36,455       22,975       12,425       9,012  
                                         
NET INCOME
  $ 65,649     $ 58,229     $ 36,700     $ 19,213     $ 17,030  
                                         
SUMMARY STATEMENT OF FINANCIAL CONDITION:
                                       
Cash and Cash Equivalents
  $ 138,501     $ 163,477     $ 127,164     $ 62,595     $ 122,772  
Total Investment Securities
    391,579       443,912       418,973       414,616       279,548  
Loans Receivable, Net(1)
    2,837,390       2,469,080       2,234,842       1,248,399       975,154  
Total Assets
    3,725,243       3,414,252       3,104,188       1,787,139       1,457,313  
Total Deposits
    2,944,715       2,826,114       2,528,807       1,445,835       1,283,979  
Total Liabilities
    3,238,126       2,987,475       2,704,278       1,647,672       1,332,845  
Total Shareholders’ Equity
    487,117       426,777       399,910       139,467       124,468  
Tangible Equity
    273,159       209,028       178,791       137,424       122,304  
Average Net Loans
    2,721,229       2,359,439       1,912,534       1,103,765       882,625  
Average Investment Securities
    414,672       418,750       425,537       379,635       244,675  
Average Interest-Earning Assets
    3,214,761       2,871,564       2,387,412       1,538,820       1,222,050  
Average Total Assets
    3,602,181       3,249,190       2,670,701       1,623,214       1,308,885  
Average Deposits
    2,881,448       2,632,254       2,129,724       1,416,564       1,164,562  
Average Borrowings
    221,347       165,482       223,780       63,138       21,847  
Average Interest-Bearing Liabilities
    2,367,389       2,046,227       1,687,688       1,057,249       854,858  
Average Shareholders’ Equity
    458,227       417,813       293,313       132,369       112,927  
Average Tangible Equity
    242,362       198,527       143,262       130,252       110,762  
PER SHARE DATA:
                                       
Earnings Per Share — Basic
  $ 1.34     $ 1.18     $ 0.87     $ 0.68     $ 0.62  
Earnings Per Share — Diluted
  $ 1.33     $ 1.17     $ 0.84     $ 0.67     $ 0.60  
Book Value Per Share(2)
  $ 9.93     $ 8.77     $ 8.11     $ 4.92     $ 4.47  
Tangible Book Value Per Share(3)
  $ 5.57     $ 4.30     $ 3.62     $ 4.85     $ 4.39  
Cash Dividends Per Share
  $ 0.24     $ 0.20     $ 0.20     $ 0.20     $  
Common Shares Outstanding
    49,076,613       48,658,798       49,330,704       28,326,820       27,830,866  
 
 
(1) Loans are net of deferred fees and related direct costs.
 
(2) Total shareholders’ equity divided by common shares outstanding.
 
(3) Tangible equity divided by common shares outstanding.


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    As of and for the Year Ended December 31,  
    2006     2005     2004     2003     2002  
 
SELECTED PERFORMANCE RATIOS:
                                       
Return on Average Assets(4)
    1.82 %     1.79 %     1.37 %     1.18 %     1.30 %
Return on Average Shareholders’ Equity(5)
    14.33 %     13.94 %     12.51 %     14.51 %     15.08 %
Return on Average Tangible Equity(6)
    27.09 %     29.33 %     25.62 %     14.75 %     15.38 %
Net Interest Spread(7)
    3.59 %     3.96 %     3.75 %     3.06 %     3.17 %
Net Interest Margin(8)
    4.78 %     4.83 %     4.31 %     3.68 %     3.93 %
Efficiency Ratio(9)
    40.11 %     40.86 %     51.54 %     51.31 %     55.41 %
Dividend Payout Ratio(10)
    17.91 %     16.95 %     22.99 %     29.41 %      
Average Shareholders’ Equity to Average Total Assets
    12.72 %     12.86 %     10.98 %     8.15 %     8.63 %
SELECTED CAPITAL RATIOS:
                                       
Total Capital to Total Risk-Weighted Assets:
                                       
Hanmi Financial
    12.55 %     12.04 %     11.98 %     11.13 %     12.14 %
Hanmi Bank
    12.28 %     11.98 %     11.80 %     11.09 %     11.94 %
Tier 1 Capital to Total Risk-Weighted Assets:
                                       
Hanmi Financial
    11.58 %     11.03 %     10.93 %     10.05 %     11.01 %
Hanmi Bank
    11.31 %     10.96 %     10.75 %     10.00 %     10.81 %
Tier 1 Capital to Average Total Assets:
                                       
Hanmi Financial
    10.08 %     9.11 %     8.93 %     7.80 %     8.50 %
Hanmi Bank
    9.85 %     9.06 %     8.78 %     7.75 %     8.34 %
SELECTED ASSET QUALITY RATIOS:
                                       
Non-Performing Loans to Total Gross Loans(11)
    0.50 %     0.41 %     0.27 %     0.68 %     0.65 %
Non-Performing Assets to Total Assets(12)
    0.38 %     0.30 %     0.19 %     0.48 %     0.44 %
Net Loan Charge-Offs to Average Total Gross Loans
    0.17 %     0.12 %     0.19 %     0.29 %     0.28 %
Allowance for Loan Losses to Total Gross Loans
    0.96 %     1.00 %     1.00 %     1.06 %     1.14 %
Allowance for Loan Losses to Non-Performing Loans
    193.86 %     246.40 %     377.49 %     154.13 %     173.81 %
 
 
(4) Net income divided by average total assets.
 
(5) Net income divided by average shareholders’ equity.
 
(6) Net income divided by average tangible equity.
 
(7) Average yield earned on interest-earning assets less average rate paid on interest-bearing liabilities.
 
(8) Net interest income before provision for credit losses divided by average interest-earning assets.
 
(9) Total non-interest expenses divided by the sum of net interest income before provision for credit losses and total non-interest income.
 
(10) Dividends declared per share divided by basic earnings per share.
 
(11) Non-performing loans consist of non-accrual loans, loans past due 90 days or more and restructured loans.
 
(12) Non-performing assets consist of non-performing loans and other real estate owned.


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Non-GAAP Financial Measures
 
Return on Average Tangible Equity
 
Return on average tangible equity is supplemental financial information determined by a method other than in accordance with accounting principles generally accepted in the United States of America (“GAAP”). This non-GAAP measure is used by management in the analysis of Hanmi Financial’s performance. Average tangible equity is calculated by subtracting average goodwill and average core deposit intangible assets from average shareholders’ equity. Banking and financial institution regulators also exclude goodwill and intangibles from shareholders’ equity when assessing the capital adequacy of a financial institution. Management believes the presentation of this financial measure excluding the impact of these items provides useful supplemental information that is essential to a proper understanding of the financial results of Hanmi Financial, as it provides a method to assess management’s success in utilizing tangible capital. This disclosure should not be viewed as a substitution for results determined in accordance with GAAP, nor is it necessarily comparable to non-GAAP performance measures that may be presented by other companies.
 
The following table reconciles this non-GAAP performance measure to the GAAP performance measure for the periods indicated:
 
                                         
    Year Ended December 31,  
    2006     2005     2004     2003     2002  
    (Dollars in thousands)  
 
Average Shareholders’ Equity
  $ 458,227     $ 417,813     $ 293,313     $ 132,369     $ 112,927  
Less Average Goodwill and Core Deposit Intangible Assets
    (215,865 )     (219,286 )     (150,051 )     (2,117 )     (2,165 )
                                         
Average Tangible Equity
  $ 242,362     $ 198,527     $ 143,262     $ 130,252     $ 110,762  
                                         
Return on Average Shareholders’ Equity
    14.33 %     13.94 %     12.51 %     14.51 %     15.08 %
Effect of Average Goodwill and Core Deposit Intangible Assets
    12.76 %     15.39 %     13.11 %     0.24 %     0.30 %
                                         
Return on Average Tangible Equity
    27.09 %     29.33 %     25.62 %     14.75 %     15.38 %
                                         
 
Tangible Book Value Per Share
 
Tangible book value per share is supplemental financial information determined by a method other than in accordance with GAAP. This non-GAAP measure is used by management in the analysis of Hanmi Financial’s performance. Tangible book value per share is calculated by subtracting goodwill and core deposit intangible assets from total shareholders’ equity and dividing the difference by the number of shares of common stock outstanding. Management believes the presentation of this financial measure excluding the impact of these items provides useful supplemental information that is essential to a proper understanding of the financial results of Hanmi Financial, as it provides a method to assess management’s success in utilizing tangible capital. This disclosure should not be viewed as a substitution for results determined in accordance with GAAP, nor is it necessarily comparable to non-GAAP performance measures that may be presented by other companies.


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The following table reconciles this non-GAAP performance measure to the GAAP performance measure for the periods indicated:
 
                                         
    December 31,  
    2006     2005     2004     2003     2002  
    (Dollars in thousands, except per share amounts)  
 
Total Shareholders’ Equity
  $ 487,117     $ 426,777     $ 399,910     $ 139,467     $ 124,468  
Less Goodwill and Core Deposit Intangible Assets
    (213,958 )     (217,749 )     (221,119 )     (2,043 )     (2,164 )
                                         
Tangible Equity
  $ 273,159     $ 209,028     $ 178,791     $ 137,424     $ 122,304  
                                         
Book Value Per Share
  $ 9.93     $ 8.77     $ 8.11     $ 4.92     $ 4.47  
Effect of Goodwill and Core Deposit Intangible Assets
    (4.36 )     (4.47 )     (4.49 )     (0.07 )     (0.08 )
                                         
Tangible Book Value Per Share
  $ 5.57     $ 4.30     $ 3.62     $ 4.85     $ 4.39  
                                         
 
ITEM 7.   MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
 
This discussion presents management’s analysis of the financial condition and results of operations as of and for the years ended December 31, 2006, 2005 and 2004. This discussion should be read in conjunction with our consolidated financial statements and the notes related thereto presented elsewhere in this Report.
 
This discussion and analysis contains forward-looking statements that involve risks and uncertainties. Our actual results could differ materially from those anticipated in such forward-looking statements because of certain factors discussed elsewhere in this report. See “Item 1A. Risk Factors.”
 
CRITICAL ACCOUNTING POLICIES
 
We have established various accounting policies that govern the application of accounting principles generally accepted in the United States of America in the preparation of our financial statements. Our significant accounting policies are described in the “Notes to Consolidated Financial Statements.” Certain accounting policies require us to make significant estimates and assumptions that have a material impact on the carrying value of certain assets and liabilities, and we consider these critical accounting policies. We use estimates and assumptions based on historical experience and other factors that we believe to be reasonable under the circumstances. Actual results could differ significantly from these estimates and assumptions, which could have a material impact on the carrying value of assets and liabilities at the balance sheet dates and our results of operations for the reporting periods. Management has discussed the development and selection of these critical accounting policies with the Audit Committee of Hanmi Financial’s Board of Directors.
 
Allowance for Loan Losses — We believe the allowance for loan losses and allowance for off-balance sheet items are critical accounting policies that require significant estimates and assumptions that are particularly susceptible to significant change in the preparation of our financial statements. Our allowance for loan loss methodologies incorporate a variety of risk considerations, both quantitative and qualitative, in establishing an allowance for loan loss that management believes is appropriate at each reporting date. Quantitative factors include our historical loss experiences on ten segmented loan pools by risk rating, delinquency and charge-off trends, collateral values, changes in non-performing loans, and other factors. Qualitative factors include the general economic environment in our markets, delinquency and charge-off trends, and the change in non-performing loans. Concentration of credit, change of lending management and staff, quality of loan review system, and change in interest rate are other qualitative factors that are considered in our methodologies. See “Financial Condition — Allowance for Loan Losses and Allowance for Off-Balance Sheet Items,” “Results of Operations — Provision for Credit Losses” and “Notes to Consolidated Financial Statements, Note 1 — Summary of Significant Accounting Policies” for additional information on methodologies used to determine the allowance for loan losses and allowance for off-balance sheet items.


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Loan Sales — We routinely sell SBA and residential mortgage loans to secondary market investors. When SBA guaranteed loans are sold, we generally retain the right to service these loans and we may retain residual and other interests, which are considered retained interests in the sold loans. The gain on sale recorded on these loans depends, in part, on our allocation of the previous carrying amount of the loans to the retained interests. Previous carrying amounts are allocated in proportion to the relative fair values of the loans sold and the interests retained. The fair values of retained interests are estimated based upon the present value of the associated expected future cash flows taking into consideration future prepayment rates, discount rates, expected credit losses and other factors that impact the value of the retained interests.
 
We may also record loan servicing assets when the benefits of servicing are expected to be more than adequate compensation to a servicer. We determine whether the benefits of servicing are expected to be more than adequate compensation to a servicer by discounting all of the future net cash flows associated with the contractual rights and obligations of the servicing agreement. The expected future net cash flows are discounted at a rate equal to the return that would adequately compensate a substitute servicer for performing the servicing. In addition to the anticipated rate of loan prepayments and discount rates, other assumptions (such as the cost to service the underlying loans, foreclosure costs, ancillary income and float rates) are also used in determining the value of the loan servicing assets. Loan servicing assets are discussed in more detail in “Notes to Consolidated Financial Statements, Note 1 — Summary of Significant Accounting Policies” and “Note 6 — Loan Servicing Asset” presented elsewhere herein.
 
OVERVIEW
 
Over the last two years, we have experienced significant growth in assets and deposits. During this same period, interest rates have increased, increasing our net interest margin, while competitive pricing pressures have depressed our net interest margin. Total assets increased to $3,725.2 million at December 31, 2006 from $3,414.3 million and $3,104.2 million at December 31, 2005 and 2004, respectively. Net loans increased to $2,837.4 million at December 31, 2006 from $2,469.1 million and $2,234.8 million at December 31, 2005 and 2004, respectively. Total deposits increased to $2,944.7 million at December 31, 2006 from $2,826.1 million and $2,528.8 million at December 31, 2005 and 2004, respectively.
 
On April 30, 2004, we completed the merger with PUB, which had assets of $1.2 billion. Therefore, operating results for the year ended December 31, 2004 include eight months of operations of the combined entity and the trends in earnings from 2004 to 2005 reflect an increase in average total assets from $2.67 billion for the year ended December 31, 2004 to $3.25 billion for the year ended December 31, 2005.
 
For the year ended December 31, 2006, net income was $65.6 million, representing an increase of $7.4 million, or 12.7 percent, from $58.2 million for the year ended December 31, 2005. This resulted in basic earnings per share of $1.34 and $1.18 for the years ended December 31, 2006 and 2005, respectively, and diluted earnings per share of $1.33 and $1.17 for the same years. Our primary source of revenue is net interest income, which is the difference between interest and fees derived from earning assets and interest paid on liabilities incurred to fund those assets. Net interest income is affected by changes in the volume of interest-earning assets and interest-bearing liabilities. It also is affected by changes in yields earned on interest-earning assets and rates paid on interest-bearing liabilities. The increase in net income for 2006 was primarily attributable to an increase in average interest-earning assets. Net interest income increased by 10.8 percent from 2005 to 2006, which was primarily attributable to a 15.4 percent increase in the volume of average gross loans. At the same time, the average interest rate paid on interest-bearing liabilities increased by 146 basis points while the average interest rate earned on interest-earning assets increased by 109 basis points. As a result, the net interest spread decreased by 37 basis points from 3.96 percent in 2005 to 3.59 percent in 2006.
 
For the year ended December 31, 2005, net income was $58.2 million, representing an increase of $21.5 million, or 58.7 percent, from $36.7 million for the year ended December 31, 2004. This resulted in basic earnings per share of $1.18 and $0.87 for the years ended December 31, 2005 and 2004, respectively, and diluted earnings per share of $1.17 and $0.84 for the same years. The increase in net income for 2005 was attributable to increases in net interest margin and average interest-earning assets. Net interest income increased due to a 23.2 percent increase in the volume of average gross loans. The average interest rate paid on interest-bearing liabilities increased by 111


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basis points while the average interest rate earned on interest-earning assets increased by 132 basis points. As a result, the net interest spread increased by 21 basis points from 3.75 percent in 2004 to 3.96 percent in 2005.
 
Our results of operations are significantly affected by the provision for credit losses. The provision for credit losses was $7.2 million, $5.4 million and $2.9 million in 2006, 2005 and 2004, respectively, reflecting changes in the balance and credit quality of the loan portfolio.
 
We also generated substantial non-interest income from service charges on deposit accounts, charges and fees from international trade finance, and gains on sales of loans. For the year ended December 31, 2006, non-interest income was $35.6 million, an increase of $5.2 million, or 17.2 percent, over 2005 non-interest income of $30.4 million. For the year ended December 31, 2005, non-interest income was $30.4 million, an increase of $4.2 million, or 15.9 percent, over 2004 non-interest income of $26.2 million.
 
Non-interest expenses consist primarily of employee compensation and benefits, occupancy and equipment expenses and data processing expenses. For the year ended December 31, 2006, non-interest expenses were $76.0 million, an increase of $6.8 million, or 9.9 percent, over 2005 non-interest expenses of $69.1 million. In 2006, the increase was primarily the result of higher compensation and an increase in total assets. Although non-interest expenses increased from the prior year, the efficiency ratio improved slightly to 40.11 percent compared to 40.86 percent in 2005. This improvement is attributable to greater operating efficiencies arising from economies of scale. For the year ended December 31, 2005, non-interest expenses were $69.1 million, an increase of $2.6 million, or 3.9 percent, over 2004 non-interest expenses of $66.6 million. This increase was primarily the result of the merger with PUB. The efficiency ratio improved to 40.86 percent in 2005 compared to 51.54 percent in 2004 as the Bank achieved greater operating efficiencies after completing the integration of PUB’s operations into the Bank’s, whereas 2004 non-interest expenses included the cost of parallel operations and non-recurring expenses associated with the merger.
 
RESULTS OF OPERATIONS
 
Net Interest Income, Net Interest Spread and Net Interest Margin
 
Our earnings depend largely upon the difference between the interest income received from our loan portfolio and other interest-earning assets and the interest paid on deposits and borrowings. The difference is “net interest income.” The difference between the yield earned on interest-earning assets and the cost of interest-bearing liabilities is “net interest spread.” Net interest income, when expressed as a percentage of average total interest-earning assets, is referred to as the “net interest margin.”
 
Net interest income is affected by the change in the level and mix of interest-earning assets and interest-bearing liabilities, referred to as “volume changes.” Our net interest income also is affected by changes in the yields earned on interest-earning assets and rates paid on interest-bearing liabilities, referred to as “rate changes.” Interest rates charged on loans are affected principally by the demand for such loans, the supply of money available for lending purposes and competitive factors. Those factors are, in turn, affected by general economic conditions and other factors beyond our control, such as Federal economic policies, the general supply of money in the economy, income tax policies, governmental budgetary matters and the actions of the FRB.


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The following table shows the average balances of assets, liabilities and shareholders’ equity; the amount of interest income and interest expense; the average yield or rate for each category of interest-earning assets and interest-bearing liabilities; and the net interest spread and the net interest margin for the periods indicated.
 
                                                                         
    Year Ended December 31,  
    2006     2005     2004  
          Interest
    Average
          Interest
    Average
          Interest
    Average
 
    Average
    Income/
    Yield/
    Average
    Income/
    Yield/
    Average
    Income/
    Yield/
 
    Balance     Expense     Rate     Balance     Expense     Rate     Balance     Expense     Rate  
    (Dollars in thousands)  
 
ASSETS
                                                                       
Interest-Earning Assets:
                                                                       
Gross Loans, Net(1)
  $ 2,747,922     $ 239,075       8.70 %   $ 2,382,230     $ 180,845       7.59 %   $ 1,933,761     $ 117,999       6.10 %
Municipal Securities(2)
    72,694       3,087       4.25 %     74,166       3,122       4.21 %     70,372       3,015       4.28 %
Obligations of Other U.S. Government Agencies
    122,503       5,148       4.20 %     102,703       4,002       3.90 %     90,336       3,374       3.73 %
Other Debt Securities
    219,475       10,120       4.61 %     241,881       10,271       4.25 %     264,829       10,261       3.87 %
Equity Securities
    24,684       1,354       5.49 %     23,571       1,107       4.70 %     15,041       716       4.76 %
Federal Funds Sold
    27,410       1,402       5.11 %     46,799       1,589       3.40 %     12,772       183       1.43 %
Term Federal Funds Sold
    41       2       4.88 %                                    
Interest-Earning Deposits
    32       1       4.04 %     214       5       2.34 %     301       6       1.99 %
                                                                         
Total Interest-Earning Assets
    3,214,761       260,189       8.09 %     2,871,564       200,941       7.00 %     2,387,412       135,554       5.68 %
                                                                         
Noninterest-Earning Assets:
                                                                       
Cash and Cash Equivalents
    93,535                       92,245                       76,064                  
Allowance for Loan Losses
    (26,693 )                     (22,791 )                     (21,227 )                
Other Assets
    320,578                       308,172                       228,452                  
                                                                         
Total Noninterest-Earning Assets
    387,420                       377,626                       283,289                  
                                                                         
Total Assets
  $ 3,602,181                     $ 3,249,190                     $ 2,670,701                  
                                                                         
 
LIABILITIES AND SHAREHOLDERS’ EQUITY
Interest-Bearing Liabilities:
                                                                       
Deposits:
                                                                       
Savings
  $ 107,811       1,853       1.72 %   $ 138,167       2,130       1.54 %   $ 131,589       1,790       1.36 %
Money Market Checking and NOW Accounts
    471,780       14,539       3.08 %     539,678       12,964       2.40 %     466,880       8,098       1.73 %
Time Deposits of $100,000 or More
    1,286,202       64,184       4.99 %     959,904       31,984       3.33 %     611,555       10,966       1.79 %
Other Time Deposits
    280,249       12,460       4.45 %     242,996       7,114       2.93 %     253,884       5,414       2.13 %
FHLB Advances and Other Borrowings
    138,941       6,977       5.02 %     83,076       3,017       3.63 %     141,374       3,305       2.34 %
Junior Subordinated Debentures
    82,406       6,416       7.79 %     82,406       4,902       5.95 %     82,406       3,044       3.69 %
                                                                         
Total Interest-Bearing Liabilities
    2,367,389       106,429       4.50 %     2,046,227       62,111       3.04 %     1,687,688       32,617       1.93 %
                                                                         
Noninterest-Bearing Liabilities:
                                                                       
Demand Deposits
    735,406                       751,509                       665,816                  
Other Liabilities
    41,159                       33,641                       23,884                  
                                                                         
Total Noninterest-Bearing Liabilities
    776,565                       785,150                       689,700                  
                                                                         
Total Liabilities
    3,143,954                       2,831,377                       2,377,388                  
Shareholders’ Equity
    458,227                       417,813                       293,313                  
                                                                         
Total Liabilities and Shareholders’ Equity
  $ 3,602,181                     $ 3,249,190                     $ 2,670,701                  
                                                                         
Net Interest Income
          $ 153,760                     $ 138,830                     $ 102,937          
                                                                         
Net Interest Spread(3)
                    3.59 %                     3.96 %                     3.75 %
                                                                         
Net Interest Margin(4)
                    4.78 %                     4.83 %                     4.31 %
                                                                         
 
 
(1) Loans are net of deferred fees and related direct costs. Loan fees have been included in the calculation of interest income. Loan fees were $4.8 million, $6.3 million and $6.2 million for the years ended December 31, 2006, 2005 and 2004, respectively.
 
(2) Tax-exempt income, computed on a tax-equivalent basis using an effective marginal rate of 35 percent, was $4.7 million, $4.8 million and $4.6 million for the years ended December 31, 2006, 2005 and 2004, respectively. Yields on tax-exempt income were 6.53 percent, 6.48 percent and 6.59 percent for the years ended December 31, 2006, 2005 and 2004, respectively.
 
(3) Represents the average yield earned on interest-earning assets less the average rate paid on interest-bearing liabilities.
 
(4) Represents net interest income as a percentage of average interest-earning assets.


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The following table sets forth, for the periods indicated, the dollar amount of changes in interest earned and paid for interest-earning assets and interest-bearing liabilities and the amount of change attributable to changes in average daily balances (volume) or changes in average daily interest rates (rate). The variances attributable to both the volume and rate changes have been allocated to volume and rate changes in proportion to the relationship of the absolute dollar amount of the changes in each.
 
                                                 
    Year Ended December 31,  
    2006 vs. 2005     2005 vs. 2004  
    Increase (Decrease)
    Increase (Decrease)
 
    Due to Change in     Due to Change in  
    Volume     Rate     Total     Volume     Rate     Total  
    (In thousands)  
 
Interest Income:
                                               
Gross Loans, Net
  $ 29,839     $ 28,391     $ 58,230     $ 30,620     $ 32,226     $ 62,846  
Municipal Securities
    (63 )     28       (35 )     161       (54 )     107  
Obligations of Other U.S. Government Agencies
    816       330       1,146       477       151       628  
Other Debt Securities
    (994 )     843       (151 )     (929 )     939       10  
Equity Securities
    54       193       247       401       (10 )     391  
Federal Funds Sold
    (807 )     620       (187 )     930       476       1,406  
Term Federal Funds Sold
    2             2                    
Interest-Earning Deposits
    (10 )     6       (4 )     (2 )     1       (1 )
                                                 
Total Interest Income
    28,837       30,411       59,248       31,658       33,729       65,387  
                                                 
Interest Expense:
                                               
Savings
    (503 )     226       (277 )     92       248       340  
Money Market Checking and NOW Accounts
    (1,773 )     3,348       1,575       1,403       3,463       4,866  
Time Deposits of $100,000 or More
    13,068       19,132       32,200       8,385       12,633       21,018  
Other Time Deposits
    1,220       4,126       5,346       (241 )     1,941       1,700  
FHLB Advances and Other Borrowings
    2,524       1,436       3,960       (1,685 )     1,397       (288 )
Junior Subordinated Debentures
          1,514       1,514             1,858       1,858  
                                                 
Total Interest Expense
    14,536       29,782       44,318       7,954       21,540       29,494  
                                                 
Change in Net Interest Income
  $ 14,301     $ 629     $ 14,930     $ 23,704     $ 12,189     $ 35,893  
                                                 
 
For the years ended December 31, 2006 and 2005, net interest income was $153.8 million and $138.8 million, respectively. The net interest spread and net interest margin for the year ended December 31, 2006 were 3.59 percent and 4.78 percent, respectively, compared to 3.96 percent and 4.83 percent, respectively, for the year ended December 31, 2005.
 
For the years ended December 31, 2005 and 2004, net interest income was $138.8 million and $102.9 million, respectively. The net interest spread and net interest margin for the year ended December 31, 2005 were 3.96 percent and 4.83 percent, respectively, compared to 3.75 percent and 4.31 percent, respectively, for the year ended December 31, 2004.
 
Average interest-earning assets increased 12.0 percent to $3,214.8 million in 2006 from $2,871.6 million in 2005. Average gross loans increased 15.4 percent to $2,747.9 million in 2006 from $2,382.2 million in 2005, and average investment securities decreased 1.0 percent to $414.7 million in 2006 from $418.8 million in 2005. Total


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loan interest income increased by 32.2 percent in 2006 due to the increase in average gross loans outstanding and the increase in the average yield on loans from 7.59 percent in 2005 to 8.70 percent in 2006. The average interest rate charged on loans increased 111 basis points, reflecting the increase in the annual average WSJ Prime Rate of 182 basis points from 6.14 percent in 2005 to 7.96 percent in 2006. The yield on average interest-earning assets increased from 7.00 percent in 2005 to 8.09 percent in 2006, an increase of 109 basis points, reflecting a continued shift in the mix of average interest-earning assets from 83.0 percent loans, 14.6 percent securities and 2.4 percent other interest-earning assets in 2005 to 85.5 percent loans, 12.9 percent securities and 1.6 percent other interest-earning assets in 2006.
 
The majority of interest-earning assets growth in 2006 was funded by a $249.2 million, or 9.5 percent, increase in average total deposits. Total average interest-bearing liabilities grew by $321.2 million, or 15.7 percent to $2,367.4 million in 2006 compared to $2,046.2 million in 2005. The average interest rate paid for interest-bearing liabilities increased by 146 basis points from 3.04 percent in 2005 to 4.50 percent in 2006 due to competitive pricing. As a result of the increases in the yield on interest-earning assets and cost of interest-bearing liabilities, the net interest spread decreased to 3.59 percent in 2006 compared to 3.96 percent in 2005.
 
Short-term interest rates rose in the first half of 2006, as the FRB increased the targeted Federal funds rate from 4.25 percent as of December 31, 2005 to 5.25 percent by July 3, 2006, through a series of four 25 basis-point increases. During this period, long-term rates increased more slowly, with the yields on ten-year U.S. Treasury bonds increasing from 4.39 percent as of December 31, 2005 to a peak of 5.25 percent as of June 28, 2006, before decreasing again to 4.71 percent as of December 31, 2006, and the yield curve was inverted, that is, long-term rates exceeded short-term rates, for much of 2006. In this environment, and particularly in the first half of 2006, there was heavy demand among our customers for longer-term fixed-rate loans. This competitive environment placed pressure on loan portfolio yields, which flattened and, in the fourth quarter, declined slightly, as customers demanded more favorable pricing for both fixed-rate and floating-rate loans.
 
Interest rates on time deposits rose as customers, anticipating continued rate increases, demanded higher rates during the first half of the year. During this period, the Bank faced strong competitive pressures from established and newly organized banks serving its target market. During the second half of 2006, these competitive pressures lessened, as market participants made greater use of borrowings to control their costs of funds and customer expectations regarding continued rate increases changed. Nevertheless, the Bank’s cost of time deposits continued to rise, as certificates of deposit, which have an average maturity of approximately five months, continued to re-price. The Bank was able to more effectively control its cost of savings, NOW and money market accounts, but experienced declines in their balances as customers shifted funds to higher-rate accounts.
 
Average interest-earning assets increased 20.3 percent to $2,871.6 million in 2005 from $2,387.4 million in 2004. Average gross loans increased 23.2 percent to $2,382.2 million in 2005 from $1,933.8 million in 2004, and average investment securities decreased 1.6 percent to $418.8 million in 2005 from $425.5 million in 2004. Total loan interest income increased by 53.3 percent in 2005 due to the increase in average gross loans outstanding and the increase in the average yield on loans from 6.10 percent in 2004 to 7.59 percent in 2005. The average interest rate charged on loans increased 149 basis points, reflecting the increase in the WSJ Prime Rate of 180 basis points from 4.34 percent in 2004 to 6.14 percent in 2005. The yield on average interest-earning assets increased from 5.68 percent in 2004 to 7.00 percent in 2005, an increase of 132 basis points, reflecting a shift in the mix of average interest-earning assets from 81.0 percent loans, 17.8 percent securities and 1.2 percent other interest-earning assets in 2004 to 83.0 percent loans, 14.6 percent securities and 2.4 percent other interest-earning assets in 2005.
 
The majority of interest-earning assets growth in 2005 was funded by a $502.5 million, or 23.6 percent, increase in average total deposits. Total average interest-bearing liabilities grew by 21.2 percent to $2,046.2 million in 2005 compared to $1,687.7 million in 2004. The average interest rate paid for interest-bearing liabilities increased by 111 basis points from 1.93 percent in 2004 to 3.04 percent in 2005 due to competitive pricing. As a result of the increases in the yield on interest-earning assets and cost of interest-bearing liabilities, the net interest spread increased to 3.96 percent in 2005 compared to 3.75 percent in 2004.
 
The 2005 net interest spread reflects the increase in the average balance of Federal funds sold, which are highly liquid but have a relatively low yield, from $12.8 million in 2004 to $46.8 million in 2005. The average yield on


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Federal funds sold was 3.40 percent and 1.43 percent in 2005 and 2004, respectively. In the second half of 2005, the Bank increased its rates on certificates of deposit to maintain relationships with valued customers and fund loan growth. In 2005, loan production increased 32.2 percent over 2004 levels. This trend was particularly evident in the second quarter of 2005 and continued throughout the second half of the year, during which production was 37.4 percent higher than 2004 levels. However, because of the flat yield curve (long-term interest rates were unusually low relative to short-term rates, approaching and briefly falling below short-term rates) and strong competition, the Bank experienced a high level of loan payoffs because management was unwilling to match the aggressive pricing on five- to seven-year fixed-rate loans offered to our customers by certain competitors.
 
Provision for Credit Losses
 
For the year ended December 31, 2006, the provision for credit losses was $7.2 million, compared to $5.4 million for the year ended December 31, 2005, an increase of 33.0 percent. The allowance for loan losses was 0.96 percent and 1.00 percent of total gross loans at December 31, 2006 and 2005, respectively, with the increase in the dollar amount allowed for credit losses due to an increase in loan volume. This was primarily due to the overall decrease in historical loss factors on pass grade loans, while non-performing assets increased from $10.1 million, or 0.41 percent of gross loans, as of December 31, 2005 to $14.2 million, or 0.50 percent of gross loans, as of December 31, 2006. The $368.3 million, or 14.9 percent, increase in the loan portfolio and the $4.1 million, or 40.3 percent, increase in non-performing assets required the provision to increase to $7.2 million in 2006 from $5.4 million in 2005 to maintain the necessary allowance level.
 
For the year ended December 31, 2005, the provision for credit losses was $5.4 million, compared to $2.9 million for the year ended December 31, 2004, an increase of 85.6 percent. The allowance for loan losses remained at 1.00 percent of total gross loans at December 31, 2005 and 2004, with the increase in the dollar amount allowed for credit losses due to an increase in loan volume. This was primarily due to the overall decrease in historical loss factors on pass grade loans, while non-performing assets increased from $6.1 million, or 0.27 percent of gross loans, as of December 31, 2004 to $10.1 million, or 0.41 percent of gross loans, as of December 31, 2005. The $235.2 million, or 10.4 percent, increase in the loan portfolio and the $4.1 million, or 68.5 percent, increase in non-performing assets required the provision to increase to $5.4 million in 2005 from $2.9 million in 2004 to maintain the necessary allowance level.
 
Non-Interest Income
 
The following table sets forth the various components of non-interest income for the years indicated:
 
                         
    Year Ended December 31,  
    2006     2005     2004  
    (In thousands)  
 
Service Charges on Deposit Accounts
  $ 17,134     $ 15,782     $ 14,441  
Trade Finance Fees
    4,567       4,269       4,044  
Remittance Fees
    2,056       2,122       1,653  
Other Service Charges and Fees
    2,359       2,496       1,486  
Bank-Owned Life Insurance Income
    879       845       731  
Increase in Fair Value of Derivatives
    1,074       1,105       232  
Other Income
    616       625       493  
Gain on Sales of Loans
    6,917       3,021       2,997  
Gain on Sales of Securities Available for Sale
    2       117       134  
                         
Total Non-Interest Income
  $ 35,604     $ 30,382     $ 26,211  
                         
 
We earn non-interest income from three major sources: service charges on deposit accounts, fees generated from international trade finance and gain on sales of loans. Non-interest income has become a significant part of revenue in the past several years. For the year ended December 31, 2006, non-interest income was $35.6 million, an increase of 17.2 percent from $30.4 million for the year ended December 31, 2005. The overall increase in non-interest income is primarily due to expansion in the Bank’s loan and deposit portfolios.


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Service charges on deposit accounts increased $1.4 million, or 8.6 percent, in 2006 compared to 2005 and increased $1.3 million, or 9.3 percent, in 2005 compared to 2004. Service charge income on deposit accounts increased in 2006 and 2005 due to an increase in the number of accounts and an increase in demand deposit transaction volume. Average demand deposits decreased by 2.1 percent to $735.4 million in 2006 from $751.5 million in 2005 and increased by 12.9 percent to $751.5 million in 2005 from $665.8 million in 2004. Service charges are constantly reviewed to maximize service charge income while still maintaining a competitive position.
 
Fees generated from international trade finance increased by 7.0 percent from $4.3 million in 2005 to $4.6 million in 2006 and increased 5.6 percent from $4.0 million in 2004 to $4.3 million in 2005. The increase was primarily due to the PUB merger. Trade finance fees relate primarily to import and export letters of credit.
 
Remittance fees decreased 3.1 percent and increased 28.4 percent in 2006 and 2005, respectively, to $2.1 million in 2006 from $2.1 million in 2005 and $1.7 million in 2004. The slight decrease in 2006 reflects slightly lower volumes compared to the prior year. The 2005 increase reflects increased volume derived from Hanmi Bank’s close relationship with Korea Exchange Bank, a stockholder of Hanmi Financial.
 
The changes in the fair value of derivatives are caused primarily by movements in the indexes to which interest rates on certain certificates of deposit are tied. In 2005 and 2004, the Bank offered certificates of deposit tied to either the Standard & Poor’s 500 Index or a basket of Asian currencies. As explained in “Notes to Consolidated Financial Statements, Note 16 — Derivatives,” the Bank entered into swap transactions to hedge the market risk associated with such certificates of deposit. The swaps and the related derivatives embedded in the certificates of deposit are accounted for at fair value. The increases in the fair value of the swaps of $1.1 million, $1.1 million and $232,000 recorded in non-interest income in 2006, 2005 and 2004, respectively, are partially offset by changes in the fair value of the embedded derivatives recorded in non-interest expenses. See “Non-Interest Expenses.”
 
Gain on sales of loans was $6.9 million in 2006, compared to $3.0 million in each of 2005 and 2004, representing increases of 129.0 percent and 0.8 percent for the years ended December 31, 2006 and 2005, respectively. The increase in gain on sales of loans resulted from increased sales activity in SBA loans, which was primarily due to increased loan production and sales efforts, including the sale of some of the unguaranteed portions of SBA loans. The guaranteed portion of a substantial percentage of SBA loans is sold in the secondary markets, and servicing rights are retained. During 2006, there were $131.0 million of SBA loans sold, compared to $50.6 million in 2005 and $51.3 million in 2004. The lower premiums earned in 2005 reflect a greater use of brokers to refer loan applications, which causes a higher cost to originate loans, compared to retail originations through the branch network.
 
Non-Interest Expenses
 
The following table sets forth the breakdown of non-interest expenses for the years indicated:
 
                         
    Year Ended December 31,  
    2006     2005     2004  
    (In thousands)  
 
Salaries and Employee Benefits
  $ 40,512     $ 36,839     $ 33,540  
Occupancy and Equipment
    10,130       8,978       8,098  
Data Processing
    4,939       4,844       4,540  
Advertising and Promotion
    2,997       2,913       3,001  
Supplies and Communications
    2,391       2,556       2,433  
Professional Fees
    1,910       2,201       2,068  
Amortization of Core Deposit Intangible
    2,379       2,785       1,872  
Decrease in Fair Value of Embedded Option
    582       748        
Other Operating Expenses
    10,114       7,778       8,961  
Merger-Related Expenses
          (509 )     2,053  
                         
Total Non-Interest Expenses
  $ 75,954     $ 69,133     $ 66,566  
                         


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For the year ended December 31, 2006, non-interest expenses were $76.0 million, an increase of $6.8 million, or 9.9 percent, from $69.1 million for the year ended December 31, 2005. For the year ended December 31, 2005, non-interest expenses were $69.1 million, an increase of $2.6 million, or 3.9 percent, from $66.6 million for the year ended December 31, 2004. The increase in 2006 was primarily the result of higher compensation and an increase in total assets. The increase in 2005 was primarily due to the PUB merger, which closed on April 30, 2004.
 
Salaries and employee benefits expenses for 2006 increased $3.7 million, or 10.0 percent, to $40.5 million from $36.8 million for 2005. Salaries and employee benefits expenses for 2005 increased $3.3 million, or 9.8 percent, to $36.8 million from $33.5 million for 2004. These increases were due primarily to annual salary increases, additional share-based compensation reflecting stock options granted and an increase in the average number of employees. Average headcount was 589, 535 and 503 in 2006, 2005 and 2004, respectively, representing increases of 10.1 percent, 6.4 percent and 36.5 percent, respectively, over the prior years. Assets per employee were $6.3 million at December 31, 2006, compared to $6.2 million and $5.8 million at December 31, 2005 and December 31, 2004, respectively, representing increases of 1.6 percent and 6.9 percent, respectively. The improvement in 2005 reflects the greater operating efficiencies achieved following the merger with PUB. The efficiencies were substantially achieved by March 2005.
 
Occupancy and equipment expenses for 2006 increased $1.1 million, or 12.8 percent, to $10.1 million from $9.0 million for 2005. Occupancy and equipment expenses for 2005 increased $880,000, or 10.9 percent, to $9.0 million compared to $8.1 million for 2004. The increase in 2006 was due to additional office space leased. The increase in 2005 was mainly due to the acquisition of 12 former PUB branches in April 2004, which increased the branch network to 27 facilities. Following the closure of four branches in October 2004 and an additional branch closure in January 2005, the Bank now operates 22 branches.
 
Data processing expense for 2006 increased $95,000, or 2.0 percent, to $4.9 million as a result of expenses associated with a 9.5 percent increase in average deposits and a 15.4 percent increase in average loans outstanding. Data processing expense for 2005 increased $304,000, or 6.7 percent, to $4.8 million from $4.5 million for 2004 as a result of a 28.5 percent increase in average deposits and a 23.2 percent increase in average loans outstanding. In 2004, additional expense was incurred because of the need to operate parallel systems until the conversion of the Bank’s core data processing systems.
 
Professional fees were $1.9 million in 2006, representing a decrease of $291,000, or 13.2 percent, compared to $2.2 million in 2005. Professional fees were $2.2 million in 2005, representing an increase of $133,000, or 6.4 percent, compared to $2.1 million in 2004. The decrease in 2006 was caused primarily by higher regulatory compliance consulting fees in 2005.
 
Other operating expenses were $10.1 million for 2006, compared to $7.8 million for 2005, representing an increase of $2.3 million, or 30.0 percent. The increase is primarily attributable to a $534,000 operating loss related to an international trade transaction, amortization expense of $879,000 related to the termination in the fourth quarter of 2005 of interest rate swaps that had unrealized losses aggregating $2.1 million, and a $355,000 impairment charge to adjust the loan servicing asset to fair value. Other operating expenses were $7.8 million for 2005, compared to $9.0 million for 2004, representing a decrease of $1.2 million, or 13.2 percent. The decreases are primarily attributable to a $1.2 million decrease in loan referral fees from 2004 to 2005.
 
During the year ended December 31, 2004, restructuring charges totaling $2.1 million were recorded in connection with the acquisition of PUB, consisting of employee severance and retention bonuses, leasehold termination costs, and fixed asset impairment charges associated with planned branch closures. In 2004, $975,000 of restructuring costs was recognized related to retention bonuses paid to former PUB employees. Such costs are treated as period costs and are recognized in the period services are rendered. In 2005, $509,000 of restructuring charges was reversed, as severance payments were lower than anticipated.
 
Income Taxes
 
For the year ended December 31, 2006, income taxes of $40.6 million were recognized on pre-tax income of $106.2 million, representing an effective tax rate of 38.2 percent, compared to income taxes of $36.5 million recognized on pre-tax income of $94.7 million, representing an effective tax rate of 38.5 percent, for 2005, and


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income taxes of $23.0 million recognized on pre-tax income of $59.7 million, representing an effective tax rate of 38.5 percent, for 2004.
 
In addition, we have made investments in various tax credit funds totaling $6.5 million as of December 31, 2006 and recognized $659,000 of income tax credits earned from qualified low-income housing investments in 2006. We recognized an income tax credit of $673,000 for the tax year 2005 from $6.9 million in such investments. We intend to continue to make such investments as part of an effort to lower the effective tax rate and to meet our community reinvestment obligations under the CRA.
 
As indicated in “Notes to Consolidated Financial Statements, Note 11 — Income Taxes,” income taxes are the sum of two components: current tax expense and deferred tax expense (benefit). Current tax expense is the result of applying the current tax rate to taxable income. The deferred portion is intended to account for the fact that income on which taxes are paid differs from financial statement pretax income because certain items of income and expense are recognized in different years for income tax purposes than in the financial statements. These differences in the years that income and expenses are recognized cause “temporary differences.”
 
Most of our temporary differences involve recognizing more expenses in our financial statements than we have been allowed to deduct for taxes, and therefore we normally have a net deferred tax asset. At December 31, 2006 and 2005, we had net deferred tax assets of $13.1 million and $9.7 million, respectively.
 
FINANCIAL CONDITION
 
Loan Portfolio
 
Total gross loans increased by $370.1 million, or 14.8 percent, in 2006. Total gross loans represented 77.0 percent of total assets at December 31, 2006 compared with 73.2 percent and 72.9 percent at December 31, 2005 and 2004, respectively.
 
Commercial and industrial loans were $1,726.4 million and $1,431.5 million at December 31, 2006 and 2005, respectively, representing 60.2 percent and 57.3 percent, respectively, of the total loan portfolio. Commercial loans include term loans and revolving lines of credit. Term loans typically have a maturity of three to five years and are extended to finance the purchase of business entities, owner-occupied commercial property, business equipment, leasehold improvements or for permanent working capital. SBA guaranteed loans usually have a longer maturity (five to twenty years). Lines of credit, in general, are extended on an annual basis to businesses that need temporary working capital and/or import/export financing. These borrowers are well diversified as to industry, location and their current and target markets. We manage the portfolio to avoid concentration in any of the areas mentioned.
 
Real estate loans were $1,041.4 million and $974.2 million at December 31, 2006 and 2005, respectively, representing 36.3 percent and 39.0 percent, respectively, of the total loan portfolio. Real estate loans are extended to finance the purchase and/or improvement of commercial real estate and residential property. The properties generally are investor-owned, but may be for user-owned purposes. Underwriting guidelines include, among other things, an appraisal in conformity with the USPAP, limitations on loan-to-value ratios, and minimum cash flow requirements to service debt. The majority of the properties taken as collateral are located in Southern California.
 
Overall, new loan production increased 7.6 percent in 2006 compared to 2005, as the Bank’s customer base continued to expand and collateral values continued to increase, although at a slower pace than in past years. However, loan portfolio growth was restricted by a high level of loan payoffs caused by the flat or inverted yield curve that obtained throughout most of 2005 and 2006. In addition, aggressive pricing of five- to seven-year fixed-rate commercial real estate loans by certain competitors eroded the Bank’s portfolio of commercial real estate loans tied to the prime rate.
 
The continued shift in the mix of the loan portfolio in 2005 and 2006 reflects management’s intent to emphasize commercial and industrial lending, while continuing to grow the commercial real estate portfolio at a prudent pace commensurate with the Bank’s rigorous underwriting standards and asset/liability management and profitability objectives.


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The following table sets forth the amount of total loans outstanding in each category as of the dates indicated:
 
                                         
    Amount of Loans Outstanding as of December 31,  
    2006     2005     2004     2003     2002  
    (In thousands)  
 
Real Estate Loans:
                                       
Commercial Property
  $ 757,428     $ 733,650     $ 783,539     $ 397,853     $ 284,465  
Construction
    202,207       152,080       92,521       43,047       39,237  
Residential Property(1)
    81,758       88,442       80,786       58,477       47,891  
                                         
Total Real Estate Loans
    1,041,393       974,172       956,846       499,377       371,593  
                                         
Commercial and Industrial Loans:
                                       
Commercial Term Loans
    1,202,612       945,210       754,108       433,398       346,522  
Commercial Lines of Credit
    225,630       224,271       201,940       120,856       117,304  
SBA Loans(2)
    171,631       155,491       166,285       91,717       66,443  
International Loans
    126,561       106,520       95,936       65,040       42,641  
                                         
Total Commercial and Industrial Loans
    1,726,434       1,431,492       1,218,269       711,011       572,910  
                                         
Consumer Loans(3)
    100,121       92,154       87,526       54,878       44,416  
                                         
Total Gross Loans
  $ 2,867,948     $ 2,497,818     $ 2,262,641     $ 1,265,266     $ 988,919  
                                         
 
 
(1) As of December 31, 2006 and 2005, loans held for sale totaling $630,000 and $1.1 million, respectively, were included at the lower of cost or fair value.
 
(2) As of December 31, 2006, 2005, 2004, 2003 and 2002, loans held for sale totaling $23.2 million, $0, $3.9 million, $25.5 million and $12.5 million, respectively, were included at the lower of cost or market.
 
(3) Consumer loans includes HELOCs.
 
The following table sets forth the percentage distribution of loans in each category as of the dates indicated:
 
                                         
    Percentage Distribution of Loans
 
    as of December 31,  
    2006     2005     2004     2003     2002  
 
Real Estate Loans:
                                       
Commercial Property
    26.4 %     29.4 %     34.6 %     31.4 %     28.8 %
Construction
    7.1 %     6.1 %     4.1 %     3.4 %     4.0 %
Residential Property
    2.8 %     3.5 %     3.6 %     4.7 %     4.8 %
                                         
Total Real Estate Loans
    36.3 %     39.0 %     42.3 %     39.5 %     37.6 %
                                         
Commercial and Industrial Loans:
                                       
Commercial Term Loans
    41.9 %     37.8 %     33.3 %     34.3 %     35.0 %
Commercial Lines of Credit
    7.9 %     9.0 %     8.9 %     9.6 %     11.9 %
SBA Loans
    6.0 %     6.2 %     7.3 %     7.2 %     6.7 %
International Loans
    4.4 %     4.3 %     4.3 %     5.1 %     4.3 %
                                         
Total Commercial and Industrial Loans
    60.2 %     57.3 %     53.8 %     56.2 %     57.9 %
                                         
Consumer Loans
    3.5 %     3.7 %     3.9 %     4.3 %     4.5 %
                                         
Total Gross Loans
    100.0 %     100.0 %     100.0 %     100.0 %     100.0 %
                                         


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The following table shows the distribution of undisbursed loan commitments as of the dates indicated:
 
                 
    December 31,  
    2006     2005  
    (In thousands)  
 
Commitments to Extend Credit
  $ 578,347     $ 555,736  
Commercial Letters of Credit
    65,158       58,036  
Standby Letters of Credit
    48,289       42,768  
Unused Credit Card Lines
    17,031       14,892  
                 
Total Undisbursed Loan Commitments
  $ 708,825     $ 671,432  
                 
 
The table below shows the maturity distribution and repricing intervals of outstanding loans as of December 31, 2006. In addition, the table shows the distribution of such loans between those with floating or variable interest rates and those with fixed or predetermined interest rates. The table includes non-accrual loans of $14.2 million.
 
                                 
          After One
             
    Within
    But Within
    After
       
    One Year     Five Years     Five Years     Total  
    (In thousands)  
 
Real Estate Loans:
                               
Commercial Property
  $ 503,372     $ 143,462     $ 110,594     $ 757,428  
Construction
    202,207                   202,207  
Residential Property
    24,816       33,546       23,396       81,758  
                                 
Total Real Estate Loans
    730,395       177,008       133,990       1,041,393  
                                 
Commercial and Industrial Loans:
                               
Commercial Term Loans
    894,040       185,956       122,616       1,202,612  
Commercial Lines of Credit
    225,630                   225,630  
SBA Loans
    159,395       872       11,364       171,631  
International Loans
    126,561                   126,561  
                                 
Total Commercial and Industrial Loans
    1,405,626       186,828       133,980       1,726,434  
                                 
Consumer Loans
    60,725       39,396             100,121  
                                 
Total Gross Loans
  $ 2,196,746     $ 403,232     $ 267,970     $ 2,867,948  
                                 
Loans With Predetermined Interest Rates
  $ 69,784     $ 385,870     $ 267,970     $ 723,624  
Loans With Variable Interest Rates
  $ 2,126,962     $ 17,362     $     $ 2,144,324  
 
As of December 31, 2006, there were $357.0 million of loans outstanding, or 12.4 percent of total gross loans outstanding, to borrowers who were involved in the accommodation/hospitality industry. There was no other concentration of loans to any one type of industry exceeding ten percent of total gross loans outstanding.
 
Non-Performing Assets
 
Non-performing assets consist of loans on non-accrual status, loans 90 days or more past due and still accruing interest, loans restructured where the terms of repayment have been renegotiated resulting in a reduction or deferral of interest or principal, and other real estate owned (“OREO”). Loans are generally placed on non-accrual status when they become 90 days past due unless management believes the loan is adequately collateralized and in the process of collection. Loans may be restructured by management when a borrower has experienced some change in financial status, causing an inability to meet the original repayment terms, and where we believe the borrower eventually will overcome those circumstances and repay the loan in full. OREO consists of properties acquired by foreclosure or similar means that management intends to offer for sale.
 
Management’s classification of a loan as non-accrual is an indication that there is reasonable doubt as to the full collectibility of principal or interest on the loan; at this point, we stop recognizing income from the interest on


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the loan and reverse any uncollected interest that had been accrued but unpaid. These loans may or may not be collateralized, but collection efforts are continuously pursued.
 
Non-performing loans, which made up all non-performing assets, were $14.2 million at December 31, 2006, compared to $10.1 million and $6.0 million at December 31, 2005 and 2004, respectively, representing a 40.3 percent increase in 2006 and a 68.5 percent increase in 2005. Total gross loans increased by 14.8 percent in 2006 over 2005 and 10.4 percent in 2005 over 2004. As a result, the ratio of non-performing assets to total gross loans increased to 0.50 percent at December 31, 2006 from 0.41 percent at December 31, 2005, and increased to 0.41 percent at December 31, 2005 from 0.27 percent at December 31, 2004. As of December 31, 2006 and 2005, we had no OREO.
 
Except for non-performing loans set forth below and loans disclosed as impaired, our management is not aware of any loans as of December 31, 2006 and 2005 for which known credit problems of the borrower would cause serious doubts as to the ability of such borrowers to comply with their present loan repayment terms, or any known events that would result in the loan being designated as non-performing at some future date. Our management cannot, however, predict the extent to which a deterioration in general economic conditions, real estate values, increases in general rates of interest, or changes in the financial condition or business of borrower may adversely affect a borrower’s ability to pay.
 
The following table provides information with respect to the components of non-performing assets as of December 31 for the years indicated:
 
                                         
    December 31,  
    2006     2005     2004     2003     2002  
    (Dollars in thousands)  
 
Non-Performing Loans:
                                       
Non-Accrual Loans:
                                       
Real Estate Loans:
                                       
Commercial Property
  $ 246     $     $     $ 527     $  
Residential Property
          474       112       1,126       287  
Commercial and Industrial Loans
    13,862       9,574       5,510       6,398       5,522  
Consumer Loans
    105       74       184       53       49  
                                         
Total Non-Accrual Loans
    14,213       10,122       5,806       8,104       5,858  
                                         
Loans 90 Days or More Past Due and Still Accruing (as to Principal or Interest):
                                       
Real Estate Loans:
                                       
Commercial Property
                      557       356  
Residential Property
                            261  
Commercial and Industrial Loans
                169              
Consumer Loans
    2       9       39              
                                         
Total Loans 90 Days or More Past Due and Still Accruing (as to Principal or Interest)
    2       9       208       557       617  
                                         
Total Non-Performing Loans
    14,215       10,131       6,014       8,661       6,475  
Other Real Estate Owned
                             
                                         
Total Non-Performing Assets
  $ 14,215     $ 10,131     $ 6,014     $ 8,661     $ 6,475  
                                         
Troubled Debt Restructurings
  $ 3,310     $ 642     $ 1,227     $ 491     $  —  
                                         
Non-Performing Loans as a Percentage of Total Gross Loans
    0.50 %     0.41 %     0.27 %     0.68 %     0.65 %
Non-Performing Assets as a Percentage of Total Assets
    0.38 %     0.30 %     0.19 %     0.48 %     0.44 %


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Allowance for Loan Losses and Allowance for Off-Balance Sheet Items
 
Provisions to the allowance for loan losses are made quarterly to recognize probable loan losses. The quarterly provision is based on the allowance need, which is calculated using a formula designed to provide adequate allowances for losses inherent in the portfolio. The formula is made up of various components. The allowance is first determined by assigning reserve ratios for all loans. All loans that are classified are then assigned certain allocations according to type with larger percentages applied to loans deemed to be of a higher risk. These percentages are determined based on the prior loss history by type of loan, adjusted for current economic factors.
 
                                                                                 
    December 31,  
    2006     2005     2004     2003     2002  
Allowance for Loan
  Allowance
    Loans
    Allowance
    Loans
    Allowance
    Loans
    Allowance
    Loans
    Allowance
    Loans
 
Losses Applicable To
  Amount     Receivable     Amount     Receivable     Amount     Receivable     Amount     Receivable     Amount     Receivable  
    (Dollars in thousands)        
 
Real Estate Loans:
                                                                               
Commercial Property
  $ 2,101     $ 757,428     $ 2,043     $ 733,650     $ 1,854     $ 783,539     $ 374     $ 397,853     $ 337     $ 284,465  
Construction
    586       202,207       475       152,080       349       92,521       427       43,047       267       39,237  
Residential Property(1)
    19       81,128       19       87,377       155       80,786       191       58,477       149       47,891  
                                                                                 
Total Real Estate Loans
    2,706       1,040,763       2,537       973,107       2,358       956,846       992       499,377       753       371,593  
Commercial and Industrial Loans(1)
    23,099       1,703,194       21,035       1,431,492       19,051       1,214,419       11,376       685,557       9,773       560,370  
Consumer Loans
    1,752       100,121       1,391       92,154       1,293       87,526       846       54,878       652       44,416  
Unallocated
                                        135             76        
                                                                                 
Total
  $ 27,557     $ 2,844,078     $ 24,963     $ 2,496,753     $ 22,702     $ 2,258,791     $ 13,349     $ 1,239,812     $ 11,254     $ 976,379  
                                                                                 
 
 
(1) Loans held for sale excluded.
 
The allowance is based on estimates, and ultimate future losses may vary from current estimates. Underlying trends in the economic cycle, particularly in Southern California, which management cannot completely predict, will influence credit quality. It is always possible that future economic or other factors may adversely affect Hanmi Bank’s borrowers. As a result, we may sustain loan losses in any particular period that are sizable in relation to the allowance, or exceed the allowance. In addition, our asset quality may deteriorate through a number of possible factors, including rapid growth, failure to maintain or enforce appropriate underwriting standards, failure to maintain an adequate number of qualified loan personnel, and failure to identify and monitor potential problem loans.
 
The allowance for loan losses and allowance for off-balance sheet items are maintained at levels that are believed to be adequate by management to absorb estimated probable loan losses inherent in the loan portfolio. The adequacy of the allowances is determined through periodic evaluations of the loan portfolio and other pertinent factors, which are inherently subjective as the process calls for various significant estimates and assumptions. Among other factors, the estimates involve the amounts and timing of expected future cash flows and fair value of collateral on impaired loans, estimated losses on loans based on historical loss experience, various qualitative factors, and uncertainties in estimating losses and inherent risks in the various credit portfolios, which may be subject to substantial change.
 
On a quarterly basis, we utilize a classification migration model and individual loan review analysis tools as starting points for determining the adequacy of the allowance for loan losses and allowance for off-balance sheet items. Our loss migration analysis tracks twelve quarters of loan losses to determine historical loss experience in every classification category (i.e., pass, special mention, substandard and doubtful) for each loan type, except consumer loans (auto, mortgage and credit cards), which are analyzed as homogeneous loan pools. These calculated loss factors are then applied to outstanding loan balances, unused commitments and off-balance sheet exposures, such as letters of credit. The individual loan review analysis is the other part of the allowance allocation process, applying specific monitoring policies and procedures in analyzing the existing loan portfolios. Further allowance assignments are made based on general and specific economic conditions, as well as performance trends within specific portfolio segments and individual concentrations of credit.
 
The allowance for loan losses was $27.6 million at December 31, 2006, compared to $25.0 million at December 31, 2005. The increase in the allowance for loan losses in 2006 was due primarily to increased specific


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allowances for impaired loans and an increase in the qualitative adjustments due to changes in the qualitative factors. The ratio of the allowance for loan losses to total gross loans was 0.96 percent and 1.00 percent at December 31, 2006 and 2005, primarily due to the overall decrease of historical loss factors on pass grade loans. In addition, the allowance reflects lower estimated loss severity arising from better collateral coverage on impaired loans and the presence of guarantees. The allowance for off-balance sheet items was $2.1 million at December 31, 2006 and 2005.
 
We determine the appropriate overall allowance for loan losses and allowance for off-balance sheet items based on the analysis described above, taking into account management’s judgment. The allowance methodology is reviewed on a periodic basis and modified as appropriate. Based on this analysis, including the aforementioned factors, we believe that the allowance for loan losses and allowance for off-balance sheet items are adequate as of December 31, 2006.
 
                                         
    As of and for the Year Ended December 31,  
    2006     2005     2004     2003     2002  
    (Dollars in thousands)  
 
Allowance for Loan Losses:
                                       
Balance — Beginning of Year
  $ 24,963     $ 22,702     $ 13,349     $ 11,254     $ 9,408  
                                         
Allowance for Loan Losses — PUB Acquisition
                10,566              
                                         
Charge-Offs:
                                       
Real Estate Loans:
                                       
Commercial Property
                      198        
Commercial and Industrial Loans
    5,333       4,371       5,004       3,687       3,213  
Consumer Loans
    796       827       481       538       358  
                                         
Total Charge-Offs
    6,129       5,198       5,485       4,423       3,571  
                                         
Recoveries on Loans Previously Charged Off:
                                       
Real Estate Loans:
                                       
Commercial Property
    406                   21        
Residential Property
                      6        
Commercial and Industrial Loans
    957       2,193       1,702       859       871  
Consumer Loans
    187       201       78       322       105  
                                         
Total Recoveries on Loans Previously Charged Off
    1,550       2,394       1,780       1,208       976  
                                         
Net Loan Charge-Offs
    4,579       2,804       3,705       3,215       2,595  
                                         
Provision Charged to Operating Expenses
    7,173       5,065       2,492       5,310       4,441  
                                         
Balance — End of Year
  $ 27,557     $ 24,963     $ 22,702     $ 13,349     $ 11,254  
                                         
Allowance for Off-Balance Sheet Items:
                                       
Balance — Beginning of Year
  $ 2,130     $ 1,800     $ 1,385     $ 1,015     $ 656  
Provision Charged to Operating Expenses
          330       415       370       359  
                                         
Balance — End of Year
  $ 2,130     $ 2,130     $ 1,800     $ 1,385     $ 1,015  
                                         
Ratios:
                                       
Net Loan Charge-Offs to Average Total Gross Loans
    0.17 %     0.12 %     0.19 %     0.29 %     0.29 %
Net Loan Charge-Offs to Total Gross Loans at End of Period
    0.16 %     0.11 %     0.16 %     0.25 %     0.26 %
Allowance for Loan Losses to Average Total Gross Loans
    1.00 %     1.05 %     1.17 %     1.20 %     1.26 %
Allowance for Loan Losses to Total Gross Loans at End of Period
    0.96 %     1.00 %     1.00 %     1.06 %     1.14 %
Net Loan Charge-Offs to Allowance for Loan Losses
    16.62 %     11.23 %     16.32 %     24.08 %     23.06 %
Net Loan Charge-Offs to Provision Charged to Operating Expenses
    63.84 %     55.36 %     148.68 %     60.55 %     58.43 %
Allowance for Loan Losses to Non-Performing Loans
    193.86 %     246.40 %     377.55 %     154.13 %     173.81 %
Balances:
                                       
Average Total Gross Loans Outstanding During Period
  $ 2,751,565     $ 2,386,575     $ 1,938,422     $ 1,119,860     $ 895,394  
Total Gross Loans Outstanding at End of Period
  $ 2,867,948     $ 2,497,818     $ 2,262,641     $ 1,265,266     $ 988,919  
Non-Performing Loans at End of Period
  $ 14,215     $ 10,131     $ 6,014     $ 8,661     $ 6,475  
 
We concentrate the majority of our earning assets in loans. In all forms of lending, there are inherent risks. We concentrate the preponderance of our loan portfolio in either commercial loans or real estate loans. A small part of


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the portfolio is represented by installment loans primarily for the purchase of automobiles. While we believe that our underwriting criteria are prudent, outside factors can adversely impact credit quality.
 
A portion of the portfolio is represented by loans guaranteed by the SBA, which further reduces the potential for loss. We also utilize credit review in an effort to maintain loan quality. Loans are reviewed throughout the year with special attention given to new loans and those that are classified special mention and below. Loans criticized by this credit review are downgraded with appropriate allowance added if required.
 
As indicated above, we formally assess the adequacy of the allowance on a quarterly basis by:
 
  •  reviewing the adversely graded, delinquent or otherwise questionable loans;
 
  •  generating an estimate of the loss potential in each such loan;
 
  •  adjusting a qualitative factor for industry, economic or other external factors; and
 
  •  evaluating the present status of each loan.
 
Although management believes the allowance is adequate to absorb probable losses, no assurance can be given that we will not sustain losses in any given period, which could be substantial in relation to the size of the allowance.
 
Investment Portfolio
 
As of December 31, 2006, the investment portfolio was composed primarily of mortgage-backed securities, U.S. Government agency securities (“Agencies”), municipal bonds, collateralized mortgage obligations and corporate bonds.
 
Investment securities available for sale were 99.8 percent of the total investment portfolio as of December 31, 2006 and 2005. Most of the securities held by us carried fixed interest rates. Other than holdings of Agencies, there were no investments in securities of any one issuer exceeding 10 percent of shareholders’ equity as of December 31, 2006, 2005 or 2004.
 
We maintain an investment portfolio primarily for liquidity purposes. As of December 31, 2006, securities available for sale were $390.6 million, or 10.5 percent of total assets, compared to $442.9 million, or 13.0 percent of total assets, as of December 31, 2005. In 2006 and 2005, we purchased $9.7 million and $132.7 million, respectively, of securities, primarily mortgage-backed securities and Agencies, to replenish the portfolio for principal repayments in the form of calls, prepayments and scheduled amortization and to maintain an asset mix consistent with our strategic direction.


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The following table summarizes the amortized cost, fair value and distribution of investment securities as of the dates indicated:
 
                                                 
    Investment Portfolio as of December 31,  
    2006     2005     2004  
    Amortized
    Fair
    Amortized
    Fair
    Amortized
    Fair
 
    Cost     Value     Cost     Value     Cost     Value  
    (In thousands)  
 
Securities Held to Maturity:
                                               
Municipal Bonds
  $ 693     $ 693     $ 692     $ 692     $ 691     $ 691  
Mortgage-Backed Securities
    274       276       357       359       399       402  
                                                 
Total Securities Held to Maturity
  $ 967     $ 969     $ 1,049     $ 1,051     $ 1,090     $ 1,093  
                                                 
Securities Available for Sale:
                                               
Mortgage-Backed Securities
  $ 123,614     $ 121,608     $ 149,311     $ 147,268     $ 148,706     $ 149,174  
U.S. Government Agency Securities
    119,768       118,244       129,589       127,813       89,345       89,677  
Municipal Bonds
    69,966       71,710       71,536       73,220       71,771       73,616  
Collateralized Mortgage Obligations
    67,605       66,113       83,068       81,456       93,172       92,539  
Corporate Bonds
    8,090       7,887       8,235       8,053       8,380       8,444  
Other Securities
    4,999       5,050       4,999       5,053       4,437       4,433  
                                                 
Total Securities Available for Sale
  $ 394,042     $ 390,612     $ 446,738     $ 442,863     $ 415,811     $ 417,883  
                                                 
 
The following table summarizes the maturity and/or repricing schedule for investment securities and their weighted-average yield as of December 31, 2006:
 
                                                                 
          After One
    After Five
       
    Within
    But Within
    But Within
    After
 
    One Year     Five Years     Ten Years     Ten Years  
    Amount     Yield     Amount     Yield     Amount     Yield     Amount     Yield  
    (Dollars in thousands)  
 
Mortgage-Backed Securities(1)
  $ 43,043       4.43 %   $ 40,845       4.80 %   $ 32,117       4.87 %   $ 5,877       5.24 %
U.S. Government Agency Securities
    39,599       4.17 %     78,644       4.36 %                        
Municipal Bonds(2)
                2,124       4.91 %     8,669       6.22 %     61,610       6.34 %
Collateralized Mortgage Obligations(1)
    18,926       4.22 %     41,936       4.44 %     5,252       4.33 %            
Corporate Bonds
                7,887       4.53 %                        
Other Securities
    5,050       6.75 %                                    
                                                                 
    $ 106,618       4.40 %   $ 171,436       4.50 %   $ 46,038       5.06 %   $ 67,487       6.24 %
                                                                 
 
 
(1) Mortgage-backed securities and collateralized mortgage obligations have contractual maturities through 2036. The above table is based on the expected prepayment schedule.
 
(2) The yield on municipal bonds has been computed on a tax-equivalent basis, using an effective marginal rate of 35 percent.


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Deposits
 
Total deposits at December 31, 2006, 2005 and 2004 were $2,944.7 million, $2,826.1 million and $2,528.8 million, respectively, representing an increase of $118.6 million, or 4.2 percent, in 2006 and $297.3 million, or 11.8 percent, in 2005. At December 31, 2006, 2005 and 2004, total time deposits outstanding were $1,678.8 million, $1,439.8 million and $1,031.7 million, respectively, representing 57.0 percent, 50.9 percent and 40.8 percent, respectively, of total deposits. This growth reflects the shift away from low-yielding accounts that normally occurs as interest rates rise and depositors take advantage of the greater interest rate differentials available in the market.
 
Demand deposits and money market accounts decreased by $98.2 million, or 7.8 percent, in 2006 and $78.5 million, or 5.8 percent, in 2005. Core deposits (defined as demand, money market and savings deposits) decreased $120.5 million, or 8.7 percent, to $1,265.9 million as of December 31, 2006 from $1,386.4 million as of December 31, 2005, as depositors shifted funds into higher yielding certificates of deposit. At December 31, 2006, noninterest-bearing demand deposits represented 24.7 percent of total deposits compared to 26.1 percent at December 31, 2005.
 
Average deposits for the years ended December 31, 2006, 2005 and 2004 were $2,881.4 million, $2,632.3 million and $2,129.7 million, respectively. Average deposits grew by 9.5 percent in 2006 and 23.6 percent in 2005.
 
We accept brokered deposits on a selective basis at prudent interest rates to augment deposit growth. There were $3.3 million and $7.4 million of brokered deposits as of December 31, 2006 and 2005, respectively. We also had $200.0 million of state time deposits over $100,000 with a weighted-average interest rate of 5.16 percent and 3.87 percent as of December 31, 2006 and 2005, respectively.
 
The table below summarizes the distribution of average deposits and the average rates paid for the periods indicated:
 
                                                 
    Year Ended December 31,  
    2006     2005     2004  
    Average
    Average
    Average
    Average
    Average
    Average
 
    Balance     Rate     Balance     Rate     Balance     Rate  
    (Dollars in thousands)  
 
Demand, Noninterest-Bearing
  $ 735,406           $ 751,509           $ 665,816        
Savings
    107,811       1.72 %     138,167       1.54 %     131,589       1.36 %
Money Market Checking and NOW Accounts
    471,780       3.08 %     539,678       2.40 %     466,880       1.73 %
Time Deposits of $100,000 or More
    1,286,202       4.99 %     959,904       3.33 %     611,555       1.79 %
Other Time Deposits
    280,249       4.45 %     242,996       2.93 %     253,884       2.13 %
                                                 
Total Deposits
  $ 2,881,448             $ 2,632,254             $ 2,129,724          
                                                 
 
The table below summarizes the maturity of time deposits of $100,000 or more at December 31 of the years indicated:
 
                         
    December 31,  
    2006     2005     2004  
    (Dollars in thousands)  
 
Three Months or Less
  $ 689,309     $ 587,251     $ 378,205  
Over Three Months Through Six Months
    414,687       248,338       232,231  
Over Six Months Through Twelve Months
    274,402       321,714       131,775  
Over Twelve Months
    4,960       4,647       14,369  
                         
    $ 1,383,358     $ 1,161,950     $ 756,580  
                         


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FHLB Advances and Other Borrowings
 
FHLB advances and other borrowings mostly take the form of advances from the FHLB of San Francisco and overnight Federal funds.
 
At December 31, 2006, advances from the FHLB were $168.1 million, an increase of $124.6 million, or 286.2 percent, from the December 31, 2005 balance of $43.5 million. During 2006, the Bank borrowed $130.0 million from the FHLB for terms of 12 to 24 months to allow it to fund fixed-rate loans, but maintain the desired level of asset sensitivity.
 
Junior Subordinated Debentures
 
During the first half of 2004, we issued two junior subordinated notes bearing interest at the three-month London InterBank Offered Rate (“LIBOR”) plus 2.90 percent totaling $61.8 million and one junior subordinated note bearing interest at the three-month LIBOR plus 2.63 percent totaling $20.6 million. The outstanding subordinated debentures related to these offerings, the proceeds of which were used to finance the purchase of PUB, totaled $82.4 million at December 31, 2006 and 2005.
 
INTEREST RATE RISK MANAGEMENT
 
Interest rate risk indicates our exposure to market interest rate fluctuations. The movement of interest rates directly and inversely affects the economic value of fixed-income assets, which is the present value of future cash flow discounted by the current interest rate; under the same conditions, the higher the current interest rate, the higher the denominator of discounting. Interest rate risk management is intended to decrease or increase the level of our exposure to market interest rates. The level of interest rate risk can be managed through such means as the changing of gap positions and the volume of fixed-income assets. For successful management of interest rate risk, we use various methods to measure existing and future interest rate risk exposures, giving effect to historical attrition rates of core deposits. In addition to regular reports used in business operations, repricing gap analysis, stress testing and simulation modeling are the main measurement techniques used to quantify interest rate risk exposure.
 
The following table shows the status of our gap position as of December 31, 2006:
 
                                                 
          After
    After One
                   
    Less
    Three
    Year But
                   
    Than
    Months
    Within
    After
    Non-
       
    Three
    But Within
    Five
    Five
    Interest-
       
    Months     One Year     Years     Years     Sensitive     Total  
    (Dollars in thousands)  
 
ASSETS
Cash
  $     $     $     $     $ 97,501     $ 97,501  
Federal Funds Sold
    41,000                               41,000  
Term Federal Funds Sold
    5,000                               5,000  
Federal Reserve Bank and Federal Home
                                               
Loan Bank Stock
                      24,922             24,922  
Securities:
                                               
Fixed Rate
    6,906       55,309       171,437       113,524             347,176  
Floating Rate
    9,850       3,325       26,178       5,050             44,403  
Loans:
                                               
Fixed Rate
    41,199       45,894       385,868       267,969             740,930  
Floating Rate
    1,884,321       20,798       204,027       3,659             2,112,805  
Non-Accrual
                            14,213       14,213  
Deferred Loan Fees and Allowance for Loan Losses
                            (30,558 )     (30,558 )
Other Assets
          23,592             6,515       297,744       327,851  
                                                 
Total Assets
  $ 1,988,276     $ 148,918     $ 787,510     $ 421,639     $ 378,900     $ 3,725,243  
                                                 


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          After
    After One
                   
    Less
    Three
    Year But
                   
    Than
    Months
    Within
    After
    Non-
       
    Three
    But Within
    Five
    Five
    Interest-
       
    Months     One Year     Years     Years     Sensitive     Total  
    (Dollars in thousands)  
 
LIABILITIES AND SHAREHOLDERS’ EQUITY
Liabilities
                                               
Deposits:
                                               
Demand Deposits
  $ 43,944     $ 147,184     $ 353,240     $ 183,979     $     $ 728,347  
Savings
    13,027       31,258       44,375       10,595             99,255  
Money Market Checking and NOW Accounts
    65,322       125,238       142,165       105,542             438,267  
Time Deposits:
                                               
Fixed Rate
    812,061       855,730       10,768       141             1,678,700  
Floating Rate
    146                               146  
FHLB Advances and Other Borrowings
    929       45,000       118,252       4,856             169,037  
Junior Subordinated Debentures
    82,406                               82,406  
Other Liabilities
                            41,968       41,968  
Shareholders’ Equity
                            487,117       487,117  
                                                 
Total Liabilities and Shareholders’ Equity
  $ 1,017,835     $ 1,204,410     $ 668,800     $ 305,113     $ 529,085     $ 3,725,243  
                                                 
Repricing Gap
  $ 970,441     $ (1,055,492 )   $ 118,710     $ 116,526     $ (150,185 )        
Cumulative Repricing Gap
  $ 970,441     $ (85,051 )   $ 33,659     $ 150,185     $          
Cumulative Repricing Gap as a Percentage of Total Assets
    26.05 %     (2.28 )%     0.90 %     4.03 %              
Cumulative Repricing Gap as a Percentage of Interest-Earning Assets
    29.26 %     (2.56 )%     1.01 %     4.53 %              
 
The repricing gap analysis measures the static timing of repricing risk of assets and liabilities (i.e., a point-in-time analysis measuring the difference between assets maturing or repricing in a period and liabilities maturing or repricing within the same time period). Assets are assigned to maturity and repricing categories based on their expected repayment or repricing dates, and liabilities are assigned based on their repricing or maturity dates. Core deposits that have no maturity dates (demand deposits, savings, money market checking and NOW accounts) are assigned to categories based on expected decay rates.
 
On December 31, 2006, the cumulative repricing gap as a percentage of interest-earning assets in the less-than-three month period was 29.26 percent. This decrease from the previous year’s figure of 32.25 percent was caused primarily by a shift in the mix of the loan portfolio into fixed-rate loans, which increased $324.3 million, or 77.8 percent, partially offset by a decrease of $45.7 million, or 11.6 percent, in fixed-rate investments, funded primarily by certificates of deposit, as the mix of the deposits portfolio shifted away from core deposits and the balance of loans linked to the prime rate increased only $42.2 million, or 2.0 percent. The cumulative repricing percentage in the less than twelve month period also moved lower, reaching (2.56) percent. This was a decrease from the previous year’s figure of 3.13 percent. The decrease was caused by an increase of $394.5 million in fixed-rate time deposits maturing within one year, offset by a decrease of $148.8 million in floating rate time deposits maturing within one year. In terms of fixed and floating gap positions, which are used internally to control repricing risk, the accumulated fixed gap position between assets and liabilities as a percentage of interest-earning assets was 5.09 percent asset-sensitive, compared to 10.30 percent and 20.01 percent as of December 31, 2005 and 2004, respectively. The floating gap position in the less than twelve months period was 0.54 percent liability-sensitive, compared to 7.00 percent and 19.30 percent asset-sensitive as of December 31, 2005 and 2004, respectively.

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The following table summarizes the status of the cumulative gap position as of the dates indicated.
 
                                 
    Less Than Three Months     Less Than Twelve Months  
    December 31,     December 31,  
    2006     2005     2006     2005  
    (Dollars in thousands)  
 
Cumulative Repricing Gap
  $ 970,441     $ 972,608     $ (85,051 )   $ 94,299  
Percentage of Total Assets
    26.05 %     28.49 %     (2.28 )%     2.76 %
Percentage of Interest-Earning Assets
    29.26 %     32.25 %     (2.56 )%     3.13 %
 
The spread between interest income on interest-earning assets and interest expense on interest-bearing liabilities is the principal component of net interest income, and interest rate changes substantially affect our financial performance. We emphasize capital protection through stable earnings rather than maximizing yield. In order to achieve stable earnings, we prudently manage our assets and liabilities and closely monitor the percentage changes in net interest income and equity value in relation to limits established within our guidelines.
 
To supplement traditional gap analysis, we perform simulation modeling to estimate the potential effects of interest rate changes. The following table summarizes one of the stress simulations performed to forecast the impact of changing interest rates on net interest income and the market value of interest-earning assets and interest-bearing liabilities reflected on our balance sheet (i.e., an instantaneous parallel shift in the yield curve of the magnitude indicated). This sensitivity analysis is compared to policy limits, which specify the maximum tolerance level for net interest income exposure over a one-year horizon, given the basis point adjustment in interest rates reflected below.
 
                                 
Rate Shock Table  
    Percentage Changes     Change in Amount  
Change in
  Net
    Economic
    Net
    Economic
 
Interest
  Interest
    Value of
    Interest
    Value of
 
Rate
  Income     Equity     Income     Equity  
    (Dollars in thousands)  
 
 200%
    13.07 %     (9.80 )%   $ 20,632     $ (47,657 )
 100%
    6.52 %     (5.14 )%   $ 10,287     $ (24,886 )
(100%)
    (6.55 )%     5.55 %   $ (10,337 )   $ 26,845  
(200%)
    (13.15 )%     11.39 %   $ (20,759 )   $ 55,089  
 
The estimated sensitivity does not necessarily represent our forecast and the results may not be indicative of actual changes to our net interest income. These estimates are based upon a number of assumptions including: the nature and timing of interest rate levels including yield curve shape, prepayments on loans and securities, pricing strategies on loans and deposits, and replacement of asset and liability cash flows. 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 AND CAPITAL RESOURCES
 
Liquidity of the Bank is defined as the ability to supply cash as quickly as needed without causing a severe deterioration in profitability. The Bank’s liquidity consists primarily of available cash positions, Federal funds sold and short-term investments categorized as available for sale securities, which can be disposed of without significant capital losses in the ordinary course of business, plus borrowing capacities, which include Federal funds lines, repurchase agreements and FHLB advances. Therefore, maintenance of high quality loans and securities that can be used for collateral in repurchase agreements or other secured borrowings is important feature of our liquidity management.
 
The maintenance of a proper level of liquid assets is critical for both the liquidity and the profitability of the Bank. Since the primary purpose of the investment portfolio is to ensure the Bank has adequate liquidity, management maintains appropriate levels of liquid assets to avoid exposure to higher than necessary liquidity risk. Liquidity risk may increase when the Bank has few short-duration securities available for sale and/or is not capable of raising funds as quickly as necessary at acceptable rates in the capital or money markets. A heavy and sudden increase in cash demands for loans and/or deposits can tighten the liquidity position. Several ratios are


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reviewed on a daily, monthly and quarterly basis to manage the liquidity position and to preempt any liquidity crisis. Specific statistics, which include the loans-to-assets ratio, off-balance sheet items and dependence on non-core deposits, foreign deposits, lines of credit and liquid assets, are reviewed regularly for liquidity management purposes.
 
                         
    December 31,  
Liquidity Ratios
  2006     2005     2004  
 
Core Deposits/Total Assets
    30.1 %     35.3 %     41.1 %
Short-Term Non-Core Funding/Total Assets
    46.0 %     41.8 %     33.2 %
Net Loans/Total Assets
    76.6 %     72.4 %     71.9 %
Investments/Deposits
    15.9 %     18.9 %     20.4 %
Loans and Investments/Deposits
    112.2 %     106.3 %     108.5 %
Off-Balance Sheet Items/Total Assets
    19.0 %     18.5 %     15.0 %
 
The net loans to total assets ratio increased to 76.6 percent as of December 31, 2006, compared to 72.4 percent at December 31, 2005. The ratio of loans and investments to deposits increased to 112.2 percent as the Bank made use of borrowings with maturities of one to two years to fund a portion of loan portfolio growth. Off-balance sheet items as a percentage of total assets increased at December 31, 2006 to 19.2 percent, compared to 18.5 percent at December 31, 2005, and the total amount increased to $708.8 million at December 31, 2006 from $671.4 million at December 31, 2005. The increase was primarily due to a $21.5 million increase in commitments to extend credit. During the year, the percentage of off-balance sheet items to total assets generally ranged from 18 percent to 20 percent. The ratio of short-term non-core funding to total assets was 46.0 percent at December 31, 2006, compared to 41.8 percent at December 31, 2005.
 
Foreign deposits are U.S.-based deposits made by foreign customers. Foreign deposit risk deals with dependency on foreign deposits that could adversely affect the Bank’s liquidity. These liabilities are assumed to be volatile because of the variability of social, political and environmental conditions in foreign countries. As of December 31, 2006, 2005 and 2004, foreign deposits deposits were $325.4 million, $294.3 million and 297.4 million, respectively.
 
As of December 31, 2006, we maintained a total of $158.0 million in credit lines secured by us to meet our liquidity needs. In addition, we maintained eight master repurchase agreements, all of which can furnish liquidity to us in consideration of bond collateral. We also can meet our liquidity needs through borrowings from the FHLB. We are eligible to borrow up of 25 percent of our total assets from the FHLB.
 
As of December 31, 2006, there were no material commitments for capital expenditures. We raise capital in the form of deposits, borrowings (primarily FHLB advances and junior subordinated debentures) and equity, and expect to continue to rely upon deposits as the primary source of capital.
 
OFF-BALANCE SHEET ARRANGEMENTS
 
For a discussion of off-balance sheet arrangements, see “Item 1. Business — Small Business Administration Guaranteed Loans” and “Item 1. Business — Off-Balance Sheet Commitments.”


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CONTRACTUAL OBLIGATIONS
 
Our contractual obligations as of December 31, 2006 are as follows:
 
                                         
          More Than
    More Than
             
          One Year
    Three Years
             
          and Less
    and Less
    More
       
    Less Than
    Than Three
    Than Five
    Than Five
       
Contractual Obligations
  One Year     Years     Years     Years     Total  
    (In thousands)  
Time Deposits
  $ 1,667,937     $ 4,972     $ 5,796     $ 141     $ 1,678,846  
Commitments to Extend Credit
    578,347                         578,347  
Long-Term Debt Obligations
    45,000       111,000       7,252       87,262       250,514  
Standby Letters of Credit
    47,709       312             268       48,289  
Operating Lease Obligations
    4,093       5,917       3,443       6,068       19,521  
                                         
Total Contractual Obligations
  $ 2,343,086     $ 122,201     $ 16,491     $ 93,739     $ 2,575,517  
                                         
 
RECENTLY ISSUED ACCOUNTING STANDARDS
 
In September 2006, the SEC issued Staff Accounting Bulletin (“SAB”) No. 108, “Considering the Effects of Prior Year Misstatements when Quantifying Misstatements in Current Year Financial Statements.” SAB No. 108 specifies how the carryover or reversal of prior year unrecorded financial statement misstatements should be considered in quantifying a current year misstatement. SAB No. 108 requires an approach that considers the amount by which the current year Consolidated Statement of Income is misstated (“rollover approach”) and an approach that considers the cumulative amount by which the current year Consolidated Statement of Financial Condition is misstated (“iron curtain approach”). Prior to the issuance of SAB No. 108, either the rollover or iron curtain approach was acceptable for assessing the materiality of financial statement misstatements.
 
Initial application of SAB No. 108 allows registrants to elect not to restate prior periods but to reflect the initial application in their annual financial statements covering the first fiscal year ending after November 15, 2006. The cumulative effect of the initial application should be reported in the carrying amounts of assets and liabilities as of the beginning of that fiscal year and the offsetting adjustment, net of tax, should be made to the opening balance of retained earnings for that year. Registrants are required to disclose the nature and amount of each item, when and how each error being corrected arose, and the fact that the errors were previously considered immaterial.
 
We adopted the provisions of SAB No. 108 effective as of January 1, 2006. In the fourth quarter of 2006, as part of management’s review of the operating results of tax credit partnership investments, we determined that our share of losses from certain of these investments had not been properly recorded, due to oversight, in accordance with GAAP for the years 2003 to 2005. In accordance with the transition provisions of SAB No. 108, we recorded a net $656,000 cumulative adjustment to retained earnings as of January 1, 2006.
 
We have concluded that these adjustments are immaterial to prior years’ consolidated financial statements under our previous method of assessing materiality, and therefore have elected, as permitted under the transition provisions of SAB No. 108, to reflect the effect of these adjustments in opening assets and liabilities as of January 1, 2006, with the offsetting adjustment reflected as a cumulative effect adjustment to opening retained earnings as of January 1, 2006.
 
In September 2006, the Financial Accounting Standards Board (“FASB”) issued SFAS No. 157, “Fair Value Measurements.” This Statement defines fair value, establishes a framework for measuring fair value and expands disclosures about fair value measurements. The Statement is effective for financial statements issued for fiscal years beginning after November 15, 2007, and interim periods within that fiscal year. We are currently assessing the impact that the adoption of SFAS No. 157 will have on our financial condition and results of operations.
 
In June 2006, the FASB issued Interpretation No. 48, “Accounting for Uncertainty in Income Taxes — an Interpretation of FASB Statement No. 109” (“FIN No. 48”). FIN No. 48 clarifies the accounting for uncertainty in income taxes recognized in an enterprise’s financial statements in accordance with SFAS No. 109, “Accounting for Income Taxes.” FIN No. 48 prescribes a recognition threshold and measurement attribute for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return. We will be required to


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adopt FIN No. 48 in the first quarter of 2007. We do not expect the adoption of FIN No. 48 will have a material effect on our financial condition or results of operations.
 
In March 2006, the FASB issued SFAS No. 156, “Accounting for Servicing of Financial Assets,” which amends the guidance in SFAS No. 140. SFAS No. 156 requires that an entity separately recognize a servicing asset or a servicing liability when it undertakes an obligation to service a financial asset under a servicing contract in certain situations. Such servicing assets or servicing labilities are required to be measured initially at fair value, if practicable. SFAS No. 156 also allows an entity to measure its servicing assets and servicing liabilities subsequently using either the amortization method, which existed under SFAS No. 140, or the fair value measurement method. SFAS No. 156 will be effective in the fiscal year beginning January 1, 2007. We do not expect the adoption of SFAS No. 156 to have a material impact on our financial condition or results of operations.
 
In February 2006, the FASB issued SFAS No. 155, “Accounting for Certain Hybrid Financial Instruments, an amendment of FASB Statements No. 133 and SFAS No. 140.” This Statement:
 
  •  permits fair value remeasurement for any hybrid financial instrument that contains an embedded derivative that otherwise would require bifurcation;
 
  •  clarifies which interest-only strips and principal-only strips are not subject to SFAS No. 133;
 
  •  establishes a requirement to evaluate interests in securitized financial assets to identify interests that are freestanding derivatives or hybrid financial instruments that contain an embedded derivative requiring bifurcation;
 
  •  clarifies that concentrations of credit risk in the form of subordinations are not embedded derivatives; and
 
  •  amends SFAS No. 140 to eliminate the prohibition on a qualified special purpose entity from holding a derivative financial instrument that pertains to a beneficial interest other than another derivative financial instrument.
 
SFAS No. 155 is effective for all financial instruments acquired or issued after the beginning of an entity’s first fiscal year that begins after September 15, 2006. We are currently assessing the impact that the adoption of SFAS No. 155 will have on our financial condition and results of operations.
 
ITEM 7A.   QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
 
For quantitative and qualitative disclosures regarding market risks in Hanmi Bank’s portfolio, see “Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations — Interest Rate Risk Management‘ and “— Liquidity and Capital Resources.”
 
ITEM 8.   FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
 
The financial statements required to be filed as a part of this Report are set forth on pages 52 through 91.
 
ITEM 9.   CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
 
None.
 
ITEM 9A.   CONTROLS AND PROCEDURES
 
Disclosure Controls and Procedures
 
As of December 31, 2006, Hanmi Financial carried out an evaluation, under the supervision and with the participation of Hanmi Financial’s management, including Hanmi Financial’s Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of Hanmi Financial’s disclosure controls and procedures and internal controls over financial reporting pursuant to Securities and Exchange Commission (“SEC”) rules. Based upon that evaluation, the Chief Executive Officer and Chief Financial Officer concluded that:
 
  •  Hanmi Financial’s disclosure controls and procedures were effective as of the end of the period covered by this report in timely alerting them to material information relating to Hanmi Financial that is required to be included in Hanmi Financial’s periodic SEC filings; and


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  •  Hanmi Financial’s internal controls over financial reporting 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.
 
During the quarter ended December 31, 2006, there have been no significant changes in Hanmi Financial’s internal controls over financial reporting or in other factors that could significantly affect these controls subsequent to the evaluation date.
 
Disclosure controls and procedures are defined in SEC rules as controls and other procedures designed to ensure that information required to be disclosed in Exchange Act reports is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms. Hanmi Financial’s disclosure controls and procedures were designed to ensure that material information related to Hanmi Financial, including subsidiaries, is made known to management, including the Chief Executive Officer and Chief Financial Officer, in a timely manner.
 
Management’s Report on Internal Control Over Financial Reporting
 
Management of Hanmi Financial Corporation (“Hanmi Financial”) is responsible for establishing and maintaining adequate internal control over financial reporting pursuant to the rules and regulations of the Securities and Exchange Commission. Hanmi Financial’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of consolidated financial statements for external purposes in accordance with U.S. generally accepted accounting principles. Internal control over financial reporting includes those written policies and procedures that:
 
  •  pertain to the maintenance of records that in reasonable detail accurately and fairly reflect the transactions and dispositions of the assets of the company;
 
  •  provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles;
 
  •  provide reasonable assurance that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and
 
  •  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.
 
Management assessed the effectiveness of Hanmi Financial’s internal control over financial reporting as of December 31, 2006. Management based this assessment on criteria for effective internal control over financial reporting described in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission. Management’s assessment included an evaluation of the design of Hanmi Financial’s internal control over financial reporting and testing of the operational effectiveness of its internal control over financial reporting. Management reviewed the results of its assessment with the Audit Committee of our Board of Directors.
 
Based on this assessment, management determined that, as of December 31, 2006, Hanmi Financial maintained effective internal control over financial reporting.
 
KPMG LLP, the independent registered public accounting firm that audited and reported on the consolidated financial statements of Hanmi Financial, has issued a report on management’s assessment of Hanmi Financial’s internal control over financial reporting as of December 31, 2006. The report expresses unqualified opinions on management’s assessment and on the effectiveness of Hanmi Financial’s internal control over financial reporting as of December 31, 2006.


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REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
 
The Board of Directors and Stockholders
Hanmi Financial Corporation:
 
We have audited management’s assessment, included in the accompanying Management’s Report on Internal Control Over Financial Reporting included in Item 9A, that Hanmi Financial Corporation and subsidiary (the Company) maintained effective internal control over financial reporting as of December 31, 2006, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). The Company’s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting. Our responsibility is to express an opinion on management’s assessment and an opinion on the effectiveness of the Company’s internal control over financial reporting based on our audit.
 
We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, evaluating management’s assessment, testing and evaluating the design and operating effectiveness of internal control, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.
 
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 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.
 
In our opinion, management’s assessment that the Company maintained effective internal control over financial reporting as of December 31, 2006, is fairly stated, in all material respects, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). Also, in our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of December 31, 2006, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO).
 
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated statements of financial condition of Hanmi Financial Corporation and subsidiary as of December 31, 2006 and 2005, and the related consolidated statements of income, changes in shareholders’ equity and comprehensive income, and cash flows for each of the years in the three-year period ended December 31, 2006, and our report dated March 1, 2007 expressed an unqualified opinion on those consolidated financial statements.
 
/s/ KPMG LLP
 
Los Angeles, California
March 1, 2007


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ITEM 9B.   OTHER INFORMATION
 
None.
 
PART III
 
ITEM 10.   DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE
 
Except as hereinafter noted, the information concerning directors and officers of Hanmi Financial is incorporated by reference from the sections entitled “The Board of Directors and Executive Officers” and “Section 16(a) Beneficial Ownership Reporting Compliance” of Hanmi Financial’s Definitive Proxy Statement for the Annual Meeting of Stockholders, which will be filed with the Commission within 120 days after the close of Hanmi Financial’s fiscal year.
 
Audit Committee Financial Expert
 
M. Christian Mitchell was appointed to the Audit Committee of the Board of Directors as of April 11, 2004. The Board has determined that Mr. Mitchell meets the independence standards required by NASDAQ and is a “financial expert” within the meaning of the current rules of the SEC.
 
Code of Ethics
 
We have adopted a Code of Business Conduct and Ethics that applies to our principal executive officer, principal financial and accounting officer, controller and other persons performing similar functions. It will be provided to any stockholder without charge, upon the written request of that stockholder. Such requests should be addressed to Justine Roe, General Counsel, Hanmi Financial Corporation, 3660 Wilshire Boulevard, Penthouse Suite A, Los Angeles, California 90010. It is also available on our website at www.hanmi.com.
 
ITEM 11.   EXECUTIVE COMPENSATION
 
Information concerning executive compensation is incorporated by reference from the section entitled “Executive Compensation” of Hanmi Financial’s Definitive Proxy Statement for the Annual Meeting of Stockholders, which will be filed with the Commission within 120 days after the close of Hanmi Financial’s fiscal year.
 
ITEM 12.   SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS
 
Information regarding security ownership of certain beneficial owners and management and related stockholder matters will appear under the caption “Beneficial Ownership of Principal Stockholders and Management” in Hanmi Financial’s Definitive Proxy Statement for the Annual Meeting of Stockholders and is incorporated herein by reference.
 
ITEM 13.   CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE
 
Information concerning certain relationships and related transactions is incorporated by reference from the section entitled “Certain Relationships and Related Transactions” of Hanmi Financial’s Definitive Proxy Statement for the Annual Meeting of Stockholders, which will be filed with the Commission within 120 days after the close of Hanmi Financial’s fiscal year.
 
ITEM 14.   PRINCIPAL ACCOUNTING FEES AND SERVICES
 
Information concerning Hanmi Financial’s principal accountants’ fees and services is incorporated by reference from the section entitled “Independent Accountants” of Hanmi Financial’s Definitive Proxy Statement for the Annual Meeting of Stockholders, which will be filed with the Commission within 120 days after the close of Hanmi Financial’s fiscal year.


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PART IV
 
ITEM 15.   EXHIBITS, FINANCIAL STATEMENT SCHEDULES
 
(a) Financial Statements and Schedules
 
(1) The Financial Statements required to be filed hereunder are listed in the Index to Consolidated Financial Statements on page 52 of this Report.
 
(2) All Financial Statement Schedules have been omitted as the required information is inapplicable or has been included in the Notes to Consolidated Financial Statements.
 
(3) The Exhibits required to be filed with this Report are listed in the Exhibit Index included herein at page 93.


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HANMI FINANCIAL CORPORATION AND SUBSIDIARY
 
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
 
         
    Page
 
  53
  54
  55
  56
  57
  58


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REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
 
The Board of Directors and Stockholders
Hanmi Financial Corporation:
 
We have audited the accompanying consolidated statements of financial condition of Hanmi Financial Corporation and subsidiary as of December 31, 2006 and 2005, and the related consolidated statements of income, changes in shareholders’ equity and comprehensive income, and cash flows for each of the years in the three-year period ended December 31, 2006. These consolidated financial statements are the responsibility of the Hanmi Financial Corporation’s management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits.
 
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
 
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Hanmi Financial Corporation and subsidiary as of December 31, 2006 and 2005, and the results of their operations and their cash flows for each of the years in the three-year period ended December 31, 2006, in conformity with U.S. generally accepted accounting principles.
 
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the effectiveness of Hanmi Financial Corporation’s internal control over financial reporting as of December 31, 2006, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO), and our report dated March 1, 2007 expressed an unqualified opinion on management’s assessment of, and the effective operation of, internal control over financial reporting.
 
As discussed in Note 1 to the accompanying consolidated financial statements, effective January 1, 2006, the Company adopted Statement of Financial Accounting Standards No. 123R, Share-Based Payment.
 
/s/ KPMG LLP
 
Los Angeles, California
March 1, 2007


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HANMI FINANCIAL CORPORATION AND SUBSIDIARY
 
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
 
                 
    December 31,  
    2006     2005  
    (Dollars in thousands)  
ASSETS
Cash and Due From Banks
  $ 97,501     $ 103,477  
Federal Funds Sold and Securities Purchased Under Agreements to Resell
    41,000       60,000  
                 
Cash and Cash Equivalents
    138,501       163,477  
Term Federal Funds Sold
    5,000        
Securities Held to Maturity, at Amortized Cost (Fair Value: 2006 — $969; 2005 — $1,051)
    967       1,049  
Securities Available for Sale, at Fair Value
    390,612       442,863  
Loans Receivable, Net of Allowance for Loan Losses of $27,557 and $24,963 at December 31, 2006 and 2005, Respectively
    2,813,520       2,468,015  
Loans Held for Sale, at the Lower of Cost or Fair Value
    23,870       1,065  
Customers’ Liability on Acceptances
    8,403       8,432  
Premises and Equipment, Net
    20,075       20,784  
Accrued Interest Receivable
    16,919       14,120  
Deferred Income Taxes
    13,064       9,651  
Servicing Asset
    4,579       3,910  
Goodwill
    207,646       209,058  
Core Deposit Intangible
    6,312       8,691  
Federal Reserve Bank Stock
    11,733       12,350  
Federal Home Loan Bank Stock
    13,189       12,237  
Bank-Owned Life Insurance
    23,592       22,713  
Other Assets
    27,261       15,837  
                 
TOTAL ASSETS
  $ 3,725,243     $ 3,414,252  
                 
 
LIABILITIES AND SHAREHOLDERS’ EQUITY
LIABILITIES:
               
Deposits:
               
Noninterest-Bearing
  $ 728,347     $ 738,618  
Interest-Bearing:
               
Savings
    99,255       121,574  
Money Market Checking and NOW Accounts
    438,267       526,171  
Time Deposits of $100,000 or More
    1,383,358       1,161,950  
Other Time Deposits
    295,488       277,801  
                 
Total Deposits
    2,944,715       2,826,114  
Accrued Interest Payable
    22,582       11,911  
Acceptances Outstanding
    8,403       8,432  
FHLB Advances and Other Borrowings
    169,037       46,331  
Junior Subordinated Debentures
    82,406       82,406  
Other Liabilities
    10,983       12,281  
                 
Total Liabilities
    3,238,126       2,987,475  
                 
COMMITMENTS AND CONTINGENCIES (Notes 18 and 19) 
               
SHAREHOLDERS’ EQUITY:
               
Common Stock, $.001 Par Value; Authorized 200,000,000 Shares; Issued 50,239,613 Shares (49,076,613 Shares Outstanding) and 49,821,798 Shares (48,658,798 Shares Outstanding) at December 31, 2006 and 2005, Respectively
    50       50  
Additional Paid-In Capital
    344,810       339,991  
Unearned Compensation
          (1,150 )
Accumulated Other Comprehensive Loss — Unrealized Loss on Securities Available for Sale, Interest-Only Strips and Interest Rate Swaps, Net of Income Taxes of ($1,450) and ($1,671) at December 31, 2006 and 2005, Respectively
    (3,200 )     (4,383 )
Retained Earnings
    165,498       112,310  
                 
      507,158       446,818  
Less Treasury Stock, at Cost; 1,163,000 Shares at December 31, 2006 and 2005
    (20,041 )     (20,041 )
                 
Total Shareholders’ Equity
    487,117       426,777  
                 
TOTAL LIABILITIES AND SHAREHOLDERS’ EQUITY
  $ 3,725,243     $ 3,414,252  
                 
 
See Accompanying Notes to Consolidated Financial Statements.


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HANMI FINANCIAL CORPORATION AND SUBSIDIARY
 
CONSOLIDATED STATEMENTS OF INCOME
 
                         
    Year Ended December 31,  
    2006     2005     2004  
    (Dollars in thousands, Except Per Share Data)  
 
INTEREST INCOME:
                       
Interest and Fees on Loans
  $ 239,075     $ 180,845     $ 117,999  
Interest on Investments
    19,710       18,507       17,372  
Interest on Federal Funds Sold
    1,402       1,589       183  
Interest on Term Federal Funds Sold
    2              
                         
Total Interest Income
    260,189       200,941       135,554  
                         
INTEREST EXPENSE:
                       
Interest on Deposits
    93,036       54,192       26,268  
Interest on FHLB Advances and Other Borrowings
    6,977       3,017       3,305  
Interest on Junior Subordinated Debentures
    6,416       4,902       3,044  
                         
Total Interest Expense
    106,429       62,111       32,617  
                         
NET INTEREST INCOME BEFORE PROVISION FOR CREDIT LOSSES
    153,760       138,830       102,937  
Provision for Credit Losses
    7,173       5,395       2,907  
                         
NET INTEREST INCOME AFTER PROVISION FOR CREDIT LOSSES
    146,587       133,435       100,030  
                         
NON-INTEREST INCOME:
                       
Service Charges on Deposit Accounts
    17,134       15,782       14,441  
Trade Finance Fees
    4,567       4,269       4,044  
Remittance Fees
    2,056       2,122       1,653  
Other Service Charges and Fees
    2,359       2,496       1,486  
Bank-Owned Life Insurance Income
    879       845       731  
Increase in Fair Value of Derivatives
    1,074       1,105       232  
Other Income
    616       625       493  
Gain on Sales of Loans
    6,917       3,021       2,997  
Gain on Sales of Securities Available for Sale
    2       117       134  
                         
Total Non-Interest Income
    35,604       30,382       26,211  
                         
NON-INTEREST EXPENSES:
                       
Salaries and Employee Benefits
    40,512       36,839       33,540  
Occupancy and Equipment
    10,130       8,978       8,098  
Data Processing
    4,939       4,844       4,540  
Advertising and Promotion
    2,997       2,913       3,001  
Supplies and Communications
    2,391       2,556       2,433  
Professional Fees
    1,910       2,201       2,068  
Amortization of Core Deposit Intangible
    2,379       2,785       1,872  
Decrease in Fair Value of Embedded Options
    582       748        
Other Operating Expenses
    10,114       7,778       8,961  
Merger-Related Expenses
          (509 )     2,053  
                         
Total Non-Interest Expenses
    75,954       69,133       66,566  
                         
INCOME BEFORE PROVISION FOR INCOME TAXES
    106,237       94,684       59,675  
Provision for Income Taxes
    40,588       36,455       22,975  
                         
NET INCOME
  $ 65,649     $ 58,229     $ 36,700  
                         
EARNINGS PER SHARE:
                       
Basic
  $ 1.34     $ 1.18     $ 0.87  
Diluted
  $ 1.33     $ 1.17     $ 0.84  
WEIGHTED-AVERAGE SHARES OUTSTANDING:
                       
Basic
    48,850,221       49,174,885       42,268,964  
Diluted
    49,435,128       49,942,356       43,517,257  
DIVIDENDS DECLARED PER SHARE
  $ 0.24     $ 0.20     $ 0.20  
 
See Accompanying Notes to Consolidated Financial Statements.


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HANMI FINANCIAL CORPORATION AND SUBSIDIARY
 
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY AND COMPREHENSIVE INCOME
 
                                                                                 
                      Shareholders’ Equity  
    Common Stock — Number of Shares                       Accumulated
                   
    Gross
          Net
                      Other
                   
    Shares
          Shares
          Additional
          Comprehensive
          Treasury
    Total
 
    Issued and
    Treasury
    Issued and
    Common
    Paid-in
    Unearned
    Income
    Retained
    Stock,
    Shareholders’
 
    Outstanding     Shares     Outstanding     Stock     Capital     Compensation     (Loss)     Earnings     at Cost     Equity  
    (Dollars in thousands)  
 
BALANCE — JANUARY 1, 2004
    28,326,820             28,326,820     $ 28     $ 103,068     $  —     $ 386     $ 35,985     $  —     $ 139,467  
Exercises of Stock Options and Stock Warrants
    690,576             690,576       1       3,424                               3,425  
Stock Issued Through Private Placement
    7,894,654             7,894,654       8       71,702                               71,710  
Stock Issued in PUB Acquisition
    12,418,654             12,418,654       12       156,738                               156,750  
Cash Dividends
                                              (8,791 )           (8,791 )
Comprehensive Income:
                                                                               
Net Income
                                              36,700             36,700  
Change in Unrealized Gain on Securities Available for Sale, Interest-Only Strips and Interest Rate Swaps, Net of Tax
                                        649                   649  
                                                                                 
Total Comprehensive Income
                                                                            37,349  
                                                                                 
BALANCE — DECEMBER 31, 2004
    49,330,704             49,330,704       49       334,932        —       1,035       63,894        —       399,910  
Exercises of Stock Options
    391,094             391,094       1       2,515                               2,516  
Restricted Stock Award
    100,000             100,000             1,815       (1,815 )                        
Amortization of Unearned Compensation
                                  665                         665  
Tax Benefit from Exercise of Stock Options
                            729                               729  
Stock Repurchase
          (1,163,000 )     (1,163,000 )                                   (20,041 )     (20,041 )
Cash Dividends
                                              (9,813 )           (9,813 )
Comprehensive Income:
                                                                               
Net Income
                                              58,229             58,229  
Change in Unrealized Gain on Securities Available for Sale, Interest-Only Strips and Interest Rate Swaps, Net of Tax
                                        (5,418 )                 (5,418 )
                                                                                 
Total Comprehensive Income
                                                                            52,811  
                                                                                 
BALANCE — DECEMBER 31, 2005
    49,821,798       (1,163,000 )     48,658,798       50       339,991       (1,150 )     (4,383 )     112,310       (20,041 )     426,777  
Cumulative Adjustment — Tax Credit Funds
                                              (656 )           (656 )
Cumulative Adjustment — Share-Based Compensation
                            (916 )     1,150                         234  
Exercises of Stock Options and Stock Warrants
    417,815             417,815             3,553                               3,553  
Share-Based Compensation Expense
                            1,521                               1,521  
Tax Benefit from Exercise of Stock Options
                            661                               661  
Cash Dividends
                                              (11,805 )           (11,805 )
Comprehensive Income:
                                                                               
Net Income
                                              65,649             65,649  
Change in Unrealized Gain on Securities Available for Sale, Interest-Only Strips and Interest Rate Swaps, Net of Tax
                                        1,183                   1,183  
                                                                                 
Total Comprehensive Income
                                                                            66,832  
                                                                                 
BALANCE — DECEMBER 31, 2006
    50,239,613       (1,163,000 )     49,076,613     $ 50     $ 344,810     $  —     $ (3,200 )   $ 165,498     $ (20,041 )   $ 487,117  
                                                                                 
 
See Accompanying Notes to Consolidated Financial Statements.


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HANMI FINANCIAL CORPORATION AND SUBSIDIARY
 
CONSOLIDATED STATEMENTS OF CASH FLOWS
 
                         
    Year Ended December 31,  
    2006     2005     2004  
    (In thousands)  
 
CASH FLOWS FROM OPERATING ACTIVITIES:
                       
Net Income
  $ 65,649     $ 58,229     $ 36,700  
Adjustments to Reconcile Net Income to Net Cash Provided By Operating Activities:
                       
Depreciation and Amortization of Premises and Equipment
    2,924       2,704       2,447  
Amortization of Premiums and Accretion of Discounts on Investments, Net
    264       565       3,246  
Amortization of Core Deposit Intangible
    2,379       2,785       1,872  
Share-Based Compensation Expense
    1,521       665        
Provision for Credit Losses
    7,173       5,395       2,907  
Federal Reserve Bank and Federal Home Loan Bank Stock Dividends
    (641 )     (362 )     (497 )
Gain on Sales of Securities Available for Sale
    (2 )     (117 )     (134 )
Increase in Fair Value of Derivatives
    (1,074 )     (1,105 )     (232 )
Decrease in Fair Value of Embedded Options
    582       748        
Gain on Sales of Loans
    (6,917 )     (3,021 )     (2,997 )
Loss on Sales of Premises and Equipment
    22       34       15  
Excess Tax Benefit from Exercises of Stock Options
    (598 )     729        
Deferred Tax (Benefit) Expense
    (2,942 )     (2,707 )     694  
Origination of Loans Held for Sale
    (154,608 )     (61,709 )     (53,855 )
Proceeds from Sales of Loans Held for Sale
    138,720       67,515       54,311  
(Increase) Decrease in Accrued Interest Receivable
    (2,799 )     (4,091 )     155  
Increase in Servicing Asset
    (669 )     (64 )     (1,482 )
Increase in Cash Surrender Value of Bank-Owned Life Insurance
    (879 )     (845 )     (731 )
(Increase) Decrease in Other Assets
    (11,424 )     (2,015 )     2,399  
Increase (Decrease) in Accrued Interest Payable
    10,671       4,811       (444 )
Increase (Decrease) in Other Liabilities
    (1,298 )     188       (11,285 )
Other, Net
    2,855       612       4,645  
                         
Net Cash Provided By Operating Activities
    48,909       68,944       37,734  
                         
CASH FLOWS FROM INVESTING ACTIVITIES:                        
Proceeds from Redemption of Federal Reserve Bank Stock
    617              
Proceeds from Sales of Federal Home Loan Bank Stock
                5,031  
Proceeds from Matured or Called Securities Available for Sale
    56,729       89,885       120,389  
Proceeds from Matured or Called Securities Held to Maturity
                239  
Proceeds from Sales of Securities Available for Sale
    5,005       11,360       53,063  
Net Increase in Loans Receivable
    (352,678 )     (242,088 )     (120,651 )
Purchase of Term Federal Funds Sold
    (5,000 )            
Purchases of Federal Reserve Bank and Federal Home Loan Bank Stock
    (311 )     (2,264 )     (9,884 )
Purchases of Securities Available for Sale
    (9,663 )     (132,700 )     (22,384 )
Purchases of Bank-Owned Life Insurance
                (10,000 )
Purchases of Premises and Equipment
    (2,237 )     (3,831 )     (2,049 )
Acquisition of Pacific Union Bank, Net of Cash Acquired
                (63,498 )
                         
Net Cash Used In Investing Activities
    (307,538 )     (279,638 )     (49,744 )
                         
CASH FLOWS FROM FINANCING ACTIVITIES:
                       
Increase in Deposits
    118,601       297,307       146,273  
Issuance of Junior Subordinated Debentures
                82,406  
Proceeds from Exercises of Stock Options and Stock Warrants
    3,553       2,516       3,425  
Excess Tax Benefit from Exercises of Stock Options
    598              
Stock Issued Through Private Placement
                71,710  
Cash Dividends Paid
    (11,805 )     (9,813 )     (7,740 )
Cash Paid to Acquire Treasury Stock
          (20,041 )      
Proceeds from Long-Term FHLB Advances and Other Borrowings
    130,000       7,411       66,363  
Repayment of Long-Term FHLB Advances and Other Borrowings
    (5,420 )     (30,246 )     (148,400 )
Net Change in Short-Term FHLB Advances and Other Borrowings
    (1,874 )     (127 )     (137,458 )
                         
Net Cash Provided By Financing Activities
    233,653       247,007       76,579  
                         
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS
    (24,976 )     36,313       64,569  
Cash and Cash Equivalents — Beginning of Year
    163,477       127,164       62,595  
                         
CASH AND CASH EQUIVALENTS — END OF YEAR
  $ 138,501     $ 163,477     $ 127,164  
                         
Supplemental Disclosures of Cash Flow Information:
                       
Interest Paid
  $ 117,100     $ 41,266     $ 29,920  
Income Taxes Paid
  $ 45,869     $ 37,650     $ 25,400  
Supplemental Schedule of Non-Cash Investing and Financing Activities:
                       
Transfer of Loans to Other Real Estate Owned
  $ 541     $     $  
Accrued Dividend
  $ 2,941     $ 2,433     $ 2,467  
Reconciliation of Acquisition of Pacific Union Bank, Net of Cash Acquired:
                       
Fair Value of Assets Acquired
                  $ 1,383,782  
Cash and Cash Equivalents Acquired
                    (104,383 )
Non-Cash Financing of Purchase Price and Liabilities Assumed:
                       
Issuance of Common Stock
                    (156,750 )
Liabilities Assumed
                    (1,059,151 )
                         
Acquisition of Pacific Union Bank, Net of Cash Acquired
                  $ 63,498  
                         
 
See Accompanying Notes to Consolidated Financial Statements.


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HANMI FINANCIAL CORPORATION AND SUBSIDIARY
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005 AND 2004
 
 
NOTE 1 — SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
 
The accounting and reporting policies of Hanmi Financial Corporation and subsidiary conform to accounting principles generally accepted in the United States of America. A summary of the significant accounting policies consistently applied in the preparation of the accompanying consolidated financial statements follows.
 
Principles of Consolidation
 
The consolidated financial statements include the accounts of Hanmi Financial Corporation (“Hanmi Financial,” “we” or “us”) and our wholly owned subsidiary, Hanmi Bank (the “Bank”), after elimination of all material intercompany transactions and balances.
 
Hanmi Financial was formed as a holding company of the Bank and registered with the Securities and Exchange Commission under the Securities Act of 1933 on March 17, 2001. Subsequent to its formation, each of the Bank’s shares was exchanged for one share of Hanmi Financial with an equal value.
 
Our primary operations are related to traditional banking activities, including the acceptance of deposits and the lending and investing of money through operation of the Bank. The Bank is a community bank conducting general business banking with its primary market encompassing the multi-ethnic population of Los Angeles, Orange, San Diego, San Francisco and Santa Clara counties. The Bank’s full-service offices are located in business areas where many of the businesses are run by immigrants and other minority groups. The Bank’s client base reflects the multi-ethnic composition of these communities. The Bank is a California state-chartered, FDIC-insured financial institution.
 
On April 30, 2004, we completed our acquisition of Pacific Union Bank (“PUB”), a $1.2 billion (assets) commercial bank headquartered in Los Angeles that also served primarily the Korean-American community. As of December 31, 2006, the Bank maintained a branch network of 22 locations, serving individuals and small- to medium-sized businesses in Los Angeles and surrounding areas.
 
Cash and Cash Equivalents
 
Cash and cash equivalents include cash and due from banks, overnight Federal funds sold and securities purchased under resale agreements, all of which have original or purchased maturities of less than 90 days.
 
Federal Reserve Bank Stock
 
As a member of the Federal Reserve Bank of San Francisco (“FRB”), the Bank is required to maintain stock in the FRB based on a specified ratio relative to our capital. FRB stock is carried at cost and may be sold back to the FRB at its carrying value. Both cash and stock dividends received are reported as dividend income.
 
Federal Home Loan Bank Stock
 
As a member of the Federal Home Loan Bank of San Francisco (“FHLB”), the Bank is required to own common stock in the FHLB based upon our balance of residential mortgage loans and outstanding FHLB advances. FHLB stock is carried at cost and may be sold back to the FHLB at its carrying value. Both cash and stock dividends received are reported as dividend income.


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HANMI FINANCIAL CORPORATION AND SUBSIDIARY
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005 AND 2004 — (Continued)
 

 
Securities
 
Securities are classified into three categories and accounted for as follows:
 
1. Securities that we have the positive intent and ability to hold to maturity are classified as “held-to-maturity” and reported at amortized cost;
 
2. Securities that are bought and held principally for the purpose of selling them in the near future are classified as “trading securities” and reported at fair value. Unrealized gains and losses are recognized in earnings; and
 
3. Securities not classified as held-to-maturity or trading securities are classified as “available for sale” and reported at fair value. Unrealized gains and losses are reported as a separate component of shareholders’ equity as Accumulated Other Comprehensive Income, Net of Income Taxes.
 
Accreted discounts and amortized premiums on investment securities are included in interest income using the effective interest method over the remaining period to the call date or contractual maturity and, in the case of mortgage-backed securities and securities with call features, adjusted for anticipated prepayments. Unrealized and realized gains or losses related to holding or selling of securities are calculated using the specific-identification method.
 
We assess, at each reporting date, whether there is an “other-than-temporary” impairment to our investment securities. We examine all individual securities that are in an unrealized loss position at each reporting date for “other-than-temporary” impairment. Specific investment level factors we examine to assess impairment include the severity and duration of the loss, an analysis of the issuers of the securities and if there has been any cause for default on the securities and any change in the rating of the securities by the various rating agencies. Additionally, we reexamine the financial resources and overall ability the Bank has and the intent management has to hold the securities until their fair values recover. To the extent there is an impairment of value deemed “other than temporary” for a security held to maturity or available for sale, a loss is recognized in earnings and a new cost basis established for the security.
 
We also have a minority investment of 4.99 percent in a non-publicly traded company, Pacific International Bank. The investment is included in Other Assets on the Consolidated Statements of Financial Condition and is carried at cost. As of December 31, 2006 and 2005, its carrying value was $511,000. We monitor the investment for impairment and make appropriate reductions in carrying value when necessary.
 
Derivative Instruments
 
We account for derivatives in accordance with the provisions of Statement of Financial Accounting Standards (“SFAS”) No. 133, “Accounting for Derivative Instruments and Hedging Activities, as amended.” Under SFAS No. 133, all derivatives are recognized on the balance sheet at their fair values. On the date the derivative contract is entered into, we designate the derivative as a fair value hedge or a cash flow hedge. Fair value hedges include hedges of the fair value of a recognized asset, liability or a firm commitment. Cash flow hedges include hedges of the variability of cash flows to be received or paid related to a recognized asset, liability or a forecasted transaction. Changes in the fair value of derivatives designated as fair value hedges, along with the change in fair value on the hedged asset, liability or firm commitment that is attributable to the hedged risk, are recorded in current period earnings. Changes in the fair value of derivatives designated as cash flow hedges, to the extent effective as a hedge, are recorded in Accumulated Other Comprehensive Income and reclassified into earnings in the period during which the hedged item affects earnings.
 
We formally document all relationships between hedging instruments and hedged items. This documentation includes our risk management objective and strategy for undertaking various hedge transactions, as well as how


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HANMI FINANCIAL CORPORATION AND SUBSIDIARY
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005 AND 2004 — (Continued)
 

hedge effectiveness and ineffectiveness will be measured. This process includes linking derivatives to specific assets and liabilities on the balance sheet. We also formally assess, both at the hedge’s inception and on an ongoing basis, whether the derivatives that are used in hedging transactions are highly effective in offsetting changes in fair values or cash flows of hedged items. When it is determined that a derivative is not highly effective as a hedge or that it has ceased to be a highly effective hedge, we discontinue hedge accounting prospectively.
 
When hedge accounting is discontinued because it is determined that the derivative no longer qualifies as an effective hedge, the derivative will continue to be carried on the balance sheet at its fair value, with changes in its fair value recognized in current period earnings. For fair value hedges, the formerly hedged asset or liability will no longer be adjusted for changes in fair value and any previously recorded adjustments to the carrying value of the hedged asset or liability will be amortized in the same manner that the hedged item affects income. For cash flow hedges, amounts previously recorded in Accumulated Other Comprehensive Income will be reclassified into income as earnings are impacted by the variability in the cash flows of the hedged item.
 
If the hedging instrument is terminated early, the derivative is removed from the balance sheet. Accounting for the adjustments to the hedged asset or liability or adjustments to Accumulated Other Comprehensive Income are the same as described above when a derivative no longer qualifies as an effective hedge.
 
If the hedged asset or liability is sold or extinguished, the derivative will continue to be carried on the balance sheet at its fair value, with changes in its fair value recognized in current period earnings. The hedged item, including previously recorded mark-to-market adjustments, is derecognized immediately as a component of the gain or loss upon disposition.
 
Loans
 
We originate loans for investment, with such designation made at the time of origination. Loans are recorded at the contractual amounts due from borrowers, adjusted for undisbursed funds, net deferred loan fees and origination costs, and the allowance for loan losses.
 
Certain Small Business Administration (“SBA”) loans that may be sold prior to maturity have been designated as held for sale at origination and are recorded at the lower of cost or fair value, determined on an aggregate basis. A valuation allowance is established if the market value of such loans is lower than their cost, and operations are charged or credited for valuation adjustments. Upon sales of such loans, we receive a fee for servicing the loans. The servicing asset is recorded based on the present value of the contractually specified servicing fee, net of adequate compensation, for the estimated life of the loan, discounted by a rate in the range of 11 percent to 12 percent and a constant prepayment rate ranging from 6 percent to 16 percent. The servicing asset is amortized in proportion to and over the period of estimated servicing income. Management periodically evaluates the servicing asset for impairment. Impairment, if it occurs, is recognized in a valuation allowance in the period of impairment.
 
Interest-only strips are recorded based on the present value of the excess of total servicing fee over the contractually specified servicing fee for the estimated life of the loan, calculated using the same assumptions as noted above. Such interest-only strips are accounted for at their estimated fair value, with unrealized gains or losses recorded as adjustments to Other Comprehensive Income.
 
Servicing Assets
 
Servicing assets are recorded at the lower of amortized cost or fair value in accordance with the provisions of SFAS No. 140, “Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities.” The fair values of servicing assets represent either the price paid if purchased, or the allocated carrying amounts based on relative values when retained in a sale. Servicing assets are amortized in proportion to, and over the period


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HANMI FINANCIAL CORPORATION AND SUBSIDIARY
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005 AND 2004 — (Continued)
 

of, estimated net servicing income. The fair value of servicing assets is determined based on the present value of estimated net future cash flows related to contractually specified servicing fees.
 
Loans Held for Sale
 
Loans originated and intended for sale in the secondary market are carried at the lower of cost or market value in the aggregate. Net unrealized losses, if any, are recognized through a valuation allowance by charges to income.
 
Loan Interest Income and Fees
 
Interest on loans is credited to income as earned and is accrued only if deemed collectible. Direct loan origination costs are offset by loan origination fees with the net amount deferred and recognized over the contractual lives of the loans in interest income as a yield adjustment using the effective interest method. Discounts or premiums associated with purchased loans are accreted or amortized to interest income using the interest method over the contractual lives of the loans, adjusted for prepayments. Accretion of discounts and deferred loan fees is discontinued when loans are placed on non-accrual status.
 
Loans are placed on non-accrual status when, in the opinion of management, the full timely collection of principal or interest is in doubt. Generally, the accrual of interest is discontinued when principal or interest payments become more than 90 days past due. However, in certain instances, we may place a particular loan on non-accrual status earlier, depending upon the individual circumstances surrounding the loan’s delinquency. When an asset is placed on non-accrual status, previously accrued but unpaid interest is reversed against current income. Subsequent collections of cash are applied as principal reductions when received, except when the ultimate collectibility of principal is probable, in which case interest payments are credited to income. Non-accrual assets may be restored to accrual status when principal and interest become current and full repayment is expected. Interest income is recognized on the accrual basis for impaired loans not meeting the criteria for non-accrual.
 
Allowance for Loan Losses
 
Management believes the allowance for loan losses is adequate to provide for probable losses inherent in the loan portfolio. However, the allowance is an estimate that is inherently uncertain and depends on the outcome of future events. Management’s estimates are based on previous loan loss experience; volume, growth and composition of the loan portfolio; the value of collateral; and current economic conditions. Our lending is concentrated in commercial, consumer, construction and real estate loans in the greater Los Angeles/Orange County area. Although management believes the level of the allowance is adequate to absorb probable losses inherent in the loan portfolio, a decline in the local economy may result in increasing losses that cannot reasonably be predicted at this date.
 
Non-performing loans are those that are not earning income, and (1) full payment of principal and interest is no longer anticipated, (2) principal or interest is 90 days or more delinquent, or (3) the loan payment or term has been restructured in accordance with troubled debt restructure procedures. The Bank generally places loans on non-accrual status when interest or principal payments become 90 days or more past due unless the outstanding principal and interest is adequately secured and, in the opinion of management, is deemed to be in the process of collection. When loans are placed on non-accrual status, accrued but unpaid interest is reversed against the current year’s income, and interest income on non-accrual loans is recorded on a cash basis. The Bank may treat payments as interest income or return of principal depending upon management’s opinion of the ultimate risk of loss on the individual loan. Cash payments are treated as interest income where management believes the remaining principal balance is fully collectible. Additionally, the Bank may place loans that are not 90 days past due on non-accrual status, if management reasonably believes the borrower will not be able to comply with the contractual loan repayment terms and collection of principal or interest is in question.


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HANMI FINANCIAL CORPORATION AND SUBSIDIARY
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005 AND 2004 — (Continued)
 

 
Loan losses are charged, and recoveries are credited, to the allowance account. Additions to the allowance account are charged to the provision for credit losses. The allowance for loan losses is maintained at a level considered adequate by management to absorb probable losses in the loan portfolio. The adequacy of the allowance is determined by management based upon an evaluation and review of the loan portfolio, consideration of historical loan loss experience, current economic conditions, changes in the composition of the loan portfolio, analysis of collateral values and other pertinent factors.
 
Loans are measured for impairment when it is probable that all amounts, including principal and interest, will not be collected in accordance with the contractual terms of the loan agreement. The amount of impairment and any subsequent changes are recorded through the provision for credit losses as an adjustment to the allowance for loan losses. Accounting standards require that an impaired loan be measured based on:
 
1. the present value of the expected future cash flows, discounted at the loan’s effective interest rate; or
 
2. the loan’s observable fair value; or
 
3. the fair value of the collateral, if the loan is collateral-dependent.
 
We evaluate installment loans for impairment on a pooled basis. These loans are considered to be smaller balance, homogeneous loans and are evaluated on a portfolio basis considering the projected net realizable value of the portfolio compared to the net carrying value of the portfolio.
 
Hanmi Bank follows the “Interagency Policy Statement on the Allowance for Loan and Lease Losses” and analyzes the allowance for loan losses on a quarterly basis. In addition, as an integral part of the quarterly credit review process of the Bank, the allowance for loan losses and allowance for off-balance sheet items are reviewed for adequacy. The California Department of Financial Institutions (“DFI”) and/or the Board of Governors of the Federal Reserve System require the Bank to recognize additions to the allowance for loan losses based upon their assessment of the information available to them at the time of their examinations.
 
Premises and Equipment
 
Premises and equipment are stated at cost, less accumulated depreciation and amortization. Depreciation on furniture, fixtures and equipment is computed on the straight-line method over the estimated useful lives of the various classes of assets. The ranges of useful lives for the principal classes of assets are as follows:
 
     
Buildings and Improvements
  10 to 30 Years
Furniture and Equipment
  Two to Seven Years
Leasehold Improvements
  Term of Lease or Useful Life, Whichever is Shorter
Software
  Three Years
 
Impairment of Long-Lived Assets
 
We account for long-lived assets in accordance with the provisions of SFAS No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets.” This Statement requires that long-lived assets and certain identifiable intangibles be reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. Recoverability of assets to be held and used is measured by a comparison of the carrying amount of an asset to future net undiscounted cash flows expected to be generated by the asset. If such assets are considered to be impaired, the impairment to be recognized is measured by the amount by which the carrying amount of the assets exceeds the fair value of the assets. Assets to be disposed of are reported at the lower of the carrying amount or fair value less costs to sell.


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HANMI FINANCIAL CORPORATION AND SUBSIDIARY
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005 AND 2004 — (Continued)
 

 
Goodwill
 
Goodwill, which represents the excess of purchase price over fair value of net assets acquired, amounted to $207.6 million and $209.1 million as of December 31, 2006 and 2005, respectively. We adopted SFAS No. 142, “Goodwill and Other Intangible Assets,” effective January 1, 2002. SFAS No. 142 requires that goodwill be recorded at the reporting unit level. Reporting units are defined as an operating segment. We have identified one reporting unit — our banking operations. SFAS No. 142 prohibits the amortization of goodwill, but requires that it be tested for impairment at least annually, or earlier if events have occurred that might indicate impairment. We ceased amortization of goodwill as of January 1, 2002. Our impairment test is performed in two phases. The first step involves comparing the fair value of the reporting unit with its carrying amount, including goodwill. Fair value of the reporting unit is estimated using two different valuation techniques: (a) discounted earnings cash flow and (b) average market price to earnings multiple using a management selected peer group. If the fair value of the reporting unit exceeds its fair value, an additional procedure must be performed. This additional procedure involves comparing the implied fair value of the reporting unit goodwill with the carrying amount of that goodwill. An impairment loss is recorded through earnings to the extent the carrying amount of goodwill exceeds its implied fair value. As of December 31, 2006 and 2005, management is unaware of any circumstances that would indicate a potential impairment of goodwill.
 
Core Deposit Intangible
 
We amortize the core deposit intangible (“CDI”) balance using an accelerated method over eight years. As required upon adoption of SFAS No. 142, we evaluated the useful lives assigned to the CDI assets and determined that no change was necessary and amortization expense was not adjusted for the year ended December 31, 2006. As required by SFAS No. 142, the CDI balance is assessed for impairment or recoverability whenever events or changes in circumstances indicate the carrying amount may not be recoverable. The CDI recoverability analysis is consistent with our policy for assessing impairment of long-lived assets. As of and for the year ended December 31, 2006 and 2005, management is not aware of any circumstances that would indicate impairment of the CDI asset, and no impairment charges were recorded through earnings in 2006.
 
As of December 31, 2006 and 2005, the gross carrying amount of the CDI balance totaled $13.8 million and the related accumulated amortization totaled $7.5 million and $5.1 million, respectively. The total amortization expense on the CDI balance was $2,379,000, $2,785,000 and $1,872,000 during the years ended December 31, 2006, 2005 and 2004, respectively. Estimated future amortization expense of the CDI balance is as follows: $2,039,000 in 2007; $1,675,000 in 2008; $1,284,000 in 2009; $865,000 in 2010; $416,000 in 2011; and $34,000 thereafter.
 
Junior Subordinated Debentures
 
We have established three statutory business trusts that are wholly-owned subsidiaries of Hanmi Financial. In three separate private placement transactions, the Trusts issued variable rate capital securities representing undivided preferred beneficial interests in the assets of the Trusts. Hanmi Financial is the owner of all the beneficial interests represented by the common securities of the Trusts.
 
FASB Interpretation No. 46R, “Consolidation of Variable Interest Entities (Revised December 2003) — an Interpretation of ARB No. 51,” requires that variable interest entities be consolidated by a company if that company is subject to a majority of expected loss from the variable interest entity’s activities or is entitled to receive a majority of the entity’s expected residual returns or both. Junior subordinated debt represents liabilities of the Hanmi Financial to the Trusts.


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HANMI FINANCIAL CORPORATION AND SUBSIDIARY
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005 AND 2004 — (Continued)
 

 
Income Taxes
 
We provide for income taxes using the asset and liability method. Under this method, deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between financial statement carrying amounts of existing assets and liabilities and their respective tax bases and operating loss and tax credit carryforwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. A valuation allowance is provided when it is more likely than not that some portion or all of the deferred tax assets will not be realized.
 
Share-Based Compensation
 
We adopted SFAS No. 123(R), “Share-Based Payment,” on January 1, 2006 using the “modified prospective” method. Under this method, awards that are granted, modified or settled after December 31, 2005 are measured and accounted for in accordance with SFAS No. 123(R). Also under this method, expense is recognized for services attributed to the current period for unvested awards that were granted prior to January 1, 2006, based upon the fair value determined at the grant date under SFAS No. 123, “Accounting for Stock-Based Compensation.” Prior to the adoption of SFAS No. 123(R), we accounted for stock compensation under the intrinsic value method permitted by Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to Employees,” and related interpretations. Accordingly, we previously recognized no compensation cost for employee stock options that were granted with an exercise price equal to the market value of the underlying common stock on the date of grant.
 
The following table illustrates the effect on net income and earnings per share if we had applied the fair value recognition provisions of SFAS No. 123 in 2005 and 2004:
 
                 
    Year Ended December 31,  
    2005     2004  
    (Dollars in thousands, Except Per Share Data)  
 
Net Income — As Reported
  $ 58,229     $ 36,700  
Add — Share-Based Employee Compensation Expense Included in Reported Net Income, Net of Related Tax Effects (Restricted Stock Award)
    409        
Deduct — Total Share-Based Employee Compensation Expense Determined Under Fair Value-Based Method for All Awards Subject to SFAS No. 123, Net of Related Tax Effects
    (1,214 )     (408 )
                 
Net Income — Pro Forma
  $ 57,424     $ 36,292  
                 
Earnings Per Share — As Reported:
               
Basic
  $ 1.18     $ 0.87  
Diluted
  $ 1.17     $ 0.84  
Earnings Per Share — Pro Forma:
               
Basic
  $ 1.17     $ 0.86  
Diluted
  $ 1.15     $ 0.83  
 
In November 2005, the Financial Accounting Standards Board (“FASB”) issued Staff Position No. FAS 123R-3, “Transition Election Related to Accounting for the Tax Effects of the Share-Based Payment Awards” (“FAS 123R-3”). We have adopted the alternative transition method prescribed by FAS 123R-3 and concluded that we have no pool of tax benefits as of the adoption date of SFAS No. 123(R).


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HANMI FINANCIAL CORPORATION AND SUBSIDIARY
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005 AND 2004 — (Continued)
 

 
SFAS No. 123(R) requires that cash flows resulting from the realization of excess tax benefits recognized on awards that were fully vested at the time of adoption of SFAS No. 123(R) be classified as a financing cash inflow and an operating cash outflow in the Consolidated Statements of Cash Flows. Before the adoption of SFAS No. 123(R), we presented all tax benefits realized from the exercise of stock options as an operating cash inflow.
 
In addition, SFAS No. 123(R) requires that any unearned compensation related to awards granted prior to the adoption of SFAS No. 123(R) be eliminated against the appropriate equity accounts. As a result, the presentation of Shareholders’ Equity was revised to reflect the transfer of the balance previously reported in Unearned Compensation to Additional Paid-In Capital.
 
Earnings Per Share
 
Basic earnings per share (“EPS”) is computed by dividing earnings available to common shareholders by the weighted-average number of common shares outstanding for the period. Diluted EPS reflects the potential dilution of securities that could share in the earnings.
 
Treasury Stock
 
We use the cost method of accounting for treasury stock. The cost method requires us to record the reacquisition cost of treasury stock as a deduction from shareholders’ equity on the Consolidated Statements of Financial Condition.
 
Use of Estimates in the Preparation of Financial Statements
 
The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.
 
Reclassifications
 
Certain reclassifications were made to the prior year’s presentation to conform to the current year’s presentation.
 
NOTE 2 — BUSINESS COMBINATION
 
On April 30, 2004, we completed our acquisition of PUB and merged PUB with Hanmi Bank. We paid $164.6 million in cash to acquire 5,537,431 of the PUB shares owned by Korea Exchange Bank. All of the remaining PUB shares were converted in the acquisition into shares of Hanmi Financial’s common stock based on an exchange ratio of 2.312 Hanmi Financial shares for each PUB share.
 
In addition, all outstanding PUB employee stock options were converted into 137,414 options to purchase Hanmi Financial stock valued at $1.1 million in total. Based on Hanmi Financial’s average price of $12.53 for the five-day trading period from April 28 through May 4, 2004, the total consideration paid for PUB was $324.6 million and resulted in the recognition of goodwill aggregating $207.2 million.


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HANMI FINANCIAL CORPORATION AND SUBSIDIARY
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005 AND 2004 — (Continued)
 

 
Purchase Price and Acquisition Costs  — The purchase price was as follows:
 
         
    (Dollars in Thousands;
 
    Except Share Prices)  
 
Common Stock:
       
Number of Shares of PUB Stock Outstanding as of April 30, 2004
    10,908,821  
Less Shares Acquired for Cash
    (5,537,431 )
         
Number of Shares of PUB Stock to be Exchange for Hanmi Stock
    5,371,390  
Exchange Ratio
    2.312  
         
Stock Issued in PUB Acquisition
    12,418,654  
Multiplied by Hanmi Financial’s Average Stock Price for the Period Two Days Before Through Two Days After the April 29, 2004 Pricing of the Merger Agreement
  $ 12.53  
         
    $ 155,606  
Stock Options:
       
Estimated Fair Value of 137,414 Hanmi Financial Stock Options to be Issued in Exchange for 59,443 PUB Outstanding Stock Options, Calculated Using the Black-Scholes Option Pricing Model, Modified for Dividends, With Model Assumptions Estimated as of April 30, 2004 and a Hanmi Financial Stock Price of $12.53, the Average Stock Price for the Period Two Days Before Through Two Days After the April 29, 2004 Pricing of the Merger Agreement
    1,063  
Cash
    164,562  
Transaction Costs:
       
Cash
    3,320  
Stock Warrants
    145  
         
Total Purchase Price
  $ 324,696  
         


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HANMI FINANCIAL CORPORATION AND SUBSIDIARY
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005 AND 2004 — (Continued)
 

The purchase price was allocated based on the fair values of the assets acquired and liabilities assumed:
 
         
    (In thousands)  
 
Book Value of Net Assets Acquired
  $ 110,683  
Adjustments:
       
Adjustment to Record Acquired Securities at Estimated Fair Value
    (1,489 )
Adjustment to Record Acquired Loans at Estimated Fair Value
    376  
Adjustment to Record Acquired Fixed Assets at Estimated Fair Value
    5,459  
Adjustment to Record Core Deposit Intangible Asset
    13,137  
Adjustment to Record Various Other Assets at Estimated Fair Value
    15  
Adjustment to Record Interest-Bearing Deposits at Fair Value
    (264 )
Adjustment to Record Other Borrowings at Fair Value
    (789 )
Adjustment to Record Severance Benefits Associated with the Elimination of Positions, Termination of Certain Contractual Obligations of PUB and Other Miscellaneous Adjustments
    (1,711 )
Adjustment to Record Deferred Tax Liability
    (7,948 )
Adjustment to Record Goodwill Associated with the Acquisition of PUB
    207,227  
         
Total Purchase Price
  $ 324,696  
         
 
As of December 31, 2006, the carrying amount of goodwill from the PUB acquisition was $205.8 million compared to $207.2 million at December 31, 2005, a decrease of $1.5 million. The decrease was due to a tax refund related to the acquisition of PUB.


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HANMI FINANCIAL CORPORATION AND SUBSIDIARY
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005 AND 2004 — (Continued)
 

 
The fair value of PUB net assets acquired was as follows:
 
         
    (In thousands)  
 
Assets:
       
Cash and Due From Banks
  $ 27,483  
Federal Fund Sold
    76,900  
Federal Home Loan Bank Stock
    6,256  
Securities Available for Sale
    157,905  
Loans Receivable, Net of Allowance for Loan Losses
    865,743  
Premises and Equipment
    11,668  
Accrued Interest Receivable
    3,498  
Goodwill
    205,815  
Core Deposit Intangible
    13,137  
Other Assets
    12,888  
         
Total Assets
  $ 1,381,293  
         
         
Liabilities:
       
Deposits
  $ 936,699  
Borrowings
    105,789  
Other Liabilities
    14,109  
         
Total Liabilities
  $ 1,056,597  
         
Net Assets Acquired
  $ 324,696  
         
 
The core deposit intangible is being amortized using an accelerated method over eight years. None of the goodwill balance is expected to be deductible for income tax purposes.
 
Merger-related costs recognized as expenses during 2004 consisted of employee retention bonuses, the costs of vacating duplicative branches within the existing network and the impairment of fixed assets (primarily leasehold improvements) associated with such branches. Of the $2,053,000 provided in 2004, $767,000 and $777,000 was utilized and charged against the related liability in 2005 and 2004, respectively. The remaining balance of $509,000 was reversed in 2005.
 
Certain costs (primarily PUB employee severance, data processing contract termination costs, and the costs of vacating duplicative branches within PUB’s network) were recognized as liabilities assumed in the business combination or impairments of fixed assets associated with such branches. Accordingly, they have been considered part of the purchase price of PUB and recorded as an increase in the balance of goodwill. Of the $4,515,000 provided, $95,000, $834,000 and $2,444,000 was utilized and charged against the related liability in 2006, 2005 and 2004, respectively, and $1,142,000 was reversed in 2005.


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HANMI FINANCIAL CORPORATION AND SUBSIDIARY
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005 AND 2004 — (Continued)
 

 
We incurred the following merger-related costs for the years ended December 31, 2005 and 2004:
 
                 
          Included in
 
    Expensed
    Cost of
 
    (Credited)     Acquisition  
    (In thousands)  
 
Merger-Related Costs — 2005:
               
Reversal of Merger-Related Costs
  $ (509 )   $ (1,142 )
                 
Total Merger-Related Costs — 2005
  $ (509 )   $ (1,142 )
                 
Merger-Related Costs — 2004:
               
Employee Termination Costs
  $ 1,364     $ 1,425  
Contract Termination Costs
          1,828  
Leasehold Termination Costs
    348       1,262  
Asset Impairments
    341        
                 
Total Merger-Related Costs — 2004
  $ 2,053     $ 4,515  
                 
 
NOTE 3 — SECURITIES PURCHASED UNDER AGREEMENTS TO RESELL
 
We purchase government agency securities and/or whole loans under agreements to resell the same securities (reverse repurchase agreements) with primary dealers. Amounts advanced under these agreements represent cash and cash equivalents. Securities subject to the reverse repurchase agreements are held in the name of Hanmi Financial by dealers who arrange the transactions. In the event that the fair value of the securities decreases below the carrying amount of the related reverse repurchase agreement, the counterparties are required to designate an equivalent value of additional securities in the name of Hanmi Financial.
 
The following is a summary of the securities purchased under agreements to resell:
 
                 
    December 31,  
    2006     2005  
    (Dollars in thousands)  
 
Balance at Year-End
  $     $ 20,000  
Average Balance Outstanding During the Year
  $ 6,164     $ 13,137  
Maximum Amount Outstanding at Any Month-End During the Year
  $ 30,000     $ 25,000  
Weighted-Average Interest Rate During the Year
    5.09 %     3.38 %


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HANMI FINANCIAL CORPORATION AND SUBSIDIARY
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005 AND 2004 — (Continued)
 

NOTE 4 — SECURITIES
 
The following is a summary of securities held to maturity:
 
                                 
          Gross
    Gross
    Estimated
 
    Amortized
    Unrealized
    Unrealized
    Fair
 
    Cost     Gain     Loss     Value  
    (In thousands)  
 
December 31, 2006:
                               
Municipal Bonds
  $ 693     $     $     $ 693  
Mortgage-Backed Securities
    274       2             276  
                                 
    $ 967     $ 2     $  —     $ 969  
                                 
December 31, 2005:
                               
Municipal Bonds
  $ 692     $     $     $ 692  
Mortgage-Backed Securities
    357       2             359  
                                 
    $ 1,049     $ 2     $  —     $ 1,051  
                                 
 
The following is a summary of securities available for sale:
 
                                 
          Gross
    Gross
    Estimated
 
    Amortized
    Unrealized
    Unrealized
    Fair
 
    Cost     Gain     Loss     Value  
    (In thousands)  
 
December 31, 2006:
                               
Mortgage-Backed Securities
  $ 123,614     $ 179     $ 2,185     $ 121,608  
U.S. Government Agency Securities
    119,768             1,524       118,244  
Municipal Bonds
    69,966       1,795       51       71,710  
Collateralized Mortgage Obligations
    67,605             1,492       66,113  
Corporate Bonds
    8,090             203       7,887  
Other
    4,999       172       121       5,050  
                                 
    $ 394,042     $ 2,146     $ 5,576     $ 390,612  
                                 
December 31, 2005:
                               
Mortgage-Backed Securities
  $ 149,311     $ 144     $ 2,187     $ 147,268  
U.S. Government Agency Securities
    129,589             1,776       127,813  
Municipal Bonds
    71,536       1,758       74       73,220  
Collateralized Mortgage Obligations
    83,068       3       1,615       81,456  
Corporate Bonds
    8,235             182       8,053  
Other
    4,999       156       102       5,053  
                                 
    $ 446,738     $ 2,061     $ 5,936     $ 442,863  
                                 


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HANMI FINANCIAL CORPORATION AND SUBSIDIARY
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005 AND 2004 — (Continued)
 

The amortized cost and estimated fair value of investment securities at December 31, 2006, by contractual maturity, are shown below. Although mortgage-backed securities and collateralized mortgage obligations have contractual maturities through 2036, expected maturities may differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties.
 
                                 
    Available for Sale     Held to Maturity  
    Amortized
    Estimated
    Amortized
    Estimated
 
    Cost     Fair Value     Cost     Fair Value  
    (In thousands)  
 
Within One Year
  $ 44,942     $ 44,649     $     $  
Over One Year Through Five Years
    90,049       88,656              
Over Five Years Through Ten Years
    7,834       7,976       693       693  
Over Ten Years
    59,998       61,610              
                                 
      202,823       202,891       693       693  
                                 
Mortgage-Backed Securities
    123,614       121,608       274       276  
Collateralized Mortgage Obligations
    67,605       66,113              
                                 
      191,219       187,721       274       276  
                                 
    $ 394,042     $ 390,612     $ 967     $ 969  
                                 
 
Gross unrealized losses on investment securities and the fair value of the related securities, aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position, were as follows as of December 31, 2006 and 2005:
 
                                                 
    Holding Period  
    Less than 12 Months     12 Months or More     Total  
    Unrealized
    Estimated
    Unrealized
    Estimated
    Unrealized
    Estimated
 
    Losses     Fair Value     Losses     Fair Value     Losses     Fair Value  
    (In thousands)  
 
Available for Sale — December 31, 2006:
                                               
Mortgage-Backed Securities
  $ 121     $ 19,442     $ 2,064     $ 87,966     $ 2,185     $ 107,408  
U.S. Government Agency Securities
    21       9,979       1,503       108,265       1,524       118,244  
Municipal Bonds
    3       961       48       4,290       51       5,251  
Collateralized Mortgage Obligations
    98       7,196       1,394       58,917       1,492       66,113  
Corporate Bonds
                203       7,887       203       7,887  
Other
                121       2,879       121       2,879  
                                                 
    $ 243     $ 37,578     $ 5,333     $ 270,204     $ 5,576     $ 307,782  
                                                 
Available for Sale — December 31, 2005:
                                               
Mortgage-Backed Securities
  $ 922     $ 78,891     $ 1,265     $ 40,364     $ 2,187     $ 119,255  
U.S. Government Agency Securities
    1,682       112,931       94       9,882       1,776       122,813  
Municipal Bonds
    31       4,126       43       2,353       74       6,479  
Collateralized Mortgage Obligations
    383       29,281       1,232       42,988       1,615       72,269  
Corporate Bonds
    106       5,102       76       2,951       182       8,053  
Other
    21       979       81       1,919       102       2,898  
                                                 
    $ 3,145     $ 231,310     $ 2,791     $ 100,457     $ 5,936     $ 331,767  
                                                 


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HANMI FINANCIAL CORPORATION AND SUBSIDIARY
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005 AND 2004 — (Continued)
 

All individual securities that have been in a continuous unrealized loss position for 12 months or longer at December 31, 2006 and 2005 had investment grade ratings upon purchase. The issuers of these securities have not, to our knowledge, established any cause for default on these securities and the various rating agencies have reaffirmed these securities’ long-term investment grade status at December 31, 2006 and 2005. These securities have fluctuated in value since their purchase dates as market interest rates have fluctuated. However, we have the ability, and management intends to hold these securities until their fair values recover to cost. Therefore, in management’s opinion, all securities that have been in a continuous unrealized loss position for the past 12 months or longer as of December 31, 2006 and 2005 are not other-than-temporarily impaired, and therefore, no impairment charges as of December 31, 2006 and 2005 are warranted.
 
Securities with carrying values of $282.5 million and $279.7 million as of December 31, 2006 and 2005, respectively, were pledged to secure public deposits and for other purposes as required or permitted by law.
 
There were $2,000, $117,000 and $134,000 in net realized gains on sales of securities available for sale during the years ended December 31, 2006, 2005 and 2004, respectively. In 2006, $254,000 ($184,000, net of tax) of unrealized losses arose during the year and were included in comprehensive income and $4,000 ($3,000, net of tax) of previously unrealized gains were realized in earnings. In 2005, $3.6 million ($2.6 million, net of tax) of unrealized losses arose during the year and were included in comprehensive income and $114,000 ($83,000, net of tax) of previously unrealized gains were realized in earnings. In 2004, $983,000 ($713,000, net of tax) of unrealized losses arose during the year and were included in comprehensive income and $167,000 ($122,000, net of tax) of previously unrealized losses were realized in earnings.
 
NOTE 5 — LOANS RECEIVABLE AND ALLOWANCE FOR LOAN LOSSES
 
Loans receivable consisted of the following at December 31:
 
                 
    2006     2005  
    (In thousands)  
 
Real Estate Loans:
               
Commercial Property
  $ 757,428     $ 733,650  
Construction
    202,207       152,080  
Residential Property
    81,128       87,377  
                 
Total Real Estate Loans
    1,040,763       973,107  
                 
Commercial and Industrial Loans:
               
Commercial Term Loans
    1,202,612       945,210  
Commercial Lines of Credit
    225,630       224,271  
SBA Loans
    148,391       155,491  
International Loans
    126,561       106,520  
                 
Total Commercial and Industrial Loans
    1,703,194       1,431,492  
                 
Consumer Loans
    100,121       92,154  
                 
Total Gross Loans
    2,844,078       2,496,753  
Allowance for Loans Losses
    (27,557 )     (24,963 )
Deferred Loan Fees
    (3,001 )     (3,775 )
                 
Loans Receivable, Net
  $ 2,813,520     $ 2,468,015  
                 


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HANMI FINANCIAL CORPORATION AND SUBSIDIARY
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005 AND 2004 — (Continued)
 

Activity in the allowance for loan losses and allowance for off-balance sheet items was as follows:
 
                                                                         
    As of and for the Year Ended December 31,  
    2006     2005     2004  
          Allowance
                Allowance
                Allowance
       
          for Off-
                for Off-
                for Off-
       
    Allowance
    Balance
          Allowance
    Balance
          Allowance
    Balance
       
    for Loan
    Sheet
          for Loan
    Sheet
          for Loan
    Sheet
       
    Losses     Items     Total     Losses     Items     Total     Losses     Items     Total  
    (In thousands)  
 
Balance — Beginning of Year
  $ 24,963     $ 2,130     $ 27,093     $ 22,702     $ 1,800     $ 24,502     $ 13,349     $ 1,385     $ 14,734  
Allowance for Loan Losses Acquired in PUB Acquisition
                                        10,566             10,566  
Provision Charged to Operating Expense
    7,173             7,173       5,065       330       5,395       2,492       415       2,907  
Loans Charged Off
    (6,129 )           (6,130 )     (5,198 )           (5,198 )     (5,485 )           (5,485 )
Recoveries
    1,550             1,551       2,394             2,394       1,780             1,780  
                                                                         
Balance — End of Year
  $ 27,557     $ 2,130     $ 29,687     $ 24,963     $ 2,130     $ 27,093     $ 22,702     $ 1,800     $ 24,502  
                                                                         
 
The following is a summary of interest foregone on impaired loans for the periods indicated:
 
                         
    Year Ended December 31,  
    2006     2005     2004  
    (In thousands)  
 
Interest Income That Would Have Been Recognized Had Impaired Loans Performed in Accordance With Their Original Terms
  $ 1,726     $ 957     $ 678  
Less: Interest Income Recognized on Impaired Loans
    (1,146 )     (603 )     (350 )
                         
Interest Foregone on Impaired Loans
  $ 580     $ 354     $ 328  
                         
 
The following table provides information on impaired loans for the periods indicated:
 
                         
    As of and for the
 
    Year Ended December 31,  
    2006     2005     2004  
    (In thousands)  
 
Recorded Investment With Related Allowance
  $ 10,616     $ 7,548     $ 4,391  
Recorded Investment With No Related Allowance
    3,868       3,235       3,262  
Allowance on Impaired Loans
    (6,731 )     (4,991 )     (3,039 )
                         
Net Recorded Investment in Impaired Loans
  $ 7,753     $ 5,792     $ 4,614  
                         
Average Total Recorded Investment in Impaired Loans
  $ 19,287     $ 14,340     $ 9,850  
                         
 
There were no commitments to lend additional funds to borrowers whose loans are included above.
 
Loans on non-accrual status totaled $14.2 million and $10.1 million at December 31, 2006 and 2005, respectively. Loans past due 90 days or more and still accruing interest totaled $2,000 and $9,000 at December 31, 2006 and 2005, respectively. Restructured loans totaled $5.5 million and $4.0 million at December 31, 2006 and 2005, respectively.


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HANMI FINANCIAL CORPORATION AND SUBSIDIARY
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005 AND 2004 — (Continued)
 

 
The following is an analysis of all loans to officers and directors of Hanmi Financial and their affiliates. In the opinion of management, all such loans were made under terms that are consistent with our normal lending policies.
 
                 
    December 31,  
    2006     2005  
    (In thousands)  
 
Outstanding Balance — Beginning of Year
  $ 850     $ 1,552  
Credit Granted, Including Renewals
           
Repayments
    (811 )     (702 )
                 
Outstanding Balance — End of Year
  $ 39     $ 850  
                 
 
Income from these loans totaled $72,000, $81,000 and $4,000 for the years ended December 31, 2006, 2005 and 2004, respectively, and is reflected in the accompanying Consolidated Statements of Income.
 
NOTE 6 — SERVICING ASSET
 
Changes in loan servicing rights, net of amortization, were as follows:
 
                 
    December 31,  
    2006     2005  
    (In thousands)  
 
Balance — Beginning of Year
  $ 3,910     $ 3,846  
Additions
    2,331       1,150  
Valuation Write-Down
    (355 )      
Amortization
    (1,307 )     (1,086 )
                 
Balance — End of Year
  $ 4,579     $ 3,910  
                 
 
At December 31, 2006 and 2005, we serviced loans sold to unaffiliated parties in the amounts of $236.0 million and $180.9 million, respectively. All of the loans being serviced were SBA loans.
 
NOTE 7 — PREMISES AND EQUIPMENT
 
The following is a summary of the major components of premises and equipment:
 
                 
    December 31,  
    2006     2005  
    (In thousands)  
 
Land
  $ 6,120     $ 6,120  
Buildings and Improvements
    8,210       7,804  
Furniture and Equipment
    12,202       12,095  
Leasehold Improvements
    8,403       7,924  
Software
    862       387  
                 
      35,797       34,330  
Accumulated Depreciation and Amortization
    (15,722 )     (13,546 )
                 
Total Premises and Equipment, Net
  $ 20,075     $ 20,784  
                 
 
Depreciation and amortization expense totaled $2,924,000, $2,704,000 and $2,447,000 for the years ended December 31, 2006, 2005 and 2004, respectively.


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HANMI FINANCIAL CORPORATION AND SUBSIDIARY
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005 AND 2004 — (Continued)
 

 
NOTE 8 — DEPOSITS
 
Time deposits by maturity were as follows:
 
                 
    December 31,  
    2006     2005  
    (In thousands)  
 
Less Than Three Months
  $ 811,211     $ 701,140  
After Three Months to Six Months
    516,473       314,151  
After Six Months to Twelve Months
    340,856       407,689  
After Twelve Months
    10,306       16,771  
                 
Total Time Deposits
  $ 1,678,846     $ 1,439,751  
                 
 
For time deposits having a remaining term of more than one year, the aggregate amount of maturities for each of the five years following the balance sheet date are as follows: $2,255,000 in 2007; $8,457,000 in 2008; $56,000 in 2009; $0 in 2010; and $4,000 in 2011.
 
A summary of interest expense on deposits was as follows for the periods indicated:
 
                         
    Year Ended December 31,  
    2006     2005     2004  
    (In thousands)  
 
Savings
  $ 1,853     $ 2,130     $ 1,790  
Money Market Checking and NOW Accounts
    14,539       12,964       8,098  
Time Deposits of $100,000 or More
    64,184       31,984       10,966  
Other Time Deposits
    12,460       7,114       5,414  
                         
Total Interest Expense on Deposits
  $ 93,036     $ 54,192     $ 26,268  
                         
 
Total deposits reclassified to loans due to overdrafts at December 31, 2006 and 2005 were $4.3 million and $3.7 million, respectively.
 
NOTE 9 —  FHLB ADVANCES AND OTHER BORROWINGS
 
FHLB advances and other borrowings consisted of the following:
 
                 
    December 31,  
    2006     2005  
    (In thousands)  
 
FHLB Advances
  $ 168,107     $ 43,527  
Note Issued to U.S. Treasury
    930       2,804  
                 
Total FHLB Advances and Other Borrowings
  $ 169,037     $ 46,331  
                 


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HANMI FINANCIAL CORPORATION AND SUBSIDIARY
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005 AND 2004 — (Continued)
 

FHLB advances represent collateralized obligations with the FHLB of San Francisco. A summary of contractual maturities follows:
 
                 
          Weighted-Average
 
Year
  Amount     Interest Rate  
    (In thousands)  
 
2007
  $ 45,000       4.75 %
2008
    105,000       5.42 %
2009
    6,000       5.63 %
2010
    7,252       4.44 %
2011
           
Thereafter
    4,855       5.27 %
                 
    $ 168,107          
                 
 
Financial data pertaining to FHLB advances were as follows:
 
                         
    Year Ended December 31,  
    2006     2005     2004  
    (Dollars in thousands)  
 
Weighted-Average Interest Rate at End of Year
    5.20 %     4.33 %     4.12 %
Weighted-Average Interest Rate During the Year
    5.02 %     3.70 %     2.23 %
Average Balance of FHLB Advances
  $ 123,295     $ 74,437     $ 137,827  
Maximum Amount Outstanding at Any Month-End
  $ 168,250     $ 100,700     $ 261,000  
 
All of the FHLB advances had fixed interest rates.
 
We have pledged investment securities available for sale and loans receivable with carrying values of $53.3 million and $284.8 million, respectively, as collateral with the FHLB for this borrowing facility. The total borrowing capacity available from the collateral that has been pledged is $240.7 million, of which $72.6 million remained available as of December 31, 2006.
 
For the years ended December 31, 2006, 2005 and 2004, interest expense on FHLB advances and other borrowings totaled $7.0 million, $3.0 million and $3.3 million, respectively, and the weighted-average interest rates were 5.02 percent, 3.63 percent and 2.14 percent, respectively.
 
In 2006, we increased our lines of credit by $4.0 million. Total credit lines for borrowing amounted to $158.0 million and $154.0 million at December 31, 2006 and 2005, respectively. As of December 31, 2006 and 2005, there were no borrowings under these credit lines.
 
NOTE 10 — JUNIOR SUBORDINATED DEBENTURES
 
During the first half of 2004, we issued two junior subordinated notes bearing interest at the three-month London InterBank Offered Rate (“LIBOR”) plus 2.90 percent totaling $61.8 million and one junior subordinated note bearing interest at the three-month LIBOR plus 2.63 percent totaling $20.6 million. The securities have a floating rate, which resets quarterly. Under the terms of the transactions, the securities will mature in 2034 and are redeemable, in whole or in part, without penalty, at the option of Hanmi Financial after five years. The outstanding subordinated debentures related to these offerings, the proceeds of which financed the purchase of PUB, totaled $82.4 million at December 31, 2006 and 2005.


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HANMI FINANCIAL CORPORATION AND SUBSIDIARY
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005 AND 2004 — (Continued)
 

 
For the years ended December 31, 2006, 2005 and 2004, interest expense on the junior subordinated debentures totaled $6.4 million, $4.9 million and $3.0 million, respectively, and the weighted-average interest rates were 7.79 percent, 5.95 percent and 3.69 percent, respectively.
 
NOTE 11 — INCOME TAXES
 
A summary of income taxes for the years ended December 31, 2006, 2005 and 2004 follows:
 
                         
    2006     2005     2004  
    (In thousands)  
 
Current:
                       
Federal
  $ 34,471     $ 29,779     $ 16,010  
State
    9,059       9,383       6,271  
                         
      43,530       39,162       22,281  
                         
Deferred:
                       
Federal
    (2,222 )     (2,350 )     1,032  
State
    (720 )     (357 )     (338 )
                         
      (2,942 )     (2,707 )     694  
                         
Income Taxes
  $ 40,588     $ 36,455     $ 22,975  
                         
 
As of December 31, 2006 and 2005, the Federal and state deferred tax assets were as follows:
 
                 
    2006     2005  
    (In thousands)  
 
Deferred Tax Assets:
               
Credit Loss Provision
  $ 13,608     $ 12,419  
Depreciation
    1,288       591  
State Taxes
    2,672       2,928  
Unrealized Loss on Securities Available for Sale, Interest-Only Strips and Interest Rate Swaps
    1,450       1,671  
Other
    637       59  
                 
Total Deferred Tax Assets
    19,655       17,668  
                 
Deferred Tax Liabilities:
               
Purchase Accounting
    (5,329 )     (6,497 )
Other
    (1,262 )     (1,520 )
                 
Total Deferred Tax Liabilities
    (6,591 )     (8,017 )
                 
Net Deferred Tax Assets
  $ 13,064     $ 9,651  
                 
 
Management believes that it is more likely than not that the results of future operations will generate sufficient taxable income to realize the deferred tax assets, net of the valuation allowance.


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HANMI FINANCIAL CORPORATION AND SUBSIDIARY
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005 AND 2004 — (Continued)
 

 
A reconciliation of the difference between the Federal statutory income tax rate and the effective tax rate as of December 31 is shown in the following table:
 
                         
    2006     2005     2004  
 
Statutory Tax Rate
    35.0 %     35.0 %     35.0 %
State Taxes, Net of Federal Tax Benefits
    5.8 %     6.2 %     6.5 %
Tax-Exempt Municipal Securities
    (1.0 )%     (1.2 )%     (1.8 )%
Reversal of Valuation Allowance
                (0.7 )%
Other
    (1.6 )%     (1.5 )%     (0.5 )%
                         
Effective Tax Rate
    38.2 %     38.5 %     38.5 %
                         
 
At December 31, 2006 and 2005, net current taxes payable of $1.0 million and $2.3 million, respectively, were included in Other Liabilities in the Consolidated Statements of Financial Condition.
 
NOTE 12 — EMPLOYEE SHARE-BASED COMPENSATION
 
At December 31, 2006, we had two stock incentive plans, the Year 2000 Stock Option Plan, which provides for the granting of non-qualified and incentive stock options and restricted stock awards to employees (including officers and directors), and our 2004 CEO Stock Option Plan, which provides for the grant of stock options to our Chief Executive Officer.
 
Year 2000 Stock Option Plan
 
Under the Year 2000 Stock Option Plan, we may grant options for up to 5,430,742 shares of common stock. As of December 31, 2006, 2,206,092 shares were still available for issuance.
 
All stock options granted under the Year 2000 Stock Option Plan have an exercise price equal to the fair market value of the underlying common stock on the date of grant. Stock options granted under the Year 2000 Stock Option Plan generally vest based on five years of continuous service and expire ten years from the date of grant. Certain option and share awards provide for accelerated vesting if there is a change in control (as defined in the Year 2000 Stock Option Plan). New shares of common stock may be issued or treasury shares may be utilized upon the exercise of stock options.
 
For the years ended December 31, 2006, 2005 and 2004, the estimated weighted-average fair value per share of options granted under the Year 2000 Stock Option Plan was as follows:
 
                         
    Year Ended December 31,  
    2006     2005     2004  
 
Estimated Weighted-Average Fair Value Per Share of Options Granted
  $ 6.23     $ 4.96     $ 3.55  
 
The estimated weighted-average fair value per share of options granted was estimated on the date of grant using the Black-Scholes option-pricing model with the following weighted-average assumptions:
 
                         
    Year Ended December 31,  
    2006     2005     2004  
 
Weighted-Average Assumptions:
                       
Dividend Yield
    1.26%       1.18%       1.48%  
Expected Volatility
    34.79%       32.62%       33.04%  
Expected Term
    4.6 years       4.1 years       4.0 years  
Risk-Free Interest Rate
    4.85%       4.13%       2.75%  


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HANMI FINANCIAL CORPORATION AND SUBSIDIARY
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005 AND 2004 — (Continued)
 

Expected volatility is determined based on the historical daily volatility of our stock price over a period equal to the expected term of the options granted. The expected term of the options represents the period of time that options granted are expected to be outstanding based primarily on the historical exercise behavior associated with previous option grants. The risk-free interest rate is based on the U.S. Treasury yield curve at the time of grant for a period equal to the expected term of the options granted.
 
The following information under the Year 2000 Stock Option Plan is presented for the years ended December 31, 2006, 2005 and 2004.
 
                         
    Year Ended December 31,  
    2006     2005     2004  
    (In thousands)  
 
Grant Date Fair Value of Options Granted
  $ 5,940     $ 672     $ 1,582  
Fair Value of Options Vested
  $ 695     $ 905     $ 691  
Total Intrinsic Value of Options Exercised(1)
  $ 2,874     $ 4,487     $ 9,758  
Cash Received from Options Exercised
  $ 2,032     $ 2,093     $ 1,703  
Actual Tax Benefit Realized from Tax Deductions on Options Exercised
  $ 661     $ 729     $  
 
 
(1) Intrinsic value represents the difference between the closing stock price on the exercise date and the exercise price, multiplied by the number of options.
 
The following is a summary of the transactions under the Year 2000 Stock Option Plan for the years ended December 31, 2006, 2005 and 2004:
 
                                                 
    2006     2005     2004  
    Number
    Weighted-Average
    Number
    Weighted-Average
    Number
    Weighted-Average
 
    of
    Exercise Price
    of
    Exercise Price
    of
    Exercise Price
 
    Shares     Per Share     Shares     Per Share     Shares     Per Share  
 
Options Outstanding — Beginning of Year
    1,173,712     $ 10.55       1,618,836     $ 9.33       1,500,064     $ 5.52  
Options Granted
    953,000     $ 19.17       135,554     $ 17.10       791,000     $ 13.51  
Options Assumed in PUB Acquisition
        $           $       137,414     $ 5.11  
Options Exercised
    (257,759 )   $ 7.88       (391,094 )   $ 6.44       (670,576 )   $ 4.82  
Options Forfeited
    (111,540 )   $ 15.39       (189,584 )   $ 13.26       (139,066 )   $ 9.61  
Options Expired
    (1,600 )   $ 14.03           $           $  
                                                 
Options Outstanding — End of Year
    1,755,813     $ 15.31       1,173,712     $ 10.55       1,618,836     $ 9.33  
                                                 
Options Exercisable — End of Year
    471,903     $ 8.55       520,602     $ 7.00       487,242     $ 6.10  
                                                 


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HANMI FINANCIAL CORPORATION AND SUBSIDIARY
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005 AND 2004 — (Continued)
 

The following is a summary of the transactions for non-vested stock options under the Year 2000 Stock Option Plan for the years ended December 31, 2006, 2005 and 2004:
 
                                                 
    2006     2005     2004  
          Weighted-Average
          Weighted-Average
          Weighted-Average
 
    Number
    Grant Date
    Number
    Grant Date
    Number
    Grant Date
 
    of
    Fair Value
    of
    Fair Value
    of
    Fair Value
 
    Shares     Per Share     Shares     Per Share     Shares     Per Share  
 
Non-Vested Options Outstanding — Beginning of Year
    653,110     $ 3.68       1,131,594     $ 2.93       844,910     $ 1.89  
Options Granted
    953,000     $ 6.23       135,554     $ 4.96       791,000     $ 3.55  
Options Vested
    (210,660 )   $ 3.30       (424,454 )   $ 2.13       (365,250 )   $ 1.89  
Options Forfeited
    (111,540 )   $ 4.90       (189,584 )   $ 3.62       (139,066 )   $ 2.83  
                                                 
Non-Vested Options Outstanding  —
End of Year
    1,283,910     $ 5.53       653,110     $ 3.68       1,131,594     $ 2.93  
                                                 
 
For the year ended December 31, 2006, compensation expense of $742,000 for the Year 2000 Stock Option Plan was recognized in the Consolidated Statements of Income. As of December 31, 2006, the total compensation cost not yet recognized under the Year 2000 Stock Option Plan was $5.9 million with a weighted-average recognition period of 3.6 years.
 
As of December 31, 2006, stock options outstanding under the Year 2000 Stock Option Plan were as follows:
 
                                                                 
    Options Outstanding     Options Exercisable  
                Weighted-
    Weighted-
                Weighted-
    Weighted-
 
                Average
    Average
                Average
    Average
 
                Exercise
    Remaining
                Exercise
    Remaining
 
Exercise
  Number
    Intrinsic
    Price Per
    Contractual
    Number
    Intrinsic
    Price Per
    Contractual
 
Price Range   of Shares     Value(1)     Share     Life     of Shares     Value(1)     Share     Life  
    (Dollars in thousands, Except Per Share Data)  
 
$3.27 to $4.99
    156,666     $ 2,938     $ 3.78       3.8 years       156,666     $ 2,938     $ 3.78       3.8 years  
$5.00 to $9.99
    141,593       2,177     $ 7.15       4.3 years       141,593       2,177     $ 7.15       4.3 years  
$10.00 to $14.99
    434,000       3,918     $ 13.50       7.3 years       149,533       1,351     $ 13.50       7.3 years  
$15.00 to $19.99
    735,554       3,386     $ 17.93       9.2 years       24,111       133     $ 17.03       8.3 years  
$20.00 to $21.63
    288,000       259     $ 21.63       9.9 years                 $        
                                                                 
      1,755,813     $ 12,678     $ 15.31       8.0 years       471,903     $ 6,599     $ 8.55       6.8 years  
                                                                 
 
 
(1) Intrinsic value represents the difference between the closing stock price on the last trading day of the period, which was $22.53 as of December 29, 2006, and the exercise price, multiplied by the number of options.
 
2004 CEO Stock Option Plan
 
Under the 2004 CEO Stock Option Plan, a total of 350,000 stock options were granted to our Chief Executive Officer. As of December 31, 2006, there were no additional shares available for issuance.
 
All stock options granted under the 2004 CEO Stock Option Plan have an exercise price equal to the fair market value of the underlying common stock on the date of grant. Stock options granted under the 2004 CEO Stock Option Plan vest based on six years of continuous service and expire ten years from the date of grant. Certain option and share awards provide for accelerated vesting if there is a change in control (as defined in the 2004 CEO Stock Option Plan). New shares of common stock may be issued or treasury shares may be utilized upon the exercise of stock options.


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HANMI FINANCIAL CORPORATION AND SUBSIDIARY
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005 AND 2004 — (Continued)
 

 
There were no stock options granted under the 2004 CEO Stock Option Plan during the years ended December 31, 2006 and 2005.
 
The following is a summary of the transactions under the 2004 CEO Stock Option Plan for the years ended December 31, 2006, 2005 and 2004:
 
                                                 
    2006     2005     2004  
    Number
    Exercise
    Number
    Exercise
    Number
    Exercise
 
    of
    Price Per
    of
    Price Per
    of
    Price Per
 
    Shares     Share     Shares     Share     Shares     Share  
 
Options Outstanding — Beginning of Year
    350,000     $ 17.17       350,000     $ 17.17           $  
Options Granted
        $           $       350,000     $ 17.17  
                                                 
Options Outstanding — End of Year
    350,000     $ 17.17       350,000     $ 17.17       350,000     $ 17.17  
                                                 
Options Exercisable — End of Year
    58,333     $ 17.17           $           $  
                                                 
 
The following is a summary of the transactions for non-vested stock options under the 2004 CEO Stock Option Plan for the years ended December 31, 2006, 2005 and 2004:
 
                                                 
    2006     2005     2004  
    Number
    Grant Date
    Number
    Grant Date
    Number
    Grant Date
 
    of
    Fair Value
    of
    Fair Value
    of
    Fair Value
 
    Shares     Per Share     Shares     Per Share     Shares     Per Share  
 
Non-Vested Options Outstanding — Beginning of Year
    350,000     $ 4.82       350,000     $ 4.82           $  
Options Granted
        $           $       350,000     $ 4.82  
Options Vested
    (58,333 )   $ 4.82           $           $  
                                                 
Non-Vested Options Outstanding — End of Year
    291,667     $ 4.82       350,000     $ 4.82       350,000     $ 4.82  
                                                 
 
For the year ended December 31, 2006, compensation expense of $416,000 for the 2004 CEO Stock Option Plan was recognized in the Consolidated Statements of Income. As of December 31, 2006, the total compensation cost not yet recognized under the 2004 CEO Stock Option Plan was $1.0 million with a recognition period of 3.8 years.
 
As of December 31, 2006, stock options outstanding under the 2004 CEO Stock Option Plan were as follows:
 
                                                         
Options Outstanding   Options Exercisable  
            Exercise
    Remaining
              Exercise
    Remaining
 
Number
    Intrinsic
    Price Per
    Contractual
  Number
    Intrinsic
    Price Per
    Contractual
 
of Shares
    Value(1)     Share     Life   of Shares     Value(1)     Share     Life  
(Dollars in thousands, Except Per Share Data)  
 
  350,000     $ 1,878     $ 17.17     7.9 years     58,333     $ 313     $ 17.17       7.9 years  
 
 
(1) Intrinsic value represents the difference between the closing stock price on the last trading day of the period, which was $22.53 as of December 29, 2006, and the exercise price, multiplied by the number of options.


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HANMI FINANCIAL CORPORATION AND SUBSIDIARY
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005 AND 2004 — (Continued)
 

 
Restricted Stock Award
 
In February 2005, 100,000 shares of restricted stock were granted to Dr. Sung Won Sohn, our Chief Executive Officer. 20,000 of these shares vested immediately, and an additional 20,000 shares vest each year over the next four years on the anniversary date of the grant. The market value of the shares awarded totaled $1,815,000. For the years ended December 31, 2006 and 2005, compensation expense of $363,000 and $665,000, respectively, related to the restricted stock award was recognized in the Consolidated Statements of Income.
 
NOTE 13 — SHAREHOLDERS’ EQUITY
 
Stock Warrants
 
In 2004, we issued stock warrants to affiliates of Castle Creek Financial LLC for services rendered in connection with the placement of our equity securities. Under the terms of the warrants, the warrant holders can purchase a total of 508,558 shares of common stock at an exercise price of $9.50 per share. The warrants were immediately exercisable and expire after five years. During the years ended December 31, 2006, 2005 and 2004, 160,056, 0 and 20,000 shares of common stock, respectively, were issued in connection with the exercise of stock warrants. As of December 31, 2006, there were 328,502 warrants outstanding.
 
Repurchase of Common Stock
 
On August 25, 2005, we repurchased 1,163,000 shares of our common stock from Korea Exchange Bank for an aggregate purchase price of $20.0 million as part of our ongoing capital management program. Repurchased shares are held in treasury pending use for general corporate purposes, including issuances under our stock option plans.
 
NOTE 14 — REGULATORY MATTERS
 
Hanmi Financial and the Bank are subject to various regulatory capital requirements administered by the Federal banking regulatory agencies. Failure to meet minimum capital requirements can initiate certain mandatory — and possibly additional discretionary — actions by regulators that, if undertaken, could have a direct material effect on our consolidated financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, Hanmi Financial and the Bank must meet specific capital guidelines that involve quantitative measures of the assets, liabilities and certain off-balance-sheet items as calculated under regulatory accounting practices. The capital amounts and classification are also subject to qualitative judgments by the regulators about components, risk weightings and other factors.
 
Quantitative measures established by regulation to ensure capital adequacy require Hanmi Financial and the Bank to maintain minimum ratios (set forth in the table below) of Total and Tier 1 Capital (as defined in the regulations) to Risk-Weighted Assets (as defined), and of Tier 1 Capital (as defined) to Average Assets (as defined). Management believes that, as of December 31, 2006 and 2005, Hanmi Financial and the Bank met all capital adequacy requirements to which they were subject.
 
As of December 31, 2006, the most recent notification from the Federal Reserve Board 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 table below. There are no conditions or events since that notification which management believes have changed the institution’s category.


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HANMI FINANCIAL CORPORATION AND SUBSIDIARY
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005 AND 2004 — (Continued)
 

 
The capital ratios of Hanmi Financial and Hanmi Bank at December 31, 2006 and 2005 were as follows:
 
                                                 
          Minimum
    Minimum to Be
 
          Regulatory
    Categorized as
 
    Actual     Requirement     “Well Capitalized”  
    Amount     Ratio     Amount     Ratio     Amount     Ratio  
    (Dollars in thousands)        
 
December 31, 2006
                                               
Total Capital (to Risk-Weighted Assets):
                                               
Hanmi Financial
  $ 384,895       12.55 %   $ 245,408       8.00 %     N/A       N/A  
Hanmi Bank
  $ 376,422       12.28 %   $ 245,158       8.00 %   $ 306,447       10.00 %
Tier 1 Capital (to Risk-Weighted Assets):
                                               
Hanmi Financial
  $ 355,186       11.58 %   $ 122,704       4.00 %     N/A       N/A  
Hanmi Bank
  $ 346,713       11.31 %   $ 122,579       4.00 %   $ 183,868       6.00 %
Tier 1 Capital (to Average Assets):
                                               
Hanmi Financial
  $ 355,186       10.08 %   $ 140,947       4.00 %     N/A       N/A  
Hanmi Bank
  $ 346,713       9.85 %   $ 140,827       4.00 %   $ 176,034       5.00 %
                                                 
December 31, 2005
                                               
Total Capital (to Risk-Weighted Assets):
                                               
Hanmi Financial
  $ 319,866       12.04 %   $ 212,617       8.00 %     N/A       N/A  
Hanmi Bank
  $ 318,099       11.98 %   $ 212,383       8.00 %   $ 265,478       10.00 %
Tier 1 Capital (to Risk-Weighted Assets):
                                               
Hanmi Financial
  $ 292,750       11.03 %   $ 106,191       4.00 %     N/A       N/A  
Hanmi Bank
  $ 290,983       10.96 %   $ 106,191       4.00 %   $ 159,287       6.00 %
Tier 1 Capital (to Average Assets):
                                               
Hanmi Financial
  $ 295,750       9.11 %   $ 128,566       4.00 %     N/A       N/A  
Hanmi Bank
  $ 290,983       9.06 %   $ 128,447       4.00 %   $ 160,558       5.00 %
 
The average reserve balance required to be maintained with the FRB was $1.5 million as of December 31, 2006 and 2005.
 
Memorandum of Understanding
 
On July 20, 2005, following a joint regular examination by the FRB and the DFI, the Bank’s Board of Directors approved and signed an informal memorandum of understanding (“Memorandum”) in connection with certain deficiencies identified by the regulators relating to the Bank’s compliance with certain provisions of the Bank Secrecy Act and anti-money laundering regulations. On December 21, 2006, following a joint examination by the FRB and the DFI, the Memorandum was terminated.


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HANMI FINANCIAL CORPORATION AND SUBSIDIARY
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005 AND 2004 — (Continued)
 

 
NOTE 15 — EARNINGS PER SHARE
 
The following is a reconciliation of the numerators and denominators of the basic and diluted per share computations for the years ended December 31, 2006, 2005 and 2004:
 
                         
          Weighted-
       
          Average
    Per
 
    Income
    Shares
    Share
 
    (Numerator)     (Denominator)     Amount  
    (Dollars in thousands, Except Per Share Amounts)  
 
2006:
                       
Basic EPS — Income Available to Common Shareholders
  $ 65,649       48,850,221     $ 1.34  
Effect of Dilutive Securities — Options and Warrants
          584,907       (0.01 )
                         
Diluted EPS — Income Available to Common Shareholders
  $ 65,649       49,435,128     $ 1.33  
                         
2005:
                       
Basic EPS — Income Available to Common Shareholders
  $ 58,229       49,174,885     $ 1.18  
Effect of Dilutive Securities — Options and Warrants
          767,471       (0.01 )
                         
Diluted EPS — Income Available to Common Shareholders
  $ 58,229       49,942,356     $ 1.17  
                         
2004:
                       
Basic EPS — Income Available to Common Shareholders
  $ 36,700       42,268,964     $ 0.87  
Effect of Dilutive Securities — Options and Warrants
          1,248,293       (0.03 )
                         
Diluted EPS — Income Available to Common Shareholders
  $ 36,700       43,517,257     $ 0.84  
                         
 
For the years ended December 31, 2006, 2005 and 2004, there were 1,373,554 options, 50,554 options and 354,000 options outstanding, respectively, that were not included in the computation of diluted EPS because their exercise price was greater than the average market price of the common shares and, therefore, the effect would be anti-dilutive.
 
NOTE 16 — EMPLOYEE BENEFITS
 
401(k) Plan
 
We have a Section 401(k) plan for the benefit of substantially all of our employees. We match 75 percent of participant contributions to the 401(k) plan up to 8 percent of each 401(k) plan participant’s annual compensation. We made contributions to the 401(k) plan for the years ended December 31, 2006, 2005 and 2004 of $1,008,000, $918,000 and $858,000, respectively.
 
Bank-Owned Life Insurance
 
In 2001 and 2004, we purchased single premium life insurance policies called bank-owned life insurance covering certain officers. Hanmi Bank is the beneficiary under the policy. In the event of the death of a covered officer, we will receive the specified insurance benefit from the insurance carrier.


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HANMI FINANCIAL CORPORATION AND SUBSIDIARY
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005 AND 2004 — (Continued)
 

 
Deferred Compensation Plan
 
Effective November 1, 2006, the Board of Directors approved the Hanmi Financial Corporation Deferred Compensation Plan (“the DCP”). The DCP is a non-qualified deferred compensation program for directors and certain key employees whereby they may defer a portion of annual compensation for payment upon retirement of the amount deferred plus a guaranteed return. The DCP is unfunded. As of December 31, 2006, the liability for the deferred compensation plan and interest thereon was $112,000.
 
NOTE 17 — DERIVATIVE FINANCIAL INSTRUMENTS
 
Interest Rate Swap
 
During 2004, to hedge interest rate risk, the Bank entered into an interest rate swap agreement maturing in 2009, wherein the Bank received a fixed rate of 7.29 percent at quarterly intervals, and paid Prime-based floating rates at quarterly intervals on a total notional amount of $10.0 million. During 2003, to hedge interest rate risk, the Bank entered into four interest rate swap agreements maturing in 2008, wherein the Bank received fixed rates of 5.77 percent, 6.37 percent, 6.51 percent and 6.76 percent, at quarterly intervals, and paid Prime-based floating rates, at quarterly intervals, on a total notional amount of $60.0 million. These swaps were designated as cash flow hedges for accounting purposes.
 
In 2005, the Bank terminated these swaps. At such time, the swaps were in an unfavorable position of $2,139,000. Such amount is being amortized in amounts proportional to the interest income associated with the hedged loan pools over the remaining terms of the swaps or the lives of the hedged loans, whichever is shorter. For the year ended December 31, 2006, amortization expense of $879,000 was recognized in Other Operating Expenses in the Consolidated Statement of Income.
 
Equity Swap
 
In 2004, the Bank offered a certificate of deposit (“CD”) product that paid interest tied to the movement in the Standard & Poor’s 500 Index plus 1.00 percent annual interest. Such CD’s will mature in November 2009. The economic characteristics and risks of the embedded option were not clearly and closely related to the CD. Therefore, the embedded option was separated from the CD and accounted for separately in liabilities. As of December 31, 2006 and 2005, the fair value of the embedded option was $1,641,000 and $1,280,000, respectively, and the change in the liability during 2006 and 2005 was $361,000 and ($116,000), respectively. The changes were recognized in earnings.
 
To place an economic hedge for the market risk described above, the Bank purchased an equity swap with a notional amount of $9,340,000. As of December 31, 2006 and 2005, the fair value of the equity swap was $872,000 and $88,000, respectively, and the change in the asset during 2006 and 2005 was $784,000 and ($111,000), respectively. The changes were recognized in earnings.
 
Currency Swap
 
In 2005, the Bank offered a CD product that paid interest based on the increase in the weighted-average value of five Asian currencies (Korean Won, Singapore Dollar, Taiwan Dollar, Thai Baht and Chinese Yuan) against the U.S. Dollar plus 0.25 percent annual interest. The economic characteristics and risks of the embedded option were not clearly and closely related to the CD. Therefore, the embedded option was separated from the CD and accounted for separately in liabilities. The CD’s matured in February 2006. As of December 31, 2005, the fair value of the embedded option was $5,000, and the change in the liability during 2006 and 2005 was ($5,000) and ($415,000), respectively. The changes were recognized in earnings.


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HANMI FINANCIAL CORPORATION AND SUBSIDIARY
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005 AND 2004 — (Continued)
 

 
To place an economic hedge for the market risk described above, the Bank purchased a currency swap with a notional amount of $14,274,000. The swap terminated in February 2006. As of December 31, 2005, the fair value of the currency swap was ($105,000), and the change in the asset during 2006 and 2005 was $63,000 and ($63,000), respectively. The changes were recognized in earnings.
 
NOTE 18 — COMMITMENTS AND CONTINGENCIES
 
We lease our premises under non-cancelable operating leases. At December 31, 2006, future minimum annual rental commitments under these non-cancelable operating leases, with initial or remaining terms of one year or more, is as follows:
 
         
Year Ending
     
December 31,
  Amount  
    (In thousands)  
 
2007
  $ 4,093  
2008
    3,455  
2009
    2,462  
2010
    2,128  
2011
    1,315  
Thereafter
    6,068  
         
    $ 19,521  
         
 
Rental expenses recorded under such leases in 2006, 2005 and 2004 amounted to $4,063,000, $3,389,000 and $3,226,000, respectively.
 
In the normal course of business, we are involved in various legal claims. Management has reviewed all legal claims against us with in-house or outside legal counsel and has taken into consideration the views of such counsel as to the outcome of the claims. In management’s opinion, the final disposition of all such claims will not have a material adverse effect on our financial position or results of operations.
 
NOTE 19 — OFF-BALANCE SHEET COMMITMENTS
 
We are a party to financial instruments with off-balance sheet risk in the normal course of business to meet the financing needs of our customers. These financial instruments include commitments to extend credit and standby letters of credit. These instruments involve, to varying degrees, elements of credit and interest rate risk in excess of the amount recognized in the Consolidated Statements of Financial Condition. The Bank’s exposure to credit losses in the event of non-performance by the other party to commitments to extend credit and standby letters of credit is represented by the contractual notional amount of those instruments. The Bank uses the same credit policies in making commitments and conditional obligations as it does for extending loan facilities to customers. The Bank evaluates each customer’s creditworthiness on a case-by-case basis. The amount of collateral obtained, if deemed necessary by the Bank upon extension of credit, is based on management’s credit evaluation of the counterparty.


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HANMI FINANCIAL CORPORATION AND SUBSIDIARY
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005 AND 2004 — (Continued)
 

 
Collateral held varies but may include accounts receivable; inventory; property, plant and equipment; and income-producing or borrower-occupied properties. The following table shows the distribution of undisbursed loan commitments as of the dates indicated:
 
                 
    December 31,  
    2006     2005  
    (In thousands)  
 
Commitments to Extend Credit
  $ 578,347     $ 555,736  
Commercial Letters of Credit
    65,158       58,036  
Standby Letters of Credit
    48,289       42,768  
Unused Credit Card Lines
    17,031       14,892  
                 
Total Undisbursed Loan Commitments
  $ 708,825     $ 671,432  
                 
 
NOTE 20 — FAIR VALUE OF FINANCIAL INSTRUMENTS
 
The estimated fair value of financial instruments has been determined by using available market information and appropriate valuation methodologies. However, considerable judgment is required to interpret market data in order to develop estimates of fair value. Accordingly, the estimates presented herein are not necessarily indicative of the amounts that we could realize in a current market exchange. The use of different market assumptions and/or estimation methodologies may have a material effect on the estimated fair value amounts.
 
                                 
    December 31, 2006     December 31, 2005  
    Carrying
          Carrying
       
    or Contract
    Estimated
    or Contract
    Estimated
 
    Amount     Fair Value     Amount     Fair Value  
    (In thousands)  
 
ASSETS
Cash and Cash Equivalents
  $ 138,501     $ 138,501     $ 163,477     $ 163,477  
Term Federal Funds Sold
    5,000       5,000              
Securities Held to Maturity
    967       969       1,049       1,051  
Securities Available for Sale
    390,612       390,612       442,863       442,863  
Loans Receivable, Net
    2,813,520       2,834,864       2,468,015       2,460,092  
Loans Held for Sale
    23,870       23,870       1,065       1,074  
Accrued Interest Receivable
    16,919       16,919       14,120       14,120  
Federal Reserve Bank Stock
    11,733       11,733       12,350       12,350  
Federal Home Loan Bank Stock
    13,189       13,189       12,237       12,237  
Equity Swap
    872       872       88       88  


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HANMI FINANCIAL CORPORATION AND SUBSIDIARY
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005 AND 2004 — (Continued)
 

                                 
    December 31, 2006     December 31, 2005  
    Carrying
          Carrying
       
    or Contract
    Estimated
    or Contract
    Estimated
 
    Amount     Fair Value     Amount     Fair Value  
    (In thousands)  
 
 
LIABILITIES
Noninterest-Bearing Deposits
    728,347       728,347       738,618       738,618  
Interest-Bearing Deposits
    2,216,368       2,216,757       2,087,496       2,087,496  
FHLB Advances, Other Borrowings and Junior Subordinated Debentures
    251,443       254,058       128,737       129,441  
Accrued Interest Payable
    22,582       22,582       11,911       11,911  
Currency Swap
                (105 )     (105 )
Embedded Derivative
    1,641       1,641       1,280       1,280  
 
OFF-BALANCE SHEET ITEMS
Commitments to Extend Credit
    578,347       1,786       555,736       774  
Standby Letters of Credit
    48,289       245       42,768       217  

 
The methods and assumptions used to estimate the fair value of each class of financial instruments for which it is practicable to estimate that value are explained below:
 
Cash and Cash Equivalents — The carrying amounts approximate fair value due to the short-term nature of these instruments.
 
Term Federal Funds Sold — The carrying amounts approximate fair value due to the short-term nature of these instruments.
 
Securities — The fair value of securities is generally obtained from market bids for similar or identical securities or obtained from independent securities brokers or dealers.
 
Loans — Fair values are estimated for portfolios of loans with similar financial characteristics, primarily fixed and adjustable rate interest terms. The fair values of fixed rate mortgage loans are based on discounted cash flows utilizing applicable risk-adjusted spreads relative to the current pricing of similar fixed rate loans, as well as anticipated repayment schedules. The fair value of adjustable rate commercial loans is based on the estimated discounted cash flows utilizing the discount rates that approximate the pricing of loans collateralized by similar commercial properties. The fair value of non-performing loans at December 31, 2006 and 2005 was not estimated because it is not practicable to reasonably assess the credit adjustment that would be applied in the marketplace for such loans. The estimated fair value is net of allowance for loan losses.
 
Accrued Interest Receivable — The carrying amount of accrued interest receivable approximates its fair value.
 
Federal Reserve Bank Stock and Federal Home Loan Bank Stock — The carrying amounts approximate fair value as the stock may be resold to the issuer at carrying value.
 
Equity Swap — The carrying amounts of the equity swap approximate their fair value.
 
Deposits — The fair value of non-maturity deposits is the amount payable on demand at the reporting date. Non-maturity deposits include noninterest-bearing demand deposits, savings accounts and money market checking. Discounted cash flows have been used to value term deposits such as certificates of deposit. The discount rate used is based on interest rates currently being offered by the Bank on comparable deposits as to amount and term.

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HANMI FINANCIAL CORPORATION AND SUBSIDIARY
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005 AND 2004 — (Continued)
 

 
Accrued Interest Payable — The carrying amount of accrued interest payable approximates its fair value.
 
FHLB Advances, Other Borrowings and Junior Subordinated Debentures  — Discounted cash flows have been used to value FHLB advances, other borrowings and junior subordinated debentures.
 
Currency Swap and Embedded Derivative — The carrying amounts of the currency swap and embedded derivative approximate their fair value.
 
Commitments to Extend Credit and Standby Letters of Credit — The fair values of commitments to extend credit and standby letters of credit are based upon the difference between the current value of similar loans and the price at which the Bank has committed to make the loans.
 
Note 21 — Condensed Financial Information of Parent Company
 
                 
    December 31,  
STATEMENTS OF FINANCIAL CONDITION
  2006     2005  
    (In thousands)  
 
ASSETS
Cash
  $ 7,578     $ 1,470  
Investment in Hanmi Bank
    558,645       505,009  
Investment in Unconsolidated Subsidiaries
    2,986       2,986  
Other Assets
    4,346       3,091  
                 
Total Assets
  $ 573,555     $ 512,556  
                 
 
LIABILITIES AND SHAREHOLDERS’ EQUITY
Liabilities:
               
Junior Subordinated Debentures
  $ 82,406     $ 82,406  
Other Liabilities
    4,032       3,373  
Shareholders’ Equity
    487,117       426,777  
                 
Total Liabilities and Shareholders’ Equity
  $ 573,555     $ 512,556  
                 
 
                         
    Year Ended December 31,  
STATEMENTS OF INCOME
  2006     2005     2004  
    (In thousands)  
 
Equity in Earnings of Hanmi Bank
  $ 71,375     $ 62,001     $ 39,574  
Other Expenses, Net
    (9,266 )     (6,133 )     (4,673 )
Income Tax Benefit
    3,540       2,361       1,799  
                         
Net Income
  $ 65,649     $ 58,229     $ 36,700  
                         
 


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HANMI FINANCIAL CORPORATION AND SUBSIDIARY
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005 AND 2004 — (Continued)
 

                         
    Year Ended December 31,  
STATEMENTS OF CASH FLOWS
  2006     2005     2004  
    (In thousands)  
 
CASH FLOWS FROM OPERATING ACTIVITIES:
                       
Net Income
  $ 65,649     $ 58,229     $ 36,700  
Adjustments to Reconcile Net Income to Net Cash Used In Operating Activities:
                       
Earnings of Hanmi Bank
    (71,375 )     (62,001 )     (39,574 )
Decrease (Increase) in Receivable from Hanmi Bank
          455       (224 )
Share-Based Compensation Expense
    1,521              
Increase in Other Assets
    (1,255 )     (1,292 )     (718 )
Increase (Decrease) in Other Liabilities
    659       (229 )     132  
Excess Tax Benefit from Exercises of Stock Options
    661       729        
                         
Net Cash Used In Operating Activities
    (4,140 )     (4,109 )     (3,684 )
                         
CASH FLOWS FROM INVESTING ACTIVITIES:
                       
Dividends Received from Hanmi Bank
    18,500       27,541       11,990  
Capital Contribution to Hanmi Bank
                (80,000 )
Acquisition of Pacific Union Bank
                (71,710 )
Purchase of Investment in Unconsolidated Subsidiaries
                (2,475 )
                         
Net Cash Provided By (Used In) Investing Activities
    18,500       27,541       (142,195 )
                         
CASH FLOWS FROM FINANCING ACTIVITIES:
                       
Issuance of Junior Subordinated Debentures
                82,406  
Proceeds from Exercise of Stock Options and Stock Warrants
    3,553       2,516       3,425  
Stock Issued Through Private Placement
                71,710  
Repurchase of Common Stock
          (20,041 )      
Cash Dividends Paid
    (11,805 )     (9,813 )     (7,740 )
                         
Net Cash (Used In) Provided By Financing Activities
    (8,252 )     (27,338 )     149,801  
                         
NET INCREASE (DECREASE) IN CASH
    6,108       (3,906 )     3,922  
Cash — Beginning of Year
    1,470       5,376       1,454  
                         
CASH — END OF YEAR
  $ 7,578     $ 1,470     $ 5,376  
                         

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HANMI FINANCIAL CORPORATION AND SUBSIDIARY
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2006, 2005 AND 2004 — (Continued)
 

NOTE 22 — QUARTERLY FINANCIAL DATA (UNAUDITED)
 
Summarized quarterly financial data follows:
 
                                 
    Quarter Ended  
    March 31     June 30     September 30     December 31  
    (Dollars in thousands; Except Per Share Amounts)  
 
2006:
                               
Interest Income
  $ 58,535     $ 63,906     $ 68,664     $ 69,084  
Interest Expense
    21,680       25,509       28,934       30,306  
                                 
Net Interest Income Before Provision for Credit Losses
    36,855       38,397       39,730       38,778  
Provision for Credit Losses
    2,960       900       1,682       1,631  
Non-Interest Income
    7,744       8,287       8,784       10,789  
Non-Interest Expenses
    17,439       19,416       19,473       19,626  
                                 
Income Before Provision for Income Taxes
    24,200       26,368       27,359       28,310  
Provision for Income Taxes
    9,398       10,428       9,762       11,000  
                                 
NET INCOME
  $ 14,802     $ 15,940     $ 17,597     $ 17,310  
                                 
EARNINGS PER SHARE:
                               
Basic
  $ 0.30     $ 0.33     $ 0.36     $ 0.35  
Diluted
  $ 0.30     $ 0.32     $ 0.36     $ 0.35  
2005:
                               
Interest Income
  $ 43,602     $ 48,063     $ 52,401     $ 56,875  
Interest Expense
    11,347       13,462       16,831       20,471  
                                 
Net Interest Income Before Provision for Credit Losses
    32,255       34,601       35,570       36,404  
Provision for Credit Losses
    136       450       3,157       1,652  
Non-Interest Income
    6,964       6,891       8,751       7,776  
Non-Interest Expenses
    17,405       16,212       16,991       18,525  
                                 
Income Before Provision for Income Taxes
    21,678       24,830       24,173       24,003  
Provision for Income Taxes
    8,346       9,792       9,204       9,113  
                                 
NET INCOME
  $ 13,332     $ 15,038     $ 14,969     $ 14,890  
                                 
EARNINGS PER SHARE:
                               
Basic
  $ 0.27     $ 0.30     $ 0.30     $ 0.31  
Diluted
  $ 0.27     $ 0.30     $ 0.30     $ 0.30  
 
Reclassifications have been made to the 2006 and 2005 quarterly financial statements to conform to the current presentation.
 
NOTE 23 — SUBSEQUENT EVENT
 
Effective January 1, 2007, Hanmi Financial acquired two full-service insurance agencies, Chun Ha Insurance Services, Inc. and All World Insurance Services, Inc., Garden Grove, California, as wholly-owned subsidiaries. The acquisition is not expected to have a significant effect on our financial position or results of operations.


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SIGNATURES
 
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.
 
HANMI FINANCIAL CORPORATION
 
  By: 
/s/  Sung Won Sohn, Ph.D.
Sung Won Sohn, Ph.D.
President and Chief Executive Officer
 
Date: March 1, 2007
 
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 as of March 1, 2007.
 
 
     
/s/  Sung Won Sohn, Ph.D.

Sung Won Sohn, Ph.D.
President and Chief Executive Officer
(Principal Executive Officer)
 
/s/  Michael J. Winiarski

Michael J. Winiarski
Senior Vice President and Chief Financial Officer (Principal Financial and Accounting Officer)
     
     
     
/s/  Richard B. C. Lee

Richard B. C. Lee
Chairman of the Board
   
     
     
     
/s/  I Joon Ahn

I Joon Ahn
Director
 
/s/  Kraig A. Kupiec

Kraig A. Kupiec
Director
     
     
     
/s/  Joon Hyung Lee

Joon Hyung Lee
Director
 
/s/  M. Christian Mitchell

M. Christian Mitchell
Director
     
     
     
/s/  Chang Kyu Park

Chang Kyu Park
Director
 
/s/  Joseph K. Rho

Joseph K. Rho
Director
     
     
     
/s/  William J. Ruh

William J. Ruh
Director
 
/s/  Won R. Yoon

Won R. Yoon
Director


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Table of Contents

HANMI FINANCIAL CORPORATION AND SUBSIDIARY
 
 
EXHIBIT INDEX
 
         
Exhibit
   
Number
  Document
 
  3 .1   Certificate of Incorporation, As Amended *
  3 .2   Bylaws, As Amended *
  4 .1   Specimen Certificate of Registrant *
  10 .1   Employment Agreement with Sung Won Sohn ***
  10 .2   Hanmi Financial Corporation Year 2000 Stock Option Plan **
  10 .3   Hanmi Financial Corporation 2004 CEO Stock Option Plan ****
  10 .4   Hanmi Financial Corporation Deferred Compensation Plan
  14     Code of Ethics ***
  21     Subsidiaries of the Registrant ****
  23     Consent of KPMG LLP
  31 .1   Rule 13a-14(a)/15d-14(a) Certification of Chief Executive Officer
  31 .2   Rule 13a-14(a)/15d-14(a) Certification of Chief Financial Officer
  32 .1   Certification of Chief Executive Officer Under Section 906 of the Sarbanes-Oxley Act
  32 .2   Certification of Chief Financial Officer Under Section 906 of the Sarbanes-Oxley Act
 
 
* Previously filed and incorporated by reference herein from Hanmi Financial’s Registration Statement on Form S-4 (No. 333-32770) filed with the SEC on March 20, 2000.
 
** Previously filed and incorporated by reference herein from Hanmi Financial’s Registration Statement on Form S-8 (No. 333-44320 and 44090) filed with the SEC on August 18, 2000.
 
*** Previously filed and incorporated by reference herein from Hanmi Financial’s Annual Report on Form 10-K for the year ended December 31, 2004 filed with the SEC on March 16, 2005.
 
**** Previously filed and incorporated by reference herein from Hanmi Financial’s Joint Proxy Statement/Prospectus on Form S-4 filed with the SEC on February 9, 2004.


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