1. General

Bank of Commerce is the leading Small Business Administration ("SBA") bank lender in the country. In 1997, the Bank originated $177.8 million in loans under SBA lending programs. Under current regulations, the SBA guarantees up to 75% of the principal balance of loans in excess of $100,000 made under its section 7(a) program.

In the last three years, the Bank has expanded its SBA lending operations from southern California into northern California and several other western states. In 1995, the Bank opened new SBA lending offices in Auburn and San Francisco, California; and Las Vegas, Nevada. In 1996, offices were opened in Reno, Nevada; Tucson, Arizona; and Portland, Oregon. The Bank opened lending offices in Seattle, Washington, and Denver, Colorado in 1997. All of the offices outside the state of California operate under the name Commerce Loan Company.

SBA lending represents the predominant share of the Bank's loan production. In addition to opening new SBA offices, the Bank has developed wholesale lending production through a network of referral sources, including loan and real estate brokers. In March 1998, the Bank announced plans to continue expanding its SBA lending into other states through seven new offices in Texas, Georgia, Illinois, Idaho and Utah.

Bank of Commerce has increased deposits by greater penetration of its principal deposit markets through an acquisition and the opening of two new full service branches. In January 1995, the Bank acquired a branch office from another commercial bank with $16.6 million in deposits. The Bank consolidated an existing branch into this new office in the University Town Centre area of San Diego county. A new branch office was opened in La Jolla, California, in November 1995. In December 1996, the Bank opened a loan production office in Palm Desert, California, which was converted to a full service branch in 1997.

The Bank provides a range of other lending and deposit services to commercial and consumer customers, and offers specialized banking services to homeowners associations for construction litigation, renovation projects, and remittance processing. The Bank conducted mortgage banking operations in single family residential mortgage loans for several years, but discontinued these operations in 1995. The Bank has no plans to resume these operations.

The Bank's total assets have increased from $191 million at December 31, 1994 to $557 million at December 31, 1997. Net income has increased from $2 million in 1995, to $3.5 million in 1996 and $7 million in 1997. Revenues are generated primarily from net interest income, the sale and servicing of SBA loans, and charges for deposit services. Net interest income represented 81%, 84% and 81% of total revenues for 1997, 1996 and 1995, respectively.

The Bank supplements net interest income by selling a certain amount of its SBA loan production on a servicing retained basis. The sales generate immediate gains and produce servicing fee income over the life of the loan. In 1997, the Bank recorded $6 million in gains on the sale of SBA loans, which represented 12% of total revenues. Gains recorded in 1996 and 1995 were $2.2 million and $819 thousand, respectively, and represented 6% of total revenues in 1996 and 3% of total revenues in 1995.

The Bank sells the guaranteed portion of an SBA loan in a mature secondary market for this product. In 1997, the Bank executed its first sale of unguaranteed portions of SBA loans, closing a transaction for $24.8 million of unguaranteed principal balance in December. The Bank recognized a gain of $3.2 million on this sale.

On February 10, 1998 the Bank announced a definitive agreement to merge with Rancho Vista National Bank ("RVNB") in a pooling of interests combination. The proposed transaction is subject to approval by each bank's shareholders and the Bank's principal regulators. Under the terms of the agreement, Bank of Commerce will exchange two shares of common stock for each share of RVNB. The combined entity will retain all of the operations and employees of each bank and continue as Bank of Commerce. The transaction will close in the middle of 1998 contingent on the required approvals.

RVNB is a community bank headquartered in Vista, California. The bank operates three full service branches and had total assets at December 31, 1997 of $123 million. Bank of Commerce has provided data and item processing services to RVNB for several years under a long term contract. The inter-company revenue and expense for these services offset each other and the dissolving of this contract will have no affect to the combined results of operations. Bank of Commerce will issue approximately 2.5 million shares at the close of the transaction.

Certain statements included or incorporated by reference in this Management Discussion and Analysis, including without limitation statements concerning the words "believes," "anticipates," "intends," "expects" and words of similar import, constitute forward-looking statements. Such forward-looking statements involve known and unknown risks, uncertainties and other factors that may cause the actual results, performance or achievements of Bank of Commerce to be materially different from any future results, performance or achievements expressed or implied by such forward-looking statements. Such factors include, among others, the following: general economic conditions in Bank of Commerce's market areas; variances in interest rates; changes in or amendments to regulatory authorities capital requirements or other regulations applicable to Bank of Commerce; increased competition for loans and deposits; and other factors referred to elsewhere in this discussion. Given these uncertainties, the reader is cautioned not to place undue reliance on such forward-looking statements. Bank of Commerce disclaims an obligation to update any such factors or to publicly announce the results of any revisions to any of the forward-looking statements included or incorporated by reference herein to reflect future events or developments.

2. Liquidity

At December 31, 1997, the Bank had $116.4 million in cash and cash equivalents, compared to $54.7 million at December 31, 1996. The Bank also had $2.5 million and $5.9 million in marketable investment securities classified as available for sale at December 31, 1997 and 1996, bringing total short term liquid assets to $118.9 million and $60.6 million at each year end, respectively. This represents 37% and 23% of short term deposits at each balance sheet date. For liquidity management purposes, the Bank considers all deposits that can be withdrawn immediately without early withdrawal penalties to be short term.

The Bank uses cash and cash equivalents, mainly federal funds sold, as the primary funding source for short term liquidity needs. Federal funds sold were $86.6 million and $40.1 million at year end 1997 and 1996, respectively. Cash and due from banks increased from $14.5 million at December 31, 1996 to $29.8 million at December 31, 1997.

At December 31, 1997, the Bank had $46 million in commitments to extend credit, up $15 million from $31 million at December 31, 1996. The Bank defines large deposit concentrations as all deposits controlled by one depositor, in excess of the lesser of, $1.5 million or 2% of total deposits. The Bank's exposure to large deposit concentrations was $98 million, or 19.1% of total deposits, at December 31, 1997. The largest single depositor represented 3.5% of total deposits. At December 31, 1996, the Bank's large deposit concentrations were $7.3 million, or 2.3% of total deposits, with no single depositor exceeding 2% of total deposits.

The Bank's deposit concentrations have increased from year end 1996 through several new commercial accounts and an increase in deposits held for various public entities. At December 31, 1997, $27.4 million in large deposit concentrations were held for public entities, compared to no such public deposit concentrations at December 31, 1996.

Cash and cash equivalents are maintained at levels management considers adequate to provide immediate liquidity for loan commitments and deposit withdrawals. The Bank's cash and cash equivalents at December 31, 1997 are above the levels at year end 1996 due to higher levels of loan applications and commitments, and greater exposure to deposit concentrations.

The Bank has established relationships with deposit brokers and has the ability to raise deposits through these relationships on relatively short notice, if necessary, for liquidity purposes. Access to brokered deposits cannot be guaranteed and can be affected by general economic conditions and the interest rate environment, as well as the Bank's financial condition. At December 31, 1997, the Bank had $2.6 million in brokered deposits, compared to $4.4 million at December 31, 1996. None of the brokered deposits outstanding at December 31, 1997 have a remaining term to maturity exceeding nine months. The average rate on these deposits is approximately equal to the Bank's current offering rate for retail certificates of deposit.

The Bank has short-term credit lines of $12.4 million in place with the Federal Reserve and two other financial institutions. At December 31, 1997, there were no draws on any of these lines and the Bank had no liabilities for borrowed money or other debt outstanding. These credit lines are available to supplement cash and cash equivalents for short term liquidity needs. The continued availability of these credit lines is subject to periodic renewal at the discretion of the financial institutions extending the lines, which in turn is affected primarily by the Bank's financial condition at the time of renewal.

As of December 31, 1997, the Bank had $27.6 million in investment securities classified as held to maturity, and $197 million in readily marketable SBA guaranteed loans. These long term liquid assets, together with the short term assets discussed above, make total liquid assets at the period end $343.6 million, or 67.1% of total deposits and 61.7% of total assets. At December 31, 1996 total short and long term liquid assets were $196 million, representing 56.8% of total deposits and 52.1% of total assets.

The Bank has completed a sale in the emerging secondary markets for the unguaranteed portions of SBA loans. These markets give the Bank the ability to generate liquidity from the sale of unguaranteed SBA loans. As these markets develop further, unguaranteed SBA loans may play a more significant part in the Bank's liquidity policies. The breadth and efficiency of these markets will be affected by actual and perceived changes in SBA programs, and general economic conditions.

The Bank believes its liquidity position is more than adequate to satisfy its expected short and long term cash requirements.

3. Asset/Liability Management

While no single measure can completely identify interest rate risk or the impact of changes in interest rates on net interest income, one gauge of interest rate sensitivity is to measure, over a variety of periods, the differences in the amounts of the Bank's rate sensitive assets and rate sensitive liabilities. These differences, or "gaps," provide an indication of the extent to which net interest income may be affected by future changes in interest rates. A positive gap exists when rate sensitive assets exceed rate sensitive liabilities and indicates that a greater volume of assets than liabilities will reprice during a given period. This mismatch will improve earnings when interest rates are rising, and inhibit earnings when interest rates decline. A negative gap exists when rate sensitive liabilities exceed rate sensitive assets, and indicates a greater volume of liabilities will reprice than assets in a given period. A negative gap will improve earnings in a declining rate environment and inhibit earnings when interest rates are rising.

Even with perfectly matched repricing of assets and liabilities, interest rate risk cannot be avoided entirely. Interest rate risk remains in the form of prepayment risk of assets and liabilities, and risks related to differences in the timing of adjustments to interest rates, and the various indices used for the adjustment of interest rates, for assets and liabilities with adjustable rates.

The Bank is positively gapped in most periods presented in the Contractual Gap Position below. The cumulative one year gap at December 31, 1997 was $47.8 million, or 9.5% of interest earning assets. The Bank's loan portfolio consists primarily of SBA loans with fixed maturity dates and interest rates that adjust either monthly, quarterly, or every five years, based on a spread over the prevailing prime rate. About half of the adjustable rate SBA loans are subject to interest rate ceilings and floors of 5% over or below the initial rate. About 10% of the SBA portfolio is subject to ceilings and floors less than 5% over or below the initial rate. The ceilings and floors place limitations on the absolute gap position presented.

The Bank actively manages its interest rate sensitivity position. This is done by altering the mix of loan and deposit products offered, managing the maturities of the investment securities portfolio, select loan and investment sales, and periodically adjusting deposit rates. Deposit rates currently offered by the Bank follow a relatively flat yield curve that provides only marginal incentive for deposit maturities in excess of one year.

The Bank's positive gap is predominately in the repricing period representing the next three month period. At December 31, 1997, 70% of the Bank's total cumulative gap falls into this repricing period, and 49% falls into the one year repricing period. This compares to 103% and 70% respectively at December 31, 1996. The cumulative gap has lengthened in 1997 from the addition of loans that reprice every five years. The Bank's portfolio of five year adjustable rate loans increased approximately $15 million in 1997.

These loans also use the prevailing prime rate as the repricing index. The Bank's net interest earnings are vulnerable to declining interest rates over the next year.

The following table presents the Bank's contractual gap position at December 31, 1997. Assets and liabilities are presented at their book carrying value.

Contractual Gap Position
(dollars in thousands)

(1) Loan balances include nonaccrual loans of $2,478 at December 31, 1997.

Investment Portfolios - The Bank's investment policy authorizes a broad range of eligible investments that include debt securities of the US Treasury and US government agencies, municipal bonds, corporate bonds, various money market instruments and time certificates of deposit. The current investment portfolio is made up of securities issued by the US Treasury and US Government Agencies.

The Bank accounts for its investment portfolio following Statement of Financial Accounting Standards ("SFAS") No. 115, "Accounting for Certain Investments in Debt and Equity Securities," which requires the investment portfolio to be classified into securities "Available for Sale" and securities "Held to Maturity."

Securities designated as available for sale are eligible to be transacted for liquidity, earnings, or asset/liability management purposes, without any particular accounting consequences under the standard. The Bank's available for sale investment securities were $2.6 million and $5.9 million at December 31, 1997 and 1996.

Securities designated as held to maturity are generally restricted from being transacted without triggering potentially punitive accounting consequences under the standard, except for instances of material deterioration in the issuer's credit strength or tax exempt status, and unfavorable changes in banking regulation or tax law. The Bank's held to maturity portfolio was $27.6 million and $2.8 million at December 31, 1997 and 1996. The Bank designates securities used to collateralize public deposits and lines of credit as held to maturity. This portfolio has increased in 1997 as the bank acquired securities to collateralize new public deposits. Except for one variable rate security maturing in 2019, the latest maturity date in the held to maturity portfolio is February 15, 2000.

The following table presents the maturity distribution of the investment portfolio of debt securities at book value as of December 31, 1997 and 1996.

Investment Portfolio - Maturity Distribution
(dollars in thousands)