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Capitol Bancorp 10-K 2008
form10_k.htm


 
 


 
UNITED STATES
 
SECURITIES AND EXCHANGE COMMISSION
 
 WASHINGTON, D.C. 20549
   
 
 FORM 10-K
   
T
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
 
SECURITIES EXCHANGE ACT OF 1934
   
 
For the fiscal year ended December 31, 2007
   
 
OR
   
£
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:  001-31708

CAPITOL BANCORP LTD.
(Exact name of registrant as specified in its charter)

MICHIGAN
 
38-2761672
(State or other jurisdiction of
 
(IRS Employer
incorporation or organization)
 
Identification Number)
Capitol Bancorp Center
   
200 Washington Square North
   
Lansing, Michigan
 
48933
(Address of principal executive offices)
 
(Zip Code)

517-487-6555
(Registrant's telephone number, including area code)

None
(Former name, former address and former fiscal year, if changed since last report)
 
Securities registered pursuant to Section 12(b) of the Act:
 
Title of each class
 
Name of each exchange on which registered
Common Stock, no par value per share
 
New York Stock Exchange
8.50% Cumulative Trust Preferred Securities,
$10 Liquidation Amount
 
 
New York Stock Exchange
 
Securities registered pursuant to Section 12(g) of the Act:  None

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

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

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


 
 

 

Indicate by check mark 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, a non-accelerated filer or a smaller reporting company (as defined in Rule 12b-2 of the Exchange Act).
Large accelerated filer  o
 
Accelerated filer  x
 
Non-accelerated filer  o
 
Smaller Reporting Company  o
(Do not check if a smaller reporting company)
 
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
Yes  o        No  x

As of June 30, 2007, the aggregate market value of the registrant's common stock held by non-affiliates of the registrant was:  $377,346,977.  (Such amount was computed based on shares held by non-affiliates as of January 31, 2007 and the common stock closing price reported by the New York Stock Exchange on June 30, 2007.  For purposes of this computation, all executive officers, directors and 5% shareholders have been assumed to be affiliates.  Certain of such persons may disclaim that they are affiliates of registrant.)

Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date.

Class
 
Outstanding at February 25, 2008
Common Stock, no par value per share
 
17,319,178 shares


DOCUMENTS INCORPORATED BY REFERENCE

Document
 
Parts Into Which Incorporated
Annual Report to Shareholders for the Year Ended
     December 31, 2007 (Annual Report)
 
 
Parts I, II, and IV
Portions of Proxy Statement for the Annual Meeting of
     Shareholders to be held April 23, 2008 (Proxy Statement)
 
Part III


 
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CAPITOL BANCORP LTD.
Form 10-K
Fiscal Year Ended: December 31, 2007
Cross Reference Sheet

Item of Form 10-K
Part I
Incorporation by Reference From:
Item 1.  Business
Pages F-7 – F-11, F-21 – F-28, F-39 – F-42 and F-56, Financial
Information Section of Annual Report
 
Item 1A.  Risk Factors
Page F-30, Financial Information Section of Annual Report
 
Item 2.  Properties
Pages F-39 – F-40 and F-54, Financial Information Section of Annual
Report
 
Part II
 
Item 5.  Market for Registrant's Common Equity,
Related Stockholder Matters and Issuer
Purchases of Equity Securities
 
Pages F-2 – F-6, F-56 – F-58 and F-64 – F-65 , Financial Information
Section of Annual Report
Item 6.  Selected Financial Data
Page F-2, Financial Information Section of Annual Report
 
Item 7.  Management's Discussion and Analysis of
Financial Condition and Results of
Operations
 
Pages F-7 – F-30, Financial Information Section of Annual Report
 
Item 7A. Quantitative and Qualitative Disclosures
About Market Risk
Pages F-6 and F-25 – F-28, Financial Information Section of
Annual Report
 
Item 8.  Financial Statements and Supplementary
Data
Pages F-2 and F-34 – F-68, Financial Information Section of
Annual Report
 
Item 9A. Controls and Procedures
Pages F-31 – F-33, Financial Information Section of Annual Report
 
Part III
 
Item 10. Directors, Executive Officers and Corporate
Governance
 
Proxy Statement
Item 11. Executive Compensation
Proxy Statement
 
Item 12. Security Ownership of Certain Beneficial
Owners and Management and Related
Stockholder Matters
 
Proxy Statement
Item 13. Certain Relationships and Related
Transactions and Director Independence
 
Proxy Statement
Item 14. Principal Accountant Fees and Services
 
Proxy Statement
 
Part IV
 
Item 15. Exhibits and Financial Statement Schedules
Pages F-31 – F-68, Financial Information Section of Annual Report

Key:
"Annual Report"
means the 2007 Annual Report of Capitol provided to Shareholders and the Commission pursuant to Rule 14a-3(b).  Capitol's 2007 Annual Report is divided into two sections:  a Financial Information Section and a Marketing Section and is filed as Exhibit 13 with this Form 10-K report.

"Proxy Statement"
means the Proxy Statement of Capitol for the Annual Meeting of Shareholders to be held April 23, 2008.

Note:
The page number references herein are based on the paper version of the referenced documents.  Accordingly, those page number references may differ from the electronically filed versions of those documents.

 
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CAPITOL BANCORP LTD.

2007 FORM 10-K ANNUAL REPORT

TABLE OF CONTENTS

 
PART I
 
Page
ITEM  1.   Business
 6
 
ITEM 1A.  Risk Factors
22
 
ITEM 1B.  Unresolved Staff Comments
28
 
ITEM  2.   Properties
28
 
ITEM  3.   Legal Proceedings
29
 
ITEM  4.   Submission of Matters to a Vote of Security Holders
29
 
PART II
 
 
ITEM  5.   Market for Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases
of Equity Securities
 
30
 
ITEM 6.   Selected Financial Data
31
 
ITEM  7.   Management's Discussion and Analysis of Financial Condition and Results of Operations
31
 
ITEM 7A. Quantitative and Qualitative Disclosures About Market Risk
31
 
ITEM  8.   Financial Statements and Supplementary Data
31
 
ITEM  9.   Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
31
 
ITEM 9A. Controls and Procedures
31
 
ITEM 9B. Other Information
32
 
PART III
 
 
ITEM 10.  Directors, Executive Officers and Corporate Governance
33
 
ITEM 11.  Executive Compensation
33
 
ITEM 12.  Security Ownership of Certain Beneficial Owners and Management and Related
Stockholder Matters
 
33
 
ITEM 13.  Certain Relationships and Related Transactions and Director Independence
33
 
ITEM 14.  Principal Accountant Fees and Services
33
 
PART IV
 
 
ITEM 15.  Exhibits and Financial Statement Schedules
34


 
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FORWARD-LOOKING STATEMENTS

Some of the statements contained or incorporated by reference in this annual report on Form 10-K that are not historical facts may constitute forward-looking statements.  Those forward-looking statements, within the meaning of the Private Securities Litigation Reform Act of 1995, are subject to known and unknown risks, uncertainties and other factors which may cause the actual future results, performance or achievements of Capitol and/or its subsidiaries and other operating units to differ materially from those contemplated in such forward-looking statements.  The words "intend," "expect," "project," "estimate," "predict," "anticipate," "should," "will," "may," "believe" and similar expressions also identify forward-looking statements.  Important factors which may cause actual results to differ from those contemplated in such forward-looking statements include, but are not limited to: (i) the results of Capitol's efforts to implement its business strategy, (ii) changes in interest rates, (iii) legislation or regulatory requirements adversely impacting Capitol's banking business and/or expansion strategy, (iv) adverse changes in business conditions or inflation, (v) general economic conditions, either nationally or regionally, which are less favorable than expected and that result in, among other things, a deterioration in credit quality and/or loan performance and collectability, (vi) competitive pressures among financial institutions, (vii) changes in securities markets, (viii) actions of competitors of Capitol's banks and Capitol's ability to respond to such actions, (ix) the cost of capital, which may depend in part on Capitol's asset quality, prospects and outlook, (x) changes in governmental regulation, tax rates and similar matters, (xi) changes in management and (xii) other risks detailed in Capitol's other filings with the Securities and Exchange Commission.  If one or more of these risks or uncertainties materialize, or if underlying assumptions prove incorrect, actual outcomes may vary materially from those indicated.  The preparation of consolidated financial statements in conformity with generally accepted accounting principles in the United States of America requires management to make certain estimates and assumptions, many of which are based on assumptions relating to the above-stated forward-looking statements, that affect the reported amounts of assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenues and expenses during the reporting period.  Actual results will differ from those estimates because of the inherent subjectivity and inaccuracy of any estimation.  All subsequent written or oral forward-looking statements attributable to Capitol or persons acting on its behalf are expressly qualified in their entirety by the foregoing factors.  Investors and other interested parties are cautioned not to place undue reliance on such statements, which speak as of the date of such statements.  Capitol undertakes no obligation to release publicly any revisions to these forward-looking statements to reflect events or circumstances after the date of such statements or to reflect the occurrence of unanticipated events.







[The remainder of this page intentionally left blank]







 
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PART I

Item 1. Business.

a.           General development of business:

Incorporated by reference from Pages F-7 – F-11, Financial Information Section of Annual Report, under the captions "Summary and Overview" and "Capitol's Bank Development Strategy" and Pages F-39 – F-42, Financial Information Section of Annual Report, under the caption "Note A—Nature of Operations, Basis of Presentation and Principles of Consolidation."

b.           Financial information about segments:

Incorporated by reference from Pages F-10 – F-13, Financial Information Section of Annual Report (excerpt from management's discussion and analysis of financial conditions and results of operations) and Pages F-39 – F-42, Financial Information Section of Annual Report, under the caption "Note A—Nature of Operations, Basis of Presentation and Principles of Consolidation."

c.           Narrative description of business:

Incorporated by reference from Pages F-7 – F-11, Financial Information Section of Annual Report, under the caption "Summary and Overview," and "Capitol's Bank Development Strategy," Pages F-39 – F-42, Financial Information Section of Annual Report, under the caption "Note A—Nature of Operations, Basis of Presentation and Principles of Consolidation," Pages F-21 – F-24, Financial Information Section of Annual Report, under the caption "Liquidity, Capital Resources and Capital Adequacy" and Pages F-25 – F-28, Financial Information Section of Annual Report, under the caption "Trends Affecting Operations."

At December 31, 2007, Capitol and its subsidiaries employed approximately 1,611 full time equivalent employees.

In 1997, Capitol formed Capitol Trust I, a Delaware statutory business trust.  Capitol Trust I's business and affairs are conducted by its property trustee, a Delaware trustee, and three individual administrative trustees who are employees and officers of Capitol.  Capitol Trust I exists for the sole purpose of issuing and selling its preferred securities and common securities, using the proceeds from the sale of those securities to acquire subordinated debentures issued by Capitol and certain related services.  During 2001, Capitol formed Capitol Trust II and Capitol Statutory Trust III, in conjunction with private placements of trust-preferred securities.  Capitol Trust IV was similarly formed in 2002, Capitol Trust VI, Capitol Trust VII and Capitol Statutory Trust VIII were formed in 2003, Capitol Trust IX was formed in 2004 and Capitol Trust X and Capitol Trust XI were formed in 2007.  Each of these securities has similar terms.  Additional information regarding trust-preferred securities is incorporated by reference from Page F-56, Financial Information Section of Annual Report, under the caption "Note I—Subordinated Debt."

Supervision and Regulation:

General:
The banking industry is subject to extensive state and federal regulation and continues to undergo significant change.  Proposals to change the laws and regulations governing the banking industry are frequently raised in Congress, in state legislatures and before the various bank regulatory agencies.  The likelihood and timing of any changes and the impact such changes might have on Capitol are impossible to determine with any certainty.  A change in applicable laws or regulations, or a change in the way such laws or regulations are interpreted by regulatory agencies or courts, may have a material impact on the business, operations and earnings of Capitol.  Although Congress in recent years has sought to reduce the regulatory burden on financial institutions with respect to the approval of specific transactions, Capitol

 
- 6 -

 

Item 1. Business – continued.

expects that the financial services industry will remain heavily regulated and that additional laws or regulations may be adopted.  The following discussion summarizes certain aspects of the banking laws and regulations that affect Capitol.  To the extent that the following information describes statutory or regulatory provisions, it is qualified entirely by reference to the particular statutory or regulatory provision.

Capitol is a bank holding company registered with the Board of Governors of the Federal Reserve and is subject to regulation under the Bank Holding Company Act of 1956, as amended (the "Bank Holding Company Act").  The Bank Holding Company Act requires the Federal Reserve Board's prior approval of an acquisition of assets or of ownership or control of voting shares of any bank or bank holding company if the acquisition would give the acquiring institution more than 5% of the voting shares of such bank or bank holding company.  It also imposes restrictions, summarized below, on the assets or voting shares of nonbanking companies that Capitol may acquire.

Consistent with the requirements of the Bank Holding Company Act, Capitol's lines of business provide its customers with banking, trust and other financial services and products.  These services include commercial banking through 60 subsidiary banks (as of December 31, 2007), as well as trust services, mortgage origination and servicing, equipment leasing, brokerage and investment advisory services, property and casualty insurance, brokerage services, life insurance and annuity products, and portfolio management services through subsidiary banks and other subsidiaries.

Under Federal Reserve Board policy, a bank holding company is expected to serve as a source of financial strength to its subsidiary banks and to stand prepared to commit resources to support each of them.  There are no specific quantitative rules on a holding company's potential liability.  If one of Capitol's subsidiary banks were to encounter financial difficulty, the Federal Reserve Board could invoke the doctrine and require a capital contribution from Capitol.  In addition, and as a separate legal matter, a holding company is required to guarantee the capital plan of an undercapitalized subsidiary bank.  See "Capital Adequacy and Prompt Corrective Action" below.

Capitol's subsidiary banks are subject to the provisions of the banking laws of their respective states of organization, the National Bank Act or national thrift regulations.  They are under the supervision of, and are subject to periodic examination by, their respective state banking departments (in the case of state-chartered banks), the Office of the Comptroller of the Currency ("OCC") (in the case of national banks) or the Office of Thrift Supervision (“OTS”) (in the case of federal savings banks) and are subject to the rules and regulations of the OCC, the OTS, the Federal Reserve Board and the Federal Deposit Insurance Corporation ("FDIC").  As of December 31, 2007, 51 of Capitol's banking subsidiaries are state-chartered banks and are therefore subject to supervision, regulation and examination by state banking regulators.  Elkhart Community Bank and Goshen Community Bank were members of the Federal Reserve System until March 2008 so they were subject to supervision and examination by the Federal Reserve Board; as non-member banks they will be regulated similar to other state-chartered banks of Capitol by the FDIC and respective state regulatory agency.  Six of Capitol’s depository institution subsidiaries, as of December 31, 2007, are chartered as federal savings banks and are subject to regulation and examination by the OTS and FDIC.  Additionally, non-bank subsidiaries are supervised and examined by the Federal Reserve Board and various other federal and state agencies.

Capitol's insured depository institution subsidiaries are also subject to cross-guaranty liability under federal law.  This means that if one FDIC-insured depository institution subsidiary of a multi-institution bank holding company fails or requires FDIC assistance, the FDIC may assess "commonly controlled" depository institutions for the estimated losses suffered by the FDIC.  Such liability could have a material adverse effect on the financial condition of any assessed subsidiary institution and on Capitol as the common parent.  While the FDIC's cross-guaranty claim is generally junior to the claims of depositors, holders of secured liabilities, general creditors and subordinated creditors, it is generally superior to the claims of shareholders and affiliates.


 
- 7 -

 

Item 1. Business – continued.

Payment of Dividends:
There are various statutory restrictions on the ability of Capitol's banking subsidiaries to pay dividends or make other payments to Capitol.  Each of the state-chartered banking subsidiaries is subject to dividend limits under the laws of the state in which it is chartered.  In addition, Elkhart Community Bank and Goshen Community Bank were member banks of the Federal Reserve System until March 2008, subject to the dividend limits of the Federal Reserve Board.  Federal Reserve Board policy provides that, as a matter of prudent banking, a bank holding company generally should not maintain a rate of cash dividends unless its net income available to common shareholders has been sufficient to fully fund the dividends, and the prospective rate of earnings retention appears to be consistent with the holding company's capital needs, asset quality and overall financial condition.

Dividends from a national banking association may be declared only from the bank's undivided profits, and until the bank's surplus fund equals its common capital, no dividends may be declared unless at least 10% of the bank's net income for a given time period has been carried to the surplus fund, depending on the frequency of dividend payments in a given year.  The OCC's approval is required if the total of all dividends declared in any calendar year exceeds the sum of the bank's net income of that year combined with its retained net income of the preceding two years.

OTS regulations limit capital distributions by federal savings banks, including the payment of cash dividends.  A federal savings bank must file an application with the OTS for prior approval if a capital distribution in a calendar year will exceed the sum of the institution’s net income for that year to date plus retained net income for the preceding two years or if such distribution would violate prior OTS agreements or OTS-imposed conditions or otherwise raises safety and soundness concerns.

Capital Adequacy and Prompt Corrective Action:
The Federal Deposit Insurance Corporation Improvement Act of 1991 ("FDICIA") requires federal regulators to take prompt corrective action against any undercapitalized institution.  FDICIA establishes five capital categories: well-capitalized, adequately capitalized, undercapitalized, significantly undercapitalized and critically undercapitalized.  "Well capitalized" institutions significantly exceed the required minimum level for each capital measure (currently, risk-based and leverage).  "Adequately capitalized" institutions include depository institutions that meet the required minimum level for each capital measure.  "Undercapitalized" institutions consist of those that fail to meet the required minimum level for one or more relevant capital measures.  "Significantly undercapitalized" characterizes depository institutions with capital levels significantly below the minimum requirements.  "Critically undercapitalized" refers to depository institutions with minimal capital and at serious risk for government seizure.

Under certain circumstances, a well-capitalized, adequately capitalized or undercapitalized institution may be treated as if the institution were in the next lower capital category.  A depository institution is generally prohibited from making capital distributions, including paying dividends, or fees to a holding company if the institution would thereafter be undercapitalized.  Institutions that are adequately but not well capitalized cannot accept, renew or roll over brokered deposits except with a waiver from the FDIC and are subject to restrictions on the interest rates that can be paid on such deposits.  Undercapitalized institutions may not accept, renew or roll over brokered deposits.

The banking regulatory agencies are permitted or, in certain cases, required to take certain actions with respect to institutions falling within one of the three undercapitalized categories.  Depending on the level of an institution's capital, the agencies' corrective powers include, among other things:

· 
prohibiting the payment of principal and interest on subordinated debt;
 
· 
prohibiting the holding company from obtaining distributions from the institution without prior regulatory approval;
 

 
- 8 -

 

Item 1. Business – continued.

· 
placing limits on asset growth and restrictions on activities;
 
· 
placing additional restrictions on transactions with affiliates;
 
· 
restricting the interest rate the institution may pay on deposits;
 
· 
prohibiting the institution from accepting deposits from correspondent banks; and
 
· 
in the most severe cases, appointing a conservator or receiver for the institution.

A banking institution that is undercapitalized is required to submit a capital restoration plan, and such a plan will not be accepted unless, among other things, the banking institution's holding company guarantees the plan up to a certain specified amount.  Any such guarantee from a depository institution's holding company is entitled to a priority of payment in bankruptcy.

FDICIA also contains a variety of other provisions that may affect Capitol's operations, including reporting requirements, regulatory standards for real estate lending, "truth in savings" provisions, and the requirement that a depository institution give 90 days prior notice to customers and regulatory authorities before closing any branch.

At December 31, 2007 and 2006, the most recent notification from the Federal Reserve Board categorized Capitol and all of its depository institution subsidiaries as "well capitalized" under the regulatory framework for prompt corrective action.  Information concerning capital adequacy guidelines for Capitol and its banking subsidiaries including their regulatory capital position at December 31, 2007 is incorporated herein by reference from Note P to the consolidated financial statements appearing in the Annual Report.

FDIC Insurance Assessments:
On November 30, 2006, the FDIC adopted a new rule for calculating deposit insurance based on a risk-weighting.  The new rule took effect on January 1, 2007, and increased the assessment amount for all insured institutions for payments due June 30, 2007 and thereafter.  The new minimum annual assessment rate is 0.05% for a well capitalized bank, while the maximum annual rate is 0.43%.  Also on November 30, 2006, the FDIC issued a one time credit to institutions that were in existence on December 31, 1996 and had paid a deposit insurance assessment prior to that date, or were classified as a "successor" to such an institution.  This credit can be used to partially offset the increased assessment rate.  For assessment periods during 2007, a well capitalized institution could offset up to 100% of the assessment with this credit.  For assessment periods after 2007, this credit can be used to offset up to 90% of the assessment.  The FDIC retains the ability to increase regular insurance assessments and to levy special additional assessments.  After incurring modest amounts of FDIC insurance premiums of $362,000 in 2006 and $375,000 in 2005, the 2007 assessments increased significantly to $2.0 million; the significant increase in FDIC assessments in 2007 is the result of the new insurance premium rate structure adopted by the FDIC in late 2006.

In 2006, the FDIC merged the Bank Insurance Fund ("BIF") and the Savings Association Insurance Fund ("SAIF") into a single fund called the Deposit Insurance Fund. As a result of the merger, the BIF and the SAIF were abolished.  The merger of the BIF and the SAIF into the Deposit Insurance Fund does not affect the authority of the Financing Corporation ("FICO") to impose and collect, with the approval of the FDIC, assessments for anticipated payments, issuance costs and custodial fees on bonds issued by the FICO in the 1980s to recapitalize the Federal Savings and Loan Insurance Corporation.  The bonds issued by the FICO are due to mature in 2017 through 2019.  For the quarter ended December 31, 2007, the annualized FICO assessment was equal to 1.14 basis points for each $100 in domestic deposits maintained at an institution.


 
- 9 -

 

Item 1. Business – continued.

Interstate Banking:
Under the Riegle-Neal Interstate Banking and Branching Efficiency Act of 1994 ("Riegle-Neal Act"), as amended, a bank holding company may acquire banks in states other than its home state, subject to any state requirement that the bank has been organized and operating for a minimum period of time (not to exceed five years) and the requirement that the bank holding company not control, prior to or following the proposed acquisition, more than 10% of the total amount of deposits of insured depository institutions nationwide or, unless the acquisition is the bank holding company's initial entry into the state, more than 30% of such deposits in the state, or such lesser or greater amount set by the state.  The Riegle-Neal Act also authorizes banks to merge across state lines, thereby creating interstate branches.  Banks are also permitted to acquire and to establish de novo branches in other states where authorized under the laws of those states.

Transactions with Affiliates:
Transactions between Capitol's subsidiary banks and their affiliates are governed by Regulation W of the Federal Reserve Act and substantially similar regulations of the FDIC.  The affiliates of the banks include Capitol and any entity controlled by Capitol.  Generally, Regulation W (i) limits the extent to which the subsidiary banks may engage in "covered transactions" with any one affiliate to an amount equal to 10% of such institution's capital stock and surplus, and maintain an aggregate limit on all such transactions with affiliates to an amount equal to 20% of the bank's capital stock and surplus, (ii) require that a bank's extensions of credit to such affiliates be fully collateralized (with 100% to 130% collateral coverage, depending on the type of collateral), (iii) prohibit the bank from purchasing or accepting as collateral from an affiliate any "low quality assets" (including non-performing loans) and (iv) require that all "covered transactions" be on terms substantially the same, or at least as favorable, to the bank or its subsidiary as those provided to a non-affiliate.  The term "covered transaction" includes the making of loans, purchase of assets, issuance of a guarantee and other types of similar transactions.

Loans to Insiders:
The Federal Reserve Act and related regulations impose specific restrictions on loans to directors, executive officers and principal stockholders of banks.  Under Section 22(h) of the Federal Reserve Act and its implementing regulations, loans to a director, an executive officer and to a principal shareholder of a bank, and some affiliated entities of any of the foregoing, may not exceed, together with all other outstanding loans to such person and affiliated entities, the bank's loan-to-one-borrower limit.  Loans in the aggregate to insiders and their related interests as a class may not exceed the bank's unimpaired capital and unimpaired surplus.  Section 22(h) and its implementing regulations also prohibit loans, above amounts prescribed by the appropriate federal banking agency, to directors, executive officers and principal shareholders of a bank or bank holding company, and their respective affiliates, unless such loan is approved in advance by a majority of the board of directors of the bank with any "interested" director not participating in the voting.  Section 22(h) generally requires that loans to directors, executive officers and principal shareholders be made on terms and underwriting standards substantially the same as offered in comparable transactions to other persons.

Community Reinvestment Act:
Under the Community Reinvestment Act ("CRA") and related regulations, depository institutions have an affirmative obligation to assist in meeting the credit needs of their market areas, including low and moderate income areas, consistent with safe and sound banking practice.  The CRA requires the adoption by each institution of a CRA statement for each of its market areas describing the depository institution's efforts to assist in its community's credit needs.  Depository institutions are periodically examined for compliance with CRA and are periodically assigned ratings in this regard.  Banking regulators consider a depository institution's CRA rating when reviewing applications to establish new branches, undertake new lines of business, and/or acquire part or all of another depository institution.  An unsatisfactory rating can significantly delay or even prohibit regulatory approval of a proposed transaction by a bank holding company or its depository institution subsidiary.



 
- 10 -

 

Item 1. Business – continued.

Fair Lending and Consumer Laws:
In addition to the Community Reinvestment Act, other federal and state laws regulate various lending and consumer aspects of the banking business.  Governmental agencies, including the Department of Housing and Urban Development, the Federal Trade Commission and the Department of Justice, have become concerned that in some cases, prospective borrowers experience unlawful discrimination in their efforts to obtain loans from depository and other lending institutions.  These agencies have brought litigation against some depository institutions alleging discrimination against borrowers.  Many of these suits have been settled, in some cases for material sums, short of a full trial.

These governmental agencies have clarified what they consider to be lending discrimination and have specified various factors that they will use to determine the existence of lending discrimination under the Equal Credit Opportunity Act and the Fair Housing Act.  These factors include evidence that a lender discriminated on a prohibited basis, evidence that a lender treated applicants differently based on prohibited factors in the absence of evidence that the treatment was the result of prejudice or a conscious intention to discriminate, and evidence that a lender applied an otherwise neutral non-discriminatory policy uniformly to all applicants, but the practice had a discriminatory effect, unless the practice could be justified as a business necessity.

Banks and other depository institutions also are subject to numerous consumer-oriented laws and regulations.  These laws, which include the Truth in Lending Act, the Truth in Savings Act, the Real Estate Settlement Procedures Act, the Electronic Funds Transfer Act, the Equal Credit Opportunity Act, and the Fair Housing Act, require compliance by depository institutions with various disclosure requirements and requirements regulating the availability of funds after deposit or the making of certain loans to customers.

Gramm-Leach Bliley Act of 1999:
The Gramm-Leach-Bliley Act of 1999 (the "GLBA") was signed into law on November 12, 1999. The GLBA covers a broad range of issues, including a repeal of most of the restrictions on affiliations among depository institutions, securities firms and insurance companies.  The following description summarizes some of its significant provisions.

The GLBA repeals sections 20 and 32 of the Glass-Steagall Act, thus permitting unrestricted affiliations between banks and securities firms.  It also permits bank holding companies to elect to become financial holding companies.  A financial holding company may engage in or acquire companies that engage in a broad range of financial services, including securities activities such as underwriting, dealing, investment, merchant banking, insurance underwriting, sales and brokerage activities.  In order to become a financial holding company, the bank holding company and all of its affiliated depository institutions must be well-capitalized, well-managed and have at least a satisfactory Community Reinvestment Act rating.  Capitol has determined not to become certified as a financial holding company at this time.  Capitol may reconsider this determination in the future.

The GLBA provides that the states continue to have the authority to regulate insurance activities, but prohibits the states in most instances from preventing or significantly interfering with the ability of a bank, directly or through an affiliate, to engage in insurance sales, solicitations or cross-marketing activities.  Although the states generally must regulate bank insurance activities in a nondiscriminatory manner, the states may continue to adopt and enforce rules that specifically regulate bank insurance activities in specific areas identified under the law.  The federal bank regulatory agencies adopted insurance consumer protection regulations that apply to sales practices, solicitations, advertising and disclosures.

The GLBA repeals the broad exemption of banks from the definitions of "broker" and "dealer" for purposes of the Securities Exchange Act of 1934, as amended.  It also identifies a set of specific activities, including traditional bank trust and fiduciary activities, in which a bank may engage without being deemed a "broker," and a set of activities in which a bank may engage without being deemed a "dealer."  Additionally, the law makes conforming changes in the definitions of "broker" and "dealer" for purposes of the Investment Company Act of 1940, as amended, and the Investment Advisers Act of 1940, as amended.

 
- 11 -

 

Item 1. Business – continued.

The GLBA also contains extensive customer privacy protection provisions.  Under these provisions, a financial institution must provide to its customers, both at the inception of the customer relationship and on an annual basis, the institution's policies and procedures regarding the handling of customers' nonpublic personal financial information.  The new law provides that, except for specific limited exceptions, an institution may not provide such personal information to unaffiliated third parties unless the institution discloses to the customer that such information may be so provided and the customer is given the opportunity to "opt out" of such disclosure.  An institution may not disclose to a non-affiliated third party, other than to a consumer reporting agency, customer account numbers or other similar account identifiers for marketing purposes.  The GLBA also provides that the states may adopt customer privacy protections that are more strict than those contained in the GLBA.

Anti-Money Laundering and the USA Patriot Act of 2001:
In 2001, Congress enacted the Uniting and Strengthening America by Providing Appropriate Tools Required to Intercept and Obstruct Terrorism Act of 2001 (the "Patriot Act"). The Patriot Act is designed to deny terrorists and criminals the ability to obtain access to the United States' financial system and has significant implications for depository institutions, brokers, dealers, and other businesses involved in the transfer of money.  The Patriot Act mandates that financial services companies implement policies and procedures with respect to additional measures designed to address the following matters: money laundering, terrorist financing, identifying and reporting suspicious activities and currency transactions and currency crimes.  The Patriot Act also substantially broadened existing anti-money laundering legislation, imposed new compliance and due diligence obligations, created new crimes and penalties and compelled the production of documents located both inside and outside the United States.  The U.S. Treasury Department has issued a number of regulations that apply some of these requirements to financial institutions such as Capitol's banking subsidiaries.  The regulations impose new obligations on financial institutions to maintain appropriate policies, procedures and controls to detect, prevent and report money laundering and terrorist financing.  Pursuant to the Patriot Act and the related regulations, Capitol and its banking subsidiaries have established anti-money laundering compliance and due diligence programs that include, among other things, the designation of a compliance officer, employee training programs and an independent audit function to review and test the program.

Capitol maintains an Internet web site at http://www.capitolbancorp.com that includes links to Capitol's Annual Report on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K and any amendments to those reports (the "SEC Reports").  The SEC Reports are available without charge as soon as reasonably practicable following the time that they are filed with or furnished to the SEC.  Information on Capitol's website is not incorporated into this Form 10-K or Capitol's other securities filings and is not a part of those filings.  The public may read and copy any materials Capitol files with the SEC at the SEC's Public Reference Room at 100 F. Street, NE, Washington, DC 20549.  The public may obtain information on the operation of the Public Reference Room by calling the SEC at 1-800-SEC-0330.  The SEC also maintains an Internet site that contains information regarding issuers that file electronically with the SEC.  That address is http://www.sec.gov.  In addition, Capitol makes available on its website at http://www.capitolbancorp.com under the heading "Governance" its:  (i) Code of Ethics; (ii) Governance Guidelines; and (iii) the charters of Capitol's Board committees, and also intends to disclose any amendments to its Code of Ethics, or waivers of the Code of Ethics on behalf of its Chief Executive Officer and other senior financial officers, on its website.  These corporate governance materials are also available free of charge in print to shareholders who request them in writing to: Capitol Bancorp Ltd., Attention:  Corporate Secretary, Capitol Bancorp Center, 200 Washington Square North, Lansing, Michigan 48933.

The following tables (Tables A to G, inclusive), present certain statistical information regarding Capitol's business.

 
- 12 -

 

DISTRIBUTION OF ASSETS, LIABILITIES AND STOCKHOLDERS' EQUITY (TABLE A)
                   
CAPITOL BANCORP LIMITED
                                         
                                           
                                           
Net interest income, the primary component of earnings, represents the difference between interest income on interest-earning assets and interest expense on interest-
 
bearing liabilities. Net interest income depends upon the volume of interest-earning assets and interest-bearing liabilities and the rates earned or paid on them. This
 
table shows the daily average balances for the major asset and liability categories and the actual related interest income and expense (in $1,000s) and average
 
yield/cost for the years ended December 31, 2007, 2006 and 2005.
               
                                           
   
2007
   
2006
   
2005
 
       
Interest
 
 (1)
       
Interest
 
 (1)
       
Interest
 
 (1)
 
   
Average
 
Income/
 
Average
   
Average
 
Income/
 
Average
   
Average
 
Income/
 
Average
 
   
Balance
 
Expense
 
Yield/Cost
   
Balance
 
Expense
 
Yield/Cost
   
Balance
 
Expense
 
Yield/Cost
 
ASSETS
                                         
 Money market and interest-bearing deposits
  $ 23,912   $ 1,120   4.68 %   $ 33,123   $ 1,403   4.24 %   $ 20,673   $ 635   3.07 %
 Federal funds sold
    205,294     10,687   5.21 %     171,445     8,703   5.08 %     144,536     4,734   3.28 %
 Investment securities -- U.S. Treasury, government
                                         
   agencies, mutual funds and other
    39,330     1,699   4.32 %     42,277     1,806   4.27 %     45,948     1,561   3.40 %
 Loans held for sale
    24,427     2,133   8.73 %     36,306     2,740   7.55 %     33,710     2,627   7.79 %
 Portfolio loans (2)
    3,840,526     314,800   8.20 %     3,236,538     264,701   8.18 %     2,834,973     214,882   7.58 %
        Total interest-earning
                                                     
           assets/interest income
    4,133,489     330,439   7.99 %     3,519,689     279,353   7.94 %     3,079,840     224,439   7.29 %
 Allowance for loan losses (deduct)
    (50,316 )                (44,000               (38,628          
 Cash and due from banks
    153,042                 150,782                 141,271            
 Premises and equipment, net
    56,925                 50,656                 33,063            
 Other assets
    159,855                 119,987                 97,893            
                                                       
                         Total assets
  $ 4,452,995               $ 3,797,114               $ 3,313,439            
                                                       
                                                       
LIABILITIES AND STOCKHOLDERS' EQUITY
                                               
 Interest-bearing deposits:
                                                     
   Savings deposits
  $ 83,632     2,291   2.74 %   $ 59,985     981   1.64 %   $ 71,890     844   1.17 %
   Time deposits under $100,000
    569,773     28,060   4.92 %     429,108     17,983   4.19 %     338,920     10,790   3.18 %
   Time deposits $100,000 and over
    1,031,011     52,828   5.12 %     889,769     38,115   4.28 %     717,851     21,701   3.02 %
   Other interest-bearing deposits
    1,227,480     40,981   3.34 %     1,066,109     31,550   2.96 %     998,165     19,878   1.99 %
 Notes payable and short-term borrowings
    220,996     11,048   5.00 %     173,719     8,169   4.70 %     170,853     6,485   3.80 %
 Subordinated debentures
    143,390     11,954   8.34 %     100,999     8,788   8.70 %     100,892     7,881   7.81 %
        Total interest-bearing
                                                     
           liabilities/interest expense
    3,276,282     147,162   4.49 %     2,719,689     105,586   3.88 %     2,398,571     67,579   2.82 %
 Noninterest-bearing demand deposits
    628,345                 614,529                 564,823            
 Accrued interest on deposits and
                                                     
   other liabilities
    31,640                 25,305                 20,912            
 Minority interests in consolidated subsidiaries
    133,170                 110,060                 59,927            
 Stockholders' equity
    383,558                 327,531                 269,206            
                        Total liabilities and
                                                     
                           stockholders' equity
  $ 4,452,995               $ 3,797,114               $ 3,313,439            
                                                       
Net interest income
        $ 183,277               $ 173,767               $ 156,860      
                                                       
Interest Rate Spread (3)
              3.50 %               4.06 %               4.47 %
                                                       
Net Yield on Interest-Earning Assets (4)
        4.43 %               4.94 %               5.09 %
Ratio of Average Interest-Earning
                                                     
   Assets to Interest-Bearing Liabilities
    1.26                 1.29                 1.28            
                                                       
                                                       
                                                       
(1) Average yield/cost is determined by dividing the actual interest income/expense by the daily average balance of the asset or liability category.
 
(2) Average balance of loans includes nonaccrual loans.
                       
(3) Interest rate spread represents the average yield on interest-earning assets less the average cost of interest-bearing liabilities.
 
(4) Net yield is based on net interest income as a percentage of average total interest-earning assets.
 
 
 
 
 
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CHANGES IN NET INTEREST INCOME (TABLE B)
                             
CAPITOL BANCORP LIMITED
                                 
                                   
                                   
                                   
The table below summarizes the extent to which changes in interest rates and changes in the volume of interest-earning assets and interest-bearing
liabilities have affected Capitol's net interest income (in $1,000s). The change in interest attributable to volume is calculated by multiplying
the annual change in volume by the prior year's rate. The change in interest attributable to rate is calculated by multiplying the annual change
in rate by the prior year's average balance. Any variance attributable jointly to volume and rate changes has been allocated to each category based
on the percentage of each to the total change in both categories.
                       
                                   
   
  2007 compared to 2006
   
  2006 compared to 2005
   
Volume
   
Rate
   
Net Total
   
Volume
   
Rate
   
Net Total
Increase (decrease) in interest income:
                                 
  Money market and interest-bearing deposits
  $ (420 )   $ 137     $ (283 )   $ 471     $ 297     $ 768
  Federal funds sold
    1,757       227       1,984       1,004       2,965       3,969
  Investment securities -- U.S. Treasury, government
                                       
    agencies, mutual funds and other
    (127 )     20       (107 )     (132 )     377       245
  Loans held for sale
    (992 )     385       (607 )     198       (85 )     113
  Portfolio loans
    49,506       593       50,099       31,981       17,838       49,819
Total
    49,724       1,362       51,086       33,522       21,392       54,914
                                               
                                               
Increase (decrease) in interest expense:
                                             
  Interest-bearing deposits:
                                             
    Savings deposits
    483       827       1,310       (156 )     293       137
    Time deposits under $100,000
    6,568       3,509       10,077       3,286       3,907       7,193
    Time deposits $100,000 and over
    6,581       8,132       14,713       5,988       10,426       16,414
    Other interest-bearing deposits
    5,107       4,324       9,431       1,434       10,238       11,672
  Notes payable and short-term borrowings
    2,337       542       2,879       110       1,574       1,684
  Subordinated debentures
    3,548       (382 )     3,166       8       899       907
Total
    24,624       16,952       41,576       10,670       27,337       38,007
Increase (decrease) in net
                                             
  interest income
  $ 25,100     $ (15,590 )   $ 9,510     $ 22,852     $ (5,945 )   $ 16,907
 
 

 
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- 14 -

 
 
INVESTMENT PORTFOLIO (TABLE C)
                             
CAPITOL BANCORP LIMITED
                                 
                                   
                                   
                                   
The table below shows amortized cost and estimated market value of investment securities as of December 31, 2007, 2006 and 2005 (in $1,000s):
                                   
   
2007
   
2006
   
2005
         
Estimated
         
Estimated
         
Estimated
   
Amortized
   
Market
   
Amortized
   
Market
   
Amortized
   
Market
   
Cost
   
Value
   
Cost
   
Value
   
Cost
   
Value
                                   
Available for sale:
                                 
   United States treasury securities
  $ 499     $ 499                        
   United States government agency securities
    8,991       9,025     $ 13,403     $ 13,285     $ 23,276     $ 23,022
   Mortgage-backed securities
    3,402       3,368       4,089       3,991       2,437       2,355
   Municipals
    1,222       1,227       1,630       1,628       1,640       1,631
      14,114       14,119       19,122       18,904       27,353       27,008
Held for long-term investment:
                                             
   Federal Reserve Bank stock
    563       563       864       864       536       536
   Federal Home Loan Bank stock
    18,765       18,765       14,148       14,148       12,960       12,960
   Corporate
    4,204       4,204       4,419       4,419       1,835       1,835
   Other
    1,946       1,946       2,318       2,318       1,335       1,335
      25,478       25,478       21,749       21,749       16,666       16,666
                                               
    $ 39,592     $ 39,597     $ 40,871     $ 40,653     $ 44,019     $ 43,674
 
 
The table below shows the amortized cost, estimated market value, relative maturities and weighted average yields of investment securities at
December 31, 2007 (in $1,000s):

         
Estimated
   
Weighted
 
   
Amortized
 
Market
   
Average
 
   
Cost
   
Value
   
Yield
 
Maturity:
                 
   Due in one year or less
  $ 2,220     $ 2,218       3.96 %
   After one year, through five years
    6,145       6,175       9.25 %
   After five years, through ten years
    2,974       2,975       9.48 %
   After ten years
    2,775       2,751       5.82 %
   Securities held for long-term investment,
         
      without stated maturities
    25,478       25,478          
                         
Total
  39,592     $ 39,597          
 

Investment securities which do not have stated maturities (corporate, Federal Reserve Bank and Federal Home Loan Bank stock) do not have
stated yields or rates of return and such rates of return vary from time to time.
 
Following is a summary of the weighted average maturities of investment securities (exclusive of securities without stated maturities) at
December 31, 2007:

United States treasury securities
0 years     and     1 month
United States government agency securities
3 years     and     6 months
Mortgage-backed securities
2 years     and      3 months
Municipals
3 years     and     10 months

 
 

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- 15 -

 
LOAN PORTFOLIO AND SUMMARY OF OTHER REAL ESTATE OWNED (TABLE D)
                     
CAPITOL BANCORP LIMITED
                                             
                                                   
                                                   
Portfolio loans outstanding as of December 31 are shown below (in $1,000s):
                         
                                                   
                                                   
   
2007
 
2006
 
2005
 
2004
 
2003
Loans secured by real estate:
                                                 
  Commercial
  $ 1,917,113     44.43 %   $ 1,602,743     45.94 %   $ 1,352,338     45.21 %   $ 1,187,648     44.10 %   $ 999,508     44.47 %
  Residential (including multi-family)
    698,960     16.20 %     529,357     15.17 %     501,861     16.78 %     487,048     18.09 %     413,068     18.38 %
  Construction, land development and
                                                               
     other land
    852,595     19.76 %     705,255     20.22 %     579,132     19.36 %     499,166     18.54 %     361,235     16.07 %
Total loans secured by real estate
    3,468,668     80.39 %     2,837,355     81.33 %     2,433,331     81.35 %     2,173,862     80.73 %     1,773,811     78.92 %
Commercial and other business-purpose
                                                         
   loans
    768,473     17.81 %     602,294     17.26 %     512,018     17.12 %     474,781     17.63 %     432,763     19.26 %
Consumer
    48,041     1.11 %     39,957     1.15 %     37,661     1.26 %     32,947     1.22 %     35,117     1.56 %
Other
    29,519     0.69 %     9,072     0.26 %     8,179     0.27 %     11,314     0.42 %     5,749     0.26 %
Total portfolio loans
  $ 4,314,701     100.00 %   $ 3,488,678     100.00 %   $ 2,991,189     100.00 %   $ 2,692,904     100.00 %   $ 2,247,440     100.00 %
 

The table below summarizes (in $1,000s) the remaining maturity of portfolio loans outstanding at December 31, 2007 according to scheduled repayments
of principal:
 
   
Fixed
   
Variable
     
   
Rate
   
Rate
   
Total
Aggregate maturities of portfolio loan balances which are due
  in one year or less:
  $ 524,102     $ 1,039,515     $ 1,563,617
   After one year but within five years
    1,288,211       381,535       1,669,746
   After five years
    221,348       791,905       1,013,253
   Nonaccrual loans
    21,082       47,003       68,085
Total
  $ 2,054,743     $ 2,259,958     $ 4,314,701

 
The following summarizes, in general, Capitol's various loan classifications:
                 
                                         
Loans secured by real estate
                                   
          Commercial
                                       
          Comprised of a broad mix of business use and nonfarm nonresidential properties, including office, retail, warehouse and light industrial uses.
          A typical loan size is generally less than $1,000,000 and, at December 31, 2007, approximately 27% of such properties were owner-occupied.
                                         
          Residential (including multi-family)
                               
          Includes single and multi family residential loans held for permanent portfolio and home equity lines of credit.
                                         
          Construction, land development and other land
                           
          Includes loans made to finance land development for new or existing structures, vacant land and agricultural land.
                                         
Commercial and other business-purpose loans
                               
          Includes a range of loans for sole proprietorships, partnerships, corporations, and other business enterprises and also to individuals for
          commercial, industrial and professional purposes but not for investment or personal expenditure purposes.
   
                                         
Consumer
                                       
          Includes a broad range of installment credit products, secured by automobiles, boats, etc., with typical consumer credit risks.
                                         
Other
                                       
          Includes loans to finance agricultural production, obligations of states and political subdivisions in the US and nonprofit organizations.
                                         
All loans are subject to underwriting procedures commensurate with the loan size, nature of collateral, industry trends, risks and experience factors.
Appropriate collateral is required for most loans, as is documented evidence of debt repayment sources.
                                         
 

 
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LOAN PORTFOLIO AND SUMMARY OF OTHER REAL ESTATE OWNED (TABLE D - CONTINUED)
 
CAPITOL BANCORP LIMITED
                             
                               
The aggregate amount of nonperforming portfolio loans is summarized below as of December 31 (in $1,000s). Nonperforming loans are comprised of
 
(a) loans accounted for on a nonaccrual basis and (b) loans contractually past due 90 days or more as to principal and interest payments (but not included
 
in nonaccrual loans in (a) above) and consist primarily of loans secured by real estate. See Note D of the Notes to Consolidated Financial Statements
 
for additional information regarding nonperforming loans.