Annual Reports

 
Quarterly Reports

  • 10-Q (Nov 14, 2013)
  • 10-Q (May 15, 2013)
  • 10-Q (Nov 14, 2012)
  • 10-Q (Aug 9, 2012)
  • 10-Q (May 3, 2012)
  • 10-Q (Nov 14, 2011)

 
8-K

 
Other

Capitol Bancorp 10-Q 2005

Documents found in this filing:

  1. 10-Q
  2. Ex-31.1
  3. Ex-31.2
  4. Ex-32.1
  5. Ex-32.2
  6. Ex-32.2
e10vq
Table of Contents

 
 
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
     
þ   QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2005
OR
     
o   TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE EXCHANGE ACT
For the transition period from                     to                     
Commission file number 001-31708
CAPITOL BANCORP LTD.
(Exact name of registrant as specified in its charter)
     
Michigan
(State or other jurisdiction
of incorporation or
organization)
  38-2761672
(I.R.S. Employer
Identification
Number)
Capitol Bancorp Center
200 Washington Square North, Lansing, Michigan

(Address of principal executive offices)
48933
(Zip Code)
(517) 487-6555
(Registrant’s telephone number)
Not Applicable
(Former name, former address and former fiscal year, if changed since last report)
     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 a check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Act). Yes þ No o
APPLICABLE ONLY TO CORPORATE ISSUERS:
     Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date:
     Indicate by a check mark whether the registrant is shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o No þ
     Common stock, No par value: 15,231,233 shares outstanding as of October 15, 2005.
 
 

Page 1 of 29


INDEX
PART I. FINANCIAL INFORMATION
Forward-Looking Statements
Certain of the statements contained in this document, including Capitol’s consolidated financial statements, Management’s Discussion and Analysis of Financial Condition and Results of Operations and in documents incorporated into this document by reference that are not historical facts, including, without limitation, statements of future expectations, projections of results of operations and financial condition, statements of future economic performance and other 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,” “believe,” and similar expressions also are intended to 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, and (xi) other risks detailed in Capitol’s other filings with the Securities and Exchange Commission. Should one or more of these risks or uncertainties materialize, or should underlying assumptions prove incorrect, actual outcomes may vary materially from those indicated. 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.
         
    Page  
Item 1. Financial Statements (unaudited):
       
    3  
    4  
    5  
    6  
    7  
    13  
    25  
    25  
 
       
       
 
       
    26  
    26  
    26  
    26  
    26  
    26  
 
       
    28  
 
       
    29  
 Certification of Chief Executive Officer, Joseph D. Reid, pursuant to Section 302
 Certification of Chief Financial Officer, Lee W. Hendrickson, pursuant to Section 302
 Certification of Chief Executive Officer, Joseph D. Reid, pursuant to Section 906
 Certification of Chief Financial Officer, Lee W. Hendrickson, pursuant to Section 906

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Table of Contents

PART I, ITEM I
CAPITOL BANCORP LTD.
Condensed Consolidated Balance Sheets
As of September 30, 2005 and December 31, 2004
                 
    (Unaudited)        
    September 30     December 31  
    2005     2004  
    (in thousands)  
ASSETS
               
 
               
Cash and due from banks
  $ 165,613     $ 123,969  
Money market and interest-bearing deposits
    22,538       10,745  
Federal funds sold
    191,673       96,390  
 
           
Cash and cash equivalents
    379,824       231,104  
Loans held for resale
    33,632       43,143  
Investment securities:
               
Available for sale, carried at market value
    29,177       28,172  
Held for long-term investment, carried at amortized cost which approximates market value
    16,422       14,191  
 
           
Total investment securities
    45,599       42,363  
Portfolio loans:
               
Commercial
    2,590,153       2,444,492  
Real estate mortgage
    216,288       177,204  
Installment
    82,125       71,208  
 
           
Total portfolio loans
    2,888,566       2,692,904  
Less allowance for loan losses
    (39,284 )     (37,572 )
 
           
Net portfolio loans
    2,849,282       2,655,332  
Premises and equipment
    33,257       32,661  
Accrued interest income
    12,043       10,447  
Goodwill and other intangibles
    44,928       41,943  
Other assets
    47,764       34,425  
 
           
 
               
TOTAL ASSETS
  $ 3,446,329     $ 3,091,418  
 
           
 
               
LIABILITIES AND STOCKHOLDERS’ EQUITY
               
 
               
Deposits:
               
Noninterest-bearing
  $ 622,897     $ 503,902  
Interest-bearing
    2,176,546       2,006,170  
 
           
Total deposits
    2,799,443       2,510,072  
Debt obligations:
               
Notes payable and short-term borrowings
    173,823       172,534  
Subordinated debentures
    100,916       100,845  
 
           
Total debt obligations
    274,739       273,379  
Accrued interest on deposits and other liabilities
    21,778       16,288  
 
           
Total liabilities
    3,095,960       2,799,739  
 
               
MINORITY INTERESTS IN CONSOLIDATED SUBSIDIARIES
    70,135       39,520  
 
               
STOCKHOLDERS’ EQUITY:
               
Common stock, no par value, 50,000,000 shares authorized;
               
issued and outstanding: 2005 - 15,223,775 shares
               
                 2004 - 14,828,750 shares
    205,628       196,271  
Retained earnings
    78,428       60,476  
Market value adjustment (net of tax effect) for investment securities available for sale (accumulated other comprehensive income)
    (185 )     (36 )
 
           
 
    283,871       256,711  
Less unearned compensation regarding restricted stock and other
    (3,637 )     (4,552 )
 
           
Total stockholders’ equity
    280,234       252,159  
 
           
 
               
TOTAL LIABILITIES AND STOCKHOLDERS’ EQUITY
  $ 3,446,329     $ 3,091,418  
 
           

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CAPITOL BANCORP LIMITED
Condensed Consolidated Statements of Income (Unaudited)
For the Three Months and Nine Months Ended September 30, 2005 and 2004
(in thousands, except per share data)
                                 
    Periods Ended September 30  
    Three Month Period     Nine Month Period  
    2005     2004     2005     2004  
Interest income:
                               
Portfolio loans (including fees)
  $ 55,886     $ 44,492     $ 156,470     $ 126,560  
Loans held for resale
    741       504       2,014       1,529  
Taxable investment securities
    222       275       741       1,071  
Federal funds sold
    1,506       407       3,059       1,053  
Other
    300       199       783       547  
 
                       
Total interest income
    58,655       45,877       163,067       130,760  
Interest expense:
                               
Deposits
    14,188       9,176       37,231       26,891  
Debt obligations and other
    3,626       2,767       10,600       7,757  
 
                       
Total interest expense
    17,814       11,943       47,831       34,648  
 
                       
Net interest income
    40,841       33,934       115,236       96,112  
Provision for loan losses
    2,107       3,553       7,169       9,597  
 
                       
Net interest income after provision for loan losses
    38,734       30,381       108,067       86,515  
Noninterest income:
                               
Service charges on deposit accounts
    1,062       1,091       3,115       3,336  
Trust fee income
    526       796       1,654       2,535  
Fees from origination of non-portfolio residential mortgage loans
    1,820       1,314       4,590       4,211  
Realized gains (losses) on sale of investment securities available for sale
    6       (191 )     8       (424 )
Other
    1,524       1,531       5,768       4,777  
 
                       
Total noninterest income
    4,938       4,541       15,135       14,435  
Noninterest expense:
                               
Salaries and employee benefits
    19,416       14,493       54,768       46,082  
Occupancy
    2,483       2,173       7,170       6,428  
Equipment rent, depreciation and maintenance
    1,571       1,325       4,593       4,266  
Other
    6,844       5,778       18,952       14,917  
 
                       
Total noninterest expense
    30,314       23,769       85,483       71,693  
 
                       
Income before income taxes and minority interest
    13,358       11,153       37,719       29,257  
Income taxes
    5,195       4,274       14,518       11,301  
 
                       
Income before minority interest
    8,163       6,879       23,201       17,956  
Minority interest in net losses of consolidated subsidiaries
    1,431       560       2,705       810  
 
                       
 
                               
NET INCOME
  $ 9,594     $ 7,439     $ 25,906     $ 18,766  
 
                       
 
                               
NET INCOME PER SHARE
                               
Basic
  $ 0.64     $ 0.52     $ 1.75     $ 1.33  
 
                       
 
                               
Diluted
  $ 0.61     $ 0.50     $ 1.67     $ 1.27  
 
                       

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CAPITOL BANCORP LIMITED
Condensed Consolidated Statements of Changes in Stockholders’ Equity (Unaudited)
For the Nine Months Ended September 30, 2005 and 2004
(in thousands except share data)
                                         
                            Unearned        
                    Accumulated     Compensation        
                    Other     Regarding        
    Common     Retained     Comprehensive     Restricted Stock        
    Stock     Earnings     Income     and Other     Total  
Nine Months Ended September 30, 2004
                                       
 
                                       
Balances at January 1, 2004
  $ 180,957     $ 43,135     $ (200 )   $ (4,995 )   $ 218,897  
 
                                       
Issuance of 183,349 shares of common stock in conjunction with acquisition of bank
    4,970                               4,970  
 
                                       
Issuance of 346,947 shares of common stock to acquire minority interest in subsidiaries
    8,665                               8,665  
 
                                       
Issuance of 167,550 shares of common stock upon exercise of stock options, net of common stock surrendered to facilitate exercise
    356                               356  
 
                                       
Issuance of 13,063 shares of restricted common stock
    377                       (377 )     0  
 
                                       
Recognition of compensation expense relating to restricted common stock
                            968       968  
 
                                       
Cash dividends paid ($0.48 per share)
            (6,863 )                     (6,863 )
 
                                       
Components of comprehensive income:
                                       
Net income for the period
            18,766                       18,766  
Market value adjustment for investment securities available for sale (net of income tax effect)
                    251               251  
 
                                     
     Comprehensive income for the period
                                    19,017  
 
                             
 
                                       
BALANCES AT SEPTEMBER 30, 2004
  $ 195,325     $ 55,038     $ 51     $ (4,404 )   $ 246,010  
 
                             
 
                                       
Nine Months Ended September 30, 2005
                                       
 
                                       
Balances at January 1, 2005
  $ 196,271     $ 60,476     $ (36 )   $ (4,552 )   $ 252,159  
 
                                       
Issuance of 201,731 shares of common stock to acquire portion of minority interest in subsidiary
    6,377                               6,377  
 
                                       
Issuance of 193,294 shares of common stock upon exercise of stock options, net of common stock surrendered to facilitate exercise
    2,980                               2,980  
 
                                       
Recognition of compensation expense relating to restricted common stock
                            915       915  
 
                                       
Cash dividends paid ($0.53 per share)
            (7,954 )                     (7,954 )
 
                                       
Components of comprehensive income:
                                       
Net income for the period
            25,906                       25,906  
Market value adjustment for investment securities available for sale (net of income tax effect)
                    (149 )             (149 )
 
                                     
Comprehensive income for the period
                                    25,757  
 
                             
 
                                       
BALANCES AT SEPTEMBER 30, 2005
  $ 205,628     $ 78,428     $ (185 )   $ (3,637 )   $ 280,234  
 
                             
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CAPITOL BANCORP LTD.
Condensed Consolidated Statements of Cash Flows (Unaudited)
For the Nine Months Ended September 30, 2005 and 2004
                 
    2005     2004  
    (in thousands)  
OPERATING ACTIVITIES
               
Net income
  $ 25,906     $ 18,766  
Adjustments to reconcile net income to net cash provided by operating activities:
               
Provision for loan losses
    7,169       9,597  
Depreciation of premises and equipment
    4,179       3,520  
Amortization of intangibles
    431       410  
Net amortization of investment security premiums
    63       19  
Loss on sale of premises and equipment
    14       1  
Minority interest in net losses of consolidated subsidiaries
    (2,705 )     (810 )
Compensation expense relating to restricted common stock
    915       968  
Originations and purchases of loans held for resale
    (500,957 )     (558,147 )
Proceeds from sales of loans held for resale
    510,468       565,950  
Increase in accrued interest income and other assets
    (17,568 )     (6,526 )
Increase in accrued interest expense on deposits and other liabilities
    5,490       835  
 
           
 
               
NET CASH PROVIDED BY OPERATING ACTIVITIES
    33,405       34,583  
 
               
INVESTING ACTIVITIES
               
Cash and cash equivalents of acquired subsidiary
    1,357       4,202  
Proceeds from sale of investment securities available for sale
    1,757       68,302  
Proceeds from calls, prepayments and maturities of investment securities
    6,279       5,098  
Purchases of investment securities
    (11,561 )     (18,451 )
Net increase in portfolio loans
    (201,119 )     (316,590 )
Proceeds from sales of premises and equipment
    83       22  
Purchases of premises and equipment
    (4,872 )     (8,846 )
 
           
 
               
NET CASH USED BY INVESTING ACTIVITIES
    (208,076 )     (266,263 )
 
               
FINANCING ACTIVITIES
               
Net increase in demand deposits, NOW accounts and savings accounts
    146,955       172,176  
Net increase in certificates of deposit
    142,416       2,722  
Net borrowings from debt obligations
    1,289       43,322  
Net proceeds from issuance of subordinated debentures
          9,935  
Resources provided by minority interests
    37,705       14,761  
Net proceeds from issuance of common stock
    2,980       356  
Cash dividends paid
    (7,954 )     (6,863 )
 
           
 
               
NET CASH PROVIDED BY FINANCING ACTIVITIES
    323,391       236,409  
 
           
 
               
INCREASE IN CASH AND CASH EQUIVALENTS
    148,720       4,729  
 
               
Cash and cash equivalents at beginning of period
    231,104       283,623  
 
           
 
               
CASH AND CASH EQUIVALENTS AT END OF PERIOD
  $ 379,824     $ 288,352  
 
           
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NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
CAPITOL BANCORP LTD.
Note A — Basis of Presentation
     The accompanying unaudited condensed consolidated financial statements of Capitol Bancorp Ltd. (“Capitol”) have been prepared in accordance with generally accepted accounting principles for interim financial information and with the instructions for Form 10-Q. Accordingly, they do not include all information and footnotes necessary for a fair presentation of consolidated financial position, results of operations and cash flows in conformity with generally accepted accounting principles.
     The statements do, however, include all adjustments of a normal recurring nature (in accordance with Rule 10-01(b)(8) of Regulation S-X) which Capitol considers necessary for a fair presentation of the interim periods.
     The results of operations for the period ended September 30, 2005 are not necessarily indicative of the results to be expected for the year ending December 31, 2005.
     The consolidated balance sheet as of December 31, 2004 was derived from audited consolidated financial statements as of that date. Certain 2004 amounts have been reclassified to conform to the 2005 presentation.
Note B — Implementation of New Accounting Standard
     AICPA Statement of Position 03-3, Accounting for Certain Loans or Debt Securities Acquired in a Transfer (SOP 03-3), addresses the accounting for differences between contractual cash flows and cash flows expected to be collected from the initial investment in loans acquired in a transfer if those differences are attributable, at least in part, to credit quality. It includes such loans acquired in purchase business combinations and does not apply to loans originated by the entity. The SOP prohibits carrying over or creation of valuation allowances in the initial accounting for loans acquired in a transfer. It is effective for loans acquired in fiscal years beginning after December 15, 2004. This new guidance had no significant effect on Capitol’s consolidated financial statements upon implementation.
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NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
CAPITOL BANCORP LTD. — Continued
Note C — Stock Options
     Statement of Financial Accounting Standards No. 123, Accounting for Stock-Based Compensation, establishes an alternative fair value method of accounting for stock options whereby compensation expense would be recognized based on the computed fair value of the options on the grant date. By not electing this alternative, certain pro forma disclosures of the expense recognition provisions of Statement No. 123 are required, which are as follows:
                                 
    Periods Ended September 30  
    Three Month Period     Nine Month Period  
    2005     2004     2005     2004  
Fair value assumptions:
                               
Risk-free interest rate
            3.9 %     4.1 %     3.8 %
Dividend yield
            2.5 %     2.2 %     2.3 %
Stock price volatility
            .22       .27       .26  
Expected option life
          7 years   7 years   6.5 years
Aggregate estimated fair value of options granted (in thousands)
  $     $ 1,074     $ 4,781     $ 4,275  
 
                       
Net income (in thousands):
                               
As reported
  $ 9,594     $ 7,439     $ 25,906     $ 18,766  
Less pro forma compensation expense regarding fair value of stock option awards, net of related income tax effect
          (698 )     (3,108 )     (2,779 )
 
                       
Pro forma
  $ 9,594     $ 6,741     $ 22,798     $ 15,987  
 
                       
Net income per share:
                               
Basic:
                               
As reported
  $ 0.64     $ 0.52     $ 1.75     $ 1.33  
Pro forma
    0.64       0.47       1.54       1.14  
Diluted:
                               
As reported
    0.61       0.50       1.67       1.27  
Pro forma
  $ 0.61     $ 0.45     $ 1.47     $ 1.08  
     Stock option activity for the interim 2005 period is summarized as follows:
                         
                    Weighted  
    Number of     Exercise     Average  
    Stock Options     Price     Exercise  
    Outstanding     Range     Price  
Outstanding at January 1
    2,584,139     $ 10.81 to $33.01     $ 21.06  
Exercised
    (312,042 )     11.00 to 30.21       16.51  
Granted
    533,327       30.21 to 34.84       31.60  
Cancelled or expired
    (41,337 )     23.24 to 29.10          
 
                 
 
                       
Outstanding at September 30
    2,764,087     $ 10.81 to $34.84     $ 23.57  
 
                     

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NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
CAPITOL BANCORP LTD. — Continued
Note C — Stock Options – Continued
     As of September 30, 2005, stock options outstanding had a weighted average remaining contractual life of 4.3 years. The following table summarizes stock options outstanding segregated by exercise price range:
                         
            Weighted Average  
                    Remaining  
Exercise Price   Number     Exercise     Contractual  
Range   Outstanding     Price     Life  
$10.00 to 14.99
    304,441     $ 11.34     1.8 years
$15.00 to 19.99
    531,784       16.67     3.3 years
$20.00 to 24.99
    498,056       21.72     4.3 years
$25.00 to 29.99
    738,703       27.03     4.6 years
$30.00 or more
    691,103     $ 31.92     6.0 years
 
                     
 
                       
Total outstanding
    2,764,087                  
 
                     
Note D — Net Income Per Share
     The computations of basic and diluted earnings per share were as follows:
                                 
    Periods Ended September 30  
    Three Month Period     Nine Month Period  
    2005     2004     2005     2004  
Numerator—net income for the period
  $ 9,594,000     $ 7,439,000     $ 25,906,000     $ 18,766,000  
 
                       
 
                               
Denominator:
                               
Weighted average number of common shares outstanding, excluding unvested shares of restricted common stock (denominator for basic earnings per share)
    14,939,912       14,311,842       14,776,778       14,069,446  
Weighted average number of unvested shares of restricted common stock outstanding
    201,990       259,300       208,384       263,869  
Effect of other dilutive securities (stock options)
    537,597       422,391       485,855       426,651  
 
                       
 
                               
Denominator for diluted net income per share—
                               
Weighted average number of common shares and potential dilution
    15,679,499       14,993,533       15,471,017       14,759,966  
 
                       
 
                               
Number of antidilutive stock options excluded from diluted earnings per share computation
                       
 
                       

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NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
CAPITOL BANCORP LTD. — Continued
Note E — New Banks and Bank Development Activities
     Bank of Michigan, located in Farmington Hills, Michigan, opened in January 2005. During June 2005, the following banks opened: Bank of Bellevue, located in Bellevue, Washington, and Fort Collins Commerce Bank, located in Fort Collins, Colorado. In early July 2005, Bank of Auburn Hills opened in Auburn Hills, Michigan. In early August 2005, Bank of San Francisco opened in San Francisco, California. These banks are majority-owned by Capitol or bank-development subsidiaries controlled by Capitol.
     In 2005, Capitol Development Bancorp Limited III was capitalized as a controlled subsidiary of Capitol, with approximately $16 million (including approximately $15 million provided by minority interests) to fund future bank development activity.
     Bank development efforts were in process at September 30, 2005 in several states pending approvals from regulatory agencies, including pre-development exploratory discussions, lease and employment negotiations and preparation of preliminary regulatory applications for formation and/or acquisition of community banks. At September 30, 2005, Capitol had applications pending for additional de novo community banks in Arizona, California, Georgia, Illinois, Missouri and North Carolina.
Note F — Share Exchange Transaction
     A share exchange offer transaction regarding Napa Community Bank was completed effective August 31, 2005. Shares acquired from the Bank’s shareholders accepting Capitol’s exchange offer were exchanged for Capitol’s common stock according to an exchange ratio. In total, Capitol issued approximately 202,000 shares of previously unissued common stock resulting from this transaction (for consideration approximating $6.4 million), increasing Capitol’s ownership of Napa Community Bank to approximately 87%. This acquisition of minority interests was recorded using the purchase-method of accounting. The pro forma effect of this transaction was not significant.
Note G — Acquisition of Bank
     In April 2005, Capitol acquired a majority interest in Peoples State Bank (“Peoples”) located in Jeffersonville, Georgia, in a purchase transaction with total consideration approximating $2.2 million. Peoples’ total assets approximated $22.9 million at the acquisition date, including $1.2 million of goodwill relating to the purchase of the controlling interest in the bank by Capitol. Capitol’s acquisition of Peoples was accounted for under the purchase method of accounting and its results of operations are included in Capitol’s consolidated financial statements for periods after the effective date of the acquisition. The pro forma effect of this acquisition was not significant.

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NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
CAPITOL BANCORP LTD. — Continued
Note H — Impact of New Accounting Standards
     In December 2004, the Financial Accounting Standards Board (“FASB”) issued a revision of Statement No. 123. Statement No. 123(R), Share-Based Payment, is broader in scope than the original statement, which was more narrowly focused on stock-based compensation, and makes significant changes to accounting for “payments” involving employee compensation and “shares” or securities, in the form of stock options, restricted stock or other arrangements settled in the reporting entity’s securities. Most significant in the standard is the requirement that all stock options be measured at estimated fair value at the grant date and recorded as compensation expense over the requisite service period associated with the option, usually the vesting period. The revised standard was to become effective for interim periods beginning after June 30, 2005 and be applied prospectively to stock options granted after the effective date and any unvested stock options at that date; however, the SEC superseded the FASB’s implementation timetable in April 2005, changing the effective date to the beginning of 2006 for calendar-year public companies.
     Although Capitol’s management has not completed its analysis of the revised standard, the effect of the revised standard’s implementation will be recognition of compensation expense associated with stock options. Previously, Capitol has used the intrinsic-value method which did not result in expense recognition but, instead, required pro forma presentation of what compensation expense would have been recorded if the fair-value measurement and expense recognition provisions had been applied. Effective December 31, 2004, Capitol accelerated the vesting of all of its outstanding stock options in anticipation of implementation of Statement No. 123(R). Such acceleration of vesting, to make all such stock options vested as of December 31, 2004, was done for the purpose of avoiding future expense associated with any unvested stock options granted prior to the effective date of Statement No. 123(R). All stock options granted during the interim periods of 2005 vested at the grant date. As mentioned above, the current accounting standard in effect prior to the effective date of Statement No. 123(R) requires disclosure of what pro forma compensation expense would have been if stock options granted had been recorded at fair value using measurement techniques which are similar to those prescribed in Statement No. 123(R); such disclosures appear in Note C. That presentation should not be viewed as an estimate of future expense levels inasmuch as it is based on stock options granted in the periods presented which may differ significantly from future granting activity, assumptions used and the structure of share-based payment awards.
     FASB’s Emerging Issues Task Force (“EITF”), reached consensus on “The Meaning of Other-Than-Temporary and Its Application to Certain Investments” in EITF Issue No. 03-1. The guidance included in the EITF consensus largely consisted of expanded disclosures and the guidance was intended to be fully effective in 2003, except for loss-recognition guidance which had a delayed effective date into 2004. In 2004, the FASB has further delayed the loss recognition provisions of Issue No. 03-1. In June 2005, the FASB announced plans to supersede the EITF guidance with a revised standard in late 2005. Because of the inconclusive status of the guidance on the loss recognition aspects of Issue No. 03-1, Capitol’s management is unable to speculate on the potential impact of this matter on Capitol’s consolidated financial statements.

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NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
CAPITOL BANCORP LTD. — Continued
Note H — Impact of New Accounting Standards — Continued
     Most recently, the FASB has issued several proposals to amend, supersede or interpret existing accounting standards which may impact Capitol’s financial statements at a later date:
    Proposed amendment to Statement No. 128, Earnings per Share.
 
    Proposed amendments to Statement No. 140, Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities.
 
    Proposed interpretation regarding Uncertain Tax Positions.
 
    Proposed replacement of Statement No. 141 regarding Business Combinations.
 
    Proposed replacement of Accounting Research Bulletin No. 51 regarding Consolidated Financial Statements, Including Accounting and Reporting for Noncontrolling Interests.
     Due to the uncertain future status of these proposals, Capitol’s management is unable to estimate their potential impact on Capitol’s consolidated financial statements.
     A variety of other proposed or otherwise potential accounting standards are currently under study by standard-setting organizations and various regulatory agencies. Because of the tentative and preliminary nature of these proposed standards, management has not determined whether implementation of such proposed standards would be material to Capitol’s consolidated financial statements.
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PART I, ITEM 2
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
Financial Condition
     Total assets approximated $3.4 billion at September 30, 2005, an increase of $355 million from the December 31, 2004 level of $3.1 billion. The balance sheet includes Capitol and its consolidated subsidiaries:
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    Total Assets (in $1,000’s)  
    Sept 30, 2005     Dec 31, 2004  
Eastern Regions:
               
Great Lakes Region:
               
Ann Arbor Commerce Bank
  $ 328,524     $ 330,488  
Bank of Auburn Hills(5)
    9,259       n/a  
Bank of Michigan(1)
    17,161       n/a  
Brighton Commerce Bank
    102,264       105,890  
Capitol National Bank
    244,760       228,656  
Detroit Commerce Bank
    82,418       70,036  
Elkhart Community Bank
    78,946       67,099  
Goshen Community Bank
    63,290       54,571  
Grand Haven Bank
    120,678       119,254  
Kent Commerce Bank
    85,120       89,393  
Macomb Community Bank
    88,363       94,847  
Muskegon Commerce Bank
    98,001       94,162  
Oakland Commerce Bank
    123,321       130,779  
Paragon Bank & Trust
    111,297       110,128  
Portage Commerce Bank
    188,082       180,817  
 
           
Great Lakes Region Total
    1,741,484       1,676,120  
Southeast Region:
               
First Carolina State Bank
    77,968       68,598  
Peoples State Bank(2)
    28,711       n/a  
 
           
Southeast Region Total
    106,679       68,598  
 
           
Eastern Regions Total
    1,848,163       1,744,718  
Western Regions:
               
Southwest Region:
               
Arrowhead Community Bank
    81,549       70,989  
Bank of Las Vegas
    75,162       47,538  
Bank of Tucson
    193,813       168,469  
Black Mountain Community Bank
    122,606       100,415  
Camelback Community Bank
    87,250       83,414  
Desert Community Bank
    81,141       63,276  
East Valley Community Bank
    45,881       46,549  
Fort Collins Commerce Bank(3)
    18,571       n/a  
Mesa Bank
    124,181       96,158  
Red Rock Community Bank
    116,688       102,832  
Southern Arizona Community Bank
    91,409       83,140  
Sunrise Bank of Albuquerque
    67,868       69,055  
Sunrise Bank of Arizona
    114,346       128,192  
Valley First Community Bank
    75,378       54,857  
Yuma Community Bank
    58,868       59,355  
 
           
Southwest Region Total
    1,354,711       1,174,239  
California Region:
               
Bank of Escondido
    67,757       50,956  
Bank of San Francisco(6)
    12,650       n/a  
Napa Community Bank
    78,680       79,396  
Point Loma Community Bank
    35,142       20,857  
Sunrise Bank of San Diego
    64,856       62,672  
 
           
California Region Total
    259,085       213,881  
Northwest Region — Bank of Bellevue(4)
    13,568       n/a  
 
           
Western Regions Total
    1,627,364       1,388,120  
Other, net
    (29,198 )     (41,420 )
 
           
Consolidated
  $ 3,446,329     $ 3,091,418  
 
           
 
n/a — Not applicable.
 
(1)   Commenced operations in January 2005 and is 51%-owned by Capitol Development Bancorp Limited I, a controlled subsidiary of Capitol.
 
(2)   Acquired in April 2005 and is 62%-owned by Capitol.
 
(3)   Commenced operations in June 2005 and is 51%-owned by Capitol Bancorp Colorado Limited, a wholly-owned subsidiary of Capitol.
 
(4)   Commenced operations in June 2005 and is 51%-owned by Capitol Development Bancorp Limited II, a controlled subsidiary of Capitol.
 
(5)   Commenced operations in July 2005 and is 51%-owned by Capitol Development Bancorp Limited II, a controlled subsidiary of Capitol.
 
(6)   Commenced operations in August 2005 and is 51%-owned by Capitol.

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     Portfolio loans increased during the nine-month 2005 period by approximately $196 million, compared to net loan growth of about $361 million during the corresponding period of 2004. Year-to-date loan growth includes the acquisition of Peoples State Bank, effective April 1, 2005, which had portfolio loans totaling approximately $13 million at the acquisition date. Loan growth in the first quarter of 2005 approximated $67 million ($100 million in 2004). Second and third quarter 2005 loan growth approximated $84 million and $45 million, respectively, compared to $113 million and $97 million in 2004. 2005 loan growth for the nine-month period has been lower than 2004 levels due to softening loan demand. The majority of portfolio loan growth occurred in commercial loans, consistent with the banks’ emphasis on commercial lending activities.
     The allowance for loan losses at September 30, 2005 approximated $39 million or 1.36% of total portfolio loans, which was slightly lower than the mid-year level of 1.37% and year-end 2004 ratio of 1.40%. The interim 2005 decrease in the allowance ratio is consistent with improvements in asset quality during the period.
     The allowance for loan losses is maintained at a level believed adequate by management to absorb potential losses inherent in the loan portfolio at the balance sheet date. Management’s determination of the adequacy of the allowance is based on evaluation of the portfolio (including potential impairment of individual loans and concentrations of credit), past loss experience, current economic conditions, volume, amount and composition of the loan portfolio and other factors. The allowance is increased by provisions charged to operations and reduced by net charge-offs. The table below summarizes portfolio loan balances and activity in the allowance for loan losses for the interim periods (in thousands):
                                 
    Periods Ended September 30  
    Three Month Period     Nine Month Period  
    2005     2004     2005     2004  
Allowance for loan losses at beginning of period
  $ 38,870     $ 35,137     $ 37,572     $ 31,404  
 
                               
Allowance for loan losses of acquired bank subsidiary
                      724  
 
                               
Loans charged-off:
                               
Commercial
    (2,304 )     (1,673 )     (6,541 )     (5,142 )
Real estate mortgage
          (17 )           (116 )
Installment
    (129 )     (108 )     (440 )     (248 )
 
                       
Total charge-offs
    (2,433 )     (1,798 )     (6,981 )     (5,506 )
 
                               
Recoveries:
                               
Commercial
    709       129       1,426       761  
Real estate mortgage
    1             2       10  
Installment
    30       6       96       37  
 
                       
Total recoveries
    740       135       1,524       808  
 
                       
Net charge-offs
    (1,693 )     (1,663 )     (5,457 )     (4,698 )
Additions to allowance charged to expense
    2,107       3,553       7,169       9,597  
 
                       
 
                               
Allowance for loan losses at September 30
  $ 39,284     $ 37,027     $ 39,284     $ 37,027  
 
                       
Average total portfolio loans for the period
  $ 2,868,354     $ 2,566,005     $ 2,804,285     $ 2,437,698  
 
                       
Ratio of net charge-offs (annualized) to average portfolio loans outstanding
    0.24 %     0.26 %     0.26 %     0.26 %
 
                       
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     Net charge-offs of loans in the nine-month 2005 period increased by approximately $759,000, compared to the corresponding 2004 period. The increase was mainly due to charge-offs associated with commercial loans ($1.4 million), while the amount of recoveries increased $716,000 during the 2005 period.
     The amounts of the allowance for loan losses allocated in the following table (in thousands) are based on management’s estimate of losses inherent in the portfolio at the balance-sheet date, include all loans for which, based on Capitol’s loan rating system, management has concerns, and should not be interpreted as an indication of future charge-offs.
                                 
    September 30, 2005   December 31, 2004
            Percentage           Percentage
            of Total           of Total
            Portfolio           Portfolio
    Amount   Loans   Amount   Loans
Commercial
  $ 36,420       1.26 %   $ 34,753       1.29 %
Real estate mortgage
    1,701       0.06       1,808       0.07  
Installment
    1,163       0.04       1,011       0.04  
 
                               
 
                               
Total allowance for loan losses
  $ 39,284       1.36 %   $ 37,572       1.40 %
 
                               
 
                               
Total portfolio loans outstanding
  $ 2,888,566             $ 2,692,904          
 
                               
     Nonperforming loans (i.e., loans which are 90 days or more past due and loans on nonaccrual status) and other nonperforming assets are summarized below (in thousands):
                 
    Sept 30,     Dec 31,  
    2005     2004  
Nonaccrual loans:
               
Commercial
  $ 18,028     $ 20,618  
Real estate mortgage
    1,562       2,396  
Installment
    925       195  
 
           
Total nonaccrual loans
    20,515       23,209  
 
               
Past due (³90 days) loans:
               
Commercial
    4,061       3,529  
Real estate mortgage
    465       1,382  
Installment
    194       351  
 
           
Total past due loans
    4,720       5,262  
 
           
 
               
Total nonperforming loans
  $ 25,235     $ 28,471  
 
           
 
               
Real estate owned and other repossessed assets
    2,938       3,907  
 
           
 
               
Total nonperforming assets
  $ 28,173     $ 32,378  
 
           
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     Nonperforming loans decreased 11% or $3.2 million during the nine-month period ended September 30, 2005. Nonperforming loans at September 30, 2005 were 0.87% of total portfolio loans, a significant improvement from the ratio of 1.10% at September 30, 2004. Of the nonperforming loans at September 30, 2005, about 71% were real estate secured. Those loans, when originated, had appropriate loan-to-value ratios and, accordingly, have loss exposure which is expected to be minimal; however, underlying real estate values depend upon current economic conditions and liquidation strategies. Most other nonperforming loans were generally secured by other business assets. Nonperforming loans at September 30, 2005 were in various stages of resolution for which management believes such loans are adequately collateralized or otherwise appropriately considered in its determination of the adequacy of the allowance for loan losses.
     In addition to the identification of nonperforming loans involving borrowers with payment performance difficulties (i.e., nonaccrual loans and loans past-due 90 days or more), management utilizes an internal loan review process to identify other potential problem loans which may warrant additional monitoring or other attention. This loan review process is a continuous activity which periodically updates internal loan ratings. At inception, all loans are individually assigned a rating which grades the credits on a risk basis, based on the type and discounted value of collateral, financial strength of the borrower and guarantors and other factors such as the nature of the borrower’s business climate, local economic conditions and other subjective factors. The loan rating process is fluid and subjective.
     Potential problem loans include loans which are generally performing as agreed; however, because of internal loan review and/or lending staff risk assessment, increased monitoring is deemed appropriate. In addition, some loans are assigned a more adverse classification, with specific performance issues or other risk factors requiring close management and development of specific remedial action plans.
     At September 30, 2005, potential problem loans (including the previously mentioned nonperforming loans) approximated $115 million, or about 4% of total consolidated portfolio loans. These potential problem loans do not necessarily have significant loss exposure (nor are they necessarily deemed ‘impaired’), but rather are identified by management in this manner to aid in loan administration and risk management. Management believes such loans to be adequately considered in its evaluation of the adequacy of the allowance for loan losses. Management believes, however, that current general economic conditions are uncertain and could result in higher levels of future loan losses in comparison to previous years.
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     The following comparative analysis summarizes each bank’s total portfolio loans, allowance for loan losses, nonperforming loans and ratio of the allowance as a percentage of portfolio loans (dollars in thousands):
                                                                 
    Total     Allowance for     Nonperforming     Allowance as a Percentage  
    Portfolio Loans     Loan Losses     Loans     of Total Portfolio Loans  
    Sept 30     Dec 31     Sept 30     Dec 31     Sept 30     Dec 31     Sept 30     Dec 31  
    2005     2004     2005     2004     2005     2004     2005     2004  
Eastern Regions:
                                                               
Great Lakes Region:
                                                               
Ann Arbor Commerce Bank
  $ 297,596     $ 297,936     $ 4,203     $ 3,907     $ 3,415     $ 2,460       1.41 %     1.31 %
Bank of Auburn Hills(5)
    2,665       n/a       38       n/a             n/a       1.43       n/a  
Bank of Michigan(1)
    10,934       n/a       164       n/a             n/a       1.50       n/a  
Brighton Commerce Bank
    92,739       95,408       977       969       1,398       1,035       1.05       1.02  
Capitol National Bank
    196,481       196,519       2,710       2,723       1,508       2,053       1.38       1.39  
Detroit Commerce Bank
    79,338       66,280       1,012       806       274       338       1.28       1.22  
Elkhart Community Bank
    72,868       63,987       838       712       814       277       1.15       1.11  
Goshen Community Bank
    53,211       48,059       608       644             703       1.14       1.34  
Grand Haven Bank
    113,303       109,612       2,449       2,522       3,309       7,264       2.16       2.30  
Kent Commerce Bank
    75,348       86,090       1,240       1,269       1,733       2,445       1.65       1.47  
Macomb Community Bank
    84,842       91,173       1,234       1,327       2,169       1,768       1.45       1.46  
Muskegon Commerce Bank
    90,469       88,692       905       904       1,889       1,524       1.00       1.02  
Oakland Commerce Bank
    94,159       107,037       1,394       1,850       1,062       2,402       1.48       1.73  
Paragon Bank & Trust
    95,964       96,428       1,320       1,350       2,554       783       1.38       1.40  
Portage Commerce Bank
    175,172       170,479       1,946       1,977       2,518       2,820       1.11       1.16  
 
                                                   
Great Lakes Region Total
    1,535,089       1,517,700       21,038       20,960       22,643       25,872                  
Southeast Region:
                                                               
First Carolina State Bank
    62,843       51,867       632       525       102       11       1.01       1.01  
Peoples State Bank(2)
    17,098       n/a       107       n/a       19       n/a       0.63       n/a  
 
                                                   
Southeast Region Total
    79,941       51,867       739       525       121       11                  
 
                                                   
Eastern Regions Total
    1,615,030       1,569,567       21,777       21,485       22,764       25,883                  
Western Regions:
                                                               
Southwest Region:
                                                               
Arrowhead Community Bank
    71,087       62,737       700       620       276       29       0.98       0.99  
Bank of Las Vegas
    47,905       41,134       450       425                   0.94       1.03  
Bank of Tucson
    125,544       115,694       1,255       1,170       372       455       1.00       1.01  
Black Mountain Community Bank
    98,462       84,163       1,244       1,014       438       368       1.26       1.20  
Camelback Community Bank
    72,128       75,146       1,035       1,186                   1.43       1.58  
Desert Community Bank
    70,348       58,751       830       722       273       107       1.18       1.23  
East Valley Community Bank
    41,381       42,614       525       520                   1.27       1.22  
Fort Collins Commerce Bank(3)
    14,241       n/a       147       n/a             n/a       1.03       n/a  
Mesa Bank
    116,130       85,561       1,125       800                   0.97       0.94  
Red Rock Community Bank
    84,371       72,938       1,450       1,714       227       762       1.72       2.35  
Southern Arizona Community Bank
    73,561       72,226       700       736       20             0.95       1.02  
Sunrise Bank of Albuquerque
    55,423       59,766       1,012       895       725       459       1.83       1.50  
Sunrise Bank of Arizona
    104,314       118,617       1,250       1,400       64       111       1.20       1.18  
Valley First Community Bank
    53,338       49,518       426       469                   0.80       0.95  
Yuma Community Bank
    49,585       41,460       460       465                   0.93       1.12  
 
                                                   
Southwest Region Total
    1,077,818       980,325       12,609       12,136       2,395       2,291                  
California Region:
                                                               
Bank of Escondido
    37,280       33,166       451       350       24             1.21       1.06  
Bank of San Francisco(6)
    3,010       n/a       31       n/a             n/a       1.03       n/a  
Napa Community Bank
    64,995       53,033       740       720       52             1.14       1.36  
Point Loma Community Bank
    26,545       8,590       265       88                   1.00       1.02  
Sunrise Bank of San Diego
    56,722       46,945       514       415             297       0.91       0.88  
 
                                                   
California Region Total
    188,552       141,734       2,001       1,573       76       297                  
Northwest Region — Bank of Bellevue(4)
    5,565       n/a       62       n/a             n/a       1.11       n/a  
 
                                                   
Western Regions Total
    1,271,935       1,122,059       14,672       13,709       2,471       2,588                  
Other, net
    1,601       1,278       2,835       2,378                          
 
                                               
 
                                                               
Consolidated
  $ 2,888,566     $ 2,692,904     $ 39,284     $ 37,572     $ 25,235     $ 28,471       1.36 %     1.40 %
 
                                               
 
n/a — Not applicable.
 
(1) Commenced operations in January 2005 and is 51%-owned by Capitol Development Bancorp Limited I, a controlled subsidiary of Capitol.
 
(2) Acquired in April 2005 and is 62%-owned by Capitol.
 
(3) Commenced operations in June 2005 and is 51%-owned by Capitol Bancorp Colorado Limited, a wholly-owned subsidiary of Capitol.
 
(4) Commenced operations in June 2005 and is 51%-owned by Capitol Development Bancorp Limited II, a controlled subsidiary of Capitol.
 
(5) Commenced operations in July 2005 and is 51%-owned by Capitol Development Bancorp Limited II, a controlled subsidiary of Capitol.
 
(6) Commenced operations in August 2005 and is 51%-owned by Capitol.
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Table of Contents

Results of Operations
     Net income for the three months ended September 30, 2005 was a new record quarterly level, $9.6 million, an increase of $2.2 million (29%) over the same period in 2004; diluted earnings per share were $0.61 for the 2005 period compared to $0.50 in 2004. Net income for the nine months ended September 30, 2005 was $25.9 million, an increase of $7.1 million or 38% over the same period in 2004. Diluted earnings per share for the nine-month 2005 period were $1.67 compared to $1.27 in the corresponding period of 2004. Notably, the consolidated earnings contribution of Capitol’s western region banks surpassed the net income of Capitol’s eastern region banks in the 2005 periods.
     Net interest income for the nine-month 2005 period totaled $115.2 million, a 20% increase compared to $96.1 million in 2004. Net interest income for the third quarter of 2005 totaled $40.8 million, also a 20% increase, compared to $33.9 million for the comparable period in 2004. This increase is attributable to the banks’ growth in size and a continued strong net interest margin during a rising interest rate environment, which has resulted in yields on rate-sensitive assets (primarily variable-rate commercial loans) increasing faster than rates on interest-bearing liabilities.
     Noninterest income for the nine months ended September 30, 2005 was $15.1 million, an increase of $700,000, or 5%, over the same period in 2004. Noninterest income for the quarter ended September 30, 2005 was $4.9 million, an increase of $397,000, or 9%, over the same period in 2004. Fees from origination of nonportfolio residential mortgage loans totaled $1.8 million for the third quarter of 2005, and were $4.6 million for the nine-month period, as compared to $1.3 million and $4.2 million for the comparable periods in 2004, respectively, due to a larger volume of loan fees derived from residential mortgage activity despite higher interest rates and dynamic growth, particularly in Capitol’s western regions. Service charges on deposit accounts decreased slightly compared to 2004. Other noninterest income increased in the nine-month 2005 period primarily due to gains on sale of government-guaranteed commercial loans and fees earned from syndication of commercial loans to unaffiliated financial institutions.
     The provision for loan losses for the nine-month period in 2005 was $7.2 million, as compared to $9.6 million for the same period in 2004. The provision for loan losses for the three months ended September 30, 2005 was $2.1 million as compared to $3.6 million during the corresponding 2004 period. Provisions for loan losses in the 2005 periods were lower than in the prior year due primarily to significant improvements in asset quality. The provisions for loan losses are based upon management’s analysis of the adequacy of the allowance for loan losses, as previously discussed.
     Noninterest expense totaled $85.5 million for the nine-month period and $30.3 million for the third quarter in 2005, as compared to $71.7 million and $23.8 million, respectively, for the comparable periods in 2004. The increase in noninterest expense is associated with growth in the size of the banks and increases in general operating costs. Increases in both occupancy and salaries and employee benefits relate primarily to the growth in the size of banks within the consolidated group and the addition of six banks (compared to the addition of two banks in the nine-month 2004 period) and added regional bank development executives as part of Capitol’s 2005 expansion campaign.

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                     Operating results (dollars in thousands) were as follows:
                                                                 
    Nine months ended September 30  
                                    Return on     Return on  
    Total Revenues     Net Income     Average Equity(1)     Average Assets(1)  
    2005     2004     2005     2004     2005     2004     2005     2004  
Eastern Regions:
                                                               
Great Lakes Region:
                                                               
Ann Arbor Commerce Bank
  $ 17,894     $ 16,157     $ 3,423     $ 3,161       16.91 %     16.32 %     1.39 %     1.31 %
Bank of Auburn Hills(6)
    196       n/a       (278 )     n/a       n/a       n/a       n/a       n/a  
Bank of Michigan(2)
    367       n/a       (745 )     n/a       n/a       n/a       n/a       n/a  
Brighton Commerce Bank
    5,423       4,576       836       794       12.17       12.93       1.03       1.10  
Capitol National Bank
    11,958       10,212       2,853       2,605       20.44       20.34       1.59       1.55  
Detroit Commerce Bank
    4,666       2,760       437       66       8.68       1.78       .75       .16  
Elkhart Community Bank
    3,858       2,859       506       525       8.65       9.90       .93       1.21  
Goshen Community Bank
    2,907       2,372       24       373       .49       7.83       .06       1.03  
Grand Haven Bank
    6,357       5,235       803       (112 )     10.49       n/a       .88       n/a  
Kent Commerce Bank
    4,643       3,957       477       408       7.68       6.65       .73       .68  
Macomb Community Bank
    4,878       4,242       567       596       8.58       9.06       .80       .87  
Muskegon Commerce Bank
    5,361       4,602       991       1,082       13.72       15.68       1.39       1.66  
Oakland Commerce Bank
    6,588       5,681       1,504       520       19.18       6.96       1.58       .54  
Paragon Bank & Trust
    6,347       5,208       599       790       7.00       9.47       .72       .99  
Portage Commerce Bank
    10,308       8,556       2,263       2,045       18.95       20.18       1.61       1.61  
 
                                                       
Great Lakes Region Total
    91,751       76,417       14,260       12,853                                  
Southeast Region:
                                                               
First Carolina State Bank
    3,294       1,591       454       326       5.65       4.23       .83       .65  
Peoples State Bank(3)
    902       n/a       71       n/a       4.06       n/a       .54       n/a  
 
                                                       
Southeast Region Total
    4,196       1,591       525       326                                  
 
                                                       
Eastern Regions Total
    95,947       78,008       14,785       13,179                                  
 
                                                               
Western Regions:
                                                               
Southwest Region:
                                                               
Arrowhead Community Bank
    5,158       3,748       857       505       16.28       11.63       1.44       1.04  
Bank of Las Vegas
    2,953       2,068       443       77       8.98       1.72       1.06       .18  
Bank of Tucson
    9,230       7,425       2,790       2,159       28.03       24.39       2.13       1.84  
Black Mountain Community Bank
    6,361       4,471       1,589       980       20.70       15.27       1.80       1.41  
Camelback Community Bank
    4,405       4,083       892       286       14.06       4.39       1.46       .47  
Desert Community Bank
    4,179       3,044       763       427       13.17       7.49       1.38       .97  
East Valley Community Bank
    2,786       2,383       209       150       5.76       4.83       .58       .46  
Fort Collins Commerce Bank(4)
    361       n/a       (344 )     n/a       n/a       n/a       n/a       n/a  
Mesa Bank
    7,536       4,963       1,843       1,098       28.77       20.73       2.27       1.79  
Red Rock Community Bank
    5,202       4,462       1,200       358       13.02       3.90       1.53       .44  
Southern Arizona Community Bank
    4,467       4,106       938       976       14.24       15.81       1.42       1.56  
Sunrise Bank of Albuquerque
    3,952       3,937       732       674       14.25       14.84       1.42       1.27  
Sunrise Bank of Arizona
    7,718       8,756       1,515       1,847       16.57       22.22       1.63       1.88  
Valley First Community Bank
    3,390       2,358       517       188       10.53       4.21       1.02       .50  
Yuma Community Bank
    3,372       2,906       743       643       15.01       15.00       1.68       1.69  
 
                                                       
Southwest Region Total
    71,070       58,710       14,687       10,368                                  
California Region:
                                                               
Bank of Escondido
    2,708       1,350       311       (244 )     4.44       n/a       .70       n/a  
Bank of San Francisco(7)
    95       n/a       (451 )     n/a       n/a       n/a       n/a       n/a  
Napa Community Bank
    4,135       2,884       892       327       12.01       5.20       1.61       .69  
Point Loma Community Bank
    1,401       31       (378 )     (429 )     n/a       n/a       n/a       n/a  
Sunrise Bank of San Diego
    4,164       4,124       821       826       10.23       11.66       1.73       1.53  
 
                                                       
California Region Total
    12,503       8,389       1,195       480                                  
Northwest Region — Bank of Bellevue(5)
    142       n/a       (362 )     n/a       n/a       n/a       n/a       n/a  
 
                                               
Western Regions Total
    83,715       67,099       15,520       10,848                                  
Other, net
    (1,460 )     88       (4,399 )     (5,261 )     n/a       n/a       n/a       n/a  
 
                                               
 
                                                               
Consolidated
  $ 178,202     $ 145,195     $ 25,906     $ 18,766       13.19 %     10.76 %     1.06 %     .86 %
 
                                               
 
n/a — Not applicable.
 
(1)   Annualized for period presented.
 
(2)   Commenced operations in January 2005 and is 51%-owned by Capitol Development Bancorp Limited I, a controlled subsidiary of Capitol.
 
(3)   Acquired in April 2005 and is 62%-owned by Capitol.
 
(4)   Commenced operations in June 2005 and is 51%-owned by Capitol Bancorp Colorado Limited, a wholly-owned subsidiary of Capitol.
 
(5)   Commenced operations in June 2005 and is 51%-owned by Capitol Development Bancorp Limited II, a controlled subsidiary of Capitol.
 
(6)   Commenced operations in July 2005 and is 51%-owned by Capitol Development Bancorp Limited II, a controlled subsidiary of Capitol.
 
(7)   Commenced operations in August 2005 and is 51%-owned by Capitol.

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Liquidity and Capital Resources
     The principal funding source for asset growth and loan origination activities is deposits. Total deposits increased $267 million (exclusive of the April 2005 acquisition of Peoples State Bank) for the nine months ended September 30, 2005, more than the $175 million increase in the corresponding period of 2004 (excluding the April 2004 acquisition of First Carolina State Bank). Growth occurred in most interest-bearing deposit categories, with about half coming from time accounts. The banks generally do not significantly rely on brokered deposits as a key funding source; brokered deposits approximated $202 million as of September 30, 2005, or about 7% of total deposits, an increase of $21 million during the interim 2005 period. Brokered deposits, as a funding source, have increased in recent periods due to competitive environments and to aid in matching repricing of funding sources and assets.
     Noninterest-bearing deposits approximated 22% of total deposits at September 30, 2005 and 20% at December 31, 2004. Levels of noninterest-bearing deposits can, however, fluctuate based on customers’ transaction activity.
     Cash and cash equivalents amounted to $380 million or 11% of total assets at September 30, 2005, compared with $231 million or 7% of total assets at December 31, 2004. As liquidity levels vary continuously based on customer activities, amounts of cash and cash equivalents can vary widely at any given point in time. Management believes the banks’ liquidity position at September 30, 2005 is adequate to fund loan demand and meet depositor needs.
     In addition to cash and cash equivalents, a source of long-term liquidity is the banks’ portfolio of marketable investment securities. Liquidity needs have not historically necessitated the sale of investments in order to meet funding requirements. The banks have not engaged in active trading of their investments. At September 30, 2005, the banks had approximately $29 million of investment securities classified as available for sale which can be utilized to meet various liquidity needs as they arise.
     Several of the banks have secured lines of credit with regional Federal Home Loan Banks. Borrowings thereunder approximated $173 million and additional borrowing capacity approximated $160 million at September 30, 2005. These facilities are used from time to time as a lower-cost funding source versus various rates and maturities of time deposits. Total notes payable and short-term borrowings approximated $174 million at September 30, 2005, a slight increase over amounts outstanding at the beginning of the year. At September 30, 2005, Capitol had unused lines of credit from an unrelated financial institution aggregating $25 million.
     Stockholders’ equity, as a percentage of total assets, approximated 8.13% at September 30, 2005 and 8.16% at December 31, 2004.
     Bank of Michigan, located in Farmington Hills, Michigan, opened in January 2005. During June 2005, the following banks opened: Bank of Bellevue, located in Bellevue, Washington, and Fort Collins Commerce Bank, located in Fort Collins, Colorado. In early July 2005, Bank of Auburn Hills opened in Auburn Hills, Michigan. In early August 2005, Bank of San Francisco opened in San Francisco, California. These banks are majority-owned by Capitol or bank-development subsidiaries controlled by Capitol.

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     In April 2005, Capitol acquired a majority interest in Peoples State Bank (“Peoples”) located in Jeffersonville, Georgia, in a purchase transaction with total consideration approximating $2.2 million. Peoples’ total assets approximated $22.9 million at the acquisition date, including $1.2 million of goodwill relating to the purchase of the controlling interest in the bank by Capitol. Capitol’s acquisition of Peoples was accounted for under the purchase method of accounting and its results of operations are included in Capitol’s consolidated financial statements for periods after the effective date of the acquisition. The pro forma effect of this acquisition was not significant.
     In 2005, Capitol Development Bancorp Limited III was capitalized as a controlled subsidiary of Capitol, with approximately $16 million (including approximately $15 million provided by minority interests) to fund future bank development activity.
     Bank development efforts were in process at September 30, 2005 in several states pending approvals from regulatory agencies, including pre-development exploratory discussions, lease and employment negotiations and preparation of preliminary regulatory applications for formation and/or acquisition of community banks. At September 30, 2005, Capitol had applications pending for additional de novo community banks in Arizona, California, Georgia, Illinois, Missouri and North Carolina.
     A share exchange offer transaction regarding Napa Community Bank was completed effective August 31, 2005. Shares acquired from the Bank’s shareholders accepting Capitol’s exchange offer were exchanged for Capitol’s common stock according to an exchange ratio. In total, Capitol issued approximately 202,000 shares of previously unissued common stock resulting from this transaction (for consideration approximating $6.4 million), increasing Capitol’s ownership of Napa Community Bank to approximately 87%. This acquisition of minority interests was recorded using the purchase-method of accounting. The pro forma effect of this transaction was not significant.
     Capitol’s operating strategy continues to be focused on the ongoing growth and maturity of its existing banks, coupled with new bank expansion in selected markets as opportunities arise. Accordingly, Capitol may invest in, acquire or otherwise develop additional banks in future periods, subject to economic conditions and other factors, although the timing of such additional banking units, if any, is uncertain. Such future new banks and/or additions of other operating units could be either wholly-owned, majority-owned or otherwise controlled by Capitol. Most recently, Capitol has recruited several regional bank development executives to pursue de novo and other bank development opportunities in certain regions of the United States where it seeks to expand in future periods.
     Capitol and its banks are subject to complex regulatory capital requirements, which require maintaining certain minimum capital ratios. These ratio measurements, in addition to certain other requirements, are used by regulatory agencies to determine the level of regulatory intervention and enforcement applied to financial institutions. Management believes Capitol and each of its banks are in compliance with regulatory requirements and are expected to maintain such compliance.

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Trends Affecting Operations
     One of the most significant trends which can impact the financial condition and results of operations of financial institutions is the impact of changes in market rates of interest.
     Changes in interest rates, either up or down, have an impact on net interest income (plus or minus), depending on the direction and timing of such changes. At any point in time, there is a difference between interest rate-sensitive assets and interest rate-sensitive liabilities. This means that when interest rates change, the timing and magnitude of the effect of such interest rate changes can alter the relationship between asset yields and the cost of funds.
     The Board of Governors of the Federal Reserve, which influences interest rates, has increased interbank borrowing rates several times during the interim 2005 period and expressed several concerns about a variety of economic conditions. Home mortgage refinancing volume has decreased from record 2003 levels, which has adversely impacted fee income from the origination of residential mortgages. Many of Capitol’s loans have variable-rates and, accordingly, such rate increases should result in higher interest income to Capitol in the near term; however, depositors will similarly expect higher rates of interest on their accounts, potentially offsetting much of the benefit of rising interest rates. The future outlook on interest rates and their impact on Capitol’s interest income, interest expense and net interest income is uncertain.
     Start-up banks generally incur operating losses during their early periods of operations. Recently formed start-up banks may not contribute consolidated earnings performance and start-up banks formed in 2005 and beyond may similarly negatively impact short-term profitability. Capitol seeks to reduce the adverse impact of early-period losses of start-up banks through the use of partial ownership of such banks and partially-owned development subsidiaries which own controlling interests in certain of those de novo banks.
     General economic conditions also have a significant impact on both the results of operations and the financial condition of financial institutions.
     Media reports raising questions about the health of the domestic economy have continued in 2005. During the interim 2005 period, nonperforming loans have decreased, however, it is difficult to predict future movements in levels of nonperforming loans and related loan losses may increase as economic conditions, locally and nationally, evolve.
Impact of New Accounting Standards
     There are several new accounting standards either becoming effective or being issued in 2005. They are listed and discussed in Notes B and H of the accompanying condensed consolidated financial statements.
     There is one particularly important new accounting standard, effective for Capitol beginning January 1, 2006, which will change accounting for stock options. In December 2004, the Financial Accounting Standards Board (“FASB”) issued a revision of Statement No. 123. Statement No. 123(R), Share-Based Payment, is broader in scope than the original statement,

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which was more narrowly focused on stock-based compensation, and makes significant changes to accounting for “payments” involving employee compensation and “shares” or securities, in the form of stock options, restricted stock or other arrangements settled in the reporting entity’s securities. Most significant in the standard is the requirement that all stock options be measured at estimated fair value at the grant date and recorded as compensation expense over the requisite service period associated with the option, usually the vesting period. The revised standard was to become effective for interim periods beginning after June 30, 2005 and be applied prospectively to stock options granted after the effective date and any unvested stock options at that date; however, the SEC superseded the FASB’s implementation timetable in April 2005, changing the effective date to the beginning of 2006 for calendar-year public companies.
     Although Capitol’s management has not completed its analysis of the revised standard, the effect of the revised standard’s implementation will be recognition of compensation expense associated with stock options. Previously, Capitol has used the intrinsic-value method which did not result in expense recognition but, instead, required pro forma presentation of what compensation expense would have been recorded if the fair-value measurement and expense recognition provisions had been applied. Effective December 31, 2004, Capitol accelerated the vesting of all of its outstanding stock options in anticipation of implementation of Statement No. 123(R). Such acceleration of vesting, to make all such stock options vested as of December 31, 2004, was done for the purpose of avoiding future expense associated with any unvested stock options granted prior to the effective date of Statement No. 123(R). All stock options granted during the interim periods of 2005 vested at the grant date. As mentioned above, the current accounting standard in effect prior to the effective date of Statement No. 123(R) requires disclosure of what pro forma compensation expense would have been if stock options granted had been recorded at fair value using measurement techniques which are similar to those prescribed in Statement No. 123(R); such disclosures appear in the notes to the accompanying condensed consolidated financial statements. That presentation should not be viewed as an estimate of future expense levels inasmuch as it is based on stock options granted in the periods presented which may differ significantly from future granting activity, assumptions used and the structure of share-based payment awards.
Critical Accounting Policies
     Capitol’s critical accounting policies are described on pages F-9, F-10 and F-11 of the financial section of its 2004 Annual Report. In the circumstances of Capitol, management believes its “critical accounting policies” are those which encompass the use of estimates in determining the allowance for loan losses (because of inherent subjectivity), accounting for stock options, goodwill and other intangibles (due to inherent subjectivity in evaluating potential impairment) and classification of trust-preferred securities.
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PART I, ITEM 3
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT
MARKET RISK
Information about Capitol’s quantitative and qualitative disclosures about market risk were included in Capitol’s annual report on Form 10-K for the year ended December 31, 2004. Capitol does not believe that there has been a material change in the nature or categories of market risk exposure, except as noted in the “Management’s Discussion and Analysis of Financial Condition and Results of Operations” section herein (Part I, Item 2), under the caption, “Trends Affecting Operations”.
PART I, ITEM 4
CONTROLS AND PROCEDURES
Capitol maintains disclosure controls and procedures designed to provide reasonable assurance that the information Capitol must disclose in its filings with the Securities and Exchange Commission is recorded, processed, summarized and reported on a timely basis. Capitol’s Chief Executive Officer and Chief Financial Officer have reviewed and evaluated Capitol’s disclosure controls and procedures as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”) as of the end of the period covered by this report (the “Evaluation Date”). Based on such evaluation, such officers have concluded that, as of the Evaluation Date, Capitol’s disclosure controls and procedures, in all material respects, are effective in bringing to their attention on a timely basis material information relating to Capitol required to be included in Capitol’s periodic filings under the Exchange Act.
No change in Capitol’s internal control over financial reporting occurred during Capitol’s most recent fiscal quarter that has materially affected or is reasonably likely to materially affect Capitol’s internal control over financial reporting.
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PART II. OTHER INFORMATION
Item 1.   Legal Proceedings.
      Capitol and its subsidiaries are parties to certain ordinary, routine litigation incidental to their business. In the opinion of management, liabilities arising from such litigation would not have a material effect on Capitol’s consolidated financial position or results of operations.
Item 2.   Unregistered Sales of Securities and Use of Proceeds.
(a) None.
(b) Not applicable.
(c) None.
Item 3.   Defaults Upon Senior Securities.
      None.
Item 4.   Submission of Matters to a Vote of Security Holders.
      None.
Item 5.   Other Information.
      None.
Item 6.   Exhibits and Reports on Form 8-K.
(a) Exhibits:
             
    Exhibit No.       Description of Exhibit
 
    31.1     Certification of Chief Executive Officer, Joseph D. Reid, pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
 
           
 
    31.2     Certification of Chief Financial Officer, Lee W. Hendrickson, pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
 
           
 
    32.1     Certification of Chief Executive Officer, Joseph D. Reid, pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
 
           
 
    32.2     Certification of Chief Financial Officer, Lee W. Hendrickson, pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

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PART II. OTHER INFORMATION — Continued
(b) Reports on Form 8-K:
     
 
  On July 21, 2005, a report on Form 8-K was filed, reporting second quarter earnings.
 
   
 
  On July 26, 2005, a report on Form 8-K was filed, reporting a third quarter 2005 dividend.
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SIGNATURES
Pursuant to the requirements 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.
         
 
  CAPITOL BANCORP LTD.    
 
  (Registrant)    
 
       
 
  /s/ Joseph D. Reid    
 
       
 
  Joseph D. Reid    
 
  Chairman and CEO    
 
  (duly authorized to sign on behalf of the registrant)    
 
       
 
  /s/ Lee W. Hendrickson    
 
       
 
  Lee W. Hendrickson    
 
  Chief Financial Officer    
Date: October 31, 2005

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INDEX TO EXHIBITS
     
Exhibit No.   Description of Exhibit
31.1
  Certification of Chief Executive Officer, Joseph D. Reid, pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
 
   
31.2
  Certification of Chief Financial Officer, Lee W. Hendrickson, pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
 
   
32.1
  Certification of Chief Executive Officer, Joseph D. Reid, pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
 
   
32.2
  Certification of Chief Financial Officer, Lee W. Hendrickson, pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

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