Heritage Commerce Corp Earns $18.1 Million for the Third

SAN JOSE, Calif., Oct. 27, 2022 (GLOBE NEWSWIRE) — Heritage Commerce Corp (Nasdaq: HTBK), the holding company (the “Company”) for Heritage Bank of Commerce (the “Bank”), today announced third quarter 2022 net income of $18.1 million, or $0.30 per average diluted common share, compared to $13.7 million, or $0.23 per average diluted common share, for the third quarter of 2021, and $14.8 million, or $0.24 per average diluted common share, for the second quarter of 2022. For the nine months ended September 30, 2022, net income was $45.8 million, or $0.75 per average diluted common share, compared to $33.7 million, or $0.56 per average diluted common share, for the nine months ended September 30, 2021. All results are unaudited.

“Our outstanding operating results reflect the continued successful implementation of our growth plan.   We delivered record third quarter and year-to-date 2022 earnings, fueled by higher net interest income and solid loan growth. Our net interest margin improved to 3.73% for the third quarter of 2022, compared to 3.38% from the preceding quarter, driven primarily by a shift in the mix of earning assets as the Company invested its excess liquidity into higher yielding loans and investment securities. Loans, excluding Small Business Administration (“SBA”) Paycheck Protection Program (“PPP”) loans and residential mortgages, increased 10% from a year earlier, and 3% from the preceding quarter. Total deposits increased $69.6 million from the linked quarter with noninterest-bearing deposits increasing 4% from a year ago,” said Clay Jones, President and Chief Executive Officer. “Net income increased 22% from the preceding quarter and 32% from the third quarter a year ago. The return on average tangible equity was 16.60%, the return on average tangible assets was 1.36% and our efficiency ratio improved to 47.02%, for the third quarter of 2022.”

“Our credit quality remains healthy as a result of our credit management, while we continue to be vigilant to the potential impact an uncertain economic future could have on our portfolio. Nonperforming assets (“NPAs”) declined $3.7 million at September 30, 2022 from September 30, 2021, and declined $1.7 million from June 30, 2022, with continued net recoveries throughout the first nine months of 2022,” said Mr. Jones. “Reflecting our strong loan growth, we recorded a $1.0 million provision for credit losses on loans during the third quarter of 2022.”

“Our noninterest income was also higher in the third quarter of 2022, compared to the preceding quarter, primarily due to the substantial increase in gain on sale of SBA loans and higher income on off-balance sheet deposits,” said Mr. Jones. Third quarter 2022 noninterest expense was elevated compared to the third quarter a year ago and to the preceding quarter, due to non-cash expenses related to the retirement of the previous President and Chief Executive Officer of the Company from the vesting of shares of restricted common stock. This one-time contractual event added $784,000 to salaries and employee benefits for the third quarter of 2022, which increased 13% from the third quarter of 2021, and 5% from the second quarter of 2022.

“These solid results are a direct result of our dedicated employees and their commitment and effort in supporting our clients, communities and shareholders,” said Mr. Jones. “Our strong liquidity continues to provide us with the opportunity for investment strategies that positively impact our net interest income.”

Third Quarter Ended September 30, 2022
Operating Results, Balance Sheet Review, Capital Management, and Credit Quality

(as of, or for the periods ended September 30, 2022, compared to September 30, 2021, and June 30, 2022, except as noted):

Operating Results:

• Diluted earnings per share were $0.30 for the third quarter of 2022, compared to $0.23 for the third quarter of 2021, and $0.24 for the second quarter of 2022. Diluted earnings per share were $0.75 for the first nine months of 2022, compared to $0.56 for the first nine months of 2021.
• The following table indicates the ratios for the return on average tangible assets and the return on average tangible equity for the periods indicated:

• Net interest income, before provision for credit losses on loans, increased 26% to $48.0 million for the third quarter of 2022, compared to $38.2 million for the third quarter of 2021. The fully tax equivalent (“FTE”) net interest margin increased 55 basis points to 3.73% for the third quarter of 2022, from 3.18% for the third quarter of 2021, primarily due to a shift in the mix of earning assets into higher yielding loans and investment securities, and higher average yield on overnight funds, partially offset by lower interest and fees on PPP loans, a decrease in the accretion of the loan purchase discount into interest income from acquired loans, lower prepayment fees, and a higher cost of funds.
  • Net interest income increased 15% to $48.0 million for the third quarter of 2022, compared to $41.9 million for the second quarter of 2022. The FTE net interest margin increased 35 basis points to 3.73% for the third quarter of 2022 from 3.38% for the second quarter of 2022, primarily due to a shift in the mix of earning assets as the Company invested its excess liquidity into higher yielding loans and investment securities, and higher average yields on overnight funds, partially offset by a decrease in the accretion of the loan purchase discount into interest income from acquired loans, lower prepayment fees, lower interest and fees on PPP loans, and a higher cost of funds.
  • Net interest income increased 19% to $128.1 million for the first nine months of 2022, compared to $108.0 million for the first nine months of 2021. For the first nine months of 2022, the FTE net interest margin increased 26 basis points to 3.39%, compared to 3.13% for the first nine months of 2021, primarily due to higher average balances of loans and investment securities, higher average yields on investment securities and overnight funds, partially offset by lower interest and fees on PPP loans, a decrease in the accretion of the loan purchase discount into interest income from acquired loans, and lower prepayment fees.
• The following table, as of September 30, 2022, sets forth the estimated changes in the Company’s annual net interest income that would result from the designated instantaneous parallel shift in interest rates from the base rate:

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• The following tables present the average balance of loans outstanding, interest income, and the average yield for the periods indicated:
   
  • The average yield on the total loan portfolio increased to 4.90% for the third quarter of 2022, compared to 4.80% for the second quarter of 2022, primarily due to increases in the prime rate, partially offset by a decrease in the accretion of the loan purchase discount into interest income from acquired loans, lower prepayment fees, lower fees on PPP loans, and higher average balances of lower yielding purchased residential mortgage loans.

• The average cost of total deposits was 0.13% for the third quarter of 2022, compared to 0.10% for both the third quarter of 2021 and the second quarter of 2022. The average cost of total deposits was 0.11% for both the nine months ended September 30, 2022 and September 30, 2021.
• During the third quarter of 2022, there was a provision for credit losses on loans of $1.0 million, compared to a $514,000 negative provision for credit losses on loans for the third quarter of 2021, and a negative provision for credit losses on loans of $181,000 for the second quarter of 2022. There was a provision for credit losses on loans of $258,000 for the nine months ended September 30, 2022, compared to a $2.5 million negative provision for credit losses on loans for the nine months ended September 30, 2021.
• Total noninterest income increased 15% to $2.8 million for the third quarter of 2022, compared to $2.4 million for the third quarter of 2021, primarily due to higher income on off-balance sheet deposits, partially offset by a lower gain on sale of SBA loans during the third quarter of 2022, and a gain on proceeds from company-owned life insurance during the third quarter of 2021. Total noninterest income increased 33% from $2.1 million for the second quarter of 2022, primarily due to higher service charges and fees on deposit accounts, and a higher gain on sale of SBA loans during the third quarter of 2022.

• Total noninterest expense for the third quarter of 2022 increased to $23.9 million, compared to $21.8 million for the third quarter of 2021, and $23.2 million for the second quarter of 2022, primarily due to higher salaries and employee benefits, occupancy and equipment, and insurance expense during the third quarter of 2022. Salaries and employee benefits included $784,000 of restricted stock expense for vesting of restricted common stock held by the previous President and Chief Executive Officer of the Company who retired during the third quarter of 2022.
  • Noninterest expense for the nine months ended September 30, 2022 decreased to $70.3 million, compared to $70.9 million for the nine months ended September 30, 2021, primarily due to a reserve for a legal settlement during the first nine months of 2021, partially offset by higher salaries and employee benefits, occupancy and equipment, and insurance expense during the first nine months of 2022.
  • Full time equivalent employees were 327 at September 30, 2022, and 325 at September 30, 2021, and 332 at June 30, 2022.  
• The efficiency ratio was 47.02% for the third quarter of 2022, compared to 53.78% for the third quarter of 2021, and 52.73% for the second quarter of 2022. The efficiency ratio for the nine months ended September 30, 2022 was 51.92%, compared to 61.67% for the nine months ended September 30, 2021. The improvement in the efficiency ratio for the third quarter and first nine months of 2022 was primarily due to an increase in net interest income from the rising interest rate environment. The efficiency ratio for the nine months ended September 30, 2021 was negatively impacted by the $4.0 million reserve for a legal settlement. Excluding the $4.0 million reserve for a legal settlement, the efficiency ratio was 58.18% for the nine months ended September 30, 2021.
• Income tax expense was $7.8 million for the third quarter of 2022, compared to $5.6 million for the third quarter of 2021, and $6.1 million for the second quarter of 2022. The effective tax rate for the third quarter of 2022 was 30.3%, compared to 28.8% for the third quarter of 2021, and 29.3% for the second quarter of 2021. The increase in the effective tax rate was due to an adjustment from significantly higher earnings for the third quarter of 2022, compared to the first and second quarters of 2022. Income tax expense for the nine months ended September 30, 2022 was $19.1 million, compared to $12.8 million for the nine months ended September 30, 2021. The effective tax rate for the nine months ended September 30, 2022 was 29.5%, compared to 27.5% for the nine months ended September 30, 2021.

Balance Sheet Review, Capital Management and Credit Quality:

• Total assets decreased (1%) to $5.431 billion at September 30, 2022, compared to $5.463 billion at September 30, 2021, and increased 1% from $5.357 billion at June 30, 2022.  
• Securities available-for-sale, at fair value, totaled $478.5 million at September 30, 2022, compared to $121.0 million at September 30, 2021, and $332.1 million at June 30, 2022. At September 30, 2022, the Company’s securities available-for-sale portfolio was comprised of $405.4 million of U.S. Treasury securities and $73.1 million of agency mortgage-backed securities (all issued by U.S. Government sponsored entities).
  • The pre-tax unrealized loss on U.S. Treasury securities available-for-sale at September 30, 2022 was ($10.1) million, compared to a pre-tax unrealized gain of $11,000 at September 30, 2021, and a pre-tax unrealized loss of ($1.2) million at June 30, 2022. The pre-tax unrealized loss on mortgage-backed securities available-for-sale at September 30, 2022 was ($7.3) million, compared to a pre-tax unrealized gain of $4.0 million at September 30, 2021, and a pre-tax unrealized loss of ($2.9) million at June 30, 2022. The pre-tax unrealized loss on total securities available-for-sale at September 30, 2022 was ($17.4) million, compared to a pre-tax unrealized gain of $4.0 million at September 30, 2021, and a pre-tax unrealized loss of ($4.1) million at June 30, 2022. All other factors remaining the same, when market interest rates are increasing, the Company will experience a higher unrealized loss in the securities portfolio.
  • During the third quarter of 2022, the Company purchased $163.0 million of U.S. Treasury securities available-for-sale, with a book yield of 3.50% and an average life of 1.83 years. During the first nine months of 2022, the Company purchased $414.0 million of U.S. Treasury securities available-for-sale, with a book yield of 3.04% and an average life of 2.28 years.
• At September 30, 2022, securities held-to-maturity, at amortized cost, totaled $703.8 million, compared to $537.3 million at September 30, 2021, and $723.7 million at June 30, 2022. At September 30, 2022, the Company’s securities held-to-maturity portfolio was comprised of $665.7 million of agency mortgage-backed securities, and $38.1 million of tax-exempt municipal bonds.
  • The pre-tax unrealized loss on mortgage-backed securities held-to-maturity at September 30, 2022 was ($108.1) million, compared to a pre-tax unrealized gain of $1.1 million at September 30, 2021, and a pre-tax unrealized loss of ($72.5) million at June 30, 2022. The pre-tax unrealized loss on municipal bonds held-to-maturity at September 30, 2022 was ($2.1) million, compared to a pre-tax unrealized gain of $989,000 at September 30, 2021, and a pre-tax unrealized loss of ($436,000) at June 30, 2022. The pre-tax unrealized loss on total securities held-to-maturity at September 30, 2022 was ($110.2) million, compared to a pre-tax unrealized gain of $2.1 million at September 30, 2021, and a pre-tax unrealized loss of ($72.9) million at June 30, 2022.
  • There were no purchases of securities held-to-maturity during the third quarter of 2022. During the first nine months of 2022, the Company purchased $119.4 million of agency mortgage-backed securities held-to-maturity, with a book yield of 2.21% and an average life of 6.55 years.
• The average life of the total investment securities portfolio was 5.18 years at September 30, 2022.
• The loan portfolio remains well-diversified as reflected in the following table which summarizes the distribution of loans, excluding loans held-for-sale, and the percentage of distribution in each category for the periods indicated:

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• Loans, excluding loans held-for-sale, increased $383.6 million, or 14%, to $3.216 billion at September 30, 2022, compared to $2.833 billion at September 30, 2021, and increased $134.0 million, or 4%, from $3.082 billion at June 30, 2022.   Total loans at September 30, 2022 included $1.6 million of PPP loans, compared to $164.5 million at September 30, 2021 and $8.2 million at June 30, 2022.   Total loans at September 30, 2022 included $508.8 million of residential mortgages, compared to $211.5 million at September 30, 2021, and $449.0 million at June 30, 2022. Loans, excluding loans held-for-sale, PPP loans and residential mortgages, increased $244.9 million, or 10%, to $2.706 billion at September 30, 2022, compared to $2.461 billion at September 30, 2021, and increased $80.5 million, or 3%, from $2.626 billion at June 30, 2022.  
  • Commercial and industrial (“C&I”) line utilization was 29% at September 30, 2022, compared to 27% at September 30, 2021, and 28% at June 30, 2022.
  • At September 30, 2022, 37% of the CRE loan portfolio was secured by owner-occupied real estate, compared to 41% at September 30, 2021, and 38% at June 30, 2022.
  • At September 30, 2022, approximately 34% of the Company’s loan portfolio consisted of floating interest rate loans, compared to 42% at September 30, 2021, and 36% at June 30, 2022.
• In response to economic stimulus laws passed by Congress in 2020 and 2021, the Bank funded two rounds of PPP loans totaling $530.8 million. At September 30, 2022, there were no remaining “Round 1” PPP loans. After accounting for loan payoffs and SBA loan forgiveness, “Round 2” PPP loans totaled $1.6 million at September 30, 2022. The following table shows interest income, fee income and deferred origination costs generated by the PPP loans, outstanding PPP loan balances and related deferred fees and costs for the periods indicated:

• The following table summarizes the allowance for credit losses on loans (“ACLL”) for the periods indicated:

• The following table shows the drivers of change in ACLL under the current expected credit losses (“CECL”) methodology for the first nine months of 2022:

• The following is a breakout of NPAs at the periods indicated:

• The following table summarizes the distribution of deposits and the percentage of distribution in each category for the periods indicated:

• The Company’s consolidated capital ratios exceeded regulatory guidelines and the Bank’s capital ratios exceeded regulatory guidelines under the Basel III prompt corrective action (“PCA”) regulatory guidelines for a well-capitalized financial institution, and the Basel III minimum regulatory requirements at September 30, 2022, as reflected in the following table:

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• The following table reflects the components of accumulated other comprehensive loss, net of taxes, for the periods indicated:

• Tangible equity was $430.2 million at September 30, 2022, compared to $408.1 million at September 30, 2021, and $427.2 million at June 30, 2022. Tangible book value per share was $7.09 at September 30, 2022, compared to $6.77 at September 30, 2021, and $7.04 at June 30, 2022.

Heritage Commerce Corp, a bank holding company established in October 1997, is the parent company of Heritage Bank of Commerce, established in 1994 and headquartered in San Jose, CA with full-service branches in Danville, Fremont, Gilroy, Hollister, Livermore, Los Altos, Los Gatos, Morgan Hill, Oakland, Palo Alto, Pleasanton, Redwood City, San Francisco, San Jose, San Mateo, San Rafael, Sunnyvale, and Walnut Creek. Heritage Bank of Commerce is an SBA Preferred Lender. Bay View Funding, a subsidiary of Heritage Bank of Commerce, is based in San Jose, CA and provides business-essential working capital factoring financing to various industries throughout the United States. For more information, please visit www.heritagecommercecorp.com.

Forward-Looking Statement Disclaimer

Certain matters discussed in this press release constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These forward-looking statements are subject to various risks and uncertainties that may be outside our control and our actual results could differ materially from our projected results. Risks and uncertainties that could cause our financial performance to differ materially from our goals, plans, expectations and projections expressed in forward-looking statements include those set forth in our filings with the Securities and Exchange Commission (“SEC”), Item 1A of the Company’s Annual Report on Form 10-K for the year ended December 31, 2021, and the following: (1) geopolitical and domestic political developments that can increase levels of political and economic unpredictability, contribute to rising energy prices and commodity prices, and increase the volatility of financial markets; (2) conditions related to the impact of the COVID-19 pandemic, and other infectious illness outbreaks that may arise in the future, our customers, employees, businesses, liquidity, and financial results and overall condition including severity and duration of the associated uncertainties in U.S. and global markets; (3) current and future economic and market conditions in the United States generally or in the communities we serve, including the effects of declines in property values and overall slowdowns in economic growth should these events occur; (4) effects of and changes in trade, monetary and fiscal policies and laws, including the interest rate policies of the Federal Open Market Committee of the Federal Reserve Board; (5) inflationary pressures and changes in the interest rate environment that reduce our margin and yields, the fair value of financial instruments or our level of loan originations, or increase in the level of defaults, losses and prepayments on loans we have made and make; (6) changes in the level of nonperforming assets and charge-offs and other credit quality measures, and their impact on the adequacy of our allowance for credit losses and our provision for credit losses; (7) volatility in credit and equity markets and its effect on the global economy; (8) our ability to effectively compete with other banks and financial services companies and the effects of competition in the financial services industry on our business; (9) our ability to achieve loan growth and attract deposits in our market area; (10) risks associated with concentrations in real estate related loans; (11) the relative strength or weakness of the commercial and real estate markets where our borrowers are located, including related asset and market prices; (12) credit related impairment charges to our securities portfolio; (13) increased capital requirements for our continual growth or as imposed by banking regulators, which may require us to raise capital at a time when capital is not available on favorable terms or at all; (14) regulatory limits on Heritage Bank of Commerce’s ability to pay dividends to the Company; (15) operational issues stemming from, and/or capital spending necessitated by, the potential need to adapt to industry changes in information technology systems, on which we are highly dependent; (16) our inability to attract, recruit, and retain qualified officers and other personnel could harm our ability to implement our strategic plan, impair our relationships with customers and adversely affect our business, results of operations and growth prospects; (17) possible adjustment of the valuation of our deferred tax assets; (18) our ability to keep pace with technological changes, including our ability to identify and address cyber-security risks such as data security breaches, “denial of service” attacks, “hacking” and identity theft; (19) inability of our framework to manage risks associated with our business, including operational risk and credit risk; (20) risks of loss of funding of SBA or SBA loan programs, or changes in those programs; (21) compliance with applicable laws and governmental and regulatory requirements, including the Dodd-Frank Act and others relating to banking, consumer protection, securities, accounting and tax matters; (22) effect of changes in accounting policies and practices, as may be adopted by the regulatory agencies, as well as the Public Company Accounting Oversight Board, the Financial Accounting Standards Board and other accounting standard setters; (23) the expense and uncertain resolution of litigation matters whether occurring in the ordinary course of business or otherwise; (24) availability of and competition for acquisition opportunities; (25) risks resulting from domestic terrorism; (26) risks resulting from social unrest and protests; (27) risks of natural disasters (including earthquakes, fires, and flooding) and other events beyond our control; (28) our success in managing the risks involved in the foregoing factors.

Member FDIC

For additional information, contact:
Debbie Reuter
EVP, Corporate Secretary
Direct: (408) 494-4542
[email protected]