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Heritage Commerce Corp's Second Quarter 2016 Earnings Increased 63% From the Prior Year Second Quarter

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SAN JOSE, Calif., July 28, 2016 (GLOBE NEWSWIRE) -- Heritage Commerce Corp (Nasdaq: HTBK), the holding company (the "Company") for Heritage Bank of Commerce (the "Bank"), today reported net income increased 63% to $7.3 million, or $0.19 per average diluted common share, for the second quarter of 2016, compared to $4.5 million, or $0.14 per average diluted common share for the second quarter of 2015, and increased 19% from $6.1 million, or $0.16 per average diluted common share for the first quarter of 2016.  For the six months ended June 30, 2016, net income increased 56% to $13.4 million, or $0.35 per average diluted common share, from $8.6 million, or $0.27 per average diluted common share, for the six months ended June 30, 2015. All results are unaudited and include the acquisition of Focus Business Bank ("Focus") that was completed on August 20, 2015.

"Our first six months of 2016 reflect the effectiveness of our business strategy, as we delivered solid financial results for the second quarter and first half of 2016," said Walter Kaczmarek, President and Chief Executive Officer.  "We achieved excellent quarterly earnings, resulting in a sound return on average tangible assets of 1.28% and return on average tangible equity of 14.68% for the second quarter of 2016." 

Net income for the second quarter and first six months of 2016 included a $1.0 million gain on proceeds from company owned life insurance. 

"We continued to produce solid loan and core deposit growth which highlights our ability to deepen and grow customer relationships, as well as gain new customers and market share in the San Francisco Bay area," added Mr. Kaczmarek.

Second Quarter 2016 Highlights (as of, or for the period ended June 30, 2016, except as noted):

  • Diluted earnings per share totaled $0.19 for the second quarter of 2016, compared to $0.14 for the second quarter of 2015, and $0.16 for the first quarter of 2016.  Diluted earnings per share totaled $0.35 for the first six months of 2016, compared to $0.27 per diluted share for the first six months of 2015.



  • Net interest income increased 29% to $22.7 million for the second quarter of 2016, compared to $17.6 million for the second quarter of 2015, and increased 2% from $22.3 million for the first quarter of 2016. For the first six months of 2016, net interest income increased 31% to $45.0 million, compared to $34.5 million for the first six months of 2015.



  • For the second quarter of 2016, the fully tax equivalent ("FTE") net interest margin contracted 39 basis points to 4.27% from 4.66% for the second quarter of 2015, primarily due to lower yields on loans and securities. The net interest margin improved 5 basis points for the second quarter of 2016, from 4.22% for the first quarter of 2016 primarily due to re-deploying excess liquidity from lower yielding excess funds at the Federal Reserve Bank into loans and securities.  For the first six months of 2016, the net interest margin declined 38 basis points to 4.24%, compared to 4.62% for the first six months of 2015, primarily due to higher average balances of lower yielding excess funds at the Federal Reserve Bank, and lower yields on loans and securities.



  • The accretion of the loan purchase discount in loan interest income from the Focus transaction was $276,000 for the second quarter of 2016, compared to $518,000 for the first quarter of 2016. The accretion of the loan purchase discount in loan interest income from the Focus transaction was $1.4 million from the acquisition date of August 20, 2015 through December 31, 2015. The total purchase discount on non-impaired loans from the Focus loan portfolio was $4.6 million at the acquisition date, of which $2.2 million has been accreted to loan interest income from the acquisition date through June 30, 2016. 



  • The yield on the loan portfolio was 5.60% for the second quarter of 2016 and the first six months of 2016, compared to 5.66% for the second quarter of 2015 and 5.69% for the first six months of 2015. The decrease in the yield on the loan portfolio for the second quarter and first six months of 2016, compared to the respective periods in 2015, primarily reflects the addition of the lower yielding Focus loan portfolio, partially offset by the accretion of the loan purchase discount into loan interest income from the Focus transaction.  The decrease in the yield on the loan portfolio for the second quarter of 2016, compared to 5.64% for the first quarter of 2016, primarily reflects a lower accretion of the loan purchase discount into loan interest income from the Focus transaction.



  • Noninterest income for the second quarter and first six months of 2016 increased compared to the respective periods in 2015, and the first quarter of 2016, primarily due to a $1.0 million gain on proceeds from company owned life insurance and higher gains on sales of securities.



  • The return on average tangible assets was 1.28%, and the return on average tangible equity was 14.68%, for the second quarter of 2016, compared to 1.09% and 10.49%, respectively, for the second quarter of 2015, and 1.07% and 12.62%, respectively, for the first quarter of 2016. The return on average tangible assets was 1.17%, and the return on average tangible equity was 13.66%, for the first six months of 2016, compared to 1.06% and 10.20%, respectively, for the first six months of 2015. The return on average tangible assets and return on average tangible equity for the second quarter and for the first six months on 2016 were favorably impacted by a $1.0 million gain on proceeds from company owned life insurance.



  • Loans (excluding loans‑held‑for‑sale) increased $330.5 million, or 29%, to $1.46 billion at June 30, 2016, compared to $1.13 billion at June 30, 2015, which included an increase of $156.5 million, or 14%, in the Company's legacy loan portfolio, $141.1 million from the Focus loan portfolio, and $32.9 million of purchased residential mortgage loans.  Loans increased $68.9 million, or 5%, at June 30, 2016, compared to $1.40 billion at March 31, 2016, which included an increase of $36.0 million, or 3%, in the Company's legacy and Focus loan portfolios, and $32.9 million of purchased residential mortgage loans.



  • During the second quarter of 2016, the Company purchased $35.0 million of jumbo single family residential mortgage loans all of which are domiciled in California. The average loan principal amount is approximately $850,000, and the average yield on the portfolio is 3.11%, net of servicing fees of 25 basis points. Residential mortgages outstanding totaled $32.9 million at June 30, 2016.



  • Nonperforming assets ("NPAs") decreased to $4.7 million, or 0.20% of total assets, at June 30, 2016, compared to $5.3 million, or 0.31% of total assets, at June 30, 2015, and increased from $4.6 million, or 0.20% of total assets, at March 31, 2016.



  • Classified assets were $22.8 million, or 0.96% of total assets, at June 30, 2016, compared to $11.2 million, or 0.66% of total assets, at June 30, 2015, and $21.3 million, 0.92% of total assets, at March 31, 2016.



  • Net recoveries totaled $112,000 for the second quarter of 2016, compared to net recoveries of $181,000 for the second quarter of 2015, and net recoveries of $131,000 for the first quarter of 2016.



  • There was a $351,000 provision for loan losses for the second quarter of 2016, compared to a $22,000 provision for loan losses for the second quarter of 2015, and a $401,000 provision for loan losses for the first quarter of 2016.  There was a $752,000 provision for loan losses for the six months ended June 30, 2016, compared to a $38,000 credit provision for loan losses for the six months ended June 30, 2015.



  • The allowance for loan losses ("ALLL") was 1.36% of total loans at June 30, 2016, compared to 1.65% at June 30, 2015, and 1.39% at March 31, 2016.  The ALLL to total nonperforming loans was 456.90% at June 30, 2016, compared to 388.18% at June 30, 2015, and 465.06% at March 31, 2016. The ALLL to total loans decreased at June 30, 2016, compared to June 30, 2015, primarily due to the Focus loan portfolio, which was marked to fair market value on the acquisition date, and an increase in the Company's legacy loan balances with minimal default histories, improving the quality of the loan portfolio overall. 



  • Total deposits increased $626.6 million, or 43%, to $2.07 billion at June 30, 2016, compared to $1.45 billion at June 30, 2015, which included an increase of $263.0 million, or 18%, in the Company's legacy deposit portfolio, and $363.6 million from the Focus deposit portfolio.  Total deposits increased $45.0 million, or 2%, at June 30, 2016, compared to $2.03 billion at March 31, 2016, primarily due to an increase in noninterest-bearing demand deposits.



  • The Company's consolidated capital ratios exceeded regulatory guidelines and the Bank's capital ratios exceeded the regulatory guidelines for a well-capitalized financial institution under the Basel III regulatory requirements at June 30, 2016.
           
      Well-capitalized

 Fully Phased-in
      Financial

 Basel III
      Institution 

 Minimal
  Heritage Heritage Basel III

 Requirement(1)
  Commerce Bank of Regulatory

 Effective
CAPITAL RATIOS Corp Commerce Guidelines

 January 1, 2019
Total Risk-Based  12.3%  12.2%  10.0%  10.5%
Tier 1 Risk-Based  11.2%  11.1%  8.0%  8.5%
Common Equity Tier 1 Risk-Based  10.2%  11.1%  6.5%  7.0%
Leverage  9.0%  8.9%  5.0%  4.0%
               
(1) Includes a 2.5% capital conservation buffer, except the leverage ratio
               

Operating Results

Net interest income increased 29% to $22.7 million for the second quarter of 2016, compared to $17.6 million for the second quarter of 2015, and increased 2% from $22.3 million for the first quarter of 2016. Net interest income increased 31% to $45.0 million for the six months ended June 30, 2016, compared to $34.5 million for the six months ended June 30, 2015.  Net interest income increased for the second quarter and first six months of 2016, compared to the respective periods in 2015, primarily due to loans acquired in the Focus acquisition, organic growth in the loan portfolio, the accretion of the loan purchase discount into loan interest income from the Focus transaction, and an increase in the average balance of investment securities.   

For the second quarter of 2016, the net interest margin (FTE) contracted 39 basis points to 4.27% from 4.66% for the second quarter of 2015, primarily due to lower yields on loans and securities. The net interest margin improved 5 basis points for the second quarter of 2016, from 4.22% for the first quarter of 2016 primarily due to re-deploying excess liquidity from lower yielding excess funds at the Federal Reserve Bank into yielding loans and securities.  For the first six months of 2016, net interest margin decreased 38 basis points to 4.24%, compared to 4.62% for the first six months of 2015, primarily due to higher average balances of lower yielding excess funds at the Federal Reserve Bank, and lower yields on loans and securities. 

There was a $351,000 provision for loan losses for the second quarter of 2016, compared to a $22,000 provision for loan losses for the second quarter of 2015, and a $401,000 provision for loan losses for the first quarter of 2016. There was a $752,000 provision for loan losses for the six months ended June 30, 2016, compared to a $38,000 credit provision for loan losses for the six months ended June 30, 2015.

Noninterest income increased to $3.7 million for the second quarter of 2016, compared to $2.2 million for the second quarter of 2015, and $2.6 million for the first quarter of 2016.  For the six months ended June 30, 2016, noninterest income was $6.3 million, compared to $4.1 million at June 30, 2015.  The increase in noninterest income for the second quarter and first six months of 2016, compared to the respective periods in 2015 and the first quarter of 2016, was primarily due to a $1.0 million gain on proceeds from company owned life insurance and higher gains on sales of securities.

The Company maintains life insurance policies for some directors and officers that are subject to split-dollar life insurance agreements, which continue after the participant's employment termination or retirement.  During the second quarter of 2016, the Company received death benefit proceeds of $3.1 million from the life insurance policy of a former officer of a bank acquired by the Company.  The cash surrender value of the policy was $2.1 million, which resulted in a gain on proceeds from company owned life insurance of $1.0 million.

Total noninterest expense for the second quarter of 2016 was $14.4 million, compared to $12.6 million for the second quarter of 2015, and $14.7 million for the first quarter of 2016.  Noninterest expense for the six months ended June 30, 2016 was $29.1 million, compared to $24.9 million for the six months ended June 30, 2015. The difference in noninterest expense in the second quarter and first six months of 2016, compared to the respective periods in 2015, was primarily due to additional employees retained from Focus and an increase in amortization of the core deposit intangible assets as a result of the Focus acquisition, annual salary increases and additional newly hired employees.  There were also significantly lower than normal professional fees for the second quarter and first six months of 2015 due to recoveries of legal fees on problem loans that were paid off.  The lower professional fees were partially offset by pre-tax acquisition costs incurred by the Company in 2015 related to the Focus transaction totaling $423,000 for the second quarter of 2015, and $542,000 during the first six months of 2015.  Full time equivalent employees were 268 at June 30, 2016, 243 at June 30, 2015, and 260 at March 31, 2016. 

The efficiency ratio for the second quarter of 2016 improved to 54.47%, compared to 63.70% for the second quarter of 2015, and 58.93% for the first quarter of 2016, reflecting operating efficiencies generated from our acquisitions and the strong revenue growth during the year.  The efficiency ratio for the six months ended June 30, 2016 was 56.63%, compared to 64.51% for the six months ended June 30, 2015.  The efficiency ratio for the second quarter of 2016 and for the first six months of 2016 was favorably impacted by a $1.0 million gain on proceeds from company owned life insurance.

Income tax expense for the second quarter of 2016 was $4.4 million, compared to $2.7 million for the second quarter of 2015, and $3.7 million for the first quarter of 2016. The effective tax rate for the second quarter of 2016 and 2015 was 37.5%, compared to 37.9% for the first quarter of 2016.  Income tax expense for the six months ended June 30, 2016 was $8.1 million, compared to $5.1 million for the six months ended June 30, 2015. The effective tax rate for the six months ended June 30, 2016 was 37.7%, compared to 37.3% for the six months ended June 30, 2015.  The difference in the effective tax rate for the periods reported, compared to the combined Federal and state statutory tax rate of 42%, is primarily the result of the Company's investment in life insurance policies whose earnings are not subject to taxes, tax credits related to investments in low income housing limited partnerships (net of low income housing investment losses), and tax-exempt interest income earned on municipal bonds. 

Balance Sheet Review, Capital Management and Credit Quality

Total assets were $2.38 billion at June 30, 2016, compared to $1.68 billion at June 30, 2015, and $2.33 billion at March 31, 2016.  

The investment securities available-for-sale portfolio totaled $390.4 million at June 30, 2016, compared to $209.1 million at June 30, 2015, and $448.5 million at March 31, 2016.  At June 30, 2016, the Company's securities available-for-sale portfolio was comprised of $373.5 million agency mortgage-backed securities (all issued by U.S. Government sponsored entities), $15.9 million of single entity issue trust preferred securities, and $1.0 million of corporate bonds. The pre-tax unrealized gain on securities available-for-sale at June 30, 2016 was $7.7 million, compared to a pre-tax unrealized gain on securities available-for-sale of $2.4 million at June 30, 2015, and a pre-tax unrealized gain on securities available-for-sale of $5.2 million at March 31, 2016.  

The Company received gross proceeds of $43.6 million on investment securities available-for-sale it sold during the second quarter of 2016 with a book value totaling $43.2 million, resulting in a gain on sale of securities of $347,000.  The $43.2 million book value of investment securities sold included $30.1 million of U.S. Treasury securities, $9.0 million of U.S. Government sponsored entities, and $4.1 million of agency mortgage-backed securities. 

At June 30, 2016, investment securities held-to-maturity totaled $210.2 million, compared to $100.3 million at June 30, 2015, and $185.2 million at March 31, 2016.  At June 30, 2016, the Company's securities held-to-maturity portfolio, at amortized cost, was comprised of $91.4 million tax-exempt municipal bonds, and $118.8 million agency mortgage-backed securities.   During the second quarter of 2016, the Company purchased $31.3 million of Government National Mortgage Association ("GNMA") securities held-to-maturity, with an average book yield of 1.49%.

Loans (excluding loans‑held‑for‑sale) increased $330.5 million, or 29%, to $1.46 billion at June 30, 2016, compared to $1.13 billion at June 30, 2015, which included an increase of $156.5 million, or 14%, in the Company's legacy loan portfolio, $141.1 million from the Focus loan portfolio, and $32.9 million of purchased residential mortgage loans.  Loans increased $68.9 million, or 5%, at June 30, 2016, compared to $1.40 billion at March 31, 2016, which included an increase of $36.0 million, or 3%, in the Company's legacy and Focus loan portfolios, and $32.9 million of purchased residential mortgage loans.

The loan portfolio remains well-diversified with commercial and industrial ("C&I") loans accounting for 42% of the loan portfolio at June 30, 2016, which included $51.8 million of factored receivables at Bay View Funding. Commercial real estate loans accounted for 42% of the total loan portfolio, of which 42% were owner-occupied by businesses.  Consumer and home equity loans accounted for 7% of total loans, land and construction loans accounted for 7% of total loans, and residential mortgage loans accounted for the remaining 2% of total loans at June 30, 2016.   C&I line usage was 42% at June 30, 2016, compared to 40% at June 30, 2015, and 44% at March 31, 2016.

During the second quarter of 2016, the Company purchased $35.0 million of jumbo single family residential mortgage loans all of which are domiciled in California.   The average loan principal amount is approximately $850,000, and the average yield on the portfolio is 3.11%, net of servicing fees of 25 basis points. Residential mortgages outstanding at June 30, 2016 totaled $32.9 million.

The yield on the loan portfolio was 5.60% for the second quarter of 2016 and the first six months of 2016, compared to 5.66% for the second quarter of 2015 and 5.69% for the first six months of 2015.  The decrease in the yield on the loan portfolio for the second quarter and first six months of 2016, compared to the respective periods in 2015, primarily reflects the addition of the lower yielding Focus loan portfolio, partially offset by the accretion of the loan purchase discount into loan interest income from the Focus transaction.  The decrease in the yield on the loan portfolio for the second quarter of 2016, compared to 5.64% for the first quarter of 2016, primarily reflects a lower accretion of the loan purchase discount into loan interest income from the Focus transaction.

At June 30, 2016, NPAs were $4.7 million, or 0.20% of total assets, compared to $5.3 million, or 0.31% of total assets, at June 30, 2015, and $4.6 million, or 0.20% of total assets, at March 31, 2016.  At June 30, 2016, the NPAs included no loans guaranteed by the SBA.  Foreclosed assets were $313,000 at June 30, 2016, compared to $421,000 at June 30, 2015, and $386,000 at March 31, 2016.  The following is a breakout of NPAs at the periods indicated:

   
  End of Period:
NONPERFORMING ASSETS June 30, 2016 March 31, 2016 June 30, 2015
(in $000's, unaudited) Balance % of Total Balance % of Total Balance % of Total
Commercial real estate loans $2,849   61% $2,910   64% $3,160   60%
Home equity and consumer loans  760   16%  771   17%  327   6%
Commercial and industrial loans  504   11%  290   6%  104   2%
Foreclosed assets  313   7%  386   8%  421   8%
Land and construction loans  207   4%  213   5%  500   10%
SBA loans  40   1%  -   -   741   14%
Total nonperforming assets $4,673   100% $4,570   100% $5,253   100%
                         

Classified assets were $22.8 million at June 30, 2016, compared to $11.2 million at June 30, 2015, and $21.3 million at March 31, 2016. Classified assets include Small Business Administration ("SBA") guarantees of $14,000 at June 30, 2016, $0 at June 30, 2015, and $253,000 at March 31, 2016.

The following table summarizes the allowance for loan losses:

           
  For the Quarter Ended For the Six Months Ended
ALLOWANCE FOR LOAN LOSSES June 30, March 31, June 30, June 30, June 30,
(in $000's, unaudited)  2016   2016   2015   2016   2015 
Balance at beginning of period $19,458  $18,926  $18,554  $18,926  $18,379 
Provision (credit) for loan losses during the period  351   401   22   752   (38)
Net recoveries (charge-offs) during the period  112   131   181   243   416 
Balance at end of period $19,921  $19,458  $18,757  $19,921  $18,757 
           
Total loans $1,464,114  $1,395,264  $1,133,603  $1,464,114  $1,133,603 
Total nonperforming loans $4,360  $4,184  $4,832  $4,360  $4,832 
           
Allowance for loan losses to total loans  1.36%  1.39%  1.65%  1.36%  1.65%
Allowance for loan losses to total nonperforming loans  456.90%  465.06%  388.18%  456.90%  388.18%
                     

The ALLL at June 30, 2016 was 1.36% of total loans, compared to 1.65% at June 30, 2015, and 1.39% at March 31, 2016.  The ALLL to total loans decreased at June 30, 2016, compared to June 30, 2015, primarily due to the Focus loan portfolio, which was marked to fair market value on the acquisition date, and an increase in the Company's legacy loan balances with minimal default histories, improving the quality of the loan portfolio overall.  The ALLL to total nonperforming loans was 456.90% at June 30, 2016, compared to 388.18% at June 30, 2015, and 465.06% at March 31, 2016.

Total deposits increased $626.6 million, or 43%, to $2.07 billion at June 30, 2016, compared to $1.45 billion at June 30, 2015, which included an increase of $263.0 million, or 18%, in the Company's legacy deposit portfolio, and $363.6 million from the Focus deposit portfolio.  Total deposits increased $45.0 million, or 2%, at June 30, 2016, compared to $2.03 billion at March 31, 2016, primarily due to an increase in noninterest-bearing demand deposits.

The total cost of deposits remained unchanged at 0.15% for the second quarter of 2016, compared to the second quarter of 2015, and the first quarter of 2016.  The total cost of deposits was also at 0.15% for the six months ended June 30, 2016, and the six months ended June 30, 2015.

Tangible equity was $204.1 million at June 30, 2016, compared to $171.1 million at June 30, 2015, and $197.9 million at March 31, 2016.  The increase in tangible equity at June 30, 2016 from June 30, 2015 was primarily due to the shares issued to the Focus shareholders in connection with the Focus acquisition and an increase in the Company's retained earnings.  Tangible book value per common share was $5.72 at June 30, 2016, compared to $5.70 at June 30, 2015, and $5.54 at March 31, 2016.  There were 21,004 shares of Series C Preferred Stock outstanding at June 30, 2016, June 30, 2015, and March 31, 2016, and the Series C Preferred Stock is convertible into an aggregate of 5.6 million shares of common stock at a conversion price of $3.75, upon a transfer of the Series C Preferred Stock in a widely dispersed offering.  Pro forma tangible book value per common share, assuming the outstanding Series C Preferred Stock was converted into common stock, was $5.39 at June 30, 2016, compared to $5.31 at June 30, 2015, and $5.24 at March 31, 2016. 

The holders of the Series C Preferred Stock applied for and received the approval of the Federal Reserve and California Department of Business Oversight to exchange the 21,004 shares of Series C Preferred Stock for 5,601,000 common stock (the as converted equivalent).  The Company has indicated to the holders that if such approvals were obtained the Company would agree to enter into an exchange agreement to effect the exchange.  The Company expects to enter into agreements and complete the transactions during the third quarter of 2016.

Accumulated other comprehensive loss was ($2.1) million at June 30, 2016, compared to ($3.3) million at June 30, 2015, and ($3.5) million at March 31, 2016. The unrealized gain on securities available-for-sale, net of taxes, included in accumulated other comprehensive loss was an unrealized gain of $4.5 million June 30, 2016, compared to $1.4 million at June 30, 2015, and $3.0 million at March 31, 2016.  The components of accumulated other comprehensive loss, net of taxes, at June 30, 2016 include the following: an unrealized gain on available-for-sale securities of $4.5 million; the remaining unamortized unrealized gain on securities available-for-sale transferred to held-to-maturity of $350,000; a split dollar insurance contracts liability of ($3.6) million; a supplemental executive retirement plan liability of ($4.1) million; and an unrealized gain on interest-only strip from SBA loans of $670,000.

Heritage Commerce Corp, a bank holding company established in February 1998, is the parent company of Heritage Bank of Commerce, established in 1994 and headquartered in San Jose with full-service branches in Danville, Fremont, Gilroy, Hollister, Los Altos, Los Gatos, Morgan Hill, Pleasanton, 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 Santa Clara 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

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. In addition, our past results of operations do not necessarily indicate our future results. The forward looking statements could be affected by many factors, including but not limited to: (1) local, regional, and national economic conditions and events and their impact on us and our customers; (2) changes in the financial performance or condition of the Company's customers; (3) volatility in credit and equity markets and its effect on the global economy; (4) competition for loans and deposits and failure to attract or retain deposits and loans; (5) our ability to increase market share and control expenses; (6) our ability to develop and promote customer acceptance of new products and services in a timely manner; (7) risks associated with concentrations in real estate related loans; (8) other than temporary impairment charges to our securities portfolio; (9) an oversupply of inventory and deterioration in values of California commercial real estate; (10) a prolonged slowdown in construction activity; (11) changes in the level of nonperforming assets and charge offs and other credit quality measures, and their impact on the adequacy of the Company's allowance for loan losses and the Company's provision for loan losses; (12) the 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; (13) changes in inflation, interest rates, and market liquidity which may impact interest margins and impact funding sources; (14) our ability to raise capital or incur debt on reasonable terms; (15) regulatory limits on Heritage Bank of Commerce's ability to pay dividends to the Company; (16) changes in our capital management policies, including those regarding business combinations, dividends, and share repurchases, among others; (17) 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; (18) the ability to keep pace with, and implement on a timely basis, technological changes; (19) the impact of cyber security attacks or other disruptions to the Company's information systems and any resulting compromise of data or disruptions in service; (20) changes in the competitive environment among financial or bank holding companies and other financial service providers; (21) the effect and uncertain impact on the Company of the enactment of the Dodd Frank Wall Street Reform and Consumer Protection Act of 2010 and the rules and regulations promulgated by supervisory and oversight agencies implementing the new legislation; (22) significant changes in applicable laws and regulations, including those concerning taxes, banking and securities; (23) the 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; (24) the costs and effects of legal and regulatory developments, including resolution of legal proceedings or regulatory or other governmental inquiries, and the results of regulatory examinations or reviews; and (25) the successful integration of the business, employees and operations of Focus Business Bank with the Company and our ability to achieve the projected synergies of this acquisition within the expected time frame; and (26) our success in managing the risks involved in the foregoing factors.

Member FDIC

        
 For the Quarter Ended: Percent Change From: For the Six Months Ended:  
CONSOLIDATED INCOME STATEMENTS June 30,March 31,June 30, March 31,June 30, June 30,June 30, Percent 
(in $000's, unaudited) 2016  2016  2015   2016  2015   2016  2015  Change
Interest income$23,504 $23,062 $18,175   2% 29% $46,566 $35,541   31%
Interest expense 760  758  533   0% 43%  1,518  1,041   46%
Net interest income before provision for loan losses 22,744  22,304  17,642   2% 29%  45,048  34,500   31%
Provision (credit) for loan losses 351  401  22   -12% 1495%  752  (38)  2079%
Net interest income after provision for loan losses 22,393  21,903  17,620   2% 27%  44,296  34,538   28%
Noninterest income:           
Gain on proceeds from company owned life insurance 1,019  -  -  N/AN/A  1,019  -   N/A 
Service charges and fees on deposit accounts 783  767  715   2% 10%  1,550  1,338   16%
Increase in cash surrender value of life insurance 440  449  396   -2% 11%  889  796   12%
Servicing income 371  371  299   0% 24%  742  605   23%
Gain on sales of securities 347  180  -   93%N/A  527  -  N/A
Gain on sales of SBA loans 279  305  186   -9% 50%  584  393   49%
Other 421  542  568   -22% -26%  963  958   1%
Total noninterest income 3,660  2,614  2,164   40% 69%  6,274  4,090   53%
            
Noninterest expense:           
Salaries and employee benefits 8,742  8,947  7,712   -2% 13%  17,689  15,754   12%
Occupancy and equipment 1,081  1,076  1,036   0% 4%  2,157  2,072   4%
Professional fees 708  825  239   -14% 196%  1,533  333   360%
Other 3,850  3,837  3,630   0% 6%  7,687  6,734   14%
Total noninterest expense 14,381  14,685  12,617   -2% 14%  29,066  24,893   17%
Income before income taxes 11,672  9,832  7,167   19% 63%  21,504  13,735   57%
Income tax expense 4,377  3,726  2,690   17% 63%  8,103  5,120   58%
Net income   7,295     6,106     4,477    19% 63%    13,401     8,615    56%
Dividends on preferred stock (504) (504) (448)  0% 13%  (1,008) (896)  13%
Net income available to common shareholders 6,791  5,602  4,029   21% 69%  12,393  7,719   61%
Undistributed earnings allocated to Series C preferred stock (576) (403) (331)  43% 74%  (979) (605)  62%
Distributed and undistributed earnings allocated to common shareholders$6,215 $5,199 $3,698   20% 68% $11,414 $7,114   60%
            
PER COMMON SHARE DATA           
(unaudited)           
Basic earnings per share$0.19 $0.16 $0.14   19% 36% $0.35 $0.27   30%
Diluted earnings per share$0.19 $0.16 $0.14   19% 36% $0.35 $0.27   30%
Weighted average shares outstanding - basic 32,243,935  32,125,716  26,573,909   0% 21%  32,184,825  26,541,816   21%
Weighted average shares outstanding - diluted 32,512,611  32,377,493  26,767,255   0% 21%  32,445,516  26,724,260   21%
Common shares outstanding at period-end 32,294,063  32,170,920  26,596,094   0% 21%  32,294,063  26,596,094   21%
Pro forma common shares outstanding at period-end, assuming Series C preferred stock was converted into common stock 37,895,063  37,771,920  32,197,094   0% 18%  37,895,063  32,197,094   18%
Book value per share$7.37 $7.22 $6.30   2% 17% $7.37 $6.30   17%
Tangible book value per share$5.72 $5.54 $5.70   3% 0% $5.72 $5.70   0%
Pro forma tangible book value per share, assuming Series C preferred stock was converted into common stock$5.39 $5.24 $5.31   3% 2% $5.39 $5.31   2%
            
KEY FINANCIAL RATIOS           
(unaudited)           
Annualized return on average equity 11.58% 9.87% 9.59%  17% 21%  10.73% 9.32%  15%
Annualized return on average tangible equity 14.68% 12.62% 10.49%  16% 40%  13.66% 10.20%  34%
Annualized return on average assets 1.25% 1.05% 1.08%  19% 16%  1.15% 1.05%  10%
Annualized return on average tangible assets 1.28% 1.07% 1.09%  20% 17%  1.17% 1.06%  10%
Net interest margin 4.27% 4.22% 4.66%  1% -8%  4.24% 4.62%  -8%
Efficiency ratio 54.47% 58.93% 63.70%  -8% -14%  56.63% 64.51%  -12%
            
AVERAGE BALANCES           
(in $000's, unaudited)           
Average assets$2,345,874 $2,349,224 $1,664,568   0% 41% $2,347,549 $1,649,839   42%
Average tangible assets$2,292,248 $2,295,181 $1,648,505   0% 39% $2,293,715 $1,633,686   40%
Average earning assets$2,172,349 $2,157,463 $1,542,551   1% 41% $2,168,411 $1,529,490   42%
Average loans held-for-sale$2,951 $4,746 $1,748   -38% 69% $3,848 $1,370   181%
Average total loans$1,415,001 $1,363,850 $1,106,158   4% 28% $1,392,931 $1,085,618   28%
Average deposits$2,042,524 $2,030,898 $1,428,469   1% 43% $2,036,711 $1,416,121   44%
Average demand deposits - noninterest-bearing$780,116 $776,999 $550,869   0% 42% $778,558 $540,767   44%
Average interest-bearing deposits$1,262,408 $1,253,899 $877,600   1% 44% $1,258,153 $875,354   44%
Average interest-bearing liabilities$1,262,415 $1,255,647 $877,613   1% 44% $1,259,030 $875,392   44%
Average equity$253,430 $248,700 $187,179   2% 35% $251,065 $186,400   35%
Average tangible equity$199,804 $194,657 $171,116   3% 17% $197,231 $170,247   16%
            

 

 End of Period: Percent Change From:
CONSOLIDATED BALANCE SHEETSJune 30,March 31,June 30, March 31,June 30,
(in $000's, unaudited) 2016  2016  2015   2016  2015 
ASSETS      
Cash and due from banks$30,820 $25,573 $36,960   21% -17%
Federal funds sold and interest-bearing deposits in other financial institutions 128,024  117,562  94,308   9% 36%
Securities available-for-sale, at fair value 390,435  448,540  209,092   -13% 87%
Securities held-to-maturity, at amortized cost 210,170  185,165  100,321   14% 109%
Loans held-for-sale - SBA, including deferred costs 4,879  2,389  3,794   104% 29%
Loans:      
Commercial 610,385  592,128  471,651   3% 29%
Real estate:      
Commercial 619,539  616,821  508,497   0% 22%
Land and construction 103,710  95,547  68,666   9% 51%
Home equity 78,332  74,993  71,579   4% 9%
Residential mortgages 32,852  -  -  N/AN/A
Consumer 20,037  16,476  13,739   22% 46%
Loans 1,464,855  1,395,965  1,134,132   5% 29%
Deferred loan fees (741) (701) (529)  6% 40%
Total loans, net of deferred fees 1,464,114  1,395,264  1,133,603   5% 29%
Allowance for loan losses (19,921) (19,458) (18,757)  2% 6%
Loans, net 1,444,193  1,375,806  1,114,846   5% 30%
Company owned life insurance 58,765  60,470  52,053   -3% 13%
Premises and equipment, net 7,542  7,625  7,249   -1% 4%
Goodwill 45,664  45,664  13,055   0% 250%
Other intangible assets 7,734  8,126  2,898   -5% 167%
Accrued interest receivable and other assets 50,066  50,413  45,630   -1% 10%
Total assets$   2,378,292  $   2,327,333  $   1,680,206    2% 42%
       
LIABILITIES AND SHAREHOLDERS' EQUITY      
Liabilities:      
Deposits:      
Demand, noninterest-bearing$834,590 $768,525 $574,210   9% 45%
Demand, interest-bearing 499,512  506,272  235,922   -1% 112%
Savings and money market 480,677  493,275  380,398   -3% 26%
Time deposits-under $250 60,761  61,595  54,071   -1% 12%
Time deposits-$250 and over 182,591  179,048  161,606   2% 13%
Time deposits - brokered 6,079  11,829  26,139   -49% -77%
CDARS - money market and time deposits 9,574  8,192  14,791   17% -35%
Total deposits 2,073,784  2,028,736  1,447,137   2% 43%
Accrued interest payable and other liabilities 46,995  46,938  46,030   0% 2%
Total liabilities 2,120,779  2,075,674  1,493,167   2% 42%
       
Shareholders' Equity:      
Series C preferred stock, net 19,519  19,519  19,519   0% 0%
Common stock 194,765  194,153  134,307   0% 45%
Retained earnings 45,371  41,485  36,484   9% 24%
Accumulated other comprehensive loss (2,142) (3,498) (3,271)  39% 35%
Total shareholders' equity 257,513  251,659  187,039   2% 38%
Total liabilities and shareholders' equity$   2,378,292  $   2,327,333  $   1,680,206    2% 42%
             

 

 End of Period: Percent Change From:
 June 30,March 31,June 30, March 31,June 30,
  2016  2016  2015   2016  2015 
CREDIT QUALITY DATA      
(in $000's, unaudited)      
Nonaccrual loans - held-for-investment$4,360 $4,184 $4,832   4% -10%
Foreclosed assets 313  386  421   -19% -26%
Total nonperforming assets$4,673 $4,570 $5,253   2% -11%
Other restructured loans still accruing$141 $145 $158   -3% -11%
Net (recoveries) charge-offs during the quarter$(112)$(131)$(181)  15% 38%
Provision (credit) for loan losses during the quarter$351 $401 $22   -12% 1495%
Allowance for loan losses$19,921 $19,458 $18,757   2% 6%
Classified assets$22,811 $21,348 $11,169   7% 104%
Allowance for loan losses to total loans 1.36% 1.39% 1.65%  -2% -18%
Allowance for loan losses to total nonperforming loans 456.90% 465.06% 388.18%  -2% 18%
Nonperforming assets to total assets 0.20% 0.20% 0.31%  0% -35%
Nonperforming loans to total loans 0.30% 0.30% 0.43%  0% -30%
Classified assets to Heritage Commerce Corp Tier 1 capital plus allowance for loan losses 10% 10% 6%  0% 67%
Classified assets to Heritage Bank of Commerce Tier 1 capital plus allowance for loan losses 10% 10% 6%  0% 67%
       
OTHER PERIOD-END STATISTICS      
(in $000's, unaudited)      
Heritage Commerce Corp:      
Tangible equity$204,115 $197,869 $171,086   3% 19%
Tangible common equity$184,596 $178,350 $151,567   4% 22%
Shareholders' equity / total assets 10.83% 10.81% 11.13%  0% -3%
Tangible equity / tangible assets 8.78% 8.70% 10.28%  1% -15%
Tangible common equity / tangible assets 7.94% 7.84% 9.11%  1% -13%
Loan to deposit ratio 70.60% 68.78% 78.33%  3% -10%
Noninterest-bearing deposits / total deposits 40.24% 37.88% 39.68%  6% 1%
Total risk-based capital ratio 12.3% 12.4% 13.0%  -1% -5%
Tier 1 risk-based capital ratio 11.2% 11.3% 11.8%  -1% -5%
Common Equity Tier 1 risk-based capital ratio 10.2% 10.2% 10.5%  0% -3%
Leverage ratio 9.0% 8.8% 10.6%  2% -15%
       
Heritage Bank of Commerce:      
Total risk-based capital ratio 12.2% 12.3% 12.6%  -1% -3%
Tier 1 risk-based capital ratio 11.1% 11.2% 11.3%  -1% -2%
Common Equity Tier 1 risk-based capital ratio 11.1% 11.2% 11.3%  -1% -2%
Leverage ratio 8.9% 8.7% 10.2%  2% -13%
                 

 

  For the Quarter Ended  For the Quarter Ended 
  June 30, 2016 June 30, 2015
    Interest Average   Interest Average
NET INTEREST INCOME AND NET INTEREST MARGINAverage Income/ Yield/ Average Income/ Yield/
(in $000's, unaudited) Balance Expense Rate Balance Expense Rate
Assets:            
Loans, gross(1) $1,417,952  $19,735   5.60% $1,107,906  $15,643   5.66%
Securities - taxable  523,183   2,828   2.17%  228,180   1,554   2.73%
Securities - tax exempt(2)  92,230   885   3.86%  80,943   792   3.92%
Other investments and interest-bearing deposits in other financial institutions  138,984   366   1.06%  125,522   463   1.48%
Total interest earning assets(2)  2,172,349   23,814   4.41%  1,542,551   18,452   4.80%
Cash and due from banks  33,208       27,996     
Premises and equipment, net  7,589       7,342     
Goodwill and other intangible assets  53,626       16,063     
Other assets  79,102       70,616     
Total assets $2,345,874      $1,664,568     
             
Liabilities and shareholders' equity:            
Deposits:            
Demand, noninterest-bearing $780,116      $550,869     
             
Demand, interest-bearing  498,970   236   0.19%  235,860   105   0.18%
Savings and money market  505,697   269   0.21%  382,751   198   0.21%
Time deposits - under $100  22,618   16   0.28%  19,065   14   0.29%
Time deposits - $100 and over  217,586   219   0.40%  199,615   161   0.32%
Time deposits - brokered  8,861   19   0.86%  26,790   53   0.79%
CDARS - money market and time deposits  8,676   1   0.05%  13,519   2   0.06%
Total interest-bearing deposits  1,262,408   760   0.24%  877,600   533   0.24%
Total deposits  2,042,524   760   0.15%  1,428,469   533   0.15%
             
Short-term borrowings  7   -   0.00%  13   -   0.00%
Total interest-bearing liabilities  1,262,415   760   0.24%  877,613   533   0.24%
Total interest-bearing liabilities and demand, noninterest-bearing / cost of funds  2,042,531   760   0.15%  1,428,482   533   0.15%
Other liabilities  49,913       48,907     
Total liabilities  2,092,444       1,477,389     
Shareholders' equity  253,430       187,179     
Total liabilities and shareholders' equity $2,345,874      $1,664,568     
             
Net interest income(2) / margin    23,054   4.27%    17,919   4.66%
Less tax equivalent adjustment(2)    (310)      (277)  
Net interest income   $22,744      $17,642   
                 
(1)Includes loans held-for-sale.  Yield amounts earned on loans include loan fees and costs.  Nonaccrual loans are included in average balance.
(2)Reflects tax equivalent adjustment for tax exempt income based on a 35% tax rate.
 

 

  For the Six Months Ended For the Six Months Ended
  June 30, 2016 June 30, 2015
    Interest Average   Interest Average
NET INTEREST INCOME AND NET INTEREST MARGINAverage Income/ Yield/ Average Income/ Yield/
(in $000's, unaudited) Balance Expense Rate Balance Expense Rate
Assets:            
Loans, gross(1) $1,396,779   38,923   5.60% $1,086,988  $30,647   5.69%
Securities - taxable  501,850   5,603   2.25%  224,039   3,157   2.84%
Securities - tax exempt(2)  92,675   1,776   3.85%  80,410   1,571   3.94%
Federal funds sold and interest-bearing deposits in other financial institutions  177,107   886   1.01%  138,053   716   1.05%
Total interest earning assets(2)  2,168,411   47,188   4.38%  1,529,490   36,091   4.76%
Cash and due from banks  33,078       27,628     
Premises and equipment, net  7,660       7,397     
Goodwill and other intangible assets  53,834       16,153     
Other assets  84,566       69,171     
Total assets $2,347,549      $1,649,839     
             
Liabilities and shareholders' equity:            
Deposits:            
Demand, noninterest-bearing $778,558      $540,767     
             
Demand, interest-bearing  500,461   472   0.19%  233,669   205   0.18%
Savings and money market  502,159   540   0.22%  382,385   383   0.20%
Time deposits - under $100  22,953   32   0.28%  19,370   29   0.30%
Time deposits - $100 and over  212,349   410   0.39%  200,277   312   0.31%
Time deposits - brokered  11,843   49   0.83%  27,450   108   0.79%
CDARS - money market and time deposits  8,388   4   0.10%  12,203   4   0.07%
Total interest-bearing deposits  1,258,153   1,507   0.24%  875,354   1,041   0.24%
Total deposits  2,036,711   1,507   0.15%  1,416,121   1,041   0.15%
             
Short-term borrowings  877   11   2.52%  38   -   0.00%
Total interest-bearing liabilities  1,259,030   1,518   0.24%  875,392   1,041   0.24%
Total interest-bearing liabilities and demand, noninterest-bearing / cost of funds  2,037,588   1,518   0.15%  1,416,159   1,041   0.15%
Other liabilities  58,896       47,280     
Total liabilities  2,096,484       1,463,439     
Shareholders' equity  251,065       186,400     
Total liabilities and shareholders' equity $2,347,549      $1,649,839     
             
Net interest income(2) / margin    45,670   4.24%    35,050   4.62%
Less tax equivalent adjustment(2)    (622)      (550)  
Net interest income   $45,048      $34,500   
             
(1)Includes loans held-for-sale.  Yield amounts earned on loans include loan fees and costs.  Nonaccrual loans are included in average balance.
(2)Reflects tax equivalent adjustment for tax exempt income based on a 35% tax rate.
 



CONTACT: Heritage Commerce Corp Debbie Reuter, EVP, Corporate Secretary (408) 494-4542
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