Heritage Financial (HFWA) - 2025 Q2 - Quarterly Results

Q2 2025 Financial Performance Overview Heritage Financial's Q2 2025 net income declined due to strategic securities sales, despite core earnings growth and an expanded net interest margin Highlights and CEO Commentary Q2 2025 net income and diluted EPS declined due to a strategic pre-tax loss on securities sales, while core earnings and net interest margin expanded | Metric | Q2 2025 | Q1 2025 | Q2 2024 | | :--- | :--- | :--- | :--- | | Net Income (Millions USD) | $12.2 million | $13.9 million | $14.2 million | | Diluted EPS (USD) | $0.36 | $0.40 | $0.41 | - Incurred a pre-tax loss of $6.9 million on the sale of $91.6 million of investment securities as part of a strategic balance sheet repositioning, which decreased diluted EPS by $0.15 for the quarter[4] - Surrendered $8.5 million of its bank-owned life insurance (BOLI) portfolio, resulting in a tax expense of $515,000 and reducing diluted EPS by $0.02[5] - CEO Bryan McDonald noted continued growth in core earnings, expansion of net interest margin, and a $100 million increase in total deposits since year-end 2024, despite a seasonal Q2 decline[6] Key Financial Metrics Key financial metrics for Q2 2025 show decreased profitability ratios, while net interest margin improved and total assets remained stable | Financial Metric | Q2 2025 | Q1 2025 | Q2 2024 | | :--- | :--- | :--- | :--- | | Net Income (Millions USD) | $12.2 million | $13.9 million | $14.2 million | | Diluted EPS (USD) | $0.36 | $0.40 | $0.41 | | Return on Average Assets (%) | 0.70% | 0.79% | 0.80% | | Return on Average Common Equity (%) | 5.57% | 6.51% | 6.75% | | Net Interest Margin (%) | 3.51% | 3.44% | 3.27% | | Total Assets (Billions USD) | $7.07 billion | $7.13 billion | $7.06 billion | | Loans Receivable (Billions USD) | $4.77 billion | $4.76 billion | $4.53 billion | | Total Deposits (Billions USD) | $5.78 billion | $5.85 billion | $5.52 billion | Balance Sheet Analysis The balance sheet reflects strategic investment securities reduction, slight loan growth, seasonal deposit decline, and increased stockholders' equity Investment Securities The investment securities portfolio decreased by 4.8% to $1.35 billion in Q2 2025 due to strategic sales, with proceeds reinvested in higher-yielding securities - Total investment securities decreased by $67.6 million (4.8%) to $1.35 billion at June 30, 2025, from $1.41 billion at March 31, 2025[9] - The company sold $91.6 million of investment securities at a pre-tax loss of $6.9 million and purchased $56.4 million of new securities during the quarter[9] | Security Type | Balance (Millions USD) | % of Total | | :--- | :--- | :--- | | Available for Sale | $656.5 million | 48.7% | | Residential CMO and MBS | $317.2 million | 23.6% | | Commercial CMO and MBS | $260.7 million | 19.3% | | Held to Maturity | $689.8 million | 51.3% | | Commercial CMO and MBS | $306.3 million | 22.8% | | Residential CMO and MBS | $232.2 million | 17.3% | | Total Investment Securities | $1.35 billion | 100.0% | Loans Receivable Loans receivable grew slightly by 0.2% to $4.77 billion in Q2 2025, driven by CRE loan increases offsetting declines in other categories, with new loan funding increasing - Loans receivable increased by $10.0 million (0.2%) to $4.77 billion at June 30, 2025[11] - New loans funded increased to $139.9 million in Q2 2025, compared to $95.8 million in Q1 2025, reflecting seasonality[11] | Loan Category | Balance (Millions USD) | % of Total | QoQ Change | | :--- | :--- | :--- | :--- | | Non-owner occupied CRE | $1.94 billion | 40.7% | +1.3% | | Owner-occupied CRE | $1.01 billion | 21.3% | +3.0% | | Commercial and industrial | $831.1 million | 17.4% | -2.3% | | Real estate construction | $433.3 million | 9.0% | -4.4% | Deposits Total deposits decreased by 1.0% to $5.78 billion in Q2 2025, mainly due to a decline in non-maturity deposits, though average total deposits increased - Total deposits decreased by $60.9 million (1.0%) to $5.78 billion at June 30, 2025[13] - Non-maturity deposits decreased by $57.3 million, partially offset by a $27.1 million increase in higher-yielding money market accounts[13] | Deposit Type | Balance (Millions USD) | % of Total | QoQ Change | | :--- | :--- | :--- | :--- | | Noninterest demand deposits | $1.58 billion | 27.4% | -2.3% | | Interest bearing demand deposits | $1.49 billion | 25.7% | -2.5% | | Money market accounts | $1.31 billion | 22.6% | +2.1% | | Certificates of deposit | $981.7 million | 17.0% | -0.4% | Borrowings and Stockholders' Equity Total borrowings remained stable at $263.2 million, while stockholders' equity increased by 0.8% to $888.2 million, maintaining strong capital ratios - Total borrowings decreased slightly by $1.2 million to $263.2 million, all with the FHLB and maturing within one year[14] - Total stockholders' equity increased by $6.7 million (0.8%) to $888.2 million, primarily due to net income[15] | Capital Ratio | June 30, 2025 | March 31, 2025 | | :--- | :--- | :--- | | Stockholders' Equity to Total Assets (%) | 12.6% | 12.4% | | Tangible Common Equity to Tangible Assets (%) | 9.4% | 9.3% | | Common Equity Tier 1 Capital Ratio (%) | 12.2% | 12.2% | | Total Capital Ratio (%) | 13.6% | 13.6% | Credit Quality and Risk Management Credit quality metrics showed some weakening with increased classified and nonaccrual loans, while ACL slightly increased, and the company maintained a strong liquidity position Allowance for Credit Losses (ACL) The Allowance for Credit Losses (ACL) on loans increased to 1.10% of loans receivable, with a $863,000 provision recorded due to charge-offs and loan growth - The ACL on loans as a percentage of loans receivable was 1.10% at June 30, 2025, compared to 1.09% at March 31, 2025[17] - A provision for credit losses on loans of $863,000 was recorded in Q2 2025, primarily due to charge-offs of $494,000 and loan growth[17] | ACL Activity (Q2 2025) | ACL on Loans (Millions USD) | ACL on Unfunded Commitments (Millions USD) | Total (Millions USD) | | :--- | :--- | :--- | :--- | | Beginning Balance | $52.2 million | $0.6 million | $52.8 million | | Provision for credit losses | $0.9 million | $0.1 million | $1.0 million | | Net Charge-offs | ($0.5 million) | — | ($0.5 million) | | Ending Balance | $52.5 million | $0.7 million | $53.3 million | Credit Quality Credit quality metrics weakened in Q2 2025, with classified loans increasing to 2.1% of total loans and nonaccrual loans more than doubling to $9.9 million - Classified loans increased by $35.3 million from the prior quarter, with the percentage of classified loans to loans receivable rising to 2.1% from 1.4%[20] - Nonaccrual loans increased by $5.4 million to $9.9 million during Q2 2025, with the ratio to loans receivable rising to 0.21% from 0.09%[21] | Risk Rating | Balance (Millions USD) | % of Total | | :--- | :--- | :--- | | Pass | $4.56 billion | 95.5% | | Special Mention | $114.1 million | 2.4% | | Substandard | $99.7 million | 2.1% | Liquidity The company maintained a strong liquidity position with total available sources of $2.38 billion at Q2 2025, covering 41.1% of total deposits and 100.4% of uninsured deposits - Total available liquidity sources were $2.38 billion at June 30, 2025, representing 41.1% of total deposits and 100.4% of estimated uninsured deposits[22] | Liquidity Source | June 30, 2025 (Millions USD) | March 31, 2025 (Millions USD) | | :--- | :--- | :--- | | On-balance sheet liquidity | $910.0 million | $946.8 million | | Cash and cash equivalents | $254.1 million | $248.7 million | | Unencumbered investment securities | $655.9 million | $698.1 million | | Off-balance sheet liquidity | $1.47 billion | $1.59 billion | | FHLB borrowing availability | $977.8 million | $1.08 billion | | FRB borrowing availability | $346.3 million | $365.6 million | | Total available liquidity | $2.38 billion | $2.54 billion | Income Statement Analysis Net interest income increased due to an expanded net interest margin, while noninterest income significantly decreased due to securities sales losses, and noninterest expense saw a slight reduction Net Interest Income and Margin Net interest margin expanded by 7 basis points to 3.51% in Q2 2025, driven by increased asset yields and modest deposit cost rises, leading to a 2.4% increase in net interest income - Net interest margin increased by seven basis points to 3.51% in Q2 2025 from 3.44% in Q1 2025[24] - The yield on loans receivable increased five basis points to 5.50%, while the cost of interest-bearing deposits increased two basis points to 1.94% compared to the prior quarter[25][26] - Net interest income increased by $1.3 million (2.4%) during Q2 2025 compared to Q1 2025[27] Noninterest Income Noninterest income fell sharply to $1.5 million in Q2 2025, primarily due to a $6.9 million pre-tax loss on investment securities sales, partially offset by higher BOLI and card revenue - Noninterest income decreased by $2.4 million (61.1%) from the first quarter of 2025, mainly due to higher losses on the sale of investment securities[31] | Noninterest Income Component | Q2 2025 (Millions USD) | Q1 2025 (Millions USD) | Q2 2024 (Millions USD) | | :--- | :--- | :--- | :--- | | Service charges and other fees | $2.9 million | $3.0 million | $2.8 million | | Card revenue | $2.0 million | $1.7 million | $1.9 million | | Loss on sale of investment securities | ($6.9 million) | ($3.9 million) | ($1.9 million) | | Bank owned life insurance income | $1.3 million | $0.9 million | $0.9 million | | Other income | $2.1 million | $2.2 million | $1.4 million | | Total noninterest income (loss) | $1.5 million | $3.9 million | $5.2 million | Noninterest Expense Noninterest expense decreased slightly by 0.7% to $41.1 million in Q2 2025, driven by lower compensation and data processing costs, partially offset by higher professional fees - Noninterest expense decreased by $0.3 million (0.7%) to $41.1 million in Q2 2025, compared to $41.4 million in Q1 2025[34] | Noninterest Expense Component | Q2 2025 (Millions USD) | Q1 2025 (Millions USD) | Q2 2024 (Millions USD) | | :--- | :--- | :--- | :--- | | Compensation and employee benefits | $25.5 million | $25.8 million | $24.4 million | | Occupancy and equipment | $4.8 million | $4.9 million | $4.8 million | | Data processing | $3.7 million | $3.9 million | $3.6 million | | Professional services | $1.1 million | $0.7 million | $0.8 million | | Total noninterest expense | $41.1 million | $41.4 million | $39.1 million | Income Tax Expense Income tax expense remained flat at $2.2 million, but the effective tax rate increased to 15.5% in Q2 2025, including a tax expense from BOLI policy surrender - The company recognized $515,000 in income tax expense related to the surrender of $8.5 million in BOLI policies during Q2 2025[37] | Tax Metric | Q2 2025 (Millions USD) | Q1 2025 (Millions USD) | Q2 2024 (Millions USD) | | :--- | :--- | :--- | :--- | | Income before income taxes | $14.5 million | $16.2 million | $16.0 million | | Income tax expense | $2.2 million | $2.2 million | $1.8 million | | Effective income tax rate | 15.5% | 13.9% | 11.5% | Capital and Shareholder Returns The company declared a regular quarterly cash dividend, demonstrating its commitment to returning capital to shareholders Dividends The Board of Directors declared a regular quarterly cash dividend of $0.24 per share, reinforcing commitment to shareholder returns - On July 23, 2025, the Board of Directors declared a quarterly cash dividend of $0.24 per share[39] - The dividend is payable on August 20, 2025, to shareholders of record as of August 6, 2025[39] Appendix: Financial Statements and Non-GAAP Reconciliations This appendix provides detailed unaudited consolidated financial statements, comprehensive financial statistics, and reconciliations for non-GAAP financial measures to aid in performance analysis Condensed Consolidated Financial Statements This section presents unaudited condensed consolidated statements of financial condition and income for Q2 2025, with comparative prior period data See full Condensed Consolidated Statements of Financial Condition See full Condensed Consolidated Statements of Income Financial Statistics This section provides detailed financial statistics, including average balances, yields, nonperforming assets, credit quality metrics, and key ratio trends See full tables for Average Balances, Yields, and Rates Paid See full tables for Nonperforming Assets and Credit Quality Metrics See full tables for Quarterly Financial Statistics Non-GAAP Financial Measures The company provides reconciliations for non-GAAP measures like adjusted diluted EPS, tangible book value per share, and adjusted efficiency ratio, offering a clearer view of core operational performance - The company presents non-GAAP measures because it believes they provide useful and comparative information to assess trends in capital, performance, and asset quality[56] | Non-GAAP Metric | Q2 2025 | Q1 2025 | Q2 2024 | | :--- | :--- | :--- | :--- | | Adjusted Diluted EPS (USD) | $0.53 | $0.49 | $0.45 | | Tangible Book Value Per Share (USD) | $18.99 | $18.70 | $17.56 | | Adjusted Return on Avg. Tangible Common Equity (%) | 11.59% | 11.21% | 10.74% | | Adjusted Efficiency Ratio (%) | 64.9% | 67.3% | 67.1% |