Heritage merce p(HTBK) - 2024 Q1 - Quarterly Results

Executive Summary & Company Highlights This section provides an overview of the company's Q1 2024 financial performance, key strategic recognitions, and CEO commentary on operational highlights and challenges Q1 2024 Performance Overview Heritage Commerce Corp reported Q1 2024 net income of $10.2 million, or $0.17 per diluted common share, a decrease from both the prior year and prior quarter, despite solid growth in client deposits and its loan portfolio Net Income and Diluted EPS | Period | Net Income ($M) | Diluted EPS ($) | | :------------- | :-------------- | :-------------- | | Q1 2024 | 10.2 | 0.17 | | Q4 2023 | 13.3 | 0.22 | | Q1 2023 | 18.9 | 0.31 | - Total client deposits increased over $66 million from the prior quarter (2%)[2] - The loan portfolio increased over $74 million year-over-year[2] CEO Commentary & Strategic Recognitions CEO Clay Jones highlighted solid Q1 earnings, growth in deposits and loans, and strong credit quality despite seasonal expenses and net interest margin compression, with the bank receiving prestigious recognitions and celebrating its 30th anniversary - First quarter earnings typically reflect increased seasonal expenses such as payroll taxes and other employee benefits[2] - Net interest margin experienced slight compression due to higher cost of deposits, despite benefiting from higher yields on assets[2] - Heritage Bank of Commerce was recognized on Forbes' List of World's Best Banks and ranked 25th on S&P Global Market Intelligence's top 50 list of best-performing community banks[2] - The Bank is celebrating its 30th anniversary in 2024[3] Financial Performance Analysis This section analyzes the company's operating results, net interest income, credit loss provisions, noninterest income and expense, and income tax for the quarter Operating Results Overview The company's operating results for Q1 2024 showed a decline in profitability metrics compared to both the prior year and prior quarter, with return on average assets and equity decreasing Key Performance Ratios | Metric | Q1 2024 | Q4 2023 | Q1 2023 | | :-------------------------------- | :------ | :------ | :------ | | Return on average assets | 0.79 % | 1.00 % | 1.47 % | | Return on average tangible assets | 0.82 % | 1.04 % | 1.52 % | | Return on average equity | 6.08 % | 7.96 % | 12.03 % | | Return on average tangible common equity | 8.24 % | 10.84 % | 16.71 % | - Diluted earnings per share were $0.17 for the first quarter of 2024, compared to $0.31 for the first quarter of 2023, and $0.22 for the fourth quarter of 2023[4] Net Interest Income Net interest income and net interest margin contracted significantly year-over-year and modestly quarter-over-quarter, primarily driven by higher deposit costs and shifts in deposit mix, despite an increase in average loan yields Net Interest Income | Period | Amount ($M) | Change YoY | Change QoQ | | :------------- | :---------- | :--------- | :--------- | | Q1 2024 | 40.1 | (19)% | (5)% | | Q1 2023 | 49.3 | - | - | | Q4 2023 | 42.3 | - | - | FTE Net Interest Margin | Period | Margin (%) | Change YoY (bps) | Change QoQ (bps) | | :------------- | :--------- | :--------------- | :--------------- | | Q1 2024 | 3.34 % | (75) | (7) | | Q1 2023 | 4.09 % | - | - | | Q4 2023 | 3.41 % | - | - | - The average cost of total deposits increased to 1.56% for the first quarter of 2024, compared to 1.43% for the fourth quarter of 2023 and 0.54% for the first quarter of 2023[13] - The increase in the average cost of total deposits and the average cost of funds was primarily due to clients seeking higher yields and moving noninterest-bearing deposits to ICS/CDARS deposits and interest-bearing money market accounts[13] Provision for Credit Losses on Loans The provision for credit losses on loans in Q1 2024 was $184 thousand, an increase from the prior year but a decrease from the prior quarter Provision for Credit Losses on Loans | Period | Amount ($K) | | :------------- | :---------- | | Q1 2024 | 184 | | Q4 2023 | 289 | | Q1 2023 | 32 | Noninterest Income Total noninterest income decreased significantly year-over-year in Q1 2024, primarily due to lower service charges and fees on deposit accounts, while remaining relatively flat quarter-over-quarter Total Noninterest Income | Period | Amount ($M) | Change YoY | Change QoQ | | :------------- | :---------- | :--------- | :--------- | | Q1 2024 | 2.0 | (26)% | 5% | | Q1 2023 | 2.8 | - | - | | Q4 2023 | 1.9 | - | - | - The decrease in noninterest income year-over-year was primarily due to lower service charges and fees on deposit accounts[15] Noninterest Expense Noninterest expense increased in Q1 2024 compared to both prior periods, driven by higher seasonal employee benefits and other operational costs, leading to a notable increase in the efficiency ratio Total Noninterest Expense | Period | Amount ($M) | Change YoY | Change QoQ | | :------------- | :---------- | :--------- | :--------- | | Q1 2024 | 27.5 | 8% | 8% | | Q1 2023 | 25.4 | - | - | | Q4 2023 | 25.5 | - | - | Efficiency Ratio | Period | Ratio (%) | Change YoY | Change QoQ | | :------------- | :-------- | :--------- | :--------- | | Q1 2024 | 65.34 % | 34% | 13% | | Q1 2023 | 48.83 % | - | - | | Q4 2023 | 57.62 % | - | - | - The increase in noninterest expense was primarily due to higher seasonal salaries and employee benefits, marketing, insurance costs, regulatory assessments, information technology expenses, and ICS/CDARS fee expense[20] Income Tax Expense Income tax expense decreased significantly year-over-year and quarter-over-quarter in Q1 2024, while the effective tax rate saw a slight increase Income Tax Expense | Period | Amount ($M) | Change YoY | Change QoQ | | :------------- | :---------- | :--------- | :--------- | | Q1 2024 | 4.3 | (45)% | (17)% | | Q1 2023 | 7.7 | - | - | | Q4 2023 | 5.1 | - | - | Effective Tax Rate | Period | Rate (%) | | :------------- | :------- | | Q1 2024 | 29.5 % | | Q1 2023 | 28.9 % | | Q4 2023 | 27.8 % | Financial Condition & Capital Management This section details the company's liquidity, investment securities, loan portfolio, credit quality, deposit trends, and capital adequacy Liquidity and Available Lines of Credit The company maintained robust liquidity and borrowing capacity at March 31, 2024, with total available liquidity increasing year-over-year and quarter-over-quarter, providing strong coverage for total and uninsured deposits Total Available Liquidity and Borrowing Capacity | Period | Amount ($B) | Change YoY | Change QoQ | | :------------- | :---------- | :--------- | :--------- | | Mar 31, 2024 | 3.00 | 14% | 4.5% | | Mar 31, 2023 | 2.64 | - | - | | Dec 31, 2023 | 2.87 | - | - | - The available liquidity and borrowing capacity was 67% of the Company's total deposits and approximately 149% of the Bank's estimated uninsured deposits at March 31, 2024[21][22] Investment Securities Total investment securities stood at $1.04 billion at March 31, 2024, comprising both available-for-sale and held-to-maturity portfolios, both of which carried unrealized/unrecognized losses due to higher interest rates, though principal repayment is expected - Total assets declined (5%) to $5.26 billion at March 31, 2024, compared to $5.54 billion at March 31, 2023, and increased 1% from $5.19 billion at December 31, 2023[24] - Investment securities totaled $1.04 billion at March 31, 2024, consisting of $404.5 million in available-for-sale (AFS) and $636.2 million in held-to-maturity (HTM) portfolios[24] - The pre-tax unrealized loss on the AFS portfolio was ($9.7) million, and the pre-tax unrecognized loss on the HTM portfolio was ($93.4) million, primarily due to higher interest rates[25][26] - The issuers are of high credit quality, and all principal amounts are expected to be repaid when the securities mature, with fair value expected to recover as market rates decline[26][27] Loans Portfolio Analysis The total loan portfolio increased year-over-year but slightly decreased quarter-over-quarter, with core loans showing growth. Commercial real estate (CRE) loans remain a significant portion, characterized by strong collateral metrics and personal guarantees Loan Distribution by Category This subsection details the composition and changes within the company's total loan portfolio, including core loans and commercial and industrial line utilization Total Loans (excluding held-for-sale) | Period | Amount ($B) | Change YoY | Change QoQ | | :------------- | :---------- | :--------- | :--------- | | Mar 31, 2024 | 3.34 | 2% | (0.4)% | | Mar 31, 2023 | 3.26 | - | - | | Dec 31, 2023 | 3.35 | - | - | - Core loans, excluding residential mortgages, increased $112.8 million, or 4%, to $2.85 billion at March 31, 2024, compared to $2.73 billion at March 31, 2023, and remained relatively flat from $2.85 billion at December 31, 2023[30] - Commercial and industrial ("C&I") line utilization was 28% at March 31, 2024, compared to 31% at March 31, 2023, and 29% at December 31, 2023[30] Commercial Real Estate (CRE) Loan Details This subsection provides specific details on the commercial real estate loan portfolio, including its composition, new originations, and associated risk metrics - Commercial real estate ("CRE") loans totaled $1.86 billion at March 31, 2024, of which 32% were owner occupied and 68% were investor CRE loans[30] - During the first quarter of 2024, 23 new CRE loans were originated totaling $40 million with a weighted average loan-to-value ("LTV") of 51% and debt-service coverage ratio ("DSCR") of 1.84 times for the non-owner occupied portfolio[30] - The Company has personal guarantees on 92% of its CRE portfolio[31] - Total office exposure (excluding medical/dental offices) in the CRE portfolio was $398 million, with non-owner occupied office exposure totaling $311 million at March 31, 2024[31] Loan Maturity Distribution This subsection outlines the maturity profile of the loan portfolio, specifically highlighting the proportion of floating interest rate loans - At March 31, 2024, approximately 26% of the Company's loan portfolio consisted of floating interest rate loans, compared to 31% at March 31, 2023, and 27% at December 31, 2023[34] Credit Quality Credit quality metrics showed an increase in nonperforming loans and classified assets year-over-year, though the allowance for credit losses remained stable relative to total loans and provided strong coverage for nonperforming loans, with no CRE loans being nonperforming Key Credit Quality Metrics | Metric | Mar 31, 2024 | Dec 31, 2023 | Mar 31, 2023 | | :------------------------------------------ | :----------- | :----------- | :----------- | | Allowance for credit losses on loans (ACLL) | $47,888K | $47,958K | $47,273K | | ACLL to total loans | 1.44 % | 1.43 % | 1.45 % | | Total nonperforming loans (NPL) | $7,871K | $7,707K | $2,240K | | ACLL to total nonperforming loans | 608.41 % | 622.27 % | 2,110.40 % | | Nonperforming assets to total assets | 0.15 % | 0.15 % | 0.04 % | | Classified assets | $35,392K | $31,763K | $26,800K | - The increase in classified assets during the first quarter of 2024 was primarily due to the downgrade of one well-collateralized, fully leased, cash-flowing, and personally guaranteed CRE investor loan[37] - There were no CRE loans included in nonperforming assets at March 31, 2024, March 31, 2023, or December 31, 2023[36] Deposits Analysis Total deposits remained stable year-over-year but increased quarter-over-quarter, with a significant migration of client deposits into interest-bearing accounts, particularly ICS/CDARS, leading to a decrease in noninterest-bearing demand deposits and a reduction in uninsured deposits as a percentage of total deposits - Total deposits were relatively flat at $4.44 billion at both March 31, 2024 and March 31, 2023, but increased $66.2 million, or 2%, from $4.38 billion at December 31, 2023[38] - Migration of client deposits into interest-bearing accounts resulted in an increase in ICS/CDARS deposits to $913.8 million at March 31, 2024, compared to $304.1 million at March 31, 2023[38] - Noninterest-bearing demand deposits decreased ($227.0) million, or (15%), to $1.24 billion at March 31, 2024 from $1.47 billion at March 31, 2023, largely in response to the increasing interest rate environment[38] - The Bank's uninsured deposits were approximately $2.02 billion, or 45% of total deposits, at March 31, 2024, down from $2.56 billion, or 58% of total deposits, at March 31, 2023[38] Capital Management Heritage Commerce Corp and Heritage Bank of Commerce maintained strong capital positions, with all key capital ratios exceeding regulatory guidelines for a well-capitalized institution and Basel III minimum requirements at March 31, 2024 Heritage Commerce Corp Capital Ratios (Mar 31, 2024) | Ratio | Company | PCA Regulatory Guidelines | Basel III Minimum Requirements | | :-------------------------- | :------ | :------------------------ | :----------------------------- | | Total Capital | 15.6 % | 10.0 % | 10.5 % | | Tier 1 Capital | 13.4 % | 8.0 % | 8.5 % | | Common Equity Tier 1 Capital | 13.4 % | 6.5 % | 7.0 % | | Tier 1 Leverage | 10.2 % | 5.0 % | 4.0 % | - The Bank's capital ratios also exceeded regulatory guidelines under the prompt corrective action ("PCA") regulatory guidelines for a well-capitalized financial institution, and the Basel III minimum regulatory requirements at March 31, 2024[39] - Tangible common equity / tangible assets was 9.9% for Heritage Commerce Corp and 10.2% for Heritage Bank of Commerce at March 31, 2024[39][53][54] - Total accumulated other comprehensive loss improved to ($12.59) million at March 31, 2024, from ($14.32) million at March 31, 2023[40] Forward-Looking Statements & Company Information This section includes important disclaimers regarding forward-looking statements and provides essential information about the company's structure and operations Forward-Looking Statement Disclaimer This section provides a standard disclaimer that certain statements in the press release are forward-looking and subject to various risks and uncertainties, which could cause actual results to differ materially from projections - Statements relating to future financial performance, projected cash flows of investment securities, loan portfolio performance, estimated net interest income, and anticipated effects of developments are considered forward-looking[43] - Actual results may differ materially from projected results due to various risks and uncertainties, many of which are outside the company's control, including factors affecting liquidity, market fluctuations, credit loss estimation, economic conditions, and regulatory changes[43][44] Company Information & Contact Heritage Commerce Corp is the holding company for Heritage Bank of Commerce, headquartered in San Jose, CA, with a network of full-service branches and a factoring subsidiary, Bay View Funding - Heritage Commerce Corp is the parent company of Heritage Bank of Commerce, established in 1994 and headquartered in San Jose, CA[40] - Heritage Bank of Commerce operates full-service branches in multiple locations across Northern California and is an SBA Preferred Lender[40] - Bay View Funding, a subsidiary, provides business-essential working capital factoring financing to various industries throughout the United States[40] Consolidated Financial Statements & Key Ratios This section presents the company's detailed consolidated income statements, balance sheets, credit quality data, and net interest income analysis Consolidated Income Statements This section presents the consolidated income statements, detailing interest income, interest expense, net interest income, noninterest income, noninterest expense, and net income for the first quarter of 2024, compared to prior quarters and the prior year Consolidated Income Statement Summary ($ thousands) | Metric | Q1 2024 | Q4 2023 | Q1 2023 | | :------------------------------------------ | :------ | :------ | :------ | | Interest income | 57,551 | 58,892 | 56,274 | | Interest expense | 17,458 | 16,591 | 7,016 | | Net interest income before provision | 40,093 | 42,301 | 49,258 | | Provision for credit losses on loans | 184 | 289 | 32 | | Total noninterest income | 2,047 | 1,942 | 2,766 | | Total noninterest expense | 27,536 | 25,491 | 25,401 | | Net income | 10,166 | 13,328 | 18,917 | Key Financial Ratios | Ratio | Q1 2024 | Q4 2023 | Q1 2023 | | :------------------------------------------ | :------ | :------ | :------ | | Annualized return on average equity | 6.08 % | 7.96 % | 12.03 % | | Annualized return on average assets | 0.79 % | 1.00 % | 1.47 % | | Net interest margin (FTE) | 3.34 % | 3.41 % | 4.09 % | | Efficiency ratio | 65.34 % | 57.62 % | 48.83 % | Consolidated Balance Sheets This section provides the consolidated balance sheets, detailing assets, liabilities, and shareholders' equity at March 31, 2024, compared to prior quarter and prior year-end, showing changes in key components like deposits and loan portfolios Consolidated Balance Sheet Summary ($ thousands) | Metric | Mar 31, 2024 | Dec 31, 2023 | Mar 31, 2023 | | :------------------------------------------ | :----------- | :----------- | :----------- | | Total assets | 5,256,074 | 5,194,095 | 5,536,540 | | Total loans, net of deferred costs and fees | 3,336,102 | 3,350,378 | 3,261,915 | | Total deposits | 4,444,660 | 4,378,458 | 4,444,538 | | Total liabilities | 4,579,778 | 4,521,194 | 4,889,332 | | Total shareholders' equity | 676,296 | 672,901 | 647,208 | - Total assets increased 1% quarter-over-quarter but declined (5%) year-over-year[49] - Total deposits increased 2% quarter-over-quarter and were flat year-over-year[49] Credit Quality Data This section provides detailed credit quality data, including nonperforming loans, net charge-offs, provision for credit losses, allowance for credit losses, and classified assets, along with relevant ratios for Q1 2024 and comparative periods Credit Quality Metrics ($ thousands) | Metric | Mar 31, 2024 | Dec 31, 2023 | Mar 31, 2023 | | :------------------------------------------ | :----------- | :----------- | :----------- | | Total nonperforming loans | 7,871 | 7,707 | 2,240 | | Net charge-offs (recoveries) during the quarter | 254 | 33 | 271 | | Provision for credit losses on loans during the quarter | 184 | 289 | 32 | | Allowance for credit losses on loans | 47,888 | 47,958 | 47,273 | | Classified assets | 35,392 | 31,763 | 26,800 | Credit Quality Ratios | Ratio | Mar 31, 2024 | Dec 31, 2023 | Mar 31, 2023 | | :------------------------------------------ | :----------- | :----------- | :----------- | | Allowance for credit losses on loans to total loans | 1.44 % | 1.43 % | 1.45 % | | Nonperforming assets to total assets | 0.15 % | 0.15 % | 0.04 % | | Nonperforming loans to total loans | 0.24 % | 0.23 % | 0.07 % | Net Interest Income and Net Interest Margin Details This section provides a detailed breakdown of average balances, interest income/expense, and average yields/rates for interest-earning assets and interest-bearing liabilities, illustrating the components contributing to net interest income and margin for Q1 2024 compared to Q1 2023 and Q4 2023 Average Yields on Interest-Earning Assets (Q1 2024) | Asset Category | Average Yield (%) | | :------------------------------------------ | :---------------- | | Loans, gross | 5.44 % | | Securities - taxable | 2.39 % | | Securities - exempt from Federal tax | 3.60 % | | Other investments and interest-bearing deposits | 5.62 % | | Total interest earning assets | 4.79 % | Average Rates on Interest-Bearing Liabilities (Q1 2024) | Liability Category | Average Rate (%) | | :------------------------------------------ | :--------------- | | Demand, interest-bearing deposits | 0.68 % | | Savings and money market deposits | 2.50 % | | Time deposits - under $100 | 1.54 % | | Time deposits - $100 and over | 3.75 % | | ICS/CDARS - interest-bearing deposits | 2.76 % | | Total interest-bearing deposits | 2.14 % | | Total interest-bearing liabilities | 2.18 % | - The fully tax equivalent (FTE) net interest margin was 3.34% for Q1 2024, down from 4.09% in Q1 2023 and 3.41% in Q4 2023[57][59] Non-GAAP Financial Measures Reconciliation This section reconciles non-GAAP financial measures such as tangible assets, tangible common equity, and tangible book value per share to their most directly comparable GAAP measures Return on Average Tangible Assets and Average Tangible Common Equity This section reconciles GAAP net income to non-GAAP average tangible assets and average tangible common equity to derive the respective return ratios for Q1 2024 and comparative periods Annualized Return on Average Tangible Assets | Period | Ratio (%) | | :------------- | :-------- | | Q1 2024 | 0.82 % | | Q4 2023 | 1.04 % | | Q1 2023 | 1.52 % | Annualized Return on Average Tangible Common Equity | Period | Ratio (%) | | :------------- | :-------- | | Q1 2024 | 8.24 % | | Q4 2023 | 10.84 % | | Q1 2023 | 16.71 % | Tangible Common Equity to Tangible Assets This section provides the reconciliation of GAAP total equity and total assets to non-GAAP tangible common equity and tangible assets, respectively, to calculate the tangible common equity to tangible assets ratio for Heritage Commerce Corp and Heritage Bank of Commerce Tangible Common Equity / Tangible Assets (Heritage Commerce Corp) | Period | Ratio (%) | | :------------- | :-------- | | Mar 31, 2024 | 9.85 % | | Dec 31, 2023 | 9.90 % | | Mar 31, 2023 | 8.76 % | Tangible Common Equity / Tangible Assets (Heritage Bank of Commerce) | Period | Ratio (%) | | :------------- | :-------- | | Mar 31, 2024 | 10.22 % | | Dec 31, 2023 | 10.26 % | | Mar 31, 2023 | 9.07 % | Tangible Book Value Per Share This section reconciles GAAP common equity to non-GAAP tangible common equity to calculate the tangible book value per share for Q1 2024 and comparative periods Tangible Book Value Per Share | Period | Amount ($) | | :------------- | :--------- | | Mar 31, 2024 | 8.17 | | Dec 31, 2023 | 8.12 | | Mar 31, 2023 | 7.70 |