Heritage Commerce Corp Earns $8.8 Million for the Second Quarter of 2021, and $20.0 Million for the First Six Months of 2021

SAN JOSE, Calif., July 22, 2021 (GLOBE NEWSWIRE) — Heritage Commerce Corp (Nasdaq: HTBK), the holding company (the “Company”) for Heritage Bank of Commerce (the “Bank”), today announced second quarter 2021 net income of $8.8 million, or $0.15 per average diluted common share, compared to $10.6 million, or $0.18 per average diluted common share, for the second quarter of 2020, and $11.2 million, or $0.19 per average diluted common share, for the first quarter of 2021. For the six months ended June 30, 2021, net income was $20.0 million, or $0.33 per average diluted common share, compared to $12.5 million, or $0.21 per average diluted common share, for the six months ended June 30, 2020. Earnings for the second quarter and first six months of 2021 included a $4.0 million reserve for a legal settlement as noninterest expense, which was previously disclosed in the Company’s Current Report on Form 8-K filed with the Securities and Exchange Commission on July 7, 2021. Earnings for the first six months of 2020 were impacted by the effect of $14.4 million in pre-tax current expected credit losses (“CECL”) related provision for credit losses on loans, driven by forecasted effects on economic activity from the Coronavirus pandemic and $2.5 million of pre-tax merger-related costs in the first six months of 2020. All results are unaudited.

“Reflective of an improving local economy, we delivered solid second quarter earnings, supported by higher levels of loans on both a year-over-year and linked quarter basis. Core loans, excluding Small Business Administration (“SBA”) Paycheck Protection Program (“PPP”) loans and residential mortgage loans, increased by $65.6 million, or 3%, from a year ago, and increased by $59.6 million, or 3%, from the first quarter of 2021. Total loans increased by $138.4 million, or 5%, from a year ago, and increased by $120.1 million, or 4%, from the first quarter of 2021, while total deposits were higher by $444.2 million, or 11%, year-over-year, and increased $65.4 million, or 2%, from the first quarter of 2021. Our disciplined approach to managing core operating expenses also contributed to profitability during the second quarter of 2021,” said Mr. Walter Kaczmarek, President and Chief Executive Officer. “In addition, second quarter results benefitted from the recapture of ($493,000) in credit losses on loans, compared to a provision for credit losses on loans of $1.1 million taken in the second quarter of 2020.”

“From the onset of the pandemic, we have been an active participant in the SBA PPP loan program,” said Mr. Kaczmarek. “PPP loans generated interest and fee income of $2.7 million during the second quarter of 2021, and $6.9 million for the first six months of 2021.” As of June 30, 2021, the Company had a total of $286.5 million in PPP loans outstanding and $6.9 million of remaining net deferred fees outstanding.

“Our credit quality remained strong, as nonperforming assets (“NPAs”) declined ($2.9) million, or (32%), at June 30, 2021 to $6.2 million, from $9.1 million at June 30, 2020, and increased $587,000 from $5.6 million at March 31, 2021. In addition, net recoveries totaled $153,000 for the current quarter, compared to $373,000 in net charge-offs for the second quarter of 2020, and net recoveries of $1.4 million for the first quarter of 2021,” said Mr. Kaczmarek. “We believe that with our healthy capital and liquidity positions, strong earnings power, conservative credit culture, and dedicated employees, we remain well positioned for growth as we head into the second half of the year.”

SBA PPP Loan Program:

In response to economic stimulus laws passed by Congress in 2020 and 2021, the Bank has now funded two rounds of PPP loans. At June 30, 2021, after accounting for loan payoffs and SBA loan forgiveness, “Round 1” PPP loans were $91.9 million and “Round 2” PPP loans were $194.6 million. In total the Bank had $286.5 million in outstanding PPP loan balances at June 30, 2021. The following table shows interest income, fee income and deferred origination costs generated by the PPP loans, and the PPP loan outstanding balances and related deferred fees and costs for the periods indicated:

On December 27, 2020, the President signed into law the Economic Aid to Hard-Hit Small Businesses, Nonprofits, and Venues Act (the “Act”) which revised rules regarding PPP loans, provided supplemental PPP loan funding for new and existing borrowers and expanded the types of business expenses that are forgivable under the PPP program. On January 6, 2021, Treasury issued new Interim Final Rules (“IFRs”) to address the Act’s creation of PPP Second Draw Loans as well as other changes to the PPP program requirements. The IFRs codified aspects of the PPP program not specifically addressed in the Act:

• Extending the application deadline to submit a PPP loan application to May 31, 2021, and the SBA approval deadline to June 30, 2021.
• Allowing new PPP borrowers to use either 2019 or 2020 for business records in determining maximum loan amount.
• Maintaining a $2 million loan amount necessity certification safe harbor.
• Allowing borrowers who returned or did not originally accept PPP loan proceeds to reapply for receipt of those funds.

Coronavirus Aid, Relief, and Economic Security Act (“CARES Act”):

On April 7, 2020, U.S. banking agencies issued the Interagency Statement on Loan Modifications and Reporting for Financial Institutions Working with Customers Affected by the Coronavirus. The statement describes accounting for COVID-19-related loan modifications and clarifies the interaction between current accounting rules and the temporary relief provided by the CARES Act. Initially, the Bank made accommodations for payment deferrals for a number of customers with a window of up to 90 days, with the potential of an additional 90 days of payment deferral (180 days maximum) upon application. The Bank also waived all customary applicable fees. Of the loans for which deferrals were originally granted, nearly all have returned to regular payment status. At June 30, 2021, there were three remaining second deferments totaling $1.8 million.

In addition to its portfolio of SBA PPP loans, the Bank also had a portfolio of SBA 7(a) loans totaling $46.5 million as of June 30, 2021. The following table reflects the status of these SBA 7(a) loans as of June 30, 2021:

The CARES Act was amended in December 2020 to include $3.5 billion of extended debt relief payments for SBA borrowers. The program was subsequently modified by the SBA to provide two additional monthly payments of principal and interest totaling a maximum of $9,000 per month and an additional three payments to borrowers considered “underserved” as defined in the amended legislation.

Credit Quality and Performance

At June 30, 2021, NPAs declined by ($2.9) million, or (32%), to $6.2 million, compared to $9.1 million at June 30, 2020, and increased by $587,000, or 10% from $5.6 million at March 31, 2021.   The change in NPAs at June 30, 2021, compared to June 30, 2020 and March 31, 2021, resulted primarily from the sale of underlying properties and the payoff of related loans and the paydown of other loans, partially offset by additional loans that went on NPA status during the first six months of 2021. Classified assets increased to $32.4 million, or 0.64% of total assets, at June 30, 2021, compared to $31.5 million, or 0.68% of total assets, at June 30, 2020, and decreased from $33.4 million, or 0.67% of total assets, at March 31, 2021.

The Company continues to monitor portfolio loans made to commercial customers with businesses in higher risk sectors due to the COVID-19 pandemic. The following table provides a breakdown of such loans as a percentage of total loans for the periods indicated:

The decrease in higher risk sector loans at June 30, 2021, compared to June 30, 2020 and March 31, 2021 was primarily due to the forgiveness of PPP loans.

Second Quarter Ended June 30, 2021
Operating Results, Balance Sheet Review, Capital Management, and Credit Quality
(as of, or for the periods ended June 30, 2021, compared to June 30, 2020, and March 31, 2021, except as noted):

Operating Results:

• Diluted earnings per share were $0.15 for the second quarter of 2021, compared to $0.18 for the second quarter of 2020, and $0.19 for the first quarter of 2021. Diluted earnings per share were $0.33 for the first six months of 2021, compared to $0.21 for the first six months of 2020.
• 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, remained relatively flat at $34.9 million for the second quarter of 2021, compared to $34.9 million for the second quarter of 2020 and $35.0 million for the first quarter of 2021. Net interest income, before provision for credit losses on loans decreased (5%) to $69.8 million for the first six months of 2021, compared to $73.5 million for the first six months of 2020, primarily due to decreases in the prime rate and decreases in yields on investment securities and overnight funds, which were partially offset by interest income and fees on PPP loans.
  • The fully tax equivalent (“FTE”) net interest margin contracted 46 basis points to 3.00% for the second quarter of 2021, from 3.46% for the second quarter of 2020, primarily due to declines in the average yields on loans, investment securities, and overnight funds, partially offset by a decline in the cost of interest-bearing liabilities and higher interest income and fees on PPP loans. The FTE net interest margin decreased 22 basis points for the second quarter of 2021 from 3.22% for the first quarter of 2021, primarily due to declines in the average yields on loans, and a decrease in fees on PPP loans.
  • For the first six months of 2021, the FTE net interest margin contracted 73 basis points to 3.10%, compared to 3.83% for the first six months of 2020, primarily due to the impact of decreases in the yields on loans, investment securities, and overnight funds, partially offset by additional interest and fee income from PPP loans.
• 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 decreased to 4.80% for the second quarter of 2021, compared to 4.92% for the second quarter of 2020, primarily due to a decline in the average yield on loans, and an increase in the average balances of lower yielding residential mortgages and PPP loans relative to the average yield on core bank and asset-based lending loans, partially offset by an increase in interest and fees on PPP loans.

• The average cost of total deposits was 0.11% for the second quarter of 2021, compared to 0.17% for the second quarter of 2020 and 0.12% for the first quarter of 2021. The average cost of total deposits was 0.12% for the six months ended June 30, 2021, compared to 0.19% for the six months ended June 30, 2020.
• During the second quarter of 2021, there was a recapture of ($493,000) in credit losses on loans, primarily due to recoveries on previously charged-off loans, compared to a $1.1 million provision for credit losses on loans taken in the second quarter of 2020, and the recapture of ($1.5) million in credit losses on loans for the first quarter of 2021. There was a recapture of ($2.0) million in credit losses on loans for the six months ended June 30, 2021, compared to a $14.4 million provision for credit losses on loans for the six months ended June 30, 2020.
  • The higher provision for credit losses on loans for the first six months of 2020 was driven primarily by a significantly deteriorated economic outlook resulting from the Coronavirus pandemic. Ongoing impacts of the CECL methodology will be dependent upon changes in economic conditions and forecasts, originated and acquired loan portfolio composition, portfolio duration, and other factors.
• Total noninterest income was $2.2 million for the second quarter of 2021, compared to $2.1 million for the second quarter of 2020 and $2.3 million for the first quarter of 2021.
  • For the six months ended June 30, 2021, total noninterest income decreased to $4.5 million, compared to $5.3 million for the six months ended June 30, 2020, primarily as a result of lower service charges and fees on deposits during the first six months of 2021, and a $791,000 gain on disposition of foreclosed assets and a $270,000 gain on the sale of securities during the first six months of 2020.
• Total noninterest expense for the second quarter of 2021 increased to $25.8 million, compared to $21.0 million for the second quarter of 2020, primarily due to a $4.0 million reserve for a legal settlement. Noninterest expense for the second quarter of 2021 increased from $23.2 million for the first quarter of 2021, primarily due to the reserve for a legal settlement, partially offset by lower salaries and employee benefits during the second quarter of 2021.
  • Noninterest expense for the six months ended June 30, 2021 increased to $49.0 million, compared to $46.8 million for the six months ended June 30, 2020, primarily due to a reserve for a legal settlement, partially offset by higher merger-related costs during the first six months of 2020.
  • The following table reflects pre-tax merger-related costs resulting from the merger with Presidio for the periods indicated:

• The efficiency ratio was 69.58% for the second quarter of 2021, compared to 56.76% for the second quarter of 2020, and 62.38% for the first quarter of 2021. The efficiency ratio for the six months ended June 30, 2021 was 65.97%, compared to 59.38% for the six months ended June 30, 2020. Excluding the $4.0 million reserve for a legal settlement, the efficiency ratio was 58.78% for the second quarter of 2021, and 60.59% for the first six months of 2021.
• Income tax expense was $3.0 million for the second quarter of 2021, compared to $4.3 million for both the second quarter of 2020 and the first quarter of 2021. The effective tax rate for the second quarter of 2021 was 25.1%, compared to 28.7% for the second quarter of 2020, and 27.8% for the first quarter of 2021. Income tax expense for the six months ended June 30, 2021 was $7.3 million, compared to $5.1 million for the six months ended June 30, 2020. The effective tax rate for the six months ended June 30, 2021 was 26.7%, compared to 29.2% for the six months ended June 30, 2020.
  • The difference in the effective tax rate for the periods reported compared to the combined Federal and state statutory tax rate of 29.6% 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 reached $5.1 billion at June 30, 2021, an increase of 10% from $4.61 billion at June 30, 2020, and increased 1% from $5.00 billion at March 31, 2021.
• Securities available-for-sale, at fair value, totaled $146.0 million at June 30, 2021, compared to $323.6 million at June 30, 2020, and $196.7 million at March 31, 2021. At June 30, 2021, the Company’s securities available-for-sale portfolio was comprised of $130.9 million of agency mortgage-backed securities (all issued by U.S. Government sponsored entities), and $15.1 million of U.S. Treasury securities. The pre-tax unrealized gain on securities available-for-sale at June 30, 2021 was $4.3 million, compared to a pre-tax unrealized gain on securities available-for-sale of $8.7 million at June 30, 2020, and a pre-tax unrealized gain on securities available-for-sale of $4.9 million at March 31, 2021. All other factors remaining the same, when market interest rates are decreasing, the Company will experience a higher unrealized gain (or a lower unrealized loss) on the securities portfolio.
• At June 30, 2021, securities held-to-maturity, at amortized cost, totaled $421.3 million, compared to $322.7 million at June 30, 2020, and $306.5 million at March 31, 2021. At June 30, 2021, the Company’s securities held-to-maturity portfolio was comprised of $361.1 million of agency mortgage-backed securities, and $60.2 million of tax-exempt municipal bonds. During the second quarter of 2021, the Company purchased $141.6 million of agency mortgage-backed securities (securities held-to-maturity), with a book yield of 1.53% and an average life of 5.84 years. During the first six months of 2021, the Company purchased $182.0 million of agency mortgage-backed securities (securities held-to-maturity), with a book yield of 1.53% and an average life of 5.36 years.
• 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:

• The following table summarizes the allowance for credit losses on loans for 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 June 30, 2021, as reflected in the following table:

       (1)   Basel III minimum regulatory requirements for both the Company and the Bank include a 2.5% capital conservation buffer, except the leverage ratio.

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

• Tangible equity was $400.6 million at June 30, 2021, compared to $388.6 million at June 30, 2020, and $398.1 million at March 31, 2021. Tangible book value per share was $6.65 at June 30, 2021, compared to $6.49 at June 30, 2020, and $6.64 at March 31, 2021.

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, 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

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, 2020, and the following: (1) 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; (2) 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; (3) our ability to anticipate interest rate changes and manage interest rate risk; (4) changes in inflation, interest rates, and market liquidity which may impact interest margins and impact funding sources; (5) volatility in credit and equity markets and its effect on the global economy; (6) 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; (7) our ability to achieve loan growth and attract deposits; (8) risks associated with concentrations in real estate related loans; (9) the relative strength or weakness of the commercial and real estate markets where our borrowers are located, including related asset and market prices; (10) other than temporary impairment charges to our securities portfolio; (11) changes in the level of NPAs and charge offs and other credit quality measures, and their impact on the adequacy of the Company’s allowance for credit losses and the Company’s provision for credit losses; (12) 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; (13) regulatory limits on Heritage Bank of Commerce’s ability to pay dividends to the Company; (14) changes in our capital management policies, including those regarding business combinations, dividends, and share repurchases; (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 governmental and regulatory requirements, including the Dodd-Frank Act and others relating to banking, consumer protection, securities, accounting and tax matters; (22) significant changes in applicable laws and regulations, including those concerning taxes, banking and securities; (23) 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) costs and effects of legal and regulatory developments, including resolution of regulatory or other governmental inquiries, and the results of regulatory examinations or reviews; (25) the expense and uncertain resolution of litigation matters whether occurring in the ordinary course of business or otherwise; (26) availability of and competition for acquisition opportunities; (27) risks resulting from domestic terrorism; (28) risks of natural disasters (including earthquakes) and other events beyond our control; (29) the effect of the COVID-19 pandemic, and other infectious illness outbreaks that may arise in the future, on the Bank’s customers, employees, businesses, liquidity, financial results and overall condition and which has created significant uncertainties in U.S. and global markets, including our customers’ ability to make timely payments on obligations, and operating expense due to alternative approaches to doing business; (30) changes in governmental policy and regulation, including measures taken in response to economic, business, political and social conditions, such as the SBA Paycheck Protection Program (“PPP”), the Federal Reserve Board’s efforts to provide liquidity to the financial system and provide credit to private commercial and municipal borrowers, and other programs designed to address the effects of the COVID-19 pandemic; (31) the Bank’s participation as a lender in the PPP and similar programs and its effect on the Bank’s liquidity, financial results, businesses and customers, including the availability of program funds and the ability of customers to comply with requirements and otherwise perform with respect to loans obtained under such programs; (32) 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]