News Details

Company Intends to Redeem $14 Million of Fixed-Rate Sub Debt in the Third Quarter of 2012

SAN JOSE, Calif.--(BUSINESS WIRE)-- Heritage Commerce Corp (Nasdaq:HTBK), the holding company (“the Company” or “HCC”) for Heritage Bank of Commerce (“the Bank” or “HBC”), today reported net income increased 28% to $2.7 million for the second quarter of 2012, compared to $2.1 million for the second quarter of 2011. Loan and deposit growth and continued improvements in asset quality contributed to solid profitability in the second quarter and in the first six months of 2012.

Following the redemption of its Series A Preferred Stock in the first quarter of 2012, the Company does not have any preferred dividends and discount accretion on preferred stock in the second quarter of 2012. Net income available to common shareholders was $2.7 million, or $0.08 per average diluted common share, for the second quarter of 2012. After accrued dividends and discount accretion on preferred stock of $604,000, net income available to common shareholders was $1.5 million, or $0.05 per average diluted common share, for the second quarter a year ago. For the six months ended June 30, 2012, net income available to common shareholders was $3.5 million, or $0.11 per average diluted common share, up from $2.5 million, or $0.08 per average diluted common share, for the same period a year ago. All results are unaudited.

“The Company experienced significant loan growth and continued deposit growth during the second quarter of 2012,” said Walter Kaczmarek, President and Chief Executive Officer. “The growth we experienced was due to hard work performed in previous quarters by our lending staff that finally closed and funded. Our second quarter income marks our eighth consecutive quarter of profitability. Despite our strong second quarter success, we continue to be concerned about the potentially negative effects of the weak national and international economies.”

Second Quarter 2012 Highlights (at or for the periods ended June 30, 2012, compared to June 30, 2011, and March 31, 2012)

• Strong Second Quarter Earnings – Earnings per average diluted common share increased to $0.08 in the second quarter of 2012, compared to $0.05 per average diluted common share in the second quarter of 2011, and $0.03 per average diluted common share in the first quarter of 2012.
• Solid Deposit Base – Total deposits increased to $1.1 billion, a 10% increase from June 30, 2011, and a 2% increase from the preceding quarter. Core deposits (excluding all time deposits) grew 9% to $807.6 million at June 30, 2012, an increase of $69.4 million from June 30, 2011, and increased 2% from $792.6 million at March 31, 2012.
  • Noninterest-bearing demand deposits increased 10% to $367.9 million at June 30, 2012, from $333.2 million at June 30, 2011, and increased 3% from $356.6 million at March 31, 2012.
  • Interest-bearing demand deposits increased 16% to $148.8 million at June 30, 2012, from $128.5 million at June 30, 2011, and increased 3% from $144.0 million at March 31, 2012.
  • Savings and money market deposits increased 5% to $290.9 million at June 30, 2012, from $276.5 million at June 30, 2011, and remained relatively flat from $292.0 million at March 31, 2012.
• Lower Cost of Deposits – The total cost of deposits decreased 15 basis points to 0.27% during the second quarter of 2012 from 0.42% during the second quarter of 2011, primarily as a result of maturing higher-cost wholesale funding and growth in core deposits. The total cost of deposits remained the same at 0.27% when compared to the first quarter of 2012.
• Loan Demand Improved – Loans increased 2% to $798.1 million at June 30, 2012, compared to $782.1 million at June 30, 2011, and rose 5% from $756.9 million at March 31, 2012.
• Net Interest Margin – The net interest margin remained flat at 3.95% for the second quarter of 2012, compared to the second quarter of 2011, and decreased 11 basis points from 4.06% for the first quarter of 2012, primarily as a result of lower yields on loans and investment securities.
• Strong Asset Quality – Asset quality remained strong as reflected in the following metrics:
  • Nonperforming assets declined 23% year-over-year to $17.8 million, or 1.35% of total assets at June 30, 2012, from $23.1 million, or 1.83% of total assets at June 30, 2011, and decreased 9% from $19.5 million, or 1.49% of total assets at March 31, 2012.
  • Classified assets (net of SBA guarantees) decreased 28% to $54.9 million at June 30, 2012, from $76.1 million at June 30, 2011, and increased 1% from $54.2 million at March 31, 2012.
  • Classified assets (net of SBA guarantees) to Tier 1 capital plus the allowance for loans losses at the holding company and the bank level were 30% and 31% at June 30, 2012, respectively, compared to 35% and 39% at June 30, 2011, and 30% and 31% at March 31, 2012.
  • The provision for loan losses was $815,000 for the second quarter of 2012, compared to $955,000 for the second quarter of 2011, and $100,000 for the first quarter of 2012.
  • The allowance for loan losses totaled $20.0 million, or 2.51% of total loans at June 30, 2012, compared to $23.2 million, or 2.96% of total loans at June 30, 2011, and $20.3 million, or 2.68% of total loans at March 31, 2012.
  • The allowance for loan losses to total nonperforming loans (excluding nonaccrual loans held-for-sale) improved to 137.57% at June 30, 2012, compared to 102.15% at June 30, 2011, and 125.66% at March 31, 2012.
  • Net charge-offs declined in the second quarter of 2012 to $1.1 million, compared to $1.8 million in the second quarter of 2011, and increased from $494,000 in the first quarter of 2012.
• Capital ratios substantially exceed regulatory requirements for a well-capitalized financial institution at the holding company and bank level at June 30, 2012 (see “Redemption of Subordinated Debt” below):

Operating Results

Net interest income increased 5% to $12.1 million for the second quarter of 2012, compared to $11.5 million for the second quarter a year ago, primarily due to an increase in the average balance of investment securities. Net interest income for the second quarter of 2012 decreased 1% from $12.3 million for the first quarter of 2012, primarily as a result of lower yields on loans and investment securities, partially offset by higher average balances of loans and investment securities.

For the six months ended June 30, 2012, net interest income grew 7% to $24.3 million, compared to $22.7 million for the six months ended June 30, 2011, primarily due to an increase in the average balance of investment securities, and a decrease in the rates paid on interest-bearing liabilities, partially offset by a decrease in the average balance of loans.

The net interest margin remained flat at 3.95% for the second quarter of 2012, compared to 3.95% for the second quarter a year ago, and decreased 11 basis points compared to 4.06% for the first quarter of 2012, primarily as a result of lower yields on loans and investment securities. For the first six months of 2012, the net interest margin increased to 4.01%, compared to 3.95% for the first six months of 2011, primarily as a result of a higher yield on loans, a lower level of interest-bearing deposits in other institutions, and a lower cost of deposits.

The provision for loan losses was $815,000 for the second quarter of 2012, compared to $955,000 for the second quarter a year ago and $100,000 for the first quarter of 2012. The provision for loan losses was $915,000 for the six months ended June 30, 2012 compared to $1.7 million for the same period a year ago.

Noninterest income was $2.1 million for the second quarter of 2012, compared to $2.2 million for the second quarter a year ago, and $1.7 million for the first quarter of 2012. Noninterest income increased for the second quarter of 2012, compared to the first quarter of 2012, primarily due to a higher gain on sales of SBA loans. In the first six months of 2012, noninterest income was $3.8 million, compared to $4.1 million in the first six months a year ago. Noninterest income was lower in the second quarter and first six months of 2012, compared to the same periods in 2011, primarily due to a lower gain on sales of SBA loans.

Noninterest expense for the second quarter of 2012 remained flat at $9.5 million, compared to the second quarter of 2011, and decreased $1.4 million, or 13%, from $10.9 million for the first quarter of 2012. In the second quarter of 2012, salaries and employee benefits expense decreased $290,000 from the first quarter of 2012, due to the seasonal decline, which was consistent with the Company’s cyclical salary and employee benefits expense in prior years. Professional fees decreased $741,000 in the second quarter of 2012, compared to the first quarter of 2012 due to the seasonality of expenses related to the year-end audit and a first quarter $500,000 accrual for probable costs related to an anticipated legal claim that has not yet been asserted, regarding an apparent transfer of funds for personal use by an authorized signatory of a customer. Other operating expenses decreased $312,000 in the second quarter of 2012, compared to the first quarter of 2012, primarily as a result of several one-time expenses in the first quarter that the Company did not incur in the second quarter. Noninterest expense in the first six months of 2012 increased 2% to $20.3 million, compared to $19.9 million in the first six months of 2011.

Income tax expense for the second quarter of 2012 was $1.2 million, compared to $1.1 million for the second quarter of 2011, and $951,000 for the first quarter of 2012. For the first six months of 2012, the income tax expense was $2.2 million, compared to $1.5 million for the first six months a year ago. The effective tax rate for the second quarter of 2012 was 31%, compared to 35% for the second quarter a year ago, and 31% for the first quarter of 2012. The effective tax rate for the six months ended June 30, 2012 was 31%, compared to 28% for the six months ended June 30, 2011. The efficiency ratio for the second quarter of 2012 was 66.70%, compared to 69.43% for the second quarter of 2011, and 77.64% for the first quarter of 2012. The efficiency ratio was 72.13% for the first six months of 2012, compared to 74.39% for the first six months of 2011.

Balance Sheet Review, Capital Management and Credit Quality

Heritage Commerce Corp’s total assets increased 5% to $1.32 billion at June 30, 2012, from $1.26 billion a year ago, and increased 1% from $1.31 billion at March 31, 2012.

The investment securities portfolio totaled $389.8 million at June 30, 2012, an increase of 29% from $303.0 million at June 30, 2011, and increased 1% from $385.8 million at March 31, 2012. At June 30, 2012, the investment portfolio was comprised of $325.9 million agency mortgage-backed securities, all of which were issued by U.S. Government sponsored entities, $23.2 million of corporate bonds, and $40.7 million of single entity issue trust preferred securities.

Loans, excluding loans held-for-sale, totaled $798.1 million at June 30, 2012, an increase of 2% from $782.1 million at June 30, 2011, and an increase of 5% from $756.9 million at March 31, 2012. The loan portfolio remains well-diversified with commercial and industrial (“C&I”) loans accounting for 48% of the portfolio at June 30, 2012. Commercial and residential real estate loans accounted for 42% of the total loan portfolio, of which 51% were owner-occupied by businesses. Land and construction loans account for 2% of the loan portfolio at June 30, 2012, compared to 5% at June 30, 2011 and 3% of the total loan portfolio at March 31, 2012. Consumer and home equity loans accounted for the remaining 8% of total loans at June 30, 2012.

The yield on the loan portfolio was 5.23% for the second quarter of 2012, compared to 5.31% for the same period in 2011, and 5.41% for the first quarter of 2012. The 18 basis points decrease in the second quarter of 2012 from the first quarter of 2012 was due to several positive adjustments in the first quarter of 2012 from loan interest recoveries, and lower rates issued (due to competitive factors) on some new and renewed loans in the second quarter of 2012.

“In the second quarter of 2012, we experienced an increase in loans, and as a result we deployed more liquidity toward loans as demand from credit worthy customers improved,” added Mr. Kaczmarek.

Nonperforming assets declined $5.3 million to $17.8 million, or 1.35% of total assets, at June 30, 2012, from $23.1 million, or 1.83% of total assets a year ago. At March 31, 2012, nonperforming assets totaled $19.5 million or 1.49% of total assets. The following is a breakout of nonperforming assets at June 30, 2012:

At June 30, 2012, the $17.8 million of nonperforming assets included $1.2 million of loans guaranteed by the SBA and $1.7 million of restructured loans still accruing interest income.

Foreclosed assets were $3.1 million at June 30, 2012, compared to $248,000 at June 30, 2011, and $3.2 million at March 31, 2012. Classified assets (net of SBA guarantees) decreased to $54.9 million at June 30, 2012, from $76.1 million at June 30, 2011, and increased from $54.2 million at March 31, 2012.

The following table summarizes the allowance for loan losses:

Deposits totaled $1.10 billion at June 30, 2012, compared to $998.6 million at June 30, 2011, and $1.08 billion at March 31, 2012. Noninterest-bearing demand deposits increased $34.7 million to $367.9 million at June 30, 2012, compared to $333.2 million at June 30, 2011, and increased $11.3 million compared to $356.6 million at March 31, 2012. Interest-bearing demand deposits increased $20.3 million to $148.8 million at June 30, 2012, from $128.5 million at June 30, 2011, and increased $4.8 million from $144.0 million at March 31, 2012. Savings and money market deposits increased $14.3 million to $290.9 million at June 30, 2012, from $276.5 million at June 30, 2011, and decreased $1.1 million from $292.0 million at March 31, 2012. At June 30, 2012, brokered deposits increased 3% to $97.7 million, from $94.6 million at June 30, 2011, and increased 15% from $84.7 million at March 31, 2012. Total deposits, excluding brokered deposits, were $1.0 billion at June 30, 2012, compared to $903.9 million at June 30, 2011, and $995.5 million at March 31, 2012.

The total cost of deposits decreased 15 basis points to 0.27% during the second quarter of 2012, from 0.42% during the second quarter of 2011, and remained flat compared to the first quarter of 2012, primarily as a result of maturing higher-cost wholesale funding and higher core deposits.

Due primarily to the $40 million repurchase of the Series A Preferred Stock during the first quarter of 2012, tangible equity was $162.4 million at June 30, 2012, compared to $184.7 million at June 30, 2011. Tangible equity was $157.5 million at March 31, 2012. Tangible book value per common share was $5.44 at June 30, 2012, compared to $4.81 a year ago, and $5.25 at March 31, 2012. In the per common share data attached, the Company presents the pro forma tangible book value per share, assuming the Company’s outstanding Series C Preferred Stock issued in June 2010 is converted into common stock. There were 21,004 shares of Series C Preferred Stock outstanding at June 30, 2012 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.

The Company’s accumulated other comprehensive income was $3.2 million at June 30, 2012, compared to an accumulated other comprehensive loss of ($2.3) million a year ago, and accumulated other comprehensive income of $1.2 million at March 31, 2012. The components of other comprehensive income, net of taxes, at June 30, 2012 include the following: an unrealized gain on available-for-sale securities of $7.1 million; an unrealized loss on split dollar insurance contracts of ($2.2) million; an unrealized loss on the supplemental executive retirement plan of ($2.9) million; and an unrealized gain on interest-only strip from SBA loans of $1.2 million.

Redemption of Subordinated Debt

The Company has provided notice to the holders that the it intends to redeem the Company’s 10.875% fixed-rate subordinated debentures in the amount of $7 million issued to Heritage Capital Trust I, and the related premium cost of $304,500, and the Company’s 10.600% fixed-rate subordinated debentures in the amount of $7 million issued to Heritage Statutory Trust I, and the related premium cost of $296,800 (collectively referred to as the “Fixed-Rate Sub Debt”). The redemption of the 10.600% fixed-rate subordinated debentures is expected to be completed on September 7, 2012, and the 10.875% fixed-rate subordinated debentures on September 8, 2012. Additionally, the Company will pay its regularly scheduled interest payments on the Fixed-Rate Sub Debt totaling approximately $752,000 on the respective redemption dates. The Company will use available cash and proceeds from a $15 million distribution from HBC to HCC. The Company will incur a charge of $601,300 in the third quarter of 2012, for the early payoff premiums on the redemption of the Fixed-Rate Sub Debt. On an annual basis, the redemption of the Fixed-Rate Sub Debt will eliminate approximately $1.5 million in interest expense.

The Company’s and HBC’s June 30, 2012 regulatory capital ratios and pro forma capital ratios including the redemption of the Fixed-Rate Sub Debt and the $15 million cash contribution from HBC are detailed in the tables below. The Company’s and HBC’s pro forma June 30, 2012 regulatory capital ratios all significantly exceed the well-capitalized requirements.

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 Los Gatos, Fremont, Danville, Pleasanton, Walnut Creek, Morgan Hill, Gilroy, Mountain View, and Los Altos. Heritage Bank of Commerce is an SBA Preferred Lender with an additional Loan Production Office in Santa Rosa, California. For more information, please visit www.heritagecommercecorp.com.

Forward Looking Statement Disclaimer

Forward-looking statements are based on management’s knowledge and belief as of today and include information concerning the Company’s possible or assumed future financial condition, and its results of operations, business and earnings outlook. These forward-looking statements are subject to risks and uncertainties. A number of factors, some of which are beyond the Company’s ability to control or predict, could cause future results to differ materially from those contemplated by such forward-looking statements. The forward-looking statements could be affected by many factors, including but not limited to: (1) competition for loans and deposits and failure to attract or retain deposits and loans; (2) local, regional, and national economic conditions and events and the impact they may have on us and our customers, and our assessment of that impact on our estimates including, the allowance for loan losses; (3) risks associated with concentrations in real estate related loans; (4) 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; (5) 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; (6) stability of funding sources and continued availability of borrowings; (7) our ability to raise capital or incur debt on reasonable terms; (8) Regulatory limits on Heritage Bank of Commerce’s ability to pay dividends to the Company; (9) continued volatility in credit and equity markets and its effect on the global economy; (10) the impact of reputational risk on such matters as business generation and retention, funding and liquidity; (11) oversupply of inventory and continued deterioration in values of California commercial real estate; (12) a prolonged slowdown in construction activity; (13) the effect of changes in laws and regulations (including laws and regulations concerning taxes, banking, securities, and executive compensation) which we must comply, including but not limited to, the Dodd-Frank Act of 2010; (14) the effects of security breaches and computer viruses that may affect our computer systems; (15) changes in consumer spending, borrowings and saving habits; (16) changes in the competitive environment among financial or bank holding companies and other financial service providers; (17) 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; (18) 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; (19) the ability to increase market share and control expenses; and (20) our success in managing the risks involved in the foregoing items. For a discussion of factors which could cause results to differ, please see the Company’s reports on Forms 10-K and 10-Q as filed with the Securities and Exchange Commission and the Company’s press releases. Readers should not place undue reliance on the forward-looking statements, which reflect management’s view only as of the date hereof. The Company undertakes no obligation to publicly revise these forward-looking statements to reflect subsequent events or circumstances.

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