UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2001
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from ________to _________
Commission file number 000-23877
Heritage Commerce Corp
(Exact name of Registrant as Specified in its Charter)
| California | 77-0469558 |
| (State or Other Jurisdiction of Incorporation or Organization) | (I.R.S. Employer Identification Number) |
150 Almaden Boulevard
San Jose, California 95113
(Address of Principal Executive Offices including Zip Code)
(408) 947-6900
(Registrant's Telephone Number, Including Area Code)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15 (d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file reports), and (2) has been subject to such filing requirements for the past 90 days. YES [X] NO [ ]
APPLICABLE ONLY TO CORPORATE ISSUERS:
The Registrant had 11,114,967 shares of Common Stock outstanding on November 1, 2001.
Heritage Commerce Corp and Subsidiaries
Quarterly Report on Form 10-Q
Table of Contents
| PART I. FINANCIAL INFORMATION | Page No. |
| | |
| Item 1. Financial Statements (unaudited): | |
| | |
| Condensed Consolidated Statements of Financial Condition | 3 |
| | |
| Condensed Consolidated Income Statements | 4 |
| | |
| Condensed Consolidated Statements of Cash Flows | 5 |
| | |
| Condensed Consolidated Notes to Financial Statements | 6 |
| | |
| Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations | 8 |
| | |
| Item 3. Quantitative and Qualitative Disclosures About Market Risk | 20 |
| | |
| PART II. OTHER INFORMATION | |
| | |
| Item 1: Legal Proceedings | 20 |
| | |
| Item 6. Exhibits and Reports on Form 8-K | 20 |
| | |
| Signatures | 21 |
Part I -- FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
HERITAGE COMMERCE CORP AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
September 30, December 31,
(Dollars in thousands) 2001 2000
------------ ------------
ASSETS
Cash and due from banks......................................... $ 34,803 $ 38,671
Interest bearing deposits in banks.............................. 6,156 2,098
Federal funds sold.............................................. 84,600 19,300
------------ ------------
Total cash and cash equivalents.................. 125,559 60,069
Securities available-for-sale, at fair value.................... 78,526 90,894
Securities held-to-maturity, at amortized cost
(fair value of $18,003 at September 30, 2001 and
$20,075 at December 31, 2000, respectively)................. 17,245 19,908
Loan held for sale, at fair value............................... 36,104 35,931
Loans, net of deferred fees..................................... 615,773 610,781
Allowance for probable loan losses.............................. (10,673) (9,651)
------------ ------------
Loans, net....................................... 605,100 601,130
Premises and equipment, net..................................... 5,823 6,415
Accrued interest receivable and other assets.................... 17,333 12,920
Other investments............................................... 23,810 18,957
------------ ------------
TOTAL............................................ $ 909,500 $ 846,224
============ ============
LIABILITIES AND SHAREHOLDERS' EQUITY
Liabilities:
Deposits
Demand, noninterest bearing............................... $ 215,884 $ 207,885
Demand, interest bearing.................................. 72,234 68,587
Savings and money market.................................. 225,110 219,299
Time deposits, under $100................................. 80,739 70,552
Time deposits, $100 and over.............................. 168,182 162,625
Brokered deposits......................................... 39,689 9,238
------------ ------------
Total deposits............................................... 801,838 738,186
Federal Home Loan Bank borrowing............................. -- 18,000
Mandatorily redeemable cumulative trust preferred
securities of Subsidiary Grantor Trust.................... 19,000 14,000
Accrued interest payable and other liabilities............... 15,135 10,305
------------ ------------
Total liabilities................................ 835,973 780,491
------------ ------------
Commitments and contingencies
Shareholders' equity:
Preferred Stock, no par value; 10,000,000 shares authorized;
none outstanding.......................................... -- --
Common Stock, no par value; 30,000,000 shares authorized;
Shares issued and outstanding: 11,111,719 at
September 30, 2001 and 10,939,124 at December 31, 2000.... 63,491 62,469
Accumulated other comprehensive income, net of taxes......... 1,393 515
Retained earnings............................................ 8,643 2,749
------------ ------------
Total shareholders' equity....................... 73,527 65,733
------------ ------------
TOTAL............................................ $ 909,500 $ 846,224
============ ============
See notes to condensed consolidated financial statements
HERITAGE COMMERCE CORP AND SUBSIDIARIES
CONDENSED CONSOLIDATED INCOME STATEMENTS (UNAUDITED)
Three Months Ended Nine Months Ended
September 30, September 30,
------------------------ ------------------------
(Amounts in thousands, except per share data) 2001 2000 2001 2000
----------- ----------- ----------- -----------
Interest income:
Loans, including fees................................ $ 14,131 $ 15,324 $ 44,767 $ 40,351
Securities, taxable................................. 972 1,409 3,518 4,061
Securities, non-taxable............................. 206 157 504 460
Interest bearing deposits in banks................... 44 19 127 30
Federal funds sold................................... 590 1,644 2,040 3,930
----------- ----------- ----------- -----------
Total interest income 15,943 18,553 50,956 48,832
----------- ----------- ----------- -----------
Interest expense:
Deposits............................................. 5,344 6,961 17,792 17,485
Mandatorily redeemable trust preferred securities.... 432 236 1,184 445
Other................................................ 27 16 140 63
----------- ----------- ----------- -----------
Total interest expense.................................. 5,803 7,213 19,116 17,993
----------- ----------- ----------- -----------
Net interest income before provision for probable
loan losses........................................... 10,140 11,340 31,840 30,839
Provision for probable loan losses...................... 279 655 1,334 1,869
----------- ----------- ----------- -----------
Net interest income after provision for probable
loan losses........................................... 9,861 10,685 30,506 28,970
----------- ----------- ----------- -----------
Noninterest income:
Gain on sale of loans................................ 753 -- 1,304 --
Service charges and other fees on deposit accounts... 254 189 690 530
Other investment income.............................. 239 230 749 592
Gain on sale of securities available-for-sale........ 181 -- 732 44
Servicing income..................................... 105 111 337 181
Other income......................................... 205 255 793 787
----------- ----------- ----------- -----------
Total noninterest income................................ 1,737 785 4,605 2,134
----------- ----------- ----------- -----------
Noninterest expenses:
Salaries and employee benefits....................... 4,734 3,985 14,190 12,136
Occupancy............................................ 712 617 2,074 1,674
Client services...................................... 464 589 1,444 1,227
Furniture and equipment.............................. 447 380 1,349 1,086
Professional fees.................................... 446 547 989 1,436
Advertising and promotion............................ 342 360 890 761
Loan origination costs............................... 314 114 986 395
Stationery & supplies................................ 109 89 368 251
Telephone expense.................................... 90 89 270 259
Merger and integration costs......................... -- 109 -- 204
Other................................................ 1,029 1,164 3,063 3,629
----------- ----------- ----------- -----------
Total noninterest expenses.............................. 8,687 8,043 25,623 23,058
----------- ----------- ----------- -----------
Income before income taxes.............................. 2,911 3,427 9,488 8,046
Provision for income taxes.............................. 1,088 1,253 3,594 2,866
----------- ----------- ----------- -----------
Net income.............................................. $ 1,823 $ 2,174 $ 5,894 $ 5,180
=========== =========== =========== ===========
Basic.............................................. $ 0.16 $ 0.2 $ 0.53 $ 0.49
=========== =========== =========== ===========
Diluted............................................ $ 0.16 $ 0.19 $ 0.52 $ 0.47
=========== =========== =========== ===========
See notes to condensed consolidated financial statements
HERITAGE COMMERCE CORP AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
Nine Months Ended
September 30,
--------------------------
(In thousands) 2001 2000
------------ ------------
Cash flows from operating activities:
Net income........................................................ $ 5,894 $ 5,180
Adjustments to reconcile net income to net cash provided by
(used in) operating activities:
Depreciation and amortization..................................... 1,214 1,132
Provision for probable loan losses................................ 1,334 1,869
Gain on sale of securities available-for-sale..................... (732) (44)
Net amortization of premiums / accretion of discounts............. (231) (78)
Gains on sales of loans held for sale............................. (1,304) --
Proceeds from sales of loans held for sale........................ 30,011 --
Originations of loans held for sale............................... (29,637) (8,550)
Maturities of loans held for sale................................. 759 140
Effect of changes in:
Accrued interest receivable and other assets.................. (4,361) (5,393)
Accrued interest payable and other liabilities................ 4,300 (3,791)
------------ ------------
Net cash provided by (used in) operating activities............... 7,247 (9,535)
------------ ------------
Cash flows from investing activities:
Net changes in loans.............................................. (5,304) (151,596)
Purchases of securities available-for-sale........................ (62,756) (45,765)
Maturities/paydowns/calls of securities available-for-sale........ 18,362 4,313
Proceeds from sales of securities available-for-sale.............. 59,080 10,433
Proceeds from maturities or calls of securities held-to-maturity.. 2,663 2,664
Purchases of corporate owned life insurance....................... (4,558) (3,029)
Purchases of other investments.................................... (295) 595
Purchases of property and equipment............................... (623) (1,812)
------------ ------------
Net cash provided by (used in) investing activities............... 6,569 (184,197)
------------ ------------
Cash flows from financing activities:
Net increase in deposits.......................................... 63,652 162,375
Proceeds from issuance of mandatorily redeemable cumulative
trust preferred securities of Subsidiary Grantor Trust......... 5,000 14,000
Proceeds from exercise of stock options........................... 1,022 1,636
Net change in FHLB borrowings..................................... (18,000) --
------------ ------------
Net cash provided by financing activities......................... 51,674 178,011
------------ ------------
Net increase (decrease) in cash and cash equivalents.............. 65,490 (15,721)
Cash and cash equivalents, beginning of period.................... 60,069 155,224
------------ ------------
Cash and cash equivalents, end of period.......................... $ 125,559 $ 139,503
============ ============
Supplemental disclosures of cash paid during the period for:
Interest....................................................... $ 19,179 $ 16,662
Income taxes................................................... $ 4,450 $ 1,340
See notes to condensed consolidated financial statements
HERITAGE COMMERCE CORP AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements
September 30, 2001
(Unaudited)
1) Basis of Presentation
The unaudited condensed consolidated financial statements of Heritage Commerce Corp (the "Company") and its wholly owned subsidiaries: Heritage Bank of Commerce (HBC), Heritage Bank East Bay (HBEB), Heritage Bank South Valley (HBSV), and Bank of Los Altos (BLA), Heritage Capital Trust I, Heritage Statutory Trust I and Heritage Statutory Trust II, which are Delaware Statutory business trusts formed for the exclusive purpose of issuing and selling trust preferred securities, have been prepared pursuant to the rules and regulations for reporting on Form 10-Q. Accordingly, certain information and notes required by accounting principles generally accepted in the United States of America ("GAAP") for complete financial statements are not included herein. The interim statements should be read in conjunction with the financial statements and notes thereto included in the Company's Form 10-K Annual Report for the year ended December 31, 2000, as amended by Form 10-K/A filed on April 6, 2001. The unaudited condensed financial information presented herein has been restated on a historical basis to reflect the merger with Western Holdings Bancorp, which closed in October 2000, as a pooling of interests as if the Companies had been combined for all periods presented.
HBC, HBEB, HBSV, and BLA are commercial banks, which offer similar products to customers located in Santa Clara, Alameda, and Contra Costa counties of California. No customer accounts for more than 10 percent of revenue for HBC, HBEB, HBSV, BLA or the Company. Management evaluates the Company's performance as a whole and does not allocate resources based on the performance of different lending or transaction activities. Accordingly, the Company and its subsidiary banks all operate as one business segment.
In the Company's opinion, all adjustments necessary for a fair presentation of these condensed consolidated financial statements have been included and are of a normal and recurring nature. Certain reclassifications have been made to prior year amounts to conform to current year presentation.
The results for the three and nine months ended September 30, 2001 are not necessarily indicative of the results expected for any subsequent period or for the entire year ending December 31, 2001.
2) Earnings Per Share
Basic earnings per share is computed by dividing net income by the weighted average common shares outstanding. Diluted earnings per share reflects potential dilution from outstanding stock options, using the treasury stock method. For each of the periods presented, net income is the same for basic and diluted earnings per share. Reconciliation of weighted average shares used in computing basic and diluted earnings per share is as follows:
Three Months Ended Nine Months Ended
September 30, September 30,
------------------------ ------------------------
2001 2000 2001 2000
----------- ----------- ----------- -----------
Weighted average common shares outstanding - used
in computing basic earnings per share............... 11,106,956 10,684,106 1,071,581 10,514,152
Dilutive effect of stock options outstanding,
using the treasury stock method..................... 288,606 555,144 307,920 594,207
----------- ----------- ----------- -----------
Shares used in computing diluted earnings per share..... 11,395,562 11,239,250 1,379,501 11,108,359
=========== =========== =========== ===========
3) Comprehensive Income
Comprehensive Income includes net income and other comprehensive income, which represents the change in its net assets during the period from non-owner sources.
The Company's only source of other comprehensive income is derived from unrealized gains and losses on investment securities available-for- sale. Reclassification adjustments resulting from gains or losses on investment securities that were realized and included in net income of the current period that also had been included in other comprehensive income as unrealized holding gains or losses in the period in which they arose are excluded from comprehensive income of the current period. The Company's total comprehensive income was as follows:
Three Months Ended Nine Months Ended
September 30, September 30,
------------------------ ------------------------
2001 2000 2001 2000
----------- ----------- ----------- -----------
Net income.............................................. $ 1,823,000 2,174,000 5,894,000 5,180,000
----------- ----------- ----------- -----------
Other comprehensive income, net of tax:
Net unrealized holding gain on
available-for-sale securities during the period..... 849,000 611,000 1,330,000 589,000
Less: reclassification adjustment for realized
gains on available-for-sale securities
included in net income during the period............ (112,000) -- (452,000) (30,000)
----------- ----------- ----------- -----------
Other comprehensive income ............................. 737,000 611,000 878,000 559,000
----------- ----------- ----------- -----------
Comprehensive income.................................... 2,560,000 2,785,000 6,772,000 5,739,000
=========== =========== =========== ===========
4) Mandatorily Redeemable Cumulative Trust Preferred Securities of Subsidiary Grantor Trust
Heritage Statutory Trust II
Heritage Capital Statutory Trust II is a Delaware business trust formed by Heritage Commerce Corp for the purpose of issuing Company obligated mandatorily redeemable cumulative trust preferred securities.
During the third quarter of 2001, Heritage Capital Statutory Trust II issued 5,000 Floating Rate Capital Securities, with a liquidation value of $1,000 per security to the Company for gross proceeds of $5,000,000. The entire proceeds of the issuance were invested by Heritage Capital Statutory Trust II in $5,000,000 aggregate principal amount of Floating Rate Junior Subordinated Deferrable Interest Debentures, with identical maturity, repricing and payment terms as the Floating Rate Capital Securities (the "Subordinated Debentures") issued by the Company. The Subordinated Debentures represent the sole assets of Heritage Capital Statutory Trust II. The Subordinated Debentures mature on July 31, 2031, bear an initial interest rate of 7.29% (based on 3-month LIBOR plus 3.58%), repricing and payable semi- annually, and are redeemable by the Company at a premium beginning on or after July 31, 2006 based on a percentage of the principal amount of the Subordinated Debentures as stipulated in the Indenture Agreement, plus any accrued and unpaid interest to the redemption date. The Subordinated Debentures are redeemable at 100 percent of the principal amount plus any accrued and unpaid interest to the redemption date at any time on or after July 31, 2011 with proper notification. The Floating Rate Capital Securities are subject to mandatorily redemption to the extent of any early redemption of the Subordinated Debentures and upon maturity of the Subordinated Debentures on July 31, 2031. The Subordinated Debentures bear the same terms and interest rates as the Floating Rate Capital Securities.
Holders of the Floating Rate Capital Securities are entitled to cumulative cash distribution on the liquidation amount of $1,000 per security beginning on July 31, 2001 and ending on October 31, 2001 at an initial rate per annum of 7.29% and shall bear interest for each successive period beginning on (and including) October 31, 2001, and each succeeding Distribution Payment Date and ending at the next succeeding Distribution Payment Date at a rate per annum equal to the 3-month LIBOR, plus 3.58%; provided , however, that prior to July 31, 2011, such annual rate shall not exceed 12.50%. The distributions on the Floating Rate Capital Securities are treated as interest expense in the consolidated income statements. The Company has the option to defer payment of the distributions for a period of up to five years, as long as the Company is not in default in the payment of interest on the Subordinated Debentures. The Floating Rate Capital Securities issued in the offering were sold in private transactions pursuant to an applicable exemptions from registration under the Securities Act of 1933, as amended. The Company has guaranteed on a subordinated basis, distributions and other payments due on the Floating Rate Capital (the Guarantee). The Guarantee, when taken together with the Company's obligations under the Subordinated Debentures, the Indenture Agreement pursuant to which the Subordinated Debentures were issued and the Company's obligations under the Trust Agreement governing the subsidiary trust, provide a full and unconditional guarantee of amounts due on the Floating Rate Capital Securities.
5) Recent Accounting Pronouncements
In June 2001, the Financial Accounting Standards Board approved for issuance Statement of Financial Accounting Standard (SFAS) No. 141,Business Combinations and SFAS No. 142,Goodwill and Other Intangible Assets. SFAS No. 141 requires that all business combinations initiated after June 30, 2001 be accounted for under the purchase method of accounting and address the initial recognition and measurement of goodwill and other intangible assets acquired in a business combination. SFAS No. 142 addresses the initial recognition and measurement of intangible assets acquired outside of a business combination and the accounting for goodwill and other intangible assets subsequent to their acquisition. SFAS No. 142 provides that intangible assets with finite useful lives will be amortized and that goodwill and intangible assets with indefinite lives will not be amortized, but will be required to be tested at least annually for impairment. The Company will adopt SFAS No. 142 for its fiscal year beginning January 1, 2002. The Company does not expect the adoption of SFAS No. 142 to have a material effect on its financial position, results of operations and cash flows, as the Company did not have any goodwill or intangible assets at September 30, 2001.
6) Reclassifications
Certain amounts in the December 31, 2000 and September 30, 2000 financial statements have been reclassified to conform to the September 30, 2001 financial statement presentation.
Item 2. Management's Discussion and Analysis of Financial Condition and Results ofOperations
Discussions of certain matters in this Report on Form 10-Q may constitute forward looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended (the "Exchange Act"), and as such, may involve risks and uncertainties. Forward-looking statements, which are based on certain assumptions and describe future plans, strategies, and expectations, are generally identifiable by the use of words such as "believe", "expect", "intend", "anticipate", "estimate", "project", or similar expressions. These forward-looking statements relate to, among other things, expectations of the business environment in which the Company operates, projections of future performance, potential future performance, potential future credit experience, perceived opportunities in the market, and statements regarding the Company's mission and vision. The Company's actual results, performance, and achievements may differ materially from the results, performance, and achievements expressed or implied in such forward-looking statements due to a wide range of factors. The factors include, but are not limited to changes in interest rates, general economic conditions, legislative and regulatory changes, monetary and fiscal policies of the US Government, real estate valuations, competition in the financial services industry, and other risks. All of the Company's operations and most of its customers are located in California. During the past year, the availability of a sufficient supply of electrical power in California has been unreliable at times. In addition, recent events, including those of September 11, 2001, have increased the uncertainty related to the national and California economic outlook and could have an effect on the future operations of the Company or its customers, including borrowers. The Company does not undertake, and specifically disclaims any obligation, to update any forward-looking statements to reflect occurrences or unanticipated events or circumstances after the date of such statements.
Heritage operates as the bank holding company for the four subsidiary banks: Heritage Bank of Commerce, Heritage Bank East Bay, Heritage Bank South Valley and Bank of Los Altos (collectively the "Banks"). All are California state chartered banks, which offer a full range of commercial and personal banking services to residents and the business/professional community in Santa Clara, Contra Costa and Alameda Counties, California. The accounting and reporting policies of Heritage Commerce Corp and its subsidiaries conform to accounting principles generally accepted in the United States of America and prevailing practices within the banking industry. The financial information presented herein has been restated on a historical basis to reflect the merger with Western Holdings Bancorp, which closed in October 2000, as a pooling of interests as if the Companies had been combined for all periods presented.
Overview
Net income for the three and nine months ended September 30, 2001 was $1,823,000 and $5,894,000, down 16% from $2,174,000 for the three months ended September 30, 2000 and up 14%, from $5,180,000 for the nine months ended September 30, 2000. Earnings per diluted share for the three and nine months ended September 30, 2001 were $0.16 and $0.52, down 16% from $0.19 for the three months ended September 30, 2000 and up 11%, from $0.47 per diluted share for the nine months ended September 30, 2000. Annualized return on average assets and return on average equity for the nine months ended September 30, 2001 were 0.91% and 11.28% compared with returns of 0.91% and 11.63% for the same period in the prior year. Annualized return on average assets and return on average equity for the quarter ended September 30, 2001 were 0.82% and 10.03%, compared with returns of 1.03% and 13.81%, for the same period in the prior year.
For the nine months ended September 30, 2001, as compared with the same period in the prior year, net interest income increased from $30,839,000 to $31,840,000, an increase of $1,001,000, or 3%. For the three months ended September 30, 2001, as compared with the same period in the prior year, net interest income decreased from $11,340,000 to $10,140,000, a decrease of $1,200,000, or 11%. The increase in the nine month period and the decrease in the three month period over the same periods in the prior year was primarily a result of the overall growth in the Company's earning assets, primarily loans, offset by the continuing decline in the short term interest rates, reflecting the Federal Reserve Board of Governors' reduction in short term interest rates of 350 basis points during the first nine months of 2001, and the timing of the Company's ability to reprice its interest bearing deposits. The Company's net interest margin was 5.31% for the nine months ended September 30, 2001, compared with 5.90% for the nine months ended September 30, 2000, reflective of the overall decline in the interest rate environment and the fact that the Company's assets reprice more quickly than its liabilities.
Total assets as of September 30, 2001 were $909,500,000, an increase of $52,156,000, or 6%, from $857,344,000 at September 30, 2000, and an increase of $63,276,000, or 7%, from total assets of $846,224,000 at December 31, 2000. Total deposits as of September 30, 2001 were $801,838,000, an increase of $38,034,000, or 5%, from $763,804,000 at September 30, 2000, and an increase of $63,652,000, or 9%, from total deposits of $738,186,000 at December 31, 2000.
Total portfolio loans as of September 30, 2001 were $615,773,000, an increase of $63,010,000, or 11%, from $552,763,000 September 30, 2000 and an increase of $4,992,000 from total portfolio loans of $610,781,000 at December 31, 2000. The Company's allowance for loan losses was $10,673,000, or 1.73%, of total loans at September 30, 2001. This compares with an allowance for loan losses of $8,392,000, or 1.52%, and $9,651,000, or 1.58% of total loans at September 30, 2000 and December 31, 2000. The Company's non- performing assets were $66,000 as of September 30, 2001, while the Company had no non-performing assets at September 30, 2000 and December 31, 2000.
The Company's shareholders' equity at September 30, 2001 was $73,527,000, up from $63,919,000 at September 30, 2000 and $65,733,000 as of December 31, 2000. The increase in shareholders' equity is a result of the income generated over the period, the exercise of common stock options and an increase in other comprehensive income from the net unrealized holding gains on the securities available-for-sale. Book value per share has increased to $6.62 at September 30, 2001, from $5.92 at September 30, 2000 and $6.01 at December 31, 2000. The Company's leverage capital ratio was 10.25% at September 30, 2001 compared to 9.39% at September 30, 2000 and 9.30% at December 31, 2000.
RESULTS OF OPERATIONS
Net Interest Income and Net Interest Margin
The following table presents the Company's average balance sheet, net interest income and the resultant yields and rates paid for the period presented:
For the Three Months Ended For the Three Months Ended
September 30, 2001 September 30, 2000
--------------------------------- ---------------------------------
Interest Average Interest Average
Average Income/ Yield/ Average Income/ Yield/
(Dollars in thousands) Balance Expense Rate Balance Expense Rate
- ---------------------------------------- ---------- ---------- --------- ---------- ---------- ---------
Assets:
Loans, gross............................ $ 653,914 $ 14,131 8.57% $ 567,303 $ 15,324 10.75%
Investments securities.................. 90,484 1,178 5.17% 103,102 1,566 6.04%
Interest bearing deposits in banks...... 5,730 44 3.05% 1,224 19 6.17%
Federal funds sold...................... 67,791 590 3.45% 100,763 1,644 6.49%
---------- ---------- ---------- ----------
Total interest earning assets........ 817,919 $ 15,943 7.73% 772,392 $ 18,553 9.56%
---------- ----------
Cash and due from banks................. 35,039 36,075
Premises and equipment, net............. 5,961 6,763
Other assets............................ 24,814 20,001
---------- ----------
Total assets......................... $ 883,733 $ 835,231
========== ==========
Liabilities and shareholders' equity:
Deposits:
Demand, interest bearing................ $ 69,728 $ 256 1.46% $ 53,536 $ 243 1.81%
Savings and money market................ 225,504 1,659 2.92% 249,952 2,805 4.46%
Time deposits, under $100............... 82,049 1,046 5.06% 77,915 1,205 6.15%
Time deposits, $100 and over............ 166,692 2,002 4.76% 171,726 2,529 5.86%
Brokered deposits....................... 27,224 381 5.55% 10,246 178 6.91%
Other borrowings........................ 20,472 459 8.90% 9,644 253 10.42%
---------- ---------- ---------- ----------
Total interest bearing liabilities... 591,669 5,803 3.89% 573,019 7,213 5.01%
---------- ----------
Interest bearing demand deposits........ 205,340 189,850
Other liabilities....................... 14,639 9,907
---------- ----------
Total liabilities.................... 811,648 772,776
Shareholders' equity.................... 72,085 62,455
---------- ----------
Total liabilities and
shareholders' equity.............. $ 883,733 $ 835,231
========== ==========
Net interest income / margin............ $ 10,140 4.92% $ 11,340 5.83%
========== ==========
Note: Yields and amounts earned on loans include loan fees of $1,131,000 and $1,060,000 for the three month periods ended September 30, 2001 and 2000, respectively. Interest income is reflected on an actual basis, not a fully taxable equivalent basis, and does not include a fair value adjustment. Nonaccrual loans of $66,000 and nil for the period ended September 30, 2001 and 2000, respectively, are included in the average balance calculation above.
For the Nine Months Ended For the Nine Months Ended
September 30, 2001 September 30, 2000
--------------------------------- ---------------------------------
Interest Average Interest Average
Average Income/ Yield/ Average Income/ Yield/
(Dollars in thousands) Balance Expense Rate Balance Expense Rate
- ---------------------------------------- ---------- ---------- --------- ---------- ---------- ---------
Assets:
Loans, gross............................ $ 638,230 $ 44,766 9.34% $ 512,032 $ 40,351 10.53%
Investments securities.................. 94,914 4,023 5.65% 99,481 4,521 6.07%
Interest bearing deposits in banks...... 4,551 127 3.72% 792 30 5.06%
Federal funds sold...................... 63,394 2,040 4.29% 85,730 3,930 6.12%
---------- ---------- ---------- ----------
Total interest earning assets........ 801,089 $ 50,956 8.50% 698,035 $ 48,832 9.34%
---------- ----------
Cash and due from banks................. 41,553 32,164
Premises and equipment, net............. 6,130 6,645
Other assets............................ 19,702 21,200
---------- ----------
Total assets......................... $ 868,474 $ 758,044
========== ==========
Liabilities and shareholders' equity:
Deposits:
Demand, interest bearing................ $ 67,394 $ 890 1.77% $ 53,504 $ 738 1.84%
Savings and money market................ 223,788 5,669 3.39% 222,883 6,877 4.12%
Time deposits, under $100............... 79,199 3,333 5.63% 73,263 3,106 5.66%
Time deposits, $100 and over............ 166,997 6,862 5.49% 146,439 6,236 5.69%
Brokered deposits....................... 23,424 1,038 5.92% 10,981 528 6.42%
Other borrowings........................ 18,356 1,324 9.64% 7,108 508 9.55%
---------- ---------- ---------- ----------
Total interest bearing liabilities... 579,158 19,116 4.41% 514,178 17,993 4.67%
---------- ----------
Interest bearing demand deposits........ 204,507 174,996
Other liabilities....................... 14,943 9,394
---------- ----------
Total liabilities.................... 798,608 698,568
Shareholders' equity.................... 69,866 59,476
---------- ----------
Total liabilities and
shareholders' equity.............. $ 868,474 $ 758,044
========== ==========
Net interest income / margin............ $ 31,840 5.31% $ 30,839 5.90%
========== ==========
Note: Yields and amounts earned on loans include loan fees of $3,478,000 and $2,896,000 for the nine month periods ended September 30, 2001 and 2000, respectively. Interest income is reflected on an actual basis, not a fully taxable equivalent basis, and does not include a fair value adjustment. Nonaccrual loans of $66,000 and nil for the period ended September 30, 2001 and 2000, respectively, are included in the average balance calculation above.
The Company's net interest income for the three and nine months ended September 30, 2001 was $10,140,000 and $31,840,000, a decrease of $1,200,000 or 11% over the same three month period in the prior year and an increase of $1,001,000, or 3% over the same nine month period in the prior year. For the three and nine months ended September 30, 2001 compared to the same periods in the prior year, average earning assets increased by $45,527,000 and $103,054,000, or 6% and 15%. For the three months ended September 30, 2001, the average yield on earning assets was 7.73%, down 183 basis points from 9.56% for the same period in 2000. Over the same periods the rates paid on interest bearing liabilities declined 112 basis points to 3.89% from 5.01%. For the nine months ended September 30, 2001, the average yield on earning assets was 8.50%, down 84 basis points from 9.34% for the same period in 2000. Over the same periods the rates paid on interest bearing liabilities decreased 26 basis points to 4.41% from 4.67%. Overall, the net interest margin decreased to 4.92% and 5.31% for the three and nine months ended September 30, 2001, from 5.83% and 5.90% for the same periods in the prior year. Even with the above decreases in net interest margin, net interest income increased due to the increases in the level of average earning assets, particularly loans. The increased level of average loans was primarily funded by the increase in the deposits and other borrowings and by a decrease in the level of average Federal funds sold.
The following table sets forth an analysis of the changes in interest income resulting from changes in the average volume of interest earning assets and liabilities and changes in the average rates earned and paid. The total change is shown in the column designated "Net Change" and is allocated in the columns to the left, to the portions respectively attributable to volume changes and rate changes that occurred during the period indicated. Changes due to both volume and rate have been allocated to the change in volume.
Three Months Ended September 30,
2001 vs. 2000
----------------------------------
Increase (Decrease) Due to Change In:
Average Average Net
(Dollars in thousands) Volume Rate Change
- ---------------------------------------- ---------- ---------- ----------
Interest earning assets
Loans, gross........................ $ 2,138 $ (3,331) $ (1,193)
Investments securities.............. (135) (253) (388)
Interest bearing deposits in banks.. 35 (10) 25
Federal funds sold.................. (268) (786) (1,054)
---------- ---------- ----------
Total interest earning assets.......... 1,770 (4,380) (2,610)
---------- ---------- ----------
Interest bearing liabilities
Demand, interest bearing............ 64 (51) 13
Money Market and Savings............ (140) (1,006) (1,146)
Time deposits, under $100........... 75 (234) (159)
Time deposits, $100 and over........ (15) (512) (527)
Brokered Deposits................... 241 (38) 203
Other borrowings.................... 247 (41) 206
---------- ---------- ----------
Total interest bearing liabilities..... 472 (1,882) (1,410)
---------- ---------- ----------
Net interest income.................... $ 1,298 $ (2,498) $ (1,200)
========== ========== ==========
Nine Months Ended September 30,
2001 vs. 2000
----------------------------------
Increase (Decrease) Due to Change In:
Average Average Net
(Dollars in thousands) Volume Rate Change
- ---------------------------------------- ---------- ---------- ----------
Interest earning assets
Loans, gross........................ $ 8,983 $ (4,568) $ 4,415
Investments securities.............. (178) (320) (498)
Interest bearing deposits in banks.. 105 (8) 97
Federal funds sold.................. (709) (1,181) (1,890)
---------- ---------- ----------
Total interest earning assets.......... 8,201 (6,077) 2,124
---------- ---------- ----------
Interest bearing liabilities
Demand, interest bearing............ 183 (31) 152
Money Market and Savings............ 23 (1,231) (1,208)
Time deposits, under $100........... 250 (23) 227
Time deposits, $100 and over........ 845 (219) 626
Brokered Deposits................... 551 (41) 510
Other borrowings.................... 811 5 816
---------- ---------- ----------
Total interest bearing liabilities..... 2,663 (1,540) 1,123
---------- ---------- ----------
Net interest income.................... $ 5,538 $ (4,537) $ 1,001
========== ========== ==========
Provision for Loan Losses
For the three and nine months ended September 30, 2001, the provision for loan losses was $279,000 and $1,334,000, down $376,000 and $535,000 from $655,000 and $1,869,000 for the same periods in the prior year. See additional discussion at Allowance for Probable Loan Losses.
Noninterest Income
The following table sets forth the various components of the Company's noninterest income for the periods indicated:
Three Months Ended Increase (decrease)
September 30, 2001 versus 2000
-------------------- --------------------
(Dollars in thousands) 2001 2000 Amount Percent
- ---------------------------------------------------- --------- --------- --------- ---------
Gain on sale of loans............................... $ 753 $ -- $ 753 -- %
Service charges and other fees on deposits accounts. 254 189 65 34 %
Other investment income............................. 239 230 9 4 %
Gain on sale of securities available-for-sale....... 181 -- 181 -- %
Servicing income.................................... 105 111 (6) (5)%
Other income........................................ 205 255 (50) (20)%
--------- --------- ---------
Total............................................... $ 1,737 $ 785 $ 952 121 %
========= ========= =========
Nine Months Ended Increase (decrease)
September 30, 2001 versus 2000
-------------------- --------------------
(Dollars in thousands) 2001 2000 Amount Percent
- ---------------------------------------------------- --------- --------- --------- ---------
Gain on sale of loans............................... $ 1,304 $ -- $ 1,304 -- %
Service charges and other fees on deposits accounts. 690 530 160 -- %
Other investment income............................. 749 592 157 27 %
Gain on sale of securities available-for-sale....... 732 44 688 1,564 %
Servicing income.................................... 337 181 156 86 %
Other income........................................ 793 787 6 1 %
--------- --------- ---------
Total............................................... $ 4,605 $ 2,134 $ 2,471 116 %
========= ========= =========
Noninterest income for the three and nine months ended September 30, 2001 was $1,737,000 and $4,605,000, up 121% and 116% from $785,000 and $2,134,000 from the same periods in the prior year. The increase was primarily due to the increases in service charges and fees from increased activity and gains on sale of securities, SBA loans, and servicing income recognized for the three and nine months ended September 30, 2001 compared to the same period in 2000. The interest rate environment in 2001 has provided the opportunity for the Company to record gains on the sale of loans and securities.
Noninterest Expense
The following table sets forth the various components of the Company's noninterest expenses for the periods indicated:
Three Months Ended Increase (decrease)
September 30, 2001 versus 2000
-------------------- --------------------
(Dollars in thousands) 2001 2000 Amount Percent
- ---------------------------------------------------- --------- --------- --------- ---------
Salaries and employee benefits...................... $ 4,734 $ 3,985 $ 749 19 %
Occupancy........................................... 712 617 95 15 %
Client services..................................... 464 589 (125) (21)%
Furniture and equipment............................. 447 380 67 18 %
Professional fees................................... 446 547 (101) (18)%
Advertising and promotion........................... 342 360 (18) (5)%
Loan origination costs.............................. 314 114 200 175 %
Stationery & supplies............................... 109 89 20 22 %
Telephone expense................................... 90 89 1 1 %
Merger and integration costs........................ -- 109 (109) (100)%
Other............................................... 1,029 1,164 (135) (12)%
--------- --------- ---------
Total............................................... $ 8,687 $ 8,043 $ 644 8 %
========= ========= =========
Nine Months Ended Increase (decrease)
September 30, 2001 versus 2000
-------------------- --------------------
(Dollars in thousands) 2001 2000 Amount Percent
- ---------------------------------------------------- --------- --------- --------- ---------
Salaries and employee benefits...................... $ 14,190 $ 12,136 $ 2,054 17 %
Occupancy........................................... 2,074 1,674 400 24 %
Client services..................................... 1,444 1,227 217 18 %
Furniture and equipment............................. 1,349 1,086 263 24 %
Professional fees................................... 989 1,436 (447) (31)%
Advertising and promotion........................... 890 761 129 17 %
Loan origination costs.............................. 986 395 591 150 %
Stationery & supplies............................... 368 251 117 47 %
Telephone expense................................... 270 259 11 4 %
Merger and integration costs........................ -- 204 (204) (100)%
Other............................................... 3,063 3,629 (566) (16)%
--------- --------- ---------
Total............................................... $ 25,623 $ 23,058 $ 2,565 11 %
========= ========= =========
The following table indicates the percentage of noninterest expense in each category:
For The Three Months Ended September 30,
-------------------------------------------
Percent Percent
(Dollars in thousands) 2001 of Total 2000 of Total
- ---------------------------------------------------- --------- --------- --------- ---------
Salaries and employee benefits...................... $ 4,734 54 % $ 3,985 50 %
Occupancy........................................... 712 8 % 617 8 %
Client services..................................... 464 5 % 589 7 %
Furniture and equipment............................. 447 5 % 380 5 %
Professional fees................................... 446 5 % 547 7 %
Advertising and promotion........................... 342 4 % 360 4 %
Loan origination costs.............................. 314 4 % 114 1 %
Stationery & supplies............................... 109 1 % 89 1 %
Telephone expense................................... 90 1 % 89 1 %
Merger and integration costs........................ -- -- % 109 1 %
Other............................................... 1,029 12 % 1,164 14 %
--------- --------- --------- ---------
Total............................................... $ 8,687 100 % $ 8,043 100 %
========= ========= ========= =========
For The Nine Months Ended September 30,
-------------------------------------------
Percent Percent
(Dollars in thousands) 2001 of Total 2000 of Total
- ---------------------------------------------------- --------- --------- --------- ---------
Salaries and employee benefits...................... $ 14,190 55 % $ 12,136 53 %
Occupancy........................................... 2,074 8 % 1,674 7 %
Client services..................................... 1,444 6 % 1,227 5 %
Furniture and equipment............................. 1,349 5 % 1,086 5 %
Professional fees................................... 989 4 % 1,436 6 %
Advertising and promotion........................... 890 3 % 761 3 %
Loan origination costs.............................. 986 4 % 395 2 %
Stationery & supplies............................... 368 1 % 251 1 %
Telephone expense................................... 270 1 % 259 1 %
Merger and integration costs........................ -- -- % 204 1 %
Other............................................... 3,063 12 % 3,629 16 %
--------- --------- --------- ---------
Total............................................... $ 25,623 100 % $ 23,058 100 %
========= ========= ========= =========
Noninterest expenses for the three and nine months ended September 30, 2001 were $8,687,000 and $25,623,000, up $644,000 and $2,565,000, or 8% and 11%, from $8,043,000 and $23,058,000 for the same periods in the prior year. The overall increase in noninterest expenses reflects the growth in infrastructure to support the increased activity and the Company's loan and deposit growth.
For the three months ended September 30, 2001, salaries and employee benefits increased by $749,000 reflecting normal increases and the growth in the level of full time equivalent employees from 202 at September 30, 2000 to 232 at September 30, 2001. Salaries and employee benefits increased $2,054,000, or 17%, to $14,190,000 for the first nine months of 2001, as compared to the same period in the prior year. As a percentage of total noninterest expenses, salaries and employee benefits represented 55% and 50%, for the three months ended September 30, 2001 and 2000 and 55% and 53% for the nine months ended September 30, 2001 and 2000. For the comparative three month periods, occupancy increased by $95,000, or 15%, and for the nine month periods increased $400,000, or 24%, to $2,074,000 primarily as a result of increased rental costs. Occupancy costs, as a percentage of total noninterest expenses remained fairly constant over the three and nine month periods. For the comparative three month periods, furniture and equipment increased by $67,000, or 18% and for the nine month periods increased $263,000, or 24%, to $1,349,000. For the comparative three month periods, stationery and supplies increased by $20,000, or 22% and for the nine month period increased $117,000, or 47%, to $368,000. For the comparative three month periods, advertising and promotion decreased by $18,000 or 5% but increased for the nine month period by $129,000, or 17%, to $890,000. The overall increases in the above accounts reflect the increased activity and growth in the Company. These costs as a percentage of total noninterest expenses remained fairly constant over the three and nine month periods. For the comparative three month periods, loan origination costs increased by $200,000, or 175%, as a result of the overall growth in the loan portfolio and increased as a percentage of total noninterest expenses from 1% to 4%. For the nine month period, loan origination costs increased by $591,000, or 150%, to $986,000 and as a percentage of total noninterest expenses from 2% to 4%. For the comparative three month periods, professional fees decreased by $101,000, or 18% and decreased for the nine month period by $447,000, or 31%, to $989,000 primarily. Due to certain merger related fees incurred in 2000, which were not necessary in 2001. These costs as a percentage of total noninterest expenses decreased from 7% to 5% over the three month period and from 6% to 4% over the nine month period. For the comparative three month periods, client services decreased $125,000, or 21%, and decreased as a percentage of total noninterest expenses from 7% to 5%. For the nine month period, client services increased $217,000, or 18%, to $1,444,000 or from 5% to 6% of the total noninterest expenses.
Income Taxes
The provision for income taxes for the three and nine months ended September 30, 2001 was $1,088,000 and $3,594,000, as compared to $1,253,000 and $2,866,000 for the same periods in the prior year. The following table shows the income tax rate for each period indicated.
| | For the three months ended September 30, | For the nine months ended September 30, |
| | 2001 | 2000 | 2001 | 2000 |
Income tax rate | 37.38% | 36.56% | 37.88% | 35.62% |
The difference in the effective tax rate compared to the statutory tax rate is primarily the result of the Company holding certain life insurance contracts and changes in the Company's level of investments in municipal securities.
FINANCIAL CONDITION
Total assets increased $63,276,000, or 7%, to $909,500,000 at September 30, 2001 from $846,224,000 at December 31, 2000, and increased $52,156,000, or 6%, from $857,344,000 at September 30, 2000. Total portfolio loans increased $4,992,000 or 1% to $615,773,000 at September 30, 2001 from $610,781,000 at December 31, 2000, and increased $63,010,000 or 11% from $552,763,000 at September 30, 2000. Total deposits increased $63,652,000, or 9% to $801,838,000 at September 30, 2001 from $738,186,000 at December 31, 2000, and increased $38,034,000 or 5% from $763,804,000 at September 30, 2000. The above reflects the strong internal growth of the Company across all deposit types, which, used with the proceeds from investment securities sales and maturities and loan sales funded the growth in loans and Federal funds sold.
Securities Portfolio
The following table sets forth the carrying value of investment securities at the dates indicated:
September 30,
---------------------- December 31
(Dollars in thousands) 2001 2000 2000
- ---------------------------------------------- ---------- ---------- ----------
Securities available-for-sale (at fair value)
U.S. treasury................................. $ 1,544 $ 8,502 $ 8,524
U.S. agencies................................. 41,432 45,978 48,202
Mortgage-backed securities.................... 22,532 14,395 18,870
Municipals.................................... 10,947 14,036 14,297
Corporate bonds............................... 2,071 -- --
Commercial paper.............................. -- 981 1,001
---------- ---------- ----------
Total securities available-for-sale........... $ 78,526 $ 83,892 $ 90,894
========== ========== ==========
Securities held-to-maturity (at amortized cost
Mortgage-backed securities.................... $ 4,668 $ 6,135 $ 5,783
CMOs.......................................... 1,636 2,241 2,215
Municipals.................................... 10,941 11,921 11,910
---------- ---------- ----------
Total securities held-to-maturity........ $ 17,245 $ 20,297 $ 19,908
========== ========== ==========
The following table summarizes the composition of the Company's investment securities and the weighted average yields at September 30, 2001:
September 30, 2001
Maturity
----------------------------------------------------------------------------------------
After One and After Five and
Within One Year Within Five Years Within Ten Years After Ten Years Total
--------------- --------------- --------------- --------------- ----------------
Amount Yield Amount Yield Amount Yield Amount Yield Amount Yield
-------- ------ -------- ------ -------- ------ -------- ------ --------- ------
Securities available-for-sale:
Agencies....................... $ 2,540 6.70 % $ 38,892 5.11 % $ -- -- % $ -- -- % $ 41,432 5.21 %
U.S. treasury.................. 1,544 4.52 % -- -- % -- -- % -- -- % 1,544 4.52 %
Mortgage-backed securities..... -- -- % 1,122 6.02 % 15,468 5.57 % 5,942 5.45 % 22,532 5.56 %
Commercial paper............... -- -- % 2,071 4.48 % -- -- % -- -- % 2,071 4.48 %
Municipals - nontaxable....... 2,789 6.67 % 4,108 6.11 % 4,050 6.90 % -- -- % 10,947 6.54 %
-------- -------- -------- -------- ---------
Total available-for-sale....... 6,873 6.20 % 46,193 5.19 % 19,518 5.85 % 5,942 5.45 % 78,526 5.46 %
-------- -------- -------- -------- ---------
Securities held-to-maturity:
CMOs........................... 1,636 4.15 % -- -- % -- -- % -- -- % 1,636 4.15 %
Mortgage-backed securities..... -- -- % 4,668 6.37 % -- -- % -- -- % 4,668 6.37 %
Municipals - taxable.......... 1,938 6.31 % 1,597 6.60 % -- -- % -- -- % 3,535 6.44 %
Municipals - nontaxable....... --- -- % 2,854 6.75 % 4,552 6.74 % -- -- % 7,406 6.74 %
-------- -------- -------- -------- ---------
Total held-to-maturity......... 3,574 5.32 % 9,119 6.53 % 4,552 6.74 % -- -- % 17,245 6.33 %
-------- -------- -------- -------- ---------
Total securities............... $ 10,447 5.90 % $ 55,312 5.41 % $ 24,070 6.02 % $ 5,942 5.45 % $ 95,771 5.62 %
======== ======== ======== ======== =========
Note: Yield on non-taxable municipal securities are not presented in a fully tax equivalent basis.
Loans
Total loans (exclusive of loans held for sale) increased $4,992,000 or 1% to $615,773,000 at September 30, 2001 as compared to $610,781,000 at December 31, 2000. The increase in loan balances was due to the business development efforts of the Company.
For the three and nine months ended September 30, 2001, SBA loans held for sale that were generated totaled $14,286,480 and $29,637,239, respectively. For the three and nine months ended September 30, 2001, SBA loans held for sale that were sold totaled $15,399,483 and $30,010,783, respectively. No SBA loans held for sale were sold during 2000. Heritage Bank of Commerce is a preferred lender under the U.S. Small Business Administration.
The following table summarizes the composition of the Company's loan portfolio at the dates indicated:
September 30, % of December 31, % of
(Dollars in thousands) 2001 Total 2000 Total
- ----------------------------------- ----------- ----------- ----------- -----------
Commercial......................... $ 203,678 33 % $ 200,846 33 %
Real estate - mortgage............. 239,772 39 % 230,468 38 %
Real estate - land and construction 164,602 27 % 171,325 28 %
Consumer........................... 7,593 1 % 8,172 1 %
----------- ----------- ----------- -----------
Total loans................... 615,645 100 % 610,811 100 %
=========== ===========
Deferred loan fees................. 128 (30)
Allowance for loan losses.......... (10,673) (9,651)
----------- -----------
Loans, net......................... $ 605,100 $ 601,130
=========== ===========
The Company's loan portfolio is based on commercial (primarily to companies engaged in manufacturing, wholesale, and service businesses) and real estate lending, with the balance in consumer loans. While no specific industry concentration is considered significant, the Company's lending operations are dependent on the technology and real estate industries and their supporting companies located within the Company's market area. Thus, the Company's borrowers could be adversely impacted by a downturn in these sectors of the economy, which could reduce the demand for loans and adversely impact the borrowers' abilities to repay their loans.
The following table sets forth the maturity distribution of the Company's loans at September 30, 2001:
Over One
Due in Year But
One Year Less Than Over
(Dollars in thousands) or Less Five Years Five Years Total
- ----------------------------------- ----------- ----------- ----------- -----------
Commercial......................... $ 188,282 $ 11,645 $ 3,751 $ 203,678
Real estate - mortgage............. 142,405 83,298 14,069 239,772
Real estate - land and construction 164,602 -- -- 164,602
Consumer........................... 6,898 695 -- 7,593
----------- ----------- ----------- -----------
Total loans................... 502,187 95,638 17,820 615,645
=========== =========== =========== ===========
Loans with variable interest rates. 487,546 57,910 2,728 548,184
Loans with fixed interest rates.... 14,641 37,728 15,092 67,461
----------- ----------- ----------- -----------
Total loans................... $ 502,187 $ 95,638 $ 17,820 $ 615,645
=========== =========== =========== ===========
The table shows the distribution of such loans between those loans with predetermined (fixed) interest rates and those with variable (floating) interest rates. Floating rates generally fluctuate with changes in the prime rate as reflected in the western edition ofThe Wall Street Journal. At September 30, 2001, approximately 89% of the Company's loan portfolio consisted of floating interest rate loans.
Nonperforming assets
Nonperforming assets consist of nonaccrual loans, loans past due 90 days and still accruing interest, troubled debt restructurings and other real estate owned. The following table shows nonperforming assets at the dates indicated:
September 30,
---------------------- December 31,
(Dollars in thousands) 2001 2000 2000
- -------------------------------------------- ---------- ---------- ----------
Nonaccrual loans............................ $ 66 $ -- $ --
Loans 90 days past due and still accruing... -- -- --
Restructured loans.......................... -- -- --
---------- ---------- ----------
Total nonperforming loans............... 66 -- --
Foreclosed assets........................... -- -- --
---------- ---------- ----------
Total nonperforming assets.............. $ 66 $ -- $ --
========== ========== ==========
Nonperforming assets as a percentage of
period end loans plus foreclosed assets... 0.01 % -- % -- %
Allowance for Loan Losses
Management conducts a critical evaluation of the loan portfolio monthly. This evaluation includes an assessment of the following factors: past loan loss experience, known and inherent risks in the portfolio, adverse situations that may affect the borrower's ability to repay, collateral value, loan volumes and concentrations, recent loss experience in particular segments of the portfolio, bank regulatory examination results, and current economic conditions. Management has established an evaluation process designed to determine the adequacy of the allowance for loan losses. This process attempts to assess the risk of loss inherent in the portfolio by segregating the allowance for loan losses into four components: "watch", "special mention", "substandard" and "doubtful".
It is the policy of management to maintain the allowance for loan losses at a level adequate for known and probable losses inherent in the loan portfolio. Based on information currently available to analyze loan loss delinquency and a history of actual charge-offs, management believes that the loan loss provision and allowance are adequate; however, no assurance of the ultimate level of credit losses can be given with any certainty. Loans are charged against the allowance when management believes that the collectibility of the principal is unlikely.
The following table summarizes the Company's loan loss experience as well as transactions in the allowance for loan losses and certain pertinent ratios for the periods indicated:
Nine Months Ended
September 30, Year Ended
------------------ December 31,
(Dollars in thousands) 2001 2000 2000
- -------------------------------------- -------- -------- --------
Balance, beginning of period / year... $ 9,651 $ 6,511 $ 6,511
Net recoveries (charge-offs).......... (312) 13 (19)
Provision for probable loan losses.... 1,334 1,869 3,159
-------- -------- --------
Balance, end of period / year......... $ 10,673 $ 8,393 $ 9,651
======== ======== ========
Ratios:
Net recoveries (charge-offs) to
average loans outstanding.......... 0.05 % 0.01 % -- %
Allowance for loan losses to average
loans.............................. 1.68 % 1.64 % 1.80 %
Allowance for loan losses to total
loans.............................. 1.73 % 1.52 % 1.58 %
Allowance for loan losses to
non-performing loans............... 16,171 % -- % -- %
The following table summarizes the allocation of the allowance for loan losses (ALL) by loan type and the allocated allowance as a percent of loans outstanding in each loan category at the dates indicated:
September 30, 2001 September 30, 2000 December 31, 2000
------------------ ------------------- --------------------
Percent Percent Percent
of ALL by of ALL by of ALL by
category category category
to total to total to total
loans by loans by loans by
(Dollars in thousands) Amount category Amount category Amount category
- -------------------------------------- -------- -------- -------- --------- --------- ---------
Commercial............................ $ 4,422 2.17 % $ 3,536 2.01 % $ 4,244 2.11 %
Real estate - mortgage................ 1,175 0.49 % 1,335 0.64 % 1,509 0.65 %
Real estate - land and construction... 2,843 1.73 % 1,871 1.17 % 2,084 1.22 %
Consumer.............................. 159 2.10 % 136 1.95 % 158 1.93 %
Unallocated........................... 2,074 -- % 1,515 -- % 1,656 -- %
-------- -------- ---------
Total ........................... $ 10,673 1.73 % $ 8,393 1.52 % $ 9,651 1.58 %
======== ======== =========
The increase in the allowance for loan losses reflects the growth in the Company's commercial and real estate mortgage loan portfolio and the increase in the level of unallocated reserves reflects the Company's assessment of the increased inherent credit risk resulting from the current economic environment, particularly in the Company's primary market area and lending focus, the effects related to the terrorist attack of September 11, 2001, and the uncertainty related to the California energy situation.
Deposits
Deposits totaled $801,838,000 at September 30, 2001, an increase of 9%,compared to deposits of $738,186,000 at December 31, 2000 and an increase of 5% compared to $763,804,000 at September 30, 2000. Compared to December 31, 2000, noninterest bearing demand deposits increased $7,999,000 or 4%, interest bearing demand deposits increased $3,647,000 or 5%, savings and money market deposits increased $5,811,000 or 3%, time deposits increased $15,744,000 or 7% and brokered deposits increased $30,451,000 or 329%.
The following table summarizes the distribution of average deposits and the average rates paid for the periods indicated:
Nine Months Ended Year Ended
September 30, 2001 December 31, 2000
-------------------- --------------------
Average Average
Average Rate Average Rate
(Dollars in thousands) Balance Paid Balance Paid
- ------------------------------------- ---------- -------- ---------- --------
Demand, noninterest bearing.......... $ 204,507 -- % $ 183,422 -- %
Demand, interest bearing............. 67,394 1.77 % 55,616 1.82 %
Saving and money market.............. 223,788 3.39 % 228,336 4.16 %
Time deposits, under $100,000........ 79,199 5.63 % 73,058 5.85 %
Time deposits, $100,000 and over..... 166,997 5.49 % 151,275 5.75 %
Brokered deposits.................... 23,424 5.92 % 10,544 6.55 %
---------- ----------
Total average deposits.......... $ 765,309 3.11 % $ 702,251 3.44 %
========== ==========
Deposit Concentration and Deposit Volatility
The following table indicates the maturity schedule of the Company's time deposits of $100,000 or more as of September 30, 2001.
% of
(Dollars in thousands) Balance Total
- ----------------------------------------------------------- ---------- --------
Three months or less....................................... 85,737 41 %
Over three months through twelve months.................... 99,622 48 %
Over twelve months......................................... 22,512 11 %
---------- --------
Total............................................... 207,871 100 %
========== ========
The Company focuses primarily on servicing business accounts that are frequently over $100,000 in average size. Certain types of accounts that the Company makes available are typically in excess of $100,000 in average balance per account, and certain types of business clients whom the Company serves typically carry deposits in excess of $100,000 on average. The account activity for some account types and client types necessitates appropriate liquidity management practices by the Company to ensure its ability to fund deposit withdrawals.
Return on Equity and Assets
The following table indicates the ratios on the return on average equity and average assets for each indicated period.
| At and for the three months ended | At and for the nine months ended |
| September 30, 2001 | September 30, 2000 | September 30, 2001 | September 30, 2000 |
Return on assets | 0.82% | 1.03% | 0.91% | 0.91% |
Return on equity | 10.03% | 13.81% | 11.28% | 11.63% |
Equity to asset ratio | 8.16% | 7.48% | 8.04% | 7.85% |
Annualized return on average assets and return on average equity for the quarter ended September 30, 2001 were 0.82% and 10.03%, respectively, compared with returns of 1.03% and 13.81%, respectively, for the same period in 2000. The equity to asset ratio for the quarter ended September 30, 2001 was 8.16%, compared to 7.48% for the same period in 2000. Annualized return on average assets and return on average equity for the nine months ended September 30, 2001 were 0.91% and 11.28%, respectively, compared with returns of 0.91% and 11.63%, respectively, for the same period in 2000. The equity to asset ratio for the nine months ended September 30, 2001 was 8.04%, compared to 7.85% for the same period in 2000.
Interest Rate Risk
The planning of asset and liability maturities is an integral part of the management of an institution's net yield. To the extent maturities of assets and liabilities do not match in a changing interest rate environment, net yields may change over time. Even with perfectly matched repricing of assets and liabilities, risks remain in the form of prepayment of loans or investments or in the form of delays in the adjustment of rates of interest applying to either earning assets with floating rates or to interest bearing liabilities. The Company has generally been able to control its exposure to changing interest rates by maintaining primarily floating interest rate loans and a majority of its time certificates with relatively short maturities
The following table sets forth the interest rate sensitivity of the Company's interest-earning assets and interest-bearing liabilities at September 30, 2001, using the rate sensitivity gap ratio. For purposes of the following table, an asset or liability is considered rate-sensitive within a specified period when it can be repriced or when it is scheduled to mature within the specified time frame:
Due in Due After
Within Three to One to Due After Not
Three Twelve Five Five Rate-
(Dollars in thousands) Months Months Years Years Sensitive Total
- ---------------------------------------------- --------- --------- --------- --------- --------- ---------
Interest earning assets:
Federal funds sold.......................... $ 84,600 $ -- $ -- $ -- $ -- $ 84,600
Interest bearing deposits in banks.......... 6,156 -- -- -- -- 6,156
Securities.................................. 2,457 6,354 51,158 35,802 -- 95,771
Total loans................................. 487,625 56,207 94,464 13,581 -- 651,877
--------- --------- --------- --------- --------- ---------
Total interest earning assets............. 580,838 62,561 145,622 49,383 -- 838,404
--------- --------- --------- --------- --------- ---------
Cash and due from banks....................... -- -- -- -- 34,803 34,803
Other assets.................................. -- -- -- -- 36,293 36,293
--------- --------- --------- --------- --------- ---------
Total assets.............................. $ 580,838 $ 62,561 $ 145,622 $ 49,383 $ 71,096 $ 909,500
========= ========= ========= ========= ========= =========
Interest bearing liabilities:
Demand, interest bearing.................... $ 72,234 $ -- $ -- $ -- $ -- $ 72,234
Savings and money market.................... 225,110 -- -- -- -- 225,110
Time deposits............................... 115,001 145,988 27,621 -- -- 288,610
Mandatorily Redeemable Cumulative
Trust Preferred Securities................ -- -- -- 19,000 -- 19,000
--------- --------- --------- --------- --------- ---------
Total interest bearing liabilities........ 412,345 145,988 27,621 19,000 -- 604,954
--------- --------- --------- --------- --------- ---------
Noninterest demand deposits................... 75,204 -- -- -- 140,680 215,884
Other liabilities............................. -- -- -- -- 15,135 15,135
Shareholders' equity.......................... -- -- -- -- 73,527 73,527
--------- --------- --------- --------- --------- ---------
Total liabilities and shareholders' equity $ 487,549 $ 145,988 $ 27,621 $ 19,000 $ 229,342 $ 909,500
========= ========= ========= ========= ========= =========
Interest rate sensitivity GAP................. $ 93,289 $ (83,427) $ 118,001 $ 30,383 $(158,246) $ --
========= ========= ========= ========= ========= =========
Cumulative interest rate sensitivity GAP...... $ 93,289 $ 9,862 $ 127,863 $ 158,246 $ -- $ --
Cumulative interest rate sensitivity GAP ratio 10.26 % 1.08 % 14.06 % 17.40 % -- % -- %
The foregoing table demonstrates that the Company had a positive cumulative one year gap of $9,862,000, or 1.08% of total assets, at September 30, 2001. In theory, this would indicate that $9,862,000 more in assets than liabilities would reprice if there was a change in interest rates over the next year. If interest rates were to increase, the positive gap would tend to result in a higher net interest margin. However, changes in the mix of earning assets or supporting liabilities can either increase or decrease the net margin without affecting interest rate sensitivity. This characteristic is referred to as a basis risk and, generally, relates to the repricing characteristics of certain short-term funding sources.
Interest rate changes do not affect all categories of assets and liabilities equally or at the same time. Varying interest rate environments can create unexpected changes in prepayment levels of assets and liabilities, which may have a significant effect on the net interest margin and are not reflected in the interest sensitivity analysis table. Because of these factors, an interest sensitivity gap report may not provide a complete assessment of the exposure to changes in interest rates. To supplement traditional GAP analysis, the Company performs simulation modeling to estimate the potential effects of changing interest rate environments. The process allows the Company to explore the complex relationships within the GAP over time and various interest rate environments.
Liquidity risk represents the potential for loss as a result of limitations on the Company's ability to adjust for future cash flows, to meet the needs of depositors and borrowers, and to fund operations on a timely and cost-effective basis. The liquidity policy approved by the board requires annual review of the Company's liquidity by the asset/liability committee, which is composed of senior executives, and the finance and investment committee of the board of directors.
The Company's internal asset/liability committee and the finance and investment committee of the board each meet monthly to monitor the Company's investments, liquidity needs and to oversee its asset/liability management. The Company evaluates the rates offered on its deposit products on a weekly basis.
Liquidity and Liability Management
To meet liquidity needs, the Company maintains a portion of its funds in cash deposits in other banks, in Federal funds sold, and in investment securities. At September 30, 2001, the Company's primary liquidity ratio was21.23%, comprised of $50,300,000 in investment securities available-for-sale with maturities (or probable calls) of up to five years,less $7,200,000 of securities that were pledged to secure public and certain other deposits as required by law and contract;Federal funds sold of $84,600,000, and $41,000,000 in cash and due from banks, as a percentage of total unsecured deposits of $794,700,000.
Capital Resources
The following table summarizes risk-based capital, risk-weighted assets, and risk-based capital ratios of the Company
September 30,
---------------------- December 31,
(Dollars in thousands) 2001 2000 2000
- --------------------------------- ---------- ---------- ----------
Capital components:
Tier 1 Capital................ $ 90,377 $ 78,501 $ 78,982
Tier 2 Capital................ 9,304 8,316 9,427
---------- ---------- ----------
Total risk-based capital.... $ 99,681 $ 86,817 $ 88,409
========== ========== ==========
Risk-weighted assets............. $ 744,699 $ 692,391 $ 753,947
Average assets................... $ 882,975 $ 836,791 $ 850,072
Minimum
Regulatory
Requirements
-----------
Capital ratios:
Total risk-based capital....... 13.4 % 12.6 % 11.7 % 8.0 %
Tier 1 risk-based capital...... 12.1 % 11.3 % 10.5 % 4.0 %
Leverage ratio (1)............. 10.3 % 9.4 % 9.3 % 4.0 %
(1) Tier 1 capital divided by quarterly average assets (excluding goodwill).
Item 3. Quantitative and qualitative disclosures about market risk
No material changes have occurred during the quarter to the Company's market risk profile or information. For further information refer to the Company's annual report on Form 10-K.
Part II - Other Information
Item 1. -Legal Proceedings
To the best of the Company's knowledge, there are no pending legal proceedings to which the Company is a party, which may have a materially adverse effect on the Company's financial condition, results of operations, or cash flows.
Item 6. -Exhibits and Reports on Form 8-K
- Exhibits included with this filing:
Exhibit Number | Name |
3.2 | Heritage Commerce Corp By-laws as amended to September 27, 2001 |
- Reports on Form 8-K
On September 28, 2001, the Company filed to SEC on Form 8-K to report the Company to purchase Company's common stock for employee stock program.
On October 23, 2001, the Company filed its earnings press release for the third quarter ended September 30, 2001 with the SEC on Form 8-K.
Signatures
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
| | | Heritage Commerce Corp |
| | | (Registrant) |
November 14, 2001 | | /s/ Brad L. Smith |
Date | | Brad L. Smith, Chairman of the Board and CEO |
| | | |
November 14, 2001 | | /s/ Lawrence D. McGovern |
Date | | Lawrence D. McGovern, Chief Financial Officer |
