FORM 10-Q.--QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
[X] Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange
Act of 1934
For the quarterly period ended March 31, 1998
or
[ ] Transition Report Pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
For the transitional period from _________ to __________
(Amended by Exch Act Rel No. 312905. eff 4/26/93.)
Commission File No. 000-23877
HERITAGE COMMERCE CORP
(Exact name of registrant as specified in its charter)
California 77-0469558
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) identification No.)
150 Almaden Blvd., San Jose, California 95113
(Address of principal executive offices) (Zip Code)
(408) 947-6900
(Registrant's telephone number, including area code)
None
(Former name, former address and former fiscal year, if changed since last
report.)
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 such reports), and (2) has been subject to such filing
requirements for the past 90 days. [X] Yes [ ] No
APPLICABLE ONLY TO CORPORATE ISSUERS:
The Registrant had 3,295,896 shares of Common Stock outstanding on
May 1, 1998.
HERITAGE COMMERCE CORP AND SUBSIDIARY
QUARTERLY REPORT ON FORM 10-Q
Table of Contents
Part I - Financial Information Page
Item 1. Condensed Consolidated Statements of Financial Condition
At March 31, 1998 and December 31, 1997 1
Condensed Consolidated Statements of Operations
For the three months ended March 31, 1998 and 1997 2
Condensed Consolidated Statements of Cash Flows
For the three months ended March 31, 1998 and 1997 3
Condensed Consolidated Notes to Financial Statements 4
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations 5
Item 3. Quantitative and Qualitative Disclosures About
Market Risk 11
Part II - Other Information
Item 1. Legal Proceedings 12
Item 2. Submission of Matters to a Vote of Security Holders 12
Item 3. Other Information 12
Item 4. Exhibits and Reports on Form 8-K 12
Signatures 13
HERITAGE COMMERCE CORP AND SUBSIDIARY
Condensed Consolidated Statements of Financial Condition
March 31, 1998 December 31, 1997
ASSETS (Unaudited)
Cash and due from banks $ 27,696,000 $ 16,060,000
Federal funds sold 52,200,000 27,125,000
------------- -------------
Total cash and cash equivalents 79,896,000 43,185,000
Securities available-for-sale, at fair value 69,831,000 61,166,000
Securities held-to-maturity, at amortized cost 27,757,000 26,531,000
(fair value of $28,146,000 and $26,938,000,
respectively)
Loans:
Commercial 68,913,000 64,102,000
Real estate - mortgage 39,243,000 38,279,000
Real estate - land and construction 32,496,000 25,562,000
Consumer 2,336,000 827,000
------------- -------------
Total loans 142,988,000 128,770,000
Allowance for possible loan losses (2,540,000) (2,285,000)
------------- -------------
Loans, net 140,448,000 126,485,000
Premises and equipment, net 2,655,000 1,971,000
Accrued interest receivable and other assets 3,864,000 3,764,000
Other investments 4,525,000 4,473,000
------------- -------------
TOTAL $ 328,976,000 $ 267,575,000
LIABILITIES AND SHAREHOLDERS' EQUITY
Liabilities:
Deposits:
Demand, non-interest bearing $ 127,078,000 $ 97,736,000
Demand, interest bearing 6,702,000 6,319,000
Savings and money market 115,270,000 96,713,000
Time deposits, $100,000 and over 47,087,000 34,948,000
Time deposits less than $100,000 8,028,000 7,262,000
------------- -------------
Total deposits 304,165,000 242,978,000
Accrued interest payable and other liabilities 1,986,000 2,261,000
------------- -------------
Total liabilities 306,151,000 245,239,000
------------- -------------
Shareholders' equity:
Common Stock, no par value; 30,000,000 shares
authorized; shares issued and outstanding:
3,295,896 at March 31, 1998 and at
December 31, 1997 23,447,000 23,447,000
Accumulated other comprehensive income 453,000 418,000
Accumulated deficit (1,075,000) (1,529,000)
------------- -------------
Total shareholders' equity 22,825,000 22,336,000
------------- -------------
TOTAL $ 328,976,000 $ 267,575,000
------------- -------------
See notes to financial statements.
1
HERITAGE COMMERCE CORP AND SUBSIDIARY
Condensed Consolidated Statements of Income
Three months ended March 31,
1998 1997
Interest income: (Unaudited) (Unaudited)
Interest and fees on loans $ 3,550,000 $ 2,132,000
Interest on investment securities - taxable 1,285,000 1,134,000
Interest on investment securities - non taxable 120,000 14,000
Interest on federal funds sold 217,000 114,000
------------- -------------
Total interest income 5,172,000 3,394,000
------------- -------------
Interest expense:
Savings and other interest-bearing deposits 853,000 634,000
Time certificates, $100,000 and over 489,000 268,000
------------- -------------
Total interest expense 1,342,000 902,000
------------- -------------
Net interest income 3,830,000 2,492,000
Provision for loan losses 160,000 220,000
------------- -------------
Net interest income after provision for loan losses 3,670,000 2,272,000
------------- -------------
Other income:
Service charges and other fees 50,000 46,000
Other income 29,000 28,000
------------- -------------
Total other income 79,000 74,000
------------- -------------
Other expenses:
Salaries and employee benefits 1,580,000 966,000
Client services 325,000 248,000
Furniture and equipment 171,000 114,000
Professional fees 164,000 75,000
Advertising and promotion 152,000 91,000
Occupancy 150,000 97,000
Deferred loan costs and other loan
origination expenses 82,000 64,000
Other 394,000 157,000
------------- -------------
Total other expenses 3,018,000 1,812,000
------------- -------------
Net income before income taxes 731,000 534,000
Provision for income taxes 278,000 187,000
------------- -------------
Net income $ 453,000 $ 347,000
------------- -------------
Net income per share (basic) $ 0.14 $ 0.11
Average number of common shares 3,295,896 3,287,823
Net income per share (diluted) $ 0.12 $ 0.10
Average number of common shares and equivalents 3,665,846 3,444,558
See accompanying notes to financial statements.
2
HERITAGE COMMERCE CORP AND SUBSIDIARY
Condensed Consolidated Statements of Cash Flows
Three Months ended March 31,
1998 1997
Cash flows from operating activities:
Net income $ 453,000 $ 347,000
Adjustments to reconcile net income to net
cash used in operating activities:
Depreciation and amortization 125,000 84,000
Provision for possible loan losses 160,000 220,000
Gain on sale of investments available-for-sale (18,000) (16,000)
Amortization / accretion of discounts and premiums (27,000) 68,000
Proceeds from sales of loans (18,000) (4,000)
Originations of loans held for sale (1,813,000) (1,976,000)
Maturities of loans held for sale 18,000 ---
Increase in accrued interest receivable and other assets (97,000) (106,000)
Increase in accrued interest payable and other liabilities (299,000) (164,000)
----------- -----------
Net cash used in operating activities (1,516,000) (1,547,000)
Cash flows from investing activities:
Net increase in loans (12,310,000) (5,212,000)
Purchases of investment securities available-for-sale (11,637,000) (3,019,000)
Maturities of investment securities available-for-sale 3,046,000 2,018,000
Sales of investment securities available-for-sale 18,000 4,573,000
Purchases of investment securities held-to-maturity (3,083,000) (844,000)
Maturities of investment securities held-to-maturity 1,867,000 2,013,000
Purchases of corporate owned life insurance (52,000) ---
Capital expenditures (809,000) (235,000)
----------- -----------
Net cash used in investing activities (22,960,000) (706,000)
Cash flows from financing activities:
Net increase in deposits 61,187,000 39,627,000
Proceeds from sale of securities under agreement
to repurchase --- (5,010,000)
Proceeds from issuance of common stock --- 6,000
----------- -----------
Net cash provided by financing activities 61,187,000 34,623,000
----------- -----------
Net (decrease) increase in cash and equivalents 36,711,000 32,370,000
Cash and cash equivalents, beginning of period 43,185,000 12,615,000
----------- -----------
Cash and cash equivalents, end of period $ 79,896,000 $ 44,985,000
- ----------------------------------------------------------------------------------------
Other cash flow information:
Interest paid $ 1,239,000 $ 895,000
Income taxes paid 385,000 40,000
Non-cash financing activity:
Transfer from accumulated deficit to common stock
due to stock dividend $ --- $ 1,304,000
See accompanying notes to financial statements.
3
HERITAGE COMMERCE CORP AND SUBSIDIARY
Notes to Condensed Consolidated Financial Statements
March 31, 1998
(Unaudited)
1) Basis of Presentation
The unaudited condensed consolidated financial statements of Heritage Commerce
Corp and its wholly owned subsidiary, Heritage Bank of Commerce, have been
prepared pursuant to the rules and regulations for reporting on Form 10-Q.
Accordingly, certain information and notes required by generally accepted
accounting principles 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, 1997.
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 with current year presentation.
The results for the three months ended March 31, 1998 are not necessarily
indicative of the results expected for any subsequent period or for the entire
year ended December 31, 1998.
2) Share and Per Share Amounts
Earnings per common share (basic) are calculated based on the weighted average
number of shares outstanding during the period. Earnings per common and common
equivalent share (diluted) are calculated based on the weighted average number
of shares outstanding during the period, plus equivalent shares representing the
dilutive effect of stock options. There is no difference in net income for the
purposes of calculating basic and diluted earnings per common share for each
period presented.
3) Loan Classification
The Bank classifies the guarantied portion of Small Business Administration
loans as "held for sale" according to generally accepted accounting principles,
but for the purposes of this Form 10-Q, the balances are included in the
commercial loan totals.
4) Deferred Loan Fees
Loan totals in the balance sheet above are net of deferred loan fees totalling
$133,000 and $113,000 at March 31, 1998 and December 31, 1997, respectively.
5) Comprehensive Income
In June 1997, the FASB issued SFAS No. 130, "Reporting Comprehensive Income",
which requires that an enterprise report and display, by major components and as
a single total, the change in its net assets during the period from non-owner
sources. This Statement is effective for fiscal years beginning after December
15, 1997. The adoption of this Statement in the first quarter of 1998 resulted
in a change in the financial statement presentation, but did not have an impact
on the Company's consolidated financial position, results of operations or cash
flows. Certain amounts in the prior period have been reclassified to conform to
the current presentation under SFAS No. 130. Total comprehensive income for the
quarters ended March 31, 1998 and 1997 was $488,000 and $(154,000) respectively.
4
The following is a summary of the components of accumulated other
comprehensive income.
For The Three Months Ended
March 31, 1998 March 31, 1997
(Unaudited) (Unaudited)
--------------------------------
Net Income $ 453,000 $ 347,000
Other comprehensive income, net of tax
Net unrealized holding gain (loss) on
available-for-sale securities during the quarter 46,000 (491,000)
Less: reclassification adjustment for realized gains
on available-for-sale securities included in net
income during the quarter, before tax (11,000) (10,000)
---------- ----------
Other comprehensive income 35,000 (501,000)
---------- ----------
Comprehensive income $ 488,000 $(154,000)
5
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
OVERVIEW
Net income for the quarter ended March 31, 1998 was $453,000, or $0.14 per share
(basic), as compared to net income of $347,000, or $0.11 per share (basic) for
the same period in 1997. The increase was attributable to growth in the level
of earning assets overall, and of loans in particular, funded by new deposits at
favorable weighted average rates of interest. Return on average assets
annualized for the first quarter of 1998 was 0.7%, compared to 0.8% for the
first quarter of 1997. Annualized return on average equity for the first
quarter of 1998 was 8.1%, compared to 6.9% for the first quarter of 1997.
Average interest-earning assets for the quarter ended March 31, 1998 were up
$67,348,000 or 40% over 1997, with much of the increase primarily attributable
to growth in loans. The average rate earned on loans in the first quarter of
1998 was up over 1997, and, as a result of the increase in both rate and volume
of loans, the average rate on earning assets increased to 8.71% for the quarter
ended March 31, 1998, up from 8.15% for the same period of 1997.
Average interest-bearing liabilities were up $41,558,000 or 39% from 1997 to
1998, with the increase primarily attributable to growth in savings and money
market accounts, and secondarily to growth in time deposits of $100,000 or more.
The average rate paid on interest-bearing liabilities increased to 3.65% from
3.41% at March 31, 1998 and 1997, respectively. However, due to the growth in
interest-earning assets and the improvement in yield thereon, the net interest
margin improved to 6.45% in the first quarter of 1998 from 5.97% in 1997.
The Company had no non-performing assets (including nonaccrual loans, loans 90
days past due and still accruing and other real estate owned ("OREO") at March
31, 1998, December 31, 1997, and March 31, 1997.
Shareholders' equity increased $489,000 to $22,825,000, or 6.94% of assets, at
March 31, 1998, from $22,336,000 million, or 8.35% of assets, at December 31,
1997. The increase was due primarily to net earnings. The Company's Tier 1 and
total risk-based capital ratios were 13.1% and 14.6%, respectively, at March 31,
1998, compared to 14.6% and 15.8%, respectively, at December 31, 1997, and 19.1%
and 20.4%, respectively, at March 31, 1997. The Company's leverage capital
ratio decreased to 8.4% at March 31, 1998 from 10.3% at December 31, 1997 and
11.3% at March 31, 1997. At March 31, 1998, the Company's risk-based capital
and leverage ratios exceeded the ratios for a well-capitalized financial
institution as defined in FDICIA under the prompt corrective action regulations.
The Company will seek to maintain its well capitalized position to ensure
flexibility in its operations.
6
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 for the quarterly periods presented:
For the Three Months Ended For the Three Months Ended
March 31, 1998 March 31, 1997
----------------------------------------------------------------------------------
Average Interest Average Yield Average Interest Average Yield
Balance Earned or Paid or Rate Paid Balance Earned or Paid or Rate Paid
- ------------------------------------------------------------------------------------------------------------------------
Interest-Earning Assets:
Net loans $ 131,672 $ 3,550 10.93% $ 86,993 $ 2,132 9.94%
Investments 92,872 1,405 6.14% 73,093 1,148 6.37%
Federal funds sold 16,193 217 5.43% 8,806 114 5.25%
- ------------------------------------------------------------------------------------------------------------------------
Total interest-earning assets $ 240,737 $ 5,172 8.71% $ 168,892 $ 3,394 8.15%
========================================================================================================================
Interest-Bearing Liabilities
Deposits:
Demand, interest-bearing $ 6,205 $ 29 1.89% $ 4,227 $ 20 1.92%
Savings and money market 95,640 739 3.13% 71,712 512 2.90%
Time deposits, $100,000 and over 39,523 489 5.01% 23,189 268 4.69%
Time deposits, less than $100,000 7,512 85 4.60% 8,055 100 5.03%
Other borrowings 11 <1 5.58% 150 2 5.41%
- ------------------------------------------------------------------------------------------------------------------------
Total interest-bearing liabilities $ 148,891 $ 1,342 3.65% $ 107,333 $ 902 3.41%
========================================================================================================================
Net interest income / margin $ 3,830 6.45% $ 2,492 5.97%
Note: Yields and amounts earned on loans include loan fees of $277,000 and
$137,000 for the three month periods ended March 31, 1998 and 1997,
respectively.
The Company's net interest income for the first quarter of 1998 was $3,830,000
an increase of $1,338,000 over the first quarter of 1997. When compared to the
first quarter of 1997, average earning assets increased by $67,348,000, while
the net yield on average earning assets increased from 5.97% in the first
quarter of 1997 to 6.45% in the first quarter of 1998. The increase in net
interest income was primarily due to an increase in the volume of
interest-earning assets, predominantly loans.
The following table sets forth an analysis of the changes in interest income and
interest expense. 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 between the volume and rate categories in proportion to the
relationship of the changes due solely to the changes in volume and rate,
respectively.
Three Months Ended March 31
1998 vs. 1997
------------------------------------------
Increase (Decrease) Due to Change In:
Volume Rate Net Change
- ---------------------------------------------------------------------------------------
Interest-earning assets
Net loans $ 1,187 $ 231 $ 1,418
Investments 301 (43) 257
Federal funds sold 99 4 103
- ---------------------------------------------------------------------------------------
Total interest-earning assets $ 1,587 $ 192 $ 1,778
=======================================================================================
Interest-bearing liabilities
Demand, interest-bearing $ 9 $ 0 $ 9
Savings and money market 182 45 227
Time deposits, $100,000 and over 201 20 221
Time deposits, less than $100,000 (6) (8) (15)
Other borrowings (2) --- (2)
- ---------------------------------------------------------------------------------------
Total interest-bearing liabilities $ 384 $ 56 $ 440
- ---------------------------------------------------------------------------------------
Change in net interest income $ 1,338
=======================================================================================
7
Provisions for Loan Losses
During the first quarter of 1998, the provision for loan losses was $160,000,
down $60,000 from $220,000 for the first quarter of 1997. The decrease in the
provision, in spite of overall growth in the loan portfolio, was due to the
recovery during the first quarter of 1998 of a prior period charge-off of
$95,000. The recovery was added to the allowance for loan losses.
Non-interest income
The following table sets forth the various components of the Bank's non-interest
income:
Increase (Decrease)
------------------------
Three months ended March 31, 1998 versus 1997
---------------------------------------------------------
(Dollars in thousands) 1998 1997 Amount Percent
- ---------------------------------------------------------------------------------------------
Service charges and other fees 50 46 4 9%
Gain on securities available-for-sale 18 16 2 13
Gain on sale of loans held-for sale --- 4 (4) (100)
Other income 11 8 2 30
- ---------------------------------------------------------------------------------------------
Total 79 74 5 6%
=============================================================================================
Fee income from service charges rose a modest 9% from the first quarter of 1997
to 1998. Many of the Bank's deposit accounts maintain balances higher than that
which is required to offset activity charges and, as such, are not assessed
fees.
Non-interest Expense
The following table sets forth the various components of the Bank's non-interest
expenses:
For The Three Months Ended March 31,
--------------------------------------------------
Increase Percent Increase
(Dollars in thousands) 1998 1997 (Decrease) (Decrease)
- --------------------------------------------------------------------------------------------
Salaries and benefits $ 1,580 $ 966 $ 614 64%
Client services 360 248 112 45%
Advertising and promotion 173 91 82 91%
Furniture and equipment 170 114 56 50%
Professional fees 164 75 89 118%
Occupancy 150 97 53 55%
Loan origination costs 82 64 18 28%
All other 339 157 182 114%
- --------------------------------------------------------------------------------------------
Total $ 3,018 $ 1,812 $1,206 67%
============================================================================================
Non-interest expenses for the first quarter of 1998 were $3,018,000, up
$1,206,000 (or 67%) from $1,812,000 for the first quarter of 1997. The increase
in non-interest expenses reflects the growth in infrastructure to support the
Bank's loan and deposit growth.
Non-interest expenses consist primarily of salaries and employee benefits (52%
and 53% of total non-interest expenses for the first quarter of 1998 and 1997,
respectively) and client services (12% and 14% of total non-interest expenses
for the first quarter of 1998 and 1997, respectively). The increase in salaries
and benefits expenses was primarily attributable to an increase in the number of
employees. The Bank employed 105 people at March 31, 1998, up 36 from 69
employees at March 31, 1997. Client services expenses include outside data
processing service costs, courier and armored car costs, imprinted check costs,
and other client services costs, all of which are directly related to the amount
of funds on deposit at the Bank. The increase in furniture and equipment
expenses and in occupancy expenses was primarily attributable to an increase in
the number of employees. Advertising expenses increased due to the Bank's
co-sponsorship of a professional auto racing team.
8
FINANCIAL CONDITION
Total assets increased 23% to $328,976,000 at March 31, 1998, compared to
$267,575,000 at December 31, 1997. The growth was primarily due to increases in
the Company's loan portfolio funded by growth in deposits.
Loans
Total gross loans increased 11% to $142,988,000 March 31, 1998, as compared to
$128,770,000 at December 31, 1997. The increase in loan volume was due to the
business development efforts of the Company's loan teams.
The Company's loan portfolio is concentrated in commercial (primarily
manufacturing, wholesale, and service) and real estate lending, with the balance
in consumer loans. While no specific industry concentration is considered
significant, the Company's lending operations are located in the Company's
market areas that are dependent on the technology and real estate industries
and their supporting companies. 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.
Allowance for loan losses
The following table summarizes the Bank's loan loss experience as well as
transactions in the allowance for loan losses and certain pertinent ratios for
the periods indicated:
Year ended
Three months ended March 31, December 31,
(Dollars in thousands) 1998 1997 1997
- --------------------------------------------------------------------------------------
Balance, beginning of period $ 2,285 $ 1,402 $ 1,402
Charge-offs - Commercial loans --- --- (224)
Recoveries - Commercial loans 95 --- 47
---------- ---------- -------------
Net charged-offs 95 --- (177)
---------- ---------- -------------
Provision for loan losses 160 220 1,060
- --------------------------------------------------------------------------------------
Balance, end of period $ 2,540 $ 1,622 $ 2,285
Ratios:
Net charge-offs to average loans
outstanding (0.07)% 0.00% 0.18%
Allowance for loan losses to
average loans 1.93 1.86 2.31
Allowance for loan losses to total
loans at end of period 1.78 1.80 1.77
The following table summarizes the allocation of the allowance for loan losses
by loan type and the allocated allowance as a percent of loans outstanding in
each loan category at the dates indicated:
March 31, December 31,
------------------------------------------------------------------------------------
1998 1997 1997
------------------------------------------------------------------------------------
Allowance as a Allowance as a Allowance as a
% of Loans % of Loans % of Loans
Outstanding in Outstanding in Outstanding in
(Dollars in thousands) Allowance Category Allowance Category Allowance Category
- ---------------------------------------------------------------------------------------------------------------------
Commercial $ 1,091 1.58% $ 449 0.99% $ 821 1.29%
Real estate - mortgage 172 0.44 204 0.63 205 0.53
Real estate - land and
construction 439 1.35 197 1.69 379 1.47
Consumer 23 0.98 5 1.00 7 0.85
Unallocated 815 --- 767 --- 873 ---
- ---------------------------------------------------------------------------------------------------------------------
Total $ 2,540 1.78% $ 1,622 1.80% $ 2,285 1.77%
=====================================================================================================================
The Bank maintains an allowance for loan losses to provide for estimated losses
in the loan portfolio. Additions to the allowance are made by charges to
operating expenses in the form of a provision for loan losses. All loans that
are judged to be uncollectable are charged against the allowance and any
recoveries are credited to the allowance. 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
9
may affect the borrower's ability to repay, the estimated value of any
underlying collateral, and current economic conditions.
Deposits
Deposits totalled $304,165,000 at March 31, 1998, an increase of 25%, as
compared to total deposits of $242,978,000 at December 31, 1997. The increase
in deposits was due to the Company's continued marketing efforts directed at
commercial business clients. Non-interest-bearing deposits were $127,078,000 at
March 31, 1998, an increase of 30% as compared to $97,736,000 at December 31,
1997. Interest-bearing deposits were $177,087,000 at March 31, 1998, an
increase of 22% as compared to $145,242,000 at December 31, 1997.
Interest Rate Risk
The careful planning of asset and liability maturities and the matching of
interest rates to correspond with this maturity matching is an integral part of
the active 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 Bank 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 in relatively short maturities
The following table sets forth the interest rate sensitivity of the Company's
interest-earning assets and interest-bearing liabilities as of March 31, 1998,
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:
Within Due in Three Due After
Three to Twelve One to Five Due After Not-Rate
(Dollars in thousands) Months Months Years Five Years Sensitive Total
- ------------------------------------------------------------------------------------------------------------
Interest earning assets:
Federal funds sold $ 52,200 $ --- $ --- $ --- $ 52,200
Securities 5,515 8,602 51,352 32,119 97,588
Total loans 110,934 10,625 14,718 6,711 142,988
Other assets --- 4,525 --- --- 4,525
- ------------------------------------------------------------------------------------------------------------
Total interest earning assets 168,649 23,752 66,070 38,830 297,301
- ------------------------------------------------------------------------------------------------------------
Cash and due from banks $ 27,696 27,696
Other assets 3,979 3,979
- ------------------------------------------------------------------------------------------------------------
Total assets $ 168,649 $ 23,752 $ 66,070 $ 38,830 $ 31,675 $ 328,976
============================================================================================================
Interest bearing liabilities:
Demand, interest-bearing $ 6,702 $ --- $ --- $ --- $ 6,702
Savings and money market 115,269 --- --- --- 115,269
Time deposits 39,019 14,024 2,072 --- 55,115
- ------------------------------------------------------------------------------------------------------------
Total interest bearing liabilities 160,990 14,024 2,072 --- 177,086
- ------------------------------------------------------------------------------------------------------------
Non-interest demand deposits $ 127,079 127,079
Other liabilities 1,986 1,986
Shareholders' equity 22,825 22,825
- ------------------------------------------------------------------------------------------------------------
Total liabilities and
shareholders' equity $ 160,990 $ 14,024 $ 2,072 $ --- $ 151,890 $ 328,976
============================================================================================================
Interest rate sensitivity gap $ 7,659 $ 9,728 $ 63,998 $ 38,830 $ (120,215) ---
============================================================================================================
Cumulative interest rate
sensitivity gap $ 7,659 $ 17,387 $ 81,385 $ 120,215 --- ---
Cumulative interest rate
sensitivity gap ratio 2.33% 5.29% 24.74% 36.54%
The foregoing table demonstrates that the Company had a positive cumulative one
year gap of $17.4 million, or 5.29% of total assets, at March 31, 1998. In
theory, this would indicate that $17.4 million 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. In addition, the interest rate spread
between an asset and its supporting liability can vary significantly while the
10
timing of repricing of both the asset and its supporting liability can remain
the same, thus impacting net interest income. This characteristic is referred
to as a basis risk and, generally, relates to the repricing characteristics of
short-term funding sources such as certificates of deposit.
Varying interest rate environments can create unexpected changes in prepayment
levels of assets and liabilities which are not reflected in the interest
sensitivity analysis table. These prepayments may have significant effects on
the Company's net interest margin. Because of these factors, an interest
sensitivity gap report may not provide a complete assessment of the Company's
exposure to changes in interest rates.
Capital Resources
The following table summarizes risk-based capital, risk-weighted assets, and
risk-based capital ratios of the Company:
March 31, December 31, Minimum
------------------------------------- Regulatory
(Dollars in thousands) 1998 1997 1997 Requirements
- --------------------------------------------------------------------------------------------
Capital components:
Tier 1 Capital $ 22,354 $ 20,629 $ 21,899
Tier 2 Capital 2,540 1,350 1,885
- --------------------------------------------------------------------------------------------
Total risk-based capital $ 24,894 $ 21,979 $ 23,784
============================================================================================
Risk-weighted assets 170,353 107,728 150,418
Average assets 265,791 181,841 251,767
Capital ratios:
Total risk-based capital 14.6% 20.4% 15.8% 8.0%
Tier 1 risk-based capital 13.1 19.1 14.6 4.0
Leverage ratio (1) 8.4 11.3 10.3 4.0
(1) Tier 1 capital divided by average assets (excluding goodwill).
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
No material changes have occurred in the Company's market risk profile or
information since the Company's fiscal year ended December 31, 1997. For
further information refer to the Company's annual report on Form 10-K.
11
Part II - Other Information
Item 1. - Legal Proceedings
To the best of the Bank's knowledge, there are no pending legal proceedings to
which the Bank is a party which may have a materially adverse effect on the
Bank's financial condition, results of operations, or cash flows.
Item 2. - Changes in Securities and Use of Proceeds
Not Applicable
Item 3. - Defaults Upon Senior Securities
Not Applicable
Item 4. - Submission of Matters to a Vote of Security Holders
Not Applicable
Item 5. - Other Information
Not Applicable
Item 6. - Exhibits and Reports on Form 8-K
(a) Exhibits included with this filing:
27 Financial Data Schedule
(b) Reports on Form 8-K
On May 6, 1998, the Registrant filed Form 8-K with the SEC to report a dividend
payment by Heritage Bank of Commerce.
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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)
May 14, 1998 /s/ John E. Rossell
- ------------ -------------------------
Date John E. Rossell, III,
President and CEO
May 14, 1998 /s/ Daniel A. Northway
- ------------ -------------------------
Date Daniel A. Northway,
Chief Financial Officer
13