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Heritage Financial Announces First Quarter 2017 Results And Declares Regular Cash Dividend

Zeitungsständer (Symbolbild). © AdrianHancu / iStock Editorial / Getty Images Plus / Getty Images

PR Newswire

OLYMPIA, Wash., April 26, 2017

OLYMPIA, Wash., April 26, 2017 /PRNewswire/ -- Heritage Financial Corporation (NASDAQ GS: HFWA) (the "Company" or "Heritage") today reported that the Company had net income of $9.3 million for the quarter ended March 31, 2017 compared to net income of $9.1 million for the quarter ended March 31, 2016 and $9.9 million for the linked-quarter ended December 31, 2016. Diluted earnings per common share for the quarter ended March 31, 2017 was $0.31 compared to $0.30 for the quarter ended March 31, 2016 and $0.33 for the linked-quarter ended December 31, 2016.

Brian L. Vance, President and CEO, commented, "We are pleased with our overall financial performance for the first quarter of 2017. Our loan growth for the first quarter was modest; however, the first quarter growth historically tends to be softer due to cyclical patterns. It is important to note that as of March 31, 2017 our year over year loan growth was 8.3%. Additionally, we are encouraged with a building pipeline that will help support our loan growth for 2017.

We are pleased to announce an increase to our regular quarterly dividend to $0.13 from $0.12 in prior quarters. This represents the 4th consecutive year of annual increases to our regular dividend."

Balance Sheet

The Company's total assets increased $6.6 million, or 0.2%, to $3.89 billion at March 31, 2017 from $3.88 billion at December 31, 2016.

Loans receivable, net of allowance for loan losses, increased $22.4 million, or 0.9%, to $2.63 billion at March 31, 2017 from $2.61 billion at December 31, 2016. The growth in loans receivable was due primarily to increases in real estate construction and land development loans of $18.7 million and in owner occupied commercial real estate loans of $11.3 million, offset partially by decreases in non-owner occupied commercial real estate loans of $6.7 million during the quarter ended March 31, 2017.

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Investment securities available for sale decreased $11.6 million, or 1.5%, to $783.0 million at March 31, 2017 from $794.6 million at December 31, 2016. The decrease was due primarily to maturities, calls, and payments of investment securities of $20.1 million offset partially by purchases of investment securities of $7.9 million and net unrealized gains on investment securities of $2.3 million as a result of increases in market values during the quarter ended March 31, 2017. There were no sales of investment securities during the quarter ended March 31, 2017.

Total deposits increased $13.8 million, or 0.4%, to $3.24 billion at March 31, 2017 from $3.23 billion at December 31, 2016. Non-maturity deposits as a percentage of total deposits increased to 89.4% at March 31, 2017 from 88.9% at December 31, 2016. The increase in this ratio was due primarily to an increase in non-maturity deposits of $27.1 million, or 0.9%, to $2.90 billion at March 31, 2017 from $2.87 billion at December 31, 2016. The increase in non-maturity deposits was primarily due to an increase in NOW accounts of $25.9 million, or 2.7%, to $989.7 million at March 31, 2017 from $963.8 million at December 31, 2016. The increase in the ratio of non-maturity deposits as a percentage of total deposits was also a result of a decrease in certificates of deposit of $13.3 million, or 3.7%, to $344.1 million at March 31, 2017 from $357.4 million at December 31, 2016.

Federal Home Loan Bank advances decreased $12.9 million, or 16.1%, to $66.8 million at March 31, 2017 compared to $79.6 million at December 31, 2016.

Total stockholders' equity increased $7.4 million, or 1.5%, to $489.2 million at March 31, 2017 from $481.8 million at December 31, 2016. The increase was primarily due to net income of $9.3 million and a $1.5 million decrease in accumulated other comprehensive loss offset partially by cash dividends declared of $3.6 million. The Company and Heritage Bank continue to maintain capital levels significantly in excess of the applicable regulatory requirements for them to be categorized as "well-capitalized". The Company had common equity Tier 1 risk-based, Tier 1 leverage, Tier 1 risk-based and total risk-based capital ratios of 11.6%, 10.3%, 12.2%, and 13.2%, respectively at March 31, 2017, compared to 11.4%, 10.3%, 12.0%, and 13.0%, respectively, at December 31, 2016, and 11.9%, 10.5%, 12.6% and 13.6%, respectively, at March 31, 2016.

Credit Quality

The allowance for loan losses increased $511,000, or 1.6%, to $31.6 million for the quarter ended March 31, 2017 from $31.1 million for the linked-quarter ended December 31, 2016. The increase was due to a provision for loan losses of $867,000 during the quarter ended March 31, 2017 partially offset by net charge-offs of $356,000 recognized during the same period.

Nonperforming loans to loans receivable, net, remained constant at 0.41% at both March 31, 2017 and December 31, 2016 and decreased from 0.50% at March 31, 2016. Nonaccrual loans decreased $32,000, or 0.3%, to $10.9 million ($1.7 million guaranteed by government agencies) at March 31, 2017 from $10.9 million ($2.8 million guaranteed by government agencies) at December 31, 2016. The decrease from the linked-quarter was due primarily to net principal reductions of $1.9 million and charge-offs of $157,000, offset partially by new additions to nonaccrual loans of $2.0 million.

The allowance for loan losses to nonperforming loans was 290.47% at March 31, 2017 compared to 284.93% at December 31, 2016 and 240.14% at March 31, 2016.

Potential problem loans were $82.8 million at March 31, 2017 compared to $87.8 million at December 31, 2016 and $94.8 million at March 31, 2016. The $4.9 million, or 5.6%, decrease from the linked-quarter was primarily due to loans transferred to held for sale status of $5.8 million, net loan payments of $4.4 million, loans transferred to impaired status of $2.8 million, loan grade improvements of $824,000 and charge-offs of $355,000, offset partially by additions of loans graded as potential problem loans of $9.3 million during the quarter ended March 31, 2017.

The allowance for loan losses to loans receivable, net was 1.19% at March 31, 2017 compared to 1.18% at December 31, 2016 and 1.21% at March 31, 2016. The Company believes that its allowance for loan losses is appropriate to provide for probable incurred credit losses based on an evaluation of known and inherent risks in the loan portfolio at March 31, 2017. Included in the carrying value of loans are net discounts on loans purchased in mergers and acquisitions which may reduce the need for an allowance for loan losses on these loans because they are carried at an amount below the outstanding principal balance. The remaining net discounts on these purchased loans was $12.6 million at March 31, 2017 compared to $13.5 million at December 31, 2016 and $18.6 million at March 31, 2016.

Net charge-offs were $356,000 for the quarter ended March 31, 2017 compared to $1.2 million for the same quarter in 2016 and $305,000 for the linked-quarter ended December 31, 2016. The net charge-offs for the quarter ended March 31, 2017 were due primarily to small charge-off balances on a large volume of consumer loans in addition to a full charge-off of $241,000 on a commercial and industrial loan that became delinquent during the quarter offset partially by a $149,000 recovery on a commercial and industrial loan charged-off in 2016.

Nonperforming assets remained constant at $11.7 million, or 0.30% of total assets, at both March 31, 2017 and December 31, 2016 ($1.7 million and $2.8 million guaranteed by government agencies, respectively) reflecting a slight increase in other real estate owned, offset by a slight decrease in nonperforming loans discussed above. The Bank had $786,000 of other real estate owned at March 31, 2017 compared to $754,000 of other real estate owned at December 31, 2016 as a result of the addition of one property in the amount of $32,000 during the quarter ended March 31, 2017.

Operating Results

Net interest income increased $386,000, or 1.2%, to $33.1 million for the quarter ended March 31, 2017 compared to $32.8 million for the same period in 2016 and increased $91,000, or 0.3%, from $33.1 million for the linked-quarter ended December 31, 2016. The increase in net interest income from the same period in 2016 was primarily due to an increase in average interest earning assets, partially offset by a decrease in the yield on average interest earning assets. The increase in net interest income from the linked-quarter ended December 31, 2016 was due to an increase in average interest earning assets and an increase in the yield on average interest earning assets, partially offset by two fewer days in the quarter ended March 31, 2017 compared to the quarter ended December 31, 2016 and an increase in the cost of interest bearing liabilities.

Heritage's net interest margin for the quarter ended March 31, 2017 decreased 15 basis points to 3.89% from 4.04% for the same period in 2016 and increased 4 basis points from 3.85% for the linked-quarter ended December 31, 2016. The decrease in net interest margin from the quarter ended March 31, 2016 was due primarily to a decrease on loan yields, excluding incremental accretion on purchased loans, and a decrease in incremental accretion on purchased loans of $609,000, or 34.2%, to $1.2 million for the quarter ended March 31, 2017 compared to $1.8 million for the same period in 2016. The increase in net interest margin from the quarter ended December 31, 2016 was due to an increase in loan yields, excluding incremental accretion on purchased loans, partially offset by a decrease in incremental accretion on purchased loans of $316,000, or 21.3%, to $1.2 million for the quarter ended March 31, 2017 compared to $1.5 million for the quarter ended December 31, 2016 and an increase in the cost of interest bearing liabilities. The impact on net interest margin from incremental accretion on purchased loans is included in the table below. The incremental accretion is highly dependent on purchased loan prepayments during the period.

The following table presents the net interest margin, loan yield and the effect of the incremental accretion on purchased loans on these ratios for the periods presented below:

	Three Months Ended
	March 31, 2017			December 31, 2016			March 31, 2016
	(Dollars in thousands)
Net interest margin, excluding incremental accretion on purchased loans ⁽¹⁾	3.75		%	3.68		%	3.82		%
Impact on net interest margin from incremental accretion on purchased loans ⁽¹⁾	0.14		%	0.17		%	0.22		%
Net interest margin	3.89		%	3.85		%	4.04		%

Loan yield, excluding incremental accretion on purchased loans⁽¹⁾	4.52		%	4.49		%	4.77		%
Impact on loan yield from incremental accretion on purchased loans ⁽¹⁾	0.18		%	0.23		%	0.30		%
Loan yield	4.70		%	4.72		%	5.07		%

Incremental accretion on purchased loans ⁽¹⁾	$	1,170		$	1,486		$	1,779

⁽¹⁾

As of the dates of the completion of each of the merger and acquisition transactions, purchased loans were recorded at their estimated fair value, including our estimate of future expected cash flows until the ultimate resolution of these credits. The difference between the contractual loan balance and the fair value represents the purchased discount. The purchased discount is accreted into income over the estimated remaining life of the loan or pool of loans, based upon results of the quarterly cash flow re-estimation. The incremental accretion income represents the amount of income recorded on the purchased loans in excess of the contractual stated interest rate in the individual loan notes.

The net interest margin, excluding incremental accretion on purchased loans, decreased seven basis points to 3.75% for the quarter ended March 31, 2017 compared to 3.82% for the same period in 2016 and increased seven basis points from 3.68% for the linked-quarter ended December 31, 2016. The net interest margin, excluding incremental accretion on purchased loans, has been impacted by a declining trend in contractual loan note rates compared to the quarter ended March 31, 2016 and an increase in contractual loan note rates compared to the quarter ended December 31, 2016. Yields on loans, excluding incremental accretion on purchased loans, were 4.52% for the quarter ended March 31, 2017 compared to 4.77% for the same period in 2016 and 4.49% for the linked-quarter ended December 31, 2016.

Also impacting net interest margin, excluding incremental accretion on purchased loans, are increases in the yields on investment securities from the 2016 periods as well as increases in the percentage of average loans receivable to total average interest earning assets. The yield on the aggregate investment portfolio increased to 2.22% for the quarter ended March 31, 2017 from 1.96% for the quarter ended December 31, 2016 and 1.97% for the quarter ended March 31, 2016. The percentage of average loans receivable to total average interest earning assets has increased to 76.2% for the quarter ended March 31, 2017 from 75.3% for the linked-quarter ended December 31, 2016 and 73.3% for the quarter ended March 31, 2016.

Donald J. Hinson, Executive Vice President and Chief Financial Officer, commented, "We saw a nice increase in pre-incremental accretion net interest margin from the prior quarter as a result of increases in pre-incremental accretion loan yields and in yields on the investment portfolio. This was primarily due to a combination of new loans being originated at higher rates than previous quarters and the repricing of floating rate loans and investments to higher yields due to the upward trending rate environment. In addition, we continue to increase the percentage of loans to interest earning assets which improves overall yield on interest earning assets."

The provision for loan losses was $867,000 for the quarter ended March 31, 2017 compared to $1.1 million for the quarter ended March 31, 2016 and $1.2 million for the linked-quarter ended December 31, 2016. The amount of provision for loan losses was necessary to increase the allowance for loan losses to an amount that management determined to be appropriate based on the use of a consistent methodology. The increase in the allowance for loan losses was necessary primarily as a result of loan growth.

Noninterest income increased $359,000, or 5.1%, to $7.3 million for the quarter ended March 31, 2017 compared to $7.0 million for the same period in 2016 and decreased $837,000, or 10.2%, from $8.2 million for the linked-quarter ended December 31, 2016. The increase from the same quarter in 2016 was due primarily to increases in service charges and other fees and gain on sale of loans partially offset by a decrease in gain on sale of investments. The decrease from the linked-quarter was due primarily to decreases in interest rate swap fees and gains on sale of loans and investments, partially offset by an increase in service charges and other fees.

Noninterest expense increased $854,000, or 3.2%, to $27.2 million for the quarter ended March 31, 2017 compared to $26.4 million for the same period in 2016 and increased $414,000, or 1.5%, from $26.8 million for the linked-quarter ended December 31, 2016. The increase from the same period in 2016 was primarily due to compensation and employee benefits expense, partially offset by lower expenses from other real estate owned, net. The increase from the linked-quarter ended December 31, 2016 was due primarily to increases in compensation and employee benefits and marketing expense. The ratio of noninterest expense to average assets (annualized) was 2.85% for the quarter ended March 31, 2017 compared to 2.91% for the same period in 2016 and 2.78% for the linked-quarter ended December 31, 2016.

Income tax expense was $3.1 million for the quarter ended March 31, 2017 compared to $3.2 million for the comparable quarter in 2016 and $3.4 million for the linked-quarter ended December 31, 2016. The effective tax rate was 24.9% for the quarter ended March 31, 2017 compared to 25.7% for the comparable quarter in 2016 and 25.4% for the linked-quarter ended December 31, 2016. The decrease in the effective tax rate from the prior periods was due primarily to the implementation of ASU 2016-09 whereby we recorded an excess tax benefit of $138,000 in our current quarter income tax provision expense.

Dividends

On April 25, 2017, the Company's Board of Directors declared a quarterly cash dividend of $0.13 per common share. The dividend is payable on May 24, 2017 to shareholders of record as of the close of business on May 10, 2017.

Earnings Conference Call

The Company will hold a telephone conference call to discuss this earnings release on April 26, 2017 at 10:00 a.m. Pacific time. To access the call, please dial (800) 230-1085 a few minutes prior to 11:00 a.m. Pacific time. The call will be available for replay through May 10, 2017, by dialing (800) 475-6701 -- access code 421543.

About Heritage Financial

Heritage Financial Corporation is an Olympia-based bank holding company with Heritage Bank, a full-service commercial bank, as its sole wholly-owned banking subsidiary. Heritage Bank has a branching network of 63 banking offices in Washington and Oregon. Heritage Bank does business under the Central Valley Bank name in the Yakima and Kittitas counties of Washington and under the Whidbey Island Bank name on Whidbey Island. Heritage's stock is traded on the NASDAQ Global Select Market under the symbol "HFWA". More information about Heritage Financial Corporation can be found on its website at www.hf-wa.com and more information about Heritage Bank can be found on its website at www.heritagebanknw.com.

Non-GAAP Financial Measures

This news release contains certain non-GAAP (Generally Accepted Accounting Principles) financial measures in addition to results presented in accordance with GAAP. These measures include tangible common stockholders' equity, tangible book value per share and tangible common stockholders' equity to tangible assets. Tangible common stockholders' equity (tangible book value) excludes goodwill and other intangible assets. Tangible assets exclude goodwill and other intangible assets. Management has presented these non-GAAP financial measures in this earnings release because it believes that they provide useful and comparative information to assess trends in the Company's capital reflected in the current quarter and year-to-date results and facilitate comparison of our performance with the performance of our peers. Where applicable, the Company has also presented comparable earnings information using GAAP financial measures. Reconciliations of the GAAP and non-GAAP financial measures are presented below.

March 31, 2017

December 31, 2016

(In thousands)

Stockholders' equity

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