<PAGE>
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
[X] SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2000
OR
TRANSITION REPORT PURSUANT TO SECTION 13 OR
[_] 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
Commission File Number 0-29480
HERITAGE FINANCIAL CORPORATION
(Exact name of registrant as specified in its charter)
Washington 91-1857900
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
201 Fifth Avenue SW, Olympia, WA 98501
(Address of principal executive office) (ZIP Code)
(360) 943-1500
(Registrant's telephone number, including area code)
Not Applicable
(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. Yes X No ___
----
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date.
As of November 1, 2000 there were outstanding 8,495,612 common shares, with no
par value, of the registrant.
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<PAGE>
HERITAGE FINANCIAL CORPORATION
FORM 10-Q
INDEX
<TABLE>
<CAPTION>
PART I. Financial Information
------- ---------------------
Item 1. Condensed Consolidated Financial Statements (Unaudited): Page
----
<S> <C> <C>
Consolidated Statements of Income for the Three
Months and Nine Months Ended September 30, 1999 and 2000 3
Consolidated Statements of Financial Condition
As of December 31, 1999 and September 30, 2000 4
Consolidated Statements of Stockholders' Equity for the Nine Months Ended
September 30, 2000 and Comprehensive Income for the Three and Nine Months
Ended September 30, 1999 and 2000 5
Consolidated Statements of Cash Flows for the
Nine Months Ended September 30, 1999 and 2000 6
Notes to Condensed Consolidated Financial Statements 7
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations 10
Item 3. Quantitative and Qualitative Disclosures About Market Risk 15
PART II. Other Information
Item 6. Exhibits and Reports on Form 8-K 16
Signatures 17
</TABLE>
Page 2
<PAGE>
HERITAGE FINANCIAL CORPORATION
CONSOLIDATED STATEMENTS OF INCOME
(Dollars in thousands, except for per share data)
(unaudited)
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30, September 30,
1999 2000 1999 2000
--------------------------- -------------------------
<S> <C> <C> <C> <C>
INTEREST INCOME:
Loans $8,519 10,609 23,801 30,371
Investment securities and FHLB dividends 679 643 2,151 1,946
Interest bearing deposits 63 46 735 148
------ ------ ------ ------
Total interest income 9,261 11,298 26,687 32,465
INTEREST EXPENSE:
Deposits 3,194 5,030 9,430 13,352
Borrowed funds 11 135 30 476
------ ------ ------ ------
Total interest expense 3,205 5,165 9,460 13,828
------ ------ ------ ------
Net interest income 6,056 6,133 17,227 18,637
PROVISION FOR LOAN LOSSES 102 195 306 585
------ ------ ------ ------
Net interest income after provision for loan loss 5,954 5,938 16,921 18,052
NONINTEREST INCOME:
Gains on sales of loans 209 189 935 483
Commissions on sales of annuities
and securities 23 83 155 162
Service charges on deposits 349 425 1,023 1,179
Rental income 54 60 152 177
Other income 383 392 855 1,102
------ ------ ------ ------
Total noninterest income 1,018 1,149 3,120 3,103
NONINTEREST EXPENSE:
Salaries and employee benefits 2,396 2,445 7,257 7,683
Building occupancy 719 779 2,200 2,298
Data processing 322 303 929 911
Marketing 95 96 372 290
Goodwill Amortization 144 144 433 433
Business and occupation tax 141 151 462 424
Office supplies and printing 91 98 374 308
Other 907 809 2,336 2,200
------ ------ ------ ------
Total noninterest expense 4,815 4,825 14,363 14,547
------ ------ ------ ------
Income before federal income tax 2,157 2,262 5,678 6,608
Federal income tax 777 756 2,060 2,169
------ ------ ------ ------
Net income $1,380 1,506 3,618 4,439
====== ====== ====== ======
Earnings per share:
Basic $0.128 0.172 0.335 0.479
Diluted $0.126 0.169 0.329 0.471
</TABLE>
See Notes to Condensed Consolidated Financial Statements.
Page 3
<PAGE>
HERITAGE FINANCIAL CORPORATION
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
(Dollars in thousands)
(Unaudited)
<TABLE>
<CAPTION>
December 31, September 30,
1999 2000
--------------------------------------
<S> <C> <C>
Assets
Cash on hand and in banks $ 17,596 16,503
Interest earning deposits 949 24
Federal funds sold 2,100 200
Investment securities available for sale 36,378 36,092
Investment securities held to maturity 6,165 5,513
Loans held for sale 589 2,902
Loans receivable 417,173 468,693
Less: Allowance for loan losses (4,264) (4,889)
--------------------------------------
Loans, net 412,909 463,804
Premises and equipment, net 18,874 19,753
Federal Home Loan Bank stock 2,218 2,604
Accrued interest receivable 2,938 3,725
Prepaid expenses and other assets 2,447 3,233
Goodwill 7,795 7,362
--------------------------------------
Total assets $ 510,958 561,715
======================================
Liabilities and Stockholders' Equity
Deposits 405,068 458,273
Advances from Federal Home Loan Bank 2,800 11,160
Other borrowings 8 -
Advance payments by borrowers for taxes and insurance 375 563
Accrued expenses and other liabilities 6,584 5,553
Deferred Federal income taxes 859 885
--------------------------------------
Total liabilities 415,694 476,434
Stockholders' equity:
Common stock, no par value per share,15,000,000 shares authorized;
10,025,407 shares and 8,549,332 outstanding, respectively 69,837 57,310
Unearned compensation ESOP and Other (1,154) (1,096)
Retained earnings, substantially restricted 26,926 29,253
Accumulated other comprehensive loss (345) (186)
--------------------------------------
Total stockholders' equity 95,264 85,281
Commitments and contingencies - -
--------------------------------------
Total liabilities and stockholders' equity $ 510,958 561,715
======================================
</TABLE>
See Notes to Condensed Consolidated Financial Statements.
Page 4
<PAGE>
HERITAGE FINANCIAL CORPORATION
CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY AND COMPREHENSIVE INCOME
Nine Months Ended September 30, 2000
(Amounts in Thousands)
(Unaudited)
<TABLE>
<CAPTION>
Number Unearned Accumulated
of compensation other Total
common Common ESOP and Retained comprehensive stockholders'
shares stock other earnings income equity
---------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Balance at December 31, 1999 10,025 $ 69,837 (1,154) 26,926 (345) 95,264
Earned ESOP shares - (5) 58 - - 53
Stock repurchase (1,510) (12,636) (12,636)
Exercise of stock options 34 114 - - - 114
Net income - - - 4,439 - 4,439
Decrease in unrealized loss on
securities available for sale,
net of tax of $82 - - - - 159 159
Cash dividend declared - - - (2,112) - (2,112)
------------------------------------------------------------------------------------
Balance at September 30, 2000 8,549 $ 57,310 (1,096) 29,253 (186) 85,281
====================================================================================
</TABLE>
<TABLE>
<CAPTION>
Three months ended Nine months ended
Comprehensive Income September 30, September 30,
1999 2000 1999 2000
---------------- ----------------- -------------------- ------------------
<S> <C> <C> <C> <C>
Net income $ 1,380 $ 1,506 $ 3,618 $ 4,439
Change in unrealized gain (loss) on securities
available for sale, net of tax of $17, $101,
($162) and $82 33 197 (315) 159
--------------------------------------------------------------------------
Comprehensive income $ 1,413 $ 1,703 $ 3,303 $ 4,598
==========================================================================
</TABLE>
See Notes to Condensed Consolidated Financial Statements.
Page 5
<PAGE>
HERITAGE FINANCIAL CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Dollars in thousands)
(Unaudited)
<TABLE>
Nine Months Ended
September 30,
-------------------------
1999 2000
<S> <C> <C>
Cash flows from operating activities:
Net income $ 3,618 4,439
Adjustments to reconcile net income to net cash provided by(used in)
operating activities
Amortization of goodwill 439 433
Depreciation and amortization 1,199 1,002
Deferred loan fees, net of amortization (129) (84)
Provision for loan losses 306 585
Net (increase)decrease in loans held for sale 5,783 (2,313)
Federal Home Loan Bank stock dividends (117) (111)
Recognition of compensation related to ESOP 51 53
Net change in accrued interest receivable, prepaid expenses and
other assets, and accrued expenses and other liabilities 258 (2,645)
-------------------------
Net cash provided by(used in) operating activities 11,408 1,359
-------------------------
Cash flows from investing activities:
Loans originated, net of principal payments and loan sales (73,097) (51,396)
Proceeds from maturities of investment securities available for sale 7,247 730
Proceeds from maturities of investment securities held to maturity 8,777 656
Purchase of investment securities available for sale (12,557) (476)
Purchase of investment securities held to maturity (155) -
Purchase of premises and equipment (1,746) (1,884)
-------------------------
Net cash used in investing activities (71,531) (52,370)
-------------------------
Cash flows from financing activities:
Net (increase)decrease in deposits (11,399) 53,205
Net (increase)decrease in borrowed funds (695) 8,352
Net decrease in advance payment by borrowers for taxes
and insurance (104) 188
Cash dividends paid (1,733) (2,130)
Proceeds from exercise of stock options 199 114
Stock repurchased (856) (12,636)
-------------------------
Net cash provided by (used in) financing activities (8,418) 47,093
-------------------------
Net decrease in cash and cash equivalents (51,705) (3,918)
Cash and cash equivalents at beginning of period 70,948 20,645
-------------------------
Cash and cash equivalents at end of period $ 19,243 16,727
=========================
Supplemental disclosures of cash flow information:
Cash payments for:
Interest expense $ 9,256 13,114
Federal income taxes 2,023 2,321
</TABLE>
See Notes to Condensed Consolidated Financial Statements.
Page 6
<PAGE>
HERITAGE FINANCIAL CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
Nine Months Ended September 30, 1999 and 2000
(Unaudited)
NOTE 1. DESCRIPTION OF BUSINESS AND BASIS OF PRESENTATION
(a.) Description of Business
Heritage Financial Corporation (the Company) is a bank holding company
incorporated in the State of Washington in August 1997. The Company was
organized for the purpose of acquiring all of the capital stock of Heritage Bank
upon its reorganization from a mutual holding company form of organization to a
stock holding company form of organization.
The Company is primarily engaged in the business of planning, directing and
coordinating the business activities of its wholly owned subsidiaries: Heritage
Bank (HB) and Central Valley Bank (CVB). Heritage Bank is a Washington State-
chartered savings bank whose deposits are insured by the Federal Deposit
Insurance Corporation (FDIC) under the Savings Association Insurance Fund
(SAIF). HB conducts business from its main office in Olympia, Washington and its
eleven branch offices located in Thurston, Pierce and Mason Counties. Central
Valley Bank is a national bank whose deposits are insured by the FDIC under the
Bank Insurance Fund (BIF). CVB conducts business from its main office in
Toppenish, Washington and its five branch offices located in Yakima and Kittitas
Counties.
The Company's business consists primarily of focusing on lending and deposit
relationships with small businesses and their owners in its market area,
attracting deposits from the general public and originating for sale or
investment purposes first mortgage loans on residential properties located in
western and central Washington State. The Company also makes residential
construction loans, income property loans and consumer loans.
(b.) Basis of Presentation
The accompanying consolidated financial statements have been prepared, without
audit, pursuant to the rules and regulations of the Securities and Exchange
Commission. Accordingly, they do not include all of the information and
footnotes required by generally accepted accounting principles for complete
financial statements. These consolidated financial statements should be read in
conjunction with our December 31, 1999 audited consolidated financial statements
and notes thereto included in our Annual Report on Form 10-K. In our opinion,
all adjustments (consisting of normal recurring adjustments) considered
necessary for a fair presentation have been included. Operating results for the
nine months ended September 30, 2000 are not necessarily indicative of the
results that may be expected for the year ending December 31, 2000. In preparing
the consolidated financial statements, we are required to make estimates and
assumptions that affect the reported amounts of assets, liabilities, revenues
and expenses. Actual results could differ from those estimates.
(c.) Recently Issued Accounting Pronouncements
In June 1998, the FASB issued SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities". This statement establishes accounting and
reporting standards for derivative instruments, including certain derivative
instruments embedded in other contracts, (collectively referred to as
derivatives) and for hedging activities. In May 1999, the Financial Accounting
Standards Board delayed the effective date of SFAS No. 133 to fiscal years
beginning after June 15, 2000, with interim reporting required. In June 2000,
the FASB issued SFAS Statement No. 138, "Accounting for Certain Derivative
Instruments and Certain Hedging Activities", an amendment of
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<PAGE>
FASB Statement No. 133, which makes minor modifications to SFAS No. 133. We do
not expect that the application of SFAS 133 or 138 will have a material effect
on our financial position or the results of operations.
The SEC issued Staff Accounting Bulletin No. 101B (SAB 101B). SAB 101B delays
the effective date of Staff Accounting Bulletin No. 101 (SAB 101) "Revenue
Recognition in Financial Statements", to the fourth quarter for fiscal years
beginning between December 15, 1999 and March 16, 2000. SAB 101 provides
guidance for revenue recognition and the SEC staff's views on the application of
accounting principles to selected revenue recognition issues. We will adopt the
provisions of SAB 101 in the fourth quarter of 2000 and anticipate that such
adoption will not have a material impact on our consolidated financial
statements.
In March 2000, the Financial Accounting Standards Board issued Interpretation
No. 44, "Accounting for Certain Transactions involving Stock Compensation".
Interpretation No. 44 clarifies the application of Accounting Principles Board
Opinion No. 25 (APB 25) and became effective July 1, 2000. Interpretation No. 44
clarifies the definition of "employee" for purposes of applying APB 25, the
criteria for determining whether a plan qualifies as a noncompensatory plan, the
accounting consequence of various modifications to the terms of a previously
fixed stock option or award, and the accounting for an exchange of stock
compensation awards in a business combination. We adopted Interpretation No. 44
on July 1, 2000, and it did not have a material impact on our consolidated
financial statements.
NOTE 2. STOCKHOLDERS' EQUITY
a. Earnings per Share
The following table illustrates the reconciliation of weighted average shares
used for earnings per share for the applicable periods.
<TABLE>
<CAPTION>
Three months ended Nine months ended
September 30, September 30,
1999 2000 1999 2000
-----------------------------------------------------------
<S> <C> <C> <C> <C>
Basic:
Weighted average shares outstanding 10,791,666 8,737,695 10,818,576 9,290,418
Diluted:
Basic weighted average shares outstanding 10,791,666 8,737,695 10,818,576 9,290,418
Incremental shares from unexercised stock options 185,472 172,803 190,694 145,521
-----------------------------------------------------------
Weighted average shares outstanding 10,977,138 8,910,498 11,009,270 9,435,939
===========================================================
</TABLE>
As of September 30, 2000 and 1999 there were anti dilutive options of 96,150 and
92,700 respectively, which were not included in the calculation.
b. Cash Dividend Declared
On September 21, 2000, we announced a quarterly cash dividend of 8.5 cents per
share payable on October 27, 2000 to stockholders of record on October 16, 2000.
c. Shares Repurchased
Page 8
<PAGE>
As of September 30, 2000 we have repurchased 1,510,000 shares of Heritage
Financial Corporation stock at a cost of $12,636,000 during the current fiscal
year. On August 16, 2000, our Board of Directors announced that it authorized
management to repurchase an additional 10% of our outstanding shares subject to
regulatory approval. This represents the third stock repurchase program since
October 1999 and is expected to be completed over an eighteen month period.
Page 9
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
The following discussion is intended to assist in understanding the financial
condition and results of operations of Heritage Financial Corporation. The
information contained in this section should be read in conjunction with the
Condensed Financial Statements and the accompanying Notes thereto and the
December 31, 1999 audited consolidated financial statements and notes thereto
included in our recent Annual Report on Form 10-K.
Statements concerning future performance, developments or events, concerning
expectations for growth and market forecasts, and any other guidance on future
periods, constitute forward-looking statements which are subject to a number of
risks and uncertainties which might cause actual results to differ materially
from stated expectations. Specific factors include, but are not limited to the
effect of interest rate changes, risks associated with acquisition of other
banks and opening new branches, the ability to control costs and expenses, and
general economic conditions. Additional information on these and other factors,
which could affect our financial results, are included in filings by the company
with the Securities and Exchange Commission.
Overview
Beginning in 1994, we began to implement a growth strategy which is intended to
broaden our products and services from traditional thrift products and services
to those more closely related to commercial banking. That strategy entails (1)
geographic and product expansion, (2) loan portfolio diversification, (3)
development of relationship banking, and (4) maintenance of asset quality.
Effective January 8, 1998, we closed our second step conversion and stock
offering which resulted in $63 million in net proceeds. Thereafter, our common
stock began to trade on the Nasdaq National Market under the symbol "HFWA".
Financial Condition Data
Total assets increased $50.7 million (10%) during the nine months ended
September 30, 2000 to $561.7 million from the December 31, 1999 balance of
$511.0 million. The asset growth was in lending as net loans increased $53.2
million (13%) to $466.7 million at September 30, 2000 from $413.5 million at
December 31, 1999. Consistent with management's efforts to continue to increase
our business customer base, commercial loans provided $36.0 million of that
growth. To support the growth in lending, deposits increased $53.2 million
(13%) for the nine months ended September 30, 2000 to $458.3 million from the
December 31, 1999 balance of $405.1 million. Other borrowings increased $8.4
million to $11.2 million at September 30, 2000 from $2.8 million at December 31,
1999. The Company also reduced equity during the nine months ended September
30, 2000 by repurchasing 1.5 million shares of common stock, reducing equity by
$12.6 million.
Earnings Summary
Net income for the nine months ended September 30, 2000 was $4,439,000, or
$0.471 per diluted share, compared to $3,618,000, or $0.329 per diluted share,
for the same period last year representing an increase of 23% in actual earnings
and 43% in diluted earnings per share. The difference in the percentage change
for actual earnings and earnings per share is the result of the stock repurchase
program. The year to date increase in net income was primarily attributable to
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<PAGE>
growth in the net interest income resulting from earning assets growth. Net
income for the three months ended September 30, 2000 was $1,506,000, or $0.169
per diluted share, compared to $1,380,000, or $0.126 per diluted share, for the
same period last year representing an increase of 9% in actual earnings and 34%
in earnings per share. The quarterly increase in net income was primarily
attributable to increased fee income from growth in deposit and service
activities. Cash earnings, which exclude the amortization of goodwill recorded
on the acquisition of North Pacific Bank, for the nine months ended September
30, 2000 were $4,724,000, or $0.501 per diluted share compared with $3,908,000,
or $0.355 per diluted share for the same nine month period in 1999. Cash
earnings for the quarter ended September 30, 2000 were $1,602,000, or $0.179 per
diluted share compared with $1,477,000, or $0.135 per diluted share for the
quarter ended September 30, 1999.
Net Interest Income
Net interest income before provision for loan loss for the nine months ended
September 30, 2000, increased 8.2% to $18,637,000 from $17,227,000. For the
three months ended September 30, 2000, net interest income before provision
increased 1.3% to $6,133,000 from $6,056,000 for the same quarter in 1999. This
increase was due to the expansion of gross loans to $471.6 million at September
30, 2000 from $394.5 million at September 30, 1999.
Net interest margin (net interest income divided by average interest earning
assets) narrowed to 5.13% for the nine months ended September 30, 2000 from
5.50% for the nine months ended September 30, 1999. The lower margin resulted
from increased use of higher costing funds to support our loan growth and
reduced capital through the stock repurchase. Certificates of Deposit averaged
$220.3 million costing 5.86% for the first nine months of 2000, compared with
$159.7 million costing 4.95% for the same period in 1999. Our overall cost of
funds increased to 4.72% for the nine months ended September 30, 2000, from
3.96% for the nine months ended September 30, 1999. The net interest margin
narrowed to 4.92% for the current quarter from 5.64% for the same quarter last
year. Certificates of Deposit averaged $233.7 million costing 6.34% for the
quarter ended September 30, 2000, compared to $162.2 million in average balances
costing 4.88% for the same quarter in 1999. Our overall cost of funds increased
to 5.08% for the quarter ended September 30, 2000, from 3.92% for the quarter
ended September 30, 1999.
Provision for Loan Losses
For the nine months ended September 30, 2000 the loan loss provision was
$585,000 compared with $306,000 for the nine months ended September 30, 1999.
The quarterly provision for loan losses was $195,000 for the current quarter up
from $102,000 for the September 1999 quarter. We believe that the increase is
prudent to ensure that we maintain our allowance for loan losses at an adequate
level to reflect our loan growth and the changes in our loan portfolio mix.
Noninterest Income
Noninterest income decreased 0.5% to 3,103,000 for the nine months ended
September 30, 2000 compared with $3,120,000 for the same period in 1999. The
decrease is the result of reduced activity in mortgage banking. Loan sale gains
were $483,000 for the nine months ended September 30, 2000 compared with
$935,000 for the nine months ended September 30, 1999. The
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<PAGE>
impact was most prominent in the first quarter where the gains were $95,000 for
the quarter ended March 31, 2000 compared to $432,000 for the quarter ended
March 31, 1999. Noninterest income for the quarter ended September 30, 2000
increased 13.0% to $1,149,000 compared with $1,018,000 for the same quarter in
1999. This increase resulted from additional income from service charges on
deposits and fee product commissions. Service charges on deposits increased 22%
to $425,000 for the quarter ended September 30, 2000 compared to $349,000 for
the quarter ended September 30, 1999. Fee product commissions increased 260% to
$83,000 for the quarter ended September 30, 2000 compared to $23,000 for the
quarter ended September 30, 1999 due to low production of fee product sales in
the third period of 1999.
Noninterest Expense
Noninterest expense increased 1.3% to $14,547,000 for the nine months ended
September 30, 2000 compared to $14,363,000 for the nine months ended September
30, 1999. Noninterest expense increased a slight 0.2% to $4,825,000 for the
quarter ended September 30, 2000 compared to $4,815,000 for quarter ended
September 30, 1999. The efficiency ratio for the nine months ended September
30, 2000 improved to 66.92% from 70.59% for the comparable nine month period in
1999. The efficiency ratio for the quarter ended September 30, 2000 improved to
66.26% from 68.06% for the comparable quarter in 1999. The improvement resulted
from increased revenue coupled with flat noninterest expense.
Lending Activities
Commercial loans now represent the largest segment of our loan portfolio. As
indicated in the table below, total loans increased to $471.6 million at
September 30, 2000 from $417.8 million at December 31, 1999.
<TABLE>
<CAPTION>
(in thousands)
At At
December 31, % of September 30, % of
1999 Total 2000 Total
----------------------------------------------------------
<S> <C> <C> <C> <C>
Commercial $192,088 45.98% 228,044 48.36%
Real estate mortgages
One-to-four family residential 97,907 23.44 106,367 22.55
Five or more family and commercial
properties 94,242 22.56 106,924 22.67
--------------------------------------------------------
Total real estate mortgages 192,149 46.00 213,291 45.22
Real estate construction
One-to-four family residential 23,293 5.58 24,847 5.27
Five or more family and commercial
properties 7,537 1.80 1,321 0.28
--------------------------------------------------------
Total real estate construction 30,830 7.38 26,168 5.55
Consumer 4,273 1.02 5,754 1.22
--------------------------------------------------------
Gross loans 419,340 100.38% 473,257 100.35%
Less: deferred loan fees (1,578) (0.38) (1,662) (0.35)
--------------------------------------------------------
Total loans $417,762 100.00% 471,595 100.00%
========================================================
</TABLE>
Nonperforming Assets
The following table sets forth the amount of our nonperforming assets at the
dates indicated.
Page 12
<PAGE>
<TABLE>
<CAPTION>
At At
December 31, September 30,
1999 2000
------------------------------------------
(Dollars in thousands)
<S> <C> <C>
Nonaccrual loans $ 1,804 1,657
Restructured loans - -
------------------------------------------
Total nonperforming loans 1,804 1,657
Real estate owned - -
------------------------------------------
Total nonperforming assets $ 1,804 1,657
==========================================
Accruing loans past due 90 days or more $ - -
Potential problem loans 2,826 1,813
Allowance for loan losses 4,264 4,889
Nonperforming loans to loans 0.43% 0.35%
Allowance for loan losses to loans 1.02% 1.04%
Allowance for loan losses to nonperforming loans 236.27% 295.08%
Nonperforming assets to total assets 0.35% 0.29%
</TABLE>
Nonperforming loans were down to $1,657,000, or 0.35% of total loans, at
September 30, 2000 from $1,804,000, or 0.43% of total loans, at December 31,
1999.
Analysis of Allowance for Loan Losses
The allowance for loan losses is maintained at a level we consider adequate to
provide for reasonably foreseeable loan losses based on our assessment of
various factors affecting the loan portfolio, including a review of problem
loans, business conditions and loss experience, an overall evaluation of the
quality of the underlying collateral, holding and disposal costs, and costs of
capital. The allowance is increased by provisions for loan losses charged to
operations and reduced by loans charged off, net of recoveries.
While we believe that we use the best information available to determine the
allowance for loan losses, unforeseen market conditions could result in
adjustments to the allowance for loan losses, and net income could be
significantly affected, if circumstances differ substantially from the
assumptions used in determining the allowance.
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<PAGE>
The following table summarizes the changes in our allowance for loan losses:
<TABLE>
<CAPTION>
Nine Months Ended September 30,
<S> <C> <C>
1999 2000
-----------------------------------------
(Dollars in thousands)
Total loans outstanding at end of period (1) $ 394,491 471,595
Average loans outstanding during period 347,911 436,768
Allowance balance at beginning of period 3,957 4,264
Provision for loan losses 306 585
Charge-offs
Real estate (1)
Commercial (7) (3)
Agriculture - (6)
Consumer (5) (2)
-----------------------------------------
Total charge-offs (13) (11)
-----------------------------------------
Recoveries
Real estate 16 22
Commercial 91 28
Agriculture - 1
Consumer 3 -
-----------------------------------------
Total recoveries 110 51
-----------------------------------------
Net (charge-offs) recoveries 97 40
-----------------------------------------
Allowance balance at end of period $ 4,360 4,889
=========================================
Allowance for loan loss to loans at September 30,
1999 and 2000 1.11% 1.04%
Ratio of net (charge-offs) recoveries during
period to average loans outstanding 0.028% 0.009%
=========================================
</TABLE>
____________
(1) Includes loans held for sale
While pursuing our growth strategy, we will continue to employ prudent
underwriting and sound loan monitoring procedures in order to maintain asset
quality. The allowance for loan losses during the nine months ended September
30, 2000 increased $625,000 to $4.9 million. The growth in the allowance was due
to the $585,000 provision and $40,000 in net recoveries during the period.
Liquidity and Source of Funds
Our primary sources of funds are customer deposits, public fund deposits, loan
repayments, loan sales, maturing investment securities and advances from the
FHLB of Seattle. These funds, together with retained earnings, equity and other
borrowed funds, are used to make loans, acquire investment securities and other
assets and to fund continuing operations. While maturities and scheduled
amortization of loans are a predictable source of funds, deposit flows and
mortgage prepayments are greatly influenced by the level of interest rates,
economic conditions and competition.
We must maintain an adequate level of liquidity to ensure the availability of
sufficient funds to fund loan originations and deposit withdrawals, to satisfy
other financial commitments and to fund operations. We generally maintain
sufficient cash and short term investments to meet short term liquidity needs.
At September 30, 2000, cash and cash equivalents totaled $16.7 million (3.0% of
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total assets), and investment securities classified as either available for sale
or held to maturity with maturities of one year or less amounted to $37.4
million (6.7% of total assets). At September 30, 2000, we maintained a combined
credit facility with the FHLB of Seattle for Heritage Bank and Central Valley
Bank of $104.7 million (of which $11.2 million was outstanding at that date).
Capital
Stockholders' equity at September 30, 2000 was $85.3 million compared with $95.3
million at December 31, 1999. During the period we repurchased $12.6 million of
Heritage Financial Corporation stock, declared three cash dividends totaling
$2.1 million (7.5 cents per share, to shareholders of record on April 14, 2000,
8.0 cents per share to shareholders of record on July 14, 2000, and 8.5 cents
per share to shareholders of record on October 16, 2000), had year to date
income of $4.4 million, recorded $158,000 in reduced unrealized losses on
securities available for sale net of tax, and our employees and directors
exercised stock options of $114,000.
Banking regulations require bank holding companies and banks to maintain a
minimum "leverage" ratio of core capital to adjusted quarterly average total
assets of at least 3%. At September 30, 2000, our leverage ratio was 14.4%,
compared with 18.8% at December 31, 1999. In addition, banking regulators have
adopted risk-based capital guidelines, under which risk percentages are assigned
to various categories of assets and off-balance sheet items to calculate a risk-
adjusted capital ratio. Tier I capital generally consists of common
shareholders' equity, while Tier II capital includes the allowance for loan
losses, subject to certain limitations. Regulatory minimum risk-based capital
guidelines require Tier I capital of 4% of risk-adjusted assets and total
capital (combined Tier I and Tier II) of 8%. Our Tier I and total capital
ratios were 16.9% and 17.9%, respectively, at September 30, 2000 compared with
21.1% and 22.1%, respectively, at December 31, 1999.
During 1992, the Federal Deposit Insurance Corporation (the "FDIC") published
the qualifications necessary to be classified as a "well-capitalized" bank,
primarily for assignment of FDIC insurance premium rates beginning in 1993. To
qualify as "well-capitalized", banks must have a Tier I risk-adjusted capital
ratio of at least 6%, a total risk-adjusted capital ratio of at least 10%, and a
leverage ratio of at least 5%. Heritage Bank and Central Valley Bank qualified
as "well-capitalized" at September 30, 2000.
Quantitative and Qualitative Disclosures About Market Risk
Our results of operations are highly dependent upon our ability to manage
interest rate risk. We consider interest rate risk to be a significant market
risk that could have a material effect on our financial condition and results of
operations. In our opinion, there has been no material change in our interest
rate risk exposure since our most recent year end at December 31, 1999.
We do not maintain a trading account for any class of financial instrument, nor
do we engage in hedging activities or purchase high risk derivative instruments.
Moreover, we are not subject to foreign currency exchange rate risk or commodity
price risk.
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PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
There are no material pending legal proceedings to which the Company or any of
its subsidiaries is a party which, if adversely decided, would have a material
adverse effect on the financial condition of the Company.
ITEM 2. CHANGES IN SECURITIES
None
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None
ITEM 5. OTHER INFORMATION
None
ITEM 6. EXHIBITS AND REPORTS OF FORM 8-K
a. See EXHIBIT 27-Financial Data Schedule.
b. There were no 8-K filings for the quarter ended September 30, 2000.
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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 FINANCIAL CORPORATION
Date: November 7, 2000 by /s/ Donald V. Rhodes
--------------------------------------------------
Donald V. Rhodes
Chairman, President and Chief Executive Officer
(Duly Authorized Officer)
by /s/ Edward D. Cameron
--------------------------------------------------
Edward D. Cameron
Vice President and Treasurer
(Principal Financial and Accounting Officer)
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