<PAGE> 1
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 September 30, 2000
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 No. 000-23877
HERITAGE COMMERCE CORP
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(Exact name of registrant as specified in its charter)
<TABLE>
<S> <C>
California 77-0469558
----------------------------------- -------------------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
</TABLE>
150 Almaden Blvd., San Jose, California 95113
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(Address of principal executive offices) (Zip Code)
(408) 947-6900
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(Registrant's telephone number, including area code)
None
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(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 10,847,011 shares of Common Stock outstanding on November 6,
2000.
<PAGE> 2
HERITAGE COMMERCE CORP AND SUBSIDIARIES
QUARTERLY REPORT ON FORM 10-Q
Table of Contents
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<TABLE>
<CAPTION>
Page
<S> <C>
Part I - Financial Information
Item 1. Condensed Consolidated Statements of Financial Condition 3
4
Condensed Consolidated Income Statements
5
Condensed Consolidated Statements of Cash Flows
Condensed Consolidated Notes to Financial Statements 6
Item 2. Management's Discussion and Analysis of Financial Condition and 9
Results of Operations
Item 3. Quantitative and Qualitative Disclosures About Market Risk 21
Part II - Other Information
Item 1. Legal Proceedings 21
Item 4. Submission of Matters to a Vote of Security Holders 21
Item 6. Exhibits and Reports on Form 8-K 22
Signatures
</TABLE>
<PAGE> 3
HERITAGE COMMERCE CORP AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION (Unaudited)
ASSETS
<TABLE>
<CAPTION>
September 30, 2000 December 31, 1999
------------------ -----------------
<S> <C> <C>
Cash and due from banks $ 28,152,000 $ 10,049,000
Federal funds sold 94,700,000 128,100,000
------------- -------------
Total cash and cash equivalents 122,852,000 138,149,000
Securities available-for-sale, at fair value 38,377,000 17,430,000
Securities held-to-maturity, at amortized cost
(fair value of $11,890,000 and $13,614,000, respectively) 11,921,000 13,834,000
Loans held for sale, lower of cost or market 30,653,000 22,243,000
Loans, net of deferred fees 383,603,000 271,855,000
Allowance for probable loan losses (6,500,000) (5,003,000)
------------- -------------
Loans, net 377,103,000 266,852,000
Premises and equipment, net 4,315,000 3,459,000
Accrued interest receivable and other assets 10,073,000 5,211,000
Other investments 12,554,000 9,486,000
------------- -------------
TOTAL $ 607,848,000 $ 476,664,000
============= =============
LIABILITIES AND SHAREHOLDERS' EQUITY
Liabilities:
Deposits
Demand, noninterest bearing $ 158,351,000 $ 109,432,000
Demand, interest bearing 14,849,000 9,898,000
Savings and money market 178,900,000 164,060,000
Time deposits, under $100,000 54,582,000 47,355,000
Time deposits, $100,000 and over 128,852,000 87,795,000
------------- -------------
Total deposits 535,534,000 418,540,000
Accrued interest payable and other liabilities 8,778,000 13,593,000
Mandatorily redeemable cumulative trust preferred
securities of Subsidiary Grantor Trust 14,000,000 --
------------- -------------
Total liabilities 558,312,000 432,133,000
------------- -------------
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: 7,397,003 at September 30, 2000
and 7,031,576 at December 31, 1999 42,558,000 41,021,000
Accumulated other comprehensive income (loss), net of
income taxes (benefits) 73,000 (137,000)
Retained Earnings 6,905,000 3,647,000
------------- -------------
Total shareholders' equity 49,536,000 44,531,000
------------- -------------
TOTAL $ 607,848,000 $ 476,664,000
============= =============
</TABLE>
See notes to condensed consolidated financial statements
3
<PAGE> 4
HERITAGE COMMERCE CORP AND SUBSIDIARIES
CONDENSED CONSOLIDATED INCOME STATEMENTS (UNAUDITED)
<TABLE>
<CAPTION>
Three months ended September 30, Nine months ended September 30,
-------------------------------- -------------------------------
2000 1999 2000 1999
---- ---- ---- ----
<S> <C> <C> <C> <C>
Interest income:
Loans, including fees $11,216,000 $ 6,545,000 $29,606,000 $18,794,000
Securities, taxable 563,000 407,000 1,639,000 1,481,000
Securities, non-taxable 157,000 144,000 460,000 463,000
Federal funds sold 1,564,000 780,000 3,351,000 1,427,000
----------- ----------- ----------- -----------
Total interest income 13,500,000 7,876,000 35,056,000 22,165,000
----------- ----------- ----------- -----------
Interest expense:
Deposits 5,290,000 2,634,000 12,870,000 7,006,000
Other 236,000 12,000 451,000 22,000
----------- ----------- ----------- -----------
Total interest expense 5,526,000 2,646,000 13,321,000 7,028,000
----------- ----------- ----------- -----------
Net interest income before provision for loan losses 7,974,000 5,230,000 21,735,000 15,137,000
Provision for loan losses 500,000 356,000 1,484,000 1,483,000
----------- ----------- ----------- -----------
Net interest income after provision for loan losses 7,474,000 4,874,000 20,251,000 13,654,000
----------- ----------- ----------- -----------
Noninterest income:
Other investments 187,000 73,000 468,000 201,000
Service charges and other fees 121,000 84,000 330,000 226,000
Gain on sale of loans held-for-sale -- 271,000 -- 401,000
Gain on sale of securities available-for-sale -- -- 44,000 1,004,000
Servicing income -- 1,180,000 7,000 1,180,000
Other income 236,000 194,000 569,000 701,000
----------- ----------- ----------- -----------
Total noninterest income 544,000 1,802,000 1,418,000 3,713,000
----------- ----------- ----------- -----------
Noninterest expenses:
Salaries and employee benefits 2,921,000 2,714,000 9,598,000 7,678,000
Client services 589,000 362,000 1,227,000 1,158,000
Professional fees 430,000 884,000 1,082,000 1,129,000
Occupancy 386,000 300,000 1,040,000 793,000
Loan origination costs 277,000 145,000 725,000 401,000
Advertising and promotion 270,000 215,000 506,000 592,000
Furniture and equipment 256,000 244,000 712,000 824,000
Shareholder relations 154,000 19,000 235,000 15,000
Assessments expense 93,000 80,000 137,000 123,000
Stationery & supplies 72,000 91,000 203,000 226,000
Telephone expense 68,000 56,000 192,000 159,000
Software subscriptions 44,000 21,000 184,000 105,000
Other 262,000 372,000 745,000 1,049,000
----------- ----------- ----------- -----------
Total noninterest expenses 5,822,000 5,503,000 16,586,000 14,252,000
----------- ----------- ----------- -----------
Net income before provision for income taxes 2,196,000 1,173,000 5,083,000 3,115,000
Provision for income taxes 785,000 420,000 1,825,000 1,060,000
----------- ----------- ----------- -----------
Net income $ 1,411,000 $ 753,000 $ 3,258,000 $ 2,055,000
=========== =========== =========== ===========
Earnings per share:
Basic $ 0.19 $ 0.11 $ 0.46 $ 0.32
=========== =========== =========== ===========
Diluted $ 0.19 $ 0.10 $ 0.44 $ 0.28
=========== =========== =========== ===========
</TABLE>
See notes to condensed consolidated financial statements
4
<PAGE> 5
HERITAGE COMMERCE CORP AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
<TABLE>
<CAPTION>
Nine months ended September 30,
---------------------------------
2000 1999
---- ----
<S> <C> <C>
Cash flows from operating activities:
Net income $ 3,258,000 $ 2,055,000
Adjustments to reconcile net income to net cash provided by (used in)
operating activities:
Depreciation and amortization 684,000 616,000
Provision for loan losses 1,484,000 1,483,000
Gain on sale of securities available-for-sale (44,000) (1,004,000)
Net accretion of discounts (35,000) (179,000)
Proceeds from sales of loans held for sale -- 4,317,000
Originations of loans held for sale (8,550,000) (9,475,000)
Maturities of loans held for sale 140,000 4,244,000
Effect of changes in:
Accrued interest receivable and other assets (4,860,000) (6,138,000)
Accrued interest payable and other liabilities (4,929,000) 3,487,000
------------- -------------
Net cash used in operating activities (12,852,000) (594,000)
Cash flows from investing activities:
Net (increase) decrease in loans (111,735,000) 6,777,000
Purchases of securities available-for-sale (33,575,000) (26,334,000)
Maturities of securities available-for-sale 3,091,000 15,082,000
Proceeds from sales of securities available-for-sale 9,933,000 49,512,000
Proceeds from maturities or calls of securities held-to-maturity 1,879,000 1,115,000
Purchases of corporate owned life insurance (3,029,000) (3,801,000)
Purchases of property and equipment (1,540,000) (654,000)
------------- -------------
Net cash provided by (used in) investing activities (134,976,000) 41,697,000
Cash flows from financing activities:
Net increase in deposits 116,994,000 47,692,000
Proceeds from issuance of mandatorily redeemable cumulative
trust preferred securities of Subsidiary Grantor Trust 14,000,000 --
Proceeds from issuance of stock -- 11,200,000
Proceeds from exercise of stock options 1,392,000 388,000
Additional paid in capital 145,000 --
------------- -------------
Net cash provided by financing activities 132,531,000 59,280,000
------------- -------------
Net increase (decrease) in cash and cash equivalents (15,297,000) 100,383,000
Cash and cash equivalents, beginning of period 138,149,000 46,639,000
------------- -------------
Cash and cash equivalents, end of period $ 122,852,000 $ 147,022,000
============= =============
Supplemental disclosures of cash paid during the period for:
Interest $ 12,541,000 $ 7,385,000
Income taxes $ 3,457,000 $ 1,835,000
Supplemental schedule of non-cash investing and financing activity:
Transfer of investment securities from HTM to AFS $ -- $ 11,669,000
</TABLE>
See notes to condensed consolidated financial statements
5
<PAGE> 6
HERITAGE COMMERCE CORP AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2000
(UNAUDITED)
1) BASIS OF PRESENTATION
The unaudited condensed consolidated financial statements of Heritage
Commerce Corp and its wholly owned subsidiaries, Heritage Bank of
Commerce, Heritage Bank East Bay, and Heritage Bank South Valley, have
been prepared pursuant to the Securities and Exchange Commission rules
and regulations for reporting on Form 10-Q. Accordingly, certain
information and notes required by generally accepted accounting
principles for annual 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, 1999. On October 1, 2000 Western
Holdings Bancorp and its wholly owned subsidiary, Bank of Los Altos was
merged with and into Heritage Commerce Corp with Bank of Los Altos
operating as a wholly owned subsidiary of Heritage Commerce Corp. The
financial statements contained herein have not been restated to include
any activity of Western Holdings Bancorp or Bank of Los Altos (see Note
5).
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, 2000 are
not necessarily indicative of the results expected for any subsequent
period or for the entire year ending December 31, 2000.
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:
<TABLE>
<CAPTION>
Three months ended Nine months ended
September 30, September 30,
2000 1999 2000 1999
---- ---- ---- ----
<S> <C> <C> <C> <C>
Weighted average common shares
outstanding - used in computing basic EPS 7,292,275 6,899,421 7,138,237 6,384,190
Dilutive effect of stock options outstanding,
using the treasury stock method 256,253 760,443 331,168 838,291
--------- --------- --------- ---------
Shares used in computing diluted earnings
per share 7,548,528 7,659,864 7,469,405 7,222,481
========= ========= ========= =========
</TABLE>
6
<PAGE> 7
3) COMPREHENSIVE INCOME
Comprehensive income includes net income and other comprehensive income
which represents the change in 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:
<TABLE>
<CAPTION>
Three months ended Nine months ended
September 30, September 30, September 30, September 30,
2000 1999 2000 1999
------------------------------------------------ --------------
<S> <C> <C> <C> <C>
Net Income $ 1,411,000 $ 753,000 $ 3,258,000 $ 2,055,000
Other comprehensive income (loss),
net of tax:
Net unrealized gain (loss) on
securities available-for-sale
during the period 240,000 40,000 254,000 294,000
Less: reclassification adjustment
for realized gains on
available-for-sale securities
included in net income
during the period -- -- (44,000) (1,004,000)
----------- ----------- ----------- -----------
Other comprehensive income (loss) 240,000 40,000 210,000 (710,000)
----------- ----------- ----------- -----------
Comprehensive income $ 1,651,000 $ 793,000 $ 3,468,000 $ 1,345,000
=========== =========== =========== ===========
</TABLE>
4) MANDATORILY REDEEMABLE CUMULATIVE TRUST PREFERRED SECURITIES OF
SUBSIDIARY GRANTOR TRUST
Heritage Capital Trust I
------------------------
Heritage Capital Trust I is a Delaware business trust formed by
Heritage Commerce Corp and formed for the purpose of issuing Company
obligated mandatorily redeemable cumulative trust preferred securities.
During the first quarter of 2000, Heritage Capital Trust I issued 7,000
Trust Preferred Securities with a liquidation value of $1,000 per
security to the Company for gross proceeds of $7,000,000. The entire
proceeds of the issuance were invested by Heritage Capital Trust I in
$7,000,000 aggregate principal amount of 10 7/8% subordinated debentures
due 2030 (the Subordinated Debentures) issued by the Company. The
Subordinated Debentures represent the sole assets of Heritage Capital
Trust I. The Subordinated Debentures mature on March 8, 2030, bear
interest at the rate of 10 7/8%, payable semi-annually, and are
redeemable by the Company at a premium beginning on or after March 8,
2010 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 March
8, 2020. The Trust Preferred Securities are subject to mandatory
redemption to the extent of any early redemption of the Subordinated
Debentures and upon maturity of the Subordinated Debentures on March 8,
2030. The Subordinated Debentures bear the same terms and interest rates
as the Trust Preferred Securities.
7
<PAGE> 8
Holders of the trust preferred securities are entitled to cumulative
cash distributions at an annual rate of 10 7/8 % of the liquidation
amount of $1,000 per security. 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 Company has guaranteed, on a subordinated
basis, distributions and other payments due on the trust preferred
securities (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 Trust Preferred Securities.
Heritage Statutory Trust I
--------------------------
Heritage Capital Statutory Trust I is a Delaware business trust formed
by Heritage Commerce Corp and formed for the purpose of issuing Company
obligated mandatorily redeemable cumulative trust preferred securities.
During the third quarter of 2000, Heritage Capital Statutory Trust I
issued 7,000 Trust Preferred Securities with a liquidation value of
$1,000 per security to the Company for gross proceeds of $7,000,000. The
entire proceeds of the issuance were invested by Heritage Capital
Statutory Trust I in $7,000,000 aggregate principal amount of 10.60%
subordinated debentures due 2030 (the Subordinated Debentures) issued by
the Company. The Subordinated Debentures represent the sole assets of
Heritage Capital Statutory Trust I. The Subordinated Debentures mature
on September 7, 2030, bear interest at the rate of 10.60%, payable
semi-annually, and are redeemable by the Company at a premium beginning
on or after September 7, 2010 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 September 7, 2020. The Trust Preferred
Securities are subject to mandatory redemption to the extent of any
early redemption of the Subordinated Debentures and upon maturity of the
Subordinated Debentures on September 7, 2030. The Subordinated
Debentures bear the same terms and interest rates as the Trust Preferred
Securities.
Holders of the trust preferred securities are entitled to cumulative
cash distributions at an annual rate of 10.60 % of the liquidation
amount of $1,000 per security. 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 Company has guaranteed, on a subordinated
basis, distributions and other payments due on the trust preferred
securities (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 Trust Preferred Securities.
The Subordinated Debentures and related trust investments in the
Subordinated Debentures have been eliminated in consolidation and the
Trust Preferred Securities reflected as outstanding in the accompanying
condensed consolidated financial statements. Under applicable regulatory
guidelines all of the Trust Preferred Securities currently qualify as
Tier I capital.
8
<PAGE> 9
5) MERGER WITH WESTERN HOLDINGS BANCORP
On October 1, 2000 Western Holdings Bancorp, parent of Bank of Los
Altos, was merged with and into Heritage Commerce Corp with Bank of Los
Altos becoming a wholly owned subsidiary of Heritage Commerce Corp. The
merger resulted in the issuance of approximately 3.4 million shares of
Heritage Commerce Corp's common stock based on a conversion ratio of
1.2264 shares of Heritage Commerce Corp common stock for each share of
Western Holdings Bancorp common stock. The merger will be accounted for
using the pooling-of-interests method of accounting. Historical
financial information presented in future reports will be restated to
include Western Holdings Bancorp. No material adjustments are expected
to be recorded to conform Western Holdings Bancorp's accounting policies
to that of Heritage Commerce Corp.
The following unaudited pro-forma combined financial information
summarizes the combined results of operations of Heritage Commerce Corp
and Western Holdings Bancorp based on the pooling-of-interests method of
accounting, as if the combination had been consummated on January 1 of
each of the periods presented. This information is derived from the
historical financial statements of each company. Weighted average shares
and earnings per share were calculated based on a conversion ratio of
1.2264 to 1.
Unaudited Pro-Forma Combined Summary of Operations
<TABLE>
<CAPTION>
Nine months ended
(Dollars in thousands, except per share data) September 30, 2000 September 30, 1999
---------------------------------------------------------------------------------------------------------
<S> <C> <C>
Net interest income $ 30,882 $ 21,800
Net income $ 5,180 $ 3,139
Earnings per share:
Basic $ 0.49 $ 0.32
Diluted $ 0.47 $ 0.29
Weighted average common shares used in computing basic EPS 10,514,152 9,721,941
Weighted average common shares used in computing diluted EPS 11,035,544 10,787,161
</TABLE>
6) RECENT ACCOUNTING PRONOUNCEMENTS
SFAS No. 140, "Accounting for Transfers and Servicing of Financial
Assets and Extinguishments of Liabilities" was issued in September 2000.
SFAS No. 140 is a replacement of SFAS No. 125, "Accounting for Transfers
and Servicing of Financial Assets and Extinguishments of Liabilities".
Most of the provisions of SFAS No. 125 were carried forward to SFAS No.
140 without reconsideration by the FASB, and some were changed in only
minor ways. In issuing SFAS No. 140, the FASB included issues and
decisions that had been addressed and determined since the original
publication of SFAS No. 125. SFAS No. 140 is effective for transfers
after March 31, 2001. It is effective for disclosures about
securitizations and collateral and for recognition and reclassification
of collateral for fiscal years ending after December 15, 2000.
Management does not expect the adoption of SFAS No. 140 to have a
significant impact on the financial position or results of operations of
the Company.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
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 and 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. These 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. 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.
9
<PAGE> 10
Heritage operates as the bank holding company for the three subsidiary
banks: Heritage Bank of Commerce, Heritage Bank East Bay and Heritage
Bank South Valley (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 Company and its subsidiary
banks conform to generally accepted accounting principles and prevailing
practices within the banking industry.
Effective October 1, 2000, the Company completed the merger with Western
Holding Bancorp, the holding company of Bank of Los Altos. Bank of Los
Altos now operates as a wholly owned subsidiary of Heritage Commerce
Corp. Under the terms of the merger agreement, Western Holdings Bancorp
shareholders received 3.4 million shares of Heritage Commerce Corp
common stock based on a conversion ratio of 1.2264 shares of Heritage
Commerce Corp. common stock for each share of Western Holdings Bancorp
common stock. The merger will be accounted for as a pooling of
interests. The financial statements contained herein have not been
restated to include Western Holding Bancorp and Managements Discussion
and Analysis of Financial Condition and Results of operations reflects
only the activities of Heritage Commerce Corp as of September 30, 2000
and for the three and nine month periods ended September 30, 1999 and
2000. Pro forma information for Western Holdings Bancorp and Heritage
Commerce Corp as of June 30, 2000 was filed with the Securities and
Exchange Commission on October 16, 2000 on Form 8-K.
On January 27, 1999, Heritage's board of directors announced the
declaration of a 3-for-2 stock split effective for shareholders of
record on February 5, 1999, and paid on February 19, 1999. On February
21, 2000, a 10 percent stock dividend was paid to shareholders of record
as of February 7, 2000. All historical financial information has been
restated as if the stock split and stock dividend had been in effect for
all periods presented.
OVERVIEW
Net income for the third quarter and nine months ended September 30,
2000 was $1,411,000 and $3,258,000, up 87% and 59% from $753,000 and
$2,055,000 for the third quarter and nine months ended September 30,
1999. Earnings per diluted share for the third quarter and nine months
ended September 30, 2000 were $0.19 and $0.44, up 90% and 57% from $0.10
and $0.28 per diluted share for the third quarter and nine month period
ended September 30, 1999.
For the third quarter and nine months ended September 30, 2000 as
compared with the same periods of the previous year, net interest income
grew by $2,744,000 and $6,598,000, or 52% and 44%, primarily as a result
of an increase in the volume of the Company's interest earning assets,
specifically loans. Noninterest income was $544,000 for the quarter and
$1,418,000 for the nine months ended September 30, 2000, compared to
$1,802,000 and $3,713,000 for the same period of the previous year.
Noninterest income for the third quarter of 1999 included $1,180,000 in
revenue from the origination of credit cards for an unaffiliated
financial institution, and $1,004,000 gain on sale of securities during
the nine months ended September 30, 1999. The credit card origination
agreement terminated in 1999 and was not renewed. Noninterest expenses,
primarily salaries and benefits, increased $319,000 and $2,334,000, or
6% and 16%, as a result of the payment of severance costs related to a
change in management and an increase in the number of employees to
support the growth of the Company. Total occupancy expense increased 29%
and 31% for the three months and nine months ended September 30, 2000
from the same period of the previous year, due to the opening of
Heritage Bank of South Valley and additional work spaces requirement for
the Company. The increase in shareholder relations expense primarily
related to the printing of proxy material for the merger with Western
Holdings Bancorp, and fees charged for filing the annual report and
quarterly reports to the SEC. The Company's net interest margin was
5.90% for the quarter ended September 30, 2000, compared with 5.89% for
the quarter ended September 30, 1999.
Total assets as of September 30, 2000 were $607,848,000, an increase of
$139,274,000, or 30%, from September 30, 1999 and an increase of
$131,184,000, or 28%, from total assets of $476,664,000 at December 31,
1999. Total deposits as of September 30, 2000 were $535,534,000, an
increase of
10
<PAGE> 11
$118,884,000, or 29%, from September 30, 1999, and an increase of
$116,994,000, or 28%, from total deposits of $418,540,000 at December
31, 1999.
Total portfolio loans as of September 30, 2000 were $383,603,000, an
increase of $111,748,000, or 41% when compared to December 31, 1999, and
an increase of $138,192,000, or 56%, when compared to September 30,
1999. Total portfolio loans as of December 31, 1999 were $271,855,000.
The Company's allowance for loan losses was $6,500,000, or 1.69%, of
total loans as of September 30, 2000. This compares with an allowance
for loan losses of $4,569,000, or 1.86%, and $5,003,000, or 1.84% of
total loans at September 30, 1999 and December 31, 1999, respectively.
The Company issued $14,000,000 trust preferred securities during the
nine months ended as of September 30, 2000. There were no trust
preferred securities issued in 1999. The Company did not have any
non-performing assets as of September 30, 2000. Non-performing assets
were $1,396,000 as of December 31, 1999 and $1,187,000 as of September
30, 1999.
The Company's shareholders' equity as of September 30, 2000 was
$49,536,000, an increase of $5,005,000, or 11%, when compared to
December 31, 1999, and an increase of $5,906,000, or 14%, when compared
with to September 30, 1999. Shareholders' equity increased due to a
public stock offering in 1999 and current year earnings. Book value per
share was $6.70 as of September 30, 2000, compared to $6.21 as of
September 30, 1999. The Company's leverage capital ratio was 10.68% at
September 30, 2000, compared to 10.71% at September 30, 1999. Annualized
year-to-date return on average assets and return on average equity were
0.82% and 9.32%, respectively, compared with returns of 0.72% and 8.06%,
respectively, for the same period in 1999. Annualized year-to-date
equity to assets ratio was 8.15% at September 30, 2000, compared to
9.31% at September 30, 1999.
11
<PAGE> 12
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 periods presented:
<TABLE>
<CAPTION>
For the Three Months Ended September 30, 2000 For the Three Months Ended September 30, 1999
---------------------------------------------------------------------------------------------
Interest Interest
Average Income/ Average Average Income/ Average
(Dollars in thousands) Balance Expense Yield/Rate Balance Expense Yield/Rate
-------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Assets:
Loans, gross $406,982 $ 11,216 10.96% $260,884 $ 6,545 9.95%
Investment securities 47,386 720 6.05% 43,220 551 5.06%
Federal funds sold 95,837 1,564 6.49% 61,675 780 5.02%
-------- -------- -------- --------
Total interest earning assets 550,205 $ 13,500 9.76% 365,779 $ 7,876 8.54%
-------- -------- -------- --------
Cash and due from banks 24,637 18,128
Premises and equipment, net 3,711 3,177
Other assets 15,018 20,093
-------- --------
Total assets $593,571 $407,177
======== ========
Liabilities and shareholders' equity:
Deposits:
Demand, interest bearing $ 12,940 $ 41 1.27% $ 8,751 $ 28 1.27%
Savings and money market 181,818 2,240 4.90% 129,283 1,094 3.36%
Time deposits, under $100,000 56,701 928 6.51% 41,261 549 5.28%
Time deposits, $100,000 and over 126,398 1,903 5.99% 64,310 790 4.87%
Brokered deposits 10,246 178 6.91% 11,913 173 5.76%
Other borrowings 8,633 236 10.85% 304 12 15.84%
-------- -------- -------- --------
Total interest bearing liabilities 396,736 $ 5,526 5.54% 255,822 $ 2,646 4.10%
-------- -------- -------- --------
Demand deposits 140,208 105,924
Other liabilities 8,252 5,671
-------- --------
Total liabilities 545,196 367,417
Shareholders' equity
48,375 39,760
-------- --------
Total liabilities and shareholders'
equity $593,571 $407,177
======== ========
Net interest income/margin $ 7,974 5.77% $ 5,230 5.67%
======== ========
</TABLE>
Note: Yields and amounts earned on loans include loan fees of $850,000 and
$531,000 for the three month periods ended September 30, 2000 and 1999,
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 are included in the average balance
calculations above.
<TABLE>
<CAPTION>
For the Nine Months Ended September 30, 2000 For the Nine Months Ended September 30, 1999
--------------------------------------------------------------------------------------------
Interest Interest
Average Income/ Average Average Income/ Average
(Dollars in thousands) Balance Expense Yield/Rate Balance Expense Yield/Rate
-------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Assets:
Loans, gross $371,107 $ 29,606 10.66% $255,228 $ 18,794 9.84%
Investment securities 47,541 2,099 5.90% 48,946 1,944 5.31%
Federal funds sold 72,718 3,351 6.15% 39,336 1,427 4.85%
-------- -------- -------- --------
Total interest earning assets 491,366 $ 35,056 9.53% 343,510 $ 22,165 8.63%
-------- -------- -------- --------
Cash and due from banks 20,555 16,867
Premises and equipment, net 3,500 3,182
Other assets 13,716 16,482
-------- --------
Total assets $529,137 $380,041
-------- --------
Liabilities and shareholders' equity:
Deposits:
Demand, interest bearing $ 12,537 $ 123 1.31% $ 9,493 $ 102 1.44%
Savings and money market 158,455 5,329 4.49% 125,748 3,022 3.21%
Time deposits, under $100,000 51,990 2,308 5.93% 35,687 1,406 5.27%
Time deposits, $100,000 and over 105,185 4,582 5.82% 59,011 2,130 4.83%
Brokered deposits 10,981 528 6.42% 8,092 346 5.72%
Other borrowings 5,918 451 10.17% 469 22 6.25%
-------- -------- -------- --------
Total interest bearing liabilities 345,066 $ 13,321 5.16% 238,500 $ 7,028 3.94%
-------- -------- -------- --------
Demand deposits 129,990 101,720
Other liabilities
7,385 5,748
-------- --------
Total liabilities 482,441 345,968
Shareholders' equity 46,696 34,073
-------- --------
Total liabilities and
shareholders' equity $529,137 $380,041
======== ========
Net interest income/margin $ 21,735 5.90% $ 15,137 5.89%
======== ========
</TABLE>
Note: Yields and amounts earned on loans include loan fees of $2,274,000 and
$1,463,000 for the nine month periods ended September 30, 2000 and 1999,
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 are included in the average balance
calculations above.
12
<PAGE> 13
The Company's net interest income for the three and nine months ended September
30, 2000 was $7,974,000, and $21,735,000, an increase of $2,744,000 and
$6,598,000 over the three and nine months ended September 30, 1999. When
compared to the three and nine months ended September 30, 1999, average earning
assets increased by $184,426,000 and $147,856,000, or 50% and 43%. The increase
was primarily a result of increases in average loans and Fed funds sold, funded
by the increases in demand, savings, and time deposits. The net yield on average
earning assets was 5.77% and 5.90% for the three and nine months ended of
September 30, 2000, compared to 5.67% and 5.89% for the three and nine months
ended of September 30, 1999.
The following tables show the changes in interest income resulting from
increases in the 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 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.
<TABLE>
<CAPTION>
Three Months Ended September 30,
2000 vs. 1999
------------------------------------------------
Increase (Decrease) Due to Change In:
(Dollars in thousands) Average Volume Average Rate Net Change
----------------------------------------------------------------------------------
<S> <C> <C> <C>
INTEREST EARNING ASSETS
Loans, gross $ 4,105 $ 566 $ 4,671
Investment securities 69 100 169
Federal funds sold 569 215 784
------- ------- -------
Total interest earning assets $ 4,743 $ 881 $ 5,624
------- ------- -------
INTEREST BEARING LIABILITIES
Demand, interest bearing $ 13 $ -- $ 13
Money Market and Savings 666 480 1,146
Time deposits, under $100,000 260 119 379
Time deposits, $100,000 and over 945 168 1,113
Brokered Deposits (27) 32 5
Other borrowings 227 (3) 224
------- ------- -------
Total interest bearing liabilities $ 2,084 $ 796 $ 2,880
------- ------- -------
Net interest income $ 2,659 $ 85 $ 2,744
======= ======= =======
</TABLE>
<TABLE>
<CAPTION>
Nine Months Ended September 30,
2000 vs. 1999
------------------------------------------------
Increase (Decrease) Due to Change In:
(Dollars in thousands) Average Volume Average Rate Net Change
------------------------------------------------------------------------------------
<S> <C> <C> <C>
INTEREST EARNING ASSETS
Loans, gross $ 9,244 $ 1,568 $ 10,812
Investment securities (62) 217 155
Federal funds sold 1,539 385 1,924
-------- -------- --------
Total interest earning assets $ 10,721 $ 2,170 $ 12,891
-------- -------- --------
INTEREST BEARING LIABILITIES
Demand, interest bearing $ 30 $ (9) $ 21
Money Market and Savings 1,100 1,207 2,307
Time deposits, under $100,000 723 179 902
Time deposits, $100,000 and over 2,012 440 2,452
Brokered Deposits 139 43 182
Other borrowings 415 14 429
-------- -------- --------
Total interest bearing liabilities $ 4,419 $ 1,874 $ 6,293
-------- -------- --------
Net interest income $ 6,302 $ 296 $ 6,598
======== ======== ========
</TABLE>
PROVISION FOR LOAN LOSSES
For the nine months ended September 30, 2000, the provision for loan losses was
$1,484,000, compared to $1,483,000 for the nine months ended September 30, 1999.
For the third quarter of 2000, the provision for loan losses was $500,000,
compared to $356,000 for the third quarter of 1999.
13
<PAGE> 14
NONINTEREST INCOME
The following tables show the various components of the Company's noninterest
income for the periods indicated:
<TABLE>
<CAPTION>
Increase (decrease)
-------------------------
Three months ended September 30, 2000 versus 1999
------------------------------------------------------------
(Dollars in thousands) 2000 1999 Amount Percent
-------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Other investment income $ 187 $ 73 156% $ 114
Service charges and other fees 121 84 37 44%
Gain on sale of loans -- 271 (271) (100%)
Servicing income -- 1,180 (1,180) (100%)
Other income 236 194 42 (22%)
------- ------- -------
Total $ 544 $ 1,802 $(1,258) (70%)
======= ======= =======
</TABLE>
<TABLE>
<CAPTION>
Increase (decrease)
-------------------------
Nine months ended September 30, 2000 versus 1999
------------------------------------------------------------
(Dollars in thousands) 2000 1999 Amount Percent
-------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Other investment income $ 468 $ 201 $ 267 133%
Service charges and other fees 330 226 104 46%
Gain on sale of loans -- 401 (401) (100%)
Gain on sale of securities 44 1,004 (960) (96%)
available-for-sale
Servicing income 7 1,180 (1,173) (99%)
Other income 569 701 (132) (19%)
------- ------- -------
Total $ 1,418 $ 3,713 $(2,295) (62%)
======= ======= =======
</TABLE>
Noninterest income for the third quarter and the first nine months ended
September 30, 2000 was $544,000 and $1,418,000, down $1,258,000,and $2,295,000,
or 70% and 62%, from $1,802,000 and $3,713,000 for the third quarter and nine
months ended September 30, 1999. This decrease was primarily the result of
$1,180,000 in revenue from the origination of credit cards for an unaffiliated
financial institution in the third quarter of 1999, and a $1,004,000 gain on
sale of securities available-for-sale recognized in the first nine months of
1999. The credit card origination agreement terminated in 1999 and was not
renewed. There was only a $44,000 gain on sale of securities available-for-sale
recognized in the first nine months of 2000. The increase in other investment
income was primarily due to the increase of Company's investment in certain life
insurance contracts. The decrease in gain on sale of loans was primarily due to
not selling of SBA loans in the three months and nine months period ended
September 30, 2000, compared to $130,000 gain on sale of SBA loan in the nine
months period ended September 30, 1999.
NONINTEREST EXPENSE
The following tables show the various components of the Company's noninterest
expenses for the periods indicated:
<TABLE>
<CAPTION>
For The Three Months Ended September 30,
-------------------------------------------------------
Increase Percent Increase
(Dollars in thousands) 2000 1999 (Decrease) (Decrease)
------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Salaries and benefits $2,921 $2,714 $ 207 8%
Client services 589 362 227 63%
Professional fees 430 884 (454) (51%)
Occupancy 386 300 86 29%
Loan origination costs 277 145 132 91%
Advertising and promotion 270 215 55 26%
Furniture and equipment 256 244 12 5%
Shareholder relations 154 19 135 711%
Assessments expense 93 80 13 16%
Stationery & supplies 72 91 (19) (21%)
Telephone expense 68 56 12 21%
Software subscriptions 44 21 23 110%
All other 262 372 (110) (30%)
------ ------ ------
Total $5,822 $5,503 $ 319 6%
====== ====== ======
</TABLE>
14
<PAGE> 15
<TABLE>
<CAPTION>
For The Three Months Ended September 30,
-------------------------------------------------------
Increase Percent Increase
(Dollars in thousands) 2000 1999 (Decrease) (Decrease)
------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Salaries and benefits $ 9,598 $ 7,678 $ 1,920 25%
Client services 1,227 1,158 69 6%
Professional fees 1,082 1,129 (47) (4%)
Occupancy 1,040 793 247 31%
Loan origination costs 725 401 324 81%
Advertising and promotion 506 592 (86) (15%)
Furniture and equipment 712 824 (112) (14%)
Shareholder relations 235 15 220 1,467%
Assessments expense 137 123 14 11%
Stationery & supplies 203 226 (23) (10%)
Telephone expense 192 159 33 21%
Software subscriptions 184 105 79 75%
All other 745 1,049 (304) (29%)
------- ------- -------
Total $16,586 $14,252 $ 2,334 16%
======= ======= =======
</TABLE>
Noninterest expenses for the third quarter and nine months ended September 30,
2000 were $5,822,000 and $16,586,000, up $319,000 and $2,334,000, or 6% and 16%,
from $5,503,000 and $14,252,000 for the third quarter and nine months ended
September 30, 1999. The overall increase in noninterest expenses reflects the
growth in infrastructure to support the Company's loan and deposit growth and
the opening of Heritage Bank South Valley.
Noninterest expenses consist primarily of salaries and employee benefits (50%
and 49% of total noninterest expenses for the third quarter of 2000 and 1999,
58% and 54% of total noninterest expenses for the nine months ended September
30, 2000 and 1999), client services (10% and 7% of total noninterest expenses
for the third quarter of 2000 and 1999, 7% and 8% of total noninterest expenses
for the nine months ended September 30, 2000 and 1999), professional fees (7%
and 6% of total noninterest expenses for the third quarter of 2000 and 1999, 7%
and 8% of the nine months ended September 30, 2000 and 1999), occupancy (7% and
5% of total noninterest expenses for the third quarter of 2000 and 1999, 6% for
both the nine months ended September 30, 2000 and 1999), and loan origination
costs (5% and 4% of total noninterest expenses for the third quarters of 2000
and 1999, 4% and 3% of total noninterest expenses for the nine months ended
September 30, 2000 and 1999). The overall increase in salaries and benefits
expense was primarily attributable to an overall increase in salaries and
severance payments of $630,000 related to changes in management. The Company
employed 142 people at September 30, 2000, compared to 135 employees at
September 30, 1999. The increase in occupancy expense was primarily attributable
to the opening of Heritage Bank South Valley. The increase in shareholder
relations expense was primarily for the printing of proxy material for the
merger with Western Holdings Bancorp, and fees charged for filing the annual
report and quarterly reports to the SEC. The increase in software subscription
expense was attributable to updating computer system for the merger with Bank of
Los Altos. The increase in loan origination costs was mainly due to the increase
volume of loans in 2000.
In the fourth quarter of 2000, the Company will recognize certain significant
additional expenses related to the merger with Western Holdings. The Company
originally estimated these expenses at $2.1 million before the related tax
benefit or $1.3 million net of tax benefit. As a result of two members of
Western Holdings' senior management not continuing with the Company, the related
severance obligations are expected to increase the merger and integration
related expenses by approximately $1.6 million to approximately $3.7 million, or
$2.4 million net of tax benefit.
INCOME TAXES
The provision for income taxes for the three and nine months ended September 30,
2000 was $785,000 and $1,825,000, both 36%, as compared to $420,000 and
$1,060,000, 36% and 34%, for the three and nine months ended September 30, 1999.
The difference in the effective tax rate compared to the statutory tax rate and
the increase in the effective tax rate is primarily the result of the activity
related to the Company's holdings in certain life insurance contracts and
changes in the level of investments in municipal securities.
15
<PAGE> 16
FINANCIAL CONDITION
Total assets increased 28% to $607,848,000 at September 30, 2000, compared to
$476,664,000 at December 31, 1999. The growth was primarily due to increases in
the Company's loan portfolio funded by growth in deposits.
SECURITIES PORTFOLIO
The following table summarizes the composition of the Company's investment
securities and the weighted average yields at September 30, 2000:
<TABLE>
<CAPTION>
September 30, 2000
----------------------------------------------------------------------------------------------------
Maturity
----------------------------------------------------------------------------------------------------
After One Year and After Five Years and
Within One Year Within Five Years Within Ten Years After Ten Years Total Amortized Cost
------------------------------------------------------------------------------------------------------------------------------------
(Dollars in thousands) Amount Yield Amount Yield Amount Yield Amount Yield Amount Yield
------------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Securities available-for-sale:
U.S. Treasury $ 8,046 5.28% $ -- -- $ -- -- $ -- -- $ 8,046 5.28%
Agencies 1,987 6.66% 15,934 6.87% -- -- -- -- 17,921 6.85%
Mortgage backed -- -- -- -- 1,979 7.23% 2,921 7.34% 4,900 7.30%
Municipals - taxable 320 6.51% -- -- -- -- -- -- 320 6.51%
Municipals - nontaxable -- -- 115 4.60% 5,069 4.74% 851 5.36% 6,035 4.82%
------- ------- ------- ------- -------
Total available-for-sale $10,353 5.58% $16,049 6.85% $ 7,048 5.44% $ 3,772 6.89% $37,222 6.24%
Securities held-to-maturity:
Municipals - taxable $ 936 6.71% $ 3,572 6.48% $ -- -- $ -- -- $ 4,508 6.53%
Municipals - nontaxable -- -- 1,082 4.73% 6,127 4.51% 204 4.45% 7,413 4.54%
------- ------- ------- ------- -------
Total held-to-maturity $ 936 6.71% $ 4,654 6.07% $ 6,127 4.51% $ 204 4.45% $11,921 5.29%
------- ------- ------- ------- -------
Total securities $11,289 5.68% $20,703 6.68% $13,175 5.01% $ 3,976 6.77% $49,143 6.01%
======= ======= ======= ======= =======
</TABLE>
Note: Yield on non-taxable municipal securities are not presented in a fully
tax equivalent basis.
LOANS
Total gross loans increased 41% to $383,994,000 at September 30, 2000, as
compared to $271,931,000 at December 31, 1999. The increase in loan balances was
due to the business development efforts of the Company.
The following table indicates the Company's loan portfolio for the periods
indicated:
<TABLE>
<CAPTION>
(Dollars in thousands) September 30, 2000 % of Total December 31, 1999 % of Total
---------------------- ------------------ ---------- ----------------- ----------
<S> <C> <C> <C> <C>
Commercial, financial, and
agricultural $ 141,851 37% $ 117,918 43%
Real estate - land and construction 118,245 31% 68,152 25%
Real estate - mortgage 121,106 31% 83,698 31%
Consumer 2,792 1% 2,163 1%
--------- --------- --------- ---------
Total loans 383,994 100% 271,931 100%
Deferred loan fees (391) (76)
Allowance for loan losses (6,500) (5,003)
--------- ---------
Loans, net $ 377,103 $ 266,852
========= =========
</TABLE>
The change in the Company's loan portfolio is primarily due to the increase in
the commercial and real estate mortgage, land and construction loan portfolio.
The decrease of the percentage of total loans reflects the sale of the Internet
credit card portfolio in 1999.
16
<PAGE> 17
The Company's loan portfolio is based in commercial (primarily to companies
engaged in manufacturing, wholesale, and service businesses) and real estate
lending, with the balance in consumer loans. However, 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.
The following table sets forth the maturity distribution of the Company's loans
at September 30, 2000:
<TABLE>
<CAPTION>
Over One Year
Due in But Less Than
(Dollars in thousands) One Year or Less Five Year Over Five Years Total
---------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Commercial $130,729 $ 10,583 $ 148 $141,460
Real estate - mortgage 59,359 45,831 15,916 121,106
Real estate - land and construction 118,148 97 -- 118,245
Consumer 1,734 1,055 3 2,792
-------- -------- -------- --------
Total loans $309,970 $ 57,566 $ 16,067 $383,603
======== ======== ======== ========
Loans with variable interest rates $300,431 $ 19,549 $ 489 $320,469
Loans with fixed interest rates 9,539 38,017 15,578 63,134
-------- -------- -------- --------
Total loans $309,970 $ 57,566 $ 16,067 $383,603
======== ======== ======== ========
</TABLE>
Note: Total shown is net of deferred loan fees of $391,000 at September 30,
2000.
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 of The Wall Street Journal. At September 30,
2000, approximately 84% 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, troubled debt restructurings and other real estate owned. The
following table shows nonperforming assets at the dates indicated
<TABLE>
<CAPTION>
September 30, December 31,
(Dollars in thousands) 2000 1999 1999
---------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Nonaccural loans .............................................................. $ -- $1,187 $1,396
Loans 90 days past due and still accruing ..................................... -- -- --
Restructured loans ............................................................ -- -- --
----- ------ ------
Total nonperforming loans .................................................. -- 1,187 1,396
Foreclosed assets ............................................................. -- -- --
----- ------ ------
Total nonperforming assets ................................................. $ -- $1,187 $1,396
===== ====== ======
Nonperforming assets as a percentage of period end loans plus foreclosed assets --% 0.48% 0.51%
</TABLE>
The Company had no non-performing assets (NPA's) as of September 30, 2000. NPA's
were $1,187,000 as of September 30, 1999 and $1,396,000 as of December 31, 1999.
17
<PAGE> 18
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".
The following table summarizes the Companys' loan loss experience as well as
transactions in the allowance for loan losses and certain pertinent ratios for
the periods indicated:
<TABLE>
<CAPTION>
September 30, 2000 December 31,
(Dollars in thousands) 2000 1999 1999
---- ---- ----
<S> <C> <C> <C>
Balance, beginning of period ...................................... $ 5,003 $ 3,825 $ 3,825
Charge-offs:
Domestic:
Commercial, financial and agricultural ....................... (20) (194) (203)
Real estate-land and construction ............................ -- -- --
Real estate-mortgage ......................................... -- -- --
Installment loans/credit card ................................ -- (603) (603)
------- ------- -------
Total charge-offs ................................................ (20) (797) (806)
Recoveries:
Domestic:
Commercial, financial and agricultural ....................... 33 58 64
Real estate-land and construction ............................ -- -- --
Real estate-mortgage ......................................... -- -- --
Installment loans/credit card ................................ -- -- 9
======= ======= =======
Total recoveries .................................................. 33 58 73
------- ------- -------
Net (charge-offs) recoveries ...................................... 13 (739) (733)
Provision for loan losses ......................................... 1,484 1,483 1,911
------- ------- -------
Balance, end of period ............................................ $ 6,500 $ 4,569 $ 5,003
======= ======= =======
RATIOS:
Net (charge-offs) recoveries to average loans outstanding ......... 0.01% 0.31% 0.30%
Allowance for loan losses to average loans ........................ 1.70% 1.85% 2.04%
Allowance for loan losses to total loans at end of period ......... 1.69% 1.86% 1.84%
Allowance for loan losses to nonperforming loans .................. --% 385% 358%
</TABLE>
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:
<TABLE>
<CAPTION>
September 30, 2000 September 30, 1999 December 31, 1999
----------------------------------------------------------------------------------
Percent of ALL Percent of ALL
in each category Percent of ALL in each
to in each category Category to total
(Dollars in thousands) Amount total loans Amount to total loans Amount loans
----------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Commercial $3,121 2.21% $2,196 2.08% $2,635 2.23%
Real estate - land and
construction 1,481 1.25% 1,064 1.55% 1,076 1.58%
Real estate - mortgage 512 0.42% 293 0.42% 356 0.43%
Consumer 49 1.74% 28 1.37% 32 1.48%
Unallocated 1,337 --% 988 --% 904 --%
------ ------ ------
Total $6,500 1.69% $4,569 1.86% $5,003 1.84%
====== ====== ======
</TABLE>
18
<PAGE> 19
The increase in the allowance for loan losses reflects the growth in the
Company's overall level of loans, primarily in the commercial and real estate
loan portfolio offset by the decrease resulting from the sale of the Internet
credit card portfolio in 1999.
DEPOSITS
Deposits totaled $535,534,000 at September 30, 2000, an increase of 28%, as
compared to total deposits of $418,540,000 at December 31, 1999. The increase in
deposits was primarily due to increases in noninterest bearing deposits,
interest bearing deposits, and time deposits, primarily time deposits $100,000
and over. Noninterest bearing deposits, interest bearing deposits, were
$158,352,000 at September 30, 2000, as compared to $109,432,000 at December 31,
1999. Interest bearing deposits were $14,849,000 at September 30, 2000, as
compared to $9,898,000 at December 31, 1999. Time deposits were $183,434,000 at
September 30, 2000, as compared to $135,150,000 at December 31, 1999.
The following table summarizes the distribution of average deposits and the
average rates paid for the periods indicated:
<TABLE>
<CAPTION>
Nine months ended Year ended
September 30, 2000 December 31, 1999
----------------------------------------------
Average Average Average Average
(Dollars in thousands) Balance Rate Paid Balance Rate Paid
-------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Demand, noninterest bearing $129,990 --% $106,397 --%
Demand, interest bearing 12,537 1.31% 9,476 1.40%
Saving and money market 158,455 4.49% 133,890 3.41%
Time deposits, under $100,000 51,990 5.93% 38,295 5.34%
Time deposits, $100,000 and over 105,185 5.82% 64,696 4.88%
Brokered deposits 10,981 6.42% 8,812 5.88%
-------- --------
Total average deposits $469,138 3.66% $361,566 2.88%
======== ========
</TABLE>
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, 2000.
<TABLE>
<CAPTION>
(Dollars in thousands) Balance % of Total
---------------------------------------------------------------------
<S> <C> <C>
Three months or less $ 56,200 44%
Over three months through twelve months 65,548 51%
Over twelve months 7,104 5%
-------- --------
Total $128,852 100%
======== ========
</TABLE>
Due to the Company's focus on servicing business accounts, 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.
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.
19
<PAGE> 20
The following table sets forth the interest rate sensitivity of the Company's
interest-earning assets and interest-bearing liabilities at September 30, 2000,
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:
<TABLE>
<CAPTION>
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
--------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
INTEREST EARNING ASSETS:
Federal funds sold $ 94,700 $ -- $ -- $ -- $ -- $ 94,700
Securities -- 11,243 20,807 18,248 -- 50,298
Total loans 314,814 25,809 57,566 16,067 -- 414,256
--------- --------- --------- --------- --------- ---------
Total interest earning assets 409,514 37,052 78,373 34,315 -- 559,254
--------- --------- --------- --------- --------- ---------
Cash and due from banks -- -- -- -- 28,152 28,152
Other assets -- -- -- -- 20,442 20,442
--------- --------- --------- --------- --------- ---------
Total assets $ 409,514 $ 37,052 $ 78,373 $ 34,315 $ 48,594 $ 607,848
========= ========= ========= ========= ========= =========
INTEREST BEARING LIABILITIES:
Demand, interest bearing $ 14,849 $ -- $ -- $ -- $ -- 14,849
Savings and money market 178,900 -- -- -- -- 178,900
Time deposits 71,547 99,380 12,507 -- -- 183,434
--------- --------- --------- --------- --------- ---------
Total interest bearing liabilities 265,296 99,380 12,507 -- -- 377,183
--------- --------- --------- --------- --------- ---------
Noninterest demand deposits 72,105 -- -- -- 86,246 158,351
Other liabilities -- -- -- -- 22,778 22,778
Shareholders' equity -- -- -- -- 49,536 49,536
--------- --------- --------- --------- --------- ---------
Total liabilities and shareholders' equity $ 337,401 $ 99,380 $ 12,507 $ -- $ 158,560 $ 607,848
========= ========= ========= ========= ========= =========
Interest rate sensitivity GAP $ 72,113 $ (62,328) $ 65,866 $ 34,315 $(109,966) $ --
========= ========= ========= ========= ========= =========
Cumulative interest rate sensitivity GAP $ 72,113 $ 9,785 $ 75,651 $ 109,966 $ -- $ --
Cumulative interest rate sensitivity GAP ratio 11.86% 1.61% 12.45% 18.09% --% --%
</TABLE>
The foregoing table demonstrates that the Company had a positive cumulative one
year gap of $9,787,000, or 1.61% of total assets, at September 30, 2000. In
theory, this would indicate that $9,787,000 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
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.
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, 2000, the Company's primary liquidity ratio was 26.8%, comprised
of $26.5 million in investment securities available-for-sale with maturities (or
probable calls) of up to five years, less $10 million of available-for-sale
securities that were pledged to secure public and certain other deposits as
required by law and contract; Federal funds sold of $94.7 million, and $28.2
million in cash and due from banks, as a percentage of total unsecured deposits
of $520.6 million. The decline in the liquidity ratio from 34.0% at December 31,
1999 was a result of the use of liquid assets to fund loan growth during the
first nine months of 2000.
20
<PAGE> 21
CAPITAL RESOURCES
The following table summarizes risk-based capital, risk-weighted assets, and
risk-based capital ratios of the Company:
<TABLE>
<CAPTION>
September 30, December 31,
------------------------------------
(Dollars in thousands) 2000 1999 1999
---------------------------------------------------------------------
<S> <C> <C> <C>
Capital components:
Tier 1 Capital $ 63,439 $ 43,531 $ 44,530
Tier 2 Capital 6,423 4,313 4,646
-------- -------- --------
Total risk-based capital $ 69,862 $ 47,844 $ 49,176
======== ======== ========
Risk-weighted assets $513,731 $344,751 $371,322
Average assets $593,571 $406,686 $475,295
</TABLE>
<TABLE>
<CAPTION>
Minimum
Regulatory
Requirements
------------
<S> <C> <C> <C> <C>
Capital ratios:
Total risk-based capital 13.6% 13.9% 13.2% 8.0%
Tier 1 risk-based capital 12.3% 12.6% 12.0% 4.0%
Leverage ratio (1) 10.7% 10.7% 9.4% 4.0%
</TABLE>
(1) Tier 1 capital divided by 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 4. - Submission of Matters to a Vote of Security Holders.
On August 24, 2000, the Company held a special meeting of shareholders to vote
on a proposal to approve a merger among Heritage, Western Holdings Bancorp and
its subsidiary Bank of Los Altos Bank. The vote was as follows:
<TABLE>
<CAPTION>
For Against Abstain Broker Non-Votes
<S> <C> <C> <C>
4,418,169 10,130 660 2,605,598
</TABLE>
21
<PAGE> 22
Item 6. - Exhibits and Reports on Form 8-K
(a) Exhibits included with this filing:
<TABLE>
<CAPTION>
Exhibit Number Name
----------------------------------------------------------------------------
<S> <C>
27.1 Financial Data Schedule
</TABLE>
(b) Reports on Form 8-K
On July 24, 2000, the Company filed its earnings press release for the second
quarter ended June 30, 2000 with the SEC on Form 8-K under item 5. The report
included the unaudited three months and six months income statements and balance
sheets as of June 30, 2000 and 1999.
On October 16, 2000 the Company filed its press release for the completed merger
with Western Holdings Bancorp with the SEC on Form 8-K under item 2 and item 7.
The report included the unaudited pro forma condensed combined balance sheet as
of June 30, 2000, and the pro forma condensed combined income statement for the
six months period ended June 30, 2000.
On October 24, 2000, the Company filed its earnings press release for the third
quarter ended September 30, 2000 with the SEC on Form 8-K under item 5. The
report included the unaudited three months and six months income statements and
balance sheets as of September 30, 2000 and 1999.
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)
<TABLE>
<S> <C>
November 14, 2000 /s/ Richard L. Conniff
-------------------------------- ------------------------------------------
Date Richard L. Conniff, President and COO
November 14, 2000 /s/ Brad L. Smith
-------------------------------- ------------------------------------------
Date Brad L. Smith, Chairman of the Board and CEO
</TABLE>
22
<PAGE> 23
EXHIBIT INDEX
<TABLE>
<CAPTION>
EXHIBIT
NUMBER DESCRIPTION
------ -----------
<S> <C>
27.1 Financial Data Schedule
</TABLE>
