Heritage Financial Corporation Q2 FY2025 earnings call

• Balance Sheet: Total loan balances up $10M; deposits down $60.9M but average up $35.4M; investments down $67.6M with pretax loss on security sales.
• Income Statement: Net interest income up 2.4%; net interest margin at 3.51%; provision for credit losses $956k; noninterest expense down $298k.
• Credit Quality: Nonaccrual loans up, nonperforming loans up, criticized loans up; net charge-offs $494k for Q2.
• Loan Production: Commercial lending group closed $248M in new loan commitments; pipeline at $473M; expecting $300M in Q3 commercial team new loan commitments

Loan Segment: Total loan balances increased $10 million in Q2; loan portfolio yields were 5.50%, 5 basis points higher than Q1 due to new loans at higher rates and adjustable rate loans repricing. Deposit Segment: Total deposits decreased $60.9 million in Q2 due to seasonal tax payments, but average total deposits increased $35.4 million from prior quarter. Investment Segment: Investment balances decreased $67.6 million, with a pretax loss of $6.9 million on selling $91.6 million of securities. Net Interest Income: Increased $1.3 million or 2.4% from prior quarter, net interest margin at 3.51%. Noninterest Expense: Decreased $298,000, guided to $41 million to $42 million for quarterly noninterest expenses in 2025. Capital: Regulatory capital ratios above well-capitalized thresholds, TCE ratio 9.4%

• Optimistic trends will continue for higher profitability. - Loan balances expected flat in Q3 due to construction paydowns, then resume growth. - Noninterest expense guided $41M-$42M for the year

• Seasonal decline in deposits. - Elevated payoffs and prepayments affecting loan balances. - Increase in nonperforming and substandard loans impacting credit quality. - Market uncertainty affecting borrower capital plans

Q: Don, on the loss trade, do you have a projected earn-back on that as kind of the timing? And then what the expected near-term margin impact would be or benefit?

A: Well, we have it actually on page we happen to see on Page 6 of our investor presentation, we have kind of that information for Q2. It's approximately a 3-year earn-back on the Q2 activity. In total, we've been doing about 2 years in total, but it was a little longer in Q2. But the pickup is estimated about -- I think about $15 -- $0.05, I'm sorry. So -- or $2.3 million pretax. So I don't have the exact yield pickup for you, but you can -- I guess you can figure that out with those numbers.

Q: This is Adam Kroll on for Matthew Clark. So maybe to start, you have really strong growth in commitments and originations during the quarter. So I was just curious on where you see the largest opportunities for loan growth. And also, you mentioned some pause among borrowers given the uncertainty on tariffs, but I would be curious on how that sentiment compares to April?

A: Sure. And I -- just in terms of the mix of loans that we're seeing, Slide 13 in the investor presentation at the bottom has the breakout between the categories. And it's really CRE more so in the second quarter and first quarter was pretty flat between the different categories as we kind of finish out the year, see a little bit more commercial volume in the pipeline and owner-occupied, although some CRE in there as well. So maybe a little bit more balancing similar to the first quarter, although higher levels. And that's really pretty typical. We're marketing for C&I and owner-occupied and then also doing some nonowner business at the same time. And what was the second part of your question?

Q: Just maybe how the sentiment among your borrowers has changed? I know you mentioned some pause with uncertainty on tariffs, but just maybe how that changed over the quarter?

A: Yes. It's -- we're seeing, as I mentioned, the pipeline is -- remains strong. I think had it not been for the level of uncertainty in the market, we would see the pipeline up above where it is now. So I guess the good news is we grew the pipeline quarter-over-quarter. We're down a little bit versus last year, but not much. We're at $473 million versus $480 million. I would guess we'd be at just for kind of reference, $520 million, $530 million, $550 million, if it wasn't for kind of the tariff activity. So that gives you a sense maybe the pipeline is off somewhere around 5% to 10% of where it would be otherwise. And out in the offices visiting with the bankers, things are just moving a little slower in some of the offices with the customers. And then in other cases, we've got bankers with a more full pipeline. So this is a little bit more intermittent than I think what we would see had we not had the disruption and some level of continued disruption in the market