Heritage Financial Q3 2024 Earnings Call Transcript

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Provided by Quartr
October 24, 2024

Key Takeaways

  • Loan and deposit growth remained robust as Q3 loan balances rose by $147 M and deposits by $193 M, driving net interest income up 3.6% sequentially and expanding NIM to 3.33%.
  • Sold $71 M of securities at a $6.9 M loss to fund higher-yielding loans, a repositioning expected to generate approximately $3 M in annual pretax income with a two-year earn-back period.
  • Credit quality stayed strong with net charge-offs at 0.05% of total loans and nonaccrual loans at 0.09% of the portfolio, aside from one owner-occupied CRE charge-off under active management.
  • Despite lowering the overhead ratio to 2.18%, noninterest expenses are forecast to rise to $41–42 M per quarter in 2025 due to wage increases, payroll taxes, and higher vendor costs.
  • Repurchased 347,000 shares (~1% of outstanding) at an average cost of $21.40, leaving 1.16 M shares available under the current buyback authorization.
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Earnings Conference Call
Heritage Financial Q3 2024
00:00 / 00:00

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Operator

Hello, everyone, a warm welcome to the Heritage Financial Q3 2024 Earnings Call. My name is Emily, and I'll be coordinating your call today. After the presentation, you will have the opportunity to ask any questions, which you can do so by pressing star or by the number one on your telephone keypad. I will now turn the call over to CEO, Jeff Deuel, to begin. Please go ahead.

Jeffrey Deuel
Jeffrey Deuel
CEO at Heritage Financial Corporation

Thank you, Emily. Welcome and good morning to everyone who called in, or those who may listen later. This is Jeff Deuel, CEO of Heritage Financial. Attending with me are Brian McDonald, President and CEO of Heritage Bank, Don Hinson, Chief Financial Officer, and Tony Chalfant, Chief Credit Officer. Our third quarter earnings release went out this morning pre-market, and hopefully, you have had the opportunity to review it prior to the call. We have also posted an updated third quarter investor presentation on the Investor Relations portion of our corporate website, which includes more detail on our deposits, loan portfolio, liquidity, and credit quality. We will reference this presentation during the call. Please refer to the forward-looking statements in the press release.

Jeffrey Deuel
Jeffrey Deuel
CEO at Heritage Financial Corporation

We're very pleased with our operating results for the third quarter, including strong loan growth, deposit growth, margin expansion, and the continued benefits from our expense management efforts. The increases in average earning assets and net interest margin resulted in improvement in net interest income. We are optimistic the combination of core balance sheet growth and prudent risk management will continue to benefit our core profitability. We will now move to Don, who will take a few minutes to cover our financial results.

Donald Hinson
Donald Hinson
CFO at Heritage Financial Corporation

Thank you, Jeff. I'll be reviewing some of the main drivers of our performance for Q3 as I walk through our financial results. Unless otherwise noted, all the prior period comparisons will be with the second quarter of 2024. Starting with the balance sheet, loan growth was strong again in Q3, with loan balances increasing $147 million for the quarter. Yields in the loan portfolio were 5.60%, which was eight basis points higher than Q2. Brian McDonald will have an update on loan production and yields in a few minutes. We are very pleased that we also had a strong quarter for deposit growth. Total deposits increased $193 million for the quarter, of which about $83 million was in non-interest-bearing deposits.

Donald Hinson
Donald Hinson
CFO at Heritage Financial Corporation

Although there continues to be a change in the mix of interest-bearing deposits from non-maturity deposit balances to CDs, it is occurring at a much slower pace. The percentage of CDs to total deposits only increased to 16.5% from 16% at the end of Q2, and this is net of lowering our brokered CD balances by $10 million during the quarter. It is noteworthy that in Q4, we have $420 million of CDs maturing at an average cost of 4.56%. This represents almost half of our total CD balances, which we're expecting to reprice lower due to the decline in market rates.

Donald Hinson
Donald Hinson
CFO at Heritage Financial Corporation

Due to the normal lag effect in the movement of non-maturity deposit costs after a Fed rate cut, we are not expecting the cost of these deposits to decrease much in Q4, as there continues to be strong competition for deposit dollars. Our cost of interest-bearing deposits was 2.02% for Q3, compared to 2.03% for the month of September. The spot rate for interest-bearing deposits as of September 30th was 2.04%. Investment balances decreased $86 million, mostly due to a loss trade executed during the quarter. A loss of $6.9 million was recognized in the sale of $71 million of securities. These sales were part of our strategic repositioning of our balance sheet, and proceeds from the sales were used for other balance sheet initiatives, such as the funding of higher-yielding loans.

Donald Hinson
Donald Hinson
CFO at Heritage Financial Corporation

It is estimated that the annual pre-tax income improvement from the loss trade is approximately $3 million, resulting in an earn back period of about two years. In addition to providing funds for loan growth, the combination of investment sales and deposit growth also allowed us to pay down borrowings by $118 million in Q3. Of the remaining balance of $382 million at the end of the quarter, $64 million are overnight borrowings, and another $148 million mature later in Q4. Moving on to the income statement, net interest income increased $1.8 million, which is 3.6% or 14% on an annualized basis. This improvement from the prior quarter was due to increases in both average earning assets and net interest margin.

Donald Hinson
Donald Hinson
CFO at Heritage Financial Corporation

The net interest margin increased to 3.33% for Q3 from 3.29% in the prior quarter, due to a combination of increased loan yields and reduced balances and higher costing borrowings, partially offset by an increase in the cost of deposits. Please see page 27, our investor presentation, for more information on net interest income and net interest margin. We recognized the provision for credit losses in the amount of $2.4 million during Q3, which is an increase from $1.3 million in the prior quarter. The provision expense was due to a combination of loan growth and a larger charge-off recognized in Q3. Tony will have an additional information on this charge-off and other credit quality metrics in a few moments.

Donald Hinson
Donald Hinson
CFO at Heritage Financial Corporation

Non-interest expense increased slightly from the prior quarter, but was $1.7 million lower than Q3 2023 levels. We continue to tightly manage FTE levels and other expenses in order to lower our overhead ratio, which decreased to 2.18% from 2.21% in the prior quarter and 2.25% in Q3 2023. Finally, moving on to capital. All of our regulatory capital ratios remain comfortably above well-capitalized thresholds, and our TC ratio was 9.1%, up from 8.9% in the prior quarter. Our strong capital ratios have allowed us to be active in loss trades on investments and in stock buybacks.

Donald Hinson
Donald Hinson
CFO at Heritage Financial Corporation

During Q3, we repurchased 347,000 shares, or approximately 1% of outstanding shares, as part of our stock repurchase program at a weighted average cost of $21.40 or 116% of September 30th tangible book value per share. We have 1.16 million shares available for repurchase under the current repurchase plan as of the end of Q3. I will now pass the call to Tony, who will have an update on our credit quality.

Tony Chalfant
Tony Chalfant
Chief Credit Officer at Heritage Financial Corporation

Thank you, Don. During the quarter, we experienced total charge-offs of just under $2.7 million, with the majority tied to one owner-occupied CRE loan. The owner-occupant has ceased business operations, and the final repayment of this loan will be dependent on the sale of the real estate collateral. It is worth noting that this loan was a known problem and has been actively managed by our Special Assets team since December 2022. Modest recoveries of $112,000 led to net charge-offs of just over $2.5 million during the quarter. Through the first nine months of the year, we had just under $2.5 million in net charge-offs, representing 0.05% of total loans, which is very much in line with historical norms.

Tony Chalfant
Tony Chalfant
Chief Credit Officer at Heritage Financial Corporation

By comparison, our average annual net charge-offs for the three-year period, 2018 through 2020, represented just over 0.07% of average total loans. Nonaccrual loans totaled $4.3 million, and we do not hold any OREO. This represents 0.09% of total loans and compares to 0.08% at the end of the second quarter. Overall, nonaccrual loans increased by $475,000 during the quarter. Most of the increase came from the previously mentioned owner-occupied CRE loan. This loan was placed on nonaccrual status during the quarter and then partially charged off near quarter end. This increase was largely offset by the receipt of SBA guarantee funds on a different loan that fully repaid the outstanding balance of just over $1.6 million.

Tony Chalfant
Tony Chalfant
Chief Credit Officer at Heritage Financial Corporation

Page eighteen of the investor presentation reflects the stability in our nonaccrual loans over the past two-plus years. Our nonperforming loan totals increased modestly during the quarter, primarily due to our loans past due more than ninety days and still accruing. The majority of the $5.3 million in balances is attributed to one classified C&I relationship that is being actively-

Operator

Hello, everyone. We apologize for the interruption. We will resume today's call momentarily.

Operator

Hello, everyone. We apologize for the delay in today's call. Management have lost network connection briefly. We've just regained our connection to them, and your call will resume momentarily. Thank you for your patience.

Jeffrey Deuel
Jeffrey Deuel
CEO at Heritage Financial Corporation

Thank you, Emily. Apologies to everyone on the call. This is Jeff. We lost network connectivity at our location. We're back on with our cell phones, hopefully with no more interruptions. We're going to go back to Tony's presentation. He was at the point we got cut off, referencing page eighteen of the investor deck for more information on nonaccrual loans over the past two-plus years. With that reference, Tony, I'll hand it back to you and let you finish your presentation.

Tony Chalfant
Tony Chalfant
Chief Credit Officer at Heritage Financial Corporation

Great. Thanks, Jeff. Our non-performing loan totals increased modestly during the quarter, due primarily to our loans past due more than 90 days and still accruing. The majority of the $5.3 million in balances is attributed to one classified C&I relationship that is being actively managed by our Special assets team. The loans remain on accrual status as they are well secured and in the process of collection. Criticized loans, those rated Special Mention and Substandard, totaled $171 million at quarter end, declining by $5 million or 2.9% during the quarter. While still higher than year-end 2023, they have been stable at each quarter end in 2024.

Tony Chalfant
Tony Chalfant
Chief Credit Officer at Heritage Financial Corporation

It is worth noting that loans in the more severe Substandard category were down by just under $11 million during the quarter from a combination of payoffs, paydowns, and upgrades. At 1.5% of total loans, Substandard loans show stable trends when compared to the 1.6% reflected at year-end 2022 and 2023. Despite the previously mentioned charge-offs, the credit quality of our office loan portfolio remained stable during the quarter. This loan segment represents $554 million, or 11.8% of total loans, and is split evenly between owner and non-owner occupied properties. The average loan size is $1 million. They are diversified by geographic location, and we have little exposure to the core downtown markets.

Tony Chalfant
Tony Chalfant
Chief Credit Officer at Heritage Financial Corporation

Criticized office loans are limited to just under $16 million or 2.9% of total office loans, down from the 3.4% at the end of the prior quarter. Page 17 of the investor presentation provides more detailed information about our office loan portfolio. Overall, we are pleased that our credit quality remains strong at quarter end and believe this reflects our consistent and disciplined approach to credit underwriting and concentration management. I will now turn the call over to Brian for an update on loan production.

Brian McDonald
President and CEO at Heritage Bank

Thanks, Tony. I'm going to provide detail on our third quarter loan production results, starting with our commercial lending group. For the quarter, our commercial teams closed $253 million in new loan commitments, up 16% from the $218 million last quarter and up from the $217 million closed in the third quarter of 2023. Please refer to page 13 in the investor presentation for additional detail on new originated loans over the past five quarters. The commercial loan pipeline ended the third quarter at $491 million, up from $480 million last quarter and up from the $291 million at the end of the third quarter of 2023. Loan demand picked up in the third quarter, with new opportunities more than replacing a strong volume of closed new business.

Brian McDonald
President and CEO at Heritage Bank

Competitive pressure has continued at an elevated level for both commercial real estate and commercial business loans, but increased activity levels by our bankers, along with the new teams we added over the past couple of years, are offsetting this pressure and driving the higher production and pipeline levels. Loan growth for the third quarter was very strong at $147 million, up from the $104.5 million of growth we achieved last quarter. The growth was driven by an increase in closed business across the footprint, both from existing and new customers. Please see slides 14 and 16 of the investor presentation for further detail on the change in loans during the quarter. We previously communicated an expectation of higher construction loan payoffs in the second half of 2024 and moderating loan growth rates.

Brian McDonald
President and CEO at Heritage Bank

It now looks like the majority of these payoffs will occur in early 2025, setting us up for a stronger than anticipated loan growth through year-end. The deposit pipeline ended the quarter at $165 million, compared to $231 million last quarter. The average balance on new accounts opened during the quarter are estimated at $72 million, compared to $77 million last quarter. Building on the momentum we saw in Q2, deposits grew by $193 million during the quarter. The growth was the result of new and expanded relationships, lower outflows of excess customer funds, moving to higher rate options elsewhere, and a return of seasonal trends. Moving to interest rates.

Brian McDonald
President and CEO at Heritage Bank

Our average third quarter interest rate for new commercial loans was 6.53%, which is down 35 basis points versus the 6.8% average for last quarter. The decline was due to index rates declining ahead of anticipated Fed action. Loan spreads are holding in spite of competitive market conditions in the owner-occupied commercial real estate, non-owner occupied commercial real estate, and commercial construction segments. In addition, the third quarter rate for all new loans was 6.59%, down 30 basis points from 6.89% last quarter. Before turning the call back to Jeff, I want to highlight the press release we issued yesterday afternoon, which announced the hiring of Nick Byl as our new Chief Operating Officer.

Brian McDonald
President and CEO at Heritage Bank

Nick is joining from a much larger institution and bringing extensive leadership and banking experience to the team, including deep experience in operations and technology. Filling the Chief Operating Officer position was one of our key staffing-related steps in support of the CEO succession plan we announced in June. We are pleased to have Nick join the executive team and believe he has a lot to offer Heritage as we continue to expand and grow. I will now turn the call back to Jeff.

Jeffrey Deuel
Jeffrey Deuel
CEO at Heritage Financial Corporation

Thank you, Brian. As I mentioned earlier, we're pleased with our solid performance in the third quarter. A big thanks to our team for their laser focus on loan and deposit growth, their emphasis on developing long-lasting C&I relationships, and for continuing to focus on expense containment. As Brian mentioned earlier, we are happy to have the new teams we brought on over the past couple of years, and we can see they are clearly contributing to the loan and deposit expansion we saw this quarter.

Jeffrey Deuel
Jeffrey Deuel
CEO at Heritage Financial Corporation

... We will continue to benefit from our solid risk management practices and our strong capital position as we move forward. Overall, we believe we are well positioned to navigate what is ahead and to take advantage of various opportunities to continue to grow the bank. With that said, Emily, we can now open up the line for any questions from the attendees.

Operator

Thank you. As a reminder, if you'd like to ask a question today, you can do so now by pressing star followed by the number one on your telephone keypad. If you change your mind or you feel like your question has already been answered, you can star and then two to remove yourself from the queue. Our first question today comes from the line of Jeff Rulis with D.A. Davidson. Jeff, please go ahead.

Jeffrey Rulis
Jeffrey Rulis
Analyst at D.A. Davidson

Thanks. Good morning.

Donald Hinson
Donald Hinson
CFO at Heritage Financial Corporation

Morning!

Jeffrey Rulis
Jeffrey Rulis
Analyst at D.A. Davidson

Don, if I could circle back, Don, on the margin. Appreciate it. I think you said about a $3 million benefit to the repositioning that took place. Could you just walk us through the margin impact? Kind of when did that repositioning take place, and net that against Fed moves as we move into the fourth quarter? Trying to get a sense for where you think we settle in.

Donald Hinson
Donald Hinson
CFO at Heritage Financial Corporation

Settle in for margin overall, you mean, Jeff?

Jeffrey Rulis
Jeffrey Rulis
Analyst at D.A. Davidson

Correct.

Donald Hinson
Donald Hinson
CFO at Heritage Financial Corporation

Okay. So, the trades took place in both August and September, so we didn't get even, say, a half quarter benefit there on that. But of course it, you know, some of the bigger impacts other than that are due to the loan growth and other things we have going on. I do think that overall, that I think that we've hit the bottom of the NIM. I think that NIM is, we're optimistic of NIM expansion overall, but I think in Q4 it'll be pretty steady. Obviously we've got about, I think, 22% of our loans are floating.

Donald Hinson
Donald Hinson
CFO at Heritage Financial Corporation

And so, you know, I think it's $1.1 billion is going to reprice down 50 basis points, you know, subsequent to the September rate cut. So we didn't get that much factored into the loan yields, you know, for that. But we have other things that are, you know, going to be helping us this quarter also, including what I mentioned, the, you know, almost half our CD balances, you know, repricing. We'll continue to reprice down borrowings. And additionally, we'll be working on, you know, other deposit rates, although, you know, as I mentioned, there continues to be a lot of, you know, competition for deposits still.

Donald Hinson
Donald Hinson
CFO at Heritage Financial Corporation

I think we'll be working on lowering at least some of the higher rate balances that we've given over the last few years. So I think that, again, in Q4, we may not see much of increase, but I'm again optimistic as we get through to 2025 to see some expansion.

Jeffrey Rulis
Jeffrey Rulis
Analyst at D.A. Davidson

Got it. Thanks, Don. And then on the pipeline, Brian, appreciate all the numbers you always provide there. I want to kind of frame up 2025 expectations a bit. I know we're jumping out there, but with that construction delay payoff, does that moderate your view of 2025 overall? I know you've got a lot of year left outside of just the start of the year, but any expectations you'd put? I mean, obviously, I won't annualize the clip this quarter, but thinking about 2025 and all the hires you've had, seems active from my end.

Brian McDonald
President and CEO at Heritage Bank

Yeah. You know, mid- to high-single digits likely here in the fourth quarter. Looking out to next year, the pipeline going into the fourth quarter, as I mentioned, is at $491 million, which is up $200 million over 2023. So that's really positive, and gonna drive obviously higher loan closings next year than at least where we started, in 2024. If you look at page 16 of the investor deck, it's got the net advances.

Jeffrey Rulis
Jeffrey Rulis
Analyst at D.A. Davidson

Mm-hmm.

Brian McDonald
President and CEO at Heritage Bank

Contributing $142 million to the loan growth year to date. A lot of this has been construction loan commitments that we came into the year with, and those are reflected on page fourteen. So if you look at available credit on page fourteen of the deck, it was $355 million at the end of last year, and at the end of this quarter, it was $199 million. So what I'm saying is we've got a much stronger pipeline, you know, coming in, but lower construction commitments starting off the year. So we are expecting, you know, mid- to high-single digits next year, mostly dependent on what happens, you know, with the pipeline over the next couple quarters.

Brian McDonald
President and CEO at Heritage Bank

But I will say September's been really strong, and then the pipeline's also been strong in October, so we're continuing to see that momentum at least so far in the fourth quarter.

Jeffrey Rulis
Jeffrey Rulis
Analyst at D.A. Davidson

Got it. Okay, thank you. And, and the last one, you know, you kind of take this either expenses or, or approach to next year. Jeff, the hires, I think you've indicated on this, slide 11, you know, plans to add in, in Seattle and Boise. Where do we sit in terms of... You brought on a lot of folks. You know, I don't know if twenty-five's a year of- just letting that grow and optimizing, or it's- it remains very active on, additional, bringing on additional talent? Just trying to frame up that netted against what is a pretty flattish expense run rate, linked quarter. Trying to reassess where we are on a expense versus, I guess, staffing, rolling in the next long-winded.

Jeffrey Deuel
Jeffrey Deuel
CEO at Heritage Financial Corporation

No, that's okay. Don probably has a couple of comments on run rate. But with regard to teams, you know, we always love the organic growth that we're seeing right now. Next best choice is team lift outs. We believe there's potential opportunities out there, but, you know, we're also recognizing that, you know, it's a big bite or a big expense when we do lift out a team, particularly if it's of a certain size. And it feels like we're kind of coming out of the good side of the teams we have brought on, and they're starting to contribute to the bottom line. I think you'll see us be very judicious about any more teams in '25.

Jeffrey Deuel
Jeffrey Deuel
CEO at Heritage Financial Corporation

Meaning they have to be very strategic and, you know, the quality of producing at a high level very quickly. We've sort of taken it on the chin a little bit over the last couple of years with the expense of those teams, but you can see now why we were happy to do that, now that we're seeing it hit the bottom line. Don, maybe you want to talk a little bit about where we think we're going to see expenses going into twenty-five.

Donald Hinson
Donald Hinson
CFO at Heritage Financial Corporation

Sure. Just we'll touch on Q4 first here. I do think we're going to see some increase in expenses in Q4. We've added a little bit to the Builder Banking team, and of course, we just announced the new Chief Operating Officer, in addition to overall increases in some vendor costs. So, you know, looking at maybe it bumping up to around $40 million, you know, for Q3, and then probably, you know, Q1 is always tough with additional payroll taxes. And then, you know, as we get further in the year, we have, you know, wage increases.

Donald Hinson
Donald Hinson
CFO at Heritage Financial Corporation

Although our goal is to keep FTE levels flat, we do expect some increases in overall costs, probably into the $41 million-$42 million range per quarter in 2025.

Jeffrey Rulis
Jeffrey Rulis
Analyst at D.A. Davidson

Great. Thank you.

Operator

The next question comes from Matthew Clark with Piper Sandler. Matthew, please go ahead.

Matthew Clark
Matthew Clark
Analyst at Piper Sandler

Hey, gentlemen.

Donald Hinson
Donald Hinson
CFO at Heritage Financial Corporation

Good morning.

Matthew Clark
Matthew Clark
Analyst at Piper Sandler

Maybe first one for Don on those borrowings that are coming due this quarter, the $148 million. Can you just remind us what the cost of those are and what your plans are to do with those, whether or not to pay them off or refinance them?

Donald Hinson
Donald Hinson
CFO at Heritage Financial Corporation

The weighted average rate on those is 5.40%, and we haven't made any final decisions on what to do with those, whether we will just put them in overnight or we'll term them out. We haven't made any final decisions. They're actually happening in, I think, November and I think early December. So we have a little bit of time yet to figure out. A lot will depend on probably, you know, what happens, even on deposit growth this quarter. And if we choose to do any more, you know, loss trades, that will provide funds, so in addition to loan growth. So it will depend on those factors. But either way, the costs will be coming down quite a bit on those.

Matthew Clark
Matthew Clark
Analyst at Piper Sandler

Yep. Okay. And then, thanks for the spot rate on deposits, but what's your expectation for your deposit beta, this easing cycle?

Donald Hinson
Donald Hinson
CFO at Heritage Financial Corporation

You know, it's always, again, a lag effect. I don't think we're gonna. I think it could be similar to what we've experienced going up, you know. We only had, I think, the final beta turned out to be about 30% right on it. So, you know, if we could possibly see that happen again, but it will always be a lag effect again, remember. So, I think, again, we'll see some positive lowering of deposit costs as we get further into 2025, but I think it'll be kind of slow coming at the beginning.

Matthew Clark
Matthew Clark
Analyst at Piper Sandler

Okay. And then, I think it's slide 28. Looks like you have some tailwinds as it relates to your loan yields with new production and just the fixed and adjustable kind of repricing opportunity. I know you mentioned 22% of the book's floating, but how do you think- what are your thoughts on overall loan yields from here? I think they're up eight basis points this past quarter. I mean, do we- can we still expand loan yields through rate cuts, or do you feel like we'll kind of start to roll over at some point next year?

Donald Hinson
Donald Hinson
CFO at Heritage Financial Corporation

I think in Q4 we'll see a decline in loan yields as a result of the rate, you know, fifty basis points all at once. I think that though, in general, I think we'll see increases. I mean, we're, again, we're still putting on the we priced a lot off the five-year on all our, you know, real estate loans, and the five-year really has hung in there as far as the rate goes. You know, we were putting loans on in the, again, the low to mid sixes last quarter. I don't think there's any reason why we can't continue to do that. And as you see there, we're coming off a current rate of what? 5.60%.

Donald Hinson
Donald Hinson
CFO at Heritage Financial Corporation

So, and the ones that are actually coming off that are adjustable, if you look on that slide, which is one of my favorite slides, by the way, you know, we're down in the fours for the adjustable rate ones, and even the fixed rate ones that are coming off are, you know, around 5, you know, 4.5%-5%. So over the next few quarters. So it's very optimistic that way, that what gets replaced will be at higher rates, and it will help protect it. But, so as we get, again, into 2025, I think we'll see, you know, expansion of loan yields. And there will be a lot dependent on what happens with the Fed and what they do.

Donald Hinson
Donald Hinson
CFO at Heritage Financial Corporation

But, in general, you know, if the rates stayed flat, then we would expect expansion going into next year.

Jeffrey Deuel
Jeffrey Deuel
CEO at Heritage Financial Corporation

Yeah.

Donald Hinson
Donald Hinson
CFO at Heritage Financial Corporation

After a few-

Matthew Clark
Matthew Clark
Analyst at Piper Sandler

Thank you.

Donald Hinson
Donald Hinson
CFO at Heritage Financial Corporation

After a Q4, you know, compression on that.

Matthew Clark
Matthew Clark
Analyst at Piper Sandler

Right. Got it.

Operator

Our next question comes from Eric Spreen with Raymond James. Eric, please go ahead.

Eric Spreen
Eric Spreen
Analyst at Raymond James

Hey, everybody, this is Eric, dialing in for Dave Feaster. Thanks for taking the questions. A lot of my questions have been answered, but just wanted to touch on the securities portfolio. You continue to be opportunistic there. I'm just kind of curious, your appetite for additional sales, given the move in rates and expectations of further rate cuts. Do you expect to be more active as the rates decline? Just curious, any thoughts there?

Donald Hinson
Donald Hinson
CFO at Heritage Financial Corporation

I don't think we'll be any more active than we've been. Again, I think we took a $7 million loss pretty much last quarter. We fluctuated between $2 million and $7 million. I mean, I think in the beginning of the year, we did a couple of quarters in a row, where we did, like, $10 million losses. I don't necessarily see us going that high again, but, I think anywhere between $2 million and $7 million could happen again. It will just be quarter-by-quarter decisions on kind of where we're at, again, where the rates are at, where, how we feel it can help us, what the earn back periods are. And so we kind of make those decisions on a quarter-by-quarter basis, and, just to see how it will help us and, going forward.

Donald Hinson
Donald Hinson
CFO at Heritage Financial Corporation

It wouldn't surprise me if we do more of those. It certainly I think improves if the rate environment helps us to do that, then we'll certainly do it to help future profitability.

Eric Spreen
Eric Spreen
Analyst at Raymond James

Yeah. And then just asking on loan growth, it was just good to hear that the pipeline's improved and kind of the mid to high single digit pace of growth for next year. Just curious kind of how pipeline is in the how the pricing is in the pipeline, how the complexion of the pipeline is shaping up. And then just in the past, you supplemented growth with some pool purchases. Just curious, do you expect to continue that approach, or do you have plenty of organic growth?

Jeffrey Deuel
Jeffrey Deuel
CEO at Heritage Financial Corporation

Brian, you want to take Eric?

Brian McDonald
President and CEO at Heritage Bank

Sure. Yeah. Eric, it's Brian. We do have plenty of organic growth at this point, but would consider, you know, a mortgage pool purchase potentially next year if we're not hitting the numbers. You know, page 13 of the investor deck at the bottom segment has detail on the mix of new loan commitments, and C&I has been our highest category for the last four quarters and continues to make up the bulk of the pipeline. We have seen fewer non-owner construction and non-owner deals this year, although we're seeing a little bit of an uptick in volume since the Fed cut rates. So we would expect a similar mix to what you see on slide 13.

Brian McDonald
President and CEO at Heritage Bank

On the pricing side, Don covered this in his response just a minute ago, but I would just add, we saw the five-year FHLB index decline about 90 basis points during the third quarter, and that was a big driver behind the drop in rates on new loans during the quarter. You know, total loans fell about 30 basis points, and we've already seen the five-year Federal Home Loan Bank index move up 50 basis points in Q4. So, our spreads are holding in there. It's just been the index that's moved, and then of course, you know, Prime moved down.

Brian McDonald
President and CEO at Heritage Bank

But we're more heavily influenced by the Federal Home Loan Bank index, primarily because a lot of the new commercial customers we bring on and the lines, they tend to have a lot of unutilized balances, and the numbers we quote are based on, you know, outstanding balances.

Eric Spreen
Eric Spreen
Analyst at Raymond James

Yeah, that's, that's great color. And then just one last question from me, and then I'll step back. I just wanted to touch on capital priorities. Obviously, you continue to be active in repurchasing stocks. Curious how you think about continued repurchases here and, I know M&A's talked about being on pause maybe until next year. Just curious how conversations are trending there and how you think about M&A and capital priorities rather.

Jeffrey Deuel
Jeffrey Deuel
CEO at Heritage Financial Corporation

I'll let Don talk about capital, but on the M&A side, it's pretty much the same as it has been. You know, conversations continue as a means to keep in touch with targets we're interested in. We're pretty much embedded in the industry, and we're connected to everybody. So I think if one of the organizations that we really like and think would be a good strategic fit decides to do something, I'm fairly certain that we'll get a call and have the opportunity to react to that. In the meantime, I think we need to continue to focus on improving our financial picture so our currency improves, and we're in a better position to buy when the time comes. Don, how about your comments on capital?

Donald Hinson
Donald Hinson
CFO at Heritage Financial Corporation

Yeah. We continue to, again, monitor our capital positions, and the needs as opposed to for growth. I guess the one point is the fact that we don't see our necessarily overall balance sheet growing a lot, as we might restructure our balance sheet some for less borrowings, you know, maybe leaving less brokered CDs over time. So maybe we grow core deposits, we grow loans, but necessarily the balance sheet won't grow that much. So I think that's lends it to with our stock price as it was last quarter, it was made it attractive to do buybacks.

Donald Hinson
Donald Hinson
CFO at Heritage Financial Corporation

We'll just have to monitor the stock price and other needs for capital, but again, it wouldn't surprise me if we were involved to the same extent, probably not more than we did last quarter, but we could do as much as we did last quarter.

Operator

The next question comes from Andrew Terrell with Stephens. Andrew, please go ahead.

Andrew Terrell
Andrew Terrell
Analyst at Stephens

Hey, good morning.

Jeffrey Deuel
Jeffrey Deuel
CEO at Heritage Financial Corporation

Morning.

Andrew Terrell
Andrew Terrell
Analyst at Stephens

Hey, just a quick one for me on just deposit costs. I appreciate the color around some of the CD maturities. In the quarter, I think you said 4.56 was the kind of coming up rate. Just how does that compare to what you're pricing new CDs at in the market today, kind of so far in the fourth quarter?

Donald Hinson
Donald Hinson
CFO at Heritage Financial Corporation

Andrew, I don't have a lot of information from the fourth quarter yet. I will say that in September I think our price was around 4.40-ish and then that was before the rate cut. We've actually cut our CD rates since then, so I would expect that, I... You know, they could possibly reprice 20-25 basis points lower, depending on obviously the term. But that's an estimate of what could happen on those CDs, but that remains to be seen. Some of them, if some of them were really great shoppers, they, you know, they might go elsewhere over time, but we'll see.

Andrew Terrell
Andrew Terrell
Analyst at Stephens

Yep. Okay. I appreciate it, then maybe just, Jeff, you talked about, you know, on the M&A front, if there's kind of an organization that you, you guys think highly of and respect and would be interested in and decide to do something, you'll kind of get a call and that makes a lot of sense, but just curious if you could kind of define that, a little bit in terms of, you know, where are you most focused in size, geography-wise, from an M&A standpoint today?

Jeffrey Deuel
Jeffrey Deuel
CEO at Heritage Financial Corporation

Yeah, if you referenced slide nine, which many of you have seen many times. I think our sweet spot is the middle group, the five hundred to a billion in assets. I mean, we can go lower for the right, you know, organization or go higher if the opportunity presents, which seems more remote, and I think you will see us preferably augmenting our footprint along the I-5. You know, we're pretty well set from Vancouver to Bellingham. I think we could fill in, you know, Portland south, that would be helpful to us, and obviously would not object to an opportunity to expand our position in Idaho. I think we've done quite well with the Boise team getting started.

Jeffrey Deuel
Jeffrey Deuel
CEO at Heritage Financial Corporation

They're performing at a very high level, and, you know, the argument can be made, you can bank Idaho from Boise, but, you know, the team will also benefit from having more of a presence in the state with various locations. So I guess, in the end, summary would be flesh out our position in Oregon along I-5 and expand opportunistically in Idaho. It's not to say we wouldn't consider something in Washington, it would just have to be a good strategic fit, and a pretty sure thing.

Andrew Terrell
Andrew Terrell
Analyst at Stephens

Yep. Okay. Makes sense. Thank you all for taking the questions. I appreciate it.

Jeffrey Deuel
Jeffrey Deuel
CEO at Heritage Financial Corporation

Thank you.

Operator

Our next question comes from the line of Kelly Motta with KBW. Please go ahead, Kelly.

Kelly Motta
Kelly Motta
Analyst at KBW

Hi. Thank you so much for the question. You know, most might have been asked and answered, but just at a high level, considering the pace of your loan growth, you're at $7 billion in assets. I'm wondering if you started to do some work around $10 billion in assets and if you know any thoughts on, you know, your potential rate of growth as you start to edge closer to that in the upcoming years?

Jeffrey Deuel
Jeffrey Deuel
CEO at Heritage Financial Corporation

Yeah, it's a good question. We, a year or so ago, one of our initiatives was to lay out a plan for what we needed to do to prepare to cross ten billion. We did a fair amount of work on that framework, but ultimately, set it aside for other strategic initiatives because it didn't appear that our growth rate was going to get us there anytime soon. I think it's probably fair to say that unless a large acquisition presents itself, and that seems pretty remote, given what I know about the industry and our markets, it would probably take two or three acquisitions to get us there quickly.

Jeffrey Deuel
Jeffrey Deuel
CEO at Heritage Financial Corporation

And I think you'll see us probably just growing at a rate that matches, you know, our deposit and loans and how that's impacting our balance sheet, and you know, if you're thinking in that mid-single digit range, it will, you know, if you just do the math, it's several years away if we don't do an acquisition, and it's probably a few years away if we do.

Kelly Motta
Kelly Motta
Analyst at KBW

Got it.

Jeffrey Deuel
Jeffrey Deuel
CEO at Heritage Financial Corporation

So we think we have time.

Kelly Motta
Kelly Motta
Analyst at KBW

That's helpful.

Jeffrey Deuel
Jeffrey Deuel
CEO at Heritage Financial Corporation

Yeah, we have time to prepare, Kelly, and we know what we need to do, and we're making incremental changes in the background because there are certain things we can do now that are not, you know, super costly, and I think as soon as we feel like things are going to start ramping, we will get underway and get the framework built.

Kelly Motta
Kelly Motta
Analyst at KBW

Great. That's helpful. And then with just balance sheet management, you've really grown into your deposit base over especially the last couple of quarters, with the really strong loan growth and the securities sales helping to, you know, incrementally fund some of that. You're now in the low 80s, kind of approaching where you were prior to deposit balances ballooning in COVID. Wondering, as you look ahead, is that mid-80% loan to deposit ratio still the right way to think about an optimized way for you guys to manage the bank? Or, you know, obviously, it takes time to move that around, but I'm just wondering, as we kind of think in the year or two ahead, how we should be managing that.

Jeffrey Deuel
Jeffrey Deuel
CEO at Heritage Financial Corporation

It's a good question. We spend a lot of time, you know, reviewing our risk profile, which includes a factor around loan deposit ratio. Yes, we're happy to see it getting back into the low eighties. I think we would be comfortable having it, you know, get into the high eighties, but probably not much more than that. And I would also say to you that I think we have been under-levered for a while, and I think we realize that we need to leverage the balance sheet to hit the kind of numbers we think we should be hitting, and that's going to have to drive that number up a bit.

Kelly Motta
Kelly Motta
Analyst at KBW

Got it. That's helpful. Thank you so much.

Jeffrey Deuel
Jeffrey Deuel
CEO at Heritage Financial Corporation

Thank you.

Operator

Thank you, everyone. We have no further questions, and so I'll turn the call back to Jeff for closing remarks.

Jeffrey Deuel
Jeffrey Deuel
CEO at Heritage Financial Corporation

Thank you all for your questions. Thank you for being patient with us while we got our connectivity squared away. That's the wrap for our quarterly earnings call. We thank you for your time and your support, your interest, and we'll hope to be talking with many of you in the weeks to come. Thank you and goodbye.

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