Heritage Financial Corp: Form 10-Q for the period ended Jun 30, 2025

The following discussion is intended to assist in understanding the financial condition and results of operations of the Company as of and for the three and six months ended June 30, 2025. The information contained in this section should be read together with the unaudited Condensed Consolidated Financial Statements and the accompanying Notes included herein, the Cautionary Note Regarding Forward-Looking Statements included herein and the December 31, 2024 audited Consolidated Financial Statements, and the accompanying Notes included in our 2024 Annual Form 10-K.

Overview

Heritage Financial Corporation is a bank holding company which primarily engages in the business activities of our wholly-owned financial institution subsidiary, Heritage Bank. We provide financial services to customers in our market areas with an ongoing strategic focus on our commercial banking relationships, market expansion and asset quality. The Company’s business activities generally are limited to passive investment activities and oversight of its investment in the Bank. Accordingly, the information set forth in this report relates primarily to the Bank’s operations.

Our business consists primarily of commercial lending and deposit relationships with small- to medium-sized businesses and their owners in our market areas, as well as attracting deposits from the general public. We also make real estate construction and land development loans, consumer loans and residential real estate loans on single family properties located primarily in our markets.

Our core profitability depends primarily on our net interest income. Net interest income is the difference between interest income, which is the income that we earn on interest earning assets, consisting primarily of loans and investment securities, and interest expense, which is the amount we pay on our interest bearing liabilities, consisting primarily of deposits and borrowings. Management manages the repricing characteristics of the Company's interest earning assets and interest bearing liabilities to protect net interest income from changes in market interest rates and changes in the shape of the yield curve. Like most financial institutions, our net interest income is significantly affected by general and local economic conditions, particularly changes in market interest rates, and by governmental policies and actions of regulatory agencies. Net interest income is additionally affected by changes in the volume and mix of interest earning assets, interest earned on these assets, the volume and mix of interest bearing liabilities and interest paid on these liabilities.

Our net income is affected by many factors, including the provision for credit losses on loans. The provision for credit losses on loans is dependent on changes in the loan portfolio and management’s assessment of the collectability of the loan portfolio, as well as prevailing economic and market conditions. Management believes that the ACL on loans reflects the amount that is appropriate to provide for current expected credit losses in our loan portfolio based on the CECL methodology.

Net income is also affected by noninterest income and noninterest expense. Noninterest income primarily consists of gains or losses on the sale of investment securities, service charges and other fees, card revenue and other income. Noninterest expense primarily consists of compensation and employee benefits, occupancy and equipment, data processing and professional services expense. Compensation and employee benefits consist primarily of the salaries and wages paid to our employees and payroll taxes and expenses for retirement and other employee benefits. Occupancy and equipment expenses are the fixed and variable costs of buildings and equipment and consist primarily of lease expenses, depreciation charges, maintenance and utilities. Data processing expense consists primarily of processing and network services related to the Bank’s core operating system, including the account processing system, electronic payments processing of products and services, internet and mobile banking channels and software-as-a-service providers. Professional services expense consists primarily of third-party service providers such as auditors, consultants and lawyers.

Results of operations may also be significantly affected by general and local economic and competitive conditions, changes in accounting, tax, and regulatory rules, governmental policies and actions of regulatory authorities, including changes resulting from inflation and the governmental actions taken to address this issue, as well as changes in policies driven by the new presidential administration, including policies on tariffs and immigration, which may impact our operations or those of our customers. Net income is also impacted by our ability to execute our strategic plan to grow the Company through organic growth or acquisitions. See also "Cautionary Note Regarding Forward-Looking Statements."

Results of Operations

Net Income

Comparison of the quarter ended June 30, 2025 to the comparable quarter in the prior year

Net income decreased $1.9 million, or 13.7%, to $12.2 million, or $0.36 per diluted common share, for the three months ended June 30, 2025, compared to $14.2 million, or $0.41 per diluted common share, for the same period in 2024.

The decrease in net income was primarily due to an increase in a pre-tax loss of $6.9 million on the sale of investment securities in connection with management's strategic repositioning of the Company's balance sheet during the three months ended June 30, 2025, compared to a pre-tax loss of $1.9 million on the sale of investment securities recognized during the same period in 2024. The decrease was also due to a $2.0 million increase in noninterest expense.

The decrease was partially offset by an increase in total interest income of $1.9 million due to increased yields earned on interest earning assets as a result of higher market interest rates and a $2.0 million decrease in total interest expense due to lower funding costs.

Comparison of the six months ended June 30, 2025 to the comparable period in the prior year.

Net income increased $6.2 million, or 31.2%, to $26.1 million, or $0.76 per diluted common share, for the six months ended June 30, 2025, compared to $19.9 million, or $0.57 per diluted common share, for the same period in 2024.

The increase in net income was due primarily to a $4.9 million increase in total interest income due to increased yields earned on interest earning assets as a result of higher market interest rates, a $1.1 million decrease in total interest expense due to lower funding costs and a $3.1 million increase in noninterest income.

These improvements were partially offset by an increase in noninterest expense of $3.0 million.

Net Interest Income and Margin

One of the Company's key sources of revenue is net interest income. Several factors affect net interest income, including, but not limited to: the volume, pricing, mix and maturity of interest earning assets and interest bearing liabilities; the volume of noninterest earning assets, noninterest bearing demand deposits, other noninterest bearing liabilities and stockholders' equity; market interest rate fluctuations; and asset quality.

Comparison of the quarter ended June 30, 2025 to the comparable quarter in the prior year

The following table provides net interest income information for the periods indicated:

(Dollars in thousands)

39

(Dollars in thousands)

(1) Average balances are calculated using daily balances. Average yield/rate is annualized.

(2) Average loans receivable includes loans classified as nonaccrual, which carry a zero yield. Interest earned on loans receivable includes the amortization of net deferred loan fees of $903,000 and $971,000 for the three months ended June 30, 2025 and 2024, respectively.

(3) Yields on tax-exempt loans and securities have not been stated on a tax-equivalent basis.

The following table provides the changes in net interest income for the three months ended June 30, 2025 compared to the same period in 2024, due to changes in average asset and liability balances (volume), changes in average yields/rates (rate) and changes attributable to the combined effect of volume and rates allocated proportionately to the absolute value of changes due to volume and changes due to rates:

(Dollars in thousands)

Net interest income increased $3.9 million, or 7.6%, to $55.0 million for the three months ended June 30, 2025, compared to $51.1 million for the same period in 2024, due to a $1.9 million increase in total interest income and a $2.0 million decrease in total interest expense.

Total interest income increased to $78.5 million for the three months ended June 30, 2025, compared to $76.6 million for the same period in 2024. The increase was primarily due to a $4.8 million increase in interest income on loans receivable, offset partially by a $2.6 million decrease in interest income on investment securities during the three months ended June 30, 2025, compared to the same period in 2024. Interest income on loans receivable increased due to increases in both the average yield earned on and the average outstanding balance of those assets. The average yield earned on loans receivable increased 4 basis points to 5.50% and the average balance of loans receivable increased $302.1 million to $4.77 billion during the three months ended June 30, 2025, compared to $4.47 billion for the same period in 2024.

Interest income on investment securities decreased $2.6 million due primarily to a decrease in the average balance of investment securities as of result of investment sales, maturities and repayments. Average balances of taxable securities decreased $311.0 million to $1.37 billion during the three months ended June 30, 2025, compared to $1.69 billion during the same period in 2024.

Total interest expense decreased to $23.5 million during the three months ended June 30, 2025, compared to $25.5 million for the same period in 2024. The decrease was due primarily to a $3.6 million decrease in interest expense on borrowings, offset partially by a $1.7 million increase in interest expense on interest bearing deposits during the three months ended June 30, 2025, compared to the same period in 2024. The decrease in borrowing expense was due primarily to a $254.6 million decrease in the average balance of outstanding borrowings to $245.7 million during the three months ended June 30, 2025, compared to $500.2 million for the same period in 2024 and secondarily due to a 48 basis point decrease on the average rate to 4.73% for the three months ended June 30, 2025, compared to 5.21% for the same period in 2024. The increase in interest expense on interest bearing deposits was due primarily to a $144.8 million increase in the average balance of interest bearing demand and money market accounts to $4.18 billion during the three months ended June 30, 2025, compared to $3.92 billion for the same period in 2024, and a 5 basis point increase on the average rate to 1.94% for the three months ended June 30, 2025, compared to 1.89% for the same period in 2024, due to competitive rate pressures.

Net interest margin increased 24 basis points to 3.51% for the three months ended June 30, 2025, compared to 3.27% for the same period in 2024.

Comparison of six months ended June 30, 2025 to the comparable period in the prior year

The following table provides net interest income information for the periods indicated:

(Dollars in thousands)

(1) Average balances are calculated using daily balances. Average yield/rate is annualized.

(2) Average loans receivable includes loans classified as nonaccrual, which carry a zero yield. Interest earned on loans receivable includes the amortization of net deferred loan fees of $1.7 million and $1.8 million for the six months ended June 30, 2025 and 2024, respectively.

(3) Yields on tax-exempt loans and securities have not been stated on a tax-equivalent basis.

The following table provides the changes in net interest income for the six months ended June 30, 2025 compared to the same period in 2024, due to changes in average asset and liability balances (volume), changes in average yields/rates (rate) and changes attributable to the combined effect of volume and rates allocated proportionately to the absolute value of changes due to volume and changes due to rates:

(Dollars in thousands)

Net interest income increased $6.0 million, or 5.9%, to $108.7 million for the six months ended June 30, 2025, compared to $102.6 million for the same period in 2024, due primarily to an increase in total interest income and a decrease in total interest expense.

Total interest income increased $4.9 million, or 3.3%, to $155.9 million for the six months ended June 30, 2025, compared to $150.9 million for the same period in 2024. The increase was primarily due to an $11.3 million increase in interest income on loans receivable, offset partially by a $5.7 million decrease in interest income on investment securities and a $0.7 million decrease in interest income on interest earning deposits during the six months ended June 30, 2025, compared to the same period in 2024. Interest income on loans receivable increased due to increases in both the average yield earned on and the average outstanding balance of those assets. The average yield earned on loans receivable increased 8 basis points to 5.48% and the average balance of loans receivable increased $371.9 million to $4.78 billion during the six months ended June 30, 2025, compared to $4.41 billion for the same period in 2024.

Interest income on investment securities decreased $5.7 million due primarily to a decrease in average balances as a result of investment sales, maturities and repayments. Average balances on taxable securities decreased $347.0 million to $1.40 billion during the six months ended June 30, 2025, compared to $1.75 billion during the same period in 2024. Interest income on interest earning deposits decreased $0.7 million due primarily to a 103 basis point decrease in the yield earned on interest earning deposits to 4.44%, compared to 5.47% during the same period in 2024, as a result of decreases in market rates.

Total interest expense decreased $1.1 million, or 2.3%, to $47.2 million during the six months ended June 30, 2025, compared to $48.3 million for the same period in 2024. The decrease was due primarily to a $5.8 million decrease in interest expense on borrowings, offset by a $4.8 million increase in interest expense on interest bearing deposits during the six months ended June 30, 2025, compared to the same period in 2024. The decrease in borrowing expense was due primarily to a $217.7 million decrease in the average balance of outstanding borrowings to $282.8 million during the six months ended June 30, 2025, compared to $500.4 million for the same period in 2024, and secondarily due to a 26 basis point decrease on the average rate to 4.71% for the six months ended June 30, 2025, compared to 4.97% for the same period in 2024.

The increase in interest expense on interest bearing deposits was due primarily to a $251.4 million increase in the average balance of interest bearing accounts to $4.14 billion during the six months ended June 30, 2025, compared to $3.89 billion for the same period in 2024, and a 14 basis point increase on the average rate of interest bearing demand and money market accounts to 1.48% for the six months ended June 30, 2025, compared to 1.34% for the same period in 2024, due to competitive rate pressures. The increase was partially offset by a 39 basis point decline on the average rate of certificates of deposits to 3.91% for the six months ended June 30, 2025, compared to 4.30% for the same period in 2024, due to repricing of certificates of deposits at lower rates.

Net interest margin increased 19 basis points to 3.47% for the six months ended June 30, 2025, compared to 3.28% for the same period in 2024.

Provision for Credit Losses

The aggregate of the provision for (reversal of) credit losses on loans and on unfunded commitments is presented on the unaudited Condensed Consolidated Statements of Income as the provision for credit losses. The ACL on unfunded commitments is included on the unaudited Condensed Consolidated Statements of Financial Condition within accrued expenses and other liabilities.

Comparison of the quarter ended June 30, 2025 to the comparable quarter in the prior year

The following table presents the provision for (reversal of) credit losses for the periods indicated:

(Dollars in thousands)

The provision for credit losses on loans reflects the amount required to maintain the ACL on loans at an appropriate level based upon management’s evaluation of the adequacy of collective and individual loss reserves and is impacted by quarterly charge-offs and recoveries. The provision for credit losses on loans was $863,000 during the three months ended June 30, 2025 and was due primarily to net charge-offs of $494,000 and secondarily to growth in balances of collectively evaluated loans during the quarter.

Future assessments of expected credit losses will be impacted not only by changes in the composition of and amount of loans and to the reasonable and supportable forecast, but also by an updated assessment of qualitative factors, as well as consideration of any changes in the reasonable and supportable forecast reversion period. The provision for credit losses on unfunded commitments recognized during the three months ended June 30, 2025 was due primarily to an increase in the unfunded exposure on construction loans.

The provision for credit losses on loans was $1.5 million during the three months ended June 30, 2024, and was driven primarily by loan growth during the quarter. The reversal of provision for credit losses on unfunded commitments recognized during the three months ended June 30, 2024 was due primarily to a decrease in the unfunded exposure on loans and an increase in loan utilization rates which resulted in a smaller unfunded capacity.

Comparison of the six months ended June 30, 2025 to the comparable period in the prior year

The following table presents the provision for (reversal of) credit losses for the periods indicated:

(Dollars in thousands)

The $854,000 provision for credit losses on loans recognized during the six months ended June 30, 2025 was due primarily to $793,000 in net charge-offs. The $153,000 provision for credit losses on unfunded commitments recognized during the six months ended June 30, 2025 was due primarily to an increase in the unfunded exposure on construction loans.

The $3.2 million provision for credit losses recognized during the six months ended June 30, 2024 was primarily driven by loan growth during the six month period. The $514,000 reversal of provision for credit losses on unfunded commitments recognized during the six months ended June 30, 2024 was due primarily to a $65.7 million decrease in the unfunded exposure on construction loans which reduced the unfunded exposure and secondarily due to an increase in loan utilization rates.

Noninterest Income

Comparison of the three months ended June 30, 2025 to the comparable period in the prior year

The following table presents the change in the key components of noninterest income for the periods indicated:

(Dollars in thousands)

Noninterest income decreased $3.7 million from the same period in 2024, due primarily to a larger $6.9 million pre-tax loss on the sale of investment securities during the three months ended June 30, 2025, compared to a $1.9 million pre-tax loss on the sale of investment securities recognized in the same period in 2024, both as part of the Company's strategic balance sheet repositioning efforts. Other income increased due primarily to an increase in FHLB dividends received during the three months ended June 30, 2025, compared to the same period in 2024. BOLI income increased as a result of a BOLI restructuring that occurred in 2024 to invest in higher yielding policies and the recognition of a death benefit during the three months ended June 30, 2025, compared to the same period in 2024.

Comparison of six months ended June 30, 2025 to the comparable period in the prior year

The following table presents the change in the key components of noninterest income for the periods indicated:

(Dollars in thousands)

Noninterest income increased $3.1 million, or 131.0%, during the six months ended June 30, 2025, compared to the same period in 2024. Other income increased due primarily to an increase in FHLB dividends received during the six months ended June 30, 2025, compared to the same period in 2024. Loss on sale of securities decreased due to a smaller pre-tax loss of $10.7 million recognized during the six months ended June 30, 2025, compared to an $11.9 million pre-tax loss recognized during the same period in 2024. BOLI income increased as a result of a BOLI restructuring that occurred in 2024 to invest in higher yielding policies.

Noninterest Expense

Comparison of three months ended June 30, 2025 to the comparable period in the prior year

The following table presents changes in the key components of noninterest expense for the periods indicated:

(Dollars in thousands)

Noninterest expense increased $2.0 million, or 5.1%, during the three months ended June 30, 2025, compared to the same period in 2024 due primarily to an increase in compensation and employee benefits resulting from annual merit increases in base pay and an increase in benefit costs. Professional services increased due primarily to consulting costs related to technology-related contract renewals recognized in the second quarter of 2025.

Comparison of the six months ended June 30, 2025 to the comparable period in the prior year

The following table presents changes in the key components of noninterest expense for the periods indicated:

(Dollars in thousands)

Noninterest expense increased $3.0 million, or 3.8%, during the six months ended June 30, 2025, compared to the same period in 2024 due primarily to an increase in compensation and employee benefits primarily resulting from annual merit increases in base pay and an increase in benefit costs. Data processing expense increased primarily due to annual cost increases during the six months ended June 30, 2025 and a $243,000 refund recognized in the six months ended June 30, 2024 related to a contract termination. Professional services increased due primarily to consulting costs related to technology-related contract renewals recognized during the six months ended June 30, 2025. Amortization of intangible assets decreased due to the full amortization of the core deposit intangible from one acquisition.

Income Tax Expense

Comparison of the three months ended June 30, 2025 to the comparable period in the prior year

The following table presents the income tax expense, and related metrics and change for the periods indicated:

(Dollars in thousands)

Income tax expense and the effective income tax rate both increased due primarily to recognition of income tax expense of $515,000 related to the surrender of $8.5 million in BOLI policies during the three months ended June 30, 2025.

Comparison of the six months ended June 30, 2025 to the comparable period in the prior year.

The following table presents the income tax expense and related metrics and the change for the periods indicated:

(Dollars in thousands)

Income tax expense and the effective income tax rate both increased due to higher estimated pre-tax income during the six months ended June 30, 2025, compared to the same period in 2024, which decreased the impact of favorable permanent tax items such as tax-exempt investments, investments in BOLI and LIHTC investments. The increase was also due to the recognition of income tax expense of $515,000 related to the surrender of $8.5 million in BOLI policies during six months ended June 30, 2025.

Financial Condition

The following table provides a comparison of the changes in the Company's financial condition at the periods indicated:

(Dollars in thousands)

46

Total assets decreased during the six months ended June 30, 2025 due to a decrease in investment securities available for sale, resulting from sales of investment securities as part of the Company's strategic balance sheet repositioning efforts discussed above, and a decline in loans receivable, offset partially by an increase in cash and cash equivalents. Total liabilities and stockholders' equity decreased during the period due primarily to a decrease in borrowings and accrued expenses and other liabilities, offset partially by an increase in deposits and an increase in stockholders' equity due primarily to a decline in accumulated other comprehensive loss, net.

Investment Activities

Our investment policy is established by the Board and monitored by the Risk Committee of the Board. It is designed primarily to provide and maintain liquidity, generate a favorable return on investments without incurring undue interest rate and credit risk, and complement the Company's lending activities. The policy permits investment in various types of liquid assets permissible under applicable regulations. Investment in sub-investment grade bonds is not permitted under the policy.

The following table provides information regarding our investment securities at the dates indicated:

(Dollars in thousands)

Investment securities available for sale, at fair value:

47

(1) U.S. government agency and government-sponsored enterprise CMO and MBS obligations.

Total investment securities decreased $121.4 million, or 8.3%, to $1.35 billion at June 30, 2025 from $1.47 billion at December 31, 2024. The Company sold $152.4 million of investment securities at a pre-tax loss of $10.7 million as part of its strategic balance sheet repositioning during the six months ended June 30, 2025. In addition, there were investment maturities and repayments of $77.6 million during the six months ended June 30, 2025. The decrease was partially offset by investment securities purchases of $84.7 million and a $23.4 million decrease in unrealized losses on available for sale securities during the six months ended June 30, 2025.

Loan Portfolio

Changes by loan type

The Company originates a wide variety of loans with a focus on commercial business loans. In addition to originating loans, the Company may also acquire loans through pool purchases, participation purchases and syndicated loan purchases.

The following table provides information about our loan portfolio by type of loan at the dates indicated:

(Dollars in thousands)

Loans receivable decreased $27.3 million, or 0.6%, to $4.77 billion at June 30, 2025, from $4.80 billion at December 31, 2024. New loans funded declined during the six months ended June 30, 2025 to $235.7 million, compared to $268.4 million during the same period in 2024. Loan prepayments totaled $138.8 million and loan payoffs were $98.5 million during the six months ended June 30, 2025, compared to loan prepayments of $87.6 million and loan payoffs of $90.5 million during the same period in 2024.

Commercial and industrial loans decreased $11.6 million, or 1.4%, during the six months ended June 30, 2025, due primarily to pay downs on outstanding balances, partially offset by new loan production of $44.3 million. Owner-occupied CRE loans increased $11.6 million, or 1.2%, during the six months ended June 30, 2025, due primarily to new loan production of $72.4 million, offset partially by pay downs on outstanding balances. Non-owner occupied CRE loans increased $30.6 million, or 1.6%, during the six months ended June 30, 2025, due primarily to new loan production of $91.1 million, offset by pay downs on outstanding balances. Residential loans decreased $19.0 million, or 4.7%, during the six months ended June 30, 2025, due to pay downs on outstanding balances. Commercial and multifamily construction loans decreased $40.3 million, or 10.2%, during the six months ended June 30, 2025, due primarily to pay downs on outstanding balances.

The following table provides information about owner occupied CRE and non-owner occupied CRE loans by collateral type at the dates indicated:

(Dollars in thousands)

Owner occupied and non-owner occupied CRE loans by collateral type:

48

Office loans represented the largest segment of owner-occupied and non-owner occupied CRE loans, totaling $576.4 million, or 19.5% of total CRE loans, at June 30, 2025. Of this total, $295.5 million, or 51.3%, were owner-occupied CRE loans. Owner-occupied CRE loans have a lower risk profile than non-owner occupied CRE loans, as there is less tenant rollover risk and they generally include guarantees from the company occupying the space as well as the owners of the company. Multi-family loans increased $34.0 million to $448.7 million, or 15.2% of total CRE loans, due to the completion of $27.0 million in commercial construction loans converting to term CRE loans and $19.0 million in new production offset partially by pay downs on outstanding balances. The average balance of CRE loans was $1.3 million at June 30, 2025.

Loans classified as nonaccrual and nonperforming assets

The following table provides information about our nonaccrual loans and nonperforming assets at the dates indicated:

(Dollars in thousands)

(1) At June 30, 2025 and December 31, 2024, $2.3 million and $1.0 million, respectively, of nonaccrual loans, were guaranteed by government agencies.

The following table provides the changes in nonaccrual loans during the six months ended June 30, 2025:

(Dollars in thousands)

Nonaccrual loans increased $5.8 million to $9.9 million at June 30, 2025, compared to $4.1 million at December 31, 2024. Additions during the six months ended June 30, 2025 consisted of five loans totaling $8.8 million, including one $6.0 million real estate construction and land development loan, one $0.8 million residential real estate loan, and three commercial business loans totaling $2.0 million. These additions were partially offset by a $2.0 million pay down on one nonaccrual commercial business loan.

Accruing loans past due 90 days or more included one $1.6 million commercial business loan that is well secured and in the process of collection and two residential construction loans totaling $6.8 million that are classified as loan modifications and are in the process of renewal.

Allowance for Credit Losses on Loans

The following table provides information regarding our ACL on loans for the periods indicated:

(Dollars in thousands)

The ACL on loans as a percentage of loans receivable was 1.10% at June 30, 2025 compared to 1.09% at December 31, 2024. The ACL on loans increased $61,000, or 0.1%, to $52.5 million at June 30, 2025, compared to December 31, 2024.

The ACL on loans as a percentage of loans receivable declined 3 basis points to 1.10% at June 30, 2025 from 1.13% at June 30,

2024 due primarily to a change in the mix of loans from real estate construction and land development loans requiring a larger ACL to commercial business loans.

The following table presents the ACL on loans by loan portfolio segment at the dates indicated:

(Dollars in thousands)

Deposits

The following table summarizes the Company's deposits at the dates indicated:

(Dollars in thousands)

Total deposits increased $99.8 million, or 1.8%, to $5.78 billion at June 30, 2025, from $5.68 billion at December 31, 2024. Non-maturity deposits increased by $95.4 million, or 2.0%, from December 31, 2024. The increase in non-maturity deposits was due primarily to a $142.1 million increase in money market accounts from new accounts opened and transfers of funds from existing noninterest demand deposit accounts into these higher yielding accounts.

Borrowings

At June 30, 2025, the Bank maintained a credit facility with the FHLB with available borrowing capacity of $1.24 billion. The FHLB functions as a member-owned cooperative providing credit for member financial institutions. Advances are made pursuant to several different programs. Each credit program has its own interest rate and range of maturities. Limitations on the amount of advances are based on a percentage of the Bank's assets or on the FHLB’s assessment of the institution’s creditworthiness. The Bank had $263.2 million in FHLB advances outstanding at June 30, 2025, and $383.0 million in FHLB advances outstanding at December 31, 2024. Advances from the FHLB may be collateralized by FHLB stock owned by the Bank, deposits at the FHLB, certain commercial and residential real estate loans, investment securities or other assets. All FHLB advances at June 30, 2025 were short-term and mature in less than one year.

The Bank maintains a credit facility with the FRB through the Discount Window with available borrowing capacity of $346.3 million at June 30, 2025. The Bank had no FRB borrowings outstanding at June 30, 2025 or December 31, 2024.

In addition to funds obtained in the ordinary course of business, the Company assumed trust preferred securities and the related junior subordinated debentures as part of a prior acquisition. For regulatory capital purposes, the trust preferred securities are included in Tier 2 capital. The junior subordinated debentures outstanding were $22.2 million as of June 30, 2025 and $22.1 million as of December 31, 2024, net of unaccreted discount.

The Bank maintains available unsecured federal funds lines with four correspondent banks totaling $145.0 million, with no outstanding borrowings at June 30, 2025 and December 31, 2024.

Stockholders' Equity

Total stockholders' equity increased $24.7 million, or 2.9%, to $888.2 million at June 30, 2025, compared to $863.5 million at December 31, 2024, due primarily to $26.1 million of net income recognized for the six months ended June 30, 2025 and an $18.1 million decrease in accumulated other comprehensive loss, net, offset partially by $16.6 million in dividends paid to common shareholders and $5.4 million in common stock repurchases during the six months ended June 30, 2025. The Company’s stockholders' equity to assets ratio was 12.6% at June 30, 2025, compared to 12.2% at December 31, 2024.

The Company has historically paid cash dividends to its common shareholders. Payments of future cash dividends, if any, will be at the discretion of our Board after taking into account various factors, including our business, operating results and financial condition, capital requirements, current and anticipated cash needs, plans for expansion, any legal or contractual limitation on our ability to pay dividends and other relevant factors. Dividends on common stock from the Company depend substantially upon the receipt of dividends from the Bank, which is the Company’s predominant source of income. On July 23, 2025, the Board declared a regular quarterly dividend of $0.24 per common share payable on August 20, 2025 to shareholders of record on August 6, 2025.

On April 24, 2024, the Board authorized the Repurchase Program. The Company is not obligated to repurchase any shares of its common stock, and other than repurchases that have been completed to date, there is no assurance that the Company will do so. The Company may, in its discretion, begin, suspend or terminate repurchases at any time prior to the Program’s expiration, without any prior notice.

Regulatory Requirements

The Company is a bank holding company under the supervision of the Federal Reserve. Bank holding companies are subject to capital adequacy requirements of the Federal Reserve under the Bank Holding Company Act of 1956, as amended, and the regulations of the Federal Reserve. The Bank is a federally insured institution and thereby is subject to the capital requirements established by the FDIC. The Federal Reserve capital requirements generally parallel the FDIC requirements. Failure to meet minimum capital requirements can initiate certain mandatory, and possibly additional discretionary, actions by regulators that, if undertaken, could have a direct material effect in the unaudited Condensed Consolidated Financial Statements and operations. Additionally, the Company and the Bank are required to maintain a capital conservation buffer of common equity Tier 1 capital above 2.5% to avoid restrictions on certain activities including payment of dividends, stock repurchases and discretionary bonuses to executive officers. Management believes that, as of June 30, 2025, the Company and the Bank met all capital adequacy requirements to which they are subject.

As of June 30, 2025 and December 31, 2024, the most recent regulatory notifications categorized the Bank as well-capitalized under the regulatory framework for prompt corrective action. There are no conditions or events since that notification that management believes have changed the Bank's categories.

The following table summarizes the Company's consolidated and the Bank's actual capital ratios compared to the regulatory "adequately capitalized" capital ratio and the regulatory minimum capital ratio needed to qualify as a "well capitalized" institution, as calculated under regulatory guideline at the dates presented:

(Dollars in thousands)

(1) The ratios to meet the requirements to be deemed “well-capitalized” under prompt corrective action regulations are only applicable to the Bank. However, the Company manages its capital position as if the requirements apply to the consolidated Company and has presented the ratios as if they also applied on a consolidated basis.

At December 31, 2024, the capital measures reflected the revised CECL capital transition provisions adopted by the Federal Reserve and the FDIC that provided banking organizations that implemented CECL before the end of 2020 the option to delay for two years the estimated impact of CECL on regulatory capital relative to regulatory capital determined under the prior incurred loss methodology, followed by a three-year transition period to phase out the aggregate amount of capital benefit provided during the initial two-year delay.

Liquidity and Capital Resources

We maintain sufficient cash and cash equivalents and investment securities to meet short-term liquidity needs and actively monitor our long-term liquidity position to ensure the availability of capital resources for contractual obligations, strategic loan growth objectives and to fund operations. Our funding strategy has been to focus on acquiring non-maturity deposits from our retail accounts, and noninterest bearing demand deposits from our commercial customers and to use our borrowing availability to fund growth in assets. Our liquidity policy permits the purchase of brokered deposits in an amount not to exceed 15% of the Company's total deposits as a secondary source for funding. The Company’s total uninsured deposits, which are the amounts of deposit accounts that exceed the FDIC insurance limit, currently $250,000, were approximately $2.37 billion, or 41.0% of total deposits, at June 30, 2025 and $2.27 billion, or 40.0% of total deposits, at December 31, 2024. These amounts were estimated based on the same methodologies and assumptions used for regulatory reporting purposes. At June 30, 2025, we had $102.5 million in brokered deposits, or 1.77% of total deposits, compared to $110.0 million, or 1.93% of total deposits, at December 31, 2024. Borrowings may be used on a short-term basis to compensate for reductions in other sources of funds (such as deposit inflows at less than projected levels). Borrowings may also be used on a longer-term basis to support expanded lending activities and match the maturity of repricing intervals of assets. While maturities and scheduled amortization of loans are a predictable source of funds, deposit flows and loan prepayments are greatly influenced by the level of interest rates, economic conditions and competition so we adhere to internal management targets assigned to the loan to deposit ratio, liquidity ratio, net short-term non-core funding ratio and non-core liabilities to total assets ratio to ensure an appropriate liquidity position. The Company regularly monitors liquidity, models liquidity stress scenarios to ensure that adequate liquidity is available, and has contingency funding plans in place, which are reviewed and tested on a regular, recurring basis.

The following table summarizes the Company's available liquidity as of the dates indicated:

(Dollars in thousands)

(1) Investment securities available for sale at fair value.

(2) Includes FHLB borrowing availability of $1.24 billion at June 30, 2025 based on pledged assets; however, maximum credit capacity is 45% of the Bank's total assets one quarter in arrears, or $3.21 billion.

Management believes the capital sources are adequate to meet all reasonably foreseeable short-term and long-term cash requirements and there has not been a material change in our capital resources since the information disclosed in our 2024 Annual Form 10-K. We are not aware of any reasonably likely material changes in the mix and relative cost of such resources.

Critical Accounting Estimates

Our critical accounting estimates are described in detail in the "Critical Accounting Estimates" section within Item 7 of our 2024 Annual Form 10-K. The SEC defines "critical accounting estimates" as those that require application of management's most difficult, subjective or complex judgments, often as a result of the need to make estimates about the effect of matters that are inherently uncertain and may change in future periods. The Company's critical accounting estimates include estimates of the ACL on loans and goodwill. There have been no material changes in these estimates during the six months ended June 30, 2025.

Like other financial institutions, the Company is subject to direct and indirect market risk. Market risk represents the risk of loss due to changes in market values of assets and liabilities. We incur direct market risk in the normal course of business through our exposure to market interest rates, equity prices and credit spreads. Our primary market risk is interest rate risk, which is the risk of loss of net interest income or net interest margin resulting from changes in market interest rates. Interest rate risk results primarily from the traditional banking activities in which the Company engages, such as gathering deposits and extending loans. Many factors, including economic and financial conditions, movements in interest rates and consumer preferences, affect the difference between the interest earned on our assets and the interest paid on our liabilities.

Our Asset/Liability Management Committee is responsible for developing, monitoring and reviewing asset/liability processes, interest rate risk exposures, strategies and tactics and reporting to the Risk and Technology Committee of the Board. It is the responsibility of the Board to establish policies and interest rate limits and to approve these policies and interest rate limits annually. It is the responsibility of management to execute the approved policies, develop and implement risk management strategies and to report to the Board on a regular basis. We maintain an asset/liability management policy that provides guidelines for controlling exposure to interest rate risk. The policy guidelines direct management to assess the impact of changes in interest rates upon both earnings and capital. These guidelines establish limits for interest rate risk sensitivity.

Net interest income simulation

We use an income simulation model as the primary tool to assess the direction and magnitude of changes in net interest income resulting from changes in interest rates. Modeling the sensitivity of net interest income is highly dependent on numerous assumptions incorporated into the modeling process. Key assumptions in the model include prepayment speeds on loans and investment securities, repricing betas on non-maturity deposits, and repricing on investment securities, loans, and borrowings. In order to measure the interest rate risk sensitivity as of June 30, 2025, this simulation model uses a “static balance sheet” assumption, meaning the size and mix of the balance sheet remains the same as maturing cash flows from assets and liabilities are reinvested into the same categories at the current level of interest rates. The simulation also assumes an instantaneous and sustained uniform change in market interest rates at all maturities.

The following table summarizes the estimated effect on net interest income over a 12 month period measured against a flat rate (no interest rate change) scenario for the dates indicated:

(Dollars in thousands)

The Company’s balance sheet sensitivity to changes in market rates shows an increase in asset sensitivity at June 30, 2025 compared to December 31, 2024. This is due primarily to balance sheet changes that include an increase in interest earning deposits, a reduction in short-term wholesale funding, and a reduction in fixed rate investment securities. For each of the interest rate scenarios modeled and measured by management as presented in the preceding table, results at June 30, 2025 were well within established risk tolerances as established by policy.

The simulation results noted above do not incorporate any management actions that might moderate the negative consequences of interest rate deviations. In addition, the simulation results noted above contain various assumptions such as a static balance sheet, and the rate that deposit interest rates change as market interest rates change. Therefore, these simulation results do not likely reflect actual results, but continue to serve as estimates of interest rate risk.

As with any method of measuring interest rate risk, certain shortcomings are inherent in the method of analysis presented in the preceding table. For example, although certain of the Company’s assets and liabilities may have similar maturities or repricing time frames, they may react in different degrees to changes in market interest rates. In addition, the interest rates on certain of the Company’s asset and liability categories may precede, or lag behind, changes in market interest rates. Also, the actual rates of prepayments on loans and investments could vary significantly from the assumptions utilized in deriving the results as presented in the preceding table. Further, a change in Treasury rates accompanied by a change in the shape of the treasury yield curve could result in different estimations from those presented herein. Accordingly, the results in the preceding table should not be relied upon as indicative of actual results in the event of changing market interest rates.

(a) Evaluation of Disclosure Controls and Procedures

Our management has evaluated, with the participation and under the supervision of our Chief Executive Officer (the Company’s principal executive officer) and Chief Financial Officer (the Company’s principal financial officer), the effectiveness of our disclosure controls and procedures (as defined in Rule 13a-15(e) of the Exchange Act) as of the end of the period covered by this report. Based on this evaluation, our Chief Executive Officer and Chief Financial Officer have concluded that, as of such date, the Company’s disclosure controls and procedures were effective to provide reasonable assurance that that information required to be disclosed in reports that it files under the Exchange Act is (1) recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms, and (2) accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, as appropriate to allow timely decisions regarding required disclosure.

(b) Changes in Internal Control Over Financial Reporting

There have been no changes in the Company’s internal control over financial reporting (as defined in Rule 13a-15(f) of the Exchange Act) that occurred during the three months ended June 30, 2025 that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.