HERITAGE FINANCIAL CORP WA

One of the Company's key sources of revenues 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.

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

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

(2) Average loans receivable, net includes loans held for sale and loans classified as nonaccrual, which carry a zero yield. Interest earned on loans receivable, net includes the amortization of net deferred loan fees of $809,000 and $752,000 for the three months ended March 31, 2024 and 2023, 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 March 31, 2024 compared to the same period in 2023 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:

Net interest income decreased $8.3 million, or 13.9%, to $51.5 million for the three months ended March 31, 2024 as compared to $59.8 million for the same period in 2023 due primarily to a $16.0 million increase in total interest expense, offset partially by a $7.7 million increase in total interest income.

Total interest expense increased to $22.8 million during the three months ended March 31, 2024 compared to $6.8 million for the same period in 2023. The increase was due to an $11.9 million increase in interest expense on interest bearing deposits and a $4.1 million increase in interest expense on borrowings during the three months ended March 31, 2024, as compared to the same period in 2023. The increase in interest expense on interest bearing deposits was due primarily to a 121 basis point increase in the cost of interest bearing deposits to 1.70% for the three months ended March 31, 2024, as compared to 0.49% for the same period in 2023 due to competitive rate pressures, and to a lesser extent, a $383.6 million increase in the average balance of certificates of deposit which are at higher rates.

Total interest income increased to $74.4 million for the three months ended March 31, 2024, compared to $66.7 million for the same period in 2023. The increase was primarily due to a $7.4 million increase in interest income on loans receivable, net and a $504,000 increase in interest income on interest earning deposits, offset partially by a $228,000 decrease in interest income on investment securities during the three months ended March 31, 2024 as compared to same period in 2023. Interest income on loans receivable, net and interest earning deposit increased due to increases in both the average yield earned on and the average outstanding balance of those assets. The yield earned on loans receivable, net increased 34 basis points to 5.41% and the average balance of loans receivable, net increased $264.0 million to $4.30 billion during the three months ended March 31, 2024, as compared to the same period in 2023. Similarly, the yield earned on interest earning deposits increased 73 basis points to 5.46% and the average balance of those deposits increased $25.4 million to $108.7 million during three months ended March 31, 2024, as compared to the same period in 2023.

Interest income on investment securities decreased $228,000 due to a decrease in the average balance of investment securities, offset partially by an increase in the yield earned on these securities. The yield on taxable securities increased 33 basis points to 3.29% during the three months ended March 31, 2024 compared to 2.96% during the same period in 2023 due to sales of lower yielding securities and purchases of higher yielding securities during both the three months ended March 31, 2024 and the three months ending December 31, 2023.

Net interest margin decreased 59 basis points to 3.32% for the three months ended March 31, 2024 compared to 3.91% for the same period in 2023.