News Column

HERITAGE OAKS BANCORP - 10-Q - Management's Discussion and Analysis of Financial Condition and Results of Operations

May 2, 2014

This Quarterly Report on Form 10-Q may contain forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. You can find many but not all of these statements by looking for words such as "approximates," "believes," "expects," "anticipates," "estimates," "intends," "plans," "would," "may" and other similar expressions in this Quarterly Report on Form 10-Q. The Company claims the protection of the safe harbor contained in the Private Securities Litigation Reform Act of 1995, as amended. The Company cautions investors that any forward-looking statements presented in this Quarterly Report on Form 10-Q, or those that the Company may make orally or in writing from time to time, are based on the Company's beliefs, and on assumptions made by, and information available to management at the time such statements are first made. The actual outcome will be affected by known and unknown risks, trends, uncertainties and factors that are beyond the Company's control or ability to predict. Although the Company believes that management's assumptions are reasonable, they are not guarantees of future performance and some will inevitably prove to be incorrect. As a result, the Company's actual future results can be expected to differ from management's expectations, and those differences may be material and adverse to the Company's business, results of operations and financial condition. Accordingly, investors should use caution in relying on forward-looking statements to anticipate future results or trends. Some of the risk and uncertainties that may cause the Company's actual results, performance or achievements to differ materially from those expressed include the following: the uncertainty as to whether the financial crisis in the United States has fully been resolved, including the relative softness in the California real estate market, and the response of federal and state government and our regulators thereto; credit quality deterioration or a reduction in real estate values causing an increase in the ALLL and a reduction in net earnings; a decline in general economic conditions in those areas in which the Company operates; competitive pressure among depository institutions; fluctuations in interest rates and the possibility that a change in the interest rate environment may reduce net interest margins; changes in the Company's business strategy or development plans; the Company's ability to successfully integrate the operations of its acquisition of Mission Community Bancorp; changes in governmental regulation; economic, political and global changes arising from the war on terrorism, social unrest and other civil disturbances; the Company's ability to increase profitability and sustain growth; asset/liability re-pricing risks and liquidity risks; changes in customer borrowing, repayment, investment and deposit practices; the introduction, withdrawal, success and timing of business initiatives; the Company's beliefs as to the adequacy of its existing and anticipated ALLL; the threat and impact of cyber-attacks on our Company and our third party vendors information technology infrastructure; environmental conditions, including natural disasters such as droughts, earthquakes, landslides and wildfires, may disrupt business, impede operations, or negatively impact the values of collateral securing loans; and financial policies of the United States government. Additional information on these risks and other factors that could affect operating results and financial condition are detailed in reports filed by the Company with the U.S. Securities and Exchange Commission, including the Company's Annual Report on Form 10-K for the year ended December 31, 2013, filed by the Company with the U.S. Securities and Exchange Commission on March 4, 2014. Forward looking statements speak only as of the date they are made, and the Company does not undertake to update forward looking statements to reflect circumstances or events that occur after the date the forward looking statements are made, whether as a result of new information, future developments or otherwise, and specifically disclaims any obligation to revise or update such forward looking statements for any reason, except as may be required by law. Heritage Oaks Bancorp | - 32 -



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Table of Contents EXECUTIVE OVERVIEW This overview of management's discussion and analysis highlights selected information in the financial results of the Company and may not contain all of the information that is important to you. For a more complete understanding of trends, commitments, uncertainties, liquidity, capital resources and critical accounting policies and estimates, you should carefully read this entire document. Each of these items could have an impact on the Company's consolidated financial condition and results of operations. On February 28, 2014, the Company completed the previously announced acquisition of Mission Community Bancorp and its subsidiary Mission Community Bank, (collectively "MISN"). The total value of the transaction was $69.0 million, which is comprised of cash of $8.7 million and 7,541,326 shares of the Company's common stock valued at $60.3 million, based on the $7.99 closing price of the Company's stock on February 28, 2014. The operating results of MISN beginning on March 1, 2014 are included in the Company's results for the first quarter, 2014 and are presented in Note 2. Business Combination, of the Condensed Consolidated Financial Statements filed in this Form 10-Q. The impact of MISN acquisition to the Company's total loans and deposits was a 34% increase in total loans and 38% increase in total deposits as of February 28, 2014. Heritage Oaks Bancorp (the "Company") is a California corporation organized in 1994 to act as a holding company for Heritage Oaks Bank ("Bank"), a bank founded in 1983 that serves San Luis Obispo, Santa Barbara and Ventura counties. As of March 31, 2014, Heritage Oaks Bank operated three branch offices in Paso Robles, San Luis Obispo and Santa Maria, two branch offices in Arroyo Grande and Atascadero, single branch offices in Cambria, Templeton, Morro Bay, and Santa Barbara as well as one loan production office in Ventura/Oxnard and one loan production office in Goleta. The principal business of the Bank consists of attracting deposits from the general public and investing these funds primarily in commercial real estate ("CRE") and commercial business loans, loans secured by first mortgages on one-to-four single family residences, operating and real estate procurement loans for agricultural business, multifamily residential property loans and a variety of consumer loans. The Bank offers a variety of deposit accounts for both individuals and businesses with varying rates and terms, which generally include savings accounts, money market deposits, certificate accounts and checking accounts. The Bank solicits deposits primarily in its market area and through the CDARs reciprocal deposit program, and in the past has accepted brokered deposits. The Bank also originates one-to-four single family residential mortgages for sale in the secondary market. During the first quarter of 2014, the Bank received approval to sell home loans directly to Fannie Mae. The Bank also provides SBA loans, as a member of the SBA's Preferred Lender Program. Other than holding the shares of the Bank, the Company conducts no significant activities. As a bank holding company, the Company generally is prohibited from acquiring direct or indirect ownership or control of more than 5 percent of the voting shares of any company which is not a bank or bank holding company, or from engaging directly or indirectly in activities other than those of banking, managing or controlling banks, or providing services for its subsidiaries. The principal exceptions to these prohibitions involve certain non-bank activities which, by statute or by regulation or order of the Federal Reserve Board, have been identified as activities closely related to the business of banking or managing or controlling banks. In October 2006, the Company formed Heritage Oaks Capital Trust II ("Trust II"). Trust II is a statutory business trust formed under the laws of the State of Delaware and is a wholly-owned, non-financial, non-consolidated subsidiary of the Company whose sole purpose was to issue trust preferred securities. In conjunction with the MISN acquisition the Company assumed two additional trusts; Mission Community Capital Trust I ("Trust III"), and Santa Lucia Bancorp (CA) Capital Trust ("Trust IV"), both of which are statutory business trusts formed under the laws of the State of Delaware, the sole purpose of which is to issue trust preferred securities. Strategic Initiatives † Expand our franchise through acquisitions of other banks or branches or the establishment of de novo branches in markets that offer regional continuity, such as the Central California coastal communities. We plan to develop a scalable and meaningful platform for retail banking relationships, commercial and agricultural banking relationships, and residential mortgage lending. In addition, the Company closed the MISN transaction on February 28, 2014. Heritage Oaks Bancorp | - 33 -



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† Continue as a public company with a common stock that is quoted and traded on a national exchange. In addition to providing access to growth capital, we believe a "public currency" provides flexibility in structuring acquisitions and will allow us to attract and retain qualified management through equity-based compensation.

† Expand our commercial and agribusiness loan portfolios to diversify both our customer base and maturities of the loan portfolio and to benefit from the low cost deposits associated with individual accounts and the professional, general business accounts connected to our commercial and agribusiness customers. The Company successfully recruited and installed an agribusiness team in 2012 which contributed to a significant increase in the Bank's agribusiness lending presence in the Central Coast region of California.



† Enhance the residential lending product mix and loan sale alternatives with Fannie Mae approval by originating qualified loans that are subsequently sold directly to Fannie Mae.

† Develop an expertise and core competency in the integration of acquired operations to support the Company's bank acquisition strategy. The Company also is investing in its infrastructure to have the ability to scale efficiently and effectively, in line with our long-term goal of creating a community banking franchise of $3.0 billion to $5.0 billion in total assets. The comparability of the Company's operating results for the three months ended March 31, 2014 and 2013 is significantly impacted by the Company's acquisition of MISN during the first quarter of 2014. Financial Highlights The Company incurred a net loss for the three months ended March 31, 2014 of ($1.8) million, or ($0.06) per diluted common share as compared with net income of $3.7 million, or $0.13 per diluted common share for the three months ended March 31, 2013.



Significant factors impacting the Company's net income during the first three months of 2014 are discussed below:

† Net interest income was $12.5 million, or 3.98% of average interest earning assets ("net interest margin"), for the first quarter of 2014 compared with $10.2 million, or a 4.14% net interest margin, for the same period in the prior year. Net interest income increased for the three months ended March 31, 2014 as compared to the same period in 2013 due primarily to the increase generated from MISN's loan and securities portfolios. We have continued to experience declining yields on our investment and loan portfolios due to the historically low interest rate environment and increasing competition in our lending market; however, the impact of accretion from purchased MISN loans and the increase in average balances from our organic loan growth (exclusive of MISN) has offset the impact of declining yields on net interest income when compared to the first quarter of 2013. † Non-interest expense increased to $17.0 million for the three months ended March 31, 2014 from $9.7 million for the same period a year earlier. The increase in non-interest expense for the first quarter of 2014 was primarily the result of merger, restructure, and integration costs of $7.1 million related to the MISN merger that closed on February 28, 2014, which included costs to eliminate redundant assets, terminate service contracts and reduce redundant personnel costs. Non-interest expense also increased due to the incorporation of one month of MISN operations into our legacy cost structure. These increases were partially offset by reductions in mortgage repurchase provisions and regulatory costs. We expect the acquired MISN operating costs to continue to decline until the end of 2014 as we execute our plan for consolidating 17 branches into 11 branches. There will be continued non-interest expense for the costs of converting MISN systems and for operating the branches until the consolidation is completed over the next three quarters. † No provisions for loan and lease losses were recorded in the three months ended March 31, 2014 or 2013. This lack of provisioning is due to continued improvements in the overall credit quality of the loan portfolio, improvement in our historical loan loss experience and a change in the mix of loans to products with lower credit risk, which were largely offset by incremental ALLL requirements due to the growth in the overall loan portfolio and additional qualitative factor adjustments for the concentration in CRE loans and the potential impact of California's drought on our business loans. As of March 31, 2014 MISN legacy loans have no ALLL, as the existing un-accreted purchase discounts associated with these loans has been deemed adequate by management to absorb losses inherent in the acquired portfolio. Heritage Oaks Bancorp | - 34 -



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† Non-interest income decreased $3.9 million to $1.8 million for the first quarter of 2014 from $5.7 million for the same period in the prior year. The decline in non-interest income is primarily the result of $3.6 million of gains on the sale of investment securities in the first quarter of 2013, which resulted from the sale of $89.3 million of securities which were sold to reduce the overall duration of the investment securities portfolio to limit interest rate risk and to provide a funding source for our growing loan demand. In addition, we experienced a reduction in gain on mortgage sales and origination fee income of $0.5 million due to a decline in the level of refinancing activity attributable to the increase in long-term mortgage rates over the last several quarters.



Critical Accounting Policies and Estimates

Our accounting policies are integral to understanding the Company's financial condition and results of operations. Accounting policies that management considers to be significant, including newly issued standards to be adopted in future periods, are disclosed in Note 1, Summary of Significant Accounting Policies, of the Consolidated Financial Statements in our Annual Report on Form 10-K for the year ended December 31, 2013. The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America ("U.S. GAAP") requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ materially and adversely from those estimates. Estimates that are particularly susceptible to significant change relate to the determination of purchase accounting adjustments to the fair market value of assets purchased and liabilities assumed through strategic acquisitions, the ALLL, the valuation of real estate acquired through foreclosure, the carrying value of the Company's net deferred tax assets and estimates used in the determination of the fair value of certain financial instruments.



Fair Market Value of Assets Purchased and Liabilities Assumed through Strategic Acquisitions

When the Company acquires the assets and assumes the liabilities of other financial institutions, GAAP requires an assessment of the fair market value of those individual assets and liabilities which may have different fair market values than the cost basis recorded on the acquired institution's financial statements. Management performs an initial assessment to determine which assets and liabilities must be designated for fair market value analysis. Management typically engages experts in the field of valuation to perform the valuation of significant assets and liabilities and after assessing the resulting fair value computation will utilize such value in computing the initial purchase accounting adjustments for the acquired institution. It is possible that these values could be viewed differently through either alternative valuation approaches or if performed by different experts. Management is responsible for determining that the values determined by experts are reasonable. These computations are also left open for final adjustments for a period of up to one year, primarily to allow for completion of analysis and for possible new information that existed as of the acquisition date to be incorporated into the purchase accounting. See also Note 8. Goodwill and Other Intangible Assets, of the Condensed Consolidated Financial Statements filed in this Form 10-Q.



Allowance for Loan Losses and Valuation of Foreclosed Real Estate

In connection with the determination of the specific credit component of the ALLL for non-performing loans in the loan portfolio and the value of foreclosed real estate, management obtains independent appraisals at least once a year for significant properties. While management uses available information to recognize losses on non-performing loans and foreclosed real estate, future additions to the ALLL may be necessary based on changes in local economic conditions or other factors outside our control. The general portfolio component of the ALLL is determined by pooling performing loans by collateral type and purpose. These loans are then further segmented by an internal loan grading system that classifies loans as: pass, special mention, substandard and doubtful. Estimated loss rates are then applied to each segment according to loan grade to determine the amount of the general portfolio allocation. Estimated loss rates are determined through an analysis of historical loss rates for each segment of the loan portfolio, based on the Company's prior experience with such loans. In addition, qualitatively determined adjustments are made to the historical loss history to give effect to certain internal and external factors that may have either a positive or negative impact on the overall credit quality of the loan portfolio. Heritage Oaks Bancorp | - 35 -



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Because of all the variables that go into the determination of both the specific and general allocation components of the ALLL, as well as the valuation of foreclosed real estate, it is reasonably possible that the ALLL and foreclosed real estate values may change in future periods and those changes could be material and have an adverse effect on our financial condition and results of operations. See also Note 6. Allowance for Loan and Lease Losses, of the Condensed Consolidated Financial Statements filed in this Form 10-Q.



Realizability of Deferred Tax Assets

The Company uses an estimate of its future earnings in determining if it is more likely than not that the carrying value of its deferred tax assets will be realized over the period they are expected to reverse. If based on all available evidence, the Company believes that a portion or all of its deferred tax assets will not be realized, a valuation allowance must be established.



See

also Note 7. Income Taxes, of the Condensed Consolidated Financial Statements filed in this Form 10-Q.

Fair Value of Financial Instruments

The degree of judgment utilized in measuring the fair value of financial instruments generally correlates to the level of observable pricing. Financial instruments with readily available active quoted prices or for which fair value can be measured from actively quoted prices generally will have a higher degree of observable pricing and a lesser degree of judgment utilized in measuring fair value. Conversely, financial instruments rarely traded or not quoted will generally have little or no observable pricing and a higher degree of judgment is utilized in measuring the fair value of such instruments. Observable pricing is impacted by a number of factors, including the type of financial instrument, whether the financial instrument is new to the market and the characteristics specific to the financial instrument, including but not limited to credit and duration profiles. See also Note 3. Fair Value of Assets and Liabilities, of the Condensed Consolidated Financial Statements filed in this Form 10-Q.



Accrual for Restructuring Activities

From time to time the Company plans organizational restructuring activities to optimize the efficiency of its operations. Generally accepted accounting principles allow the Company to accrue for certain future restructuring expenses, such as employee termination, retention and relocation costs, contract cancellation costs and fixed asset disposal costs, as long as the Company has adopted a board approved plan for restructuring activities and notified the affected personnel, landlords and vendors within a prescribed timeframe.



Where You Can Find More Information

Under Section 13 of the Securities Exchange Act of 1934, as amended, periodic and current reports must be filed with the U.S. Securities and Exchange Commission (the "SEC"). The Company electronically files the following documents with the SEC: Annual Reports on Form 10-K; Quarterly Reports on Form 10-Q; Current Reports on Form 8-K; and Definitive Proxy Statements on Form DEF 14A. The Company may file additional documents from time to time. The SEC maintains an internet site, www.sec.gov, from which all documents filed or furnished electronically may be accessed. Additionally, all documents filed with the SEC and additional shareholder information is available free of charge on the Company's website: www.heritageoaksbancorp.com.



The Company posts these reports and other filings to its website as soon as reasonably practicable after filing them with or furnishing them to the SEC. None of the information on or hyperlinked from the Company's website is incorporated into this Quarterly Report on Form 10-Q.

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Table of Contents Selected Financial Data



The table below provides selected financial data that highlights the Company's quarterly performance results:

At or For The Three Months Ended, (dollar amounts in thousands, except per share data) 3/31/2014 12/31/2013 9/30/2013



6/30/20133/31/201312/31/20129/30/20126/30/2012

3/31/2012 Consolidated Income Data: Interest income $ 13,602$ 11,736$ 11,509$ 11,075$ 11,073$ 11,649$ 11,519$ 11,401$ 11,752 Interest expense 1,151 1,049 1,027 926 865 886 934 995 1,003 Net interest income 12,451 10,687 10,482 10,149 10,208 10,763 10,585 10,406 10,749 Provision for loan losses - - - - - - 1,286 3,064 3,331 Net interest income after provision for loan and lease losses 12,451 10,687 10,482 10,149 10,208 10,763 9,299 7,342 7,418 Non-interest income 1,750 1,879 2,423 2,912 5,661 3,548 2,984 3,494 2,522 Non-interest expense 17,038 9,624 8,551 8,640 9,748 9,474 8,795 9,133 8,729 (Loss) income before income tax (benefit) expense (2,837 ) 2,942 4,354 4,421 6,121 4,837 3,488 1,703 1,211 Income tax (benefit) expense (1,074 ) 1,308 1,593 1,705 2,391 1,710 (2,940 ) (194 ) (374 ) Net (loss) income (1,763 ) 1,634 2,761 2,716 3,730 3,127 6,428 1,897 1,585 Dividends and accretion on preferred stock - - 181 359 358 357 357 375 381 Net (loss) income available to common shareholders $ (1,763 )$ 1,634$ 2,580$ 2,357$ 3,372$ 2,770$ 6,071$ 1,522$ 1,204 Share Data: (Loss) earnings per common share - basic $ (0.06 )$ 0.06$ 0.10$ 0.09$ 0.13$ 0.11$ 0.24$ 0.06$ 0.05 (Loss) earnings per common share - diluted $ (0.06 )$ 0.06$ 0.10$ 0.09$ 0.13$ 0.10$ 0.23$ 0.06$ 0.05 Dividend payout ratio (1) 0.00% 0.00% 0.00% 0.00% 0.00% 0.00% 0.00% 0.00% 0.00% Common book value per share $ 5.55$ 4.84$ 4.78$ 4.80$ 4.82$ 4.78$ 4.65$ 4.36$ 4.29 Tangible common book value per share $ 4.61$ 4.34$ 4.29$ 4.30$ 4.31$ 4.27$ 4.16$ 3.86$ 3.79 Actual shares outstanding at end of period 33,003,414 25,397,780 25,391,343 25,342,560 25,331,541 25,307,110 25,288,430 25,234,262 25,163,571 Weighted average shares outstanding - basic 27,816,911 25,192,985 25,172,929 25,130,299 25,112,004 25,101,083 25,089,325 25,076,226 25,057,664 Weighted average shares outstanding - diluted 27,816,911 26,550,442 26,549,568 26,543,268 26,527,457 26,485,728 26,430,717 26,399,117 26,290,370 Consolidated Balance Sheet Data: Total cash and cash equivalents $ 65,857$ 26,238$ 33,281$ 38,539$ 38,517$ 34,116$ 44,176$ 32,558$ 26,702 Total investments and other securities $ 347,977$ 276,795$ 267,179$ 237,540$ 247,890$ 287,682$ 261,451$ 260,786$ 266,996 Total gross loans $ 1,114,070$ 827,484$ 777,154$ 746,611$ 704,880$ 689,608$ 678,348$ 663,670$ 645,468 Allowance for loan and lease losses $ (17,968 )$ (17,859 )$ (17,468 )$ (17,934 )$ (17,743 )$ (18,118 )$ (17,987 )$ (18,149 )$ (19,801 ) Total assets $ 1,662,200$ 1,203,651$ 1,153,843$ 1,096,882$ 1,064,684$ 1,097,532$ 1,058,679$ 1,023,774$ 1,008,780 Total deposits $ 1,365,829$ 973,895$ 956,952$ 883,329$ 862,815$ 870,870$ 855,032$ 833,913$ 806,360Federal Home Loan Bank borrowings $ 85,571$ 88,500$ 57,500$ 52,500$ 36,500$ 66,500$ 46,000$ 40,000$ 52,500 Junior subordinated debt $ 13,071$ 8,248$ 8,248$ 8,248$ 8,248$ 8,248$ 8,248$ 8,248$ 8,248 Total shareholders' equity $ 186,640$ 126,427$ 125,092$ 146,288$ 146,739$ 145,529$ 142,285$ 134,690$ 132,623 Selected Other Balance Sheet Data: Average assets $ 1,362,466$ 1,180,936$ 1,123,875$ 1,091,746$ 1,079,615$ 1,062,595$ 1,039,773$ 1,017,030$ 979,855 Average earning assets $ 1,267,400$ 1,088,741$ 1,028,879$ 1,007,673$ 1,000,072$ 985,326$ 965,100$ 948,095$ 916,269 Average shareholders' equity $ 149,042$ 127,087$ 129,517$ 148,023$ 146,902$ 144,843$ 137,457$ 134,788$ 132,384 Selected Financial Ratios: (Loss) return on average assets -0.52% 0.55% 0.97% 1.00% 1.40% 1.17% 2.46% 0.75% 0.65% (Loss) return on average equity -4.80% 5.10% 8.46% 7.36% 10.30% 8.59% 18.60% 5.66% 4.82% (Loss) return on average tangible common equity -5.74% 5.85% 9.04% 8.55% 12.51% 10.23% 24.08% 6.28% 5.10% Net interest margin (2) 3.98% 3.89% 4.04% 4.04% 4.14% 4.35% 4.36% 4.41% 4.72% Efficiency ratio (3) 118.28% 75.33% 67.10% 65.00% 78.10% 70.36% 65.47% 69.75% 65.70% Non-interest expense to average assets 5.07% 3.23% 3.02% 3.17% 3.66% 3.55% 3.37% 3.61% 3.58% Capital Ratios: Average equity to average assets 10.94% 10.76% 11.52% 13.56% 13.61% 13.40% 13.22% 13.25% 13.51% Leverage Ratio 11.64% 10.20% 10.58% 12.60% 12.72% 12.32% 12.15% 11.88% 12.17% Tier 1 Risk-Based Capital ratio 12.25% 12.91% 13.27% 15.77% 16.50% 15.55% 14.92% 14.50% 14.60% Total Risk-Based Capital ratio 13.50% 14.17% 14.53% 17.03% 17.76% 16.81% 16.19% 15.76% 15.87% Selected Asset Quality Ratios: Non-performing loans to total gross loans (4) 0.89% 1.22% 1.63% 1.87% 1.73% 2.51% 3.02% 3.15% 2.58% Non-performing assets to total assets (5) 0.62% 0.84% 1.10% 1.27% 1.16% 1.58% 1.99% 2.14% 1.74% Allowance for loan and lease losses to total gross loans 1.61% 2.16% 2.25% 2.40% 2.52% 2.63% 2.65% 2.73% 3.07% Net charge-offs (recoveries) to average loans -0.05% -0.20% 0.24% -0.10% 0.22% -0.07% 0.85% 2.86% 1.75%



(1) No cash dividends were paid during the periods presented.

(2) Net interest margin represents net interest income as a percentage of average interest-earning assets.

(3) The efficiency ratio is defined as total non-interest expense as a percent of the combined net interest income plus non-interest income, exclusive of gains and losses on security sales, other than temporary impairment losses, gains and losses on sale of OREO and other OREO related costs, gains and losses on sale of fixed assets, and the amortization of intangible assets.



(4) Non-performing loans are defined as loans that are past due 90 days or more as well as loans placed in non-accrual status.

(5) Non-performing assets are defined as loans that are past due 90 days or more and loans placed in non-accrual status plus other real estate owned.

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Table of Contents Results of Operations



Net Interest Income and Margin

Net interest income, the primary component of the net earnings of a financial institution, refers to the difference between the interest earned on loans and investments and the interest paid on deposits and borrowings. The net interest margin is the amount of net interest income expressed as a percentage of average interest earning assets. Factors considered in the analysis of net interest income are the composition and volume of interest-earning assets and interest-bearing liabilities, the amount of non-interest bearing liabilities and non-accrual loans, and changes in market interest rates. For the three months ended March 31, 2014 and 2013, net interest margin was 3.98% and 4.14%, respectively. The tables below set forth the details that make up net interest margin including, average balance sheet information, interest income and expense, average yields and rates and net interest income and margin: For the Three Months Ended For the Three Months Ended March 31, 2014 March 31, 2013 Yield/ Income/ Yield/ Income/ (dollar amounts in thousands) Balance Rate (4) Expense Balance Rate (4) Expense Interest Earning Assets Interest bearing deposits in other banks $ 39,716 0.12% $ 12$ 22,232 0.20% $ 11 Investment securities taxable 244,175 1.91% 1,151 207,656 1.91% 978 Investment securities non taxable 54,534 3.26% 439 58,102 3.18% 455 Other investments 7,378 7.91% 144 6,478 2.00% 32 Loans (1) (2) 921,598 5.22% 11,856 705,604 5.52% 9,597 Total interest earning assets 1,267,400 4.35% 13,602 1,000,072 4.49% 11,073 Allowance for loan and lease losses (17,951 ) (18,046 ) Other assets 113,017 97,589 Total assets $ 1,362,466$ 1,079,615 Interest Bearing Liabilities Interest bearing demand $ 90,883 0.11% $ 24$ 71,769 0.11% $ 19 Savings 61,016 0.10% 15 39,297 0.10% 10 Money market 362,077 0.32% 284 290,374 0.31% 225 Time deposits 246,826 0.81% 492 183,278 0.90% 406 Total interest bearing deposits 760,802 0.43% 815 584,718 0.49% 660 Federal Home Loan Bank borrowing 90,791 1.17% 261 58,823 1.13% 164 Junior subordinated debentures 9,909 3.07% 75 8,248 2.02% 41 Total borrowed funds 100,700 1.35% 336 67,071 1.24% 205 Total interest bearing liabilities 861,502 0.54% 1,151 651,789 0.54% 865 Non interest bearing demand 343,489 263,127 Total funding 1,204,991 0.39% 1,151 914,916 0.38% 865 Other liabilities 8,432 17,797 Total liabilities $ 1,213,424$ 932,713 Shareholders' Equity Total shareholders' equity 149,042 146,902 Total liabilities and shareholders' equity $ 1,362,466$ 1,079,615 Net interest margin (3) 3.98% 4.14% Interest rate spread 3.81% $ 12,451

3.95% $ 10,208



(1) Non-accruing loans have been included in total loans.

(2) Loan fees have been included in interest income computation.

(3) Net interest margin has been calculated by dividing the net interest income by total average earning assets.

(4) Yield / Rate is annualized using actual number of days in period.

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The volume and rate variance tables below set forth the dollar difference in interest earned and paid for each major category of interest earning assets and interest bearing liabilities as compared to the corresponding period a year earlier, and the amount of such change attributable to changes in average balances (volume), changes in average yields and rates (rate) and the interplay of the impacts of the changes in rates and volumes (rate/volume): For The Three Months Ended, March 31, 2014 over 2013 (dollar amounts in thousands) Volume Rate Rate/Volume Total Interest income: Interest bearing deposits in other banks $ 9$ (5 ) $ (3 ) $ 1 Investment securities taxable 172 1 - 173 Investment securities non-taxable (1) (42 ) 20 (1 ) (23 ) Taxable equivalent adjustment (1) 14 (7 ) - 7 Other investments 4 95 13 112 Loans 2,938 (520 ) (159 ) 2,259 Net increase (decrease) 3,095 (416 ) (150 ) 2,529 Interest expense: Savings, NOW, money market 71 (2 ) - 69 Time deposits 141 (41 ) (14 ) 86 Federal Home Loan Bank borrowing 89 5 3 97 Long term borrowings 8 22 4 34 Net increase (decrease) 309 (16 ) (7 ) 286 Total net increase (decrease) $ 2,786$ (400 )$ (143 )$ 2,243



(1) Adjusted to a fully taxable equivalent basis using a tax rate of 34%.

For the three months ended March 31, 2014 as compared to the corresponding period in 2013, the continued current low interest rate environment has had an adverse impact on yields on new and renewing loans. In addition, the low interest rate environment and relative flatness of interest yield curves have had a compounding impact on securities' yields as new investments are typically providing lower yields. In addition, existing investments in mortgage backed securities experienced accelerated prepayment speeds as the underlying mortgages were being refinanced at an increased frequency during most of 2013, which resulted in acceleration of the amortization of premiums paid on these securities. These factors have combined to reduce the yield on earning assets for the three months ended March 31, 2014 by 14 basis points, as compared to the corresponding period in 2013. While the loan portfolio has continued to grow since the first quarter of 2013 and continues to contribute to a more favorable earning asset mix, we continue to hold a large portion of our earning assets in lower yielding investment securities. Modest decreases in funding costs related to shifts in the composition of deposits from interest bearing accounts to more liquid non-interest bearing deposit accounts, along with reduced rates of interest paid on interest bearing deposits, have resulted in a lower cost of funds that has partially offset the reduced yields on interest-earning assets. The decrease in loan yields for the first quarter, 2014 as compared to the same period a year earlier, attributable to the repayment of existing Heritage Oaks loans and on-boarding of lower yielding new loans, had a negative 50 basis point impact to loan yields. Loan prepayment fees during the first quarter of 2014 on the legacy Heritage Oaks portfolio slightly offset the negative impact of higher yielding loans paying off, providing, an additional 4 basis points in yield as compared to the same period a year earlier. The average yield of acquired MISN earning assets was 18 basis points lower than that of the legacy Heritage Oaks earning asset yield however; the positive impact of loan purchase discount accretion largely offset the negative impact of lower yielding MISN earning assets and accounted for 10 basis points of asset yields for the first quarter, 2014. The decline in loan yields over the last year however, has driven our net interest margin down by 16 basis points as compared to the first quarter of 2013, due primarily to the decline in newly originated loan yields and impact of prepayment of higher yielding portfolio loans. The pro-forma NIM for the first quarter of 2014, had the MISN balance sheet been included for the entire quarter and excluding the impact of all loan prepayments, would have been 4.05%, inclusive of 21 basis points of accretion of purchase discount. Heritage Oaks Bancorp | - 39 -



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Forgone interest on non-accrual loans continued to negatively impact interest income for the three months ended March 31, 2014, but to a lesser degree than during the same period a year earlier. Total forgone interest related to non-accrual loans, which includes (1) the initial accrued interest reversal when a loan is transferred to non-accrual status, (2) interest lost prospectively for the period of time a loan is on non-accrual status and (3) lost interest due to restructuring terms below original note terms or below current market-rate terms, was approximately $0.1 million and $0.3 million during the three months ended March 31, 2014 and 2013, respectively. The adjustments to interest income for the pay-off of non-accrual loans and prepayment penalties contributed approximately 7 basis points to the yield on the loan portfolio in the three months ended March 31, 2014 and 7 basis points for the corresponding period in 2013. Total forgone interest on non-accrual loans reduced the yield on the loan portfolio by 14 basis points for the three months ended March 31, 2014 as compared to 15 basis points for the corresponding period in 2013. Our earnings are influenced by changes in interest rates. The Company is in a net asset sensitive position. A large percentage of our interest sensitive assets and liabilities re-price with changes in market interest rates. A significant portion of the variable rate component of the Company's loan portfolio has had the interest rates set to their respective contractual interest rate floors. To the extent that overall interest rates rise, the Company will not experience the benefit of rising interest rates until such rates rise above such interest rate floors. See Item 3, Qualitative and Quantitative Disclosures About Market Risk, included in this Quarterly Report on Form 10-Q, for further discussion of the Company's sensitivity to interest rate movements based on our current net asset sensitive profile, as well as the impact of interest rate floors on the variable rate component of our loan portfolio. Investment securities yields for taxable and for tax-exempt securities were nearly unchanged for the first quarter, 2014 as compared to the same period a year earlier at 1.91% and 3.26%. The yield on the portfolio was largely unchanged due to repositioning the portfolio out of longer duration and higher yielding investments in February and March of 2013 and keeping a target effective duration of from 2.5 to 3.5 years, as there has been little movement in the yield curve and corresponding market rates of investment securities. The impact of incorporating the MISN securities portfolio into our existing portfolio was limited, given that MISN securities were only included for one month of the first quarter of 2014. The weighted average yield on the MISN portfolio was 1.91% in March of 2014, versus 2.22% for Heritage Oaks, decreasing the overall portfolio yield to 2.15%. For the three months ended March 31, 2014, average interest-earning assets increased $267.3 million, or 26.7%, over that reported in the corresponding period in 2013. Growth in average earning assets for the three months ended March 31, 2014 was largely driven by growth across all asset types due to the merger with MISN. The average balance of interest bearing liabilities was $209.7 million higher for the three months ended March 31, 2014, as compared to the corresponding period a year earlier. Growth in average interest bearing liabilities was primarily the result of the merger with MISN. Average interest bearing deposits were $176.1 million higher for the three months ended March 31, 2014, as compared to the corresponding period a year earlier. The rate paid on interest bearing deposits declined by 6 basis points, to 0.43%, for the three months ended March 31, 2014 as compared to the same period a year earlier. This decline is in part due to the historically low interest rate environment that has existed for the last few years, but is also due to our efforts to systematically lower our cost of deposits over this same time period. Although such efforts have contributed to a moderate decline in time deposits (for legacy Heritage Oaks balances), the overall deposit mix and cost of our deposit portfolio has greatly improved as a result of these efforts.



In

addition to the favorable effects realized from these changes in our interest bearing deposits, our average non-interest bearing demand deposit balances have increased by $80.4 million, to $343.5 million, for the three months ended March 31, 2014. This increase in non-interest bearing demand deposit balances has had a positive impact on total funding cost of 15 basis points for the three months ended March 31, 2014, as compared to a 16 basis point benefit in the first quarter of 2013. Total cost of funds for the three months ended March 31, 2014 was 0.39%, an increase of 1 basis point, as compared to the corresponding period in 2013. For the three months ended March 31, 2014, the average rate paid on interest bearing liabilities was 0.54%, as was the comparable rate for the first quarter of 2013. The benefits from the deposit portfolio rate reductions previously discussed were substantially offset by an increase in funding costs for Federal Home Loan Bank ("FHLB") borrowings as the Company has strategically decided to lock in historically low fixed rates to match fund longer term fixed rate loans as well as an increase in the cost of junior subordinated debentures attributable to the MISN purchase accounting. Heritage Oaks Bancorp | - 40 -



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Provision for Loan and Lease Losses

The ALLL is maintained at a level considered by management to be adequate to provide for probable credit losses inherent in the loan portfolio as of the balance sheet date and is based on methodologies applied on a consistent basis with the prior year. Management's review of the adequacy of the ALLL includes, among other things, an analysis of past loan loss experience and management's evaluation of the loan portfolio under current economic conditions. See also Note 6. Allowance for Loan and Lease Losses, of the Condensed Consolidated Financial Statements, filed with this Quarterly Report on Form 10-Q, for additional detail on the ALLL. The ALLL is based on estimates, and actual losses may vary from current estimates, which variances could be material and could have an adverse effect on the Company's performance. The Company recognizes that the risk of loss will vary with, among other things: general economic conditions; the type of loan being made; the creditworthiness of the borrower over the term of the loan and in the case of a collateralized loan, the quality of the collateral for such loans. The ALLL represents the Company's best estimate of the amount necessary to provide for probable losses inherent in the portfolio as of the balance sheet date. The Company did not record a provision for loan and lease losses during the three months ended March 31, 2014 and 2013. The lack of a loan loss provision in 2014 and 2013 is reflective of the continuing improvements in the overall credit quality of the loan portfolio, the overall improvement in the charge-off history over the last year, the improvement in property values that serve as collateral for a large portion of our loans, as well as the limited amount of new loans moving into non-accrual status and therefore requiring specific reserves, all of which were largely offset by increased ALLL requirements due to the growth in the loan portfolio. As of March 31, 2014, the Company's ALLL represented 1.61% of total gross loans. For additional information see the "Allowance for Loan and Lease Losses" discussion in the Financial Condition section of Management's Discussion and Analysis of Financial Condition and Results of Operations. Non-Interest Income



The table below sets forth changes in non-interest income as compared to the corresponding period a year earlier:

For the Three Months Ended Variances March 31, For the Three Months (dollar amounts in thousands) 2014 2013 dollar percentage Fees and service charges $ 1,145$ 1,015$ 130 12.8 % Net gain on sale of loans 188 520 (332 ) -63.8 % Mortgage origination income 54 254 (200 ) -78.7 % (Loss) gain on sale of investment securities (2 ) 3,586 (3,588 ) -100.1 % Other Income 365 286 79 27.6 % Total $ 1,750$ 5,661$ (3,911 ) -69.1 % Non-interest income decreased by $3.9 million for the three months ended March 31, 2014, as compared with the corresponding period in 2013. The decline for the three month period was largely due to gains on investment security sales realized in 2013 in an effort to reposition the portfolio and reduce its overall duration. During the first quarter of 2013, the Company sold securities with a carrying value of $89.3 million that resulted in gains of $3.6 million. In addition, the Company experienced a decline in mortgage gain on sale attributable to reduced mortgage origination and refinance activity resulting from rising mortgage interest rates. Service charges, fees and other non-interest income increased in the first quarter of 2014, mainly due to MISN's inclusion in the month of March 2014. Heritage Oaks Bancorp | - 41 -



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Table of Contents Non-Interest Expenses



The table below sets forth changes in non-interest expenses as compared to the corresponding period last year:

For the Three Months Ended Variances March 31, For the Three Months (dollar amounts in thousands) 2014 2013 dollar percentage Salaries and employee benefits $ 5,617 $ 5,192$ 425 8.2% Occupancy and equipment 1,465 1,197 268 22.4% Information technology 695 627 68 10.8% Professional services 733 662 71 10.7% Regulatory assessments 204 369 (165 ) -44.7% Sales and marketing 173 121 52 43.0% Foreclosed asset costs and write-downs 72 55 17 30.9% Provision for mortgage loan repurchases - 570 (570 ) -100.0% Amortization of intangible assets 166 100 66 66.0% Merger, restructure and integration 7,115 - 7,115 - Other expense 798 855 (57 ) -6.7% Total $ 17,038$ 9,748$ 7,290 74.8% The $7.3 million increase in non-interest expense for the three months ended March 31, 2014 as compared to the same period a year ago was largely driven by the impacts of the merger with MISN on February 28, 2014, primarily $7.1 million of merger, restructure and integration costs. These one-time costs included $2.4 million attributable to elimination of owned and leased facilities and related fixed assets, $1.6 million related to contractual cancellation costs of duplicative systems and services and $2.6 million of accruals related to termination benefits paid to employees displaced as a result of the merger and for retention of key employees through integration-related milestone dates.



The

initiation of the process of integrating the two banks' systems added another $0.5 million in the first quarter of 2014. In addition, virtually every element of non-interest expense increased as a result of one month of operating expenses for the combined company. Partially offsetting the impacts of the merger, the Company experienced a decline in regulatory costs largely attributable to the lifting of the MOU's between the Company and the Company's regulators in the second and third quarters of 2013. The first quarter of 2014 was also favorably impacted by the lack of any provisions for mortgage repurchases. Excluding the $7.1 million of merger, restructure, and integration costs and $0.7 million of MISN operating costs from the first quarter of 2014 would result in total non-interest expense of $9.2 million, or 2.7% of assets on an annualized basis. This compares with $9.7 million for the first quarter of 2013, or 3.6% of assets, annualized. Provision for Income Taxes For the three months ended March 31, 2014, the Company recorded an income tax benefit of approximately $1.1 million. This compares to an income tax provision of $2.4 million for the same period in 2013. The changes in the provision for income taxes for the three months ended March 31, 2014, as compared to the corresponding period in 2013, can be attributed to the incremental changes in the components of earnings before taxes discussed above, most notably due to the merger, restructure, and integration expenses incurred in 2014 related to the merger with MISN. The Company's effective tax rate was (37.9)% for the three months ended March 31, 2014. The effective tax rate for the corresponding period in 2013 was 39.1%. Excluding the impact of the merger and integration expenses in 2014, the effective tax rate would have been 38.4% for the three months ended March 31, 2014. The determination as to whether a valuation allowance should be established against deferred tax assets is based on the consideration of all available evidence using a "more likely than not" standard. Management evaluates the realizability of the deferred tax assets on a quarterly basis. Please see Note 7. Income Taxes, of the Condensed Consolidated Financial Statements, filed with this Quarterly Report on Form 10-Q for additional information concerning the Company's deferred tax assets. Heritage Oaks Bancorp | - 42 -



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Table of Contents Financial Condition



At March 31, 2014, total assets were approximately $1.7 billion. This represents an increase of $459 million or 38% from that reported at December 31, 2013, of which $454 million was attributable to the merger with MISN.

At March 31, 2014, total deposits were approximately $1.366 million or approximately $392 million, or 40%, more than that reported at December 31, 2013. The merger with MISN contributed $372 million to total deposits this quarter.

Total Cash and Cash Equivalents

Total cash and cash equivalents were $65.9 million and $26.2 million at March 31, 2014 and December 31, 2013, respectively. This line item will vary depending on daily cash settlement activities, the amount of highly liquid assets needed based on known events such as the repayment of borrowings or loans expected to be funded in the near future, and actual cash on hand in the branches. On February 28, 2014, $37.6 million in cash and cash equivalents were acquired in conjunction with the MISN merger.



Investment Securities and Other Earning Assets

Other earning assets are comprised of Interest Bearing Due from Federal Reserve, Federal Funds Sold (funds the Company lends on a short-term basis to other banks), investments in securities and short-term interest bearing deposits at other financial institutions. These assets are maintained for the liquidity needs of the Company, collateralization of public deposits, and diversification of the earning asset mix. Securities Available for Sale The Company manages its securities portfolio to provide a source of both liquidity and earnings. The Company has invested in a mix of securities including obligations of U.S government agencies, mortgage backed securities and state and municipal securities. The Company has an Asset/Liability Committee that has developed investment policies based upon the Company's operating needs and market circumstances. The Company's investment policy is formally reviewed and approved annually by the Board of Directors. The Asset/Liability Committee is responsible for reporting and monitoring compliance with the investment policy. Reports are provided to the Company's Board of Directors on a regular basis. The following table provides a summary of investment securities by securities type: March 31, 2014 December 31, 2013 Amortized Amortized (dollar amounts in thousands) Cost Fair Value Cost Fair Value Obligations of U.S. government agencies $ 10,998$ 10,960$ 6,243$ 6,208 Mortgage backed securities U.S. government sponsored entities and agencies 238,563 235,765 186,981 182,931 Non-agency 6,745 6,907 10,924 11,032 State and municipal securities 64,519 64,383 51,532 50,030 Corporate debt securities 3,256 3,259 - - Asset backed securities 26,913 26,703 26,935 26,594 Total $ 350,994$ 347,977$ 282,615$ 276,795 At March 31, 2014, the fair value of the investment portfolio was approximately $348.0 million, or $71.2 million higher than that reported at December 31, 2013. The increase in the balance of the portfolio can be attributed to the $76.2 million in investments received in the merger with MISN. Also during the quarter, the Bank sold $15.6 million of securities from the portfolio at approximately no gain or loss. Securities available for sale are carried at fair value with related unrealized net gains or losses, net of deferred income taxes, recorded as an adjustment to equity capital. At March 31, 2014, the securities portfolio had unrealized losses, net of taxes, of approximately $1.8 million, an improvement of approximately $1.6 million from that reported at December 31, 2013. Fluctuations in the fair value of the investment portfolio in the last three years can be attributed to market turbulence and volatility in overall interest rates, stemming in part from economic conditions. All fixed and adjustable rate mortgage pools contain a certain amount of risk related to the uncertainty of prepayments of the underlying mortgages, which prepayments are directly impacted by interest rate changes. The Company uses computer simulation models to test the average life, duration, market volatility and yield volatility of adjustable rate mortgage pools under various interest rate assumptions to monitor volatility. Heritage Oaks Bancorp | - 43 -



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The majority of the Company's mortgage backed securities were issued by The Government National Mortgage Association ("Ginnie Mae"); The Federal National Mortgage Association ("Fannie Mae"); and The Federal Home Loan Mortgage Corporation ("Freddie Mac"). These securities carry the guarantee of the issuing agencies. At March 31, 2014, approximately $235.8 million or 97.2% of the Company's mortgage related securities were issued by a government agency and government sponsored entities. The following table sets forth the maturity distribution of available for sale securities in the investment portfolio and the weighted average yield for each category:



(dollar amounts in thousands)

Over 1 Over 5 Years One Year Or Through 5 Through 10 Over 10 March 31, 2014 Less Years Years Years Total Obligations of U.S. government agencies $ 313 $ 408$ 7,931$ 2,308$ 10,960 Mortgage backed securities U.S. government sponsored entities and agencies 33,738 92,135 49,212 60,680 235,765 Non-agency 375 4,976 1,556 - 6,907 State and municipal securities 3,005 18,888 40,342 2,148 64,383 Corporate debt securities - 2,014 1,245 - 3,259 Asset backed securities - - 14,809 11,894 26,703 Total available for sale securities $ 37,431$ 118,421 $



115,095 $ 77,030$ 347,977

Amortized cost $ 37,605$ 119,112 $



115,777 $ 78,500$ 350,994

Weighted average yield 1.83% 2.14% 2.41% 2.64% 2.31%



Federal Home Loan Bank ("FHLB") Stock

As a member of the FHLB of San Francisco, the Company is required to hold a specified amount of FHLB capital stock based on the level of borrowings the Company has obtained from the FHLB. As such, the amount of FHLB stock the Company carries can vary from one period to another based on, among other things, the current liquidity needs of the Company. At March 31, 2014 and December 31, 2013, the Company held approximately $6.9 million and $4.7 million, respectively, in FHLB stock. The increase of FHLB stock from year-end 2013 was due to FHLB stock acquired in the MISN merger. Loans



Summary of Market Conditions

The addition of a new sales team focused on our region's largest industry-agriculture-as well as the commercial and small business segments of the market, and single-family mortgages, has contributed to net loan growth in each quarter since the second quarter of 2012. We continue to see improving borrower activity and we anticipate that this increased activity in our existing markets, along with our new sales team, our expansion into Ventura County with the opening of a loan production office in August 2012, expansion in Santa Barbara County with the opening of a loan production office in Goleta in early 2013, should contribute to continued growth in our loan portfolio. In addition to this organic growth in our loan portfolio, the majority of the growth in the loan portfolio for the first quarter of 2014 came from loans acquired in the MISN merger of $280.8 million (as of February 28, 2014). Although we may be starting to see some signs of stabilization in the local economies in which the Company operates, management realizes that a renewed decline in the global, national, state or local economies may further negatively impact local borrowers, as well as negatively impact values of real estate within our market footprint. As such, management continues to closely monitor credit trends and leading indicators for renewed signs of deterioration. The Bank employs stringent lending standards and remains very selective with regard to loan originations, including CRE, real estate construction, land and commercial loans that it chooses to originate, in an effort to effectively manage risk in this difficult credit environment. The Company is focused on monitoring credit in order to take proactive steps, when and if necessary, to mitigate any material adverse impacts on the Company. Heritage Oaks Bancorp | - 44 -



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Table of Contents Credit Quality The Company's primary business is the extension of credit to individuals and businesses and the safekeeping of customers' deposits. The Company's policies concerning the extension of credit require risk analysis, including an extensive evaluation of the purpose for the loan request and the borrower's ability and willingness to repay the Bank as agreed. The Company also considers other factors when evaluating whether or not to extend new credit to a potential borrower. These factors include the current level of diversification in the loan portfolio and the impact that funding a new loan will have on that diversification, legal lending limit constraints and any regulatory limitations concerning the extension of certain types of credit. The credit quality of the loan portfolio is impacted by numerous factors, including the economic environment in the markets in which the Company operates, which can have a direct impact on the value of real estate securing collateral-dependent loans. An inability of certain borrowers to continue to perform under the original terms of their respective loan agreements, in conjunction with declines in real estate collateral values, may result in increases in provisions for loan and lease losses that would, in turn, have an adverse impact on the Company's operating results. See also Note 5, Loans. of the Condensed Consolidated Financial Statements, filed with this Quarterly Report on Form 10-Q for a more detailed discussion concerning credit quality, including the Company's related policy. Loans Held for Sale Loans held for sale primarily consist of residential mortgage originations that have already been specifically designated for sale pursuant to correspondent mortgage loan investor agreements. There is minimal interest rate risk associated with these loans as purchase commitments are entered into with investors at the time the Company funds the loans. Settlement from the correspondents is typically within 30 to 60 days of funding the mortgage. At March 31, 2014, mortgage correspondent loans (loans held for sale) totaled approximately $6.3 million, $3.9 million less than that reported at December 31, 2013. The decrease in mortgage correspondent loans is reflective of continued declines in mortgage loan originations and refinancings in the last several months due to higher mortgage interest rates. Summary of Loan Portfolio



At March 31, 2014, total gross loan balances were $1,114.1 million. This represents an increase of approximately $286.6 million, or 34.6%, from the $827.5 million reported at December 31, 2013 and marks the eighth consecutive quarter of loan growth. The MISN merger accounts for $280.8 million of the increase in gross loans this quarter.

Heritage Oaks Bancorp | - 45 -



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The following table provides total gross loans by product type:

March 31, December 31, 2014 2013 Variance (dollar amounts in thousands) amount percentage amount percentage dollar percentage Real Estate Secured Multi-family residential $ 47,610 4.3% $ 31,140 3.8% $ 16,470 52.89% Residential 1 to 4 family 111,776 10.0% 88,904 10.7% 22,872 25.73% Home equity line of credit 41,301 3.7% 31,178 3.8% 10,123 32.47% Commercial 580,990 52.2% 432,203 52.1% 148,787 34.43% Farmland 66,149 5.9% 50,414 6.1% 15,735 31.21%



Total real estate secured 847,826 76.1% 633,839 76.5% 213,987 33.76%

Commercial

Commercial and industrial 146,710 13.2% 119,121 14.4% 27,589 23.16% Agriculture 57,632 5.2% 32,686 4.0% 24,946 76.32% Other 753 0.1% 38 0.0% 715 1881.58% Total commercial 205,095 18.5% 151,845 18.4% 53,250 35.07% Construction Single family residential 6,035 0.5% 3,873 0.5% 2,162 55.82% Single family residential - Spec. 620 0.1% 1,153 0.1% (533 ) -46.23% Multi-family 3,946 0.4% 736 0.1% 3,210 436.14% Hospitality 3,088 0.3% - 0.0% 3,088 0.00% Commercial 9,042 0.7% 7,937 1.0% 1,105 13.92% Total construction 22,731 2.0% 13,699 1.7% 9,032 65.93% Land 27,908 2.5% 24,523 3.0% 3,385 13.80% Installment loans to individuals 10,323 0.9% 3,246 0.4% 7,077 218.02% Overdrafts 187 0.0% 332 0.0% (145 ) -43.67% Total gross loans 1,114,070 100.0% 827,484 100.0% 286,586 34.63% Deferred loan fees (1,426 ) (1,281 ) (145 ) 11.32% Reserve for loan losses (17,968 ) (17,859 ) (109 ) 0.61% Total net loans $ 1,094,676$ 808,344$ 286,332 35.42% Loans held for sale $ 6,345$ 2,386$ 3,959 165.93% Heritage Oaks Bancorp | - 46 -



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Table of Contents Real Estate Secured Loans



The following table provides a break-down of the real estate secured segment of the Company's loan portfolio by type of real estate:

March 31, 2014 Percent of Bank Single Undisbursed Total Bank Percent Total Risk Number Largest Owner (dollar amounts in thousands) Balance Commitment Exposure Composition Based Capital of Loans Loan (1) Occupied Real Estate Secured Retail 60,012 1 $ 60,013 6.7% 36.6% 73 4,614 23,127 Professional 49,080 76 49,156 5.5% 29.9% 106 4,200 20,328 Hospitality 131,442 2,412 133,854 15.0% 81.6% 58 10,209 11,514 Multi-family 47,610 687 48,297 5.4% 29.4% 49 5,144 - Home equity lines of credit 41,300 29,868 71,168 8.0% 43.4% 483 1,492 30,164 Residential 1 to 4 family 111,777 3,424 115,201 13.0% 70.2% 250 2,864 70,058 Farmland 66,149 4,527 70,676 7.9% 43.1% 52 6,149 30,375 Healthcare / medical 36,038 167 36,205 4.1% 22.1% 48 7,500 20,911 Restaurants and other food services 10,509 - 10,509 1.2% 6.4% 19 2,393 8,995 Other commercial 197,956 659 198,615 22.4% 120.9% 226 9,250 79,778 Other 95,953 218 96,171 10.8% 58.6% 71 13,713 42,766 Total real estate secured $ 847,826$ 42,039$ 889,865 100.0% 542.2% 1,435 $ 13,713$ 338,016



(1) Amount reported reflects the original loan amount for the single largest loan that remains outstanding as of March 31, 2014.

As of March 31, 2014, real estate secured portfolios represented approximately $847.8 million or 76.1% of total gross loans. When compared to that reported at December 31, 2013, this represents an increase of approximately $214.0 million, or 33.8%, of which $203.4 can be attributed to the MISN merger. As of March 31, 2014, a total of $51.0 million of the real estate secured portfolio was risk graded as special mention or substandard, with the largest single component being the commercial segment, which represented $44.9 million. This compares to $22.9 million of the real estate secured balance and $18.1 million of CRE loans being risk graded special mention or substandard as of December 31, 2013. Special mention and substandard real estate secured loans acquired in the MISN merger totaled $23.5 million, of which $20.8 million were in the commercial segment. At March 31, 2014 and December 31, 2013, real estate secured balances, including undisbursed commitments, represented 542% and 526% of the Bank's total risk-based capital. The increase in this percentage not only reflects impacts of the MISN merger, but also the increase in real estate lending over the first three months of the year.



At March 31, 2014, approximately $338.0 million, or 39.9%, of the real estate secured segment of the loan portfolio was considered owner occupied.

Heritage Oaks Bancorp | - 47 -



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Table of Contents Commercial Loans The following table provides a break-down of the commercial and industrial ("C&I") segment of the Company's commercial loan portfolio by business type: March 31, 2014 Percent of Bank Single Undisbursed Total Bank Percent Total Risk Number Largest (dollar amounts in thousands) Balance Commitment Exposure Composition Based Capital of Loans Loan (1) Commercial and Industrial Agriculture $ 6,550$ 3,332$ 9,882 3.9 % 6.0 % 39 2,000 Oil gas and utilities 1,655 2,180 3,835 1.5 % 2.3 % 10 888 Construction 12,273 23,415 35,688 14.2 % 21.7 % 159 5,000 Manufacturing 19,156 11,247 30,403 12.1 % 18.5 % 125 3,000



Wholesale and retail 17,488 10,246 27,734 11.1 %

16.9 % 156 2,454 Transportation and warehousing 5,423 3,108 8,531 3.4 % 5.2 % 77 1,188 Media and information services 4,060 955 5,015 2.0 % 3.1 % 22 1,500 Financial services 7,192 3,068 10,260 4.1 % 6.3 % 41 3,000 Real estate / rental and leasing 21,375 15,081 36,456 14.6 % 22.3 % 113 6,522



Professional services 20,356 15,759 36,115 14.4 %

22.0 % 206 2,600 Healthcare / medical 8,312 7,719 16,031 6.4 % 9.8 % 112 11,464 Restaurants / hospitality 11,626 4,182 15,808 6.3 % 9.6 % 94 4,600 All other 11,244 3,769 15,013 6.0 % 9.1 % 169 2,792 Commercial and industrial $ 146,710$ 104,061$ 250,771 100.0 % 152.8 % 1,323 $ 11,464



(1) Amount reported reflects the original loan amount for the single largest loan that remains oustanding as of March 31, 2014

At March 31, 2014, C&I loans represented approximately $146.7 million or 13.2% of total gross loan balances. This represents an increase of approximately $27.6 million, or 23.2%, from December 31, 2013. The year to date increase is primarily attributed to the MISN merger, which added $34.6 million of C&I loans. The ratio of total C&I loan balances, including undisbursed commitments, to risk-based capital decreased from 158% at December 31, 2013 to 153% at March 31, 2014. The Company's credit exposure within the C&I segment remains diverse with respect to the industries to which credit has been extended. As of March 31, 2014, a total of $15.9 million of the C&I portfolio was risk graded as special mention or substandard. This compares to $13.1 million of the C&I portfolio being risk graded special mention or substandard as of December 31, 2013. The increase in the C&I special mention and substandard loans, from December 31, 2013 is attributable to loans acquired in the MISN merger. Heritage Oaks Bancorp | - 48 -



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Table of Contents Agriculture Loans



The following table provides a break-down of the types of agriculture loans in the Company's commercial loan portfolio:

March 31, 2014 Percent of Bank Single Undisbursed Total Bank



Percent Total Risk Number Largest (dollar amounts in thousands)

Balance Commitment Exposure Composition Based Capital of Loans Loan (1) Agriculture Vegetable and mellon farming 9,854 5,324 $ 15,178 16.5 % 9.2 % 16 4,000 Fruit and tree nut farming 25,137 5,914 31,051 33.8 % 19.0 % 27 6,470 Other crop farming 213 1,004 1,217 1.3 % 0.7 % 4 650 Animal production 2,882 5,233 8,115 8.8 % 4.9 % 46 1,112 Support activities for agriculture 4,997 1,720 6,717 7.3 % 4.1 % 19 1,800 Food manufacturing 3,774 5,836 9,610 10.4 % 5.9 % 24 3,000 Wholesale merchants 6,590 9,026 15,616 17.0 % 9.5 % 12 6,517 Transportation and warehousing 47 - 47 0.1 % 0.0 % 2 25 All other 4,137 303 4,440 4.8 % 2.7 % 8 1,750 Agriculture $ 57,631$ 34,360$ 91,991 100.0 % 56.0 % 158 $ 6,517



(1) Amount reported reflects the original loan amount for the single largest loan that remains outstanding as of March 31, 2014.

At March 31, 2014, the agriculture portfolio totaled approximately $57.6 million, or 5.2%, of total gross loan balances, which represents an increase of $24.9 million, or 76.3%, when compared to that reported at December 31, 2013. The increase in the portfolio is primarily associated with the MISN merger, which provided an additional $18.2 million of agriculture loans, as well as advances against new and existing loans originated by our new agriculture lending team outpacing loan payment activity. At March 31, 2014 and December 31, 2013, the agriculture portfolio, including undisbursed commitments, represented 56% and 48%, respectively, of the Bank's total risk-based capital. The increase in this percentage reflects not only the impacts of the merger but also the normal seasonal increase in agriculture lending over the first three months of the year. As of March 31, 2014, a total of $2.7 million of the agriculture portfolio was risk graded as special mention or substandard. This compares to $1.4 million of the agriculture portfolio being risk graded special mention or substandard as of December 31, 2013. The increase in the special mention and substandard risk grades of agriculture loans is attributable to loans acquired in the MISN merger. Construction Loans



The following table provides a break-down of the construction loan segment of the Company's loan portfolio by property type:

March 31, 2014 Percent of Bank Single Undisbursed Total Bank Percent Total Risk Number Largest (dollar amounts in thousands) Balance Commitment Exposure Composition Based Capital of Loans Loan (1) Construction Single family residential $ 6,035$ 2,419$ 8,454 18.1 % 5.2 % 14 $ 2,250 Single family residential - Spec. 620 1,134 1,754 3.8 % 1.1 % 1 1,754 Multi-family 3,946 2,781 6,727 14.4 % 4.1 % 2 6,449 Commercial 9,042 12,101 21,143 45.3 % 12.8 % 6 8,000 Hospitality 3,088 5,497 8,585 18.4 % 5.2 % 2 5,000 Total construction $ 22,731$ 23,932$ 46,663 100.0 % 28.4 % 25 $ 8,000 At March 31, 2014, the construction portfolio represented approximately $22.7 million, or 2.0%, of total gross loan balances, an increase of $9.0 million, or 65.9%, from that reported at December 31, 2013. This increase is due to the MISN merger, which included $12.0 million of construction loans as of the merger date. Construction loans are typically granted for a one year period and then refinanced into permanent loans with varying maturities at the completion of the construction project. The ratio of total construction loans, including undisbursed commitments, to risk-based capital increased from 20.8% at December 31, 2013 to 28.4% at March 31, 2014. Heritage Oaks Bancorp | - 49 -



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As of March 31, 2014, as at December 31, 2013, there were no construction loans risk graded as special mention or substandard.

Land Loans



The following table provides a break-down of the land segment of the Company's loan portfolio by property type:

March 31, 2014 Percent of Bank Single Undisbursed Total Bank Percent Total Risk Number Largest (dollar amounts in thousands) Balance Commitment Exposure Composition Based Capital of Loans Loan (1) Land Single family residential $ 2,937 $ - $ 2,937 10.3 % 1.8 % 25 $ 299 Single family residential - Spec. 584 - 584 2.0 % 0.4 % 5 303 Tract 10,556 105 10,661 37.2 % 6.5 % 9 10,673 Land - Multifamily 2,852 640 3,492 12.2 % 2.1 % 3 3,100 Commercial 10,403 - 10,403 36.3 % 6.3 % 24 1,424 Hospitality 576 - 576 2.0 % 0.4 % 1 599 Total land $ 27,908 $ 745 $ 28,653 100.0 % 17.5 % 67 $ 10,673



(1) Amount reported reflects the original loan amount for the single largest loan that remains outstanding as of March 31, 2014.

At March 31, 2014, the land portfolio represented approximately $27.9 million, or 2.5%, of total gross loan balances, an increase of $3.4 million, or 13.8%, from the corresponding balance reported at December 31, 2013. A total of $4.0 million of land loans were acquired in the MISN merger during the quarter. The ratio of total land loans, including undisbursed commitments, to risk-based capital decreased from 20.0% at December 31, 2013 to 17.5% at March 31, 2014. As of March 31, 2014, a total of $11.3 million of the land portfolio was risk graded as special mention or substandard. This compares to $9.3 million of the land portfolio being risk graded special mention or substandard as of December 31, 2013. Consumer Installment Loans At March 31, 2014, the installment loan portfolio totaled approximately $10.3 million compared to the $3.2 million reported at December 31, 2013. This increase is due to the MISN merger, which included $8.6 million of consumer installment loans as of the merger date. Installment loans include revolving credit plans, consumer loans and credit card balances. Heritage Oaks Bancorp | - 50 -



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Maturities and Sensitivities of Loans to Changes in Interest Rates

The following table provides a summary of the approximate maturities and sensitivity to changes in interest rates for the loan portfolio as well as information about fixed and variable rate loans. A large portion of the growth in the loan portfolio is for loans with maturities of over 5 years, which is consistent with the fact that much of the loan growth has been in the real estate secured segment. Variable rate loans currently at or below their floor are classified as variable in the table below: Due Over Due Over Due Over (dollar amounts in thousands) Due Less Due 12 Months 3 Years 5



Years

Than 3 3 To 12 Through Through Through Due Over March 31, 2014 Months Months 3 Years 5 Years 15 Years 15 Years Total Real Estate Secured Multi-family residential $ 173$ 1,880$ 5,329$ 1,543$ 29,493$ 9,192$ 47,610 Residential 1 to 4 family 1,084 2,809 8,400 12,255 53,464 33,764 111,776 Home equity line of credit 22,388 1,883 2,552 2,046 4,027 8,405 41,301 Commercial 15,952 20,277 66,246 88,301 377,066 13,148 580,990 Farmland 5,903 1,499 7,641 12,142 38,861 103 66,149 Commercial Commercial and industrial 21,541 43,557 18,624 31,019 30,184 1,785 146,710 Agriculture 28,261 20,994 2,225 3,181 2,971 - 57,632 Other 1 3 695 54 - - 753 Construction Single family residential 2,106 3,471 458 - - - 6,035 Single family residential - Spec. - 620 - - - - 620 Multi-family - 3,668 - 278 - - 3,946 Hospitality - - - - 3,088 - 3,088 Commercial 7,844 100 299 799 - - 9,042 Land 13,170 5,006 6,835 2,897 - - 27,908 Installment loans to individuals 759 139 603 547 7,325 950 10,323 Overdrafts 187 - - - - - 187



Total loans, gross $ 119,369$ 105,906$ 119,907$ 155,062$ 546,479$ 67,347$ 1,114,070

Variable rate loans (1) 99,545 85,684 58,021 72,525



345,872 62,433 724,080 Fixed rate loans 19,824 20,222 61,886 82,537 200,607 4,914 389,990

Total loans, gross $ 119,369$ 105,906$ 119,907$ 155,062$ 546,479$ 67,347$ 1,114,070

(1) Variable rate loans include $503.1 million of variable rate loans that are at or below their contractual floor rates. To the extent that overall interest rates rise, the Company will not experience the benefit of rising interest rates until such rates rise above such interest rate floors.

Allowance for Loan and Lease Losses

The Company maintains an ALLL to absorb probable incurred losses inherent in the loan and lease portfolio at the balance sheet date. The ALLL is based on ongoing assessment of the estimated probable losses presently inherent in the loan portfolio. In evaluating the level of the ALLL, management considers the types of loans and leases and the amount of loans and leases in the portfolio, peer group information, historical loss experience, adverse situations that may affect the borrower's ability to repay, estimated value of any underlying collateral, and prevailing economic conditions. This methodology takes into account many factors, including the Company's own historical loss trends, loan and lease-level credit quality ratings, loan and lease specific attributes along with a review of various credit metrics and trends. The process involves subjective as well as complex judgments. The Company uses a "stake in the ground" loss experience which covers the Company's own losses for the period from October 2009 through current quarter end in analyzing an appropriate reserve factor for all loans. In addition, the Company uses adjustments for numerous factors including those found in the Interagency Guidance on ALLL, which include current economic conditions, loan and lease seasoning, underwriting experience, and collateral value changes among others. The Company evaluates all impaired loans and leases individually using guidance from ASC 310 primarily through the evaluation of cash flows or collateral values. The ALLL is increased by provisions for loan and lease losses charged to earnings and decreased by loan and lease charge-offs, net of recovered balances. Please see Note 5. Allowance for Loan and Lease Losses, of the Condensed Consolidated Financial Statements filed as part of the Annual Report on Form 10-K for the year ended December 31, 2013, for a detailed discussion concerning the Company's methodology for determining an adequate ALLL. Please also see Note 1. Summary of Significant Accounting Policies, of the Condensed Consolidated Financial Statements filed as part of the Annual Report on Form 10-K for the year ended December 31, 2013, for additional discussion concerning the ALLL, loan charge-offs, and credit risk management. Heritage Oaks Bancorp | - 51 -



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The Company allocates the ALLL across product types within the loan portfolio. The following table provides a summary of the ALLL and its allocation to each major product type of the loan portfolio, as well as the proportion that each major category's ALLL represents as a percentage of the gross loan balances in the category: March 31, December 31, 2014 2013 2013 Percent Percent Percent Amount of Loan Amount of Loan Amount of Loan (dollars amounts in thousands) Allocated Segment Allocated Segment Allocated Segment Real Estate Secured Multi-family residential $ 236 0.5 % $ 77 0.4 % $ 239 0.8 % Residential 1 to 4 family 1,451 1.3 % 841 1.8 % 1,225 1.4 % Home equity line of credit 143 0.3 % 172 0.5 % 147 0.5 % Commercial 6,489 1.1 % 4,765 1.2 % 6,456 1.5 % Farmland 931 1.4 % 259 1.0 % 958 1.9 % Commercial Commercial and industrial 3,504 2.4 % 5,776 4.8 % 3,653 3.1 % Agriculture 1,394 2.4 % 944 3.4 % 1,128 3.5 %



Construction

Single family residential 45 0.7 % 84 1.0 % 37 1.0 % Single family residential - Spec. 8 1.3 % 3 0.0 % 24 2.1 % Multi-family 7 0.2 % 17 2.3 % 17 2.3 % Commercial 87 1.0 % 40 7.3 % 180 2.3 % Land 3,155 11.3 % 4,567 19.2 % 3,402 14.1 % Installment loans to individuals 87 0.8 % 101 2.3 % 99 3.1 % Overdrafts 26 13.9 % 33 18.2 % 32 9.6 % Unallocated 405 64 262 Total allowance for loan and lease losses $ 17,968 1.6 % $ 17,743 2.5 % $ 17,859 2.2 % The Company acquired MISN on February 28, 2014 and the loans and leases acquired are recorded according to the guidance under ASC 805, "Accounting for Acquisitions." The acquired loans and leases include loans and leases that are accounted for under ASC 310-30, "Accounting for Purchase Credit Impaired Loans and Leases." During the quarter ended February 28, 2014, there was no provision for loan and lease losses or ALLL related to these loans as they were acquired at an aggregate $9.9 million, or 3.4%, discount to the aggregated unpaid principal balances. As of March 31, 2014, the remaining unaccreted discount on the acquired MISN loans was $9.5 million. Of the total loans acquired through the MISN transaction only 5.7% are designated as purchased credit impaired ("PCI"). These PCI loans carried an average 23.2% discount at acquisition.



The

remaining 94.3% of loans are accounted for under ASC310 "Receivables" and carried an average discount of 2.3% at acquisition. The Company may need to recognize provisions for loan and lease losses in the future if there is further deterioration in these loans after the purchase date such that the impairment exceeds the non-accretable yield and purchase discount. On a quarterly basis, the Company re-forecasts its expected cash flows for the PCI loans relating to the MISN, acquisition, for potential impairment or improvement in credit which may require a reclassification of the non-accretable yield to accretable yield. While the balance of the ALLL increased modestly during the first three months of 2014 due largely to net recoveries for the period, it decreased by 91 basis points as a percentage of gross loans, as compared to the corresponding period in 2013, primarily due to the fact that no ALLL has been provided for the MISN loans acquired at February 28, 2014 and also because the credit quality of the legacy Heritage Oaks portfolio has improved over the last year. The improvement in the credit quality of the legacy Heritage Oaks portfolio is reflected in a number of indicators, all of which have trended favorably over the last year, and virtually all of which are at or near their lowest levels since the credit crisis peaked in 2010. The indicators we believe are most indicative of the improving credit quality of the legacy Heritage Oaks portfolio include: the level of substandard and doubtful loans, which have declined $19.1 million or 39.2% since the first quarter of 2013; the level of Heritage Oaks' legacy non-accrual loans, which have declined $3.0 million, or 24.5% since the first quarter of 2013; and the ratio of classified assets to Tier 1 capital plus the ALLL, which has improved from 32.17%, to 28.1% since the first quarter of 2013. Heritage Oaks Bancorp | - 52 -



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The following table details changes in the ALLL for the periods indicated:

For the Three Months Ended March 31, (dollars amounts in thousands) 2014 2013 Balance, beginning of period $ 17,859$ 18,118 Charge-offs: Real Estate Secured Residential 1 to 4 family 92 - Commercial Commercial and industrial - 339 Construction - 169 Land - 34 Installment loans to individuals 2 118 Total Charge-offs 94 660 Recoveries: Real Estate Secured Residential 1 to 4 family - 30 Home equity line of credit 3 3 Commercial 13 75 Farmland - 8 Commercial Commercial and industrial 168 125 Agriculture 7 11 Construction - - Land 7 3 Installment loans to individuals 5 30 Total recoveries 203 285 Net (recoveries) charge-offs (109) 375 Balance, end of period $ 17,968$ 17,743 Gross loans, end of period $ 1,114,070$ 704,880 Allowance for loan and lease losses to total gross loans 1.61%



2.52%

Net (recoveries) charge-offs to average loans -0.05% 0.22% Net recoveries during the three months ended March 31, 2014 totaled $0.1 million. This compares to net charge-offs of approximately $0.4 million, reported for the corresponding period last year. The charge-offs during the three months ended March 31, 2013 were largely attributable to a number of small loan relationships, as well as a $0.2 million loss realized on the sale of collateral for the loan transferred into OREO in the first quarter of 2013. Annualized net (recoveries) to average loans for the three months ended March 31, 2014 were (0.05%). This compares to net charge-offs of 0.22%, reported for the corresponding period in 2013. At March 31, 2014, the ALLL represented 1.61% of total gross loans compared to the 2.16% reported at December 31, 2013. The decline is due both to improvements in the credit profile of the existing Heritage Oaks' loan portfolio and to the impact of MISN acquired loans on this ratio. MISN acquired loans are included in gross loans but have no ALLL as they are carried at their fair market value. The ALLL that was collectively evaluated for impairment on originated loans and leases at March 31, 2014 was $14.4 million, or 1.74% of total originated loans and leases, $14.4 million or 1.76% of total original loans and leases as of December 31, 2013 and $12.0 million or 1.71% at March 31, 2013. Including the non-credit impaired loans acquired through the MISN acquisition; ALLL that was collectively evaluated for impairment was $14.4 million as of March 31, 2014, which represents 1.32% of the total of such loans and leases. The qualitative component of the ALLL that was collectively evaluated for impairment was $4.7 million or 0.57% at March 31, 2014, $4.1 million or 0.51% at December 31, 2013 and $3.0 million or 0.43% at March 31, 2013 as a percentage of originated loans and leases. The qualitative factors increased on a dollar and percentage basis over the last year primarily due to the potential impacts resulting from the concentration in CRE loans and of the prolonged California drought on our loan portfolio. The component of the ALLL that was for originated loans and leases individually evaluated for impairment was $3.2 million at March 31, 2014 compared to $3.1 million at December 31, 2013 and $5.7 million at March 31, 2013. An unallocated ALLL of $405 thousand was held at March 31, 2014, as compared to $257 thousand as of December 31, 2013 and $64 thousand as of March 31, 2013. The Company provided no provision for loan and lease losses during the quarters ended March 31, 2014, and March 31, 2013. Heritage Oaks Bancorp | - 53 -



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As of March 31, 2014, management believes that the ALLL was sufficient to cover current estimable losses in the Company's loan portfolio.

Non-Performing Assets Non-performing assets are comprised of loans placed on non-accrual status and foreclosed assets (OREO and other repossessed assets). Generally, the Company places loans on non-accruing status when (1) the full and timely collection of all amounts due become uncertain, (2) a loan becomes 90 days or more past due (unless well-secured and in the process of collection) or (3) any portion of outstanding principal has been charged-off. See Note 5. Loans, of the Condensed Consolidated Financial Statements, filed with this Quarterly Report on Form 10-Q for additional discussion concerning non-performing loans, as well as a discussion concerning credit quality. The following table provides a summary of non-performing loans and foreclosed assets: March 31, December 31, (dollar amounts in thousands) 2014 2013 Non-Performing Loans: Residential 1-4 family $ 105 $ 449 Commercial real estate 485 672 Commercial and industrial 2,786 2,180 Agriculture 727 789 Land 5,813 5,910 Installment 21 117 Total non-performing loans $ 9,937$ 10,117 Other real estate owned $ 313 $ - Total non-performing assets $ 10,250$ 10,117 TDRs Accruing $ 6,246$ 5,853 Included in non-performing loans 8,018 7,076 Total TDRs $ 14,264$ 12,929 Ratio of allowance for loan and lease losses to total gross loans 1.61%



2.16%

Ratio of non-performing loans to total gross loans 0.89%



1.22%

Ratio of non-performing assets to total assets 0.62% 0.84% At March 31, 2014, the balance of non-accruing loans was approximately $9.9 million or $0.2 million lower than that reported at December 31, 2013. The decrease in non-accruing loans is primarily due to $1.0 million of paydowns on non-accruing loans during the quarter, net of $0.7 million of additions from the MISN transaction. Heritage Oaks Bancorp | - 54 -



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The following tables reconcile the change in total non-accruing balances:

Balance Additions to Additions Transfers to Balance December 31, Non-Accruing due to Net Foreclosed Net March 31, (dollar amounts in thousands) 2013 Balances merger Paydowns Collateral Charge-offs 2014 Real Estate Secured Residential 1 to 4 family $ 449 $ - $ - $ (4 ) $ (248 ) $ (92 ) $ 105 Commercial 672 - 137 (324 ) - - 485 Commercial Commercial and industrial 2,180 355 568 (317 ) - - 2,786 Agriculture 789 - - (62 ) - - 727 Land 5,910 - - (97 ) - - 5,813 Installment loans to individuals 117 2 - (96 ) - (2 ) 21 Totals $ 10,117 $ 357 $ 705$ (900 ) $ (248 ) $ (94 ) $ 9,937 Balance Additions to Transfers to Returns to Balance December 31, Non-Accruing



Net Foreclosed Performing Net March 31, (dollar amounts in thousands)

2012 Balances Paydowns Collateral Status Charge-offs 2013 Real Estate Secured Residential 1 to 4 family $ 835 $ - $ (231 ) $ - $ (364 ) $ - $ 240 Home equity line of credit 58 - (1 ) - - - 57 Commercial 928 - (33 ) - (192 ) - 703 Farmland 1,077 - (1,077 ) - - - - Commercial Commercial and industrial 4,334 356 (458 ) - (238 ) (339 ) 3,655 Agriculture 907 - (65 ) - (11 ) - 831 Construction Commercial 1,380 - - (1,211 ) - (169 ) - Land 7,505 49 (126 ) - (754 ) (34 ) 6,640 Installment loans to individuals 285 70 (4 ) (88 ) (44 ) (118 ) 101 Totals $ 17,309 $ 475 $ (1,995 )$ (1,299 )$ (1,603 )$ (660 )$ 12,227 Heritage Oaks Bancorp | - 55 -



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Table of Contents Goodwill The following table summarizes the consideration paid for MISN, the amounts of assets acquired and liabilities assumed and the resulting goodwill recognized at the acquisition date: (dollar amounts in thousands) February



28, 2014

Consideration Paid Cash payments for MISN shares outstanding $



2,554

Cash payments for MISN warrants



5,766

Cash payments for MISN options



387

Shares issued, @ $7.99 per share 60,255 Total consideration 68,962 Net Assets pre-acquistion 41,526 Fair value adjustments: Loans receivable $ (9,879 ) Allowance for loan and lease losses 4,441 Fixed Assets 422 Core deposit intangible 5,060 Deferred taxes assets, net 11,972 Other assets (279 ) Certificates of deposit purchase premium (78 ) Federal Home Loan Bank advances (71 ) Junior subordinated debentures 3,444 Lease liability (1,217 ) Other liabilities 250 Total fair value adjustments 14,065 Fair value of net assets acquired



55,591

Excess of consideration paid over fair value of net assets acquired, i.e., goodwill $ 13,371



The goodwill of $13.4 million arising from the acquisition represents the additional consideration paid above the fair market value of net assets acquired. As this transaction was structured as a tax-free exchange, the goodwill will not be deductible for tax purposes.

Other Real Estate Owned (OREO)

At March 31, 2014 the Company held $0.3 million of OREO, comprised of a 1-to-4 family residential property foreclosed on during the first quarter of 2014 and one property acquired in the MISN merger, which had been carried at fair value by MISN, so no fair value adjustment was recognized in conjunction with the merger. As of December 31, 2013, the Company held no OREO. As was previously noted, the Company did foreclose on a single loan in the first quarter of 2013, and sold the underlying collateral within the same quarter at a loss of $0.2 million, which was reflected as a charge-off against the ALLL. See also Note 9. Other Real Estate Owned, of the Condensed Consolidated Financial Statements, filed with this Quarterly Report on Form 10-Q for additional discussion concerning OREO. Heritage Oaks Bancorp | - 56 -



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Deposits and Borrowed Funds

Deposits



The following table provides a summary for the year to date change in various categories of deposit balances:

March 31, December 31,



Variance

(dollar amounts in thousands) 2014 2013 dollar



percentage

Non-interest bearing deposits $ 443,922$ 291,856$ 152,066

52.10 % Interest bearing deposits: NOW accounts 108,604 87,298 21,306 24.41 % Other savings deposits 94,627 42,648 51,979 121.88 % Money market deposit accounts 422,728 332,272 90,456 27.22 % Time deposits 295,948 219,821 76,127 34.63 % Total deposits $ 1,365,829$ 973,895$ 391,934 40.24 % As indicated in the table above total deposit balances at March 31, 2014 were approximately $1.37 billion. This represents an increase of approximately $391.9 million, or 40.2%, when compared to that reported at December 31, 2013. The MISN merger contributed $371.5 million to deposit growth this quarter, including $137.6 million in non-interest bearing deposits. The Company continues to focus on gathering and retaining core relationships, which has helped to reduce the overall cost of funding. At March 31, 2014, core deposits, which are defined as total deposits exclusive of time deposits over $100,000, represented 85.1% of total deposits, up from the 84.7% reported at December 31, 2013, due largely to core deposits acquired in the MISN merger. Borrowed Funds The Bank has a variety of sources from which it may obtain secondary funding beyond deposit balances. These sources include, among others, the FHLB, the FRB and credit lines established with correspondent banks. At March 31, 2014, FHLB borrowings were $85.6 million or $2.9 million lower than that reported at December 31, 2013. Borrowings are obtained for a variety of reasons which include, but are not limited to: asset-liability management; funding loan growth; and to provide additional liquidity. The decrease in the level of FHLB borrowings in 2014 was the result of maturities of short-term borrowings that were not rolled over. Capital At March 31, 2014, the balance of shareholders' equity was approximately $186.6 million. This represents an increase of approximately $60.2 million over that reported at December 31, 2013. The year to date change was primarily attributable to 7,541,326 shares issued at a price of $7.99 per common share as part of the consideration in the MISN merger, partially offset by $0.3 million of related stock issuance costs. The other components of equity nearly offset each other as the $1.8 million quarterly loss recorded for the first quarter was offset by the reduction in other comprehensive loss attributable to the improvement in value of the securities portfolio, and adjustments related to share based compensation. Dividends



The Company has not paid dividends on common stock in 2014 or 2013.

Regulatory Capital The Company and the Bank seek to maintain strong levels of capital in order to be considered generally "well-capitalized" as determined by regulatory agencies. The Company's potential sources of capital include retained earnings and the issuance of equity. Although the Company and the Bank rely primarily on earnings from its operations to generate capital, the absence of earnings in 2009 and 2010 required the Company to obtain additional capital through the issuance of preferred and common equity in 2010. Heritage Oaks Bancorp | - 57 -



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At March 31, 2014, the Company had $16.5 million in Junior Subordinated Deferrable Interest Debentures (the "debt securities") issued and outstanding. These debt securities were issued to three different trusts, as follows:

Amount Book Current Issue



Scheduled Call

(dollar amounts in thousands) Issued Value Rate Date Maturity Date Heritage Oaks Capital Trust II $ 8,248$ 8,248 1.95 % 27-Oct-06 Aug-37 Nov-11 Mission Community Capital Trust I $ 3,093$ 2,726 3.19 % 14-Oct-03 Oct-33 Oct-08 Santa Lucia Bancorp (CA) Capital Trust $ 5,155$ 2,097 1.72 % 28-Apr-06 Jul-36 Jul-11 At March 31, 2014, the Company included $12.6 million of the debt securities in its Tier I Capital for regulatory reporting purposes. For a more detailed discussion regarding junior subordinated debt securities, see Note 11, Borrowings, in the Company's Consolidated Financial Statements under Item 8 of Part II of the Company's Annual Report on Form 10-K for the year ended December 31, 2013. Beginning in April 2012 and through its termination in April 2013, the Bank operated subject to the terms of a MOU with the FDIC and the DFI, which replaced the Consent Order stipulated to in March 2010. Under the MOU the Bank agreed to continue to adhere to the 10.0% Tier 1 leverage ratio previously set by the Consent Order. With the termination of the MOU in April 2013, the need to continue to adhere to the 10% leverage ratio was removed. See also Note 19, Regulatory Matters, in the Company's Consolidated Financial Statements under Item 8 of Part II of the Company's Annual Report on Form 10-K for the year ended December 31, 2013 for additional information related to the Consent Order and Written Agreement as they pertain to these requirements. The following table provides the general minimum regulatory capital ratios and a summary of Company and Bank regulatory capital ratios, which reflect that both the Company and Bank meet the criteria to be considered "well capitalized": Regulatory Standard March 31, 2014 December 31, 2013 March 31, 2013 Well Heritage Oaks Heritage Oaks Heritage Oaks Ratio Capitalized Bancorp Bank Bancorp Bank Bancorp Bank Leverage ratio 5.00% 11.64% 11.25% 10.20% 9.82% 12.72% 12.36%



Tier I capital to risk weighted assets 6.00% 12.25% 11.84% 12.91% 12.42% 16.50% 15.99%

Total capital to risk weighted assets 10.00% 13.50% 13.10% 14.17% 13.68% 17.76% 17.26%

On July 17, 2013 the Company repurchased all 21,000 outstanding shares of the Series A Preferred Stock that was held by the U.S. Department of the Treasury under the TARP CPP program. The shares were repurchased at par plus accrued but unpaid dividends for a total of $21.2 million. On July 30, 2013 the Company reached an agreement with the U.S. Department of the Treasury to repurchase the related warrant to purchase 611,650 shares of the Company's common stock for $1.6 million. The decision to repurchase the Preferred Stock and the outstanding warrant was made to mitigate the dilutive effect these instruments had on common shareholders. The funds for this purchase were made available through a one-time dividend from the Bank to Company. At March 1, 2014, regulatory capital increased concurrent with average assets and risk weighted assets due to the common stock issuance and incorporation of the MISN balance sheet into our existing balance sheet. The impact of the MISN transaction, net of normal quarterly fluctuations to regulatory capital derived from earnings and share based compensation, was an increase to the Company's leverage ratio of 144 basis points to 11.64% at March 31, 2014 as compared to prior quarter-end. This increase however, is only temporary and is driven by the muted impact to the denominator of this ratio due to the amount of time that MISN assets were included in our average assets. After adjusting our leverage ratio to include the benefit of average assets for the full quarter, the first quarter 2014 proforma leverage ratio would have been normalized by 183 basis points to an estimated 9.81%. Because risk based capital ratios are not based on average quarterly assets neither our Tier I Risk Based ratio nor our Total Risk Based Capital Ratio were impacted by the issue discussed regarding our leverage ratio. The Company's Tier 1 Risk Based Capital Ratio and Total Risk Based Capital Ratio decreased by 66 and 67 basis points to 12.25% and 13.50%, respectively due primarily to the impact of the MISN acquisition and secondarily to the impact of the net loss for the first quarter of 2014.



Off-Balance Sheet Arrangements

Off-balance sheet arrangements are any contractual arrangement to which an unconsolidated entity is a party, under which the Company has: (1) any obligation under a guarantee contract; (2) a retained or contingent interest in assets transferred to an unconsolidated entity or similar arrangement that serves as credit, liquidity or market risk support to that entity for such assets; (3) any obligation under certain derivative instruments; or (4) any obligation under a material variable interest held by the Company in an unconsolidated entity that provides financing, liquidity, market risk or credit risk support to the Company, or engages in leasing, hedging or research and development services with the Company. Heritage Oaks Bancorp | - 58 -



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In the ordinary course of business, the Company has entered into off-balance sheet arrangements consisting of commitments to extend credit, commercial letters of credit, and standby letters of credit. Such financial instruments are recorded in the financial statements when they are funded or related fees are incurred or received. For a more detailed discussion of these financial instruments, refer to Note 18, Commitments and Contingencies, in the Company's Consolidated Financial Statements under Item 8 of Part II of the Company's Annual Report on Form 10-K for the year ended December 31, 2013. In the ordinary course of business, the Company is a party to various operating leases, including an office building lease obligation that was assumed in the MISN merger and expires in 2024. Monthly rentals under this lease are currently approximately $43,000, subject to annual escalation based on the Consumer Price Index. For a more detailed discussion of these financial instruments, refer to Note 18, Commitments and Contingencies, in the Company's Consolidated Financial Statements under Item 8 of Part II of the Company's Annual Report on Form 10-K for the year ended December 31, 2013. The Company is contingently liable for letters of credit made to its customers in the ordinary course of business totaling $16.0 million and $17.0 million at March 31, 2014 and December 31, 2013, respectively. For a more detailed discussion of these financial instruments refer to Note 18, Commitments and Contingencies, in the Company's Consolidated Financial Statements under Item 8 of Part II of the Company's Annual Report on Form 10-K for the year ended December 31, 2013. Additionally at March 31, 2014 and December 31, 2013, the Company had undisbursed loan commitments made in the ordinary course of business totaling $239.7 million and $181.5 million, respectively. At both March 31, 2014 and December 31, 2013, the Company's allowance for losses on unfunded commitments was $0.4 million. In connection with the $8.25 million in debt securities issued to Heritage Oaks Capital Trust II the Company issued a full and unconditional payment guarantee of certain accrued distributions by Heritage Oaks Capital Trust II. Similarly, for the $8.25 million in par value of trust preferred securities that the Company assumed as part of the merger with MISN, the Company is the full and unconditional guarantor of distributions of the issuing trusts. There are no Special Purpose Entity trusts, corporations, or other legal entities established by the Company which reside off-balance sheet. Management is not aware of any other off-balance sheet arrangements that have or are reasonably likely to have a current or future effect on the Company's financial condition, results of operations, liquidity, capital expenditures or capital resources that would be material to investors. Liquidity The objective of liquidity management is to ensure the continuous availability of funds to meet the demands of depositors, investors and borrowers. Asset liquidity is primarily derived from loan payments and the maturity of other earning assets. Liquidity from liabilities is obtained primarily from the receipt of new deposits. The Company's Asset Liability Committee ("ALCO") is responsible for managing the on and off-balance sheet commitments to meet the needs of customers while achieving the Company's financial objectives. ALCO meets regularly to assess the projected funding requirements by reviewing historical funding patterns, current and forecasted economic conditions and individual customer funding needs. Deposits generated from the Company's customers serve as the primary source of liquidity. The Bank has credit arrangements with correspondent banks that serve as a secondary liquidity source. At March 31, 2014, these credit lines totaled $62.0 million and are unsecured. Additionally, the Bank has a borrowing facility with the FRB. The amount of available credit under the FRB facility is determined by the collateral provided by the Bank. As of March 31, 2014, the borrowing availability related to this facility was $9.8 million. At March 31, 2014, the Bank had no borrowings against the credit lines or the FRB facility. As previously mentioned, the Bank is a member of the FHLB and has available collateralized borrowing capacity of $332.5 million at March 31, 2014, in addition to the $85.5 million currently outstanding. The Bank also manages liquidity by maintaining an investment portfolio of readily marketable and liquid securities. These investments include mortgage backed securities and obligations of state and political subdivisions (municipal bonds) that provide a stream of cash flows. As of March 31, 2014, the Company believes investments in the portfolio can be liquidated at their current fair values in the event they are needed to provide liquidity. The ratio of liquid assets not pledged for collateral and other purposes as a percentage of deposits and other liabilities was 31.0% at March 31, 2014 compared to 26.3% at December 31, 2013. The ratio of gross loans to deposits, another key liquidity ratio, decreased to 81.6% at March 31, 2014 compared to 85.0% at December 31, 2013, due to the MISN acquisition. Heritage Oaks Bancorp | - 59 -



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Management believes the level of liquid assets and available credit facilities are sufficient to meet current and anticipated funding needs. In addition, the Bank's ALCO oversees the Company's liquidity position by reviewing a monthly liquidity report. Management is not aware of any trends, demands, commitments, events or uncertainties that will result or are reasonably likely to result in a material change in the Company's liquidity.


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