Bank of Hawaii Corp (BOH) 2013 Q2 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the second quarter 2013 Bank of Hawaii Corporation earnings conference call. My name is Jackie and I will be your coordinator today. At this time, all participants are in a listen-only mode. Following the prepared remarks, there will be a question and answer session. (Operator instructions). As a reminder, this conference is being recorded for replay purposes. I would now like to turn the presentation over to Ms. Cindy Wyrick, Director of Investor Relations. Please proceed.

Good morning, everyone, and thank you for joining us today as we review the financial results for the Bank of Hawaii's second quarter of 2013. Joining me this morning is our Chairman, President and CEO, Peter Ho; our Vice Chairman and Chief Financial Officer, Kent Lucien; and our Vice Chairman and Chief Risk Officer, Mary Sellers. Comments today will refer to financial information included in this morning's announcement.

Before we get started, let me remind you that today's conference call will contain some forward-looking statements. While we believe our assumptions are reasonable, there are a variety of reasons that the actual results may differ materially from those projected.

Now I would like to turn the call over to Peter Ho.

Great, thanks, Cindy. Good morning, everyone, and thanks for joining us today.

Bank of Hawaii delivered steady, consistent and positive results in the second quarter of 2013. Our loans grew 3% from the second quarter last year due to strong commercial, indirect auto and certain other consumer loan growth, partially offset by reductions in refinance-sensitive loan categories, namely residential mortgage and home equity loans.

We continued to attract quality deposits during the quarter with consumer and commercial deposit balances up 4% from last year. Consumer and commercial demand deposits were up 13% and 10%, respectively, in the quarter.

Asset quality, as you would expect, continued to trend positively and our expenses remained well-controlled. At the end of the quarter, our balance sheet remains strong, with high levels of liquidity, capital and reserves.

And now let me turn the call over to Kent, who will give some more detail into the numbers.

Thank you, Peter, good morning. Net income for the second quarter was $37.8 million or $0.85 per share compared to $36 million or $0.81 per share in the first quarter and $40.7 million or $0.90 per share in the second quarter of 2012. Our return on assets in the second quarter was 1.12% and return on equity was 14.6%. Our efficiency ratio was 60%, a reduction from 61.9% in the first quarter. Year-to date net income was $73.7 million or $1.65 per share compared to $84.6 million or $1.85 per share in 2012. Year-to-date return on assets is 1.10% and return on equity is 14.4%. Our year-to date efficiency ratio is 60.9%.

In the last several weeks, longer-term interest rates have increased. The most immediate impact to us is in our mortgage operation. In the second quarter, mortgage income was $5.8 million versus $6.4 million in Q1. Mortgage applications are trending lower into the third quarter, and so we would expect to see still lower mortgage revenue in the second half. Longer term, if rates continue at this level or even increase, we should see our net interest margin increase, but this will take time to be fully realized.

Our net interest margin in the second quarter was 2.77% compared to 2.82% in the first quarter and 2.98% in the second quarter of 2012. The lower margin was primarily due to continued reinvestment in lower-yielding securities and relatively high premium amortization. The investment portfolio reinvestment differential was 98 basis points in the second quarter. Premium amortization was $16.8 million compared to $16.5 million in the first quarter.

Going forward, if mortgage and other prepayments slow, then the premium amortization will correspondingly decrease. Also during the quarter, we amended and extended $200 million of private long-term repurchase agreements and, thereby lowered the rate on those repos from 4.73% to 3.75%.

There was no credit provision in the second and first quarters compared to $0.6 million in the second quarter of 2012. Our allowance decreased by $2.3 million in the second quarter and by $2 million in the first quarter, which equaled net charge-offs for the respective quarters. The credit provision for the second quarter of 2012 included net charge-offs of $3.8 million and a $3.2 million decrease to the allowance. Our allowance for loan and lease losses at the end of the second quarter was $124.6 million, or 2.1% of outstanding loan and leases.

Non-interest income for the second quarter was $48 million compared to $47.8 million in the first quarter and $46.8 million in the second quarter of 2012. The increase compared to the first quarter was primarily due to an increase in commercial real estate and loan syndication fees, debit interchange revenue and trust and asset management income, partially offset by a decrease in mortgage banking income. First half trust and asset management income tends to be somewhat higher due to tax service fees.

Year-to-date noninterest income was $95.8 million compared to $94.9 million in 2012. Noninterest expense totaled $81.2 million in the second quarter compared to $84.4 million in the first quarter and $80.7 million in the second quarter of 2012. The decrease compared to the first quarter was primarily due to seasonally lower payroll taxes and 401(k) contributions associated with incentive compensation accrued in 2012 and paid in the first quarter of 2013, and a decrease in separation expense. Year-to-date noninterest expense was $165.6 million compared to $166 million in 2012. The effective income tax rate was 30.3% in the second quarter compared to 30.7% in the first quarter and 33% in the second quarter of 2012. The lower rate in the second quarter of 2013 was due to a $1.1 million release of reserves for a prior-year state tax uncertain matter that was settled during the quarter.

Our investment portfolio now stands at $6.8 billion, of which 41% is categorized AFS and 59% is HTM. The average duration of the AFS portfolio is 2.96 years and overall portfolio duration is 3.98 years. Near the end of the second quarter, we repositioned approximately $250 million of securities from AFS to HTM and we plan to move another $200 million during the quarter. That would be the third quarter.

The total portfolio is comprised of 74% Ginnie Mae mortgages and SBA loans, 11% municipal securities, 9% treasuries and 6% corporates.

Loan balances were $5.9 billion at the end of the second quarter, up $76 million compared to the end of the first quarter and up $188 million from the end of the second quarter of 2012. Commercial loans increased by $74 million in the second quarter.

Deposits were $11.4 billion at the end of the second quarter, up $197 million compared to the end of the first quarter and down $99 million from the end of the second quarter of 2012. The higher deposits were mainly public deposits.

Our shareholders' equity was $1 billion at the end of the second quarter. Our AFS portfolio was marked down in value by $46.6 million due to increasing interest rates.

We paid out $20.2 million in dividends and continued our share repurchase program in the second quarter, repurchasing 305,000 shares of common stock for $15 million.

Our Board declared a dividend of $0.45 per share for the second quarter. At the end of the second quarter, our tangible common equity to risk-weighted assets was 15.7% and our tier 1 leverage ratio was 6.9%.

Now I will turn the call over to Mary Sellers.

Thank you, Kent.

Net charge-offs for the second quarter totaled $2.3 million, up $324,000 on a linked-quarter basis and down $1.5 million year over year. The year-over-year improvement was driven off a $725,000 decrease in C&I net charge-offs and a $1.4 million decrease in residential mortgage net charge-offs. Non-performing assets totaled $36.4 million, down $1.9 million from last quarter and down $5.1 million year-over-year. The linked-period decrease was primarily due to a $1.8 million decrease in residential mortgage nonaccrual loans while year-over-year improvement was driven by a $1.2 million decrease in construction nonaccrual loans and a $3.9 million decrease in residential mortgage nonaccrual loans.

We continue to expect the level of non-performing assets to be impacted in the near-term due to the longer resolution time frame for residential assets.

At quarter end, loans past due 90 days or more and still accruing interest totaled $10.6 million, down $1.1 million on a linked-quarter basis and up $3.4 million year over year. The linked-period decrease was due to a $1.8 million decrease in home equity which was partially offset by a $900,000 increase in residential mortgage loans.

Restructured loans not included in nonaccrual loans or loans past due 90 days or more totaled $39.2 million at quarter end, up $9.1 million from the prior quarter and up $8.1 million year-over-year. Residential mortgage loans modified to assist our customers in retaining their homes accounted for $21.4 million of the total at quarter end. Residential mortgage and home equity loans past due more than 30 days but less than 90 days and still accruing interest decreased by $3.7 million in a linked-quarter basis and increased $3 million year over year.

We continue to see improvement what we consider to be the higher-risk segments in our portfolio. In total, these segments were down $8.1 million for the quarter and $12.6 million year over year. As Kent indicated, we recorded no provision for loan and lease losses in the second quarter, which, given net charge-offs of $2.3 million, reduced the allowance to $124.6 million or 2.13% of outstanding loans and leases.

With continued strengthening in the economy and continued improvement in our stability and credit quality, we anticipate requiring a lower level of allowance going forward.

I will now turn the call back to Peter.

Great, thanks, Mary.

The Hawaiian economy continued its positive trend in the quarter. The visitor industry continues to be a source of strength for the Hawaiian economy. For the first five months of 2013, total visitor arrivals increased by 5.7% and visitor spending increased by 5.1% compared to the same period in 2012.

Oahu's single-family home and condominium median prices rose 9% and 11%, respectively, in June and are up 0.8% and 6.8% year to date. Sales volumes remain strong, up 11% for single-family homes and 18% for condominiums year to date, and inventories remain at historically low levels at 2.7 months for both categories.

Statewide seasonally adjusted unemployment rate declined to 4.6% in June, down from 5.1% at year-end and significantly better than the national rate of 7.6%. We would anticipate the economy to be further augmented by the commencement of a number of both private and public sector construction projects set to take place in the next few years.

And now we would be happy to entertain your questions.

(Operator instructions) Joe Morford.

Question on the margin -- your comments in your release talked about benefiting from the trend higher in rates. Is that primarily going to be through lower premium amortization, or do you anticipate doing anything really different on the investment security side?

Joe, we really don't anticipate doing too much differently in terms of what we are buying in the portfolio. But as I mentioned in my comments, we are about minus 98 points in the quarter in terms of reinvestment. And at present, we are more or less neutral in terms of what we are buying versus the roll-off. So that, combined with loan growth and further combined with lower premium amortization, that's really the basis for my comment.

Okay. And it suggested kind of over time, is that likely then kind of more of a fourth-quarter event than third quarter, you are suggesting?

I think it's -- there are still events to be determined as to what happens with rates, but I think it is possible to see some slight positive trending, even as early as the third quarter. I'd really caution any thinking about dramatic change. These are going to be very, very modest kinds of numbers.

Understand. Lastly, can you talk a bit about the shift of securities from AFS to HTM, both this quarter and what is planned, the motivations there? And is it partly to help manage the AOCI issue?

Yes. Definitely, it's partly due to capital management. You always start with the fundamentals, but these various securities we intend to hold to maturity. But, in addition, it will be good or better capital management for us relative to AOCI.

Okay, thanks very much.

Aaron Deer, Sandler O'Neill & Partners

Just following up on the capital discussion, it seems like you are still pretty comfortable with the share repurchases, but the stock having come up now and I guess with some of the AOCI issues and such, I'm just wondering how comfortable are you with that going forward, and are there any particular capital ratios that you are keeping an eye on, in particular?

Well, the basic strategy of returning as much capital to the shareholders as we can -- that's still relevant. The ratios that we are looking at, tier 1 leverage -- we do want to get that number to 7%. We were just a smidge under that as of the second quarter.

But the other ratio we are looking at is that 2C-to-risk-weighted ratio, which came down a little bit, you saw in the second quarter, due to a combination of loan growth and the AOCI charge.

So we are looking at all those ratios in terms of our capital decisions. But I think the basic message is, we are still pressing forward with the share repurchase program. We wouldn't anticipate any real changes in that.

And then, Peter, you'd mentioned in your comments that there are some construction projects that are going to be coming online over the next couple of years. Obviously, with inventories as low as they are, it seems like there's more demand than there is availability. I know that construction has never been a big part of your book, but can you size the opportunity that you see there? And what does that mean for pricing on your loan book?

Okay. Well, the construction book today is just over $100 million. That book has been up as high as several hundred million in the past. We are a pretty conservative and choosy construction lender, particularly in the vertical construction space. So I would anticipate that there's meaningful upside in the construction portfolio over the next few years, call it.

I think the real opportunity for us is in the ancillary activity surrounding a robust construction environment. So that's C&I lending; that's supporting a lot of the trades and businesses that support construction and development here in the state.

And I guess the last piece to this would be -- and this is probably extending out a few years -- would be the opportunity to increase our purchase residential mortgage segment, which is -- purchase is a growing percentage of our originations in mortgage. The problem is inventory levels are so low right now that it's just very difficult to get much volume there. So between the condominiums coming up and some potential single-family home developments further out into -- several years out, that's a meaningful segment of the overall housing market here in Oahu.

Sure, okay, great, thanks for taking my questions.

Nicholas Karzon, Credit Suisse.

First, in thinking about the potential magnitude of the premium amortization decline, can you give us an idea of how the mechanics of that calculation work?

First of all, we estimate the amortization each month, so it's a monthly determination. The first step in the process is an estimate in the mortgage area as to prepayment speed. That is then combined with any actual paydowns on individual securities.

Other fixed-tenor securities, the amortization is a known number; it's basically a straight line. So the greatest variable would be the prepayment rate on mortgages.

Got it, thanks. And then second quick question, and this goes back to, I think, your comments on the net interest margin earlier. I noticed that the yield on residential mortgages picked up a little bit quarter over quarter. Is there something unusual there, or is the average yield actually improving quarter over quarter?

It changed by 4 basis points. Part of that is that the balances came down. So we weren't putting on a lot of new mortgages in the period. So that would be the major change.

Okay, thanks for taking my questions this morning.

Casey Haire, Jefferies.

So I had a question on the expense side -- another good quarter of expense leverage here. I was just wondering, with some pretty positive NIM commentary from you guys for the first time in a while, have we reached the end of the line here, or is there more to come?

On the expense side?

Yes.

I will kickoff, and Kent can clean up. We -- I think as you know, Casey, we don't have a prescribed percentage that we are going after. Our view is that we ought to be able to, one, control expenses and potentially even reduce expenses, irrespective of the environment that we find ourselves in.

So, yes, we think that there is further expense opportunity, but it's going to be measured and it's going to be somewhat lumpy because, as you know, sometimes it takes some expenditure to create longer-term expenditure.

But to answer your question, longer-term, we do see expenses as an opportunity.

Okay, great. And then on the loan front, obviously the commercial bucket had a pretty good quarter. How are pipelines today? Are they still strong, or are they -- need to backfill a little bit?

The pipe still looks pretty good, and I guess the headliner, certainly this quarter and for the past several quarters, has been our commercial mortgage business, which has just performed exceptionally well. What I was heartened to see this quarter was we're beginning to see good C&I growth and we're beginning to see good activity within the C&I space. So a good balance there, and I think we've got some pretty reasonable opportunities coming up.

Okay, great, and just one more -- the liability restructuring that you guys did on the repo side -- at what point -- was that early in the quarter, late in the quarter? And is there more opportunity for that going forward? Thank you.

Yes, it was pretty early in the quarter, and there's some additional opportunity. It's very modest, though. The private repos -- the total is 600. We did 200 in the quarter and there may be another $100 million, but the differential in rates is probably much smaller than what I quoted in the second quarter.

Okay, thanks for taking the questions.

Jeff Rulis, D.A. Davidson.

Peter, just to follow up on that last C&I comment, you are seeing some activity. Is that new production or line draws? And then even specifically, if you had the current level of line utilization, what is that currently versus where it has been last quarter or in quarters past?

Yes, not a real perceptible change in line utilization. I don't think that's a number that we've divulged in the past, but most of the C&I activity has been centered around M&A activity here in the local marketplace, and a fair amount of businesses just spending capital to get in preparation for what they view as a better economic environment and a more active environment.

And then this just sort of touched a little bit on the portfolio balance of the residential mortgage category. I guess with slowing refi and an increase in purchase activity, albeit limited, are you approaching a bottom on the actual balance in the portfolio? Do you get a sense that runoff will continue for a little while?

We would like to see things bottom out here. As we look at the numbers going back several quarters, we had so much activity in Q's 3 and 4. And we're just -- at least in our shop, we are just now catching our breath and getting that activity in place. Likely, that's the case, at least throughout our local marketplace. And so we would anticipate, as refinance activity slows, there is a reasonable opportunity for us to create a bottom in both the resi book, as well as potentially the home equity book.

Great, thank you.

Jacque Chimera, KBW.

Looking to the unsettled tax matter that you had talked about, do you have any more of those that are sitting on the back burner that might pop up over the next few quarters?

That's always possible. Just the nature of the tax area, where resolutions take many, many years, so this particular item goes back over five years. So it's always possible. It's very difficult to predict and nearly impossible to specify timing.

Okay, fair enough. And, Kent, just to make sure that I heard you correctly, that was $250 million that were moved into held-to-maturity this quarter and then 2Q, and then $200 million that are moving in 3Q; right?

Yes, that's what I -- that's right.

And then I guess just, lastly, if you wouldn't mind providing an update on how the contraction in the credit card portfolio has been.

It has been very good. Balances are now up over $4 million. So we have quadrupled our portfolio, Jacque. But the real number for us is we have opened upwards of 6000 accounts. So the product has been very well received by our client base. People are very satisfied with the features and benefits. We have a few other products coming out in the near future. So it has just been a very good augmentation to our product line. And we think, as I've told you before, I think longer-term, this is going to be a very successful product for us, but it's just going to take a while to season up dollar wise.

Okay, great, thank you for the color; I appreciate it.

Brett Rabatin, Sterne Agee.

I wanted to follow-up on the premium amort just one more time. With the $16.8 million, that's about 100 basis points on your current portfolio; and between 2011 and 2012, you were running a $13 million to $14 million premium amort pace. I was just curious if you think it might fall below that with how you see things, Kent. And then I was curious if you are buying Ginnies at a premium today, or kind of -- you talked about not being neutral from a reinvestment perspective. Could you maybe clarify little bit of what you're doing?

Yes. I wouldn't get too carried why with the opportunity in the amortization space. I think, directionally, it is going to be positive for us. But it's just not going to be as big initially as we may have seen in earlier periods. So I don't know if that helps you very much, but we are talking about pretty modest but directionally positive changes.

Right, but it would be fair to assume, then, like a $2 million to $3 million reduction as those prepaid speeds slow, would be the pace, given what you are buying at premiums and still have it amortize versus accelerated prepay speed?

That number over several months is possible. If you want to go out much longer, you can think about a little bit bigger number. But I just didn't want you to think that it's going to go to half; it's not.

Right, right, right, right.

In terms of what we are buying, we are buying a little bit more in the municipal space, a little bit more in the corporate space. We are going to bring down the mortgage a little bit, so a slight reduction in that area.

As I mentioned, we are probably neutral now in terms of rolloff, and the rolloff yield in the second quarter was about 257 -- 2.5%. And that is what we are averaging out between the various investment categories right now.

Okay. And then the other question I had -- I know I have asked about this before, but I saw that Hawaii got the first $250 million for the rail project last month. So I was just curious, any update on if that project might benefit you guys? And if so, can you make loans on the various companies that are going to be doing that?

Yes, Brett. We think that the potential stimulus created by the rail over the next several years is going to be quite meaningful. And we, in fact, are lending and are active with a number of companies that are part of that project.

Okay. Thanks for the color.

Matt Keating, Barclays.

I just had a few follow-up questions on the mortgage banking business. It was helpful to hear your commentary that applications were trending lower, I guess, as you moved into 3Q. Can you just provide some quantification around that perhaps relative to the 7% application decline you experienced last quarter?

Yes. So the figure I quoted was revenue, which is really a combination of servicing income and any gain on the mortgages sold.

In terms of applications into the third quarter, probably the way to think about it is between 35% to 45% reduction in volume. It's early into the period, so it's hard to give you a definite figure. That's why I'm giving you a range. But that's kind of what we are seeing so far.

Got you. And now, it sounds like you are making progress in transitioning more to a purchase mortgage mix. Could you just provide, I guess, of your production in 2Q? What was the mix between purchase and refinance?

It was about 80-20 refi to purchase.

Okay. I guess you mentioned the impact on the securities book. Could you just update us on what the AFS net unrealized gain was at the end of the second quarter?

It's -- I think it's zero now, or slightly negative. But that's in the AFS. The total securities, the gain is about -- and this is an estimate -- $6 million, in that neighborhood. But the AFS is -- there's really no unrealized gain at this point.

Got you. I'm sure you are tired of answering this question, but any signs yet of any impact from sequestration yet on the ground in Hawaii yet, or is it much the same as last quarter?

It's much the same as last quarter. I guess some of the bigger pieces were our shipyards, so we have one of the larger -- one of the largest Navy shipyards in the Pacific. That has been designated for no meaningful change, which was a positive. Schofield Barracks, which is a big Army base here in the state, basically has been designated for about the same level of troops. So that was a plus. We've got about, I want to say, 18,000 federal workers here in the state that were just notified of a one-day-a-week furlough. So I guess you could do the math there; that's a 20% reduction in wages. So that has yet to play out.

Our sense is that, yes, the sequestration is going to have some level of impact to Hawaii, but unlikely to completely overwhelm the progress we are making on the visitor and potentially construction side.

Thank you for the color.

John Moran, Macquarie Capital.

Just a quick one on taxes -- if I back out the $1.1 million reserve, I get an effective rate of around 32%. In the press release, you guys had alluded to some low-income housing deals and other tax credits that are in place here. Is there anything that would suggest maybe that that 32% grinds structurally lower as we progress through this year, or is 32% kind of the place that you think it shakes out?

Well, that's a good place to start. The effective rate can really vary depending on the level of income, because the credit amounts are fixed. So if income goes up, the rate could go up. And contrariwise, if income goes down, the effective rate could be lower. So that's the way to think about it.

Okay. Do you happen to have the dollar amount of permanent differences handy?

I do not.

Okay, maybe I can just follow up. Thanks very much.

At this time, we have no further questions. Ms. Cindy Wyrick, you may proceed.

I would like to thank everyone for joining us today and you for your continued interest in Bank of Hawaii. As always, if you have any additional questions or need any further clarification, please feel free to give me a call at any time. Thanks, everyone. Have a great day.

Thank you for your participation today's conference. This concludes the presentation. You may now disconnect. Have a great day.