Cathay General Bancorp (CATY) 2013 Q2 法說會逐字稿

Good afternoon, ladies and gentlemen.

Welcome to the Cathay General Bancorp's second quarter 2013 earnings conference call.

My name is Philip, and I will be your coordinator for today.

At this time, all participants are in listen-only mode.

Following the prepared remarks, there will be a question-and-answer session.

(Operator Instructions)

Today's call is being recorded and will be available for replay at www.cathaygeneralbancorp.com.

Now I would like to turn the call over to Monica Chen, Investor Relations for Cathay General Bancorp.

Thank you Philip, and good afternoon.

Here to discuss the financial results today are Mr. Dunson Cheng, our Chairman of the Board, President, and Chief Executive Officer and Mr. Heng Chen, our Executive Vice President and Chief Financial Officer.

Before we begin, we wish to remind you that the speakers of this call may make forward-looking statements within the meaning of the applicable provisions of the Private Securities Litigation Reform Act of 1995 concerning future results and events, and that these statements are subject to certain risks and uncertainties that could cause actual results to differ materially.

These risks and uncertainties are further described in the Company's annual report on form 10-K for the year ended December 31, 2012, as item 1A in particular, and the other reports and filings with the Securities and Exchange Commission from time to time.

As such, we caution you not to place undue reliance on such forward-looking statements, which speak only as of the date of this presentation.

We undertake no obligation to update any forward-looking statements or to publicly announce any revision of any forward-looking statements to reflect future developments or events, except as required by law.

This afternoon Cathay General Bancorp issued an earning release outlining its second quarter 2013 results.

To obtain a copy, please visit our website at www.cathaygeneralbancorp.com.

After comments by management today, we will open up this call for questions.

I will now turn the call over to our Chairman of the Board, President and CEO, Mr. Dunson Cheng.

Thank you Monica, and good afternoon.

Welcome to our 2013 second quarter earnings conference call.

This afternoon, Cathay General Bancorp reported net income of $29.9 million for the second quarter of 2013, or $0.35 per common share.

That compared to a net income of $29.9 million, or $0.33 per common share, for the second quarter of 2012 and $28.8 million, or $0.30 per common share, for the first quarter of 2013.

In the second quarter we experienced much stronger loan growth.

Gross loans increased $330 million in the quarter, or 4.5% increase from the first quarter 2013.

For the first half of 2013 loans increased by $265 million, or 3.6%.

Commercial loans increased by $179 million, commercial mortgages, CRE loans, increased by $150 million, and residential mortgage loans increased by $41 million.

The increase in commercial loans was due to new borrowing, higher usage of existing credit lines, increased activities in our trade centers business, and growth in our Hong Kong branch.

New CRE origination was strong, but construction benefit dropped because one large construction loan matured and was turned into CRE.

While our residential mortgage increased in the quarter, we expect it will slow down in the coming months.

Our current expectation for loan growth for the entire year is 7%, a slight upward revision from the previous 6%.

For the third quarter 2013, our total deposits increased $285 million, or 3.8% from $7.4 billion at March 31, 2013.

During the second quarter, we completed the acquisition of our new Las Vegas branch on June 17.

In July, we signed an agreement to open an additional branch in [Boston].

Both this branch and the previously announced new one in West Covina are expected to open in the fourth quarter.

Net recovery for the second quarter of 2013 was $0.9 million, compared to net recoveries of $2.6 million in the same quarter a year ago.

Our loan loss provision was $0 for the third quarter 2013, compared to a credit of $5 million in the same quarter a year ago.

Our nonaccrual loans decreased 4.5%, or $4.7 million, during the second quarter to $95.6 million, or 1.24% of period-end loans.

This past weekend we successfully completed a 24-month effort to upgrade our computer system to a new core.

We expect the new system will provide quicker functionality, and allow us to streamline our internal processes in all our office areas, and therefore to improve our efficiency ratio.

With that, I will turn the floor over to our Executive Vice President, and CFO, Heng Chen, to discuss the second quarter 2013 financials in more detail.

Thank you Dunson, and good afternoon everyone.

For the second quarter, we announced net income of $29.9 million, or $0.35 per share.

Included in second quarter results were $10.1 million in prepayment penalties, as well as $12.2 million in securities gains.

Our net interest margin was 3.3% in the second quarter of 2013, compared to 3.35% in the first quarter of 2013, and compared to 3.24% for the second quarter of 2012.

During the first quarter of 2013, recognition of interest income on loans previously on nonaccrual status added 8 basis points to the net interest margin, whereas during the second quarter, recognition of interest income on nonaccrual loans only added 3 basis points to the margin.

In the second quarter of 2013, we prepaid $200 million of structural repos with the average rate of 3.65%, with a prepayment cost of $10.1 million.

We expect an improvement in the net interest margin during the third quarter of 2013 as a result of the full quarter impact of the second quarter actions, the repayment during July of $100 million of structured repos with the average rate of 3.39%, and continued strong loan growth.

Non-interest income during the second quarter of 2013 was $20.4 million, including $12.2 million of security gains, which offset the $10.1 million prepayment penalties incurred during the second quarter, higher legal fees, and higher incremental costs related to the core system conversion.

Non-interest expense, excluding costs associated with redemption of debt, decreased $3.6 million to $43.7 million in the second quarter of 2013, compared to $47.3 million in the second quarter a year ago.

The decrease was due to a $7.3 million decrease in OREO expense, which more than offset a $1.5 million increase in salary and employee benefits expense.

During the second quarter, expenses related to the core conversion were approximately $2.6 million, compared to $1.8 million for the first quarter, and approximately $1 million expected for the third quarter.

At June 30, 2013, our Tier 1 leverage capital ratio increased to 13.4%, and our Tier 1 risk-based capital ratio decreased slightly to 16.15%, and total risk-based capital ratio decreased to 17.92% as a result of the strong loan growth during the second quarter.

All ratios significantly exceeded well-capitalized minimum ratios under all the regulatory guidelines.

At June 30, 2013 our Tier 1 common risk-based capital ratio was 13.11%.

We continue to have discussions with our regulators concerning the repayment of the remainder of TARP during the third quarter of 2013 using dividends from Cathay Bank.

Our classified asset ratio for Cathay Bank increased to 31% at June 30, 2013, compared to 30.8% at March 31, 2013.

Loans rated substandard or worse increased from $408 million at March 31, 2013 to $411 million at June 30, 2013.

Net recoveries for the second quarter 2013 totaled $0.9 million, or 0.05% of average loans, compared to net charge-offs of 0.15% of loans during the first quarter of 2013.

The provision for credit losses was $0 compared to $0 for the first quarter of 2013, and a negative provision of $5 million in the same quarter a year ago.

We anticipate that a continuation of current trends will allow for a $0 or low quarterly loan loss provision in 2013.

Total nonaccrual portfolio loans decreased by 4.7%, or $4.7 million, to $95.6 million at June 30, 2013, compared to $100.3 million at March 31, 2013.

During the second quarter, total inflows to nonaccrual loans were $12.8 million, transfers to OREO were $7.0 million, charge-offs were $3.9 million, and cures and repayments were $6.6 million.

Thank you, Heng.

We will now proceed to the question-and-answer portion of this call.

Ladies and gentlemen, we are ready to open lines up for your questions.

(Operator Instructions)

Aaron Deer from Sandler O'Neill and Partners.

Please proceed.

First question is about the loan growth in the quarter.

It was very strong, and it looks like, just kind of judging the average versus the end of period, it looks like it came in fairly late in the quarter.

Curious what kind of trends you saw in terms of price, and particularly on the commercial real estate as the quarter went on here the third quarter?

Have you seen much benefit in pricing now that rates have come up some?

Well, when we got to CRE origination, yes.

It's (inaudible) to pick up quite well, and at this point in time we still believe that the trend of stronger growth in CRE is going to continue.

We have, Aaron, generally before the jump in interest rates, we kind of targeted a minimum of 4% for five-year fixed-rate loans.

On some limited cases, for very good quality borrowers, we will be lower than 4%.

During late in the second quarter, our targeted threshold rate was 4.5%.

I guess today, with Chairman Bernanke's comments and the rally in the five-year, we might be a little bit lower.

Because of this increase in interest rates, we have a -- we instituted a rate lock policy where borrowers have to rate-lock by paying a 1% fee, and then it's generally a 45-day rate lock with a 15-day extension.

So we have about $150 million of loans that were rate-locked starting in early June.

So they will fund in late July, middle of August.

So we feel pretty good about that in terms of the -- both the pricing, as well as the certainty of the closings, because that 1% fee is nonrefundable.

Then lastly, we booked about $125 million of fixed-rate broker CDs, mainly at five years at about 1.1% in the second quarter.

So that's the funding for these loans that are coming in.

I'm sorry, that was five years at what r ate?

1.1%.

Okay.

It was interesting, because it did look like you stepped up your deposit gathering during the quarter, yet your CD cost were flat, I think sequentially at about 80 basis points.

So I'm just wondering, with your more general sub-jumbo CDs, have you had to step up the price in there?

Are you able to still get fairly attractive rates on those?

We haven't had a change in the pricing to our relationship customers.

What we are doing here in the third quarter, we started the second quarter with, basically, zero broker CDs.

We had a small amount of brokered money market accounts.

But what we are doing, now that the five-year broker CD rate is roughly 1.9%, we've shortened that.

So our new funding is three-year broker CDs at roughly 1%.

So we're, at the margin we still think, on average, we still think that 80 basis points should drift down by 1 or 2 basis points in the third quarter.

Okay.

Very good.

Thanks for the color.

I will step back.

Joe Morford from RBC Capital Markets.

I guess just following up a little bit more about your expectations for the margin going forward.

Partly related to Aaron's comments, but also did you do anything in terms of securities investments at the quarter with the backup in rates?

Or are you looking to do that at all with the steepening of the curve we've seen?

In the past, you've talked about maybe getting to a 340-ish kind of margin.

Is that still doable?

Yes.

I will try to answer in the order of the question.

We bought about $200 million of 30-year MBS in the second quarter.

We were a little bit early.

We did most of the buying in the middle of May, early June.

Then, in terms of what we are doing here in July.

In terms of our mortgage portfolio, we have about $450 million that still has decent profits and it.

So to manage, we are trying to keep our market value equity positive in an up 200 basis point rate shock, Joe.

So what we are doing, in the second quarter, we used the funding side to sort of hedge our fixed-rate exposure.

In the third quarter, we are selling the 30-year MBS.

Through today, we've sold probably about $225 million, and we have about $7 million or $8 million in gains.

We prepaid $100 million of these structured repos, as we mentioned in the script.

So with the loan growth, and the TARP repayment hopefully later on in the quarter, I'm optimistic that we'll get -- as well as a more normal level of interest recovery, I'm optimistic that we can get to 3.4%.

But I'm always a little bit off on this.

So I'm not going to (laughter) I'm not going to predict that we will hit that.

Okay.

We won't hold you to that, Heng.

All right, thank you.

One other question on the expenses.

What would you, if you could quantify it all, the kind of duplicate costs in the current quarter related to the systems conversion or the alternative -- alternatively, what might we expect going forward in terms of savings, now that this is behind you?

Joe, it was $2.5 million in incremental costs.

We are thinking there's, now that we converted last weekend, we can let many of -- almost all of the consultants go to other assignments.

So the third quarter should be about $1 million.

Meanwhile, the data processing fee for the new core system is going to be more expensive than our very thrifty former system, because the capabilities are more.

But we think that, what Dunson alluded to, there is like, on the new account opening, there's a lot -- there should be a lot of streamlining.

There's one module we didn't put in, which is the loan origination, and that's going to save work on the boarding side.

So we should see personnel savings that more than offset the higher cost of the operating expenses for the data processing system.

More importantly, it's kind of -- the legal fees have a late, or even though our problem assets could see a drop, we had a bump-up in legal fees.

We had a mechanic's lien action that was resolved in the second quarter, and we spent a lot of legal fees on that, and as well as some other cases that were resolved in the second quarter.

So hopefully, we'll -- the legal fees will drop down to a lower levels in the third and future quarters.

Okay.

That's really helpful.

Thanks, Heng.

Brett Rabatin from Sterne Agee.

Was just hoping to get some color, maybe around capital thoughts going forward, kind of post the CPP funnel repayment, and just kind of how you think about what's the right level of capital, and what you do with the excess, if you are thinking more about that post that repayment?

Maybe just around that, also any update on acquisition thoughts, as well.

Let me cover the capital part, first.

We turned in, at the end of June, a new capital plan that, one, includes the repayment of TARP, hopefully in the third quarter.

And then a few other minor capital actions.

Then our next -- the next capital submission would be March of 2014 for bank holding companies over $10 billion.

In our capital plan, we budgeted a small buyback in the first quarter, roughly 30% of net income.

Then we also are projecting an increase in dividends once we finish repaying TARP.

Then, so the stock buyback is something we could do after we increased the common dividend, but our first preference would be to use it on acquisitions, like some of the Korean banks here in Southern California.

So Dunson, you want to add any more there?

Well, Brett, we have announced that this year we hope to open five new branches, and we have done one already with the acquisition of a branch in Las Vegas.

Two others would be, should be finished by the end of this year.

So, yes.

I think the first (inaudible) for us is to use some of the excess capital to fuel expansion.

Then the increase of dividend and buyback as Heng just mentioned to you.

Okay.

Then just around the whole return of capital.

What kind of ratios are you guys thinking about in terms of returning net income, or pay back to shareholders in terms of percentage, maybe?

Well, it's going to be less than 100%.

Right.

First, we want to repay TARP, because that continues to be our first priority.

Then I think we will get more input from both the bank regulators, as well as the Federal Reserve, as to what banks our size can expect in terms of buybacks as a percentage of earnings.

But in terms of our loan stress tests, we updated those to the second quarter, and we think we've improved them, and we have a better understanding of it.

So we feel relatively good about credit exposure in the future, anyway.

Okay.

And then just one last follow-up around loan growth.

Towards the end of the quarter, was just curious if you were talking about rate locks.

Did the movement higher in rates during the quarter impact commercial real estate growth towards the end of the quarter, due to investors looking to lock in rates?

Can you comment, maybe.

a little more around just the end-of-quarter loan growth phenomenon?

Well, I think on the rate lock, it's real estate loans takes a while because, there's the credit approval.

Before that, you need to get a fresh appraisal.

But in terms of the jump in interest rates, I think a large number of our borrowers were sitting on the fence, and when they saw that, how fast the five-year and -- was moving, they wanted to lock in a rate before it went way above them.

Then in terms of the pattern of the funding of loans, we -- historically, we tend to fund loans near the end of the quarter.

So it shows up in the average.

We had some trade finance business that bridged the end of the quarter that will roll off in the third quarter.

But I think except for that, we should expect a good growth in the average balance.

Okay.

Great.

Thanks for all the color.

Herman Chan from General Earnings (sic).

Please proceed.

It's Herman Chan, Wells Fargo.

Dunson, you mentioned higher utilization in your commercial balances in the quarter.

Can you talk about utilization rates in Q2, and relative to where they stood at Q1?

Thanks.

Well, Herman, I'm going to jump in.

Yes, go ahead.

In our new core system, that's going to be in the GL.

So we don't have good statistics.

We have to manually produce that.

So we don't have it yet for the June 30.

But once again, in our new system, it's in the GL every day.

Understood.

You also mentioned strength in the Hong Kong geography.

I wonder if you could give some color there and what you are seeing in that particular location?

Yes.

For the Hong Kong branch, last year, we acquired a new team of lenders for the Hong Kong office.

That team is finally producing better loan growth for the office.

So for example, now Hong Kong branch is relatively a small operation, and total loans outstanding is around $160 million or so.

In the last quarter, they were able to increase by about some $52 million of debt.

It's a meaningful addition to the total loan outstandings for us.

And, we expect them to grow some more in the third quarter.

Great.

Thanks for the color.

Much appreciated.

(Operator Instructions)

Julianna Balicka from KBW.

I was wondering if you could talk a little bit about your tax rate strategies.

You sold some munis and stuff.

So what are your tax planning strategies going forward?

Your tax rate was, an effective tax rate was nice and low this quarter, and how are you thinking about that into the second half of the year and 2014?

Julianne, we just had a small adjustment in the second quarter, has to do with capital loss carry forwards in California.

So I believe the full year, the expected full-year effective tax rate is 36.5%.

Let me -- I don't have my notes here, but I will call you back with -- to confirm that.

Great.

Then in terms of the new branches, the West Covina, Vegas, and some of the other ones that you are planning, as you think about opening new branches, what kind of contribution are you looking from any one branch in terms of loans or deposits, in terms of balance sheet growth, or any way, any more color on what you are expecting from them?

I'm sorry, I missed your second part of the question.

With regard to West Covina --

Just it's any new branch, Dunson.

West Covina specifically, and Vegas that you mentioned in your press release.

But in general, like what kind of loan or deposit growth contribution, and how quickly are you looking for from your new branch openings?

Right.

Julianna, before we open a branch, we always have -- come up with a projection for three years.

Our hope is that for the first year, we should [obtain] roughly about $15 million in deposits.

Second year, $30 million, and we aim to break even in the second year.

We say if a brand-new branch, but for the Las Vegas branch, we were able to acquire it with relatively small investment.

That branch should make money in the first year.

Okay.

Very good.

Thank you.

Aaron Deer from Sandler O'Neill and Partners.

Just had a quick follow-up.

One of the things you noted, Dunson, during your opening remarks was that there was a loan -- I'm sorry, a construction loan that -- where the project was completed and converted to commercial real estate.

You've been -- we seen construction balances continue to trend down.

I'm just wondering, it seems as though there's some good opportunities now in some of the more urban markets that you operate in.

Is that a construction -- or is construction a loan type that you might be looking to grow at this point?

Yes, Aaron.

As a matter of fact, in our second quarter, construction loan pick up quite a bit.

Because construction takes time to disperse, so we expect that the balances in the succeeding quarters should reflect that fact.

So we are doing quite a few new construction loans.

The draw period of a typical construction loan is roughly 15 months.

So we're at -- a few of the loans at the inception.

So we expect to grow -- the balance to grow as we go along.

Okay.

That's great.

Thanks for taking my follow-up.

Gary Tenner from D.A. Davidson.

Just a quick bookkeeping question.

In terms of the repos that you prepaid in the second quarter, what was the timing in those?

It was $100 million in April, $50 million in May, and then $50 million in June.

They're all toward the end of each of those months.

Okay.

Then the $100 million that is planned for July, what is the expected prepayment cost on that?

It's about $4.3 million.

We have, as I mentioned, we have security gains to offset that.

Okay.

Perfect.

All right.

Thank you very much.

Brett Rabatin from Sterne Agee.

I just had a quick follow-up on the security portfolio, and just thinking in terms of where you are reinvesting.

You mentioned the $200 million 30-year MBS earlier, but I didn't catch the rates.

I'm just trying to think about, maybe you're reinvesting in that portfolio, and kind of what the securities portfolio yield is going to do from this point going forward?

Brett, those that we bought, I guess the rate would be about 3%.

We bought at close to par, just slightly over par.

In terms of reinvesting, we are not -- with the loan growth, we said before, we'd rather run off securities, or sell securities, to fund our loan growth.

So we don't see much in the way of new investments in securities, at least in the third quarter.

Okay.

Great.

Thanks for the color.

[Don Castido].

Don Castido.

Just a quick question on securities law.

Obviously, for all banks we've seen the AFCI line has come way down and turned negative.

Can you just talk a little bit about what your inventory is left for security gains?

How much more you can kind of use actual in the toolbox to offset your prepayments?

Yes, Don, this is a little bit rough.

I think our net unrealized losses are, at the end of June were $26 million.

In terms of gross unrealized gains, we had about $28 million.

We are not going to figure all $28 million, we are going to do enough to shrink our balance sheet a little bit more.

I'm just trying to think of the economics behind that.

So I run a portfolio.

I'm selling my -- basically you are selling your winners, keeping the losers.

When you sell the winners, you can call that revenue.

Is that [effectively] what happens?

Well, it's two things.

One, we had $140 million of munis that we sold in late March and early April, and we booked $10 million in gains.

That was fairly long duration.

Had we not sold them, I think we would have a $5 million loss today.

Yes, that's a good sale.

Well, and that's the same.

Something similar in that put MBS.

We try to be quick-witted about that.

But, because like here in July, we sold some on July 1. We sold some today.

In between there was a two-point difference.

So we are not trading this.

We're just trying to manage our balance sheet to minimize our exposure to higher interest rates for that part of our portfolio.

Got it.

Thank you very much.

Thank you for your participation.

I will now turn the call back over to Cathay General Bancorp's management for closing remarks.

Thank you, and thank you for joining us for this call.

We look forward to talking with you all at our next quarter earnings date.

Thank you.

Ladies and gentlemen, thank you for your participation in today's conference.

This concludes the presentation, and you may now disconnect.

Good day.