Central Pacific Financial Corp (CPF) 2005 Q2 法說會逐字稿

Thank you for standing by and welcome to the Central Pacific Financial Corporation second-quarter earnings conference call. Today's call is being recorded.

This release may contain forward-looking statements concerning projections of revenue, income, earnings per share, capital expenditures, dividends, capital structure or other financial items concerning plans and objectives of management for future operations concerning future economic performance, or concerning any of the assumptions underlying or relating to any of the foregoing. Forward-looking statements can be identified by the fact that they do not relate strictly to historical or current facts and generally include the words believes, plans, intends, expects, anticipates or words of similar meaning. While we believe our forward-looking statements and assumptions underlying them are reasonably based, such statements and assumptions are, by their nature, subject to risks and uncertainties and thus could later prove to be inaccurate or incorrect. Accordingly, actual results could materially differ from projections for a variety of reasons to include but not limited to the impact of local, national and international economies, and events on the Company's business and operations on tourism, the military and other major industries operating within the Hawaii market, the impact of legislation affecting the banking industry, the impact of competitive products, services, pricing and other competitive forces, movements in the interest rates, loan delinquency rates, and trading of Company stock. For further information on factors that could cause actual results to materially different from projections, please see the Company's publicly available Securities and Exchange Commission filings, including the Company's Form 10-K for the last fiscal year. Be advised the Company does not update any of its forward-looking statements.

Now, at this time, I'd like to turn the conference over to Clint Arnoldus, Chief Executive Officer. Mr. Arnoldus, please go ahead.

Thank you very much. Thank you all for joining us today to review Central Pacific Financial Corp.'s financial performance for the second quarter of 2005. With me here today is Dean Hirata, our Chief Financial Officer, who will provide a detailed financial report for the quarter after I've given my presentation, and then we will both be available to answer any questions you may have.

I'd like to start first with the second-quarter highlights. We've completed the third full quarter since our merger with CB Bancshares, Inc., and I'm very pleased to report that Central Pacific Financial Corp. realized another quarter of record net income. Net income for the second quarter was $17.9 million or $0.58 per diluted share, compared to $17.2 million or $0.59 per diluted share in the first quarter. Adjusted for the exclusion of non-recurring merger expenses in the second quarter, net income was $18.2 million or $0.59 per diluted share.

Some of the key contributors to another consecutive quarter of record earnings include an increase in our net interest margin, an improved efficiency ratio, and strong deposit growth. Overall, our deposit growth was very solid. We dedicated much of our marketing resources to expanding our core deposit relationships. With this strategy, combined with the interest rate environment, we are pleased that we are able to improve our net interest margin to 4.65% as compared to 4.31% in the same quarter a year ago. A significant improvement in our efficiency ratio in the second quarter to 49.13% -- that would be excluding non-recurring merger expenses -- is indicative of our sales efforts and operations quickly getting back on track after the merger of our bank subsidiaries in February of this year.

Quarter-over-quarter, our net interest income increased by $2.2 million; non-interest income, excluding gains on securities, increased by $1.1 million; and non-interest expense, again excluding merger expenses, decreased by $1.2 million.

I want to talk also about a pending acquisition. One June 17, we announced signing a letter of intent to acquire Hawaii HomeLoans, Inc. They are a premier mortgage brokerage operation in Hawaii. Hawaii HomeLoans services a residential mortgage portfolio of approximately $750 million and they have approximately 80 employees, making them one of the major residential loan originators in our marketplace. Subject to Hawaii HomeLoans shareholder and regulatory approvals, we expect to close this transaction in mid-August. We believe this acquisition will be highly complementary to Central Pacific Bank's strong market position in financing, real estate development projects, and it can provide new opportunities for continued asset growth and fee income.

Let's talk about the economy for just a minute. The economic outlook for Hawaii continues to be optimistic. In June of this year, forecasts for 2005 were revised upwards based on data available from the fourth quarter of 2004. Visitor arrivals, employment and income growth are now expected to be slightly higher than previously forecasted. First-quarter visitor arrivals were 12.3%, ahead of the levels in the same period in 2004. We now expect a 6.7% increase in arrivals for 2005. Overall, visitor arrivals this year are projected to easily exceed the $7 million mark for the first time.

Personal income growth increased by 3.4% in 2004, adjusted for inflation, and a 3% growth rate is now expected for 2005.

Hawaii's unemployment rate is expected to remain very low and near its current rate of 2.8% for the next two years. An increase of 2.2% is expected in overall job growth with a 5% increase in construction-related jobs.

Real estate sales continue to be robust. Median prices continue to increase significantly month-after-month. Construction activity at both the commercial and residential sectors continues at an unprecedented pace with over $6 billion in the pipeline.

Moving forward, we continue to be optimistic for the remainder of 2005. We've successfully executed our business plan to expand our market share in core relationships; we're going to continue to this effort throughout the year to build upon our franchise value. Most of the activities related to merging our bank subsidiaries are now behind us, and we are focused on expanding our core lines of business in a strong economic environment.

At this time, I'm going to turn the call over to Dean Hirata, our Chief Financial Officer, to review the details of our second-quarter financial performance. Dean?

Thank you, Clint.

My discussion will cover the second-quarter 2005 consolidated financial highlights for Central Pacific Financial Corp. and its subsidiaries.

So starting with the earnings summary, for the second quarter of 2005, our operating earnings, which we define as net income adjusted for non-recurring, merger-related expenses, was $18.2 million, an increase of 106.5% over the same quarter last year. The increase was primarily due to the increase of $26 million, or 114.5%, in net interest income and a $4.7 million, or 115%, increase in other operating income.

On a sequential-quarter basis, there was a slight decrease in operating earnings. On a per-share basis, operating earnings was $0.59 for the current quarter, an increase of 9.3% over the same quarter last year and a 4.8% decrease from the first quarter of 2005.

The key performance ratios, again based on operating earnings for the second quarter of 2005, were as follows -- return on assets of 1.5%, return on tangible equity of 22.51%, return on equity of 11%, and an efficiency ratio of 49.13%.

Turning to the balance sheet, our total loans and leases as of June 30, 2005 of $3.2 billion grew by 98% over the second quarter of 2004. On a linked-quarter basis, there was a decrease of $30.6 million or 0.9% unannualized due to higher-than-expected prepayments in the loan portfolio. These prepayments were generally related to the sale of the underlying collateral by the borrower. While we were down on a quarter-to-quarter basis, average loan balances increased by 3% sequentially. The average yield on loans increased by 96 basis points to 6.67% compared to the prior-year period, due to the upward repricing of loans. On a linked-quarter basis, the increase was 24 basis points.

Total deposits as of June 30, 2005 of $3.5 million increased by 81.5% from the previous year's quarter. On a sequential-quarter basis, the increase was $124 million, or 4% unannualized. The effective cost of interest-bearing liabilities for the current quarter was 1.78%, an increase of 56 basis points over last year's second quarter. On a linked-quarter basis, the increase was 19 basis points. Our continued efforts to strengthen existing customer relationships and build new relationships through our broader retail network and expanded product suite are continuing to enhance our core deposit base.

The net interest margin of 4.65% for the current quarter increased by 34 basis points over the same quarter last year. As a result of our low-cost deposit base, combined with higher loan yields, the net interest margin expanded by 6 basis points on a sequential-quarter basis. Provision for loan losses for the current quarter totaled $1 million compared to $300,000 in the second quarter of 2004 and $917,000 in the first quarter of 2005. Net loan charge-offs were $967,000 in the current quarter, compared to net loan charge-offs of $214,000 and net loan recoveries of $3,000 in the second quarter of 2004 and first quarter of 2005, respectively.

Other operating income for the current quarter was $8.8 million, an increase of 115% over the second quarter of last year. In addition to the merger, the increase was primarily due to service charges on positive comps and other service charges and fees. On a linked-quarter basis, there was a decrease of 5% primarily due to investment securities net gains of $1.5 million in the first quarter of 2005. Other operating expense for the current quarter was $28.7 million, an increase of 103% over the prior year's second quarter. Again, in addition to the impact of the merger, the increase was due to non-recurring merger-related expenses of $524,000. Excluding these expenses, other operating expense decreased by 4% on a linked-quarter basis.

The effective rate on income taxes for the second quarter of 2005 was 35.14% compared to 29.49% for the second quarter of 2004. The increase in the effective tax rate for the current quarter reflects the impact of state tax credits generated from our investments in high-technology businesses in Hawaii in the same quarter last year. We expect an effective tax rate of approximately 33% over the coming quarters.

Our asset quality remains strong. Nonperforming assets at June 30, 2005 totaled $16.1 million, or 33 basis points of total assets, up from $8.7 million a year ago. On a sequential-quarter basis, nonperforming assets increased from $9.9 million as of March 31, 2005. The sequential-quarter increase was primarily due to $6.6 million in loans to a borrower who filed for bankruptcy in the current quarter. However, these loans are fully secured by commercial and residential properties and no losses are anticipated at this time. Loans delinquent for 90 days or more and still accruing interest totaled $469,000 at June 30, 2005, compared to $14.4 million a year ago and $7 million as of March 31, 2005. The decrease on a sequential-quarter basis directly corresponds to the increase in nonperforming assets discussed previously.

Shareholders equity at June 30, 2005 increased to $657.5 million for a tangible equity ratio of 7.19%.

The outlook for the remainder of 2005 is as follows -- net interest income growth will be driven by expected loan growth and a stabilized net interest margin in the range of 4.55% to 4.65%; balance-sheet sensitivity is expected to be offset by strong balance-sheet growth during the second half of the year; loan quality is expected to remain strong. We are on track to achieve the expected revenue and cost synergies in connection with the merger, as evidenced by the strong efficiency ratio realized in the second quarter. We expect to see our projected cost savings for compensation and benefits and occupancy fully phased in by the third quarter and other expenses fully phased in by the end of the year. While economic and business conditions remain favorable, management is reducing its 2005 EPS guidance to $2.40 to $2.45 to reflect the higher-than-expected prepayments in the loan portfolio during the second quarter.

This concludes the discussion of Central Pacific Financial's financial results for the second quarter of 2005. I will now turn the call back over to Clint.

Thank you, Dean. This concludes our earnings report and commentary on the second quarter of 2005. We are both available to address any questions you may have at this time.

(OPERATOR INSTRUCTIONS). Joe Morford with RBC Capital Markets.

Good morning, guys. This is Aaron Deere (ph), actually. I'm trying to better understand the margin in the quarter, given the much higher securities balance. You gave the yield in the loan portfolio and the deposit costs. I wonder if you could also give the all-in funding costs and the earning assets yield.

Yes. The yield on interest-earning assets for the quarter was 6.1%. That's compared to 5.9% in the first quarter of 2005. The interest-bearing liabilities was (sic) 1.78%. That's compared to 1.59% in the previous quarter.

Then you guys obviously had some impressive deposit growth in the quarter. I was wondering if you could give some detail on where that came from, whether there was a promotion. Also, it looked like it is mostly interest-bearing. Was that mostly in CDs or money market, or where was that?

Yes, the demand that we saw during the second quarter was primarily driven by our exceptional account, which again is a linked-money market and checking account product. Again, we expect the growth to continue with this product. We have another campaign that we recently launched with that same product.

So you expect that growth rate to continue going forward?

Well, we expect about an 8% growth rate going forward, but again, primarily given by this linked-money market checking account product.

Okay. Then, on the expense side, it sounded like you still had some more cost saves that were going to be coming through in the second half. Is that right?

Yes.

Okay, can you quantify that at all?

Again, with the -- on the compensation and benefits, the voluntary separation plan, there's -- out of the 103 employees, 101 have been implemented in the second quarter with the other 2 expected in the third quarter. The occupancy -- again, we remain on track for that with the other expenses. Those will continue over the third and fourth quarter. But for the two categories, compensation and benefits and occupancy, those really have been phased in by the end of this quarter.

Brett Rabatin with FTN Midwest.

Good afternoon. A couple of questions -- first off, I wanted to go to the loan payoffs you had in the commercial real estate portfolio. Given that the loans weren't down as much as that, I'm guessing your C&I and your construction portfolio has experienced pretty good growth. I wanted to get some color, if possible, on that. Then kind of given the end-of-period balances were somewhat average, if you could just talk about whether or not the CRE prepayments were mostly toward the very tail end of the quarter.

Yes. Starting with the prepayments, I guess just looking at the various loan types and breaking out the overall net decrease for the quarter, as you indicated, most of the increase was in the commercial real estate portfolio; we are down $68.2 million. That was partially offset by growth in our residential and construction portfolios. The other portfolios were fairly flat.

The paydowns that we did experience were towards the second half of the second quarter, and the breakout of the paydowns were about 70% in Hawaii and 30% in our California mainland portfolio.

Okay, so the C&I portfolio then was not a contributing factor -- (multiple speakers)?

No, the P&I portfolio was flat.

When you look at your pipeline, Dean, going forward, can you just comment on where you're seeing the growth come from? Is it mainland or is it mostly Hawaii? Or can you give a breakdown -- or a breakdown on where you see that?

Yes. The pipeline going forward, again for the third quarter, is really a combination of Hawaii and the mainland with probably 60% of it coming from Hawaii and the other 40% from the mainland. Again, this is primarily in the area of commercial real estate.

Okay. Then I wanted to go to the mortgage banking loan sales this quarter. Can you comment on that and (indiscernible) giving any color on where we might go from here with that line of business with your acquisition in terms of quarterly loan sales?

No. The operations with regards to the mortgage banking operations -- you know, we expect to continue at this run-rate. In light of the current operations, that would be anticipated closing of the Hawaii HomeLoans acquisition in mid-August.

Okay, so you should have mortgage banking loan sales of somewhere in the magnitude of 700 to $1 million, excluding the acquisition going forward?

Yes, we expect it to continue at the current rate in the second quarter.

Okay. Then last question, the increase in the cost of funds was minimal as you noted, 19 basis points. I was curious to hear some additional color on the checking account product in terms of if that was tied to a specific market rate and kind of where you were seeing your deposit costs from here, given that Hawaii has been a great market in terms of relative costs but it looks like it might move up a little -- just curious on where you see those things headed.

Yes, the linked-deposit product is not tied to any index. Again, even at our current rates, you know, we are the highest in the local market. Again, there is the excess liquidity in the Hawaii market, which has reduced the competition for these deposits. We do expect deposit rates to start moving back up but again, lagging the rest of the market.

Okay, so -- I'm sorry, but can you go back again over your margin expectation of 4.55 to 4.65? If you are lagging on the deposit side, why your margin will be a little lower in the next few quarters?

You know, we expect the margin -- the range that I gave of 4.55 to 4.65, again, you know, we expect the rates again to lag but there will be growth that we forecast for the third quarter, which will offset the margin at these levels.

Brian Conn with Sandler O'Neill.

Good afternoon, everyone. I apologize; I'm on a cell phone. But I just wanted to get some more information on Hawaii HomeLoans purchase. What can we expect as far as accretion, as well as the income and expense that we will be added in from this quarter?

Again, the acquisition is expected to close in mid-August, so there won't be much of an impact on the current quarter. It will be slightly accretive to our overall earnings per share. Again, we expect, with that acquisition, both on the income side as well as some synergies with regards to back office positions.

I guess I'm just trying to model in what the impact is going to be for going forward and just understand more how much it's going to add to both the revenue and expense line.

Yes, the overall profitability -- and again, this would be on a run rate beginning in the fourth quarter -- is about 300,000.

That's the run rate of the net income impact?

Right.

Then can you give us a little more information on the new problem loan that came into non-accrual and just sort of what LTV it's held at (ph) and just explain a little more how you are confident that there shouldn't be any losses attached to it?

Again, this is to one borrower as both the commercial property as well as a residential loan with us. Again, these loans were in our loans delinquent for 90 days or more and still accruing interest as of the end of the first quarter. You know, based on the collateral that we have on both of these loans, we are well-secured and we don't anticipate any losses, even with the filing of the bankruptcy by the borrower.

How long do you think they will stay on non-accrual status? I take it, since they are going through bankruptcy know, it could take three to six months before it moves off?

Brian, I don't have an estimate at this time but as you indicate, it is in a bankruptcy proceeding, so it could be on there for awhile. But again, you know, we don't anticipate, even with the final settlement and the collateral position that we have, we don't anticipate any losses on either of those loans.

The collateral is currently on the market and it's a very robust market.

Great. Thanks, guys.

Jackie Reeves with Ryan Beck.

Good afternoon. Most of my questions have been asked and answered. I just wanted to once again beat the dead horse on the margin. Am I understanding it correctly that, moving forward, deposit rates, while continuing to lag, obviously are moving a little bit north and then there's just more intense competition on the loan side, in addition to obviously the payoff?

Correct.

Joe Morford with RBC Capital Markets.

Thanks. Good afternoon, guys. I had a couple of follow-up questions. I was curious if the growth in the securities portfolio -- just exactly what were the kinds of things you were buying this quarter and what type of yields you were getting.

Okay, Joe, the composition or breakout of the securities purchased during the quarter -- about 60% in CMOs and 40% in mortgage-backed securities. The overall duration of the portfolio is approximately 3.5 years.

Okay. What kind of yield were you getting on these?

Slightly north of 4%.

Okay. Then separately, just looking at the expenses and the other category was up a little bit this quarter; it's not huge but just in general. What might be driving that? What, in general, or kind of investment initiatives do you have that might be an upward pressure to costs in the near term?

Joe, could you repeat your question?

Sure. One was (indiscernible) specifically to other expenses this quarter were up from the first quarter a little bit. I was wondering if there was anything particular driving that. Then just more generally what kind of investment initiatives do you all have undergoing at the moment that might be providing some upward pressure to expenses in the near term?

In looking at the various categories, there wasn't anything that showed any significant increase. But what we are doing is, again, even with the merger of the two banks and the processes that we currently have in place, we are continuing to do an efficiency study with regards to the processes, continuing to look at the overall right-sizing of the organization, from an employee count, that we expect to continue in the third and fourth quarters.

Okay, thanks very much.

That was our final question for today. I'd like to turn the conference back to Clint Arnoldus for any additional or closing remarks.

Thank you, everyone, for giving us some of your time today. We are pleased that we were able to report on another successful quarter and are very appreciative of your interest in our company.