Central Pacific Financial Corp (CPF) 2011 Q2 法說會逐字稿

Good afternoon and good morning, ladies and gentlemen. Thank you for standing by. Welcome to the Central Pacific Financial Corp.'s second-quarter 2011 conference call. During today's presentation all parties will be in a listen-only mode. Following the presentation, the conference will be open for questions. (Operator Instructions) For your information, today's event is being recorded and also will be available for replay shortly after it's completion at the Company's website at www.centralpacificbank.com. At this time I would like to turn your conference call over to Mr. David Morimoto, Senior Vice President, Investor Relations.

Thank you, Jamie, and thank you all for joining us today as we review the financial results of Central Pacific Financial Corp. for the second quarter of 2011. With us today are John Dean, President and Chief Executive Officer; Larry Rodriguez, Executive Vice President and Chief Financial Officer; and Bill Wilson, Executive Vice President and Chief Credit Officer. Today's comments may include forward-looking statements. These statements are subject to risks and uncertainties that may cause actual results and events to differ materially from those expressed in the forward-looking statements. These risks and uncertainties are detailed in Central Pacific Financial Corp.'s filings with the Securities and Exchange Commission. Forward-looking statements made during today's call are made only as of the date of this conference call and the Company does not update any forward-looking statements. At this time, I would like to turn the call over to John.

Thank you, David, and good morning, everyone. I'm pleased to report that we recorded our second consecutive profitable quarter. Our team has worked diligently to further improve our credit risk profile, redeploy excess liquidity, and expand core customer relationships. And, while there is more work to be done, the recapitalization of our Company in February of this year, as well as termination of our regulatory Consent Order in May, have allowed us to begin focusing back on the islands of Hawaii and in opportunities to grow relationships.

The continued improvement in our Company's financial condition is reflected in the significant progress we made in reducing non-performing assets and improving overall asset quality. As a result, we were able to record a credit to our provision for loan and lease losses for the second consecutive quarter, as well as a credit to total credit cost in the second quarter. We remain adequately reserved with an allowance for loan lease losses at 8% of total loans and leases, and an ALLL at 67% of non-performing assets.

Our liquidity position continues to be strong and total deposits increased from the previous quarter. We continue to redeploy excess cash into higher yielding investments. Larry and Bill will provide more details of our financial highlights and asset quality progress for the quarter later in our report.

In our marketplace, we continue to be a leader among Hawaii banks in residential mortgage originations with $179 million in the second quarter for this year, and nearly $400 million year to date. A dominant market share in home purchase financing for the past 2 quarters speaks to the solid relationships we have developed with the realtor community in Hawaii.

In addition, our marketing campaign efforts in the second quarter have been highly successful in generating traffic for home equity lines of credit, as well as consumer core deposits.

Turning to our local economy, we continue to be cautiously optimistic of the modest recovery projected throughout 2011. Monthly visitor arrivals, which have shown solid year-over-year increases for the past year, appears to have slowed down following the March 11 disaster affecting northern Japan. Current forecast by the State Department of Business and Economic Development project a 3.8% increase in arrivals for 2011 compared to an increase of 8.7% in 2010. Visitor expenditures are projected to increase to $12.8 billion, or by 10.8%, in 2011.

Hawaii's unemployment rate has declined to 6% in May and June, compared to 6.3% throughout the first quarter of this year and 6.6% in June of last year. Personal income increased by 4% in the first quarter of 2011, compared to the same period last year. While job creation and construction activity have remained relatively flat over the past 12 months, construction of the Oahu rail transit system has broken ground and is moving forward. At this time, I would like to ask Larry Rodriguez, our Chief Financial Officer, to review the highlights of our second quarter financial performance. Larry?

Second quarter of 2011 we reported net income of $8.2 million, or $0.20 per diluted share, compared to net income of $4.6 million, or $4.58 per diluted share, reported in the first quarter of 2011. As we reported in the previous quarter, our net income per diluted share for the first quarter of 2011 included the impact of a one-time accounting adjustment totaling $85.1 million resulting from the exchange of our preferred stock issued to the Department of Treasury for common stock as part of our recapitalization

No, we got disconnected with Larry or something. So let me, if I may, I will pick up and we will try track him down. I'm not sure what happened with regard to his connection. But as I had mentioned earlier, included in the second quarter's net income was a credit to the provision for loan and lease losses of $8.8 million, compared to a credit of $1.6 million in the first quarter of 2011. The reduction was primarily due to continued improvement in our credit risk profile, as evidenced by further declines in non-performing assets and net charge-offs during the quarter.

As of June 30, 2011, our non-performing assets totaled $249.3 million, which represents a decrease of $35.6 million from March 31, 2011. Our allowance as a percentage of total loans, decreased slightly from 8.6% at March 31, 2011 to 8.2% at June 30, 2011. Our allowance as a percentage of non-performing assets, increased from 62% at March 31, 2011 to 67% at June 30. Bill will provide more details about our credit risk position later in this call.

Net interest income for the quarter was $29 million, compared to $28.2 million in the previous quarter, and our net interest margin was 3.04%, compared to a 3.03% in the previous quarter. The sequential quarter improvement in our net interest income and net interest margin reflects our continued efforts to redeploy a portion of our excess liquidity into higher-yielding investment securities. During the quarter, we increased our investment securities portfolio by $324 million to $1.4 billion.

We continue to use an investment strategy which concentrates on the purchase of agency debentures and MBS securities with relatively short durations. The reallocation of our excess liquidity into our investment and loan portfolios is expected to continue over the next several quarters. Also contributing to the improvement was reduced borrowing costs resulting from the maturities of $250 million in outstanding borrowings with the FHLB during the first quarter.

Non-interest income for the quarter totaled $10.9 million, down from $12.5 million in the previous quarter. The sequential quarter decrease was primarily due to lower gains on sales of residential mortgage loans of $1.2 million, and lower unrealized gains on outstanding interest rate locks of $0.4 million. Non-interest expense for the quarter totaled $40.5 million, up from $37.6 million in the previous quarter. The sequential quarter increase was attributable to a higher provision for repurchased residential mortgage loans of $1.7 million and a higher legal and professional services of $1.1 million.

Our adjusted efficiency ratio for the quarter, which excludes foreclosed asset income and write-downs of loans held for sale, was 94.3%, compared to 81.2% in the previous quarter. The sequential quarter increase was directly attributable to the higher expenditure items described above, most notably the elevated provision for the repurchased residential mortgage loans. Because we continue to have a full valuation allowance established against our net deferred tax assets we did not recognize any income tax expense.

During the quarter, we maintained a strong liquidity position with cash and cash equivalents totaling $453.5 million at June 30 of this year. However, as previously mentioned, we continue to redeploy excess liquidity into higher-yielding investment securities. We also lowered our loan-to-deposit ratio during the quarter from 65.7% at March 31 of this year, to 63.4% at June 30. At June 30 this year, our Tier 1 risk-based capital, total risk-based capital and leveraged capital ratios improved to 22.5%, 23.8% and 13.1%, respectively, compared to 21.3%, 22.7%, and 12.6%, respectively, at March 31 of this year. Our capital ratios now exceed the minimum levels required both by the MOU and the levels required for a well-capitalized regulatory designation. That completes our financial summary, and I'd like to now turn the call over to Bill who will provide additional background related to our credit risk position. Bill?

Thank you, John. We realized significant improvements to our credit risk profile in the second quarter of 2011. Net charge-offs totaled $2.3 million in the second quarter, as compared to $13.3 million in the first quarter of 2011, and $30.1 million in the second quarter of 2010. Non-performing assets totaled $249.3 million at the end of the second quarter, compared to $284.9 million in the first quarter of 2011, and $467.2 million in the second quarter of 2010, or a year-over-year decrease of 46.6%. The second quarter decrease was attributable to $63.9 million in repayments, $3.3 million in charge-offs, partially offset by $33.5 million of additions to non-performing assets.

Non-performing construction and development loans totaled $165.1 million at the end of the second quarter, which comprised 58% of total non-performing assets and decreased from $216.9 million in the first quarter of 2011. Total construction development loans were $226.5 million at the end of the second quarter, or 11.1% of the total loan portfolio. This represented a decrease of $31.7 million from the first quarter of 2011, and a decrease of $363.5 million from the second quarter of 2010, or a year-over-year decrease of 48.9%. A $41.6 million allowance for loan-to-lease losses in this portfolio segment was held at the end of the second quarter, representing 18.4% of the total construction and development loan balance. Troubled debt restructurings totaled $84.9 million for the second quarter, unchanged from the first quarter of 2010. Our TDRs are comprised of $46.8 million in residential mortgages, $37.6 million in Hawaii commercial real estate, and $0.5 million dollars in other assets.

Loans delinquent for 90 days or more still accruing interest decreased to $4,000 in the second quarter from $500,000 in the first quarter of 2011. Loans delinquent for 30 days or more still accruing interest decreased to $3.5 million in the second quarter from $15.5 million in the first quarter of 2011. The allowance for loan-to-lease losses as a percentage of total loans and leases decreased to 8.2% at the end of the second quarter from 8.6% in the first quarter of 2011. The allowance for loan-to-lease losses as a percentage of non-accrual loans was 80.8% at the end of the second quarter, compared to 91.5% at the first quarter of 2011 and 50.5% at second quarter 2010.

Our ongoing program to reduce non-performing assets and reduce our construction and development credit risk exposure continued to show positive progress through the second quarter. We anticipate that our team members will be able to maintain this progress over the balance of 2011, aided by expected favorable market conditions. We are encouraged that our credit risk migration is exhibiting sustained stabilization. We continue to proactively monitor all segments of our loan portfolio for early warning signs. That completes our credit quality review, and I would now like to turn the call back to John.

Thank you, Bill. In summary, we are pleased with the significant progress being made. Of particularly, in reducing our credit risk exposure, maintaining strong customer relationships, and achieving positive core earnings. With a strong capital position and a highly motivated team, I believe we are well-positioned to compete in our marketplace going forward. At this time, we are happy to answer any questions you may have.

Joe Morford from RBC Capital Markets.

It looks like the inflows of new non-performing loans almost doubled in the quarter and I wondered if you could just give us some color on where they are coming from? Is it still mostly the construction and development loans? And are you seeing a similar trend for classified assets overall? Meaning are there new inflows there too or are we just seeing the downward migration of previously identified problems.

John, I'm going to pass it over to Bill, our Chief Credit Officer, if I may.

The $33 million of inflow to non-performing were largely attributable to 3 specific instances. We had nearly $11 million of accruing residential mortgages in our TDR portfolio. Then as we reviewed this quarter and considered the changing requirements for TDRs, we thought it more appropriate to classify those as non-accrual. So that was really a reclassification of existing TDRs into non-accrual. Then we had 2 other transactions. We had one Hawaii-based residential construction project that moved to non-accrual for about $10 million, and we had one commercial mortgage in the mainland where the major tenant had reduced its space and it was prudent to put that on non-accrual. Those 3 items represented about $25 million of that $33 million. So it's not an overall trend, it was more specific instances. As far as the migration and the other categories, still very low downward migration in the watch list categories.

But the overall pull of classified, it's stable or trending down?

The pool of classified is trending down. We decreased classifieds probably in the neighborhood of $100 million.

And then can you also, Bill, talk a bit more about the credit marks in the quarter. I guess, first, the $3 million loss on the NPL sale, was that a bulk sale discount or are these just losses on several individual sales? Then also the gains on sale of REO this quarter, was that skewed by any one sale? Or are you still seeing some write-downs upon getting updated appraisals?

Still seeing write-downs in specific instances. The $3.1 million write down was a single asset. It was a large tract of commercial land that was required -- a write-down was required in order to meet current valuations. That particular piece of land was subsequently sold so we are now out of that. As far as the gains we were seeing, I think it reflects the fact that we have been diligent in the marks in previous quarters in the market. Certainly it has stopped declining, in some cases we have seen some improvement in the market. We have been able to take advantage of that in the disposals.

And then lastly if I may, why the jump in professional legal fees this quarter? Was the first quarter number just a bit low and is this current level a better run rate until we see NPA levels materially lower?

Let me see if Larry is back on. Are you there, Larry?

Yes, I am, John. Can you hear me?

Yes.

So I think with respect to our legal expenses in the current quarter, yes, we did experience some additional activity that had commenced in the prior quarters. We believe our run rate will lessen over the next quarters and over the continuing periods.

Joe, you will see overall decline in that going forward in terms of the coming quarters.

Okay, that's helpful. Thanks, John.

Aaron Deer from Sandler O'Neill & Partners.

I guess if we've Larry back on the line, maybe he can give us an update on any recent conversations he might have had with your auditors regarding the DTA and what the likelihood is of a recovery and any sense of timing or the magnitude of what can be recovered?

Larry, I am going to pass it to you, but I will just start if I may, Aaron, John here. That's not this year, probably not next year in terms of bringing that back on to the balance sheet. Larry, let me toss it to you.

We continue to talk with our external accountants on that subject and we are setting forth a plan to deal with it. But obviously the accounting requirements for that are relatively strict and we would not foresee that coming in here until maybe 2013.

I'm just asking, another bank recently announced that they could actually start bleeding some of that back in. I don't know if maybe your auditors have suggested that something similar might be possible.

Aaron, to the extent that we have earnings that are not taxed and to the extent that they're not taxed we are in effect bleeding some of that back in. So that happened this quarter and last quarter So in terms of the DTA, you will see a decline over time. The question really is can we bring the remaining amount back on to the balance sheet or through the income statement and that's not until, as Larry said, 2013.

And then, Bill, I was wondering if you had a total for us where classified assets stood at June 30?

I'm sorry, could you repeat that, please?

Total classified assets at June 30?

We've got improvements, but we really are reluctant to share total classified assets, but as Bill said, we are seeing significant reductions. That's just not a public number that we release, Aaron. But, as Bill said, we were seeing significant progress in that category. And while, as Joe questioned some of the areas, which you are going to see in any organization as ours as we do the turnaround in terms of some blips in a category or 2, I just leave you with that we continue to make significant progress in terms of the overall loan quality of the portfolio, and anticipate, cautiously optimistic, but anticipate continued progress in the coming quarters.

(Operator Instructions) Joe Gladue from B. Riley & Company.

I guess, let me first ask if Bill could repeat a couple of those numbers on inflows and outflows of non-performers?

Sure, Joe. The inflows on the non-performers were largely 3 instances. We had about $11 million of residential mortgages classified as TDRs that had previously been accruing and we moved those to non-accrual based on our review of the new requirements for TDR. We thought it more appropriate to classify those as non-accrual, and then we had 2 other transactions. We had a residential construction project in Hawaii that was appropriate to move to non-accrual and we had a commercial mortgage in the mainland where the major tenant had made a significant reduction in its tenancy commitments and therefore it was appropriate to put that on non-accrual until that issue became resolved. That represented about $25 million of the $33 million in the non-accrual additions this quarter.

And the outflows, I didn't catch the pay-down number from the beginning of your remarks.

Non-accruals dropped by a total of -- went from $285 million to about $250 million. So we are down about $35 million net on the quarter.

I wanted to ask a question just on the provision for repurchase mortgages, that's gone up the last couple of quarters. Just wondering if you have any feeling as to whether that number has peaked and when we can see some reductions there?

Sure. I think I will just comment, the methodology that we use is largely based on frequency of repurchases and the severity within those repurchases. What we are seeing is there is a long lag time, a relatively long lag time, from the time a initial request of a file by the GSEs and then the ultimate repurchase. So we were working through a lot of the requests that originated in 2010. We would anticipate that the volume would decline the second half of the year based on what we are seeing now. So, to use John's words, cautiously optimistic, that's what we are going to experience. But the model based on frequency and severity and we think that we should start to see a stabilization in that reserve level.

In terms of non-interest income, I'm sorry -- non-interest expense, rather, in the Other category, there was basically a $2.6 million increase from the first quarter to the second quarter. I'm guessing part of that was those provisions for repurchased mortgages, but just wondering if there was anything specific causing the rest of that increase?

Larry, do you want to comment?

The majority of our increase was directly attributable to the repurchase reserves, and the rest of the expenses are relatively normal except what we might have talked about again with respect to some of our legal costs.

Then moving on to just the loan portfolio and potential for growth. And start out with the mortgage originations, do you see any outlook for improvements there?

I think we are already seeing improvements, Joe. Not that you can see all of them. But appreciate that we -- well, not completely out of the market, we are more reactive than proactive for the past 3 years as we struggled to put this house back in order. So I think that on the corporate lending side, we have done an excellent job of rebuilding the pipeline and we are seeing some good opportunities in that pipeline. And we've had some recent successes. But as you can appreciate, we want good-quality loans, and that takes time. And so we are going to be patient and do it right.

On the residential, the retail side, our branch network, we recently initiated a program after about 6 months of putting a product or redoing a product, the HELOC, and we've seen good success with that in the past 3, 4, 5 months. Initially obviously with commitments and then now growing in terms of the outstandings. So from a loan point of view, it's not going to be rapid, but it's going to be deliberate and focused and balanced. And then on the core deposit side, on the relationship side, we've seen, we think, some very good success.

So while you look at our balance sheet quarter-over-quarter, I think you would see that the loan portfolio, and appreciate we have non-accruals in there where more successful they are the more we are going to push that down, but we are off probably about $100 million on the loan portfolio quarter-to-quarter. But on the deposit side, and these are good core deposits, we are up about $100 million. So we think we are making good progress in terms of, I am going to call it the turnaround of this organization.

And recognizing that there is still a long way to go to get the non-performers down, you have reduced the construction portfolio pretty significantly. And really just trying to get a handle on when some of the reductions in that segment and some others might decline enough that you might start -- when you might begin to see some loan growth overall.

Well, we were hoping by the end of the year, we have said in terms to start seeing loan growth. But again it's a difficult market in that all of the banks are very, very liquid at this point in time in Hawaii and looking for good-quality assets. So that certainly the goal, but quality is going to take number 1 over the loan growth, as you'd want us to do.

I will just lastly touch on the net interest margin. Probably not a whole lot left in the way of reducing funding costs. They are already fairly low. But is most of the increases in net interest margin basically going to depend on redeploying the excess liquidity for the time being?

As I think Larry mentioned, we deployed a significant amount of excess liquidity this past quarter, but until the extent that we continue to grow core deposits, we are going to not rush to put it out in loans, but we can still do well and benefit the margin, or benefit lease net income. Because we have got the capital base to redeploy those deposits into good investment securities. And if you look at our book of investment securities, it's a very conservative book and I think we can show good improvement in the coming quarters by, again, as long as we continue to grow core, even if it does go into the investment portfolio.

In terms of the NIM, or the margin, it's not just us. The liquidity that exists today in the banking world, and then you look at the interest, the overall yield curve, I think we are all going to be challenged a little bit until we see a little bit of an uptick in terms of that yield curve. I don't know if there is anything you want to add, Larry?

I think you hit it on it very well and described it accordingly. I would just add, Joe, that we would continue to look at our NIM continuing to gradually rise into the 3.15% to 3.25% vary over the course of the rest of the year.

(Operator Instructions) Follow-up from Joe Morford, RBC Capital Markets.

Joe asked most of the other questions I had. I just had a couple of follow-ups though. One, just wondered if you'd give more a little bit more specifics on the security purchases in the quarter, just talk about the yield and new duration of the overall portfolio. And you said I think at the end of the quarter you had around $450 million of cash. Is that where you'd like to keep that level or should we expect some further deployment of that in the third quarter?

Larry?

We will continue to redeploy our excess cash into our investment portfolio. We continue to buy short-term duration agency debentures and short-term duration MBSs. They provided a yield a little in excess of 2%, and we are trying to keep our duration to approximately 3 years to 3.3 years. And we will seek to continue to do that selectively as we continue. So the growth in the investment portfolio will slow from the pace you saw in the first half.

And then lastly, are there any additional FHLB debt maturing in the coming quarters? Or done that for now?

Larry, you got it?

The answer to that is yes. We will have I think approximately $130 million mature over the remainder of 2011 and we will continue to, at least through this time, we will continue to pay those upon maturity and won't seek additional borrowings at this time.

Okay, perfect. Thanks so much.

At this time, I'm showing no additional questions and would like to turn the conference call back over to Mr. John Dean for any closing remarks.

Thank you, Jamie. Thank you. Just thank everyone for participating in our second quarter 2011 earnings call. We look forward to future opportunities to update you on our progress. Have a good day.

And with that our conference is now concluded. We thank you for attending today's presentation. You may disconnect your telephone lines.