Central Pacific Financial Corp (CPF) 2016 Q4 法說會逐字稿

Good afternoon, ladies and gentlemen. Thank you for standing by and welcome to the Central Pacific Financial Corp fourth-quarter 2016 conference call.

(Operator Instructions)

This call is being recorded and will be available for replay shortly after its completion on the Company's website at www.CentralPacificBank.com. I'd like to turn the call over to Mr. David Morimoto, Executive Vice President and Chief Financial Officer. Please go ahead, sir.

Thank you, Anita. And thank you all for joining us as we review our financial results for the fourth quarter of 2016. With me this morning are Catherine Ngo, President and Chief Executive Officer, and Anna Hu, Executive Vice President and Chief Credit Officer.

During the course of today's call, management may make forward-looking statements. While we believe these statements are based on reasonable assumptions, they involve risks that may cause actual results to differ materially from those projected. For a complete discussion of risks related to forward-looking statements, please refer to our recent filings with the SEC. And now, I'll turn the call over to Catherine.

Thank you, David, and good morning everyone. I am pleased to report that we ended 2016 with a strong fourth quarter, and made significant improvements in key financial metrics on a year-over-year basis.

Net income in 2016 reflected a 2.5% increase over 2015, and included much lower credit to loan loss provisions compared to the previous years. In general, an increase in operating expense in 2016 was offset by higher gains in net interest income and noninterest income, resulting in an improved efficiency ratio, compared to the previous year. We did recognize several one-time income and expense items in the fourth quarter, and David will provide more details of our net income composition.

Loan and deposit growth, including core deposits, continued at a strong pace throughout the year, supported by favorable market conditions and our focus on strengthening customer relationships. Year-over-year loan growth was realized across all lines of business, particularly in the commercial mortgage, resi mortgage and home equity areas. Deposit growth included a significant increase in noninterest bearing demand balances. Asset quality also improved, with a significant reduction in nonperforming assets at the end of 2016, compared to the same period last year.

Our capital position remains strong, and together with our consistent profitability, we were able to repurchase approximately 797,000 shares of CPF stock, or approximately 2.5% of the total outstanding shares as of December 31, 2015. For the current year, our Board of Directors has authorized up to $30 million in the 2017 share repurchase plan, to continue building shareholder value. Cash dividends were maintained at $0.16 per share, payable on March 15 of this year. From January to November 2016, the economic activity in Hawaii maintained an upward trend, and the forecast remains positive going into 2017.

Year-to-date as of November 2016, visitor arrivals increased by 3.0% to 8.1 million visitors, and visitor expenditures increased by 4.1% to $14 billion over the same period in 2015. Overall job growth in Hawaii as of November 2016 was up by 2.4%, and real personal income was up by 3.0% over the same period last year.

The unemployment rate in Hawaii dipped to 2.9% in December, the lowest level since September 2007, compared to the national December unemployment rate of 4.7%. Real GDP for our state is projected to increase by 2.0% in 2016, compared to an increase of 1.7% in the prior year. Hawaii's consumer price index increased in 2016 to 2.0%, compared to 1.0% in 2015.

Market conditions and key economic factors in Hawaii are expected to continue on an upward trend in 2017, with the exception of the value of building permits being issued. However, with the current inventory of permits issued, we expect construction activity to remain robust in the coming year.

At this time, I will turn the call over to David, to review the highlights of our fourth-quarter financial performance. David?

Thank you, Catherine. Net income for the fourth quarter of 2016 was $12.2 million, or $0.39 per diluted share, compared to net income of $11.5 billion or $0.37 per diluted share reported last quarter.

As mentioned by Catherine, there were three large nonrecurring items in the fourth-quarter results. First we realized a pretax $3.5 million gain on the sale of the fee interest in a former branch location. This branch was consolidated with the nearby branch in the first quarter of 2016.

Secondly, we purchased annuities to settle the pension obligation for roughly 30% of our curtailed defined benefit plan. This resulted in immediate recognition of $3.8 million in net actuarial losses in the quarter, which appears in the salaries and benefits line. This transaction eliminates the future pension costs and risk for that portion of the plan, and moves us one step closer to plan termination.

Finally, we recognized a $700,000 pretax charge to early terminate a lease on office space in downtown Honolulu. This was done to consolidate our residential mortgage operations into a building we owned. We expect that the annuity purchase and lease termination will reduce prospective annual expense by roughly $0.5 million.

Our return on average assets in the fourth quarter was 92 basis points, and return on average equity was 9.46%. For the full year 2016, total loans grew by 9.8%, and total deposits increased by 3.9%. At year end, our loan to deposit ratio was 76%.

Net interest income increased by $0.3 million sequential quarter, and our net interest margin declined by 3 basis points to 3.22%. The sequential quarter decline in NIM was driven by a 2 basis point increase in the cost of interest-bearing liabilities combined with continued high pre-NIM amortization on MBS investments. We expect MBS premium amortization to begin slow in the first quarter of 2017.

As a result, we expect the NIM to remain in the 3.20% to 3.30% range over the next couple of quarters. During the fourth quarter, we recorded a credit to the provision for loan and lease losses of $2.6 million, compared to a credit of $0.7 million recorded in the prior quarter. Net charge-offs in the fourth quarter totaled $0.1 million, and included a $0.9 million recovery on a commercial mortgage loan.

Our allowance for loan and lease losses at year-end was $56.6 million, or 1.61% of outstanding loans and leases. Other operating income of $13.8 million and other operating expense of $37.5 million were both inflated by the previously-mentioned non-recurring items in the quarter. The recorded efficiency ratio for the fourth quarter was 70.1%. Normalizing for the nonrecurring items would result in an efficiency ratio for the fourth quarter of 66.0%.

In the fourth quarter, our effective tax rate was 34.5%, versus 35.8% in the third quarter. We expect our normalized effective tax rate to approximate 34% to 36% going forward. At December 31, 2016, our net deferred tax asset was $59 million.

That completes the financial summary, and now I will return the call over to Catherine.

Thank you, David. In summary, I am confident that we can maintain the positive momentum we realized in 2016 into the coming year, with regards to our financial performance, operational efficiencies, and expanding and strengthening customer relationships. With a clearly defined business plan for 2017, I believe we are well-positioned to achieve our business goals.

I would like to take this opportunity to thank our employees, customers, and shareholders for their continued support and confidence in our organization, as we work toward achieving our 2017 goals. At this time, we will be happy to address any questions you may have. Thank you.

(Operator Instructions)

John Moran, Macquarie Capital.

Firstly, on loan growth, I think last quarter, Catherine, we were targeting mid to high single digits for 2017, and across all categories. I was wondering if that still stands, or if you have any update. It sounds like you're still pretty constructive on construction development, but with CRE and other things going on, on the island.

So for 2017, we are projecting loan growth in that still the mid to high single digits.

Mid to high, okay. That would be across all categories, correct?

Generally across all categories, yes. So we will see perhaps a decline in construction activity, but otherwise I would say across all of the loan asset classes.

Okay, got it, thanks. Were any portfolio purchases in this quarter's numbers, and the if you had the balance of Mainland SNCs?

Sure, so there were no purchases in the fourth quarter of 2016. Then the balances for Mainland SNCs at the end of the year was $137.4 million.

So basically unchanged, I think, linked quarter. Then purchase activity is not a plan. You are looking for this growth to come organic on island, right?

Generally the activity will be on island. However, to the extent there is runoff in the purchase portfolio on the Mainland, to the extent there are good opportunities, yield-wise, thinking about risk, we could replace the runoff with additional purchases in 2017.

Okay, and I am going to switch gears real quick over to deposits. The non-interest-bearing was up a bunch this quarter. It looked really, really good. I know you have some seasonality there. But I am wondering if any of that was seasonal, or if you expect it to back out? Then anything you are seeing in terms of pricing?

I'm going to turn that question over to David.

David?

John, I think like most banks, we do have some runoff in noninterest bearing demand on the corporate side going into year-end. So that there was some of that, but I wouldn't say it was a significant amount. There weren't any very large short-term deposits in the quarter.

Okay, great. Thanks very much.

Brett Rabatin, Piper Jaffray.

I wanted to first ask, you bought back a decent amount of stock in the fourth quarter, and you've got an authorization of $30 million. I was just curious how active you think you will be this year with the buyback and, as you see it, what you might be doing with capital, given the growth prospects you are looking at?

Let me turn that over to David.

Brett, I think the plan is to continue to pay the quarterly cash dividend, roughly in the 40% to 45% payout ratio. Then to the extent that we have appropriate or adequate capital to support the business, we do see continued share repurchases. We do spend a lot of time around the repurchase process.

We have a pretty sophisticated way to take a look at the forward opportunity, forward (inaudible) opportunities of the Company. We look at the buyback IRRs through three different metrics. So it's sort of like an M&A process that we go through to take a look at the IRR of the buybacks. That drives our decisions on how much we repurchase at what market price levels, and that decision process goes through on a quarterly basis.

Okay. I was hoping for some color. Obviously, a bit bigger negative provision this quarter, and credit quality is really, really good. If credit metrics hold and charge-offs continue to be pretty modest, would it be fair to assume that provisioning continues to be negative, despite the growth, given the reserve levels you have?

I will turn that question over to Anna.

Anna?

Given where we are in the marketplace and assuming that credit quality, we are at the top of where we are at, it really depends on the portfolio mix. But we expect to continue to see ourselves moving generally in the same direction going forward.

Okay. Then just lastly, curious on any thoughts about the mortgage banking outlook as you see it in 2017.

We had of course in Q4 strong resi mortgage originations. In 2017, we expect the production to decline. So while we saw $250 million in production in the fourth quarter of 2016, I would expect in Q1 that production level to be more in the $150 million to $175 million range.

Okay. Great. Thanks for all the color.

Aaron Deer, Sandler O'Neill & Partners.

I would like to circle back to some of the margin-related considerations. I guess it started on the deposit side. As noted, you had some strong noninterest bearing interest inflows, and it seems like you should have plenty of liquidity coming off the securities book to fund your loan growth. I'm just curious, what was it that drove up the interest-bearing deposit costs in the quarter?

Let me turn that over to David.

The increase in interest-bearing deposit costs was in the CD portfolios, and primarily in the government CD portfolio. We do have roughly $700 million in government deposits, and those deposits are relatively short duration, and they do reprice off the front end of the curve. So that's somewhat reflective of what we've seen over the last several months with the increase in LIBOR and Treasury bill rates.

Okay, that is helpful. Then you mentioned that the securities yield saw some pressure this quarter from premium amortization. I was a little surprised given what we saw in rates, but that is likely to go down. Can you give us what the impact of the premium amortization was in the fourth quarter and where we might see that trend here going into the first quarter?

Actually, our premium amortization, unlike what you have probably seen at a number of institutions are, the way we're handling it today, we have an outsourced accounting service. It looks at historical speeds versus prospective speeds in determining average lives and the related premium amortization. So when rates rise, the decline in amortization occurs on a little bit more of a lag basis. So amortization actually increased for us in the fourth quarter by $100,000 relative to the third quarter.

As we look forward, we obviously expect that to decline. What we did is we went back to the first quarter of 2015 as a baseline. If amortization were to return to that level, it took us roughly about a $800,000 per quarter delta. So on a net interest margin basis, I think that increased to 5 or 6 basis points of NIM on the investment portfolio yield. It is pretty significant. It is probably in the high teens, 15% to 20% of investment portfolio yield.

That is very helpful, thank you. Then a question on the rationalization of your operating costs relative to revenues has been a big part of the story for the past couple of years. As you look out, do you think that you can continue that trend going forward, or are there going to need to be new investments in personnel or franchise to keep the revenues growing at the pace that they have been?

Sure, Aaron. As we've reported in, in earlier quarters, we have made significant investments in technology. At this point, we do expect the ops expense line to hold pretty flattish, in the $32 million to $34 million range. So that of course takes into consideration comp and benefit costs, investment in technology costs, which have been the larger drivers or are the larger drivers of cost on the expense line.

Okay, that is great. I will step back. Thank you.

Jackie Boland, KBW.

Looking at some of the events in the quarter, with the derisking of the pension plan and then the terminated lease, as you look out, do you see any other opportunities where you might be able to get savings of that nature?

Let me start and then turn it over to David. We continue to look at opportunities. So as I think about the branch strategy, for example, there could be opportunities to reduce the footprint of any one of our branches. We tend to have branches in perhaps the 5,000 to 8,000 square foot range.

Given our strategy, focus on customer relationships, and the kind of footprint that we would need to support that strategy, that branch could be more in the 3,000 square foot range. So that would be an example of an opportunity for a reduction in costs going forward. Also, in regard to our technology investments, as we continue to automate and streamline, reduce the paper flow across our groups and organizations, there could be expense reductions related to that.

Okay, and do those all play into the $32 million to $34 million range that you spoke about?

They do, Jackie.

Thank you. That was all I had.

(Operator Instructions)

Laurie Hunsicker, Compass Point Research.

I wanted to go back to Brett's question on how you all are approaching reserves and, Anna, something you said in terms of this same direction. I mean if we are looking at, as you have stated, mid to high single digit loan growth, and credit still stays roughly in this band, does that mean potentially we could be seeing recoveries lead in at this $2 million to $2.5 million quarterly run rate?

This is Anna.

We have seen unusual or unexpected recovery on those that we have charged off in the past. Provided that we continue to see that, that would contribute a lot towards us moving in the same direction. Should we not see that, we will possibly see a leveling off.

Was there an unexpected recovery in the quarter?

Yes, there was.

How much was that?

About $900,000 in the fourth quarter from one commercial mortgage borrower.

Okay, so I will ask it another way. If we net that out, then it is $1.7 million. To your comment on the same direction, if we saw $1.5 million or $1.7 million continued recovery -- I mean, your reserves to loans is still beautiful. You are sitting here at 1.61%. How should we think about that? That is a pretty big swing into earnings.

Anna?

We believe we are adequately reserved. We continue to experience improvement in asset quality from quarter to quarter in 2016, as well as a slight shifting in our portfolio mix. So all of that will play into how we look at our reserves.

Okay, and then just one last question on this. So at what point directionally do you shift? At what point does your reserves to loans, outside of obviously deteriorating credit, at what point do you shift and say we need to start providing, we need to match?

I think once we start seeing a decrease in deteriorating loans. At this point where we are at, at $9.2 million on non-performing assets, is sort of where we see bottoming out at about a normalized level. So as we do see or should we see in 2017 or beyond, I would say that at that point, you would see us moving in an opposite direction.

Okay. But so for 2017, we will probably continue to expect to see recoveries?

Yes.

Okay, great. Then just one last follow-up. I know you gave the Mainland SNCs. Do you have the Hawaii SNCs?

Yes, I do. This is Catherine.

The Hawaii SNCs are at $50.3 million.

Okay, so that puts your whole portfolio at $189 million, down a little bit. How do you think about that? Is that going to be something that you continue just to run down, or do you see that as staying roughly at the 5% level?

I would distinguish between the Hawaii SNCs and the Mainland SNCs. In the case of the Hawaii SNCs, where there is the opportunity to build the relationship -- and of course these are companies that we are close to, people we know well, we understand and certainly understand the market much better here in Hawaii, you can see us continuing to grow the Hawaii SNC portfolio. On the other hand in regard to Mainland, over time we would expect to replace those balances with Hawaii customer relationships.

Great, that is helpful. Thank you.

This concludes our question and answer session today. I would like to turn the conference back over to Catherine Ngo for any closing remarks.

Thank you very much for participating in our earnings call for the fourth quarter of 2016. We look forward to future opportunities to update you on our progress.

This conference has now concluded. Thank you for attending today's presentation. You may now disconnect.