First Hawaiian Inc (FHB) 2018 Q2 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the First Hawaiian Q2 2018 Earnings Conference Call. (Operator Instructions) As a reminder, this conference is being recorded.

I would now like to turn the conference over to your host Mr. Kevin Haseyama, Investor Relations Manager. Sir, you may begin.

Thank you, Valerie. And thank you, everyone for joining us as we review our financial results for the second quarter of 2018. With me today are Bob Harrison, Chairman and CEO; Eric Yeaman, President, COO and Interim CFO; and Ralph Mesick, Chief Risk Officer.

We have prepared a slide presentation that we will refer to in our remarks today. The presentation is available for downloading and viewing on our website at fhb.com in the Investor Relations section.

Also, during today's call, we will be making forward-looking statements, so please refer to Slide 2 for our safe harbor statement.

We will also discuss certain non-GAAP financial measures. The appendix to this presentation contains reconciliations of these non-GAAP financial measures to comparable GAAP measures.

And now I'll turn the call over to Bob, who'll provide you with the second quarter highlights, starting on Slide 3.

Thank you, Kevin. Aloha, everyone, and thank you for joining us today as we report on our second quarter results. This was an eventful quarter as we turned in a solid financial performance, driven by good loan growth and expanding NIM, resulting in a 7.7% increase in net interest income on a year-over-year basis.

In addition, BNP Paribas completed another successful stock offering, which, combined with our share repurchase, brought their ownership in First Hawaiian below 50%.

Starting with our financial highlights, net income was $69.1 million, up 1.6% from the prior quarter and 21.4% from the prior year. This performance was driven by a solid loan growth and improving deposit mix, expanded net interest margin and continued excellent asset quality.

Our profitability measures remained strong with the return on average tangible assets of 1.45% and a return on average tangible common equity of 18.83%, and we have maintained a 48% efficiency ratio.

Yesterday, our Board of Directors declared a $0.24 per share dividend, payable on September 7 to shareholders of record at the close of business on August 27.

Slide 4 contains the highlights of BNP's offering and our concurrent share repurchase. As a result of the offering and repurchase, BNPP's ownership stake in First Hawaiian fell to 48.8%. With their ownership falling below 50%, First Hawaiian no longer qualifies for the controlled company exemption under NASDAQ listing guidelines, and we are required to have a majority of independent board members by May 10, 2019, 1 year from the transaction date.

As I said before, we intend to return capital to shareholders that we do not need to prudently grow the business, and the share repurchase demonstrates that commitment. Including the share repurchase, we have returned about $299 million or 79% of earnings to the shareholders since the IPO. Year-to-date, we have returned $148 million through dividends and share repurchase. At quarter-end, we remained well capitalized, with a total capital ratio of 13.23% and a leverage ratio of 8.61%.

Now I'll turn it over to Eric to go through the financials.

Thanks, Bob. Turning to Slide 5. We had a good loan growth in the quarter, up 1.4% on a linked quarter basis or 5.6% annualized, in line with our mid-single-digit guidance for the full year. We saw strong loan growth in commercial real estate and construction, residential real estate and consumer loans, partially offset by a decline in C&I.

CRE and construction grew $158.8 million or 4.8% from the prior quarter. The majority of the growth was driven by a strong pipeline of deals, primarily in Hawaii and Guam.

The residential portfolio grew by $80 million or 1.9% as last year's switch to the mortgage loan officer model continues to show benefits. In consumer loans, both our indirect auto and credit card portfolios contributed to the growth of $36.1 million or 2.3%.

We did see a decline in the C&I portfolio of $103 million. This decline was primarily due to dealer flooring, which fell by over $90 million as we saw dealers carefully managing down inventory levels as well as some increased competition by the captive financing companies.

Looking forward, we still expect loan growth for the full year to be in the mid-single-digit range, and our views on the drivers of growth remain unchanged. The CRE and construction pipeline remains strong, and we continue to expect high-single-digit growth in this area. We continue to expect mid- to high-single-digit growth in residential loans, mid-single-digit growth for consumer and low single-digit growth in C&I. We expect that C&I growth will remain challenging as the market continues to be competitive and the pickup in M&A activity presents financing opportunities, but it also drives payoffs.

Turning to Slide 6. Deposit balances increased by $33.1 million during the quarter as we continued to make progress in improving our deposit mix. We saw good growth in balances of core consumer deposit products, which was partially offset by a decline in public deposits. Total public deposits were down about $17 million, but we reduced the balance of public time deposits by $95 million. At the end of the quarter, we began diversifying our funding sources through the use of term borrowings. These borrowings helped reduce our exposure to volatile short-term deposits, which will help to protect against future interest rate increases and improves our deposit pricing flexibility. We expect that we will utilize more term borrowings as we continue to work to improve our mix of assets and liabilities.

Turning to Slide 7. Net interest income for the first quarter was $141.4 million, an increase of 1.2% compared to the prior quarter and 7.7% versus the prior year. We were able to generate higher net interest income compared to the prior quarter from a lower average earning asset base as we improved the balance sheet mix by reducing the balance of lower-yielding assets and higher-costing deposits.

The net interest margin was 3.18%, a 5-basis-point increase versus the prior quarter. Excluding the impacts of a $1.1 million premium amortization adjustment and the difference in quarterly day comp, the NIM would have been approximately 3.13% or 10 basis points higher than the similarly adjusted 3.03% NIM from the prior quarter. The 10-basis-point increase was the result of the increase in rates, which contributed about 3 basis points; and the improvement in balance sheet mix, which contributed about 7 basis points.

Looking forward to the third quarter, we anticipate that the margin will increase by few basis points as a result of the June rate hike.

Turning to Slide 8. Noninterest income was $49.8 million, about $1.1 million or 2.3% higher than the prior quarter, primarily driven by higher credit and debit card fees.

Noninterest expenses were $91.9 million, about $1.3 million or 1.4% higher than the prior quarter. Noninterest expense during the second quarter included a $700,000 expense related to a decrease in the conversion rate of our Visa Class B shares. Even with this charge, our efficiency ratio in the second quarter was 48%, in line with our guidance. As a result, we are maintaining our full-year efficiency ratio outlook of approximately 48%.

With that, I'll turn the call over to Ralph to cover asset quality.

Thank you, Eric. We'd like to turn your attention to Slide 9. You see that our asset quality was excellent at the end of the quarter. Net charge-offs were $4 million for the quarter. On an annualized basis, this amounts to 13 basis points on average loans and leases. This is 2 basis points lower than the prior quarter and 2 basis points higher than the second quarter of 2017.

Total nonperforming assets were $13.8 million or 11 basis points of total loans and leases and other real estate owned. This is up 1 basis point from the prior quarter and 4 basis points year-over-year.

For the second quarter, the provision expense was $6 million, and the allowance for loan and lease losses increased by $2 million to $140.6 million or 111 basis points of total loans and leases. Looking ahead, we don't anticipate any shift in our overall credit quality.

Before I turn the call back over to Bob, I'd like to offer some additional information regarding the volcanic activity on the Big Island and our exposures there. First, it may be helpful to know that the eruption and lava flow is directly impacting a rural area that has a long history of volcanic activity. It is not densely populated and is outside the major road systems that connect the island. The bank's direct exposure in the lava impact zone is roughly $6 million. It is comprised of residential mortgages, and each of our borrowers carry insurance against lava hazards. We started to receive payoffs from insurance claims made, and our expectation is that our customers will be indemnified for losses they incur.

In the Puna district, which includes the lava impact zone, we have approximately $30 million in outstanding balances, and our total on Hawaii Island is about $760 million, which is only about 6% of total bank balances. We have not seen a noticeable change in delinquencies on Hawaii Island. And given the relatively small size of our exposure on the island, we don't anticipate the need for additional provisioning. We will update this assessment as appropriate.

And now I'll turn the call back over to Bob.

Thank you, Ralph. Turning to Slide 10, Hawaii's economy continued to perform well in the second quarter, led by strong tourism and real estate sectors and one of the lowest unemployment rates in the nation. The state unemployment rate was 2.1% in June compared to 4% nationally.

The visitor industry remained robust through the first 5 months of the year. Year-to-date through May, visitor arrivals were $4.1 million, up 8.4% versus the same period of last year. And visitor spending was $7.7 billion, an increase of 10.9% versus the same period last year. Real estate market remains sound. Sales volumes for single-family homes were down slightly versus the prior year, but prices continue to increase. The condominium market remains strong as well, as both sales volume and median prices were up. Looking forward, the overall outlook for the economy remains positive.

Before I wrap up, I want to mention a couple of things. Yesterday, we announced the appointment of Ravi Mallela as our CFO and Treasurer. Ravi comes to us from First Republic Bank, where he was Senior Vice President, Head of Treasury and Finance. He brings a depth of knowledge and corporate finance expertise that we'll be able to leverage as we move forward with our strategic plans for the bank. We look forward to him officially joining us on September 4.

You also probably saw the 8-K we filed last week regarding the change of our Board of Directors. Thibault Fulconis is no longer with Bank of the West, and as a result, resigned as a director of First Hawaiian, Inc. and our subsidiary, First Hawaiian Bank. Mr. Fulconis has been on the board since the IPO, and I'd like to thank him for his service. The Board of Directors has appointed Xavier Antiglio to fill the vacancy. Mr. Antiglio is currently the Chief Financial Officer of Bank of the West.

With that, we'd be happy to take your questions.

(Operator Instructions) Our first question comes from Dave Rochester of Deutsche Bank.

On your NIM guidance, I just wanted to make sure that I had that right. Is that a few bps of expansion versus the 3.13%?

Yes, it's basically, on a normalized basis, 3 basis points, but yes.

Okay. And so I mean, from this chart or this table here, it looks like you're going to end up getting 3 basis points back as you move into 3Q because you get pick of an extra day there, so that puts you kind of at 3.16% as the starting point. So would it be potentially 3.16%, and then you get 3 basis points of expansion from the June hike? Is that maybe how you could look at it also?

Yes. It really relates to the June hike, Dave. And we're really sort of talking about our NIM changes, really focused on the adjusted NIM. So that's kind of how it plays out.

Okay. So you get 3 more basis points from the extra day and then 3 bps from the rate hike, and that kind of gets you to maybe a 3.19%-ish type of number, Rob?

I think what we want to do is just stick to the normalized adjusted NIM and [stay] from there. That's where we would see the increase because we would take out any day count in the calculation.

Got you, okay. And I noticed you didn't mention mix shift benefits in the balance sheet as a driver for the NIM expansion. Do you think you can still get some of those additional benefits there in 3Q?

It's probably not going to be as dramatic as maybe what we saw in the second quarter, but we're going to continue to reduce our exposure to the public deposits. Our investment securities are running off in the $200 million, $250 million range, and we've been sort of using that to sort of fund our loan growth. So we're going to continue to sort of manage -- actively manage the balance sheet so that we can continue to drive improvement in our overall profitability.

Yes, okay. And just on the deposit market, I know you had a competitor raise rates in your market. And then we learned you guys responded with increases of your own in June. Has the market been relatively stable since you raised rates? And then how are you thinking about your positioning at this point? Are you thinking that deposit growth can be at least decent in the back half of the year based on how you're positioned?

Yes, it's still a pretty rational market outside of the public deposits that we've been talking about for the last quarters -- several quarters. We did increase our rates in a measured way in June, as you referenced. And so we'll continue to monitor the situation. But overall, it's pretty rational. If you actually look at our deposits and you take out the impact of the reduction in our public deposits, and then in the first quarter, we referenced 1 large corporate customer reduced their balance by $266 million, we grew deposits, excluding those 2 items, about 1.4%. And so we would expect to be able to accomplish that in the second half of the year.

Yes, okay. And one last one, if I could, just on the borrowings you brought in. And sorry if I missed it, but what were the terms on those? And then as you're looking to maybe layer some more of those in, I guess it's dependent on how strong loan growth is, are you just looking for fixed termed-type of borrowings? Or are you going overnights with the rest of it?

Yes, we took out $200 million, as you'll see in the balance sheet, and it was right towards the end of the quarter. So it really didn't have much of an impact on the numbers. It was 2-year money at 2.79%.

Our next question comes from Steven Alexopoulos of JPMorgan.

Just a follow-up on the deposit conversation. We're seeing quite a few banks in the U.S. Mainland start paying much higher rates. Are your corporate customers starting to demand a higher rate? I'd imagine they'd have access to those.

Well, certainly -- Steve, this is Bob. We certainly have been very responsive to the corporate deposits. It's something that we've been talking with them about for the last year. We did increase, I think as we mentioned on our earlier call, our earnings credit rates about a year ago. And we also gave them different options, either time CDs, money markets or off-balance-sheet options, as well.

Has it been broad-based, Bob? Or has it been one-offs?

It's been pretty much one-offs, but more and more people are talking about it as the rates [have increased].

Okay. And what is your expectation -- the deposit beta has been very reasonable so far, but what's the expectation for the back half of the year?

Well, beta for the quarter has roughly been about 20%. We saw 5% -- a 5-basis-point increase in our overall deposit costs on a 25-basis-point increase in the fed rate. Steve, honestly, it's hard to tell, looking out how things are going to shape up. The good news is that the Hawaii consumer market is pretty rational. And I think on the commercial side, as you point out, there's a little bit more pressure. But all in all, we feel pretty good about how we've been able to maintain that deposit base in light of the changes going on.

Okay. And just one separate question. On the C&I decline, what were -- what was C&I loan growth ex dealer? I didn't follow what trends were ex the dealer decline.

Yes, I don't have that off the top of my head, but the dealer reduction was about $93 million for the quarter. And just to expand on that a little bit, they are managing their inventory better in light of where car sales are and the fact that interest rates are rising. And so it's costing them more to hold inventory.

Yes. So Steve, it's Bob. As you look at about $103 million decline in C&I for the quarter, and to Eric's point $93 million of that was dealer. So it's right about $10 million for the rest of the book, decline.

Our next question comes from Ebrahim Poonawala of Bank of America.

So I'm sorry if I missed this, but just wanted to get a sense of -- as we think about expenses in terms of -- I know we've talked about the 48% efficiency ratio that you reaffirmed. But even looking out a little bit, if you had any better understanding of how the expense trajectory was going to play out going into next year, given sort of the full stand-alone and vendor contracts hitting towards the end of the year.

Yes, Ebrahim, this is Eric. I think you might be referring to the whole public company transition cost.

Yes.

So I'll take that on. No, basically, through last year, 2017, we had about $11 million of that cost embedded in our cost structure. And then for 2018, we estimate that we will roll in another $3 million, probably about $1.2 million, $1.3 million in the first half of the year thus far, with the other remaining $1.7 million coming in the second half of the year. And again, that's all accounted for in our 48% efficiency ratio. We are still working through our forecast for 2019. So I'm not prepared to give you any guidance for '19. But we did say when we went public that our transition cost was going to be between $14 million and $17 million. And so we feel that we'll still be able to manage within that range. And I think we have pretty strong cost management and discipline in the company that we'll be able to accomplish that.

Yes. So, Ebrahim, this is Bob. So wrapping that up, so by the end of the year, we expect to have about $14 million of the -- $14 million to $17 million in the number, and then you'll see some more of that in 2019.

Got it. So I mean, max, I guess, there's maybe about $2 million to $3 million more that -- it's next year. Understood.

It's probably going to be closer to the higher end of the range.

Yes, it'll be at the higher end as of right now. We don't have the exact number, but...

Another $3 million next year, okay. And I guess, just moving in terms of capital. I mean, obviously, we got the CCAR results, Bob. Any clarity around as we move forward, one, if you could just remind us when does the lockup expire for BNP? And any clarity around what flexibility you have to repurchase shares further if, at all, there is another secondary from BNP?

Sure. So the lockup expires on August 8. And of course, the underwriters can choose to waive the lockup if they would like to. In our capital plan that we filed as part of the IHC, we did include options for additional capital return to shareholders, much like we had in last year's plan. And that's why we were able to do a share repurchase with the May secondary offering. And so with that, we have in the plan options that we can include.

Our next question comes from Jackie Bohlen of KBW.

The dealer floorplan, I understand the higher cost of interest for the dealers and why they're keeping their inventory tighter. But the release also mentioned heightened competition. Are you seeing that broadly across your floorplans? Or is it more state-centric?

It was more here in Hawaii, Jackie, and it's just -- the -- some of the captives are being very aggressive in the -- they have a few more levers to pull as far as with the dealers, given that they're also under the same umbrella as the manufacturer. And so that's where it was coming into play. We haven't seen that in the Mainland, just a couple of specific dealers here in Hawaii.

And Jackie, it was more of a small part of the shift, not -- the most of it was due to paring back inventory balances.

That's right.

Okay. And where does that portfolio stand at the end of the quarter?

Yes, total dealer flooring was $856 million.

Okay. And that's down the $93 million?

Down some -- yes, down $93 million, correct.

Okay. And do you -- I guess, how often do you add new dealers to that? And is it something that you actively look to do? Or just as you find opportunities available?

Well, Jackie, this is Bob. We're always actively looking to add other additional clients. But we're very selective in the process. So generally, we've been adding 2 or 3 clients a year the last couple of years.

Okay. And would you say that most of the dealers now, to your knowledge, have tightened up their inventory already? Or would there be more to come next quarter?

I think they're all looking at it. Of course, they're going to adjust as they see the outlook for sales versus having enough inventory to satisfy the sales outlook they have. But also, rising interest rates costs, as Eric mentioned, is one of the factors they're taking under consideration.

Okay. So it -- though it was more meaningful this quarter, it's possible it could occur again next quarter? The decline?

Jackie, it's hard to tell. But the other thing I would add is we really look at this as a positive shift, just given where auto sales have been and where it may be trending going forward. So we don't necessarily look at this as sort of a bad thing.

Okay. So from a credit standpoint, you're very pleased with it.

Right, right.

Okay, that makes sense. And then just one last one for me. The bump up in credit and debit card fees, was there any particular driver of that?

No. As you know -- I mean, volume was definitely higher, but as you know, there's a lot of moving parts with credit and debit card revenue and rewards and those kinds of things and so. But most of it really was driven by just higher volume. And we've been seeing higher volume throughout the year.

Just a particularly good quarter?

Yes.

(Operator Instructions) Our next question comes from Jared Shaw of Wells Fargo Securities.

Maybe just circling back on the public deposits. Did you say that the overall total public deposits were only down $17 million? Or was that $17 million in addition to the $95 million?

No. So the -- yes, public deposits was down $17 million in the quarter, but the public time was down $95 million.

Yes, what we don't control is what's in their checking account, essentially. And that's fairly volatile.

Yes, their -- the checking account -- operating account balance is probably, on average, about $0.5 billion. But they fluctuate between $300 million and $600 million throughout the quarter.

So if you step back more from the time deposits and step back from participating in that competitive side, do you run the risk of losing some of those operating accounts? Or you feel that the -- that core deposit relationship is secure?

It's actually a contract that we bid on every 5 years. So we have the operating account contract with the entities that we do, and they would continue to deposit with us until that contract comes up for renewal.

Okay. And then looking at the cash flow on the securities book, would you continue to -- would you look to continue to use some of that to fund loan growth? Or where would you like to see the securities fall out as a percentage of assets?

Yes, we're really looking at it from a total balance sheet perspective. Clearly, our preference is always to fund the loan growth through deposit growth. But we are actively managing our total funding base, which includes the borrowings as well as our investment securities portfolio. Right now, the securities portfolio, as I mentioned, is running off at about $200 million to $250 million a quarter, and what the runoff is running off at a lower yield than the total portfolio. So we've been seeing a couple of basis points uptick as a result of the runoff. But if the deposit growth is not there because we're shrinking the public time deposits, then we will use various sources, including investment securities runoff.

Okay. And then could you --

We're just trying to balance -- Jared, we're just trying to balance, overall, the balance sheet and the growth in our earnings, and so we did. We were able to reduce our earning assets and still grow net interest income in the quarter, which is what we like to try to do.

Okay. And then could you also just give us an update on the balance of Shared National Credits and what your activity was in the -- in that portfolio during the quarter?

Sure. Our total SNC was $1.5 billion. $1.1 billion of that was on the Mainland. So $1.5 billion total, and it went up about $80 million from the end of the prior quarter, $37 million of that was related to the Mainland SNC.

So we actually grew the SNC book larger in Hawaii over the quarter.

Our next question comes from Laurie Hunsicker of Compass Point.

Just wondered, just staying with loans, your total dealer floorplan loans, do you have that amount? And then the amount that actually resides in California?

Yes, so that total, Laurie, is $856 million, and the Mainland portion is $580 million.

Okay, great. And then jumping over to the income statement, within your expense sign, the $92 million, how much was onetime IPO costs?

I think the -- we call it the sort of public company transition costs was about $700,000.

Okay. And that compares to $500,000 last quarter, is that correct?

Right, right.

Okay. And then just to go back to margin, just to go back to some of the questions that, I guess, Dave was asking you. Just so that I get this right, I'm thinking about this. So in the quarter, your premium amortization adjustment was negative $1.1 million, that compares to negative $1.9 million in March, and then a positive $4.3 million in the December quarter, is that correct?

Yes, I don't have the fourth quarter information in front of me, but yes, correct. As it relates to first and second quarter, yes.

So I mean, I guess, just thinking about your premium amortization that was in last year, it was a positive $19 million. So substantial swing in your margin versus where we sit today. If I'm just stripping out only the premium amortization through linked quarter margin, you were 3.09%, 3.09%, and then 3.16%. If we suddenly see a swing back in premium amortization, is it unrealistic to think that potentially that could be back to that same level? In other words, will we see it adding into your margin another 10 basis points? Or how should I be thinking about that?

I think the best way to really look at it is what we call the adjusted NIM. We basically take the reported NIM and adjust it for the day count and the premium amortization, and that's sort of what we measure off of. So if we see, all things being equal, no day impact and no premium amortization, our basis, the 3.13%, and so our guidance of a few business points is on top of that.

It's really hard to predict what the premium amortization is going to be.

Sure. Understand. Okay, and then last question, just going back to deposits. Can you talk a little bit about your money markets and just the jump there? And then what we could expect to see? And I'm just talking linked quarter. You went from those costing 26 basis points to those costing 40. How should we be thinking about that?

Sorry, I don't have those numbers in front of me, can you repeat that again?

Yes. So your money markets in the December quarter, which comprise 15% of your deposits, they were costing 26 basis points in December -- I'm sorry, in March, I apologize. In March, they were 26 basis points. And then for the June quarter, they're costing 40. And so it just seems like a bigger increase. And just -- so I mean, are there specials you're running? Are we going to continue to see that move?

No. I mean, in general, we're always running specials. But basically, I think the bigger shift was there was a bump-up in the public money market rates.

Okay. And just -- and then just remind me, the public money, how much of that falls into the money market?

Yes, it's -- well, in the total...

I mean, I can see the...

We haven't...

Yes, we haven't disclosed that, Laurie, honestly. We just disclosed the total operating account money and the public time separately. So I'm not prepared to disclose it further.

I'm showing no further questions at this time. I'd like to turn the call back over to Kevin Haseyama for any closing remarks.

Thank you for joining us on today's call. We appreciate your interest in First Hawaiian, and enjoy the rest of your day. Thank you.

Thank you. Ladies and gentlemen, this does conclude today's conference. Thank you for your participation. [You may now] disconnect.