Hanmi Financial Corp (HAFC) 2018 Q4 法說會逐字稿

Ladies and gentlemen, welcome to the Hanmi Financial Corporation Fourth Quarter and Full Year 2018 Conference Call. As a reminder, today's call is being recorded for replay purposes. (Operator Instructions) I would like to turn the conference over to Mr. Richard Pimentel, Senior Vice President and Corporate Finance officer. Please go ahead.

Thank you, Matt, and thank you all for joining us today. With me to discuss Hanmi Financial's fourth quarter and full year 2018 earnings are C.G. Kum, our Chief Executive Officer; Bonnie Lee, President and Chief Operating Officer; and Ron Santanrosa, Chief Financial Officer.

Mr. Kum will begin with an overview of the quarter. Ms. Lee will discuss loan and deposit activities. And Mr. Santanrosa will then provide more details on our operating performance. At the conclusion of the prepared remarks, we will open the session for questions.

In today's call, we may include comments and forward-looking statements based on current plans, expectations, events and financial industry trends that may affect the company's future operating results and financial position. Our actual results could be different from those expressed or implied by our forward-looking statements, which involve risks and uncertainties. The speakers on this call claim the protection of the safe harbor provisions contained in the Securities Litigation Reform Act of 1995.

For some factors that may cause the results to differ from our expectations, please refer to our SEC filings, including our most recent Form 10-K and 10-Q. In particular, we direct you to the discussion in our 10-K of certain risk factors affecting our business.

This afternoon, Hanmi Financial issued a news release outlining our financial results for the fourth quarter of 2018, which can be found on our website at hanmi.com. I will now turn over the call to Mr. Kum.

Thank you, Richard. Good afternoon, everyone. Thank you for joining us today to discuss Hanmi's 2018 fourth quarter and full year results. Despite the inclusion of some noise from extraordinary items, our underlying performance in the fourth quarter was strong and provides evidence that our strategic shift to moderate loan growth to protect our net interest margin is indeed working.

Here are some highlights for the quarter and full year. While net interest income before loan loss provision increased slightly quarter-over-quarter, onetime tax adjustment and a higher loan loss provision impacted fourth quarter net income.

As announced in the fourth quarter, as part of our ongoing efforts to further enhance profitability going forward, during the quarter, we began efforts to rationalize our branch network, which included the closure of 2 branches and opening up 1 new one with 4 additional branch closures scheduled for the first quarter of 2019.

Although growth in our loan and lease portfolio was modest, new origination activity reflected loan pricing discipline and our shifting emphasis towards higher-yielding categories. As a result, net interest margin stabilized in the quarter in spite of higher deposit cost and after excluding the effects of the FHLB special dividend and slightly higher prepayment fees in the quarter. Importantly, we continue to maintain our normal conservative underwriting standards, and our overall asset quality remains excellent.

Deposits were up 2.9% quarter-over-quarter and 9.2% year-over-year primarily driven by growth in time deposits and savings accounts. With the solid growth in deposits coupled with our strategy to selectively grow loans and leases, our loan-to-deposit ratio at year-end was 97% compared with 99% a year ago. And finally, during the quarter we completed our stock repurchase authorization of 1.6 million Hanmi shares or 5% of our shares outstanding.

Looking in more detail at our fourth quarter results. We reported net income of $11.4 million or $0.37 per diluted share. This included a onetime income tax adjustment totaling $2.7 million and a $3 million loan loss provision, which together reduced fourth quarter net income by $0.16 per share. Excluding these items, net income per share increased by approximately 6% or $0.03 per share compared to the prior quarter.

Overall, our asset quality metrics have remained excellent. During the quarter, criticized loans declined 17.6% from $71.3 million to $58.7 million. Nonperforming loans were $15.5 million or 34 basis points of loans at quarter-end, representing sequential improvement of 15.3% from third quarter nonperforming loans of $18.3 million or 40 basis points of loans.

We recorded a $3 million loan loss provision in the quarter, and our allowance for loan losses held steady at 70 basis points of loans and leases at year-end. The fourth quarter also included a $2.1 million charge-off of a problem loan identified and reserved for in prior years. As such, net charge-offs were $2.7 million for the quarter and ended the year at 7 basis points.

Notwithstanding the fourth quarter uptick in charge-offs, the overall asset quality of our portfolio is quite strong, and we anticipate minimal charge-off activity in the first quarter of 2019. Importantly, even in today's highly competitive market of loans and leases, we continue to maintain our commitment to conservative, disciplined credit underwriting.

For the fourth quarter 2018, consistent with asset quality data from prior quarters, the weighted average loan to value and debt coverage ratio on new commercial real estate loan originations were 50.8% and 1.4x, respectively. The slight decline in the weighted average debt coverage ratio for the newly booked CRE loans for the quarter is due to 1 large hospitality loan booked during the quarter backed by a Korean conglomerate which has a loan to value of 55% and a debt coverage of 1.25x.

This credit is going through a property improvement plan, or PIP, required by a major national chain. The stabilized DCR projected for this property is 1.8x. Weighted average loan to value and debt coverage ratio for the entire commercial real estate portfolio at Hanmi Bank are 50% and 2.1x, respectively.

During the fourth quarter, we complete the stock repurchase program that was authorized by the Hanmi Board of Directors during the third quarter of 2018. In total, we repurchased 1.6 million shares of Hamni common stock or 5% of shares outstanding at an average price of $22.57. This included fourth quarter share repurchases of 1.2 million shares at an average price of $21.34.

Even after completing the share repurchase, Hanmi's tangible common equity ratio remained strong at 9.84%, as do all of our regulatory capital ratio. I believe the share repurchase highlights our confidence in the Hanmi franchise, and we see buying shares at this level as a timely and appropriate use of our capital resources.

I'd now like to provide an update on the strategic road map for the bank as we look ahead to 2019. As we articulated on our last earnings call, given the current interest rate environment that has resulted in fierce competition for gathering deposits and originating well-priced loans which meet our underwriting requirements, we made the decision to protect net interest margin by slowing net loan growth for the second half of 2018.

We're also moderating our loan growth expectations for the full year in 2019 to a range of 5% to 7%. This includes efforts to grow areas of the bank that generate lower-cost deposits and/or higher spread. C&I loans, including the bank specialty lending division that focuses on mainstream businesses along with the Commercial Equipment Leasing Division, are key areas targeted for additional growth along with greater pricing discipline.

Our fourth quarter results are early indications that these efforts are working. A significant encouraging sign is the average loan and lease yield for the fourth quarter after adjusting for the prepayment penalty being up 12 basis points to 5.03%.

Additionally, weighted average interest rate for the newly originated loans in the fourth quarter increased 32 basis points. And importantly, weighted average interest rate for the newly generated commercial real estate loan jumped 37 basis points during the quarter.

As a result, after several quarters of declining net interest margin, the fourth quarter net interest margin of 3.51%, even after adjusting for the FHLB special dividend and slightly elevated prepayment penalties, appears to represent a sign of stabilizing net interest margin.

As it relates to SBA loans, Bonnie and Ron will follow with more information on our fourth quarter activity. With respect to the guaranteed portion of the SBA 7(a) loans originated in 2019, once the government shutdown is over, we will evaluate retention versus sale of the guaranteed portion on a loan-by-loan basis. A decision to retain versus sell the guaranteed portion will be based on our profitability analysis, the rate environment, and the type and duration of the loan.

In conjunction with moderating growth in a safe and prudent manner, during the quarter we executed initiatives designed to reduce cost and to improve operational efficiency. In total, these actions are expected to reduce noninterest expenses by at least $5 million or approximately $0.12 per share by the end of 2019.

At the foundation of our cost reduction initiative is the rationalization of our branch network. This process contemplates elements such as branch profitability, dependence on time deposits and strategic importance to the franchise. During the quarter, we closed 2 branches and opened 1 new branch, all of which were in Texas.

We currently have scheduled 4 additional branch closures in the first quarter of 2019, including 2 branches in Illinois, 1 additional branch in Texas and 1 branch in Southern California. At the conclusion of this rationalization process, we will have consolidated approximately 10% of the Hanmi branch network.

Additional key areas of focus to improve our cost structure includes investments in technology and system to ultimately reduce costs through improvements in operational efficiency. We are also taking steps to centralize and streamline certain back-office activities to improve processing speed along with enhanced consistency across the enterprise in adjudicating credits.

With that, I'd like to turn the call over to Bonnie Lee, our President and Chief Operating Officer, to discuss the fourth quarter loan and lease production results and deposit gathering activities. Bonnie?

Thank you, C.G. I'll discuss loan and lease production and deposit-gathering activities and then turn it over to Ron Santanrosa for additional details on our fourth quarter financial results.

During the quarter, organic loan and lease production totaled $246.2 million, which increased 3% over the prior quarter. However, due to elevated levels of payoff as well as a higher amortization during the quarter, our portfolio of loans and leases expanded by just 1.6% on an annualized basis, and the portfolio grew 6.9% for the full year.

Consistent with our strategy, fourth quarter production activity reflected our shifting emphasis towards the higher-yielding categories with a strong asset quality, such as the C&I loans as well as equipment leases while we reduce our exposure to the lower-yielding asset classes, such as single-family residential loans. In line with our longer-term objective to diversify our loan and lease portfolio, CRE loans comprised 70.8% of our portfolio at the end of 2018 compared with over 76.5% 2 years ago.

Fourth quarter production consisted primarily of $87.5 million of a commercial real estate loan, $30.8 million of SBA loans and $68.1 million of C&I loans. We also originated $59 million of commercial lease -- equipment lease.

Of note, C&I loan originations in the fourth quarter were more than 2x higher than the previous quarter while equipment lease production remains consistently strong throughout the year. Newly generated loans and leases for the quarter had a weighted average yield of 5.89%, an improvement from the previous quarter's weighted average yield on new production of 5.57%.

As a result, average loan and lease yields for the portfolio improved to above 5%, even after adjusting for prepayment fee in the fourth quarter. Looking ahead in the first quarter of 2019, our pipeline remains healthy and supports the annual growth objective range of 5% to 7% that C.G. noted in his remarks.

Moving on to deposits. We continue to operate in a highly competitive Asian-American banking landscape for deposit-gathering activities. Total deposits of $4.75 billion increased 2.9% during the fourth quarter on a linked quarter basis and 9.2% from a year ago. Most of the growth in the quarter came from the interest-bearing deposits with the money market and savings increasing 6.4% and time deposits increasing 4%.

As a result of the fourth quarter loan production and deposit-gathering activities, our loan-to-deposit ratio for the fourth quarter was 97%, down from 99% in the fourth quarter last year.

I would now like to turn the call over to Ron Santanrosa, our Chief Financial Officer. Ron?

Thank you, Bonnie, and good afternoon all. First, I'd like to dive a bit deeper into our effective tax rate for the fourth quarter.

As reported, our provision for income taxes included a charge of $2.7 million. That charge included $2.1 million increase to the valuation allowance for the state of Illinois net operating loss carryforwards, a $1.4 million adjustment to temporary differences from the change in the federal income tax rate, and a $772,000 benefit from the lapse of the statute of limitations on certain unrecognized tax benefits.

These adjustments increased the effective tax rate to 41.9% for the quarter and to 31.1% for the year. Absent these adjustments, the effective tax rate would have been 28.1% for the fourth quarter and 27.9% for the year.

Our net interest income was $45.6 million for the fourth quarter, up slightly from $45.3 million for the third quarter. Even though the fourth quarter included $266,000 from the special FHLB dividend and $352,000 in prepayment fees, we saw loan and lease income increase $1.2 million as yields improved.

In addition, as deposits replaced borrowings, borrowing expense fell $844,000 as deposit expense increased $2.4 million. Again, loan to deposits ended the year at 96.9%.

Net interest margin for the fourth quarter was 3.51%, up 3 basis points from 3.48% for the third quarter. Again, while the special dividend and prepayment activity contributed 5 basis points to the fourth quarter margin, we saw loan and lease yields increase 12 basis points sequentially. Combined with the shift from borrowings to deposits, net interest margin, adjusted for the special dividend and prepayment activity, declined 2 basis points sequentially.

Turning to noninterest income for the fourth quarter, we saw a 1.4% improvement from the third quarter to $6.3 million. This increase reflects higher levels of deposit service charges and other operating income offset by lower gains on SBA loans. SBA gains were just under $1 million for the fourth quarter on a lower volume at $17.9 million and lower trade premiums at 6.5%.

For noninterest expenses, we had a 1% increase from the prior quarter to $29.3 million. As noted, we lowered incentive compensation, closed 2 branch offices and reduced staff late in the fourth quarter, incurring about $400,000 in severance retention and other costs. Later in this 2019 first quarter, we will close 4 additional branch offices that will come with additional costs.

In addition to these cost-saving actions, we will continue to invest in our business. In the fourth quarter, we continued with our seasonal advertising efforts and investment in technology.

Last, because the increase in noninterest expenses outpaced the increase in revenues, our efficiency ratio for the fourth quarter increased to 56.40% from 56.28%. Return on average assets for the fourth quarter was 0.83% and 1.08% for the year, while the return on average equity was 7.92% for the fourth quarter and 10.07% for the year.

Our tangible book value at the end of the year increased to $17.47 per share, and our tangible common equity ratio was strong at 9.84%. With that, I will turn it back to C.G.

Thank you, Ron. Hanmi results in the fourth quarter reflect our decision to grow in a safe and prudent manner, protect net interest margin and to improve our cost structure.

Given the competitive environment coupled with further headwinds from a flat yield curve, we are convinced that this approach is most judicious at this point in the credit cycle. Our strategic growth targets coupled with our cost-reduction and operational efficiency initiatives will put Hamni in a very good position to drive profitable growth as we look ahead to 2019 and beyond.

I look forward to sharing our continued progress with you when we report our first quarter 2019 results in April. Thank you.

Now that concludes our prepared remarks. We would now like to open up the call for questions.

(Operator Instructions) Our first question is from Chris McGratty from KBW.

Ron, maybe a question for you. You guys are very, very aggressive with the buyback in the quarter given the volatility in the market. So you're done with the buyback, I guess my question is with the stock a couple bucks below your average cost and growth is slowing a bit, like can you talk through the potential for another buyback? Or maybe remind us the capital targets that you're managing to?

Ron's looking at me. So yes, we'll be going to the board with a proposal to have another buyback plan, and the -- our target -- our capital target -- tangible common equity capital target is between 9% to 9.5%.

Okay. Doesn't the board meet in the next couple weeks? Is it fair to assume that the authorization might come at that point?

Possible, yes.

Okay. If I could switch to expenses. Could -- it seems like some of the benefits of the strategy are making an array in the numbers, which is a good sign. Can you help us with kind of the trajectory? I think you talked about the saving, the $5 million and $0.12 by the end of '19. I guess how much is in the numbers already? And maybe just help us with the kind of the glide towards full realization in terms of the dollar expenses on a quarterly basis.

About half of that $5 million idea is through branch consolidation, and the remainder of the branches will be consolidated as we complete the 2019 first quarter. A little bit more takes us up to about 2/3 of the total save that's related to staff reductions. The staff reductions will be on the same path as the branch consolidations. The remaining 1/3 of the save comes from ferreting out areas in the organization where we can save costs or renegotiate contracts, things of that like. That'll take a little bit longer. I would expect that last 1/3 to come in by the time we finish out the third quarter of next year. So I would anticipate that, that the full save is manifested as we get to the second half of the year and more so as we get to the fourth quarter.

Yes, third quarter of this year not next...

I'm sorry. Sorry, my years are mixed up. You're right.

We're already in '19, Ron.

Correct. Thank you.

Okay. And just to make sure I'm clear, Ron, the quarterly trajectory should kind of make it down to that 29-ish range by the end of the year. Is that all right?

I would be hopeful that we hit more like 28 by the time we get to the fourth quarter. So first, it will be a little bit elevated, if you will, because of payroll taxes and the rest. Second quarter, you'll start to see a bit more because the branch consolidation staff reductions would have taken into effect. And then the timing of the last 1/3, that's the one that's a little bit more difficult to predict. So I'm very confident that in the second half of '19, as C.G. corrected me, we'll start to see it and definitely by the fourth quarter.

Your next question is from Gary Tenner from D.A. Davidson.

A couple questions. I guess, first, I just want to ask about the provision. With the $2.1 million charge-off representing most of the charge-offs for the quarter and a specific reserve being carried against that, I'm curious as to the decision to increase the provision and pull that reserve back given strong credit metrics in general. Can you talk about the thought process on where we are in credit and your decision to build that reserve back up?

Well, the -- that one credit is an impaired credit that we started to deal with several years ago. So from a quantitative standpoint, as the asset quality metrics have indicated the -- they're really -- I mean, we're about as strong as you can get. But in the environment that we're in with some economic uncertainties, and frankly, with the CEO's pending departure, it would -- it made sense for us to start dealing with some issues relatively, what we call the quantitative side. And so the bulk of the provision is geared more towards the qualitative rather than the quantitative, if that makes sense.

Okay. So you're not necessarily seeing anything in the environment or in your internal credit scoring today but just in my understanding kind of where we are maybe in the expansion and any uncertainty?

Yes, correct. And as I mentioned, I mean, we've actually looked down -- tried to look down the road, and after discussions with my credit people, they're not seeing any type of meaningful charge-off activity in the first quarter. And their crystal ball only goes out that far, so that was very, I would say, positive, I would say, positioning from the credit people for my benefit.

And then just regarding SBA, given the government shutdown, is it just safe to say, as long as that goes on, there would be no gain on sale activity? Or there would be -- could there be SBA production but maybe the loans wouldn't qualify as SBA loans until after government shutdown is over. How does that working mechanically?

Well, we can't sell -- we can't conclude these SBA programs or loans with the government closed. But the activities are still ongoing. And so once the government shutdown is over, then we can immediately ramp up the closing and the sales activities. And so the marketing efforts have been ongoing, and they seem to be holding up fairly well notwithstanding the government shutdown.

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Our next question is from Matt Clark from Piper Jaffray.

Just first one from me on deposit pricing and with the fed that could be on hold for a little while. Can you just give a sense for where your CDs are, where -- what rate they're renewing into, and can -- the general competitive pressures that exist today, and maybe, again, with the fed that might be on hold for a bit.

I'll cover that. During the fourth quarter, we had CDs maturing at average cost at 1.14%. We retained them at 1.76%. But in terms of new money that's coming in, it seems like the competitors are -- some of the rates are offering as high as 2.7%. We are averaging about 2% for 12 months money for now.

Also from an [kind of one] standpoint, it seems that the competition has eased somewhat. And if the fed could sit on the sidelines for a while longer and let the market just kind of stabilize as far as these deposit products are concerned, I think that bodes well for not only us but the entire industry. So there seemed to be some early indications that the CD pricing environment seems to be stabilizing.

Okay, and then just switching gears to the loan side of things. Can you give us the weighted average rate on new equipment leases in the quarter?

Sure. The equivalent leases came in at 5.82% for the quarter.

Okay. And Ron or C.G., can you speak to that portfolio as that continues to increase in a relative basis? Can you give us a sense for what do you think normalized loss rates are on that portfolio?

The -- I think I said this in one of our prior calls. When we acquired this portfolio from that bank in Southern California, we had modeled in a loss rate of 150 basis points. The -- in reality, that -- the loss rate has been substantially less than 150, in fact, well below 100 basis points. The -- our model has been to trade off yield for our credit quality. And so even though our weighted average on this lease is, is [somewhere close to 6%] the loss rate of the portfolio is very, very modest. And so if we stay the course on this particular program, I see us maintaining a loss rate of 100 basis points or less. And so we'll see how this type of product performs in a slower economy, but so far, it has exceeded our expectations in terms of asset quality.

Okay, and then just last one from me on the tax rate, Ron. Is 28% the right number going forward or...?

Yes.

The next question is from Tim Coffey from FIG Partners.

The SBA premium, I think Ron mentioned, was in the end of his comments, was 6.5%. That kind of suggests that there's been kind of a steep dropoff in premiums at the back half of '18. Is there a point where it makes more economic sense to hold the SBA production rather than selling it, assuming of course the government reopens?

Yes, I mean, there is. We've, just intuitively, if we can get a premium in excess of 7%, that makes sense. But we're in the process of basically putting together a program relative to a profitability analysis that will enable us to determine when we -- well, one of the elements associated with the decision to sell it to retain. But the other things have to do with, as I mentioned earlier, the rate environment because it changes. And the duration and the type of -- the type of SBA loan that's originated. So depending on the loan, we'll make those decisions on a case-by-case basis but probably somewhere in the range of about 7%, maybe above it. If we get a premium, we'll probably sell.

Okay. And then with the rate hike in December, should we expect to see a similar level of prepayments like we saw this past quarter? Or could it increase?

Trying to predict a prepayment is just -- it has not worked for us. It's just been all over the board. The -- many of the prepayments that have taken place is just basically because of the sale activity associated with the commercial real estate held by our customers rather than refinance. And so it's just very hard to predict the -- where that's going to go. But as I tried to allude to in my presentation, what I'm really feeling good about is the way our -- the -- our loan products have gotten traction in terms of the upward pricing of these loans because of -- well, I should say, under Bonnie's leadership, we've been very focused on making sure that we get paid for the risks that we undertake when we make these loans. And so the fourth quarter activity in terms of ramp-up from third to fourth quarter, in terms of increases in the interest rate across all of our product lines, it just -- it gives me hope that we are at or near the bottom, and maybe if we get lucky with the fed, maybe we'll even see an uptick. But I feel good about our net interest margin trajectory.

Our next question is from Gary Tenner from D.A. Davidson.

I just had a follow-up question just as it relates to CECL, obviously now in 2019, can you update where you are? Are you already now running concurrent kind of systems to where you're starting to continue to gather data, any sort of initial thoughts to glean from anything you've seen so far?

Yes. No, we're well underway in terms of getting our CECL program up and running. We've been running some, I'd say, what-if scenarios, modeling if you will, and preliminarily, I don't think there's going to be any kind of a meaningful impact to our capital. But it's way too soon in the game, but we're well underway in terms of conforming and meeting the expectations of the regulators and our shareholders as far as if and when CECL is implemented that we'll be ready.

Okay. And I think this question may have been asked and answered to some degree, but if there's no rate hike, so in the course of 2019, just given your kind of discipline on pricing and where you see deposits, where do you think that sets your margin sort of directionally for '19 from a fourth quarter level, as long as no further hikes?

As I said, I -- one of the things that we have done a good job of is to -- and maybe we did it a little bit earlier than our competition, is to really focus and put a discipline in place as far as getting paid a higher rate, if you will, on these loans. And so as I look at the data every quarter, Bonnie's been very good about making sure that we get everything we can on each and every one of the loans. The trajectory is positive. And so if we can get a little bit of help on the liability side, i.e., deposit pricing, I believe that the market is finally willing to pay a little bit higher rate in the environment that we're in. And I think, ultimately, as -- on the use scenario, I'm fairly confident that, not only us but I think the entire industry, industry's net interest margin will have an upward movement.

And based on your commentary on what you're seeing competitively in the market on deposits, you're not fearful of the -- of just ongoing upward creep or lag on the deposit side?

Well, that could happen. I mean, in particular, in our, I would say, competitive arena, when a bank is having liquidity issues, they'll do something that is, I would say, difficult to ignore. And so absent a bank having some liquidity issues that causes them to put some really ridiculous rate out there, I think even in the Korean-American banking community, we're already seeing some signs of stability as far as deposit pricing is concerned.

Our next question is from Don Worthington from Raymond James.

Just a couple of small questions. In terms of expenses during the quarter, how much would you consider to be kind of nonrecurring? Is it kind of that $400,000 number related to the branch closers?

Yes.

Okay, okay. And then it looks like you've had about roughly $400,000 of OREO income the last 2 quarters. Do you expect that to continue or kind of diminish?

A very volatile number, Don, hard to predict when we get a benefit or when we have a charge.

Okay. And I guess lastly, Ron, you mentioned this, but I missed it. What was the amount of that special dividend you got from the FHLB?

$266,000. $266,000.

This concludes the question-and-answer session. I'd like to turn the floor back to management for any closing comment.

Thank you for listening to Hanmi Financial's fourth quarter and full year 2018 results conference call. We look forward to speaking to you next quarter.

This concludes today's teleconference. You may disconnect your lines at this time. Thank you for your participation.