Preferred Bank (PFBC) 2022 Q2 法說會逐字稿

Good day, and welcome to the Preferred Bank Second Quarter 2022 Earnings Conference Call. (Operator Instructions). Please do note that this event is being recorded today. I would now like to turn the conference over to Jeffrey Haas of Financial Profiles. Please go ahead.

Thank you, Joe. Hello, everyone, and thank you for joining us to discuss Preferred Bank's financial results for the second quarter ended June 30, 2022. With me today from management are Chairman and CEO, Li Yu; President and Chief Operating Officer, Wellington Chen; Chief Financial Officer, Edward Czajka; Chief Credit Officer, Nick Pi; and Deputy Chief Operating Officer, Johnny Hsu. Management will provide a brief summary of the results, and then we will open up the call to your questions.

During the course of this conference call, statements made by management may include forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Such forward-looking statements are based upon specific assumptions that may or may not prove correct. Forward-looking statements are also subject to known and unknown risks, uncertainties and other factors relating to Preferred Bank's operations and business environment, all of which are difficult to predict and many of which are beyond the control of Preferred Bank.

For a detailed description of these risks and uncertainties, please refer to the SEC required documents the bank files with the Federal Deposit Insurance Corporation, or FDIC. If any of these uncertainties materialize or any of these assumptions prove incorrect, Preferred Bank's results could differ materially from its expectations as set forth in these statements. Preferred Bank assumes no obligation to update such forward-looking statements.

At this time, I'd like to turn the call over to Mr. Li Yu. Please go ahead.

Thank you very much. Good morning, ladies and gentlemen. Thank you for attending our earnings conference call. I'm very pleased to report that the second quarter of the year was a record quarter in net interest income, net income, earnings per share, loan and deposits. They onset a corporate record NOI, credit quality and efficiency ratio was stable.

Net income for the quarter was $28 million or $1.87 a share. For the 6 months, it was $54 million and $3.61 a share. We are the beneficiary of recent Fed rate hikes, and we believe that we'll continue to be benefited by the future rate increases.

Highlights of the quarter is the loan growth, which grew $329 million or 28.6% annualized. For the half year, first half of the year, the loan growth was 22.4% annualized. We have analyzed the outsized loan growth in this quarter. And we have found that it was a combination of 2 factors. One is reduced pay off, pay down activities. Another reason is obviously that we had a strong origination activities during the quarter. In fact, during the quarter, April and May was extraordinarily strong. However, activities tapered off beginning June. As of today, the pipeline looks like that we're back to the level of 2021.

Deposit growth was $98 million or 7.3% for the quarter. During the quarter, we have seen that competition for deposits has intensified, mainly led by the major banks. And we believe the deposit costs will continue to increase, in fact, accelerate in the remainder of the year. This is also true because our customers are basically businessman and a savvy investors. They are very good with their money.

With recession looming in the air, our focus is also on credit quality. We have already began to deep dive in our portfolio. And so far, we have not noted any deterioration. We're currently in the third week of our regulator examination. And I'm hopeful -- I hope that there's nothing important will come out through this examination.

The nonperforming assets increased mainly due to that we paid off senior links on the property we foreclose, okay. Today, this property was carried on the board roughly 50% below appraisal values. All other areas of the quarter -- credit quality such as classified assets and past due accounts all seem to have improved from previous year. For the quarter, we have provided $2.9 million of provision that was mainly related to the large loan productions we have.

As of June 30, the bank's total loan portfolio consists of 13% fixed rate loans and 87% floating rate loans. Most of these floating rate loans do have floors. On June 30, 76% of our total loan portfolio is now fully floating with the net rate changes. And was the anticipated July Federal Reserve action, we believe at the end of June, July, there will be only over 2% or 3% of our loan -- total loan portfolios is not floating. With this, we believe our interest income for the remainder of the year will increase.

We also noted that deposit costs will definitely increase. We do believe, the increase in revenue will be more than enough to offset the cost increases. Our $32 million share repurchase program is progressing. As of today, we have completed $24 million of the $32 million that was set aside to repurchase. We hope the whole program will be completed in the third quarter.

Thank you very much. I'm now ready for your questions.

(Operator Instructions) Our first question will come from Matthew Clark with Piper Sandler.

Maybe starting on the margin, do you happen to know the average margin in the month of June? And is it fair to assume that the margin expansion in 3Q will be greater than 2Q now that you're fully off the floors, and you get the benefit of the new loans in the new pipeline at higher indices?

Well, the first one is easy to answer. The second one, not so much, Matthew. But yes, the June margin came in significant -- I shouldn't say significantly, excuse me, it did come in higher than the average for the quarter. You're certainly correct on that one, about 20 basis points higher than the quarter.

As for Q3, we still expect margin expansion, as Mr. Yu alluded to in his comments, read through that. Interest income increasing at a faster pace than interest expense. So we certainly expect some margin expansion in Q3, likely will not be to the extent we had in Q2, but certainly, it will be expanding.

Matthew, just to add on, that mathematically, [QSBS] leverage meaning loan increases versus deposit increases, it looks slightly that we'll be closer in this particular quarter. So that may be a module for the leverage factor should be considered.

Okay. Great. And then do you happen to have the spot rate on interest-bearing deposits at the end of June as well?

I do not, Matthew, I apologize. That was -- I was sitting here getting ready for this meeting realizing that was the one schedule I did not have in front of me. The other information I knew from memory, so I apologize.

Okay. I can follow up. And then on noninterest expense, in terms of the run rate, what's your expectation for the back half of the year?

Well, obviously, our run rate for Q2 was a little higher than I had previously mentioned. But I would expect Q3 to be similar to Q2. The wildcard there is going to be OREO expense. As you saw during the quarter, we had just under $500,000 in OREO expense to the extent that does not repeat. You'll see it down slightly. But we still have pressures. Salary pressures are still ongoing. Obviously, we're in a very inflationary environment. I don't have to tell a lot of people that, fortunately, lease costs are fixed, et cetera, et cetera. But things will continue to go up as we continue to operate in this environment. But -- we were pleased to see even though we went over 17% on the expense side that we still landed at 29% on the efficiency ratio.

Our next question will come from Gary Tenner of D.A. Davidson.

I wanted to follow up a little bit on the margin questions. And even in an environment of presumably some slower pace of loan growth, your interest income is going to, I would imagine, go up pretty significantly just from the rate side. So Ed and Li, as you talked about the outlook for NIM expansion for third quarter when you get the full benefit of the June hike and most of a quarter's worth of presume 75 basis point hike next week. It's surprising to me that it would -- that combination doesn't get you a little better expansion in 3Q than 2Q. So could you maybe just give us some sense of kind of what your deposit rates look like right now in terms of CDs or other deposits because that seems to imply a pretty significantly elevated deposit data kind of the second quarter into (inaudible)?

First question to be answered is that, during the Q2 period, we were 2 rate increases, May and June, okay? And because that many of our loans was operating lower than [flow], those times. So not every loan was affected and especially, I mean, June, the increase is only -- is affecting -- less than 1 month, okay? As I reported to you earlier, now 76% of our total loan portfolio is now fully floating. We're expanding -- expecting that these loans will be having an increase that is not showing in the second quarter.

So likely the third quarter expansion will be pretty good. But as I said also earlier, deposit is something that I look control at this point of time. The reason is that you see major banks -- for instance, Citibank and HSBC, they have loans. Their deposits probably is always the highest in the nation. If you look at the posted great records, Citibank is offering deposit client -- effectively paying people 3%, okay -- a little portfolio TDS amount.

And Goldman Sachs' Marcus Bank is having PCBs at 2% with upside [kicker] adjustment meeting. So with these situations in the picture, that every bank I expect will see their deposit cost increases. Water always seeks its lowest level. And it's a matter each institution will be different in terms of the speed in getting to that particular level. And as I also reported, we are a business bank. Our investors profile is different than many of the banks because there is many consumers. So we're expecting also a little bit faster pace in our cost adjustment.

And Gary, on the CD side, I think you asked, 1 year, we're offering [1.18] on 1 year CDs. To add on to Mr. Yu's point, obviously, we know the CD portfolio and how that rolls off and rolls back on, but it's that large money market interest-bearing transaction account portfolio where there are some larger clients in there. And as Mr. Yu said, they do manage their money very closely. So we have to keep up.

To illustrate that, beginning in April, we have customers just break their CDs -- TCDs, pay the penalty, put the money in treasury paper, those days are making 2%, okay? And we also -- now that we see customer all over the place, break their OTCD, place for premium that was because the old OTC rate was very low. They hold it in account, waiting to reinvest when the rate changes. Some of them are reinvested, many of them have not. So these are the actions -- it's hard to quantify that. I mean, at the early stage of the quarter.

I appreciate the color.

I don't take to be evasive, but that's a fact.

Our next question will come from Andrew Terrell with Stephens.

And maybe just to ask the margin question just in a little different fashion. You gave us the month of June was about 20 basis points higher than 2Q average, which would, I guess, put us just a little bit south of 4% on the net interest margin in June. Do you think in 3Q '22 for the full quarter average, you still see expansion from that just shy of 4% level?

Absolutely. Yes. No, there's no question. I didn't want to be misunderstood on the earlier comment. I just wanted to temper the fact that we will see margin expansion. But will we see 30 basis points of margin expansion, I don't know. I'm not necessarily expecting that much, but it will be good.

Yes. Okay. I guess, for Mr. Yu, kind of a bigger picture question. I guess with even more kind of rate hikes coming through, and you're already putting up really solid profitability, I would think you'll become even more profitable, capital is already in a solid spot. So I guess, my question is more on just on the reinvestment side. Where are you focused on making investments today? And then are there any investments that may have been kind of longer term that you're now kind of more comfortable focusing on and spending on just given the improved rate backdrop and the improved profitability profile?

We actually, I mean, is cautiously stepping forward, okay? First of all, that we know we are accumulating capital in a faster pace. But in the meantime, I have to worry about the economy, whether when the recession is coming already in, how long the recession? How severe it is? In this game, cannot afford to make mistake. So likely, we're going to be cautious holding the capital before we commit to it. When we're ready to do it, obviously dividend will increase. And we will seek, obviously, additional buyback. And we also probably would put some of our money in securities, hope by then, the price is much more attractive. So these are the areas that we would do, okay?

Okay. That's helpful. I appreciate it. And then another one for me kind of on rate sensitivity. We've heard some -- some other institutions talk about kind of tempering especially asset-sensitive institutions. Talk about tempering the rate sensitivity kind of as we progress through the cycle. Is that something just given how asset-sensitive you are that you would consider doing as we kind of approach, I guess, a much higher rate cycle.

Andrew, can I ask how -- you just talk about rate tempering, can you elaborate on what that means?

Yes. I mean I think banks are doing it in kind of a variety of fashions. But just trying to -- I would assume mainly just through swaps, but just tempering rate sensitivity with that lever.

Well, obviously, that when we get in this later stage of the increases when we think about our pricing level in different manners, okay. And we will certainly adjust our full formula to make it more market competitive. We may want to consider a whole lot more fixed rate loans by the clients. But all this is we have to just be careful every month -- every week, every month and going forward. And we know that by the end of this year that we need to really take a serious look about how to reposition our total portfolio.

Our next question will come from Steve Moss of B. Riley Securities.

Maybe just one last question on liabilities repricing here. It sounds like, obviously, you're seeing changes in customer behavior. Just wondering how -- what's the duration of securities of the CD book these days, kind of sounds like it's probably shortened.

I believe it's between 5 and 6 months right now, Steve.

Okay. And then -- that's helpful. And then in terms of just -- on the loan pipeline here, you guys had a great quarter of loan growth. Do we see some of that carry over here into the third quarter before maybe taking it off to more typical levels? Just kind of get a feel for near-term trends.

[Well, why don't you] answer that first?

Well, we look at it -- the second quarter was extraordinary, and I think that our pipeline continues to be quite healthy, but you will not be repealed in the second quarter -- probably taper down to, I would say, as Mr. Yu mentioned earlier, in the 2021, double.

Okay. Great. And then just kind of curious on loan pricing, where are you guys putting on new loan yields this period?

It depend on credit and generally we'll put on [fine leaders] -- with the floor, okay? Loan pricing will be anywhere between [5.2%] in a quarter. I mean, that's the most happening in our range pay. And usually, the floor will be the starting entry rate of the most.

Okay. Great. And then in terms of just kind of -- I hear Mr. Yu in terms of -- more concerned about the reserve and -- or more concerned about the economic outlook. So how do we think -- how are you guys thinking about the reserve -- what's the -- are you going to be -- do you expect to add more qualitative factors maybe to the reserve as we go forward? Or just kind of provision expense probably tracks loan growth?

I will let Nick answer that, but I want to tell you, our qualitative number is already compared to industry, our qualitative factor is probably high, okay?

Yes. Currently, we're higher than our peer groups at this time. So to answer your question, Steve that, management is still continuously applying kind of a cautious posture when reviewing both quantitative and as well as qualitative side. And also kind of trying to be a little bit conservative on our exposure, supporting the forecast and also pure factor side because there's a lot of economy and uncertainty lying ahead.

So it's kind of a mix -- kind of indication to the bank for reserve side. So there's some of the inactive things, GDP inactive and supply chain disruptions -- and freeze of hiring and employment rate may be coming back. We don't know. This morning we have initial plan higher than I expected. On the other side, we have a good retail sales and we have still lower our employment rate at this time. Mortgage side has been dropped a little bit. So we still take like cautious kind of a pause rate this time. When we look at the reserve and definitely, we are just like Q2, we check up a little bit on our external economy factors to set aside a little bit more reserve. Mr. Yu?

Well, thank you. I have nothing more to add.

Okay. One last one for me. Just on the OREO property here. Just kind of thought -- just kind of wondering on the status on disposition. I recall being you guys mentioned the desirable property -- is that something that could be off your books in the near future here?

Nick, I'll let you answer that.

Yes. We'll freshly take the title now, and we work aggressively with the local reputable broker and get the house ready for the marking this coming Friday, I believe. It's officially a well put on market for sale. And we hopefully by Q3 or Q4, we can get rid of this OREO property.

By the way, this property is a luxurious house above the 10,000 square foot on the block -- in the -- rich community cluster for Barbara. So in general, that's a so-called quite nice neighborhood.

Our next question will come from Tim Coffey with Janney.

If loan growth is going to revert to, say, the 2021 level, does that imply, say, low double-digit kind of annualized growth rate?

Yes, we can, it was guiding 2021 between high single to low double, okay? So hopefully, that -- hopefully, that we can maintain the same level of growth in 2021, which is the low double-digit.

Okay. Okay. Great. And then with the appetite for bringing on more broker deposits, we even take a look at that line going all the way back to, say, the less rate hike, it's been -- the balances have been kind of a narrow range, but this situation seems a bit different right now.

Did you hear me chuckle when you mentioned broker deposits, Tim? We have no appetite right now. And that's why I think when you look at Q3 and the deposit growth we did manage to get, we let all the brokered money that matured in Q3 run off. We didn't replace any of it. We're certainly not prepared to pay 3% for 1-year money from the wholesale market.

Obviously, the retail market has not caught up to that. So it's been a very interesting dynamic to watch. But -- as of right now, we have no appetite for brokered money. That could certainly change in the future, but we obviously have limitations, and we want to stay well below those limitations anyway.

This will conclude our question-and-answer session. I would now like to turn the conference back over to Mr. Li Yu for any closing remarks.

Thank you very much. As usual they will stay on the phone that if you have any further questions, please call us. Thank you for your attention. Bye-bye.

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