Jul 24, 2015
Executives
David Morimoto - Executive Vice President and CFO Catherine Ngo - President and CEO Lance Mizumoto - President and Chief Banking Officer Bill Wilson - EVP and Chief Risk Officer
Analysts
Joe Morford - RBC Capital Markets Aaron Deer - Sandler O’Neill John Moran - Macquarie Capital Don Worthington - Raymond James Jackie Chimera - KBW
Operator
Good afternoon, ladies and gentlemen. Thank you for standing by.
And welcome to the Central Pacific Financial Corp. Second Quarter 2015 Conference Call.
During today’s presentation, all parties will be in listen-only mode. Following the presentation, the conference will be open for questions.
This call is being recorded, and will be available for replay shortly after its completion on the Company’s Web site at www.centralpacificbank.com. At this time, I would like to turn the conference over to David Morimoto, Executive Vice President and CFO.
Please go ahead.
David Morimoto
Thank you, Laura, and thank you all for joining us as we review our financial results for the second quarter of 2015. With me this morning are Catherine Ngo, President and Chief Executive Officer; Lance Mizumoto, President and Chief Banking Officer; and Bill Wilson, Executive Vice President and Chief Risk 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 the risks related to forward-looking statements, please refer to our recent filings with the SEC. And now, I will turn the call over to Catherine.
Catherine Ngo
Thank, you, David, and good morning, everyone. We are pleased to report on another solid quarter of financial performance, which resulted in net income of $12.3 million.
While there were significant one-time income and expense items during the quarter, our core net income remains strong. David Morimoto will provide more color on these items later on the call.
Our continued focus on expanding and strengthening our customer relationships has generated meaningful growth in both small and core deposit balances over the previous quarter. Our asset quality has also improved with a significant reduction in non-performing assets.
The overall strengthening of our balance sheet contributed to an improved net interest income quarter-over-quarter. At the beginning of the quarter on April 1st, we completed a $75 million stock repurchase in connection with an underwritten secondary offering made by our two largest shareholders.
Combined with additional shares that were repurchased in the open market, approximately 3.5 million shares were repurchased during the quarter, which is reflected in the increased earnings per share for the quarter. Since the first quarter of ‘014, our Company repurchased a total of 11 million shares, representing over 25% of our common shares issued and outstanding.
Our current capital ratios remain in excess of a regulatory well-capitalized minimum levels designated under Basel III which was implemented earlier this year. Our Board of Directors also maintained a quarterly cash dividend of $0.12 per share, payable in September of this year.
Economic conditions in Hawaii continue to be favorable as evidenced by a stable rate of growth in key economic indicators. Visitor arrival to Hawaii increased by 1.3% in 2014 over the previous year and are on track to increase by 2.5% in 2015.
Visitor expenditures are projected to reach $15.1 billion by the end of this year, representing an increase of 2% over 2014. Construction activity continued to ramp up in the first half of the year and appears promising throughout 2016 with building permits valued at $4.7 billion in 2015 and forecasted at $5.2 billion in 2016.
The median home price has returned to an all-time high at $700,000 for single family homes as of June of this year and is projected to reach $710,000 by year-end. The labor market also continued to expand throughout the first half of 2015.
Job growth increased by 1.1% in 2014 and is expected to increase by 1.2% in 2015. The Hawaii unemployment rate has held steady at 4.1% throughout the first five months of the year and declined to 4.0% in June compared to 5.3% nationally and is forecasted to decline by -- to 3.9% by year-end.
At this time, I would like to ask David Morimoto, our newly appointed Chief Financial Officer to review the highlights of our second quarter financial performance. David?
David Morimoto
Thank you, Catherine. Net income for the second quarter of 2015 was $12.3 million or $0.39 per diluted share compared to net income of $10.4 million or $0.29 per diluted share reported last quarter.
We will provide color on a few non-recurring items that impacted our second quarter results. Return on average assets in second quarter was 1% and return on average equity was 9.93%.
Net interest income increased by $1.1 million or 2.9% sequential quarter as average interest earning assets and average loan yields, both increased. The sequential quarter increase in loan yield was primarily driven by $400,000 increase in loan fees and $200,000 increase in loan prepayment penalties.
Net interest margin increased to 3.32% from 3.28% last quarter. And again, this was positively impacted by the increases and loan fees and prepayment penalties.
In the second quarter, we executed an investment portfolio restructuring where we sold roughly $120 million of available-for-sale securities, yielding 1.35% and reinvested the proceeds in a live amount of new securities yielding roughly 2.70%. The repositioning will increase net interest income by roughly $135,000 a month going forward.
At June 30, 2015, the investment portfolio weighted average life was 5.5 years. The overall balance sheet remains neutral to slightly asset sensitive.
Net interest income decreased by $3.1 million or 27.4% sequential quarter. The decrease was primarily driven by the $1.9 million pretax loss on investment securities sales related to the investment portfolio repositioning and a net $0.7 million decrease in unrealized gains, losses on loans held for sale and interest rate locks.
Non-interest expense decreased by $1.6 million or 4.6% sequential quarter. The decrease was primarily attributable to a one-time $2.4 million reversal of an accrual for a former executive’s retirement benefits that will not be paid, lower legal and professional services fees of $0.6 million and lower amortization of mortgage servicing rights of $0.5 million.
These decreases in expense were partially offset by a $2 million contribution to the CPB Foundation. The efficiency ratio for the quarter declined slightly to 71.47% compared to the 71.73% in the previous quarter.
The efficiency ratio in the second quarter was negatively impacted by the non-recurring loss on investment securities sales and CPB Foundation contribution, partially offset by the non-recurring salary and employee benefit accrual reversal. Our effective tax rate in second quarter was 39.2% versus 35.7% in the first quarter 2015.
In the current quarter, our effective tax rate was inflated by an additional $0.6 million in non-recurring income tax expense related to a reduction of our deferred tax liability for FHB, Federal Home Loan Bank stock dividends. We would expect our normalized effective tax rate to approximate 35% to 37% going forward.
During the quarter, we recorded a credit to the provision for loan and lease losses of $7.3 million compared to a credit of $2.7 million recorded in the prior quarter. The credit to the provision for loan and lease losses was primarily attributable to improving trends in credit quality during the quarter.
Non-performing assets declined by $8.7 million or 21.2% sequential quarter and we also recorded net recoveries of $2.8 million during the second quarter. As mentioned by Catherine, during the second quarter, we repurchased roughly 3.48 million shares of common stock at a total cost of roughly $80 million.
The average cost was $23.01 per share repurchase. At June 30, 2015, the remaining buyback authority under the share repurchase program was approximately $24.2 million.
That completes the financial summary. And now I will turn the call over to Lance.
Lance Mizumoto
Thank you David and good morning everyone. Overall, we remained on track with our business development initiatives and continue to benefit from the improving markets and economic conditions in Hawaii.
As of June 30, 2015, compared to the end of the previous quarter, total loans increased by $38.3 million or by 1.3%. The sequential quarter growth was driven by the consumer segment with consumer loan balances increasing by $23.2 million or 6.6% and residential mortgages increasing $51.7 million or 4%.
While the production of commercial and business loans were on track with our projections, net loan growth was impacted by the timing of payoffs with the larger payoffs related to construction projects. Commercial and industrial loan balances as well as commercial mortgages remained relatively flat.
Construction loan balances declined by $29.2 million or by 25.9% and we project that our construction loan balances will be relatively stable throughout the remainder of the year. Loan growth was also impacted by the timing of some loans that we anticipated would close during the second quarter that will not close during the third quarter.
Total deposits on a quarter-over-quarter basis remained relatively flat, declining slightly by 0.2%. However, we realized a significant shift from time deposits to core deposits, primarily driven by our efforts to expand core relationships with our customers.
Non-interest demand account balances increased by $37.6 million or by 3.6%. Interest bearing demand increased slightly by $1.3 million or by 0.2%.
Savings and money market account balances increased by $13.9 million or 1.1%. These increases were offset by a reduction in time deposit balances of $59.2 million or 5.4%.
On a year-over-year basis, total deposits were up by $179.7 million or by 4.5%. Core deposits increased by $208.8 million or 7.1% and time deposits declined by $29 million or 2.7%.
From a service delivery perspective, we are making good progress in expanding and integrating our channels. Enhanced online bill payment features were launched at June 1st which included same day bill payment and an expedited person-to-person or P2P payment function.
CardValet, a customer controlled security monitoring application for debit card users was introduced on July 1st. We are also scheduled to begin reissuing EMV chip embedded debit cards to our customers in August as well as to go live with Apple Pay for our mobile banking customers.
That completes my summary on our business development activity. And I will now turn the call back to Catharine for closing remarks.
Catherine?
Catherine Ngo
Since the recapitalization of our company in 2011, we have continued to make great progress as reflected in 18 consecutive quarters of profitability, the successful execution of our stock repurchase programs and the reestablishment of our market presence in Hawaii. I am personally grateful for having have the opportunity to participate in the Company’s turnaround under the leadership of John Dean who is continuing to support our endeavor to become a high performing bank as Exec Chair and Board Chair of both our bank and holding company.
As a newly appointed CEO of our Company, I am focused on continuing our mission of building a quality institution around our customers and to continue supporting the businesses and residence of our communities through quality relationship. I would like to take this opportunity to thank our shareholders, customers and employees for their continued support and confidence as we work toward achieving our goal.
At this time, we’ll be happy to address any questions you may have.
Operator
We will now begin the question-and-answer session. [Operator Instructions].
And our first question will come from Joe Morford of RBC Capital Markets.
Joe Morford
I guess first question was just on credit, it’s great to see the improvement this quarter. The recoveries in particular seem to a little outsized.
So, is this just a timing issue or are you seeing some kind of broader improvement in credit trends overall? And I guess related to that, how should we be thinking about the pace of negative provisions or reserve releases going forward?
Catherine Ngo
Let me turn that question over to Bill.
Bill Wilson
I think the marginal recoveries are the residual of our more challenging times in the past. We would expect to see those diminish as we move into the future.
In general as to provision, I think we’ve enjoyed fairly or continued credit quality improvements that’s been reflected in the declining reserve ratio which is provided for credit releases. So, all things being equal, I would think that trend would likely continue and we would probably continue to move closer in the direction of our program.
Joe Morford
And then I guess the other question was probably for Lance, just trying to get a little better handle on what to expect for loan growth in the back half of the year. I understand the outsized construction paydowns this quarter and you expect it to be stable.
But I guess looking at some of the other portfolios, maybe the pace of growth that you might expect and are you looking to supplement that at all with any purchases or increased participations?
Lance Mizumoto
I’m cautiously optimistic about the third quarter. It’s hard to project for the next six months, so I think in the near future; again we’re optimistic that our growth will be pretty robust.
As I look at the pipeline going to the third quarter, we do have a number of loans that should be closing. As I mentioned earlier, we had some loans that for timing, for reasons didn’t close in the second quarter that will close in the third quarter.
So, and these are commercial real estate related, not construction, more income property related type products, as well as some C&I loans that we expect to close. So, again I’m pretty optimistic about third quarter.
Operator
And the next question will come from Aaron Deer of Sandler O’Neill.
Aaron Deer
I just wondered if I could get a little color on what you guys are seeing in the mortgage business. I know there is some noise in those lines this quarter from the rate changes but just wonder what you are seeing amongst your customers and in terms of what kind of originations and sale activity we might see in the back half of the year.
Catherine Ngo
Let me turn that question over to Lance.
Lance Mizumoto
We’re seeing a little bit of slowdown in the applications but I think our production has been pretty stable. On the HELOC side, we’re pretty encouraged by the number of referrals we’re getting from our branches and other lines of business.
So, when you put together the residential mortgage and the HELOC production, I’m pretty optimistic going forward that we’ll have some quick production.
Aaron Deer
And then Catherine, with the -- you guys appear to continue to be static [ph] with the share repurchases even beyond the big repurchase done at the beginning of the quarter. What are your thoughts on capital management going forward?
Should we expect to see a similar pace of open market repurchases or what do you think in there?
Catherine Ngo
So, the thinking is we will continue on our pace with dividends. So, dividends will continue to be in what I think of is a peer range of -- so payout ratio in the 40% range and yield to 2% to 2.5%.
And then on top of that, we do plan on an ongoing repurchase program to eliminate the incremental annualized retained earnings. But I don’t think you will see the kind of the repurchases that you saw in Q1, Q2 of 2014 and then earlier this quarter.
So there’s more significant repurchases. I don’t -- we don’t currently plan for those kinds of repurchases as opposed to an ongoing repurchase program to eliminate retained earnings.
Aaron Deer
And then David, not to let you off the hook. I just wondered if you could provide some color behind the reposition in the securities this quarter.
What was the kind of -- I guess earn back on that trade and just the thinking behind that?
David Morimoto
Sure, thanks but not letting me off the hook. Over the last year from asset liability standpoint, we have been focused on trying to add to the loan portfolio, more asset sensitivity.
So we did see -- we have seen a pickup in home equity, loan originations, we saw portfolio greater percentage of adjustable rate mortgages in the residential mortgage area. We have seen a pickup in construction and business lending.
And then finally we obviously have a small allocation to shared national credits. All of those loan categories are variable categories.
So, we have been increasing our asset sensitivity. And what we saw in the second quarter was an opportunity to enhance profitability with a small repositioning of the investment portfolio.
So, $120 million, roughly 2% of assets, we did extend duration on that portion of the balance sheet. It’s going to perhaps roughly 130, 135 -- 135,000 per month going forward, the earn back is about 14 months.
Operator
The next question is from John Moran of Macquarie Capital.
John Moran
One more follow-up on the repositioning there. When in the quarter was that completed?
And I guess what I’m getting at is if it was late in the quarter, is there a margin impact to kind of think about going forward?
David Morimoto
Yes, good question John. If I recall correctly, I think it took place in May, April.
So, we have had it in the quarter part two to three months.
John Moran
And then the other one kind of margin related. And I’m sorry if I missed it in the prepared remarks.
But the new money loan yields, if you guys could run through kind of where those are coming on at?
David Morimoto
In the second quarter John, it was on a lower end. Again there was some focus on adjustable variable rate loan origination.
So the weighted average new loan origination yield was roughly 360 in the second quarter.
John Moran
Okay, 360 in 2Q. Okay, that’s helpful.
But again, there was a little bit of mix shift there too. And it sounds like some of the deals that you guys had that were lined up for 2Q that dragged into 3Q or are probably sitting in buckets that might be a little bit north of that yield.
Is that fair to say or am I reading too much into that?
David Morimoto
It might be slightly higher.
John Moran
And the last one that I had was just on the OpEx run rate, kind of ticked down pretty good and I know that there is some moving pieces and noise in this but on a core basis kind of ticked down from where we were running in the first quarter. And there is probably some seasonality in that too.
But if you could just give a quick update on the outlook there and then where you are in the tech initiatives?
David Morimoto
I can start on the OpEx run rate. The guidance there is pretty similar to what it has been.
We’re targeting a range of $32 million to $34 million per quarter on OpEx.
Catherine Ngo
And in regards just specifically on the tech initiative, so when we spoke last quarter encore system which is our front-end branch teller platform and also supporting our back office. The pilot is underway.
We actually connected the second pilot last week and things are looking very good. So, we do currently expect a full rollout before the end of the year.
And then on the other significant project that we talked about in earlier call, the enterprise data warehouse, we continue to make significant progress on that and expect to see the deployment of data pouring to the new warehouse key information before the end of the year. But in the meanwhile and I believe we talked about this in earlier call, we’ve already started applying our analytics to our existing warehouse and we’re seeing lift from the analytics work on our loan and deposit portfolio.
Operator
And next we have a question from Don Worthington of Raymond James.
Don Worthington
In terms of the reduction in CDs during the quarter, was that something that that you kind of intentionally wanted to do was allow some of those deposits to roll off or not to pay up to keep them?
David Morimoto
That was -- some of it was on the government; they support deposit side, so those deposits tend to be a more volatile. And actually -- so we did see that run off right at quarter end and some of those large CD balances have already returned.
So it was more just a little bit of volatility in the large CD area. It wasn’t part of any type of asset liability strategy.
Don Worthington
And then it looks like a portion of the reduction of the NPAs was due to sale like about $8.3 million, just curious if there is anymore color on what that was?
Catherine Ngo
Let me turn that question over to Bill.
Bill Wilson
There was one large loan that we were fortunate enough to exit. So, the bulk of it was a single asset.
Operator
[Operator Instructions]. And our next question will come from Jackie Chimera of KBW.
Jackie Chimera
As I look at the remaining NPAs, which you have done incredible work here getting these down to where they are. How much of that $32 million that’s left is legacy credit versus -- just a percentage, versus what’s the general operating normal to see NPAs?
Catherine Ngo
Let me turn that question over to Bill.
Bill Wilson
Of the remaining $32 million, all of it is in Hawaii, about $10 million is in the residential mortgage business which is -- it ebbs and flows and then the balance is just more traditional community bank C&I type business, so what we consider are normal activity in the NPA bucket.
Jackie Chimera
So, is it fair to say that all remaining NPAs are now just general and ongoing in this quarter, took care of the last workouts from the crisis?
Bill Wilson
I think most of the -- it’s fair to say that the legacy credits have largely worked to the system and that we still see some opportunity for improvement. But we’re getting close to a normal run rate.
Jackie Chimera
Congratulations on that. That’s a huge accomplishment.
I guess you’re going really good about that. My next question, this one is probably for Lance.
If I understood you correctly, you expect construction balances to be flat for the next quarter and if that’s the case, I’m just wondering why we wouldn’t see any other findings or growth there?
Lance Mizumoto
It’s hard for us to control the timing of fundings and pay downs. And again while we anticipate some activity on the construction side, there are some chances that we might see some pay downs in existing projects.
So net-net, we may not see growth in the construction area. And we’re more focused on income property type lending.
I think we’re more optimistic and want to focus on both the C&I and the commercial or income property front.
Jackie Chimera
And then just lastly, the consumer growth in the quarter; was that HELOC production that you’d talked about or were there some other portfolios that increased in there too?
Lance Mizumoto
Part of it was HELOC production, the other part was accounting that we did on the preapproved consumer general campaigns that we’ve done over the past few years. And then we did take advantage of an opportunity to purchase an auto loan portfolio.
Jackie Chimera
And was the purchase relatively large to the growth?
Lance Mizumoto
Yes, it was about 28 million.
Operator
And next we have follow up question Joe Morford.
Joe Morford
Actually my other two questions were just answered. Thanks so much.
Operator
And this does conclude our question-and-answer session. I would like to turn the conference back over to Catherine Ngo for any closing remarks.
Catherine Ngo
Thank you very much for participating in our earnings call for the second quarter of 2015. We look forward to future opportunities to update you on our progress.
Operator
The conference is now concluded. Thank you for attending today’s presentation.
You may now disconnect.