Oct 25, 2017
Executives
David Morimoto – Executive Vice President and Chief Financial Officer and Treasurer Catherine Ngo – President and Chief Executive Officer Anna Hu – Executive Vice President and Chief Credit Officer
Analysts
Jackie Bohlen – KBW Aaron Deer – Sandler O’Neill Laurie Hunsicker – Compass Point Don Worthington – Raymond James
Operator
Good day, ladies and gentlemen. Thank you for standing by and welcome to the Central Pacific Financial Corp Third Quarter 2017 Conference Call and Webcast.
During today’s presentation, all parties will be in a 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 website at www.centralpacificbank.com. I’d like to turn the call over to Mr.
David Morimoto, Executive Vice President and Chief Financial Officer and Treasurer. Please go ahead sir.
David Morimoto
Thank you, Phil, and thank you all for joining us as we review our financial results for the third quarter of 2017. With me this morning are Catherine Ngo, President and Chief Executive Officer and Anna Hu, Executive Vice President and Chief Credit Officer.
During the course of today’s call, management may make forward-looking statements. While we believe these statements are based on reasonable assumptions, they involve risks that may cause actual results to differ materially from those projected.
For a complete discussion of risks related to forward-looking statements, please refer to our recent filings with the SEC. And now I’ll turn the call over to Catherine.
Catherine Ngo
Thanks David, and good morning everyone. Overall, we relied another solid quarter of financial performance, that resulted in net income of $11.8 million and diluted earnings per share of $0.39.
Net income on a year-to-date basis of 2017 was ahead of the first three quarters in 2016 by $2.1 million or 6.1%. David will provide more detail in his financial summary.
Loan and deposit growth continued to be stable with the favorable economic and market conditions in Hawaii together with our focused on asset quality. On the sequential quarter basis, total loans increased by $44.6 million, or by 1.2% which was primarily driven by our commercial mortgage and resi mortgage portfolios.
On a year-over-year basis, total loans increased by $196.7 million, or by flat 5.7%. Hawaii loan balances increased by 8.5% from a year ago while Mainland loan balances declined by 14.4%.
Asset quality remained strong and non-performing assets declined to $6 million or 0.11% of total assets from $9 million in the previous quarter. Total deposit growth was also stable, with increases of $41.1 million, or 0.8% on a sequential quarter basis, and $408.9 million or 9% year-over-year.
Our capital plan and share repurchase program were on track after the first three quarters of this year. Of the $30 million share repurchase authority for 2017, we have bought back just under 700,000 shares year-to-date, at a total cost of $21.3 million, which represented 2.3% of the total shares outstanding as of December 31, 2016.
The board declared a quarterly cash dividend of $0.18 per share, which is consistent with the previous quarter and payable to shareholders on December 15, 2017. The economic outlook for Hawaii continues to be generally positive for the remainder of this year, primarily the steady performances in our visitor industry, labor market additions and personal income growth.
For the first eight months of this year, visitor arrivals increased by 4.7% to $6.3 million, and visitor spending increased by 8.5% to $11.3 billion compared to the same period a year ago. Construction activity in Hawaii remains robust, however, the pipeline of new projects have been easing after several years of rapid expansion.
The total value of building permits issued in the first eight months of this year was 5.8% higher than in the same period a year ago, however, the total outstanding permit are projected to decline by 3.4% to $4.7 billion in 2017 compared to 2016. The job growth in the civilian labor force remained relatively flat in August compared to the same period a year ago, with an increase of 0.1%.
For the month of September 2017, the Hawaii unemployment rate was 2.4%, which match the historic mode for the State of Hawaii. The current forecast for other economic indicators in 2017 compared to the previous year included increase in real property – excuse me, real personal income by 1.7%; GDP growth by 1.4%; and a higher Honolulu consumer price index by 2.5%.
At this time, I’ll turn the call over to David to review the highlights of our third quarter financial performance. David?
David Morimoto
Thank you, Catherine. Net income for the third quarter of 2017 was $11.8 million or $0.39 per diluted share compared to net income of $12 million or $0.39 per diluted share reported – recorded last quarter.
Return on average assets in the third quarter was 0.85% and return on average equity was 9.16%. Net interest income increased by $0.4 million sequential quarter and our recorded net interest margin declined by four basis points to 3.25%.
The sequential quarter increase in net interest income was primarily the result of decreases in loan balance and loan yields. The sequential quarter decline in net interest margin is attributable to an increase in the costs of large time deposits, particularly public fund CD balances.
During the third quarter, we recorded a credit to the provision for loan and lease losses was $0.1 million, compared to a credit of $2.3 million recorded in the prior quarter. Net charge-offs in the third quarter totaled $1.5 million, as compared to net charge-offs of $0.3 million in the prior quarter.
At September 30, our allowance for loan and lease losses was $51.2 million or 1.41% of outstanding loans and leases. Third quarter 2017 other operating income totaled $9.6 million, and other operating expense for the third quarter totaled $33.5 million.
Current quarter other operating expense was negatively impacted by $0.6 million non-recurring expense for a core deposit campaign and $0.4 million in non-recurring salary and benefit expense. The efficiency ratio for the third quarter of 2017 was 65.0%, while the efficiency ratio for the first nine months of 2017 was 63.9%.
In the third quarter, our effective tax rate was 35.0%. We expect by normalized effective tax rate to approximate 34% to 36% going forward.
During the third quarter of 2017, we repurchased roughly 335,000 shares of common stock at an average cost per share of $30.13. We’ve also repurchased an additional 45,000 shares of common stock month-to-date in October at an average cost of $32.41.
That completes the financial summary. I’ll now return the call to Catherine.
Catherine Ngo
Thank you, David. On a year-to-date basis after three quarters, we realized meaningful growth in loans and deposits, primarily driven by the favorable economic conditions in Hawaii and by our focus on strengthening customer relationships and booking quality assets.
Our continued efforts to improve operational efficiency through streamlining and technology advancements will also play a key role in the remainder of this year and beyond. I would like to take this opportunity to thank our employees, customers and shareholders for their continued support and confidence in our organization as we work toward achieving our 2017 goals.
At this time, we will be happy to address any questions you may have. Thank you.
Operator
We will now begin the question-and-answer session. [Operator Instructions] The first question comes from Jackie Bohlen with KBW.
Please go ahead.
Jackie Bohlen
Hi, good morning, everyone.
Catherine Ngo
Good morning.
David Morimoto
Good morning.
Jackie Bohlen
David, the non-recurring comp-related expense that you mentioned, the $0.4 million, was that also related to the deposit campaign in the quarter? Or was that something else?
Catherine Ngo
Let me speak to that, Jackie. The non-recurring expense included a couple of items.
The first was a true up on a medical expense and the balance is other comp and benefits. But it is a one-time non-recurring for this quarter.
Jackie Bohlen
Okay. That’s helpful.
Thank you. And then just, I guess, looking to the deposit campaign that was run in the quarter, did any of that flow into the fourth quarter?
Or was it all completed in the third quarter?
Catherine Ngo
The campaign was completed in the third quarter. And it was a core deposit campaign for us.
Jackie Bohlen
And how does that play out for you?
Catherine Ngo
We exceeded goals, but we were very pleased with the results.
Jackie Bohlen
Good. And so I guess going forward, what are your plans just in terms of core deposit generation?
And will there be of lingering impacts from the campaign you did in the third quarter?
Catherine Ngo
So I’ll say, first, in regard to the campaign and reflecting back on experience from other campaigns that we have run, the retention rate on those campaigns are very strong and furthermore, there’s the opportunity for those customers coming in on the deposit campaign to build other relationships with us. So we expect good lift and not just on a deposit front but also opportunities on the loan and fee-based income front.
And then going forward as far as deposit, I’ll turn it to David in regard to just what we expect to see in the coming quarter.
David Morimoto
Yes, sure Catherine. Jackie, as you saw in the results, we did have slightly greater margin compression than what we had in prior quarters.
And if you look at obviously, if you look at the details, it’s all on the funding cost side. So our asset liability committee is actively strategizing on some efforts to address that situation, bring in stable core deposits and hopefully, reduce the reliance on the large CD portfolio, which is primarily comprised of $710 million in public fund CDs.
Jackie Bohlen
Okay. And then the – it’s just went right out of my head, so I’m going to hop on to my next question and I’ll come back if it comes back in.
Sorry about that. The decline in the Mainland portfolio, were there any purchases in the quarter that offset that?
Or was it all just pretty much run off?
Catherine Ngo
It was all run off. There were no purchases in the third quarter.
Jackie Bohlen
Okay. And I know in the past.
We’ve spoken about keeping that relatively stable book, with that intentional to not have purchases? Or were it there’s just nothing attractive in the market this time?
Catherine Ngo
It’s the latter, Jackie. There was nothing attractive in the third quarter.
So as we think about credit quality. And then also the yield on the portfolio, if I think about that Mainland portfolio going forward, we expect it to be stable as opposed to what you saw in the current quarter, which was a decline.
Jackie Bohlen
Okay. Thanks, Catherine.
That’s really helpful. I step back now and hop back in if I need to.
Catherine Ngo
All right, Jackie. Thank you.
Operator
The next question comes from Aaron Deer with Sandler O’Neill. Please go ahead.
Aaron Deer
Hi, good morning, guys.
Catherine Ngo
Good morning, Aaron.
Aaron Deer
Sticking with the loan kind of outlook, what – can you talk a little bit about the pipeline, what you’re seeing in Hawaii and what the growth rate? Is it that you might be expecting heading into year-end and maybe early part of next year based on what you’re seeing today?
Catherine Ngo
Sure, Aaron. In regard to Q4, we expect a strong finish to the year.
As far as the percentage growth rate that we expect in the fourth quarter, I would say, it would reflect a high single-digit annualized growth rate.
Aaron Deer
Okay, that’s helpful. And then just going back to the deposit campaign, I guess – what – are there any specific categories of deposits that these are targeting or types of customers?
And how might we see that reflected in future deposit costs going forward? Or is this going to allow for some run-off of some of those higher cost public funds as you replace that?
What’s your thinking in terms of the deposit mix and cost going forward?
Catherine Ngo
Sure. So let me speak at a high level to this and then David might want to chime in on some details.
The campaign is, as I mentioned, a core deposit campaign and focused on a particular segment of the market. And it would be the segment of the market that tends to hold the higher deposit balances and also the kind of customer that is likely to need other products and services from our organization.
I would say that, we were particularly excited to see the number of new customers coming into the bank with this deposit campaign.
David Morimoto
Aaron, I might just add, it was focused on a checking product. And what we’ve seen with these campaigns in the past is that the accounts open at a certain level but over time as we work with the customers, the balances tend to grow quite nicely.
And so we do expect that this is one of several initiatives that our employees are focused on to increase core deposit, prospective core deposit growth such that we can reduce the reliance on the large CD balances.
Aaron Deer
Okay. That’s great.
And then forgive me, I was on another conference call at the beginning of this one, the – so I might have missed it, but you guys have made some good progress on the capital management, your buyback authorization I think is getting close to be exhausted here. What – any sense or anything you can share in terms of what the board is considering on that front, if another authorization is likely?
And what else might be done on that front?
Catherine Ngo
Let me turn that over to David.
David Morimoto
Yes, Aaron. Management is currently having discussions regarding the capital plan and the capital strategy as we look forward to 2018.
There is very likely to be a – another authorization, the timing and size of that authorization is still to be determined.
Aaron Deer
Okay. Thanks, David.
Thanks, Catherine.
Catherine Ngo
Certainly, thanks Aaron.
David Morimoto
Thanks, Aaron.
Operator
[Operator Instructions] The next question comes from Laurie Hunsicker with Compass Point. Please go ahead.
Laurie Hunsicker
Yes. Hi, good morning, Catherine and David.
Catherine Ngo
Good morning, Laurie.
David Morimoto
Good morning.
Laurie Hunsicker
I wanted to – I’ll just go back to expenses and I wanted to make sure that I’ve got all this. So the entertainment and promotions line of $818,000, $0.6 million of that is coming out.
So that’s going to be like to a $200,000, $250,000 run rates per quarter going forward?
Catherine Ngo
That’s about right. Yes.
David Morimoto
Yes.
Laurie Hunsicker
Okay. And then same thing, the dollars in benefits combined with the computer software, that’s going to be another $200,000 or so savings off, of where you were this quarter?
David Morimoto
Yes. There was a $600,000 non-recurring in the promotions and entertainment, and roughly $400,000 non-recurring in the salaries and employee benefits line.
Laurie Hunsicker
The $400,000 in the salaries and employee’s benefits line.
David Morimoto
That’s correct.
Laurie Hunsicker
Okay. And then you had advertising that had another $200,000 non-recurring.
David Morimoto
Yes, that one is really timing. We basically incur our advertising expenses as they build.
And during the core deposit campaign, there was an uptick. But we didn’t really call it non-recurring, it is just the timing.
Laurie Hunsicker
Okay. All right.
I guess, I’ll ask a different way, your advertising expense, I mean, what should that run? About $400,000 or so for quarter?
David Morimoto
Yes, I think that’s a good number.
Laurie Hunsicker
Okay. So there’s $200,000 there.
And then, so that’s a total of $1.2 million of non-recurring costs that ran through your operating expense line, is that correct?
David Morimoto
Maybe the $200,000 on advertising, I guess, the $600,000 is high, but again it’s just timing. And so maybe the $400,000 is not like the core run rate.
It’s just – it depends when our advertising campaigns run, Laurie.
Laurie Hunsicker
Okay, all right. So maybe $1 million.
But so round numbers, the $35.5 million or so that you reported really should be $32.5 million if we just look at that on a core basis?
Catherine Ngo
I think that’s better, so we’re thinking about an aggregate $1 million, Laurie. That’s right.
David Morimoto
Yes.
Laurie Hunsicker
Okay, okay. And then, and I know that Jackie and Aaron touched on this, but just going back to how we think about or we should be thinking about your core deposit growth.
As we look here, the core deposit if we strip out all your CDs are 77% costing five basis points, how does that number grow going forward? And is the cost of that going to be changing because of this campaign?
David Morimoto
Yes. I can take that, Laurie.
The cost of the core deposit book will not change as a result of the campaign. There was no interest rate element to the core deposit campaigns.
So it was a one-time…
Laurie Hunsicker
There was no cheese there. Okay.
David Morimoto
Yes. There was no rate piece of the core deposit campaign.
I think when we look at our deposit book, I think a good way to look at it is to segment the core deposit portfolio from the large CD portfolio. But at $930 million, the core deposit portfolio, as you mentioned, $3.9 billion, we did average rate of roughly seven basis points.
And we calculated the rate beta for that, $3.9 billion over the last 12 months and it has a rate beta of 1%. So that portfolio is performing extremely well.
Offsetting that is the large CD portfolio, that $930 million total is just under $1 billion, $950 million weighted average rate of 1.02%. That portfolio has a rate beta of 85% over the same 12 months.
So the way we look at it is the key takeaway is that $3.9 billion core deposit portfolio is performing extremely well. Our asset liability committee again is focused on initiatives – several initiatives, core deposit campaign being one of them, to address that large CD portfolio.
Five ways to increase the pace of growth in core deposits and reduce our reliance on that light CD portfolio.
Laurie Hunsicker
Got it. And so just to go back to your core deposits for a minute, because I’m also stripping out your time deposits under $100,000, round numbers, that’s an average of $187 million.
So you’re including your $187 million in the core deposit campaign, that was…
David Morimoto
No. We’re including it in our definition of core deposit.
Laurie Hunsicker
In your definition of core, right. So I guess – so my question is, I mean, which of the categories was the most focused on for this deposit campaign?
David Morimoto
DDA.
Laurie Hunsicker
DDA. Okay.
That answers my question. Okay.
And then, I just wonder if you can also update us on the latest with respect to internal controls, what you’re seeing there?
Catherine Ngo
Yes. Sure.
That is in regards to the material weakness that was reported in the first quarter of this year, great progress has been made in adjusting all of the issues raised in the first quarter. And so we are well on our way to elimination of that assessment that was made earlier in the year.
At this point, it’s a matter of testing those controls for Q4. And we fully expect, given the resources and then also the infrastructure that we put in place, we fully expect that we will have an elimination of that material weakness in the first quarter of 2018.
Laurie Hunsicker
Okay. Great.
That’s helpful. And then, just jumping over here to credit.
I mean, your credit is pristine. But can you help us think about the consumer book?
And can you remind us, specifically, of your $477 million of consumer, I guess, this is where all your charge-offs came this quarter, what else is in there? How much is auto?
What the FICO is? Any details you can share with us on the consumer book would be great.
Catherine Ngo
Okay. Let me – so Laurie, let me take a stab at that.
So starting with the auto book, the auto book is about $250 million. $150 million of that is in Hawaii.
And then, the balance, about $100 million, on the Mainland. And then, as far as credit quality or just FICOs on those books, the weighted average FICO on the Hawaii book is in the 730-ish range.
And then, for the mainland book, it’s in the 750 kind of range.
Laurie Hunsicker
Okay.
Catherine Ngo
Go ahead, I’m sorry.
Laurie Hunsicker
And in the net charge-offs, the $1.4 million of consumer charge-offs, was that auto? Or was that something else within consumer?
Catherine Ngo
The – so on the consumer, so it’s just the unsecured consumer. And the one thing I will mention on that, Laurie, is – and we talked about this in earlier calls in regard to our preapproved consumer loan product and the analytics that we are applying to our campaigns there, and what we are seeing is that the charge-offs on that portfolio are in the earlier vintages of those loans and charge-offs having trended down over time.
So what I expect to see is improved credit quality on that unsecured consumer book with the analytics that we’re using on our campaign.
Laurie Hunsicker
Okay. And so is that – that’s the balance of your consumer book then?
Round numbers, that’s, I don’t know, $200 million?
Catherine Ngo
You know what, Anna, do you – I’m going to have Anna speak to that as far as the balances.
Anna Hu
The balance on the preapproved is – so our outstanding balances on the preapproved portfolio is about $64 million.
Laurie Hunsicker
Okay. And then, do you have balances on the SNC?
How much is Hawaii? How much is Mainland?
Catherine Ngo
Yes, we do, Laurie. Let me get that for you.
So the SNC for Hawaii are $56 million. And then, the mainland SNC number, Laurie, is $88 million.
Laurie Hunsicker
$88 million. Okay.
So that’s way down. Okay.
And then, just last question, again, just sort of – I still keep thinking about this core deposit campaign, can you help us think about how that should be playing into your margin next quarter?
Catherine Ngo
Let me ask David to speak to that.
David Morimoto
Yes. Laurie, as we stated, these – we’ve run these programs in the past.
The last one was actually run in 2012, so it’s been a while. But we run it even prior to 2012, and what we have seen consistently is consistent growth in these balances over time.
But it’s not immediate, it is over a longer time horizon. So I think the impact to the NIM in the next quarter is going to be nominal.
But we do anticipate that it will help us over the longer term. And as we discussed, the ALCO committee is looking at several other initiatives that will hopefully help in the nearer term.
So there’s multiple initiatives going on there.
Laurie Hunsicker
Okay. Great.
And then, just one last question as it pertains to capital management. I know Aaron touched on buyback.
Can you just update us around thoughts about the dividend and how you think about potentially raising that? How you approach that maybe target payout ratios?
Thanks.
David Morimoto
Yes. We benchmark ourselves against a Mainland peer group and also our local peers.
And we strive to pay a dividend payout ratio consistent with our peers. The Mainland peers are probably in the 45% range.
The local peers might be slightly higher than that. But our current payout ratio is in the ballpark, is in the 45% range.
So that’s pretty much how we set the dividend. So we anticipate consistently or gradually increasing the dividend as core earnings improve.
Laurie Hunsicker
Great. Thank you.
I leave it there.
David Morimoto
Thanks, Laurie.
Catherine Ngo
Thanks, Laurie.
Operator
The next question comes from Don Worthington with Raymond James. Please go ahead.
Don Worthington
Well, good morning.
Catherine Ngo
Good morning, Don.
Don Worthington
In terms of mortgage banking income that dropped in the quarter, just curious as to whether that was seasonal? Or whether you’re seeing a slowdown there that we couldn’t see going forward?
Catherine Ngo
I’m going to turn that one to David.
David Morimoto
Hey, Don. Yes, the decline in mortgage banking income was a result of two things.
It was product mix. So there was a slight change in the mix of originations.
We saw a decline in salable mortgages and a decline in government originations. And then, the second thing is there is just some tightening in the competitive market on mortgage spread.
Don Worthington
Okay. And then, would you expect, just deposit pricing in general, to experience a little bit higher betas if the Fed continues to tighten?
David Morimoto
Don, I think, if we see the REIT forecast play out the way it currently is in Fed fund’s futures, which currently has the tightening in December, and what tightening baked in, in 2018, if we see that type of rate forecast, I think there – that should probably play well towards lower rate betas. To the extent that we see an increase in the pace of rate increases, like we recently heard of one, Fed governor talked about three increases in 2018, to the extent we see that type of rate environment, the betas would probably trend slightly higher.
Don Worthington
Okay. All right, thank you.
David Morimoto
Thanks, Don.
Catherine Ngo
Thanks, Don.
Operator
This concludes our question-and-answer session. I would like to turn the conference back over to Ms.
Catherine Ngo, President and Chief Executive Officer, for any closing remarks.
Catherine Ngo
Thank you, Phil. Thank you very much for participating in our earnings call for the third quarter of 2017.
We look forward to future opportunities to update you on our progress.
Operator
The conference has now concluded. Thank you for attending today’s presentation.
You may now disconnect.