Cathay General Bancorp
NASDAQ:CATY
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Good afternoon, ladies and gentlemen, and welcome to the Cathay General Bancorp's First Quarter 2018 Earnings Conference Call. My name is Sherrie, and I’ll be your coordinator for today. [Operator Instructions] Today's call is being recorded and will be available for replay at www.cathaygeneralbancorp.com.
Now, I would like to turn the call over to Lisa Kim, Secretary of Cathay General Bancorp.
Thank you, Sherrie, and good afternoon, everyone. Here to discuss the financial results today are Mr. Pin Tai, our Chief Executive Officer and President; and Mr. Heng Chen, our Executive Vice President and Chief Financial Officer.
Before we begin, we wish to remind you that the speakers on this call may make forward-looking statements within the meaning of the applicable provisions of the Private Securities Litigation Reform Act of 1995 concerning future results and events, and that these statements are subject to certain risks and uncertainties that could cause actual results to differ materially.
These risks and uncertainties are further described in the company’s Annual Report on Form 10-K for the year ended December 31, 2017, at Item 1A, in particular, and in other reports and filings with the Securities and Exchange Commission from time to time.
As such, we caution you not to place undue reliance on such forward-looking statement, which speaks only as of the date of this presentation. We undertake no obligation to update any forward-looking statements or to publicly announce any revision of any forward-looking statements to reflect future developments or events, except as required by law.
This afternoon, Cathay General Bancorp issued an earnings release outlining its first quarter 2018 results. To obtain a copy, please visit our website at ww.cathaygeneralbancorp.com. After comments by management today, we will open up this call for questions.
I will now turn the call over to our Chief Executive Officer, Mr. Pin Tai.
Thank you, Lisa, and good afternoon. Welcome to our 2018 first quarter earnings conference call.
This afternoon, we reported net income of $63.8 million for the first quarter of 2018, a 30.4% increase when compared to our net income of $48.9 million for the first quarter of 2017. Diluted earnings per share increased 27.9% to $0.78 per share for the first quarter of 2018 compared to $0.61 per share for the same quarter a year ago.
First quarter results include a $3.9 million decrease in the fair value of equity securities that was recorded in the income statement due to the adoption of a new accounting pronouncement, which reduced earnings per share by $0.03. Adjusted to these items, first quarter earnings per share was $0.81 per share. Heng will further discuss this item in his remarks.
In the first quarter of 2018, our gross loans grew by $144 million to $13 billion or an increase of 4.5% on an annualized basis. Increases in loans for the first quarter of 2018 resulted primarily from residential and commercial mortgage loans growth of $137 million or 18% annualized and $128 million or 8% annualized respectively, which were partially offset by a decrease in commercial loans of $25 million and construction loans of $91 million. We anticipate loan growth in 2018 to be around 7% to 8%.
For the first quarter of 2018, our total deposits increased $322 million or 10.2% annualized to $13 billion as we benefited from our Chinese New Year City promotion. The systems conversion for Far East National Bank onto Cathay’s systems is scheduled for this weekend, which will permit the completion of the integration of our operations.
On July 14, 2017 until the system conversion, we have been running two sets of back room operations, which will no longer be necessary. We anticipate that additional cost savings will occur over time as additional branch consolidations occur.
With that, I'll turn the floor over to our Executive Vice President and CFO, Heng Chen to discuss the first quarter 2018 business financials in more detail.
Thank you, Pin, and good afternoon, everyone.
For the first quarter, we announced net income of $63.8 million or $0.78 per share, which was reduced by $0.03 from a decrease in the fair value of equity securities. Our net interest margin was 3.75% in the first quarter of 2018 as compared to 3.49% in the first quarter of 2017 and 3.65% in the fourth quarter of 2017. In the first quarter of 2018, interest recoveries and prepayment penalties added five basis points for the net interest margin compared to seven basis points for the fourth quarter of 2017 and three basis points for the first quarter of 2017.
Non-interest income during the first quarter of 2018 decreased by $1.4 million to $5.3 million when compared to the first quarter of 2017. The decrease was due to the $3.9 million decrease in the fair value of equity securities that was recorded in the income statement from the adoption of new accounting pronouncement ASU 2016-01 financial instruments.
Prior to the adoption of ASU 2016-01, changes in the fair value of equity securities were recorded in comprehensive income as a component of equity. Non-interest expense increased by $9.1 million or 17.5% to $61 million in the first quarter 2018 when compared to $51.9 million in the same quarter a year ago, due in part to the acquisition of Far East National Bank.
For the first quarter of 2018, the increase in non-interest expense was due to a $4.5 million increase in salaries and employee benefits expense and a $1.8 million increase in professional services expense.
The effective tax rate for the first quarter of 2018 was 22.8%. Income tax expense for the first quarter of 2018 was reduced primarily by the reduction of the corporate tax rate from the enactment of the Tax Cuts and Jobs Act. We hope to complete an investment in the solo tax credit fund during the second quarter. While there is no assurance that we'll complete any such investment, if we proceed and complete such investment, we project our full year 2018 effective tax rate will be between 18% and 18.5%.
The second quarter effective tax rate will reflect a [year to date] [ph] catch up to the meaningful year effective tax rate. We expect solid tax credit amortization of about $2 million in the second quarter and then $9 million per quarter for the second half of 2018.
At March 31, 2018, our Tier 1 leverage capital ratio increased to 10.59% as compared to 10.35% at December 31, 2017. Our Tier 1 risk-based capital ratio increased 12.7% from 12.19% at December 31, 2017. And our total risk-based capital ratio increased to 14.37% from 14.11% at December 31, 2017. Our ratios significantly exceeded well-capitalized minimum ratios under all these regulatory guidelines.
Net recoveries for the first quarter of 2018 were $1.8 million compared to net recoveries of $1.7 million in the fourth quarter of 2017 and net charge-off of $0.9 million in the first quarter of 2017. Our loan loss reversal was $3 million for the first quarter of 2018, compared to $2.5 million for the first quarter of 2017 and $0 for the fourth quarter of 2017.
Our non-accrual loans increased by $0.5 million during the first quarter to $49 million or 0.38% of period end loans as compared to the fourth quarter of 2017.
Thank you, Heng. We will now proceed to the question-and-answer portion of the call.
[Operator Instructions] Our first question comes from Chris McGratty with KBW.
Heng, maybe start with expenses. Obviously, good control on the quarter. I'm interested, I think in the past you've talked about 4% expense growth core for 2018 and given the moving parts with the acquisition and the tax credits, I'm hoping we could get a little bit more clarity on the dollar amounts.
If you take this quarter's $61 million, if you exclude the tax and that you indicated it was $61 million less about $6 million, so roughly $55 million. If that's right, how should that trend over the balance of the year?
We close two branches in the first quarter for Far East, but they were late in the quarter. They were down at the end of February in terms of the lease expense. So you won't see the full quarter impact in Q2. And then with the conversion, as Pin mentioned, we'll be able to eliminate that duplicate back room and save a number of back office staff.
So I think the first quarter is probably a good run rate. We have salary increases that go into effect on April 1, but in the first quarter we had about a $1 million of FICA, extra FICA from the bonuses which will go away and then we have probably combined $2 million of legal expense and DFAS.
The DFAS will continue into Q2 but then it will be out of a second half and then we had outsized legal expense in Q1. So once again we think the - all-in-all the first quarter is a pretty good run rate for the rest of the year. And it comes close to, I think my prior guidance.
So just to be clear, it will be $55 million for this quarter plus the amortization expense that you highlighted. And that's kind of a - with cost inflation that's about where we should be.
That's right.
On the deposit growth in the quarter a lot of it came from the CDs, I’m interested in the duration or maybe how much money you were looking to raise in the terms of the CDs that you were doing and whether that campaign is still ongoing or has that ended in kind of in the context of your loan to deposit ratio targets? Thanks.
So that we raised - it was our most successful deposit promotion ever. The rate was 1.6% for one-year CDs and so that was about 60% of the deposits and then we had some two year and three year's depositors. And then we probably will do a summer CD promotion which we have done - we did that last year.
And then in terms of - we will use broker CDs to keep our loan to deposit ratio at 100%. So we think - with a pretty good increase in the first quarter we sort of pre-funded some of our loan growth in the first half, in terms of having the deposits in place for the loans.
Our next question is from Aaron Deer with Sandler O'Neill.
I guess, I kind of following up on the CD question, I'm just curious given the higher costs associated with that, it was surprising to see the strength in the margins so I know you said there was about 5 basis points of interest recoveries and fees in there, was there anything else in terms of purchase accounting or other noise that might have benefited the margin that would be going away in the second quarter.
I think there was $400,000 of yield - accretion, purchase accounting accretion and we think that's probably have a pretty decent run rate per quarter. It would take us a couple of years at that run rate to use up the purchase accounting discount accretion.
So nothing else and then in terms of the timing of that CD campaign was that - it sounded like that was more front ended in the quarter even so it's not as though there's any lingering deposit costs that would be coming through to weigh on the margin in the second quarter is that - am I reading that correct one?
We started that I believe in February 1, and then that promotion it was so successful. We extended that to the middle of March.
Okay.
So you know it's…
[Indiscernible] the quarter?
Yes, right.
Okay. And then just on the on the credit front, it looks like you continue to see generally good trends there. I did notice that the TDR spiked up a little bit. Anything behind that, that you can talk about or is that you know something we should be keeping an eye on?
No I think we, we took a - it's not a deterioration. I think we had a few loans that we - I guess we fine tuned our definition for what's a TDR. So we added - the most of the increase was to a change in the - from the fine tuning of that definition.
Our next question is from Michael Young with SunTrust.
Just wanted to start on the capital front you know, I think in the third or in the fourth quarter conference call, the stock was at about $45 and you know there I think there was some hesitancy to buy back stock at those levels. But we've now just broken below two times tangible book value from a valuation standpoint. Are you more interested in buying back stock at these levels or any color you can provide there?
Yes. I think we issued 920,000 shares as part of the Far East acquisition at $37. So I think on that batch we would probably buy back as long as, stock was below somewhat below $40. And then we'll see, we're more likely to increase the dividend either most likely in the fourth quarter to use up some of our excess capital but so that's the thinking right now.
And just switching over to credit and asset quality, and obviously a big provision credit this quarter. We keep thinking that's going to come to an end. Are there more recoveries that you continue to see in the pipeline going forward or how are you thinking about that going forward?
Yes, they tend to be lumpy. So we can’t predict when may happen, but I think one of the things that happened in the first quarter was we had $91 million of construction loans that either paid off or transferred to the term CRE and that has a pretty, pretty heavy reserve against it under our methodology.
And so most of our growth for the last - much of the growth has come from residential mortgage which has a very low allocation. So I think we’ll have less pressure on the all then given the trends of the portfolio.
Our next question is from Matthew Clark with Piper Jaffray.
I wanted to first start on the margin outlook, I think you gave guidance I think last quarter of $370 million to $380 million for the year, obviously came in a little strong here to start the year, I wondered if you wanted to tweak that guidance?
Well I think we're still comfortable at that because we have a large percentage of our loans in residential mortgage. The first quarter we picked up about two basis points from that day count compared to the other quarters of the year and then we had five basis points of interest recoveries and prepayments and you know some quarters that's dropped to two or three.
So maybe we’ll improve our overall - we’ll up that guidance in Q3, but for now, you know we - I think we're keeping to the same guidance of that behind.
And then on the loan growth, I think you've tweaked the outlook there to 7% to 8%. I guess, how do you think about how the mix of that growth going forward. Do you still expect you know call it 50% of it to come from single-family resi this year?
I think a stronger yield coming from the residential mortgage and we expect the C&I growth of about 8%.
And then on the deposit pricing side of things, you mentioned the promotion did at 160, I guess, you know where is the kind of incremental cost of your deposits coming on say at the end of March?
Well, I think, it’s probably 190, if it’s one year for proceedings or 2%. But you know what - yes.
So the more promotional stuff, or if you have to rely on brokers' of it 2%. Okay. Thank you.
Our next question comes from Lana Chan with BMO Capital Markets.
Question on the current flattening of the yield curve, just two parts on that. What are you seeing on new pricing on your resi mortgage and your commercial real estate?
Our residential mortgage, the first quarter the new loan committee and we had a slightly higher percentage compared to our existing portfolio. I believe first quarter, we have a new origination is up 4.43% - 4.6% compared to our existing portfolio of 4.43% so that’s an increase of 17 basis points a new loan origination bond, residential mortgage.
And for our C&I loan, we are originating around primary, which is slightly above the current portfolio yield of 4.38%.
And then on the CRE?
CRE, we are originally above 4.88% is quite close to the current portfolio yield.
And given the context of that and again the yield curve, how are you thinking about new securities investments, you are trying to fund your loan growth with deposit growth going forward. So how should we think about the securities book, should it be relatively stable from here for the rest of the year.
Yes. We at the beginning, we were gone up by - we plan on buying $50 million per month or $50 million MBS and at the February 4 investment meeting, we cut that down to $25 million, and I think the MBS, we're only getting about 3% on that. And given where the Fed is talking about three prime rate increases in 2019, plus a couple more this year it’s the - the yield on securities is not that attractive.
So that’s where we are, we - I think at best, it will creep up slightly but not by much.
Our next question comes from Gary Tenner with D.A. Davidson.
Did I hear you say $1.6 million of discount accretion or purchase accounting accretion this quarter?
No, $400,000.
Sorry, I misheard you. And you managed it was back in fourth quarter.
It was none because we were still fine tuning the purchase accounting, so we didn't book any.
You didn’t book any in the fourth quarter, so…
Right.
And this doesn’t represent any sort of catch up. It's more of a level you think is stable from here for at least a little while?
Yes I think probably $400,000 per quarter for the rest of the year.
And then just in terms of the general outlook as you think about your markets, any change of activity in terms of customer behavior demand. The outlook maybe for the back half of the year for growth versus the first half of the year, any thoughts on that?
Surprisingly we still see a pretty strong pipeline in residential mortgage. But in terms of CRE, it’s very competitive out there lot of them competing for the commercial real estate loan and actually bidding at lot - bidding down the pricing. But working hard and we see since we are kind of expanding on our theme on C&I lending, we expect to see some growth in the C&I lending and usually the first quarter is the lowest kind of utilization of revolving line of credit. So hopefully from the second quarter and third quarter, the utilization will be going up.
In terms of the pricing competition, it is more severe today than it was six months ago?
I would say yes because of the reduction in tax rate. So I think some of the banks are keeping away the tax savings and giving them to the customers.
Our next question comes from David Chiaverini with Wedbush Securities.
I had a follow up question on capital. You mentioned about buying back stock below $40. I was curious what's your target on the on the common equity Tier-1 ratio?
Well, we haven't given a lot of thought based on where the stock prices were. So I would think we look at the leverage ratio more, so probably between 9% and 9.5% leverage is what we look to, so there is room there.
And then I was also curious about your reserve to loan ratio, so it's now down at 94 basis points. What's your comfort level there and taking that to, it's been trending down over the past couple of years?
Well, I think our peers are depending on how many acquisitions they've done, there's not that many banks that are 1% anymore. I think First Republic they're at like 65 basis points, and so as we’re certainly not going even close to that but I think we want to try to keep the percentage to loans right around here, but if it creeps down one basis point or two basis points, so I mean that we're sort of limited by our all methodology as to what that number winds up being so.
That makes sense, especially since you're getting such strong growth from the resi portfolio. That's all I had. Thank you.
And our final question comes from Chris McGratty with KBW.
Heng, could you just repeat the tax guide. I think you said 18% to 18.5% for the full year. I think it was around 22% to 23% this quarter. Can you just lay out the quarter given the movement in any tax consideration?
So you know we had a similar pattern last year. It has to do with the timing of when we fund our solo low tax credit investment. So hopefully, you know, it'll be relatively soon. And so what we think the Q2 rate would be it probably be, you'd just do the math, if for the six months, we're going to be at let’s say 18% and we're at 23% in the first quarter; then for the second quarter, we would have to down at like 12% or something of that 12% or 13%.
And then 18% - roughly 18% for the back half.
Yes.
And then the amortization that $2 and $9 that's the lower income and then there's an additional solar on top of that or did I get that backwards?
No, that's the additional solar. But the low income, it’s about $6 million a quarter, so it's 24 - yes, it's $6 million a quarter.
Thank you for your participation. I will now turn the call back over to Cathay General Bancorp's management for closing remarks.
Thank you for joining us for this call, and we look forward to speaking with you at our next quarterly earnings release date.
Ladies and gentlemen, thank you for participating in today's conference. This does conclude the program. You may all disconnect. And have a wonderful day.