Cathay General Bancorp
NASDAQ:CATY
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Good afternoon, ladies and gentlemen and welcome to Cathay General Bancorp's Fourth Quarter and Full-Year 2018 Earnings Conference Call. My name is Sherry and I'll be your coordinator for today. At this time, all participants are in a listen-only mode. Following the prepared remarks there will be a question-and-answer session. [Operator Instructions] Today's call is being recorded and will be available for replay at cathaygeneralbancorp.com.
Now I would like to turn the call over to Georgia Lo, Investor Relations of Cathay General Bancorp.
Thank you, Sherry, 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 statements, 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 fourth quarter and full-year 2018 results. To obtain a copy, please visit our website at www.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, Georgia, and good afternoon. Welcome to our 2018 fourth quarter earnings conference call. This afternoon, we reported net income of $64.9 million for the fourth quarter of 2018, a 150% increase when compared to a net income of $25.9 million for the fourth quarter of 2017, which included $22.3 million of additional tax expense related to the revaluation of the company's deferred tax assets and a $2.6 million pretax write-down of low income housing tax credit investment as a result of the enactment of the Tax Cuts and Jobs Act in the fourth quarter of 2017.
Diluted earnings per share increased 150% to $0.80 per share for the fourth quarter of 2018 compared to $0.32 per share for the same quarter a year-ago. In the fourth quarter of 2018, our gross loans grew by $348.1 million to $14 billion, or an increase of 10.8% on an annualized basis. The increase in loans for the fourth quarter of 2018 was primarily driven by the growth in residential mortgage loans, commercial mortgage loans and commercial loans.
For this year, our gross loans increased by $1.1 billion or 8.5% to $14 billion and $12.9 billion at the end of 2017. We anticipate loan growth in 2019 of between 7% to 8%. For the fourth quarter of 2018, our total deposits increased $121.3 million or 3.8% annualized to $13.7 billion, mainly as a result of the increase in CD.
We believe the recent weakness in the stock market presented an opportunity for us to resume our stock buyback program and we repurchased 1.1 million shares of our stock at an average price of [$38.25] per share in the fourth quarter of 2018. We will purchase additional shares throughout 2019 depending upon stock price, general business and market conditions and other factors.
With respect to the trade dispute between U.S. and China, we continue to monitor and evaluate the potential impact for our loan portfolio. As of December 31, 2018, there have been no non-accruals or charge-offs that were linked to the imposition of the tariffs, and those borrowers, which we had believed could be adversely impacted by the current tariffs would hold approximately 2.5% of our total loans.
With that, I'll turn the floor over to our Executive Vice President and Chief Financial Officer, Heng Chen to discuss the fourth quarter 2018 financials in more detail.
Thank you, Pin, and good afternoon everyone. For the fourth quarter, we announced net income of $64.9 million or $0.80 diluted earnings per share. Our net interest margin was 3.77% in the fourth quarter 2018 as compared to 3.65% in the fourth quarter of 2017, and 3.83% for the third quarter of 2018.
In the fourth quarter of 2018, interest recoveries and prepayment penalty added only 3 basis points to the net interest margin compared to 7 basis points in the fourth quarter of 2017 and 5 basis points for the third quarter of 2018. We expect our net interest margin in 2019 to be between 3.73% and 3.8%.
Non-interest income during the fourth quarter of 2018 increased by $0.2 million to $10.4 million when compared to the fourth quarter of 2017. Non-interest expense increased by $7.2 million or 10.7% to $73.5 million in the fourth quarter of 2018 when compared to $66.4 million in the same quarter a year-ago.
For the fourth quarter of 2018, the increase in non-interest expense was primarily due to a $3.7 million increase in salaries and employee benefits expense due in part to the hiring of a new team of lenders, a $6.2 million increase in amortization expense of investments in low income housing and alternative energy partnerships and a $1 million increase in marketing expense, partially offset by a $1.9 million decrease in FDIC assessments, $0.8 million decrease in acquisition and immigration costs and a $0.8 million decrease in occupancy expense when compared to the same quarter a year-ago.
Fourth quarter 2018 non-interest expense included a $1.8 million impairment charge for investments in low income housing partnerships. The effective tax rate for the fourth quarter 2018 was 21.2% and 19.5% for the full-year. The effective tax rate for the first quarter of 2019 is expected to be approximately 22%, with the full-year 2019 effective tax rate expected to be between 19% and 19.5%, assuming the closing of another solar tax credit investment in the second quarter of 2019.
Solar tax credit amortization was $10.6 million in the fourth quarter of 2018 and $16.3 million for the full-year of 2018. Solar tax credit amortization is expected to be $19 million in 2019, but $7 million in the first quarter and about $4 million a quarter thereafter.
At December 31, 2018, our Tier 1 leverage capital ratio increased to 10.83% as compared to 10.35% at December 31, 2017. Our Tier 1 risk-based capital ratio increased to 12.44% from 12.19% at December 31, 2017 and our total risk-based capital ratio increased to 14.16% from 14.11% at December 31, 2017.
Net charge-offs for the fourth quarter of 2018 were $1.1 million compared with net recoveries of $3.1 million in the third quarter of 2018 and net recoveries of $1.7 million in the fourth quarter of 2017. There was no loan loss provision in the fourth quarter of 2018 compared to a loan loss reversal of $1.5 million in the third quarter of 2018 and no loan loss provision in the fourth quarter of 2017. Our non-accrual loans decreased by $7 million to $41.8 million or 0.3% of period end loans as compared to the end of the fourth quarter of 2017.
Thank you, Heng. We will now proceed to the question-and-answer portion of the call.
Thank you. [Operator Instructions] Our first question comes from Michael Young with SunTrust.
Hey, good evening.
Hi.
Heng, just wanted to start off, if I could get some color on the deposit flows this quarter. Seem to be a good bit of outflows and everything, except for time deposits, so is that kind of just some year-end noise? And what's the outlook there for 2019?
Well, looking at the average balances, the kind of money market rates deposits dropped by about $110 million. It went up slightly in the third quarter, so we think it was probably going to be slight erosion in money market balances because we have been trying to keep the rate paid at a relatively low level. The DDA accounts were stable. So I think to answer the first part of your question, there's really no year end volatility. It's just kind of a continued decline as customers become aware or they become more active in managing their money. And I didn't hear - I forgot the second part of your question.
Just wanted to kind of have a feel for how that's going to affect NIM next year and kind of the timing and progression around the range that you gave and maybe some comment on the amount of prepayment fees that you expect next year as well?
Sure. We gave an indication of the range for NIM, which is 3.73% to 3.8% for the full-year. We have a new Chinese New Year promotion, which just started last Friday. The rate there is, it's 2.35% for deposits under $100,000 and 2.4% for deposits over $100,000. So compared to our summer CD, that was offered at 2.25%, so we've had two primary increases between our summer CD and our Chinese New Year, and we only increased the top rate by 15 basis points.
So in terms of outlook for CD rates, there was a big drop in the 10-year and 5-year rates here in the fourth quarter. So we feel less pressure looking at the CD rates, the broker CD rates into 2019. So I guess net debt, we think the NIM should be right in that range. Hopefully, it's Q1, it will be closer to 3.77%. And then in terms of prepayment penalties, we really can't control that, but the fourth quarter was somewhat light.
Okay. So just assuming kind of a normalization there. And then any assumption on the rate outlook that's embedded in that NIM guidance?
We are assuming - we're using the Fed funds futures. Of course, we're assuming no prime rate increases in 2019.
Okay. Thanks very much.
Thank you.
Thank you. Our next question comes from Aaron Deer with Sandler O'Neill & Partners.
Hi. Good afternoon, everyone.
Hi Aaron.
Just a follow-up on the margin discussion. Does your guidance presuppose the pay down on the U.S. bank line of credit or line of [indiscernible] as well as the troughs that I think you mentioned might be paid off this year?
No, no. I think given the fact that you'll be modest - given the fact that we expect to be buying some amount of our stock back in 2019 for now, we're delaying the payoff of our holding company loan till later in the year, maybe Q4. And then the truck sizing, we're going to push back into 2020, but if we do less buybacks, we would move those actions upwards.
Got it. Okay. And then it looks like you had a decent uptick in commercial real estate balances here in the fourth quarter. I guess a couple of quarters where progress in that category was a little weaker. What drove the strength here in the fourth quarter? And what are the expectations in terms of what categories drives the growth projections into 2019?
One, I think it's - we had decent organic growth and we had a modest reclassification from C&I loans to CRE based on some updated definition on what's real estate versus a C&I loan. This is mainly on working capital-type revolvers.
Understood. Okay. All right. And then it looked like competition costs were up quite a bit. You mentioned that the higher a teen there. I was wondering if there might also be like a true-up for the bonus accrual for the year. And then maybe what the run rate would be for that line going forward? And relatedly, did I hear you mention an impairment charge was in there as well?
Yes. It was $1.8 million on low income housing. And then the fourth quarter expense was higher than normal because we had some signing bonuses and buyout expense for some new hires. And then in terms of the bonus accrual, we think we've accrued the right number so that there shouldn't be anything that hangs over in the 2019. Typically, our fourth quarter bonus accruals are a little bit higher because we do true-up against the actual net income at the end of the year.
Okay. So I guess is notwithstanding I suppose there's going to be a little uptick in tax-related expenses in the first quarter for…
Solar.
I'm sorry, we missed the last Chen. His line went out. So our next question will come from Lana Chan with BMO Capital Markets.
Hi, good afternoon.
Hi, Lana.
Could you talk about the new team of lenders that you hired, where they came from and what verticals?
Well, we can't tackle that. We're not giving the bank where they came from, but we've known them for a long time.
Right. Yes. They joined us during the last 3 months, 4 months of the year so we see some loan [indiscernible] and hopefully, we'll see more in the first quarter and second quarter of this year.
Are they commercial focused, C&I focus?
Yes, they're C&I lenders.
Okay. And also could you talk about sort of the expectations on margin guidance? I'm just curious what drives the range, up or down, versus the fourth quarter, if I look at your deposit cost, they went up pretty significantly in the fourth quarter, driven by the CD growth and, in the first quarter, you've got another $1.5 billion or so of CDs maturing. And I think they were at an average rate of closer to 160 from last year's campaign. So is that going to put more pressure on CD costs at least in the near term?
I think not so much because we've been borrowing from the Federal Home Loan Bank and that rate is about 265. So as we get these new CDs, we would replace that. And two, in the first quarter, we'll get the benefit of the December primarily to increase. So I think that cover some of the repricing for the Chinese New Year CDs. So I'm not so pessimistic about the Q1 NIM.
And your expectation is to be able to fund the 7% to 8% loan growth with deposit growth this year?
Yes.
Okay. And just one last question, Heng, what drove the impairment charge on the low income housing credit?
Well, it was just, one, it was just an accounting mistake, for lack of a better word. It's not material, but we will, as we close the books, we had one at the end of 2017, due to the new Tax Act, and this is a continuation of that as we did the year-end impairment analysis.
Okay, got it. Thank you.
So it's not credit related. It's just that it's due to the timing of the - well, that's what it is. It's not credit related. It's just…
Okay. Thanks, Heng.
Yes.
Thank you. Our next question comes from Chris McGratty with KBW.
Hey, good afternoon. Thanks for the question. Heng, if we adjust for kind of the items in the quarter, how should we be thinking about recent hires, expense growth in 2019, maybe walk us through? I think in the past, you've been in the 3% to 4% range, excluding the amortization. Is that still about right?
Yes. We're basically done with our budget process for 2019, and we expect to see modest operating leverage. One of the things that we will be closing a number of redundant branches, we're not going to name them by region, but in 2019, and then we have some back room automation that should help with expenses.
Okay. So the guidance - those factors considered, that's still a range you're comfortable with coming at low-ish single-digit range.
Yes.
And then for the amortization, did you give the low income expectation? I think you gave the solar, what is the low income?
It's $5.5 million a quarter.
Okay, great. And then maybe if I could, you credit looks fine, but at the end of the year, really no credit costs for the company. What are your expectations given the 7% to 8% for that growth that you're modeling and kind of the mix of growth, maybe the pipeline of recoveries? And when do you expect the provision to kind of flip - into a positive position? Thank you.
Well, we look at it quarterly. So like in the first quarter, we think we have a couple of million recoveries. In the second quarter, it could be - or sometime in the year, we have a midsized recovery that's around $5 million hopefully. So it depends on the timing as well as the mix of loans, but I think for planning purposes, we think something less than $10 million for the loan loss provision is probably reasonable.
Great, thanks for that. And maybe just remind us the authorization. I think $40 was kind of your level last quarter. What's remaining? And is that still a threshold that you're looking to buy stock at? Thanks.
We have $10 million remaining. We'll probably go look for a new buyback after we're done with this. That $10 million buyback is enough to buy back about 270,000 shares, then in terms of the price limit, having seen how weak the stock market? How weak our stock was in December, I think we're going to be, I think more cautious in terms of the pace of the buybacks.
We still think we'll probably buy back 1 million, 1.2 million shares in 2019. I think based on that, our total shareholder, total capital return would be less than 60% of our expected earnings. So - but once again we want to be cautious given the recent uncertainties.
Great. Thank you very much.
Thank you.
Thank you. [Operator Instructions] Our next question comes from Matthew Clark with Piper Jaffray.
Hey, good afternoon. Heng, can you clarify the low income housing expense in the fourth quarter and the solar-related expense broken out between the two in the fourth quarter?
Yes. So I think the solar, it was $10.6 million. It was lower than our guidance from the end of the third quarter where we guided the $12 million, but it was impacted by the pace of solar installations. And what doesn't get installed this year will get installed in 2019. And then I'm thinking we - our regular low income housing amortization in the fourth quarter was only $4 million, and then we have this $4 million, $4.5 million. Then we had this $1.8 million impairment. And the reason why it's less than $5.5 million for the regular amortization is that we're invested in like 65 funds, and towards the end of the year, we get updated our projections from all these funds and we true-up our amortization based on that.
Okay. Great. Thank you. And then just follow-up on a prior question on expenses, will the comp expense, just for the first quarter with the seasonality that tends to occur. You tend to see an uptick, but, again, you had some signing bonuses within recent hires. Can you talk about how you think about the seasonality of the comp line with those puts and takes in the first quarter?
Yes. Well, the price that for us is low - it's less than $1 million or close to $1 million. And then we still have some sign up bonuses that will shift in the first quarter. So I'm looking more at the full-year, and I think we're looking at the comp being up about 6% year-over-year, 6%, 5%, 5.5%, 6%, but on the quarters, there is some - we're not going to be that specific.
Okay. That's right. And then just on reserving and the source of loan growth, again, most of your growth this quarter, a bunch of them came from single-family resi again. Can you just maybe give us an update on how you feel about reserving given the source of your loan growth in the upcoming year?
Well, the reserving, it's a very formalized process. I'd characterize it as mechanical so that there's less management judgment. So I think for the full-year, our loan loss provision will be less than $10 million, and in the first quarter, I think we still have - it wouldn't be $2.5 million in Q1 because of how our reserving kind of works and so forth. So I think we really won't know until the end of the quarter. And of course, it all depends on the charge-offs or net recoveries. And I mentioned, we should have some recoveries in Q1.
I was just thinking more around your kind of coverage ratios on types of loans by single-family resi as an example.
Well, I think on residential mortgages, our coverage ratio was pretty low. It's about 35 basis points. And then I think another factor is we have an environmental reserve for the trade wars. So if that gets - if, hopefully, something happens in the first quarter, that would provide some cushion for us in the provision.
Okay. And then just any early thoughts on CECL?
Yes, that's on seasonal? We achieved the process saving the charge but then I'm on the committee that's involved in that. I think it's just from my perspective, when you have a strong economy for so long, the traditional all that we have, it's hard to maintain because you have a lot of lack of data points which were given charge-offs. With CECL, it's going for us, it's going to be more statistical by going back over many years and it's going to be tied to loan growth.
So as well as what the expectations are for the economic conditions in the next - for the forecast period, which is probably a couple of years. So - and while the transition to CECL goes to a cumulative charge that retain earnings. So we'll know more in the middle of 2019, but we're sure because of the change in the methodology, our allowance is going to go up.
Okay. Fair enough. Thank you.
Yes. Sure. Thank you.
Thank you. And our final question comes from David Chiaverini with Wedbush Securities.
Hi, thanks. The first question is clarification. I think I heard in the prepared remarks that the trade tariffs or the trade war is having no impact on your borrowers thus far. Did I hear that correctly?
It's no non-accruals or charge-offs related to the trade - I mean tariffs, yes.
Okay. And the percentage of borrowers that could have an impact, is that still at about 2% or 3%?
Yes, 2.5%, right, 2.5%.
Okay. And are your borrowers or customers, particularly in the Chinese community, are they changing their behavior at all because of the trade tariffs or trade war?
Yes. I think some of them are trying to saw some other country other than China maybe for business or some Southeast Asian country. And some is also moving, considering moving some of their manufacturing facility to other countries as well.
Got it. And then I wanted to follow-up on an earlier comment. You mentioned about how you repurchased 1.1 million shares in the fourth quarter and that you have $10 million remaining on the current authorization. I think you said that you were…?
$10 million, yes.
$10 million, right. And then I think I heard you say for 2019, that you plan on buying back 1 million to 1.2 million shares. So does that - is it your intention to get an additional authorization in order to get to that 1 million share buyback in 2019?
Yes, we would need approval from our board and give notice to the Federal Reserve. But yes, that's right.
Okay. And then the final one for me is on the Chinese New Year deposit campaign. So your intention to pretty much any proceeds you get from that campaign, you're going to use to pay down the FHLB borrowings, is that right?
Yes. And then we - our loan-to-deposit ratio was a little bit higher than our target at the end of the year because there was a surge in the loan bookings in the last two weeks of the year. So we may go to the brokers deposit market in Q1 so that our loan-to-deposit ratio stays at below 100% of net loans-to-deposits. Right now, it's about 101%.
Got it. And actually if I can squeeze one more in. In your market, on the credit front, it sounds that you're not seeing any signs of weakness or cracks despite what we're seeing in the volatility in the stock market. Is that accurate?
Yes. We don't detect any deterioration in the quality of our loan portfolio at this time.
Great. That's all I have. Thank you.
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 in our next quarterly earnings release date.
Ladies and gentlemen, thank you for your participation in today's conference. This concludes the presentation. You may all disconnect. Good day.