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First Hawaiian Inc
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Good day, ladies and gentlemen, and welcome to the First Hawaiian Q3 2018 Earnings Conference Call. At this time, all participants are on a listen-only mode. Later, we will conduct a question-and-answer session and instructions will follow with their time. [Operator Instructions]
I'd now like to introduce your host for today's call, Kevin Haseyama. You may begin.
Thank you, Tawanda, and thank you everyone for joining us as we review our financial results for the third quarter of 2018. With me today are Bob Harrison, Chairman and CEO; Eric Yeaman, President, COO; Ralph Mesick, Chief Risk Officer; and joining us for the first time is Ravi Mallela, CFO and Treasurer. We have prepared a slide presentation that we will refer to in our remarks today. The presentation is available for downloading and viewing on our website at fhb.com in the Investor Relations section.
Also, during today's call, we will be making forward-looking statements, so please refer to Slide2 of our deck for our Safe Harbor statement. We will also discuss certain non-GAAP financial measures. The appendix to this presentation contains reconciliations of these non-GAAP financial measures to comparable GAAP measures.
And now, I'll turn the call over to Bob who will provide you with the third quarter highlights, starting on Slide 3.
Thank you, Kevin. Hello, everyone, and thank you for joining us today as we report on our third quarter results. This was a good quarter, as we have solid core financial performance, strong loan production made significant progress reducing public deposits, controlled our expenses and maintained excellent asset quality.
We're able to overcome large unexpected prepayments and a temporary access liquidity situation that pressured the margin. In addition, BNP Paribas completed two additional stock offerings which combined with our share repurchase, brought their ownership in First Hawaiian down 18.4%.
Our core profitability measures remain strong with a core return on average tangible assets of 1.45% and a total return on average tangible common equity of 19.6%, and we remain on track to meet our full year core efficiency ratio guidance of approximately 48%. Yesterday, our Board of Directors declared a $0.24 per share dividend payable on December 7 to shareholders of record at the close of business on November 26th.
Turning the Slide 4, BNP Paribas made significant progress towards reducing their ownership stake in First Hawaiian during the quarter. They completed two offerings and First Hawaiian executed the share repurchase from BNPP in conjunction with one of the offerings resulting in a decrease of their ownership interest from 48.8% to 18.4%.
As a result of these transactions, the number of BNPP nominated directors went from 5 to 2 stepping down from the board were John Malonjivovich, Xavier Antiglio and Michael Shepard. We’d like to thank them for their service to the Board.
We’re also pleased to have three prominent members of the local business community, Faye Kurren, Jenai Wall, and Scott Wo, joined the board is independent directors. All three will continue to serve on the First Hawaiian Bancorp. 6 of our 9 Directors are now independent.
Additionally, as of August 1st, BNP stock consolidating our financial statements with their and as a result, FHI will no longer fall within the scope of BNP Paribas USA’s capital plan under the CCAR process. Including the share repurchases, we have returned about $381 million or 86% of our earnings to shareholder since the IPO. At quarter end, we remain well capitalized with a total capital ratio of 13.14% and leverage ratio of 8.42%.
Now, I’ll turn it over to Eric to go through the balance sheet.
Thanks Bob. Turning to Slide 5, we saw continued strong loan production during the quarter, but we also experienced significant unexpected repayments prepayments primarily in the C&I, CRE and construction portfolios, resulting in the loan balance of $12.6 billion at quarter end, essentially flat versus the prior quarter. C&I loans decreased by approximately $147 million during the quarter, primarily due to significant prepayments driven by strong market demand for high quality variable rate loans and M&A activity, triggering higher than normal refinancing opportunities for many of our stick borrowers.
We also saw decline in dealer flowing balances at dealers have continued to manage their inventory levels lower in order to control their interest costs. CRE and construction in loans grew by approximately $12 million or 0.4% during the quarter. We saw strong production in both CRE and construction loans, but like C&I we also saw significant unexpected prepayments due to increased demand for institutional quality real estate loans driving higher than normal refinancing.
Consumer loans grew approximately $20 million during the quarter or 1.2%, primarily driven by growth in our indirect auto and credit card portfolios. The residential loan portfolio group approximately $78 million or up 1.8% during the quarter as last year switch to the mortgage loan officer model continues to show positive benefits. Looking forward, we expect loan growth for 2018 to be in the 4% to 5% range.
Turning to Slide 6, deposit balances decreased by $706 million during the quarter to $16.7 billion as we continued to make significant progress and reducing exposure to public time deposits and improving our funding mix. We’re able to reduce our public time deposits by approximately $590 million or 33% during the quarter and year-to-date we reduce public time deposits by $780 million or 40%.
Excluding our reduction in public time deposits and a one-time large customer plans reduction in the first quarter. Deposit growth has been approximately 1.5% year-to-date. We continue to diversify our funding mix in the third quarter by replacing some of the public time deposits with $200 million of fixed rate term borrowing. These term borrowings help to protect against anticipated future rate increases and improves our deposit pricing flexibility. We’ll continue to work to improve our funding mix in order to post better position our balance sheet going forward.
With that, I’ll turn the call over to Ravi to cover the income statement.
Thanks, Eric. Turning the Slide 7, net interest income in the third quarter was $141.3 million, essentially unchanged compared to the prior quarter and an increase of $7.9 million or 6% versus the prior year.
Interest income in the second quarter included a positive $1.1 million premium amortization adjustment in the investment portfolio. Excluding that adjustment, third quarter net interest income would have been approximately $1 million higher, primarily due to higher balances and yields on earning assets and lower balances of public time deposits, partially offset by higher deposit costs and other categories and the impact of higher balances of term borrowers.
The net interest margin was 3.11%, a 7 basis point decrease versus the reported second quarter NIM of 3.18%. After adjusting the reported second quarter NIM to exclude the impacts of the $1.1 million premium amortization adjustment and the difference in quarterly day count, the adjusted second quarter NIM would have been approximately 3.13% or 2 basis points higher than the third quarters reported NIM.
The 2 basis points decline versus the adjusted second quarter NIM was primarily due to the excess liquidity carried during the quarter. By the end of the quarter, we worked our way out of excess liquidity position. Looking forward to the fourth quarter, we still believe that the balance sheet remains in an asset sensitive position and anticipate that the margin will increase by 4 to 6 basis points.
Turning to Slide 8, non-interest income was $47.4 million or $2.4 million or 4.8% lower than the prior quarter, primarily due to lower swap fee income and lower recoveries from a non-recurring gain on the sale of a leased asset booked in the second quarter. Non-interest expenses were $93.1 million or about $1.3 million or 1.4% higher than the prior quarter, primarily due to higher other expenses, partially offset by lower contract services and consulting expenses and lower card reward expenses.
In early October, we reached an agreement in principle to resolve a class action lawsuit regarding overdraft fees, and as a result recorded an expense of $4.1 million in the third quarter. Executing this one-time charge, non-interest expenses would have been $89 million or $2.9 million lower than the prior quarter. Our efficiency ratio in the third quarter was 49.4% and 48.5% on a year-to-date basis. Core efficiency ratio in the quarter was 46.9% and 47.4% year-to-date. As a result, we are maintaining our full year core efficiency ratio outlook of approximately 48%.
With that, I'll turn the call over to Ralph to cover asset quality.
Thank you, Ravi. If I could turn your attention to Slide 9, you see that our asset quality was excellent at the end of the quarter. Net charge-offs were $3.8 million for the quarter. Annualized, this amounts to 12 basis points on average loans and leases. This is 1 basis point lower than the prior quarter and the third quarter 2017.
Total non-performing assets were $11.3 million or 9 basis points on total loans and leases and other real estate owned. This is 2 basis points from the prior quarter and 2 basis points higher year-over-year. For the third quarter, the provision expense was $4.5 million, and the allowance for loan and lease losses increased by $649,000 to $141.3 million, which is up 1 basis point to 112 basis points of total loans and leases. Looking ahead, we don’t anticipate any shift in our credit quality.
And now, I’ll turn the call back over to Bob.
Thanks, Ralph. Turning to Slide 10, Hawaii’s economy continued to perform well in the third quarter, led by the strong tourism and real estate sectors, and one of the lowest unemployment rates in the country. State unemployment rate was 2.2% in September compared to 3.7% nationally. The visitor industry remained robust through the first 8 months of the year with year-to-date through August visitor arrivals were 6.8 million, up 7.2% versus the same period last year. And visitor spending was $12.3 billion, an increase of 8.8% over the same period last year. The real estate market remains sound. Sales volumes for single-family homes and condominium were down slightly versus the prior year, but prices in both segments continue to increase. Looking forward, the overall outlook for the economy remains positive.
With that, we’d be happy to answer any of your questions.
[Operator Instructions] Our first question comes from the line of Dave Rochester of Deutsche Bank. Your line is open.
I was just curious on your outlook for the efficiency ratio for next year. I was just wondering, if you could give some preliminary thoughts around that. What you’re assuming for rates next year? The roll off of the FDIC surcharge, should be a tailwind for you guys have, any thoughts around that at this point?
Hi, Dave, this is Eric. I’ll cover the efficiency ratio outlook and then I’ll let Ravi on some of the other points. When we look at 2019, our goal is to manage to the 40% efficiency ratio range and that would be inclusive of absorbing the additional $3 million of transition costs that we talked about in the last quarter’s call. So that’s really what we’re focused on targeting.
And then what kind of benefits are you guys expecting to get from the roll off of the surcharge?
Dave, this is Ravi. The surcharge is expected in terms of cost in 2018 to be about $7 million.
And just switching to capital and I know you guys are no longer part of that CCAR process. Does that mean you’re completely out from under BNP from a regulatory perspective at this point, which would mean you can talk more about buybacks capital ratio target that kind of thing?
Dave, this is Bob. Good question. No, we are -- continue to be controlled as defined under the Federal Reserve Bank Holding Company Act. And so while we’re not part of the CCAR process, we are still connected to them on a regulatory standpoint from the Bank Holding Company Act.
And what would need to happen at this point for you guys to officially be out from under that umbrella? Would the ownership have to go below a certain threshold or would you just have to get verbal approval from regulators to be out?
Yes, really, it's not a verbal approval, it's a written approval from the regulator, and those discussions are happening. There's various talks on that ongoing, but we can't speak to it.
And then just on the loan side, you mentioned pay downs from the SNC book, we're wondering. How much did SNC come down this quarter? And what's your outlook is for pay downs going forward?
Yes, so basically the SNC book overall, it is about $1.4 billion at the end of the quarter. It was down about $78 million from the prior quarter. I think when we look at our loan forecast Dave, our guidance on consumer residential, theory and construction, we're pretty much on track. We said we would end up in the mid-single-digit range for consumer and we feel comfortable that will hit that. On residential, we said high-single-digit we're comfortable, we'll hit that. CRE construction, we said high-single-digit, we're sort of on track.
The one area that we've talked about on every call is the volatility in C&I, and right now C&I is down as you probably saw $167 million year-to-date. And so, our guidance there was, we thought we'd end up with low-single-digit growth, but it might be flat to negative for the year. We still feel very strong pipeline, really good production. When we look at our filter numbers, production continues to be strong. The good news is pay down slowed significantly in October. We're hoping that continues for the rest of the year, but the volatility in our loan portfolio really is driven by what's going on in C&I.
Yes, I know it's probably tough to predict that volatility going forward, but just assuming that it does persist a bit. I mean, how are you thinking about loan growth for next year? Do you think this mid single digit pace is appropriate? Or are you thinking low to mid singles, just any color there will be great?
Dave, this is Bob. We've talked a lot about that and we're still comfortable with the mid single digit growth.
Okay.
We don't think that the uncertainty or not the uncertainty, the pay down on the SNC portfolio will continue on an ongoing basis, so in that mid single digit 4% to 5% growth.
The next question comes from the line of Steven Alexopoulos with JP Morgan. Your line is open.
A couple of question on the deposit side, we think about Hawaiian, we typically considered a fairly rational deposit market. If I look at your increase in deposit rates that looks to be running a bottom line with the Mainland, can you talk about the competitive environment of what's driving that?
Yes, really, it's the public time deposit rates, Dave. When you sort of parsed that out, it's still pretty overall rationale, Steve, still a pretty it's a rational market. I mean on the commercial side, we do see some one-off situations where customers are pushing for higher yields. But in general, it's still pretty rational.
So even with the time deposits coming down, look forward, do you think this is a reasonable range for the increase in deposit costs we move forward?
Yes.
Then just final question. Looking at the decline in non-interest bearing, was that customer using cash or are you seeing migration into interest bearing?
I think it's both. We are seeing some migration into interest bearing.
And we have seen customers use their balances to pay down, their cash balances to pay down loans as well. So, it’s a mix of both.
Our next question comes from the line of Ebrahim Poonawala with Bank of America Merrill Lynch. Your line is open.
So, yes, I just wanted to follow up on expenses one. You talked about the efficiency ratio being around 48% managing to that. Just when we think about the expense run rate from year close to 89 million in the third quarter. How should we think about like, just in terms of or if you could remind us of the breakaway or standalone company costs that are going to explicitly flow through at year-end or in 1Q?
Yes, I’ll ask Eric to cover that one because we’ve been tracking that for a while.
The fourth quarter, we expect that of the 3 million increase we were planning for, as it relates to transition costs and incremental million dollars, will flow through in the fourth quarter.
Okay, so another million dollars, and once we get there. So at the end of fourth quarter, would that reflect all of the transition costs? And then, is it kind of a clean run rate from there on? Or is there more to make in for…
No. When that will take us to about 14 million of our 17 million that we had sort of projected when we first determined when we were going to go public and so, there’ll be an addition of 3 million roll in next year.
We had anticipated -- this is Bob. We had anticipated that happening this year and just some of the things got pushed out into next year. So, the total didn’t change, but the timing just moved out of it.
And could you remind us just in terms of, is that a lockup expiration date for BNP for its last 18% ownership?
Sure. After the last offering, there’s a 60-day lockup.
And one last question just following up on the deposit costs, do you mean -- as you think about sort of margin and it sounds like you expect the margin to trend higher. Do you increasingly see more downside exist to that margin outlook given the rate environment, some of the things that you have seen from a public fund standpoint? Or do you have high degree of visibility in terms of the margin moving higher from here?
Ebrahim, this is Ravi. I would just say that I think we don’t see any downside risk, really. We think that we are still in a very, very asset sensitive position. And I think we see expansion in Q4 as we mentioned on the call with respect to them.
And Eb, I would add that, we continue to see loan yields increase as we saw about 10 basis points increase in the third quarter. And then, we will continue to make meaningful reductions in our public time deposits for the fourth quarter so that will sort of bring some of the costs side down.
And one last question, I know we talked about tax efficient strategies as we think about investment portfolio and such like, as you think about next year. Do you expect the tax rate to reset lower from this 26% range or?
Yes, I think for 2018, we've been guiding to 26% and that still holds to tell for the quarter, holds for the year-to-date. I think, we'll be continuing to look at that for 2019 as a potential opportunity.
Yes, Eb, I think that 26% guidance was somewhat aggressive on our part and we're managing to it. And so, we're still really looking at 2019 before we can provide a more updated guidance on that.
But to finish off on that, sorry Eb, but the two items that we've always focused on low income housing tax credits and this municipal bond portfolio are still the areas we're looking to and we're still looking actively at those two, and certainly on the low income housing tax credit area actively going after deals.
The next question comes from the line of Jackie Bohlen with KBW. Your line is open.
Looking to the reduction in liquidity that you had by the end of the quarter. How do you view a normalized level of cash on an average basis each quarter?
Yes, I mean I think that will really depend on how we see loan findings go. But I think if you want to look at Q2 as a guide, I think those cash flows -- absolute cash levels is anywhere we're targeting for Q4.
And in terms of some of the loan runoff that you had in the quarter, was that at a higher rate than the existing or I guess I should say, what rate was that at versus where the portfolio was at?
I think generally slightly lower Jackie.
Okay, so the runoff that you're seeing is not other than from a balance perspective but from a rate perspective it's not negative to the margin?
Right.
And then just lastly from a conceptual standpoint, to the extent you've had a discussion and are you able to discuss about your capital planning would be once you no longer are beholding the CCAR?
Jackie, this is Bob. As we said on prior calls, we are very comfortable with the capital levels of right now. As we separate from BNPP, we'll continue to look at that and we haven't made any decisions yet as yet.
[Operator Instructions] Our next question comes from the line of Brock Vandervliet with UBS. Your line is open.
Let's see, the narrative is pretty common teams across the group this quarter in terms of the prepayments picking up, high competition pay downs that that type of thing. You mentioned you're still confident with your mid single digits loan targets for next year despite the decel in the SNC portfolio. What was your point to that for that confidence?
So, a couple of things, Brock, this is Bob. I think one of them is there still a lot of activity in the national market. It's just this quarter happened to be one where we got a lot of pay down kind of two reasons. One was the M&A that Eric touched on. The other that he didn't touch on was, is some of the deals looked to get redone and we looked at the risk reward of the terms and conditions and pricing that we exited.
So that was part of kind of balancing on loan portfolio and being smart about what we're looking for in the loan portfolio. And to speak to Hawaii market which we haven’t talked about this much is very competitive here even more so now that as others have recently been focusing on more on commercial lending. But for us, we’ll always remain competitive on pricing, but we’re also going to maintain our disciplined approach to structure.
And just as a follow-up on deposit side, you’ve obviously got a pretty wide mode around your market out there. Are you seeing anything different in terms of how the competition is acting any changes in tactics that you would call out?
No, not all, as I mentioned early in the call, pretty rationale overall, and we’re seeing actually reasonable growth in the consumer side. It’s on the commercial side where there’s these one-off pressure to increase rates. But overall, I think other than the public time deposit costs, it's remained very rational.
Our next question comes from the line of Laurie Hunsicker of Compass Point. Your line is open.
Just staying with the public time deposits, the reduction occur going down to 1.18. Did that occur late in the third quarter? Is that the benefit we’re going to see into the fourth?
Those tend to have maturity that occurred throughout the quarter. And so, I would say that -- I wouldn’t say that it was weighted to one side of the quarter versus the other.
And what is your goal to get that down to next year?
Laurie, our thought is that we will continue to manage this down, and we are sort of forecasting about $500 million in the fourth quarter. And then, we’ll continue to assess at that point because we’re really trying to manage overall funding needs as well as our overall relationship with the municipalities, but we will continue to make meaningful shifts there.
So, that’s a big drop. So, as we think about I appreciate that, the guidance on the fourth quarter margin. But as we think about the first quarter margin, and not already 6 basis points higher than fourth, just because of the day count. I mean there’s going to be a substantial pick there. Can you help us think about what your first quarter ’19 margin would look like?
So, we’re not really guiding to first quarter. I think we’ve mentioned that we feel very confident about the fact that we are in an asset sensitive position. Eric mentioned that loan yields are up 10 basis points quarter-over-quarter. We see that trend to continue to occur. We reduced our excess liquidity position going into this quarter, and we think will be able to manage that closely going forward. And we think that’s kind of where we are right now.
And then, just to clarify your premium amortization this quarter was zero relative to make it negative 1-1 in the June and 1-9 in the March. Is that correct?
Close, yes, yes.
And then with respect to your margin guidance, do you have a premium NIM that’s in that number? Or is that a core guidance?
Could you ask that question again, please?
Yes, sure. In other words, we already know so the day counts in both the third quarter and fourth quarters identical. So, there's no adjustment there. But in terms of your guide on margin, does that -- what does that reflect on premium NIM? What have you assumed in that figure?
Just normal, more normalized premium NIM, and that's why we sort of gave a range. Now, it's really hard to predict, so we gave us 4 to 6 basis points range there.
Okay, just a few more questions. BOLI was outsized this quarter, was there a debt benefit in that?
There was a debt benefit and also just an increase in BOLI income just due to the rising rate environment.
Okay. And net debt benefit was about $1.5 million or?
I think debt benefit was about 700,000
700,000. Okay. And then, sorry the other, other income that was $2.18 million was down substantially. And I know you went through that quickly and I just hasn't been fully through your possibly through. Just remind you, why that was the drop there?
I think maybe what I'll do is I'll walk you through sort of non-interest income quarter-over-quarter, you'll be able to kind of understand service charges and fees that includes deposit service charges and that includes card and merchant fees and trust income was down about 400,000.
Wait, I'm sorry to interrupt you. I'm talking about the other, other line so the other, other within non-interest income, the 2.18 versus the 5.408 in the previous quarter?
I see. So that was really driven by a decline in recoveries and that was driven by gain on sale of leased equipment and Q2.
Okay.
There's a couple of small I things in there. That's most of the drivers Laurie.
Okay, great. And so is this a better right time?
Well, I mean the reason, this is Bob. The reasons is other others, that's kind of everything else that kind of flows during the, before that it doesn't have a line associated with it. So that's really hard to predict.
Yes and Laurie, I guess the best way to look at just to look at non-interest income overall and sort of our guidance, there has been we expect that to be relatively stable. There's things that sort of moving in the right direction up their some pressure and other categories. But net, net we feel is relatively stable except for the onetime items that we sort of occur quarter-to-quarter.
Maybe just add there kind of maybe the only other thing in there would be swap fees, this is somewhat volatile quarter-over-quarter and again that's very hard to predict.
And then just last question on buyback, you guys didn't buy any shares back in the latest in the September sale. Any color as to why or should we directionally be thinking about that? I mean and I know you've hesitated a little bit, I'm commenting your capital management plans, but obviously we saw you active in May, we saw you active in July 30.
Right, this is Bob. It's not every offerings is going to have a buyback. We saw the opportunities in May and into July of the close and August 1, and we thought that was appropriate. But in conjunction with the overall capital plan and then also recall that the second offerings this quarter happen just over a month after the first, so…
And then just sorry -- one last question. Your assets under management, do you have an updated number? I know it’s around 13 million, but I just didn’t ask you had a more?
That's moved a little bit where it’s just over 13.8 billion at the end of the quarter.
Yes. 13.87.
Our next question comes from the line of Matthew Keating with Barclays. Your line is open.
Just wondering, if you could comment on the sort of the low unemployment rate in Hawaii and whether that’s you are impacting the bank’s ability to attract and retain employees at this point? And maybe what you are doing to maintain your employees from a compensation perspective given that the tighter labor market?
Sure. No, very good question, and it’s been a tight market for quite some time. It’s kind of hitting all time lows over the last three year and a half, but it’s always been a tight market. As you know, we kind of -- we are very focused on being efficient. So, one of the things on retention we did do over the last couple years, we have raised the compensation of the kind of lowest wage employees we have most recently at the end of last year. As we talked about starting Jan 1, this year we had moved up to a $15 minimum wage across the bank. And so, that’s had a dramatic impact of reducing the normal turnover we had in some of those positions. And it’s just something we always have to stay focused on creating a work environment where people want to be, and compensating them fairly and providing the engagement as well as opportunities for them to improve and move up to higher level position.
Our next question comes from the line of Brock Vandervliet with UBS. Your line is open.
I was just asking a follow-up on the other fees, but you covered it. Thank you.
At this time, I’m showing no further questions. Oh, we have one. We have a question from Jared Shaw with Wells Fargo Securities. Your line is open.
This is actually Timur Braziler filling in for Jared. I think if I heard correctly said that you exited one deposit relationship kind of voluntarily. Did I hear that correctly and maybe a little bit more color around that relationship?
Yes, actually that was on the National Credit's on the, in the national market. The deal was getting redone and we have decided to accept based on our risk return basis. I think also maybe there’s some confusion, Eric, but also commented on the deposit relationship. Eric, you want to touch on?
Yes, I know. In the first quarter, we reported that we had one plan significant reduction I believe it was $266 million or $267 million and that was something. We did an exit the relationship. It was just one of those where we had worked with the customers, where they had notified that they were going to make a pretty meaningful shift, but we still retain the customer. It’s just a one-off item.
And then just a follow-up on the Shared National Credits. Given the kind of change and paid on activity, is that indicative of something else going on the infrastructure? And to that question, should we expect the Shared National Credits remain as big a part of the story as they are and kind of the growth profile for that kind of category?
This is Bob. It certainly a part of the story and will remain part of the story. We have a lot of good relationships out there with customers that have operations here and some that do not. So that's clearly part of it. It will evolve over time. We saw less activity in the second half of the year than we saw in the first half and some of that was merger related where we just got paid off and that's just the way it goes, but we're not seeing any strategic shift out of that market, nor do we see for the emphasis on it. But we're going to continue to be in that market and continue to manage that portfolio very, very carefully as we have for many years now.
Thank you. At this time, I'm showing no further questions. I would now like to turn the call back over to Kevin for closing remarks.
We want to thank everyone for joining us on our call today and you're interest in First Hawaiian. Feel free to contact me, if you have any additional questions. Thanks again and have a good evening.
Ladies and gentlemen, that concludes today's call. Thank you for your participations. You may now disconnect. Everyone have a wonderful day.