Earnings Call Transcript - BOH Q4 2020

Operator, Operator

Ladies and gentlemen, thank you for standing by, and welcome to the Bank of Hawaii Corporation Fourth Quarter 2020 Earnings Call. At this time, all participants are in a listen-only mode. After the speakers' presentation, there will be a question-and-answer session. Please be advised that today’s conference is being recorded. I would now like to hand the conference over to your speaker for today, Cindy Wyrick. You may begin.

Cindy Wyrick, Manager of Investor Relations

Thank you. Good morning, good afternoon everyone. Thank you for joining us today as we discuss the financial results for the fourth quarter of 2020. On the call with me today is our Chairman, President and CEO, Peter Ho, our Chief Financial Officer, Dean Shigemura, our Chief Risk Officer, Mary Sellers, and Janelle Higa, our new Manager of Investor Relations. Before we get started, let me remind you that today’s conference call will contain some forward-looking statements and while we believe our assumptions are reasonable, there are a variety of reasons that the actual results may differ materially from those projected. During the call this morning, we will be referencing a slide presentation as well as the earnings release. A copy of the presentation and release are available on our website, boh.com under Investor Relations. And now, let me turn the call over to Peter Ho.

Peter Ho, Chairman, President and CEO

Thank you, Cindy. Good morning, everyone or good afternoon. I’m going to touch a little bit on the Hawaii market, and I’ll turn it over to Dean and Mary to talk on finances as well as our improving risk profile. And then I’ll finish with some thoughts on how we are thinking about 2021 before we take your questions. To begin with, though, I’ll say quarter four represented a good quarter. It’s a little bit noisy, but generally we saw a stabilizing economy, good revenue and balance sheet growth, good expense management when you cut through a bunch of noise in there. Again, fortress capital and a terrific liquidity position and improving loan deferral population that Mary will touch on. And then finally, I think as we step into 2021, roughly we are prepared to take on the challenges of this year. Let me touch on the economy for a bit on a few slides here. What you see here is Hawaii unemployment really those twin towers in April and May of 23.6% and 23.4% representing effectively a high-water mark as we stepped into the pandemic and then winnowing down slowly, still stubbornly high relative to pre-pandemic levels. Q4 forecast was coming in at about 13.5, which represents a bit of an improvement from the prior quarter. The forecast looking forward into Q1 is for a little bit of erosion in that number, as we get through the holiday activity, as well as I think attributed to some of the infection rates that we're seeing on the mainland, in particular, our west coast markets, which have a bigger impact on us than some other markets. This is the longer-term outlook for unemployment on page five. Here you see the forecast has been bumped up modestly. Speaking to two things: an infection rate above what we had anticipated and an infection rate occurring, as I mentioned, in some of our more strategic locations on the U.S. Mainland. This forecast was really built around a level of stimulus, but more on the moderate side from where I think most people's minds are right now. We've learned to GDP and personal income. You see in 2020, the dark blue forecasts are down 10%. It's actually a slight improvement from the prior year's forecast really more for adjustment basis. As we look into 2021, basically what you hear was forecasting is basically a flatline across where we ended up in 2021 and a bounce back in 2022. On the brighter side, personal income levels actually grew in 2020, as a result of the extraordinary stimulus provided on the fiscal side. Hawaii as a beneficiary enjoyed that surplus as well. A bit of a dip in 2021 is forecasted again, I mentioned that this forecast was done with probably a little more sober view around the possibilities for stimulus in 2021. But basically the call is for personal income levels to get back to 2019 levels. We talk about the real estate market here in Hawaii, which is our primary market. Median sales for the year were up 5.2% for single-family homes and 2.4% for condominiums. December numbers are even stronger at 6.1% and 6.9% respectively. Inventory conditions continue to be very tight. So days on market for single families is 14 days; for condominiums, 24 days. Still very much a seller's market. I'll finish on the infection or the daily arrivals before the infection. We launched our Safe Travels program. That has been, after a few fits and starts, a pretty well-received program. We're actually getting to call more of a normal state of operation there. Running at this point 20% to 30% of prior year, likely to wind out at that level, short of the pandemic subsiding in our key markets, likely looking more towards the back end of this year for the vaccines to take effect. On the next slide over to infection rates, Hawaii has been one of the safer places in the country by infection rates. That’s a little snapshot on the local marketplace. Now let me turn it over to Dean who will give you some of the financial highlights.

Dean Shigemura, CFO

Thank you, Peter. Net income for the full year of 2020 was $153.8 million, or $3.86 per share. Net income for the fourth quarter was $42.3 million, or $1.06 per share. Net interest income for 2020 on a reported basis was $496.3 million, down $1.4 million from 2019. Net interest income in the fourth quarter was $119.5 million. Included in the fourth quarter net interest income was a one-time reduction of $3 million for an impairment of a leveraged lease. Excluding the impairment from the fourth quarter, net interest income was $122.5 million, a decrease of $1.7 million from the previous quarter and $1.4 million from the same quarter in 2019. We recorded a credit provision of $15.2 million this quarter, which includes $2.7 million to establish a reserve for interest associated with deferrals. Non-interest income for the full year of 2020 was $184.4 million, an increase of $1.1 million from 2019. Non-interest income totaled $45.3 million in the fourth quarter, driven by strong mortgage banking income and customer derivative revenue. The increase in the fourth quarter from the prior quarter was due to these strong results. Non-interest income in the fourth quarter of 2019 included a gain of $3.8 million related to the early buy-out of the leveraged lease. Adjusting for this one-time item, non-interest income in the fourth quarter of 2020 increased to $1.4 million from the fourth quarter of 2019. Despite the ongoing challenges of the pandemic, we expect non-interest income in 2021 to be approximately $42 million to $43 million per quarter. Although non-interest income has greatly improved from earlier in the pandemic, economic conditions remain challenging. In addition, higher interest rates may reduce mortgage banking volume and revenue. Non-interest expense for the full year of 2020 was $373.8 million, a decrease of 1.4% compared with $379.2 million in 2019. Non-interest expenses in the fourth quarter totaled $98.7 million and included one-time charges of $6.1 million for the closure of branches and the reduction of cash-only ATMs, and $800,000 related to the true-up of amortization of an investment. Adjusting for these one-time items totaling $6.9 million, non-interest expense in the fourth quarter was $91.8 million. The increase from the third quarter was primarily due to increases in variable expenses related to stronger revenue growth and loan and deposit production. Accruals for corporate incentives in the fourth quarter increased to $3.1 million, but continued to be lower than the comparable period in 2019. For 2021, we expect non-interest expenses will be flat to 1% higher than 2020 reported expenses of approximately $374 million. Included in the estimate is the return of variable compensation to more normal levels. The effective tax rate for the fourth quarter of 2020 was 16.87%. Currently, we expect the effective tax rate for 2021 to be approximately 23%. Our loan portfolio increased by $146 million, or 1.2% quarter-over-quarter and $949 million, or 8.6% year-over-year. Growth was driven by strong commercial and mortgage production. Our strong deposit growth continued in the fourth quarter, increasing by $473 million, or 2.7% quarter-over-quarter, and $2.4 billion, or 15.4% year-over-year. During the quarter, core consumer and commercial deposits grew by $587 million, while public time deposits were reduced by $72 million. Our return on assets during the fourth quarter was 0.83% and our efficiency ratio is 59.88%. Our net interest margin in the fourth quarter was 2.48%. Adjusting for the one-time $3 million leveraged lease impairment, the margin for the fourth quarter was 2.54%, lower by 13 basis points from the third quarter. In 2021, we expect the margin to decline three to four basis points per quarter, stabilizing towards the end of the year. These estimates exclude the impact of PPP loan repayments and from the new PPP loan program.

Mary Sellers, Chief Risk Officer

Thank you, Dean. At the end of the quarter, the loan portfolio, net of PPP balances, totaled $11.4 billion and remains 60% consumer and 40% commercial, with 78% of the portfolio secured with high-quality real estate. We believe this portfolio construct, built on consistent conservative underwriting and discipline portfolio management, will continue to provide a superior outcome and allow us to continue to support our customers and community through these unprecedented times. As you may recall, we elected to provide initial payment relief of up to six months for customers, given the degree to which Hawaii was impacted by COVID, supported under the CARES Act and our capacity to do so. Accordingly, the majority of our deferrals began to return to normal payment schedules in the fourth quarter, and as of January 21, customer loan balances on deferral were down to $428 million, or 3.6% of total loans. 86% of the loans remaining in deferral were secured with our consumer residential deferrals having a weighted average loan-to-value of 65% and our commercial deferrals having a weighted average loan-to-value of 47%. 90% of the commercial loans in deferral continued to pay interest. Credit metrics remain strong and relatively stable in the fourth quarter. We realized net recoveries of $300,000 for the quarter versus net charge-offs of $3.7 million in the fourth quarter of 2019. Non-performing assets totaled $18.5 million, or 15 basis points at period end, flat for the linked quarter and down year-over-year. Loans delinquent 30 days or more were $36.5 million, or 31 basis points at the end of the fourth quarter, up from 23.2 million, or 20 basis points at the end of the third quarter as deferrals began to end and customers returned to normal payment schedules. Critical loan exposure increased to 2.63% of total loans. The provision for the allowance for credit losses was $12.5 million for the quarter. The increase this quarter reflects the company's credit risk profile and the current economic outlook while continuing to provide for the potential downside risks inherent with the pandemic. The reserve for unfunded commitments was $2.4 million at December 31, up from the third quarter.

Peter Ho, Chairman, President and CEO

Great, thank you, Mary. I'd like to finish off with just a little bit of discussion around how we see 2021 shaping up and the macro environment. What you see on slide 20 is obviously activity impacted by the broader consequences of the virus hopefully trending better. But if we've learned one thing, this virus has turned out to be very unpredictable. We see top-line opportunity as challenging, but not insurmountable. Another interesting thing happening is that this pandemic has resulted in a real acceleration of what was already underway in the shift to digital channels. Clearly, our priorities for 2021 include continued risk vigilance, support for recovery, supporting the economy, and leaning into shifts in evolving consumer preferences and behavior. We've been able to grow market share for a number of years, and despite the challenges of the year, we see no reason not to think that trend will continue.

Operator, Operator

Thank you. Our first question comes from the line of Jeff Rulis with D.A. Davidson. Your line is open.

Jeff Rulis, Analyst

Thanks. Good morning.

Peter Ho, Chairman, President and CEO

Good morning, Jeff.

Jeff Rulis, Analyst

I appreciate the thoughts on the consumer digital adoption slides, were interesting. Switching gears on the industry moving towards more reserve release, you continue to grow the reserve. I just want to check in with that. It may be colored by your projections relative to the local market. Peter or Mary, if you want to touch on where you think you are relative to national macro trends?

Peter Ho, Chairman, President and CEO

Yes. Well, Jeff, let me start and Mary can clean up whatever mess I create here. Hawaii is lagging the rest of the country a bit by unemployment and near-term recovery prospects. The trajectory of our provisioning is down smartly from the prior quarter, still $15 million is a good amount of change. There’s potential for that trajectory to continue if there are no unforeseen events happening. That's how we see it.

Mary Sellers, Chief Risk Officer

The only thing I'd add is, we've really been focused on two aspects: the deferrals and our high-risk industry exposure. We're seeing positive outcomes there, which are also leading us to consider reducing the reserve. We continue to ensure that we're prepared for any downside risks.

Jeff Rulis, Analyst

Okay. And my other question was on the cost savings from the branch consolidation. Is this included in the guidance for expenses being flat or up 1%?

Dean Shigemura, CFO

Yes, it is, Jeff. About half of that savings is FTE savings with a majority achieved this year as branches have taken their own hiring approaches.

Jeff Rulis, Analyst

Okay. And I guess, are you assuming pretty low reinvestment rates for cash into securities?

Peter Ho, Chairman, President and CEO

Yes. We will likely continue to execute strategic decisions around our branches while evaluating our performance.

Ebrahim Poonawala, Analyst

Good morning, guys.

Peter Ho, Chairman, President and CEO

Hi, Ebrahim.

Ebrahim Poonawala, Analyst

Just following up on the consumer, like should you be doing more in terms of digital, understanding that you've been very disciplined on the expense front?

Peter Ho, Chairman, President and CEO

We've actually looked at it the opposite way and identified the things we need to get done to be competitive. No project has been pushed aside due to cost concerns.

Ebrahim Poonawala, Analyst

Got it. Understood. And just to follow up on Dean, clarifying the margin outlook.

Dean Shigemura, CFO

The additional liquidity was about three to four basis points. We expect to deploy as much cash as prudent. Still, we have a lot of liquidity on the balance sheet.

Peter Ho, Chairman, President and CEO

In 2021, if we can hit mid-single-digit loan growth for the year, that would be a good target.

Andrew Liesch, Analyst

Hi. Good morning, everyone.

Peter Ho, Chairman, President and CEO

Hi, Andrew.

Andrew Liesch, Analyst

I just want to touch on the non-interest income guidance. What does that assume for mortgage banking revenue?

Dean Shigemura, CFO

We did have a pretty extraordinary fourth quarter. We built in some conservatism based on volumes; if interest rates rise, we could see a drop-off.

Laurie Hunsicker, Analyst

Hi, thanks. Good morning. I just wanted to go back to Andrew's question about the tax rate for next year at 22%.

Peter Ho, Chairman, President and CEO

Yes, 22%. We expect income to be a little bit higher this year, pushing the effective tax rate higher.

Cindy Wyrick, Manager of Investor Relations

I'd like to thank everyone again for joining us today for your continued interest in Bank of Hawaii. As always, if you have any additional questions or need further clarification on any of the topics discussed today, please feel free to contact Janelle and me. Thanks, everyone. Take care.

Operator, Operator

Ladies and gentlemen, this concludes today's conference call. Thank you for your participation. You may now disconnect. Everyone have a wonderful day.