Cathay General Bancorp Q1 FY2024 Earnings Call

Good afternoon, ladies and gentlemen, and welcome to the Cathay General Bancorp's First Quarter of 2024 Earnings Conference Call. My name is Gary and I'll be your co-ordinator for today. At this time, all participants are in listen-only mode. Following the prepared remarks, there will be a question-and-answer session. 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 Georgia Lo, Investor Relations of Cathay General Bancorp. Please go ahead.

Thank you, Gary, and good afternoon. Here to discuss the financial results today are Mr. Chang Liu, our President and Chief Executive Officer 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 31st, 2023, 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. Any forward-looking statement speaks only as of the date on which it is made and accept as required by law. We undertake no obligation to update or review any forward-looking statements to reflect future circumstances, developments or events, or the occurrence of an anticipated event. This afternoon, Cathay General Bancorp issued an earnings release outlining its first quarter 2024 results. To obtain a copy of our earnings release, as well as our earnings presentation, 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 President and Chief Executive Officer, Mr. Chang Liu.

Thank you, Georgia, and good afternoon. Welcome to our 2024 first quarter earnings conference call. This afternoon we reported net income of $71.4 million for the first quarter of 2024, a 13.4% decrease as compared to $82.5 million the previous quarter. Our net income this quarter included a $9 million or $0.09 per diluted share mark-to-market loss from equity securities and a $2.9 million or $0.03 per diluted share accrual for an increase in the FDIC special assessment. Diluted earnings per share decreased by 13.5% to $0.98 per share for the first quarter of 2024 as compared to $1.13 per share in the previous quarter. In the first quarter of 2024, total gross loans decreased by $119 million or 2.4% annualized, primarily driven by increases of $92 million or 3.8% annualized in commercial real estate loans, offset by a decrease of $172 million or 20.9% annualized in commercial loans and $40 million or 37.7% annualized in construction loans. Due to slower than expected loan growth in the first quarter of 2024, we have revised our overall loan growth guidance for 2024 to range between 3% and 4%. We've added slide six to show the percentage of loans in our major loan portfolio that are either fixed rate or hybrid loans in their fixed rate period. Our loan portfolio consists of 64% fixed rate and hybrid loans excluding fixed-to-float interest rate swaps on 4% of total loans. Fixed rate loans comprised 30% of total loans and hybrid loans in the fixed rate period comprised 34% of total loans. We continue to monitor our commercial real estate loans. Turning to slide eight of our earnings deck, as of March 31, 2024, the average loan-to-value of our CRE loans was 50%. As of March 31, 2024, our retail property loan portfolio, as shown on slide nine, comprised 23% of our total commercial real estate loan portfolio or 12% of our total loan portfolio. Ninety percent of the $2.3 billion in retail property loans are secured by retail store buildings, neighborhood, mixed-use or strip centers, and only 9% is secured by shopping centers. On slide 10, office property loans represent 15% of our total commercial real estate loan portfolio or 8% of our total loan portfolio. Only 34% of the $1.5 billion in office property loans are collateralized by pure office buildings, and only 3% are in central business districts. Thirty-eight percent of office property loans are collateralized by office retail stores, office mixed-use, and medical offices while the remainder, 28%, are collateralized by office condos. For the first quarter of 2024, we reported net charge-offs of $1.1 million as compared to $4.1 million in the previous quarter. Our non-accrual loans were 0.5% of total loans as of March 31, 2024, which increased by $31.4 million to $98.1 million as compared to the previous quarter. The increase in non-accrual loans during the first quarter of 2024 came mainly from a $23 million low loan-to-value construction loan in New York, which is past due maturity, and two theater loans totaling $21 million. Turning to slide 12, as of March 31, 2024, classified loans increased to $244 million from $200 million as of December 31, 2023, and our special mention loans decreased to $249 million from $308 million as of December 31, 2023. So for the first quarter of 2024, there was a small decrease in total special mention and classified loans. We recorded a provision for a credit loss of $1.9 million in the first quarter of 2024, as compared to a $1.7 million provision for credit losses for the previous quarter. Total deposits increased by $520.8 million or 10.8% annualized during the first quarter of 2024. Total core deposits increased by $210.9 million or 8.4% annualized, and total time deposits increased by $731.7 million or 31.3% during the first quarter of 2024, mainly due to our Lunar New Year CD campaign. We expect the overall deposit growth to continue in an estimated range of between 4% and 5%. As of March 31, 2024, total uninsured deposits were $8.1 billion, net of $0.7 billion in collateralized deposits or 40.7% of total deposits. We have an unused borrowing capacity from the Federal Home Loan Bank of $6.9 billion and unpledged securities of $1.7 billion as of March 31, 2024. The sources of available liquidity more than cover 100% of uninsured and uncollateralized deposits as of March 31, 2024. I will now turn the floor over to our Executive Vice President and Chief Financial Officer, Mr. Heng Chen to discuss the quarterly financial results in more detail.

Thank you, Chang, and good afternoon, everyone. For Q1 2024, net income decreased by $11.1 million or 13.4% to $71.4 million, compared to $82.5 million in the previous quarter, primarily due to a $9 million unrealized loss of equity securities in Q1 2024 versus a $9 million unrealized gain on equity securities in Q4 2023, and an additional $2.9 million accrual in Q1 2024 for the FDIC special assessment. Q1 2024 net interest margin was 3.05% as compared to 3.27% for the previous quarter. Interest recoveries and prepayment penalties did not change the net interest margin for Q1 2024 versus an increase of one basis point for the previous quarter. We estimate our net interest margin for 2024 to be between 3.05% to 3.15% based on the expectation for two rate cuts in 2024, with the first rate cut in September and the second rate cut in December. Our prior net interest margin guidance was based on three rate cuts, with the first rate cut being in June. Given that 64% of our loans are fixed rate or hybrid loans in their fixed rate period, the lower number of rate cuts negatively impacted our net interest margin guidance. Non-interest income during the first quarter of 2024 decreased by $16.5 million to $6.6 million when compared to $23.1 million in the previous quarter. The decrease was primarily due to an $18 million increase in unrealized loss on equity securities between the two quarters. Non-interest expense decreased by $17.3 million or 15.6% to $93.2 million in Q1 2024 when compared to $110.5 million the prior quarter. This decrease was primarily due to a net decrease of $8.3 million from the FDIC special assessment, $11.7 million in lower amortization of solar tax credit investments, and $1.3 million lower in professional expense, offset by an increase of $3.5 million in salary and benefits, which included a $2 million true-up for 2023 bonuses, a $1.4 million seasonally higher payroll expense, and an acceleration of $1 million of contributions into Q1 2024 as compared to the previous quarter. The effective tax rate for Q1 2024 was 10.76% as compared to 11.28% in the previous quarter. With the closing of a new solar tax credit fund investment in Q1 2024, we expect an effective tax rate of between 12% and 13% for 2024. We now expect total 2024 solar tax credit investment amortizations of $32.5 million with $8 million in Q2 of 2024 and $9 million each in Q3 and Q4. As of March 31, 2024, our Tier 1 leverage capital ratio increased to 10.71% as compared to 10.55% as of December 31, 2023. Our Tier 1 risk-based capital ratio increased to 13.08% from 12.83% as of December 31, 2023, and a total risk-based capital ratio increased to 14.55% from 14.3% as of December 31, 2023.

Thank you, Heng. We will now proceed to the question-and-answer portion of the call.

The first question today is from Matthew Clark with Piper Sandler. Please go ahead.

Hey, good afternoon. Thanks for the questions. Just the first one around the margin. Can you give us the average margin in the month of March and then the spot rate on interest-bearing or total deposits at the end of March?

Yeah, the NIM for the month of March was 2.99%. And then the spot rate for interest-bearing deposits at the end of March was 3.8%.

Okay. Got it. Okay and then just the low-income housing tax credit amortization, I think it was $8.2 million in the first quarter. Is that still expected to be $10.5 million per quarter for the next three?

It might be closer to $10 million, but it jumps around.

Yeah, okay. Okay and then just the reserve on your office portfolio. Is it consisted with the overall CRE reserve or has it changed at all?

Matthew, since we didn't have any new office non-accruals, it's still the same as the general reserve.

Okay. Thank you.

Yeah.

The next question is from Brandon King with Truist. Please go ahead.

Hey, good afternoon. Thanks for taking my questions. So, on the NIM guidance, what do you think takes you from the lower end of the range to the higher end of the range? Could you just give us kind of the puts and takes as far as how you're thinking about things?

Brandon, aside from the increased rates we offered for the six-month CDs during the Chinese New Year promotion, we believe that deposit pricing pressure is easing. As the quarter progresses, CD pricing will align more with the fixed bond for one-year treasury, which is expected to lower from current levels, resulting in less pressure on deposits. Additionally, our new loans, like residential mortgages, are being issued at lower rates in the 7% range, which will help raise the average rate on our loans. We also have some commercial real estate loans that are being re-priced, which will further enhance loan rates. Thus, we anticipate the net interest margin (NIM) might be slightly lower in Q2, potentially flat through Q2 and Q3, but we expect significant improvement in Q4.

Got it. And that's because of the rate cuts, right? The impact of the rate cuts, is that?

Yeah.

Okay.

Yeah.

Okay. It makes sense. And then could you update us on the CD re-pricing or the CD maturities for the rest of the year?

In the second quarter, we have $2.1 billion in CDs with a yield of 4.57 for maturing CDs. In Q3, the amount is $3.6 billion, and the yield on those CDs is 4.82, reflecting our Chinese New Year promotion for the six-month term. For Q4, $2 billion in CDs will mature at a yield of 4.67. In Q1 2025, we have $1.9 billion maturing with a yield of 4.18. Some of the lower yield is due to our Chinese New Year promotion, where the one-year rate was 4.88, which was lower than the six-month rate.

Got it. Very helpful. I will hop back in the queue.

Thank you.

The next question is from Gary Tenner with D.A. Davidson. Please go ahead.

Thanks. Good afternoon. A little bit of a follow-up on the deposit and NIM question. I mean, just in a year where you don't have a need for massive deposit growth, given what the loan growth outlook looks like, how aggressive can you be on deposit pricing maybe outside the CD portfolio? Is that going to roll lower anyway?

We're currently experiencing less pressure to increase new deposits due to our expectations of slower loan growth. As we move later into the year, we plan to be more proactive in lowering rates. Additionally, the decline in one-year treasury yields in the future will benefit us.

Right. I guess what I was trying to ask, perhaps I didn't ask you well enough, is outside of the CD book, do you have the ability do you think to nudge down or nibble on kind of deposit pricing to push it a little bit lower even ahead of a Fed cut or do you not think you have the ability to do that?

No. A significant portion of our money market book is closely linked to Fed funds. Therefore, when there is a Fed rate cut, we will reduce the rate for those depositors by 25 basis points. Additionally, for other money market depositors, we may lower their rates by 10 or 15 basis points. We also have some new accounts that are tied to Fed funds.

Got it. Thank you.

So it's just not the CDs that won't be able to be re-priced, right? Thank you.

The next question is from Andrew Terrell with Stephens. Please go ahead.

Hey, good afternoon. Just a quick follow-up on the margin, just on the discussion around the cadence throughout the year, it sounded like flattish in Q2 and Q3, and then lifts into Q4 kind of commensurate with your Fed cut assumptions. I'm just curious, is the flattish commentary, is that off of the spot margin you referenced or the March margin of 2.99 or do you think that the Q2 margin is flat to the 3.05 reported in the first quarter?

No, it will be down a couple of basis points. There are two 30-day months, so that helps us because we have so many residential mortgages.

Okay. So maybe down just a couple of basis points in the second quarter and then flattish in Q3 and then starts to lift?

Yes.

Okay. And then if I was looking at the core operating expense lift in the first quarter and it was maybe a little more than what I was expecting. And if I do the math right, kind of tracking a few million dollars ahead of where your full year expense growth guidance implies. So I guess my question is just how much of the 1Q lift in core operating expenses was more seasonality-driven? And then, just curious, as we move throughout the year, where are you going to see quarterly expense reductions in the core OpEx to land in that 3% to 3.5% growth guidance?

Yeah. Well, in my comments, I tried to cover the FICA hit, the bonus catch-up, the fact that we accelerated some charitable contributions from April to March. We also, because our loan growth was negative, we also had lesser loan origination costs capitalized. So based on kind of looking at the flow of expenses, we think we'll be close to that 3.5% upper range.

Okay. Understood. I appreciate it.

Yeah. Thank you.

The next question is from Chris McGratty with KBW. Please go ahead.

Last quarter, you mentioned that a key factor for your margin guidance was the stability of non-interest bearing deposits, which decreased again this quarter. Have you adjusted that assumption for the second half of the year in your guidance?

We spent a lot of time looking at the DDA by branch, and we think some of it is seasonal because of the Chinese New Year, the payment of taxes. So it's been stable in March and so far in April in terms of the DDA balance. And then, Chang, I think tends to build up later in the year.

As the customers' kind of business flow and the volume continues, some of the DDA balance should pick back up.

Okay, great. And then the follow-up, I guess, is two parts. One, it would seem like net interest income dollars would have a little bit more downward pressure in Q2, stability in Q3, and then growth in Q4. And then I just want to make sure I heard Matt's question on the amortization. So Q2 should be somewhere like $18 million combined solar and low-income, right, $8 million plus $10 million?

Yes.

Okay. And then you agree with my logic on the net interest income cadence on a quarterly basis?

Yeah, it'll be down a little bit more in Q2. We benefit from the two 30-day months in Q2. And then in Q3, we have half a month of the Fed cut that will happen in September and hopefully some re-pricing from our Chinese New Year deposits.

Okay, great. Thanks, Heng.

Okay. Yeah. Thanks, Chris.

Thank you for your participation. I will now turn the call back over to Cathay General Bancorp's management for closing remarks.

I would like to thank everyone for joining us on our call, and we look forward to speaking with you at our next quarterly earnings release call.

Ladies and gentlemen, thank you for your participation in today's conference. This concludes the presentation. You may now disconnect. Good day.