Central Pacific Financial Corp Q2 FY2025 Earnings Call

Good afternoon, ladies and gentlemen. Thank you for standing by, and welcome to the Central Pacific Financial Corp. Second Quarter 2025 Conference Call. This call is being recorded and will be available for replay shortly after its completion on the company's website at www.cpb.bank. I'd like to turn the call over to Ms. Dayna Matsumoto, EVP, Chief Financial Officer. Please go ahead.

Thank you, Rebecca, and thank you all for joining us as we review the financial results of the second quarter of 2025 for Central Pacific Financial Corp. With me this morning are Arnold Martines, Chairman, President and Chief Executive Officer; David Morimoto, Vice Chairman and Chief Operating Officer; Ralph Mesick, Senior Executive Vice President and Chief Risk Officer; and Anna Hu, Executive Vice President and Chief Credit Officer. We have prepared a supplemental slide presentation that provides additional details on our earnings release and is available in the Investor Relations section of our website at cpb.bank. During the course of today's call, management may make forward-looking statements. While we believe these statements are based on reasonable assumptions, they involve risks that may cause actual results to differ materially from those projected. For a complete discussion of the risks related to our forward-looking statements, please refer to Slide 2 of our presentation. And now I'll turn the call over to our Chairman, President and CEO, Arnold Martines.

Thank you, Dayna, and aloha, everyone. Before diving into our quarterly results, I'd like to take a moment to proudly share that CPB was named the Best Bank in Hawaii by Forbes Magazine in 2025. This is the fourth consecutive year the bank has made the Forbes list. Our second quarter financial results demonstrate the continued strength of our core business and ability to execute effectively in a dynamic market environment. The bank's strong asset quality, capital, and liquidity positions will enable us to grow our business by continuing to support the needs of our customers and the markets we serve. I want to thank our dedicated employees, customers, community, and shareholders for your continued support of our bank. Turning to our Hawaii market update. The state's economy continues to demonstrate resilience across multiple sectors. The construction industry remains solid with completed construction in the state reaching $14 billion in 2024. Activity in 2025 is expected to show steady growth driven by several major infrastructure and residential developments. Tourism, a key driver of our economy, shows encouraging trends. Through May year-to-date, visitor arrivals were up 2.8% from the prior year and down just 3.9% from pre-pandemic 2019. Total visitor spending was up 6.5% from the same prior year period and up 24.3% from the same period in 2019. The majority of the growth is from domestic travelers, while the recovery of Japanese visitors continues to be low. Hawaii's statewide seasonally adjusted unemployment rate remained very low at 2.8% in June and continued to outperform the national unemployment rate of 4.1%. The strong labor market continues to support consumer confidence and spending in our local economy. The Hawaii residential real estate market remains steady. Single-family home prices in Hawaii rose 0.4% in June with a $1.13 million median sales price. Home sales volumes for June year-to-date dipped 2.1% for single-family homes and dipped 6% for condos compared to the same prior year period. The housing supply in Hawaii continues to be tight but has picked up in recent periods and now has a positive outlook with a number of large housing projects in development. Looking ahead, we maintain a cautiously optimistic outlook for Hawaii's economy. While we're mindful of potential headwinds from global and domestic economic conditions, Hawaii's fundamental economic drivers remain sound and have proven to be resilient. Overall, we feel good about our core business environment and the opportunities ahead. With that said, I'll now turn the call over to David, who will talk about our growth strategy and outlook.

Thank you, Arnold. Our loan and deposit growth strategy continues to focus on deepening customer relationships and growing market share in Hawaii, in select Mainland markets, and in Asia. While growth was muted in the first half of 2025, as anticipated, the outlook for the second half of the year looks favorable. We continue to target low single-digit full-year growth for both loans and deposits in 2025. In the second quarter, our loan portfolio declined slightly and ended at $5.29 billion. By segment, growth was achieved in construction and consumer loans, while declines occurred in all other categories. Average yields earned on loans during the second quarter increased to 4.96% from 4.88% in the prior quarter as we continue to add new loans at current market rates. Our loan pipeline remains healthy, including several commercial real estate and construction loans that we are booking in early third quarter, which will provide revenue lift for the second half of the year. On the deposit front, we ended the second quarter with total deposits of $6.54 billion, which also declined slightly from the prior quarter. The deposit mix continued to shift favorably with an increase in non-interest-bearing demand deposit accounts. Our teams remain focused on growing core deposits while managing the cost of funds in this competitive environment. Additionally, our deposit generation initiatives related to Japan and Korea are gaining traction and play a role in our overall growth strategy. I'll now turn the call over to Dayna, who will provide an update on our financials.

Thanks, David. Our financial results continue to trend positively for the second quarter of 2025. Starting with our core earnings metrics, we reported net income of $18.3 million or $0.67 per diluted share. Return on average assets was 1.00%, and return on average equity was 13.04%. We achieved an improved efficiency ratio of 60.36% as the focus continues to be on driving positive operating leverage through revenue expansion, internal efficiencies, and expense management. Net interest income showed strong performance, increasing 3.6% quarter-over-quarter to $59.8 million. Our net interest margin expanded by 13 basis points to 3.44%, driven by the loan portfolio yield increasing by 8 basis points, combined with total deposit costs declining by 6 basis points. Our total cost of deposits was just 1.02% in the second quarter. We are pleased with our NIM expansion and continue to manage our balance sheet in the current rate environment while maintaining a disciplined approach to pricing. Total other operating income was $13.0 million in the second quarter. There was a $1.9 million increase quarter-over-quarter, primarily due to higher Bank Owned Life Insurance income resulting from equity market gains. Total other operating expense was $43.9 million in the second quarter, which was an increase of $1.9 million quarter-over-quarter due to higher deferred compensation expense also related to equity market gains as well as higher computer software expense. The computer software increase was driven by our new data center, which had offsets in several other expense line items and was slightly elevated this quarter due to overlap of services during conversion. The exit of our operations center building discussed in our prior quarter call is expected to happen by year-end and will result in a one-time pretax write-off of $2 million to $2.5 million. Going forward, we expect to realize total annual savings from reduced lease operating and maintenance expenses of approximately $1 million. Our effective tax rate was 23.5% in the second quarter and is expected to remain in the range of 22% to 24%. During the second quarter of 2025, we repurchased approximately 103,000 shares of common stock at a total cost of $2.6 million or $25 per share. As of June 30, $25.3 million in share repurchase authorization remains available. Finally, our Board of Directors declared a quarterly cash dividend of $0.27 per share, which will be payable on September 15 to shareholders of record on August 29. I'll now turn the call over to Ralph.

Thank you, Dayna. Strong credit performance and asset quality continued in the second quarter. Credit costs were up within our expected operating range and the level of nonperforming assets, past dues, and criticized assets remained low. Net charge-offs were $4.7 million or 35 basis points annualized on average loans. The increase in net charge-offs this quarter was related to the write-off of a single commercial loan after the borrower lost a legal dispute and effectively ceased operations. Losses in the consumer book were relatively flat to the prior quarter and down year-over-year. Nonperforming assets were $14.9 million or 20 basis points of total assets at quarter end, an increase of 5 basis points from the prior quarter. The increase came in the residential mortgage and home equity line of credit portfolios. Residential mortgages comprised the bulk of our nonperforming assets. Past due loans, 90 days plus, increased $2.1 million and represent 4 basis points of total loans. Criticized loans increased to 180 basis points of total loans but remained at low levels. As part of the enhanced monitoring effort we implemented at the start of the tariff declaration, we downgraded two large loans this quarter, a hotel participation and an owner-occupied commercial real estate loan. Both loans are performing and adequately collateralized. The provision expense was $5 million. In the quarter, we added $3.8 million to the allowance, alongside an additional $1.2 million to the reserve for unfunded commitments. The higher provision was primarily driven by increases in the construction loan commitments, combined with higher net charge-offs incurred this quarter. We continue to maintain a strong level of capital as additional support. Total risk-based capital was 15.8% at the end of the second quarter. At these levels, the bank can readily absorb the financial impacts that may result from a period of prolonged stress. Looking ahead, we will continue to rely on a well-tested management approach that considers risk through a cycle, anticipates a range of outcomes and builds a margin of safety to deal with adverse conditions. With that, let me now turn the call back to Arnold for closing remarks.

Thank you, Ralph. As we conclude, I want to emphasize the solid performance we've delivered. It demonstrates our ability to optimize performance in a dynamic market environment. I want to express my gratitude to our employees whose voyaging spirit navigates us through these uncertain times. To our customers, thank you for your continued trust and loyalty, and to our shareholders, thank you for your ongoing support and confidence in our strategy and execution. At this time, we will be happy to address any questions you may have.

Your first question comes from the line of David Feaster with Raymond James.

I wanted to start on the growth side. I mean, it sounds like there's some pretty encouraging trends here heading into the back half of the year. The pipeline is healthy. I was just curious maybe what you saw in the quarter? I mean, how is the pulse of your client? How is demand trending? Or is this more of a function of payoffs and paydowns offsetting otherwise solid originations? So just kind of curious on that, just again, the pulse of the competitive landscape from your perspective.

Yes. David, this is Arnold. Let me just start, and I'll turn it over to David Morimoto for more color. Yes, the loan growth for the first half was fairly muted, but that's expected given the operating environment. The team has done a really good job working together and engaging the marketplace and our customers and prospects. And we feel good about the second half of the year. We are still looking at low single-digit percent range growth for the full year. David can talk a little bit about what he's seeing and kind of what we expect in the next quarter or two.

David, yes, in the second quarter, there was the continued runoff of the expected continued runoff of the residential mortgage and home equity line of credit portfolios, and that likely will continue. We did see a few payoffs in the Mainland shared national credit portfolio, but that was by design. We had a couple of deals where the deals were recut and we just chose not to continue participating because we have other growth opportunities. On the positive side, we have a robust pipeline, and we had a handful of deals that were expected to close late second quarter that slipped into the third quarter. And as we mentioned in our prepared remarks, we did close a handful of loans in the first three weeks of July, and we have strong net loan growth already in July that will help revenue growth for the full year, the back half of the year.

Okay. That's helpful. And then again, how is just competition? I mean, are you seeing much competition increase? And then again, kind of along the same lines to some degree, I mean, there's been a lot of disruption on the islands recently. I'm just curious how you think about your positioning to capitalize on that and maybe gain share and dislocate some talent and clients.

Yes, David, it's David again. On the competition front, there always is good competition in the local Hawaii banking market. I wouldn't say it's any stronger or weaker. I think it's been pretty average. And then on the second part of the question about the recent changes in the Hawaii banking market, I haven't noticed any change with regard to territorial or American. They remain solid competitors, but no real change in strategy that I've noticed.

Okay. Okay. Maybe shifting gears to the other side of the balance sheet. Your noninterest-bearing deposit growth was extremely impressive. I'm curious maybe where do you find that you're having more success driving that? And then as we think about your margin trajectory over the next couple of quarters, how much deposit cost leverage do you have to support that? Or is it primarily going to be loan growth and back book repricing driven as you think about the margin side?

Let me start by saying that our team has done a really good job in staying close to our customers, ensuring that we are meeting their needs while also focusing on prospecting. We are collaborating internally to manage the balance between deposit growth and margin, and this is reflected in our core operating results. I am really pleased with that. David can share more about our outlook and what we are seeing that is impacting our results.

Yes. Thanks, Arnold. Yes, David, we have a good plan to grow core deposits, low-cost core deposits. And as you know, to grow core deposits, it's really about moving relationships. So it's really blocking and tackling, prospecting, and we're ramping up our efforts on that front, and we're seeing early success. And I think that's what you saw in the second quarter with the positive mix shift in our deposits.

Okay. On the expense side, Dayna, you touched on it a bit. There are some puts and takes there with the Bank Owned Life Insurance stuff, the lease savings. Could you help us think through maybe what's a good core expense run rate as we look forward? And maybe what are some of the areas that you're investing in?

Sure, David. Thanks for the question. So on the expense side, yes, we are pretty pleased with our progress on the efficiency ratio and driving positive operating leverage. As we had noted previously, we do continue to invest in the business, including in technology, facilities, as well as people where it makes sense strategically. Those investments are to create efficiency savings and ultimately drive greater revenue. So with all of that said, pulling it together, our near-term guidance for total other operating expense is going to be in the range of $43.5 million to $44.5 million per quarter, and that would be excluding any one-time impact.

That's helpful. For my final question, Ralph, I’d like to touch on the entire team. I appreciate your insights on the credit situation. I'm just curious at a high level, we experienced one significant loss this quarter which seems somewhat unique, and it appears that the consumer side has stabilized. At a high level, is there anything you're observing that makes you feel a bit anxious or cautious? I'm interested in your broader thoughts on the credit side.

Yes, David. The uptick in the asset quality metrics is really a function of being at a low starting point. I think if you consider the endpoint, we're well within our risk appetite. And then I would not extrapolate the charge-off or the two downgrades to be related to anything systemic. The circumstances around the three credits that we highlighted were specific to each name. I think that perspective is reflected in the reserve actions we took this quarter. The level of expected loss we see in the portfolio is relatively unchanged. And if you think about those losses based on the composition of our loan book, we expect credit losses between 25 and 50 basis points. If you look at our incurred losses over the last few years, they've run between 10 and 40 basis points. We were at maybe the higher part of that range this quarter annualized. But if you back out that one credit, which was unexpected, the incurred losses would have been at the lower end of that range. We're continuing to call on our customers regularly. We are looking at large exposures very frequently. The cadence has become more rigorous because of where we're at in the cycle. When you look at those two credits that were downgraded, that is really a function of the outlook we have today. We've identified some weakness that warrants closer attention. However, we've evaluated those loans for impairment, and they're well collateralized. We don't anticipate any losses. It's important to point out that both credits are performing.

Your next question comes from the line of Matthew Clark with Piper Sandler.

Maybe just starting on the margin, nice lift there this quarter again, deposit costs down. Just want to get a sense for exiting the quarter where the spot rate was on deposit costs, if you had it at the end of June. If you also had the average margin in the month of June, that would be helpful.

Matthew, it's Dayna. So yes, I can start with the spot rate. The spot deposit cost on June 30 was 0.98%. For the month of June, our margin was 3.49%.

Great. And then can you remind us what you have coming due on the CD repricing side? How much you have over the next couple of quarters that are maturing and the rates that they're maturing at and where you're offering new CDs?

Sure. On the CD portfolio, we have about $430 million maturing in the third quarter and then another about $350 million maturing in the fourth quarter. This excludes our government CDs. As far as the roll-off rates on a weighted average basis, it's about 3.6%. Our current CD promotional rate that we're offering is at 3.4%. So we continue to have some opportunity to lower our CD costs as those roll over.

Okay. Assuming we have a couple of rate cuts in the second half of the year, what are your thoughts on the impact of those cuts? Your cycle-to-date beta on interest-bearing accounts is around 42%, which is an improvement compared to the upward trend. I'm interested in knowing how much of the Fed rate cuts you might be able to pass on to depositors.

Sure. When the Fed cuts rates, we believe we can continue to successfully lower our deposit costs with a pretty minimal timing lag. The deposit pricing market here continues to be pretty rational. As far as the betas, you're correct. So far, it's been about 42% on the total interest-bearing deposits. When you look specifically at our more rate-sensitive deposits, the money markets and the CDs, the beta has been close to 100%. With the upcoming Fed rate cuts, we expect it to be similar on the betas, and we think we'll continue to be successful with our pricing strategies and continued discipline.

Great. Okay. And then on the loan yields, up nicely here, up 6 basis points, I believe, at least by our calculation. Can you give us a sense for the new loan production, what kind of rates you're getting maybe on a weighted average basis? Just trying to get a sense for the lift on loan growth.

Matthew, it's David Morimoto. In the second quarter, the weighted average new loan yield was roughly 7.2%, which obviously compares favorably to the portfolio yield that you mentioned is just about 5%.

Okay. Great. Regarding the net charge-offs, I recall you mentioning that without one specific commercial and industrial credit, the net charge-offs would have been closer to the lower end of the range. Could you provide the dollar amount of net charge-offs related to that particular credit?

Yes, it was about 21 basis points of the amount. So if you back that out, we would have been at about 14 basis points.

Okay. Perfect. And then just the increase in criticized, you called out those two credits. I think one was a hotel participation, the other one, I can't recall. But can you just give us some more color on what's happening with those two credits and kind of the plan for resolution and timing?

Yes. I want to be as transparent as possible, but I need to be sensitive to the information we disclose on these calls. So I can't really say more than that. I think it would be inappropriate for me to provide more details. But as I said, we do not expect any losses on these two credits. We do believe that there will be some resolution in the coming couple of quarters.

Okay. And then last one for me, just on the Mainland shared national credit portfolio. Can you remind us how large that portfolio is?

Let's say it's about $403 million, and that breaks out roughly $152 million of that is commercial and industrial.

At this time, there are no further questions. I will now turn the call back over to Dayna Matsumoto for closing remarks.

Thank you very much for participating in our earnings call for the second quarter of 2025. We look forward to sharing our progress with you next quarter. Thank you.

Ladies and gentlemen, that concludes today's call. Thank you all for joining. You may now disconnect.