Earnings Call Transcript - CPF Q1 2024

Operator, Operator

Good afternoon, ladies and gentlemen. Thank you for standing by, and welcome to the Central Pacific Financial Corp. First Quarter 2024 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, Group Senior Vice President and Director of Finance and Accounting. Please go ahead.

Dayna Matsumoto, Group Senior Vice President and Director of Finance and Accounting

Thank you, Eli, and thank you all for joining us as we review the financial results of the first quarter of 2024 for Central Pacific Financial Corp. With me this morning are Arnold Martines, President and Chief Executive Officer; David Morimoto, Senior Executive Vice President and Chief Financial Officer; and Anna Hu, Executive Vice President and Chief Credit Officer. We have prepared a supplemental slide presentation that provides additional details on our release, which 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 President and CEO, Arnold Martines.

Arnold Martines, President and Chief Executive Officer

Thank you, Dayna, and hello, everyone. We appreciate your interest in Central Pacific Financial Corp., and we are pleased to share our latest updates and results with you. We had a special start to 2024. First, with the celebration of our 70th anniversary in mid-February, where we took time to honor our founding. As many of you know, our bank was started by World War II DC veterans to help the underserved in Hawaii. We celebrated this special occasion with our many long-standing loyal customers and employees. Consistent with our founders' mission, in March, we were recognized for the 15th time as SBA Lender of the Year Hawaii District. We are all very proud to continue the legacy. Our financial results in the first quarter reflect our positioning to optimize performance in the coming quarters. We believe we are well positioned with strong liquidity, asset quality, and capital, and a healthy pipeline. The team will provide additional detail and insights on our first quarter financial performance. But as usual, let me start with an update on the Hawaii market. The Hawaii economy has proved to be resilient despite headwinds that have impacted recovery. In the month of February, total statewide visitor levels measured by the average daily census due to the leap day were about 3% down from the prior year and about 95% of pre-pandemic 2019. Visitors from Japan continue to increase, up 77% from a year ago yet remain about 48% of the same month in 2019. As it relates to Maui, total visitors in February were about 78% of the prior year as recovery following the wildfires continues. Total statewide hotel occupancy in March was 75%, down 1.9% from a year ago with an average daily rate of $384, down 0.9% from a year ago. Hawaii's statewide seasonally adjusted unemployment rate was 3.1% in March and continues to outperform the national unemployment rate of 3.9%. The University of Hawaii Economic Research Organization forecasts the state unemployment rate to remain very low at 2.7% in 2024. In the area of Hawaii real estate values, the Oahu median single-family home price increased back up to $1.1 million, and the median condo sales price was $500,000 in March. Home sales volumes in the first quarter were up 6.1% for single-family homes, but down 7.1% for condos compared to the prior year. With the demand for housing remaining strong, it is welcoming to see inventory levels increasing with a 7.4% increase in active inventory for single-family homes in March. Overall, we remain optimistic about Hawaii's economic outlook. Although the impacts from the Maui wildfires have slowed our recovery in the near term, we are getting closer to recovery. In addition, government and military contracts in Hawaii are at all-time highs with $5 billion in total contracts awarded in 2023. With all of that said, the latest forecast is for the total state economy to continue to grow modestly in 2024. I'll now turn the call over to David Morimoto, our Chief Financial Officer. David?

David Morimoto, Senior Executive Vice President and Chief Financial Officer

Thank you, Arnold. Turning to our earnings results. Net income for the first quarter was $12.9 million or $0.48 per diluted share. Return on average assets was 0.70%, return on average equity was 10.33%, and our efficiency ratio was 66%. In the first quarter, our total loan portfolio decreased by $37.6 million or 0.7% sequential quarter, primarily due to planned runoff in the Mainland consumer loan portfolio and partially offset by growth in our Hawaii commercial real estate portfolio, where there are good risk/reward opportunities. Our loan pipeline for the second quarter and beyond is healthy, and we continue to take a balanced approach to loan growth. Our total deposit portfolio decreased by $228.7 million or 3.3% sequential quarter which included $139 million decrease in high-cost government time deposits. During the quarter, we reduced excess liquidity and paid down our highest-cost deposits, which will help our NIM going forward. Net interest income for the first quarter was $50.2 million, decreasing by $1 million from the prior quarter. The net interest margin was 2.83%, down only 1 basis point sequential quarter. Our total cost of deposits was 1.32% in the first quarter, and our cycle-to-date total deposit repricing beta was 24%. Our pay fixed receive float swap on $115 million of municipal securities started on March 31 and at current rates adds approximately $1 million in pre-tax income quarterly. We believe our NIM has bottomed and will expand modestly in the coming quarters. First quarter other operating income was $11.2 million, normalizing following the nonrecurring gain on office sale and investment portfolio restructuring loss in the fourth quarter. Other operating expenses totaled $40.6 million in the first quarter, normalizing after we took the charge on the early branch lease termination in the fourth quarter of last year. Our effective tax rate was 23.5%, and we believe it will continue to be in the 23% to 25% range going forward. During the first quarter, we repurchased 49,960 shares at a total cost of $900,000. Our Board of Directors declared a quarterly cash dividend of $0.26 per share, which will be payable on June 17 to shareholders of record on May 31. I'll now turn the call over to Anna Hu, our Chief Credit Officer. Anna?

Anna Hu, Executive Vice President and Chief Credit Officer

Thank you, David. Our asset quality remained strong in the first quarter with favorable trends in criticized loans and net charge-offs. Nonperforming assets increased slightly due to one-off residential mortgage loan situations. However, we are well collateralized and are not anticipating any losses. Our lending and credit risk strategy continues to be based on diversification, consistent underwriting standards, supported by strong collateral and a focus on stable segments and industries where we have solid expertise. Nearly 80% of the loan portfolio is real estate secured with a weighted average loan-to-value of 63%. Our commercial real estate portfolio represents 26% of total loans and is diversified across all asset types with 7% of outstanding balances in this portfolio maturing in the remainder of 2024. Our commercial real estate office and retail exposure remains low at 3.4% and 5.4% of total loans, respectively. The office portfolio has a weighted average loan-to-value of 56% and 71 weighted average months to maturity. The retail portfolio has a weighted average loan-to-value of 65% and 59 weighted average months to maturity. Our Maui related loan deferrals have nearly all returned to regular payment status with just 2 loans remaining on deferral with a total principal balance of $1.3 million. The U.S. Mainland consumer loan portfolio continued to run off to $274 million or 5.1% of total loans as of March 31 compared to $429 million a year ago. Nonperforming assets were $10.1 million or 0.14% of total assets, an increase of $3.1 million from the prior quarter, primarily due to residential mortgage loans that moved into non-accrual status. A majority of these loans are well seasoned with strong loan-to-value. Criticized loans decreased to $30.4 million or 0.56% of total loans, a decrease of 36 basis points from the previous quarter and continues a downward trend over the last 3 quarters. Net charge-offs were $4.5 million for the first quarter or 0.34% of average loans on an annualized basis. This reflects a 7 basis point decrease from the previous quarter. Our allowance for credit losses was $63.5 million or 1.18% of outstanding loans. In the first quarter, we recorded a $4.1 million provision for credit losses on loans primarily due to net charge-offs. Additionally, we recorded a $0.2 million credit to the provision for unfunded commitments for a total provision for credit losses of $3.9 million during the quarter. Overall, our credit quality remains strong, and we continue to monitor the economic environment closely. Now I'll turn the call back to Arnold. Arnold?

Arnold Martines, President and Chief Executive Officer

Thank you, Anna. In summary, we believe that with our exceptional team, combined with our strong liquidity, capital and credit positions, we are well positioned for success. I want to thank you for your continued support and confidence in our organization. At this time, we will be happy to address any questions you may have. Thank you.

Operator, Operator

Our first question comes from David Feaster from Raymond James.

David Feaster, Analyst

Maybe just touching on the loan side. You talked about a healthy pipeline. I'm curious about the complexion of the pipeline, where you are seeing opportunities today? And if you could touch on some of the competitive dynamics, what you're hearing from your borrowers and how you think about loan growth just given the continued runoff in the consumer portfolio?

Arnold Martines, President and Chief Executive Officer

Yes. Thanks, David. This is Arnold. I'll just start by saying that we believe we'll see more normalization in the environment as 2024 progresses. I mentioned this at the last quarter's earnings call. Q1 was a transitional quarter for us, and we are expecting a ramp-up in activity as we move deeper into 2024. We're seeing strength in the commercial real estate segment as well as our core small business loans area. So we do have a healthy pipeline, albeit that it is based on lower demand in the marketplace. As far as the landscape, given the fact that volume is down overall in the market, it does continue to be competitive. So we're making wise decisions on risk-reward as we move forward.

David Feaster, Analyst

Terrific. That's helpful. And then maybe touch on the other side, touching on deposits. Curious about some of the underlying trends that you're seeing whether you've seen inflows or impacts from the wildfires and how the Japanese initiative is trending? And then just how do you think about driving core deposit growth and funding growth going forward and other ways that you're looking to optimize your funding base?

Arnold Martines, President and Chief Executive Officer

David, let me just start, and then I'll turn it over to David Morimoto. But I'll just say that the team has done a good job managing growth and cost of deposits. It's a balancing act. It is an economic environment. So we've been very cognizant of balancing those decisions so that we can improve our position for NIM expansion in the future. But I'll turn it over to David for more color on deposit inflows and outflows.

David Morimoto, Senior Executive Vice President and Chief Financial Officer

Yes. Thanks, Arnold. Yes, David. The first quarter total deposits were down $230 million sequential quarter. But as we noted in our release, $140 million was intentional government - higher-cost government CD runoff. So when you look at the core or normalized deposit runoff, the $90 million, it works out to roughly $0.015 sequential quarter or 6% linked quarter annualized. That was a bit more runoff than we've been experiencing, but that was primarily due to seasonal cash needs by customers, so some of it was related to the Maui fire, but also it was businesses needing to use some cash. So we think that the first quarter was a transitional quarter. We think we'll gain traction going forward. Again, we're highly focused on core deposit growth in the small business sector. We have a couple of promotions coming out on what we call our business exceptional account. It's our flagship small business checking account. So we are still targeting full year '24 total deposit growth in the low single-digit range. We do expect to make up for the first quarter.

David Feaster, Analyst

Could you maybe elaborate a bit on the trends within the first quarter? How much of the outflows were in January and kind of the progression throughout the quarter on the core deposit trends?

David Morimoto, Senior Executive Vice President and Chief Financial Officer

Yes, David. I think it was pretty much throughout the quarter. I don't think it was heavily weighted one way or the other.

David Feaster, Analyst

Okay. And then maybe just as it relates to the margin, kind of putting it all together, you talked about the swaps kicking in and that we're very confident that the margin is troughed. Curious, how do you think about the margin trajectory over the course of the year? And other opportunities that you're considering to maybe manage rate sensitivity and protecting against Fed cuts?

David Morimoto, Senior Executive Vice President and Chief Financial Officer

Yes. Sure, David. Again, the balance sheet is relatively well matched from an interest rate risk standpoint. The interest rate swap started on March 31 of this year. It will add roughly 6 basis points to the NIM on a quarterly basis, $1 million to quarterly net interest income. So we'll get the full effect of that this quarter. Our forward guide on the net interest margin is in the 2.90% to 3% range, which is a nice uptick from the 2.83% in the first quarter.

David Feaster, Analyst

And do you have - does that include rate cuts? And how much of that comes in this next quarter with the swaps to get?

David Morimoto, Senior Executive Vice President and Chief Financial Officer

Yes. We don't anticipate any rate cuts in this quarter. I think where we are now is probably 1 to 2 cuts in the second half of the year. But for the next couple of quarters, we think the 2.90% to 3% NIM guide is good, David.

Operator, Operator

Question comes from Andrew Liesch from Piper Sandler.

Andrew Liesch, Analyst

David, I just wanted to drill down on the expense base here. It looks like it came in a little lower than I was forecasting. But still, I mean, still pretty good expense control. I guess, how should we be looking at expenses going forward? I think you referenced in the press release or in the presentation on some ongoing efficiency initiatives. So curious what those might be and how they might affect expenses going forward?

David Morimoto, Senior Executive Vice President and Chief Financial Officer

Yes, Andrew, it's David. As we've been stating now probably for the better part of the year, we've been focused on a lot of expense initiatives. It tends to be more back-office oriented. So leveraging technology, as we talked about previously, we implemented ServiceNow workflow automation. We've connected ServiceNow to our core through middleware called MuleSoft. We've been spending the last year building the foundation of those technologies. Now we're really at the beginning of leveraging that to see expense efficiencies. And the way it'll show up is not likely a reduction of expenses, but what we hope to do is to be able to grow revenue, obviously, faster than our expenses. So keeping the expense base relatively flat, maybe growing at a low single-digit pace, but have stronger revenue growth. So positive operating leverage is obviously the goal.

Andrew Liesch, Analyst

Got it. All right. That's really helpful color there. And then, I guess, shifting back to the margin, it looks like maybe you'll be operating off a smaller earning asset base here this quarter with that excess liquidity used to pay off the higher-cost funding. But then you also have the $1 million of interest income from the swap. So do you think - if you just look at where the balance sheet is shaken out that net interest income should grow from here? Or do you think it's going to stay steady?

David Morimoto, Senior Executive Vice President and Chief Financial Officer

Yes. The net interest income guide, so again, the net interest margin guide is 2.90% to 3%, and the net interest income guide is probably $50 million to $52 million a quarter, Andrew, which is an uptick from the first quarter.

Operator, Operator

Our next question comes from David Feaster from Raymond James.

David Feaster, Analyst

Just kind of curious about capital priorities. Obviously, growth is relatively muted at this point. You guys bought back a little bit of stock. Curious how you think about capital deployment at this point, David?

David Morimoto, Senior Executive Vice President and Chief Financial Officer

David. Yes, the capital plan hasn't changed. So dividend payout ratio in the 40% to 50% range. We do have the share repurchase plan, and we'll continue to use that judiciously. As you know, the banking industry has been a little volatile. There are days when the overall banking sector is under some downward pressure, and we see those as great buying opportunities for the company as the ultimate insider, and we'll continue to leverage that opportunity.

David Feaster, Analyst

That's helpful. And then maybe just broadly touching on credit. First on the consumer side. Curious where you think we are working through that book with realizing those losses? And then maybe more broadly, obviously, you've got a conservative credit culture. I'm curious how you think about credit? What do you watch closely? Obviously, there's a hyper focus on CRE. Just curious about your thoughts on credit broadly outside of the consumer book as well and how you're approaching credit management going forward?

Anna Hu, Executive Vice President and Chief Credit Officer

David, this is Anna. With regard to the consumer side, particularly with the Mainland book, we are continuing the runoff mode, but we are looking and watching closely at the economy and the market conditions as to when we would get back into the Mainland consumer lending. We continue to do Mainland - Hawaii consumer lending here in Hawaii, and we have not stopped on that front. The opportunities, I think, in the current quarter and the forward-looking couple of quarters are really in the commercial real estate and the small business loans as Arnold mentioned.

David Feaster, Analyst

Sure. Can you discuss the trends regarding credit quality? Do you believe all the issues in the consumer portfolio have been addressed? Additionally, when you evaluate your commercial real estate book, are there any specific concerns or aspects you are monitoring closely from a credit perspective?

Anna Hu, Executive Vice President and Chief Credit Officer

Yes. From the credit quality standpoint, on the Mainland book, we're optimistic as we believe that the charge-offs have stabilized in the Mainland portfolio, and we're optimistic that those numbers will start coming down. With respect to the commercial real estate book, we really are not seeing any issues there. Our office and retail remain low as a percentage of our total loan book, and we are not seeing any issues in there. Overall, credit quality continues to remain very strong in our loan book.

Operator, Operator

As of right now, we don't have any questions. I'd like to hand back over to the management for their final remarks.

Arnold Martines, President and Chief Executive Officer

Thank you, Eli, and thank you to all of you for participating in our earnings call for the first quarter of 2024. We look forward to future opportunities to update you on our progress. Thanks very much.

Operator, Operator

Thank you, everyone, for attending today's conference call. We hope you have a wonderful day. You may now all disconnect. Have a wonderful day.