First Hawaiian, Inc. Q4 FY2021 Earnings Call

Good day and thank you for standing by and welcome to the First Hawaiian, Inc. Fourth Quarter 2021 Earnings Conference Call. At this time, all participants are in a listen-only mode. After the presentation, there will be a question-and answer-session. Please be advised that today's conference is being recorded. I would now hand the conference over to Kevin Haseyama, Investor Relations Manager. Please go ahead.

Thank you, everyone, for joining us as we review our financial results for the fourth quarter of 2021. With me today are Bob Harrison, Chairman, President and CEO; and Ralph Mesick, Chief Risk Officer and Interim CFO. 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. During today’s call, we will be making forward-looking statements, so please refer to slide one for our Safe Harbor statement. We may also discuss certain non-GAAP financial measures. The appendix to this presentation contains reconciliations of these non-GAAP financial measurements to the most directly comparable GAAP measurements. And now, I will turn the call over to Bob.

Thank you, Kevin. Good morning and appreciate you joining us today. We'll start with an update on the local situation on slide two. Similar to the rest of the country, we are seeing a surge in new COVID cases. Fortunately, over 75% of our residents are fully vaccinated and about a third of the population has received booster shots, hospitalization remains below the peak levels that we saw in September. The county mayors are closely watching their case counts and hospitalizations and working with the Governor to determine if additional policy changes are necessary. Speaking with friends in the hospitality industry, anecdotally the holidays were good and January is relatively strong. However, they are definitely seeing weaker bookings in February. We're seeing continued improvement in the economy, with unemployment down to 6% here in Hawaii most recently. And if you turn to slide three, you can see that we had a very productive fourth quarter and saw strong and broad-based growth in loans excluding PPP. We also saw continued growth in consumer and commercial deposits. Earnings this quarter were impacted by some balance sheet actions we took to position us going into 2022, but our returns continue to be durable, capital levels strong, and credit quality remains excellent. Net income was $57 million and our return on tangible equity was 13.47%. Diluted EPS was $0.44, and the board maintained the dividend at $0.26 per share. During the quarter, we repurchased $21.5 million of our common stock under our current repurchase program, and the board adopted a $75 million repurchase program for 2022. Now, I'll turn it over to Ralph to go over the financials.

Thanks, Bob. Turning to slide four and building on Bob’s comments, you should note that we took some actions in the fourth quarter to improve the balance sheet position going into the new year. At December 31, total assets fell 2.2% over the prior quarter to $24.99 billion, but the changes in the balance sheet were planned and will be accretive to income in 2022. We worked to move some public deposits off the balance sheet and deployed excess liquidity into loans and securities. The change in mix improved our interest income for the quarter. We also used some of the cash to prepay $200 million of FHLB advances this quarter for total savings of about $12 million in interest expense. The reduction in cash also reduced deposit insurance cost and improved our capital position. Turning to slide five, period end loans and leases were $13 billion, an increase of $128 million from the end of Q3. Excluding the impact of PPP loans, total loans increased by about $414 million or 3.4% for the quarter. The growth in loans was broad-based with increases in C&I, CRE, residential, home equity and credit card. Construction balances went down due to scheduled completion and payoff of several large for-sale projects, with continued draws on other projects helping to offset the paydowns. Looking ahead to 2022, we are expecting loan growth ex-PPP to be in the mid-to-high single digit range. The variability is driven by uncertainty around the return of dealer flooring balances. The low end represents a scenario where we don’t have significant contributions from dealer flooring, while the high end represents a gradual normalization of flooring balances. In the latter scenario, we would expect most of that growth will be backloaded into the second half of the year. Deposit levels fell by 1.4% or $304 million to $21.8 billion at year end, but the composition shifted significantly. Public deposits declined by almost $1 billion, while non-interest bearing deposits grew by about $520 million. Our loan-to-deposit ratio was 59% at year end, and the cost of deposits was unchanged at 6 basis points. Turning to slide 7, net interest income was up $4.7 million over the prior quarter to $137.3 million. The improvement was attributed to deployment of cash into securities and loans, as well as higher fees from PPP forgiveness. The net interest margin was 2.38%, up 2 basis points from the prior quarter. Looking forward, we feel that the asset sensitivity of the balance sheet provides good upside potential for NIM and net interest income heading into 2022. The future looks encouraging.

Thank you, Ralph. And we really appreciate Ralph stepping up to be our interim CFO and we appreciate his effort on that. To recap, we've had a good 2021 and are well positioned for 2022. The local economy should experience continuous recovery as we get past the current COVID surge. As we saw last summer, demand for travel is high and Hawaii remains a favorite destination. The loan pipeline looks good as we start the year, and our balance sheet is well-positioned to fund loan growth and benefit from rising interest rates. Capital levels remain high, and we have sufficient capital for our balance sheet growth while maintaining our key capital ratios at our desired targets. We’re also continuing work on building out our digital infrastructure and are on track to complete our core conversion in the second quarter. The new platform is designed to give us the flexibility to integrate new and different applications quickly as well as enable us to scale via partners. Early indications are encouraging, customers who are signing up on our platforms are more engaged and doing more with us. The future will be different, but our business is still about gathering deposits, making loans and providing complementary financial services. Now we'd be happy to take your questions.

The first question comes from Steven Alexopoulos with JPMorgan. Please go ahead.

Hi everybody.

Hi, Steve.

Hi, Steve.

So, I first want to follow-up on the loan outlook, mid-to-high single digits is pretty good. On the dealer business, is it fair to say, we saw a Huntington report this morning too, their dealer business was up a little bit? That at least has bottomed here and then within that range, moving to the high end of the loan. Is it all about just the change in line utilization or are you guys also growing dealers still or is it purely whatever utilization is that will dictate where you are in the range?

A great question, Steve, and maybe just we have seen signs of a bottom in that portfolio. Every month during the prior quarter, we saw an increase in flooring balances. So, while we ended the quarter up $50 million, it finally seemed to have bottomed out for us as the manufacturers get their production lines back in sync. As we look to the outlook for 2022, it really is dependent on production levels and the consumer. We have added some more customers. We've seen some flux during the last year and some customers have sold. We've been fortunate to retain the relationship with the buyer, but there's also been an addition of some customers. So it is going to be a mix, but it's really hard to predict the flooring balances for this year and that's why we gave that range without any outlook.

Okay. But Bob, even if you're at the low end of the range, mid-single digit is a pretty big improvement over 2021. Could you give us a little more color on what's driving that? Is it just core C&I, is commercial real estate picking up?

Yeah. We're seeing a number of things. I think C&I excluding flooring would probably be towards the bottom of the list, but we are definitely seeing CRE, residential, and home equity has been strong as well as a bit on the consumer. We're definitely seeing strength in the Mainland first.

Okay. So, is it safe to say you have a fairly high degree of confidence that at least you'll be at the low end based on these other drivers and then the variability will come on dealer, right?

That's correct. That’s our outlook.

Okay. Got you. So and final question on expenses, Ralph, I appreciate the breakout on the 6.5% to 7% range, one-third from inflation, one-third core, and then one-third additional tech investments. So the right way for us to think about the company is, will take – moving forward like long-term just what's the cost inflation of First Hawaiian? Maybe the inflation is not the same, but those other two-thirds, right? Just continue to invest, I don’t know if tech investments are ever going to stop? That's about a good run rate for the company beyond 2022?

No, I would say that in terms of the core platform conversion, probably adding another basis – another 1% on a normalized basis and then I think the tech spend is going to be kind of a function of what we see. We're trying to size this tech spend so that we can grow into the spend. But I think going into 2023, probably more along 4% to 5% would be sort of what we would think in the high end.

As more normal. Okay. Got you. Okay. Thanks for taking my questions.

Thanks, Steve.

I'm sorry. Our next question is from Ebrahim Poonawala with Bank of America. Your question please.

Good morning.

Good morning.

Good morning, Ebby.

Hey, I guess this one Ralph for you on the margin. You said you gave pretty good guidance around net-net 6 to 8 basis points decline relative to the fourth quarter. Just remind us about the rate sensitivity, what we should expect in terms of the margin benefit from each Fed rate hike, assuming Fed moves in March, what does that mean for the margin for the second quarter and then for subsequent rate hikes?

Yeah, Ebby, I think the best way to think about that is just to look at the composition of the portfolio, how much assets reprice. We do model rate shocks under different scenarios and we tend to run those more from a risk management standpoint to understand our interest rate risk. I think forecasting the NIM out, beyond a certain period of time, there are a lot of challenges to that. However, looking at that $4.8 billion that is basically floating rate and reprices within 90 days, I think historically we tend to lag in terms of increases in deposit costs, which tend to happen a little bit slower over a couple of quarters.

Understood. And within that $12 billion in deposits, do you have any index deposits that would reprice immediately with the Fed hike?

No.

No, right. Okay.

No.

And got it. And just one separate question, Bob. So you mentioned you've talked about the mainland leading the charge for a few quarters now. When we think about the split, like, if you had to guess 5% to 6% loan growth, how much of that do you think comes from mainland versus Hawaii and are you doing anything different in the mainland today versus pre-pandemic?

No, we're not doing anything different. I don't have my fingertips on the breakdown of what the 5% to 6% would be mainland versus Hawaii, but we do have our guide has been the percentage of our loans on the mainland. I believe at the end of last quarter, we were 18% at the end of this quarter, we have...

About 19%.

About 19%, we were as high as 23% in the past. So, there's still a lot of room to grow there without, we think, being overwait on the Mainland and we haven't changed anything we're doing up there. It's the same lines of business. The same people, mostly the same customers, but we have been successful in bringing over some new dealer customers over the last year.

I think the growth was around 18% quarter over quarter on the mainland and about 13% in Hawaii, so we're seeing growth in both markets right now.

That’s annualized, Ralph.

That's pretty strong.

And that's with respect to the commercial portfolio.

Noted. And this one for last follow-up, around the dealer floor plan, can you remind us where those balances were in the fourth quarter either period end or average versus pre-pandemic?

Total, I believe it was about $639 million at the end of the fourth quarter last year.

Yeah. And...

It was just back in 2019?

The 2019 end, I want to say $859, $860 right in there? So we're down still pretty substantially...

Yeah, we were about $227.

Got it. It was $639 versus $859 pre-pandemic. Got it. All right. Thanks for taking my questions.

Thank, Ebby.

Thank you. Our next question comes from Andrew Liesch with Piper Sandler. Your question, please.

Everyone, good morning. Thanks for the clarification around the loan growth there and dealer flooring. My question revolves around the expense guide. I'm sorry if I missed this, but what base should we be using, should it be the full-year $405 million and go about that or should we be backing out some of the non-recurring items that took place over the year?

I think I would start with the $405, Andrew.

Got it, Okay. So I guess that's pretty high, are there other non-recurring items that might contribute to that? That you may see on the horizon?

Nothing really, sort of, out of the ordinary; there's always like, every year, there's things that come in and out.

Okay. All right. You've cleared my all other questions. I'll step back here.

Great. Thank you.

Our next question comes from David Feaster with Raymond James. Your question please.

Good morning everybody.

Good morning.

Good morning.

I just want to follow-up on the loan growth side. The residential mortgage growth from the takeout mortgages on the construction projects has been a nice tailwind. I'm just curious kind of where we are in that, how much more embedded growth there might be from those projects, and then just the C&I excluding the dealer floor plan and curious what you're seeing on that front, that was great growth to see whether it was increased utilization or new commitments and just what you're hearing from your non-floor plan C&I clients?

Yeah. Maybe I'll start, this is Bob. For the C&I side, we are starting to see finally some, what we hope is a bottoming out in the corporate area, but we haven't seen the sustained growth in that area yet. So really the C&I growth, I think we're going to see in the near term will probably be in the dealer flooring side. For the residential real estate, as we've talked about before, we had three large projects completed during the quarter, two of which we did the construction financing on. We don't have any big projects completing in the first quarter of this year, we do later in the year. So I think that will not be as much of a factor for the first quarter or two. But we are still seeing continued activity, prices are still very strong here, given the rise in interest rates, it seems likely we will see less refinance activity and it will shift more to a purchase market.

The only thing I would add is we will probably have less turnover of the portfolio as rates rise. So, I think in terms of our ability to grow balances, that will help sort of offset maybe some of the benefit you get from the refinance market.

Yes. And then maybe lastly, we are seeing more activity in the home equity side as rates have gone up. So, people are pretty quick to pivot over there.

That's a good point. And then just you saw a pretty nice improvement in the criticized and past due balances. Just curious about your thoughts on overall asset quality and what you're seeing out there, maybe just some competitive dynamics on how loan pricing and structure is holding up and just whether you're seeing anything that's causing any concern?

Maybe I'll start and turn it over to Ralph. The pricing is competitive, very competitive. We have not seen it as much as the structure, but we're definitely seeing pricing competition.

Yes, and I think in terms of asset quality, the larger customers have been able to pivot to what seems to be a new normal. So from that perspective, we're feeling fairly good about that, and then I think as we go into the new year, obviously what we were able to do with the pandemic was get close to understanding some of the sensitivity our smaller customers have. So, we'll be able to keep tabs on that. I think as I said, we're well reserved going into the new year and hopefully we can make this shift in recovery to something that's less benign than we had anticipated.

Yes. Yes, no kidding. You guys have also been very thoughtful on the tech spend and the build-out over the past couple of years, the conversion is upcoming. I'm just curious where you think we are with the tech build-out and maybe how conversations are going with the potential partnerships and what kind of partnerships you're most interested in? Are you looking at banking as a service or just what kind of partnerships are you looking at investments as well? Just any commentary on that front?

Yes, maybe, this is Bob, maybe just a couple of comments. We're still in the early days of that while we're talking to people, a lot of the work we're doing is pretty foundational, enabling API infrastructure, redoing our consumer loan platform which we've done, getting more functionality to our website and being able to make it easier for customers to interact with us. So it's really that for now and then taking that next step of engaging the customer more actively in the technology space and really finding out what they need through their data and seeing how we can better address those needs with our products and services. So it's still a little early days to be talking about specific areas at this point. We hope to be able to do that later this year.

Okay. Sounds good. Thanks everybody.

Thanks, David.

Thanks, David.

Thank you. Our next question comes from Kelly Motta with KBW. Hi. Thank you so much for the question. I wanted to ask you a bit about capital; I saw on the buyback got renewed, just wondering about your appetite for share repurchases and how you're thinking about prioritizing capital return?

Sure, Kelly, great question. We love to use our capital to fund loan growth and excess capital as we define it, we then plan on returning to shareholders. So, we are still keeping with our guide of common equity Tier 1 of 12%. We're clearly above that now, but as you look at our loan outlook, clearly some of that capital is shifting from very low-risk weight securities to higher risk weight loans and will be used for that. But anything excess of that, we would be using for our share repurchase and also keeping an eye on the leverage ratio at the same time.

Great. And then I just have a follow-up on the NIM guidance. That's 6 to 8 basis points lower from 4Q. Is that just for 1Q '22 and then as a follow-up beyond that, is kind of further NIM expansion outside of the balance sheet actions you took, mostly a function of rates or how should we be thinking about the margin from there?

Yes. We think we're getting to a point where it's bottoming up. This is Ralph. Actually, what we're seeing in say the mortgage book, what we're putting on the books today, probably about an 8% higher than the average portfolio yield right now. We're hopeful that we're sort of hitting this bottom point and then if we get rate increases, given the composition of the portfolio, we think that's going to be positive for the bank.

And our next question comes from Jared Shaw with Wells Fargo.

Hey, good morning everybody.

Good morning.

Good morning.

Can you just update, so with the longer of this quarter, what portion of that shared national credits growth versus non-shared national credits?

Can you Ralph?

Yeah, actually, it was up about $7 million.

$7 million in the shared National. Okay.

Yeah.

When you look at that, C&I growth separate from the floor plan and separate from the shared national credit, what's really driving that? Is that the utilization rate or is that the new customer acquisition, I guess, sort of separate from those two components?

We have a couple of large transactions this quarter with existing clients that really sort of helped in that area. So that was probably a big part of the C&I growth. And what we're kind of seeing with non-real estate customers is actually a lot of activity in real estate. So owner-occupied real estate and some maybe equipment, but not a lot. I think on the utilization side with the large corporates, we saw a little bit of a dip in utilization in the fourth quarter. So that really hasn't come back yet.

Okay. And then just looking at the sort of cash securities, dynamics with being able to deploy that this quarter, what do you think we would like to see the cash levels trend you, with that broader growth backdrop that you laid out?

I think we're kind of around the level that we want to be today, plus or minus and I think from a liquidity standpoint, right now, we have, I think a lot of sources to tap. But I think just given the composition of the balance sheet, expectation of rising rates, probably the level that we're at today and we took a lot of actions to reduce our cash levels in the fourth quarter. So, I think we're probably going to stay at that level, we would anticipate.

Okay. And then just finally for me, any update on the CFO search, in terms of timing or thoughts of any update you can give us?

Sure. This is Bob, I'll take that question. We have engaged with Korn Ferry and the search is ongoing. This is a team we worked with before. So, we're launching right into it.

Okay. Thank you.

Thank you. We have a question from Laurie Hunsicker with Compass Point.

Yeah. Hi, good morning.

Good morning.

Good morning.

I just wanted to go back to Shared National Credits here. What is your balance and then what's the split Hawaii versus mainland?

So Shared National Credit in mainland is about $873 million. In Hawaii, it's about $262 million.

Great. And then your C&I charge-offs were pretty outsized. I mean, obviously, your credit is practically impeccable, but can you help us think about what happened there with the $4.1 million of C&I charge-offs and were any of those snick and if so, can you help us think about what was mainland versus Hawaii?

It was a local credit; actually it was a single credit, and the circumstances around that is we took a write down on the credit and pretty much kind of an idiosyncratic type situation, not really related to economy or even business stresses, it was more of a litigation-related issue.

Okay. Great. That’s helpful. And then just going back to your margin comments, appreciate all the color there. Can you just help us think about with all of your balance sheet actions, maybe a refreshed look on your interest rate sensitivity as it pertains to rate shocks, in other words, in an up 100 basis point as of September 30, your impact on NII was positive 14%. Can you help us think about what that looks like with all your balance sheet actions factored in?

Yes, I would go back again to just sort of taking a look at the asset repricing. I find it really difficult to take the model and take it out more than a quarter and say, well, this is what's going to happen to rates. Because there are so many factors that go into that and what we disclose really is more of a static type of a situation, which is probably not representative of what we'll see.

And we will be picking up with 10-K obviously.

Right. Okay. And then when in the quarter, did you actually prepay your $200 million of FHLB cost in $273 million?

Around November.

Yes, early to mid-November, Laurie.

Okay. So halfway through. Okay, great. And then how should we be thinking about tax rate? It was obviously low this quarter at 19%, assuming it's going to be back to what we saw. Can you help us think about that a little bit?

Yeah. We had a couple of true up items that we took in the fourth quarter, that took the breakdown. So we'll probably, I think it's 25% is probably where you should sort of target the tax rate to be, over time.

Okay, great. And then just last question for me. I just want to make sure that I got this right on expenses. The guide that you gave was 6.5% to 7% increase over 2021, is that correct?

The 6.5% to 7%.

In 2022.

So in 2022, okay, great. And so 6.5% to 7%, okay. And so just looking at the base here $405 million, I mean, if I adjust out just even the two big items, right, your FHLB pre-pays in your litigation, you're at $394 million. So your year-over-year increase was 9% to 10% for 2022. Can you help us think about, I mean, I think most of us on the sale side or price targets are derived off in 2023. Can you help us think a little bit about more forward-looking expenses? Thanks.

Yeah, Laurie. This is Bob. We're not giving guidance for 2023. Ralph had talked earlier about, it's going to be, we think it's going to be less, maybe in the 4% to 5% range, but that's not guidance. This is just talking point kind of a directional type of thing. We think that last year 2021, this year 2022, a number of expense items coming up board that shouldn’t be the same going forward. I guess it’s the best way to say that. Ralph, anything you would add to that?

No, Bob.

Great. Thanks, helpful. Appreciate it. And I'm not showing any further questions. I will pass the call back to Kevin Haseyama.

Thank you. We appreciate your interest in First Hawaiian. Please feel free to contact me if you have any additional questions. Thanks again for joining us and have a good weekend.

And this concludes today's conference call. Thank you for participating and you may now disconnect.