Earnings Call Transcript - PFBC Q4 2024

Operator, Operator

Good day, and welcome to the Preferred Bank Fourth Quarter 2024 Earnings Call. All participants will be in listen-only mode. Please note this event is being recorded. I would now like to turn the conference over to Jeff Haas of Financial Profiles. Please go ahead.

Jeff Haas, Presenter

Thank you, Michael. Hello, everyone, and thank you for joining us to discuss Preferred Bank's financial results for the fourth quarter ended December 31st, 2024. With me today for management are Chairman and CEO, Li Yu, President and Chief Operating Officer Wellington Chen, Chief Financial Officer Edward Czajka, Chief Credit Officer Nick Pi, and Deputy Chief Operating Officer, Johnny Hsu. Management will provide a brief summary of the results, and then we will open up the call to your questions. During the course of this conference call, statements made by management may include forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Such forward-looking statements are based upon specific assumptions that may or may not prove correct. Forward-looking statements are also subject to known and unknown risks, uncertainties, and other factors relating to Preferred Bank's operations and business environment, all of which are difficult to predict and many of which are beyond the control of Preferred Bank. For a detailed description of these risks and uncertainties, please refer to the SEC required documents that the bank files with the Federal Deposit Insurance Corporation, or FDIC. If any of these uncertainties materialize or any of these assumptions prove incorrect, Preferred Bank's results could differ materially from its expectations as set forth in these statements. Preferred Bank assumes no obligation to update such forward-looking statements. At this time, I'd like to turn the call over to Mr. Li Yu. Please go ahead.

Li Yu, CEO

Thank you very much. Tomorrow, January 29th, is the first day of the New Year under the Lunar Calendar, which I personally observe. And I'd like to use this opportunity to wish every one of you a most happy and healthy New Year. Now, with Preferred Bank, we close out the year with a net income of $131 million, or $9.64. Return on assets was 19.1%. Return on investment or equity was 18.8%. Both numbers compare very well with the peer group and industry average. For the fourth quarter, our net income was $30.3 million, or $2.25 a share. This number was negatively impacted by a correction to the rental expenses accumulated over five years in the total amount of $8.1 million. This non-recurring expense adjustment is equal to roughly $0.42 on an after-tax basis. The year 2024 is a slow growth year for the banking industry. We, too, are not an exception. Our loan growth for the year was 7% and deposit growth of 3.6% was moderate compared to the previous year, but probably very much in line with the industry average. Looking forward, at present, we don't see significant increases yet. For the quarter, we have made good progress on the credit front. Non-performing loans have reduced from $20 million to $10 million, a 50% improvement. Criticized loans have reduced by 33% during the fourth quarter. We hope the New Year will see further progress in this area. The unfortunate event of the Los Angeles wildfire has brought very significant damage to our community. Early surveys indicated that maybe one commercial real estate loan's property may be significantly damaged. Gratefully, our mortgage loan portfolio seems to be unaffected, and personally, I'm so pleased to see that none of our employees' homes suffered any significant damage. We at Preferred Bank will be dedicating our best efforts to help rebuild our communities, our businesses, and homes. In December, our board announced an increase in dividends from $0.70 to $0.75 payable in January. This year, meaning 2024, we also repurchased 464,000 shares of our common stock for total consideration of $34 million. The leverage capital ratio has actually improved from 10.85% at the beginning of the year to 11.33% at the end of the year. Tangible book value on common stock also improved from $50.54 to $57.86. All of us at Preferred Bank are looking forward to continuing our consistent performances in the year of 2025. Thank you very much. Now we are ready for your questions.

Operator, Operator

We will now begin the question-and-answer session. The first question comes from Andrew Terrell with Stephens. Please go ahead.

Andrew Terrell, Analyst

Hey, good morning.

Li Yu, CEO

Good morning, Andrew.

Andrew Terrell, Analyst

I wanted to check in just on the margin here to start off with. Considering the heavier mix of floating-rate loans, you guys obviously did a really impressive job. In the fourth quarter, the margin was only down four basis points or so. I just wanted to get your thoughts on whether there was any carry forward into Q1 that could influence it more negatively or just kind of your thoughts, early reads on the margin as we head into the first quarter?

Li Yu, CEO

I will add to my comments. My personal feeling here is that it would not have an immediate effect in the first quarter. We're also not looking that the Fed would change the rates in the first quarter. The change of sensitivity has been a growing effort for about one and a half years. It seems to be showing results in the first quarter, and I think the first quarter will be relatively stable from my personal estimate, maybe slightly affected, not much, relatively stable. Ed, do you have anything to add?

Edward Czajka, CFO

Yes, Andrew, just to give you the spot, because I know I'll get that question sometime on the call today. The spot margin for December was 398 with a quarterly NIM of 4.06%. You can see the pattern there. But to Mr. Yu's comment, I'm not seeing a lot of further compression from where we're at. So I still think we're in the very, very high threes going into Q1.

Andrew Terrell, Analyst

Got it. Okay. Yes, I was going to ask Matt if he's on here, but do you have the amount of time deposits re-pricing in the first quarter, and then the rate they're coming up at, and what the kind of new offered rate is?

Edward Czajka, CFO

We have about just under $1.6 billion coming due in Q1 at a weighted average rate of 475. So we'll look for that to continue to come down on the PCD side in terms of funding costs.

Andrew Terrell, Analyst

Any other range offered?

Edward Czajka, CFO

Yes, offered rates now are below that.

Andrew Terrell, Analyst

Do you have a range of offered rates?

Edward Czajka, CFO

Well, it depends on the term. Right now, we're seeing a very wide dispersion not only amongst our own, but nationwide and our local area in terms of deposit rates based on maturity and duration. We have priced it accordingly, but suffice it to say, we're anywhere from the low threes to the mid-fours.

Li Yu, CEO

Actually, Andrew, it also depends on competition, okay? And locally in the Asian community, many of our friends are running a so-called Chinese New Year's special, and Preferred Bank has to stay flexible to compete with them.

Andrew Terrell, Analyst

Yes, understood. Okay. And then on capital, I saw the buyback in the quarter and then obviously the dividend announcement. Just wanted to get your thoughts on capital repatriation into 2025 and specifically whether you thought we should expect continued utilization of the buyback this year?

Li Yu, CEO

The buyback will probably depend on continuous calculations between loan growth prospects and the pricing of the stock and the deposit levels and these kinds of capital ratios. All these considerations will miss you on a continuous basis. However, given that some stocks are at low multiples compared to some of our local friends setting at 19 times earnings, there's a chance that if our stock remains depressed, we are obviously considering buybacks.

Andrew Terrell, Analyst

Got it. Okay. Well, thank you guys for taking the questions. I appreciate it.

Li Yu, CEO

Thank you.

Operator, Operator

The next question comes from Matthew Clark with Piper Sandler. Please go ahead.

Matthew Clark, Analyst

Hey, good morning, everyone. And thank you, Andrew. I don't think I have a choice but to ask about the spot rate on deposits if you had it at year-end, ideally?

Edward Czajka, CFO

The spot rate on deposits is 363, Matthew.

Matthew Clark, Analyst

Is that for December or at year-end?

Edward Czajka, CFO

That was December.

Matthew Clark, Analyst

Okay. And then how about on the expense run rate in the New Year? Just give us a sense of where you think you might start and any projects you're planning to work on as part of that expense group?

Edward Czajka, CFO

Well, we do have a number of things. I don't want to talk about the full year, but I will talk about the first quarter if that's okay. So far, we're going to have probably be making a fairly healthy donation to the local wildfire relief funds, so that will increase our donation expense. We're also going to have payroll taxes elevated in Q1, as we normally do with the incentive compensation payout. In addition to that, professional services, specifically legal, have been running higher than normal due to the assets we're working through. So right now, I'm looking at non-interest expense at about $23 million for Q1.

Matthew Clark, Analyst

Okay. And of that $23 million, how much do you expect the charitable contribution to be?

Edward Czajka, CFO

Well, we're going to have a meeting about that later today, actually, but it's going to be low six figures, low to mid-six figures.

Matthew Clark, Analyst

Got it. Okay. Some of us tend to exclude that stuff, so I just want to make sure. Okay. Great. And then just shifting to credit, can you just remind us, or maybe just give us a sense of the makeup of the charge-offs this quarter? I know they were previously reserved for, but just kind of remind us of the situation there. And then in terms of your expectation for upgrading credits off criticized, is that just a function of what rates have done and how that's helped that service? Just give us some more color on your outlook on criticized?

Li Yu, CEO

Nick, will you answer the question?

Nick Pi, Chief Credit Officer

Sure. The charge-off, actually, because of the delay in the resolution of some of the impaired loans. We decided to charge off first and recognize recovery in the future if there's any settlement or resolutions at that moment. With the charge-off, our known accrual loans have dropped substantially. For the criticized loans, I believe, as Mr. Yu mentioned in the release, we probably have some of the loans that will be paid off or refinanced through Q1. Also, a few of the other credits are scheduled to be settled and resolved, and we probably will upgrade those loans in Q1. So we believe for Q1, criticized loans should drop to a good amount.

Matthew Clark, Analyst

Great. Thank you.

Operator, Operator

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

Gary Tenner, Analyst

Thanks. Good morning. I was curious about the comment regarding not releasing any increased activity levels. You had 7.5% loan growth I think for the year, which most of us are actually very happy with. Is there a churn within the portfolio at all, payoffs versus production, or are pipelines not building at this point in your customer base?

Li Yu, CEO

Wellington?

Wellington Chen, President & COO

Well, the churning is always a factor. As you know, our bank, we do short-term loans quite a bit, and so churning. And also on the C&I side, you can see the up and down. It's the nature of C&I revolving lines of credit, and so over the year-end, people feel a little bit bullish and expand their business and all that. So that's the nature of our game.

Gary Tenner, Analyst

Okay. So a more sustainable increase in activity levels is what's missing at this point?

Wellington Chen, President & COO

Yes.

Li Yu, CEO

Well, actually, as you stated earlier, so far at this stage, I think the entire banking industry, including us, feels that it will be moderate.

Edward Czajka, CFO

There is still certainly activity, but to Wellington's point, the payoff activity has been a little higher.

Gary Tenner, Analyst

Okay. Appreciate that. And Ed, I know you've said you don't want to talk about the full year on expenses, and I appreciate that, but I'm just thinking out loud in terms of if activity levels remain relatively lower, is there hiring or anything to be done to try to drive increased activity through lenders or anything?

Edward Czajka, CFO

Well, certainly when we do our annual planning, we certainly have a lot of new individuals budgeted in for relationship officers and business development officers. The question really becomes how well do we execute on that. In terms of other initiatives going forward, obviously, IT costs continue to increase, but we are also establishing a branch right in the middle of Manhattan as well, which we expect to open in March. That will certainly add to occupancy expenses going forward, as well as personnel expenses.

Gary Tenner, Analyst

Great. Thank you.

Operator, Operator

The next question comes from Tim Coffey with Janney. Please go ahead.

Tim Coffey, Analyst

Thanks. Good morning, everybody. If I could just stick on that loan growth question as well, and bring in more of a question about liquidity. Ed, the liquidity that you keep on the balance sheet, a lot of it's kept short term instead of going to the securities portfolio. Do you see any reason to change that strategy right now?

Edward Czajka, CFO

So thank you for the question, Tim. Very timely, because over the last three weeks or so, we've been purchasing treasuries, specifically 10-year. We made about $60 million in purchases over the last three weeks in 10-year treasury at an average yield of about 466. So we've been trying to take advantage of some of the displacement that's been going on the longer end of the curve. I think we've done pretty well because this is one of the first times you have the 10-year exceeding Fed funds in quite a while.

Tim Coffey, Analyst

Okay. That's good to hear. Is this kind of an initial salvo, or is this just to see how it goes and then try to take another look later on?

Edward Czajka, CFO

Yes. Take a look right now and then see what it looks like later on. Yes, Tim, we're not going to – I don't foresee us continuing in that fashion, but certainly the time was here to start to put some money to work in a long-term fashion, given where rates are at, relative to historical rates.

Tim Coffey, Analyst

Okay. Thanks. And then my other question was on the allowance ratio. It's been coming down throughout '24, and I'm wondering, is there a level where you think the company feels comfortable having that ratio at?

Li Yu, CEO

Well, Nick, you want to answer that?

Nick Pi, Chief Credit Officer

Yes, Mr. Yu. There are still several factors we have to take into account like a moderate risk posture, calibrating our internal quantitative and qualitative models because of the Fed slowing down and the rate reduction, which is still a high cost of financing, putting pressure on our customers and stressing our business and the economy. Also, the policy changes from the new administrations and Congress, we have to closely watch that. It may impact the economy as well, and the reason for the L.A. fires, we don't know at this moment which might give some impact to the local economy. So we still have to factor all those in. However, I do believe that all those points I mentioned should not be causing any deep trouble for the bank, and we believe based on the current loan quality trend and everything improving, our future reserve should be gradually reduced. So with around 6.6 million charge-offs, we're still at 1.38%. As I mentioned earlier, we want to charge off those things first. I believe in the long run, it should be reduced to a 1.15% to a 1.25% range, which is also in line with our peer banks at this moment.

Li Yu, CEO

Tim, our open philosophy is to charge-off to fully reserve the loan loss once we're confident. We try to be a little bit more progressive about that, okay? So that's the reason why all the charge-offs we had in the first quarter were previously fully reserved, starting from last year, okay? So when we first identified the weaknesses in these credits, okay, and that has been our philosophy. That's why our reserve ratio is always slightly higher than our peer group. We're maintaining in the 140 to 135 range, not at 1.27. I think it's still 15 to 20 basis points higher than our peer group, okay?

Tim Coffey, Analyst

Well, yes, I totally agree. Totally agree. All right, well, thank you very much. That was great. Those are my questions.

Operator, Operator

Our next question comes from David Feaster with Raymond James. Please go ahead.

David Feaster, Analyst

Hey, good morning, everybody.

Li Yu, CEO

Hi, good morning.

David Feaster, Analyst

I just kind of wanted to follow up on the loan growth side. It sounded like you alluded to payoff activity being still somewhat elevated. I'm curious about the competitive landscape, if you could touch on that and what you're seeing the payoffs for. Is it asset sales? Is it the competitive landscape? Is it just folks just paying off for that matter? I'm just kind of curious what you're seeing.

Li Yu, CEO

In the first quarter, we saw heavy payoffs, comparatively speaking, to the previous quarter. I think once it makes some of the transactions or sales transactions easier to do when the rate is down, the new buyer is able to finance it or price it correctly and so on. So mostly it's the elevated payoff activity. Our origination remains consistent with the third quarter, okay? So this is on the loan growth side.

David Feaster, Analyst

Okay, that makes sense. With rates coming down a bit, have you noticed any change in demand from your clients? I'm just curious about your perspective on the current landscape and where you are seeing opportunities.

Li Yu, CEO

Yes, it's kind of abstract on these things, because we try to survey our customers by having constant feedback from our relationship officer. Generally, I think the market feels that rates have not come down enough for them to be active. There's a lot of money on the sidelines. There's a lot of people willing to invest or get into new deals. They just don't feel safe enough to do that at this point in time, okay? So this is the best feedback that we can get from our customers.

David Feaster, Analyst

What do you think gets them off the sidelines? Is it another 50 basis points in cuts? Is it slower inflation? We've got the election in the rearview. What do you think gets some of those guys off the sidelines?

Li Yu, CEO

Well, that probably is a question to Chairman Powell. In that respect about how much, okay? But I think it probably takes some further cuts, more than two. Right now, I understand you are forecasting two cuts for the year, okay?

David Feaster, Analyst

Yes. Okay. And then just if I could squeeze one more in, going back to the credit side, the credit trends you're seeing are encouraging. Things are kind of working their way through the system. I was hoping you could just touch on the healthier borrowers. Obviously, higher rates have impacted the floating rate borrowers, but it seems like you've had a lot of success with clients pledging additional collateral. Could you just touch on the healthier borrowers and what you're seeing on the credit broadly?

Li Yu, CEO

Wellington, you answer first, okay? And see what else we can add on, okay?

Wellington Chen, President & COO

First, the health of a client. Our clients are very healthy. I think we are relationship-oriented, and our loans are all fully sponsored. They have multiple flexibilities. So that's what we benefit from. At any time, if a certain project we get into has some issue, we will work it out, and the borrower will put up additional collateral or re-margin the loan. That's all. That's the strength of our lending.

Li Yu, CEO

Nick, do you want to add anything?

Nick Pi, Chief Credit Officer

Yes, I'd just like to mention about our customers, especially our loans. We have a very strong sponsor behind it. Whenever there's an encounter or any issues, those sponsors will step up to work with the bank, and we'll work with each other to weather the crisis. During the past few quarters, you've seen that we navigated this high-rate environment pretty well.

David Feaster, Analyst

Yes.

Li Yu, CEO

David, it starts from the underwriting, okay? The underwriting is based on cash flow, okay? And in the case of real estate property, the value of the assets, but one of the dominant factors for us is the guarantor strength, and most of the loans have a guarantor, okay? So during difficult times, you find that if customers are personally guaranteeing the loan, they tend to be more serious and try to mitigate whatever the situation is happening. And that is on top of that, we think we have a fairly good group of customers in terms of their net worth, okay?

David Feaster, Analyst

Okay. That's helpful. Have you started to see debt service start to improve as rates have come down?

Li Yu, CEO

Obviously, debt service will improve when the rates come down, but we also see that gradually the income level sides are stabilizing.

David Feaster, Analyst

That's great. Thanks, everybody.

Operator, Operator

This concludes our question-and-answer session. I would like to turn the conference back over to Mr. Li Yu for any closing remarks.

Li Yu, CEO

Thank you so very much. We're happy with our year 2024. We just are positive also for our 2025. Thank you.

Operator, Operator

The conference is now concluded. Thank you for attending today's presentation. You may now disconnect.