East West Bancorp, Inc. 2011 Third-Quarter Form 10-Q Summary
Business Context and Reporting Period
East West Bancorp, Inc. is a bank holding company operating primarily through East West Bank. The unaudited filing covers the three and nine months ended September 30, 2011, with comparative periods ended September 30, 2010 and balance-sheet comparisons to December 31, 2010. The company operates through Retail Banking, Commercial Banking, and Other segments. Shares outstanding were 149.1 million at October 31, 2011.
Key Financial Metrics
| Metric | Three Months Ended September 30 | Nine Months Ended September 30 |
|---|---|---|
| Net income | $62.4 million, versus $47.0 million | $179.0 million, versus $108.2 million |
| Net income available to common shareholders | $60.7 million, versus $40.2 million | $173.9 million, versus $89.2 million |
| Diluted EPS | $0.41, versus $0.27 | $1.17, versus $0.61 |
| Net interest income | $237.8 million, versus $182.8 million | $674.0 million, versus $648.2 million |
| Provision for loan losses | $22.0 million, versus $38.6 million | $75.0 million, versus $170.3 million |
| Noninterest income | $(13.5) million, versus $29.3 million | $10.0 million, versus $56.5 million |
| Noninterest expense | $104.6 million, versus $99.9 million | $328.9 million, versus $364.2 million |
| Net interest margin | 4.76%, versus 4.10% | 4.66%, versus 4.93% |
| Efficiency ratio | 41.19%, versus 44.67% | 42.79%, versus 48.47% |
Third-quarter annualized return on average assets was 1.13%, and return on average common equity was 10.99%. The effective tax rate was 36.1% for the quarter and nine-month period.
- Total assets were $21.81 billion at September 30, 2011, up 5.4% from December 31, 2010.
- Net loans were $13.72 billion, including $9.58 billion of non-covered loans and $4.14 billion of covered loans.
- Non-covered gross loans increased to $9.81 billion from $8.72 billion at year-end, driven principally by commercial and industrial, trade finance, and single-family residential lending.
- Total deposits were $17.31 billion, up 10.7% from year-end. Core deposits were $9.82 billion, up 10.7%, and time deposits were $7.48 billion, up 10.6%.
- Cash and cash equivalents were $1.11 billion. Net cash provided by operating activities was $199.5 million for the first nine months; investing activities used $1.22 billion, and financing activities provided $788.6 million.
- FHLB advances declined to $457.1 million from $1.21 billion at year-end. Repurchase agreements were $1.02 billion and long-term debt was $214.2 million.
- Stockholders’ equity was $2.26 billion, up 7.0% from year-end. The Bank’s Tier 1 and total capital ratios were 14.5% and 16.0%, respectively, above the stated well-capitalized thresholds.
Material Changes Versus Comparable Periods
- Third-quarter net income increased 33%, while diluted EPS increased 52%, reflecting higher net interest income and lower loan-loss provisions.
- Net interest margin expanded in the quarter, primarily due to higher covered-loan yields and lower funding costs. The nine-month margin declined because of lower yields on non-covered loans and the broader low-rate environment.
- Loan-loss provisions fell 43% year over year for the quarter and 56% for the nine-month period. Nine-month net charge-offs declined to $90.2 million from $164.2 million.
- Noninterest income deteriorated in the quarter mainly because of a $43.5 million reduction in the FDIC indemnification asset and receivable. The prior-year nine-month period included a $27.6 million acquisition gain.
- Noninterest expense declined 10% for the nine-month period, reflecting integration-related efficiencies and lower OREO, compensation, regulatory assessment, and other operating costs, although third-quarter expense increased 5%.
- Non-covered nonperforming assets declined to $168.9 million, or 0.77% of assets, from $194.8 million, or 0.94%, at year-end. Nonaccrual loans declined to $147.7 million from $172.9 million.
- Covered loans declined to $4.14 billion from $4.80 billion at year-end, while covered nonperforming assets declined to $333.3 million from $503.7 million.
- The allowance for non-covered loan losses was $211.7 million, or 2.16% of non-covered loans, versus $230.4 million, or 2.64%, at year-end.
- The company prepaid FHLB advances and called subordinated debt to reduce funding costs, incurring $12.3 million of related nine-month prepayment penalties.
Guidance, Outlook, Risks, Contingencies, and Unusual Items
The filing does not provide formal quantitative earnings or revenue guidance. Management emphasized continued loan and core-deposit growth, lower reliance on time deposits and borrowings, improving credit quality, and operating efficiencies from completed acquisitions. Management stated that liquidity sources were stable and adequate for day-to-day requirements.
- FDIC shared-loss agreements cover substantial portions of the WFIB and UCB acquired portfolios, with the FDIC generally reimbursing 80% of eligible losses. The related FDIC indemnification asset was $569.2 million, and the estimated future payment obligation to the FDIC was $10.7 million.
- Covered-asset accounting and accretable-yield estimates materially affect interest income and noninterest income. Changes in expected cash flows reduced the accretable yield by $110.5 million during the first nine months.
- California real estate concentration remains significant: approximately 93% of non-covered residential and commercial real estate loans were secured by California properties. Further deterioration could increase charge-offs, provisions, and capital requirements.
- Investment securities available-for-sale totaled $3.28 billion and had a $38.7 million net unrealized loss. Corporate debt securities accounted for most unrealized losses; the company recorded $464 thousand of credit-related impairment in earnings during the first nine months.
- Off-balance-sheet exposures included $2.19 billion of undisbursed loan commitments, $1.61 billion of standby letters of credit, and $88.5 million of commercial letters of credit.
- Loans sold or securitized with recourse totaled $620.2 million, supported by a $4.3 million reserve. Loans sold without recourse totaled $1.28 billion but may be subject to repurchase claims for breaches of representations and warranties.
- Derivative agreements could require settlement if the company defaults on indebtedness or ceases to maintain specified capitalization levels. The termination value of derivatives in a net liability position was $14.5 million.
- The company reported no material legal proceedings and no material changes to the risk factors in its 2010 Form 10-K. Management concluded disclosure controls were effective and reported no material change in internal control over financial reporting.
- Subsequent to quarter-end, the board declared a $20.00 per share Series A preferred dividend and a $0.05 per share common dividend.
Important Facts for Investors to Verify
- Reconcile reported earnings with the recurring contribution from covered-loan accretion and the potentially volatile FDIC indemnification adjustments.
- Monitor California commercial and residential real estate exposure, classified loans, nonaccrual loans, OREO, TDRs, and net charge-offs.
- Assess whether lower provisions and improved credit metrics are sustainable as commercial and industrial lending expands.
- Review the quality, duration, unrealized losses, and impairment assumptions of the $3.28 billion available-for-sale securities portfolio.
- Evaluate liquidity under deposit outflows, collateral requirements, repurchase-agreement calls, and the scheduled maturities of deposits and borrowings.
- Confirm the ongoing economics, reimbursement timing, and potential repayment obligations under the FDIC shared-loss agreements.
- Review capital ratios and the effect of the planned phase-out of trust preferred securities from Tier 1 regulatory capital beginning in 2013.
- Validate off-balance-sheet commitments, loan-sale recourse obligations, derivative termination provisions, and the absence of material litigation.