Central Pacific Financial Corp. — Q2 2017 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2017. The filing is unaudited. Central Pacific Financial Corp. is a Hawaii bank holding company whose principal subsidiary, Central Pacific Bank, operates 35 branches and 84 ATMs across Hawaii.
Financial performance and condition
Amounts below are in millions of dollars except per-share data and ratios.
| Metric | Q2 2017 | Q2 2016 | Six months 2017 | Six months 2016 |
|---|---|---|---|---|
| Net interest income | $41.6 | $39.6 | $82.9 | $78.8 |
| Net income | $12.0 | $12.1 | $25.1 | $23.3 |
| Diluted EPS | $0.39 | $0.39 | $0.81 | $0.74 |
| Net interest margin | 3.29% | 3.29% | 3.29% | 3.31% |
| Efficiency ratio | 65.32% | 65.51% | 63.31% | 65.52% |
- Revenue and earnings: Q2 total revenue (net interest income plus other operating income) was $49.5 million, essentially flat year over year. Other operating income fell to $7.9 million from $9.9 million; operating expenses were nearly unchanged at $32.3 million. First-half net income rose 7.7% year over year.
- Balance sheet: Total assets were $5.53 billion at June 30, up $148.9 million from December 31, 2016. Loans and leases were $3.59 billion, up 1.9%; deposits were $4.89 billion, up 6.0%. Shareholders’ equity was $512.9 million.
- Credit and allowance: The allowance for loan and lease losses was $52.8 million, or 1.47% of loans, versus $56.6 million and 1.61% at year-end. First-half provision was a $2.4 million credit; net charge-offs were $1.4 million. Nonperforming assets were $9.0 million, and nonperforming assets plus 90-day-past-due accruing loans and accruing restructurings equaled 0.65% of loans and OREO.
- Cash flow and liquidity: For the first half, operating cash flow was $58.2 million, investing cash outflow $123.5 million, and financing cash inflow $121.5 million. Cash and cash equivalents ended at $140.6 million, versus $84.3 million at the start of the year. The $1.47 billion FHLB line was undrawn at June 30; the bank also had $68.6 million of unused Federal Reserve discount-window borrowing capacity.
- Debt and capital: Long-term debt was $92.8 million; short-term borrowings were zero, compared with $135.0 million at year-end. Company and bank regulatory capital ratios exceeded the stated “well capitalized” thresholds. Tangible common equity ratio was 9.22%, compared with 9.29% at year-end.
- Shareholder returns: First-half cash dividends paid were $10.4 million and stock repurchases were $11.2 million. The board declared a $0.18-per-share dividend on July 25, 2017. The 2017 repurchase authorization had $18.8 million remaining at June 30.
Material changes versus comparable periods
- Q2 net interest income increased 5.1% on a GAAP basis; management attributed the increase to loan growth funded by lower-cost deposit growth. Higher time-deposit balances and rates raised funding costs. First-half net interest margin declined 2 basis points to 3.29%.
- Q2 net income was slightly lower year over year, while first-half net income and diluted EPS increased. First-half net interest income grew, but deposit interest expense increased substantially, particularly on time deposits of $100,000 or more.
- Other operating income declined in Q2, principally reflecting a $1.6 million realized securities loss from a portfolio repositioning, lower bank-owned life insurance income, and lower recoveries on previously charged-off loans. The repositioning exchanged $97.7 million of securities yielding 1.91% for $97.4 million of securities yielding 2.57%, with longer duration.
- Loan growth included increases in auto, home-equity, and residential mortgage balances. Nonperforming assets edged down from $9.2 million at year-end, while the allowance ratio also declined.
Outlook, risks and unusual items
- Outlook: The filing gives no company-specific earnings or revenue guidance. Management described Hawaii’s economy, tourism, and real estate market as favorable, while noting that future strength is not assured. Management reported that the Federal Reserve raised its target range twice in 2017 and said it did not expect another rate-range change during the remainder of 2017, based on its then-current outlook.
- Principal risks: Results are concentrated in Hawaii and exposed to real estate and tourism conditions, borrower credit quality, interest-rate changes and deposit pricing, liquidity and funding availability, regulation, and natural disasters or other events affecting the local economy. Management cautioned that deterioration in real estate markets could negatively affect results.
- Controls: Management concluded disclosure controls and procedures were not effective at quarter-end because of a previously reported material weakness involving completeness and accuracy of data used in the allowance calculation. Remediation and third-party validation were underway, but management said several quarters may be needed to assess whether the weakness is resolved.
- Unusual items and contingencies: A former executive’s SERP settlement and related deferred-tax adjustment contributed $0.9 million of additional income tax expense. The company reported ordinary-course legal proceedings and did not expect their resolution to materially affect consolidated financial statements. It also disclosed $1.7 million of unfunded low-income housing investment commitments.
- The company’s forward-looking statements are subject to risks including economic and market changes, loan losses, regulatory developments, interest-rate movements, and execution of efficiency initiatives. Management does not undertake to update forward-looking statements except as required by law.
Important facts for investors to verify
- Whether the allowance decline and credit provision remain appropriate as loan balances grow and the loan mix changes; track charge-offs, delinquency trends, criticized loans, and nonperforming assets.
- Whether higher deposit costs pressure net interest margin, particularly as time deposits reprice and interest rates change.
- Whether the investment portfolio repositioning improves prospective earnings enough to offset its realized loss and added duration and interest-rate exposure.
- Progress and independent validation of remediation for the material weakness in allowance-related controls, and when management concludes it has been remediated.
- Whether Hawaii tourism and real estate conditions, deposit growth, capital levels, and regulatory or legal developments remain consistent with management’s stated assessment.
- Dividend and repurchase capacity, including applicable regulatory and debt-covenant restrictions.