Central Pacific Financial Corp. — 2020 Form 10-K
Reporting period: Fiscal year ended December 31, 2020; comparisons are primarily with 2019. Central Pacific is a Hawaii-focused bank holding company operating Central Pacific Bank, with 31 branches and 69 ATMs at year-end. The auditor issued an unqualified opinion on the financial statements and found internal control over financial reporting effective. The allowance for credit losses was identified as a critical audit matter.
Financial performance and position
| Metric | 2020 | 2019 | Change / context |
|---|---|---|---|
| Net interest income | $197.7 million | $184.1 million | Up 7.4%; lower funding costs and PPP-related income more than offset lower asset yields. |
| Net interest margin | 3.30% | 3.35% | Down 5 basis points. |
| Provision for credit losses | $39.1 million | $6.3 million | Substantially higher, reflecting CECL and the pandemic-related economic outlook. |
| Other operating income | $45.2 million | $41.8 million | Up 8.1%, led by mortgage banking; deposit service charges declined. |
| Other operating expense | $154.7 million | $141.6 million | Up 9.2%, including higher personnel, software, professional services and credit-exposure costs. |
| Net income / diluted EPS | $37.3 million / $1.32 | $58.3 million / $2.03 | Lower chiefly because of the higher credit-loss provision and expenses. |
| ROA / ROE | 0.58% / 6.85% | 0.99% / 11.36% | Both declined. |
| Net cash from operating activities | $76.8 million | $72.2 million | Cash used in investing was $596.9 million; cash provided by financing was $521.2 million. |
Fourth quarter: Net income was $12.2 million, or $0.43 diluted EPS, versus $14.2 million, or $0.50, in Q4 2019. Net interest income was $51.5 million versus $47.9 million; provision for credit losses was $4.5 million versus $2.1 million. Q4 operating expense rose to $45.1 million, including branch-consolidation costs and other unusual expenses.
Year-end balance sheet and liquidity: Total assets were $6.59 billion, up 9.7%; loans were $4.96 billion, up 11.6%; deposits were $5.80 billion, up 13.2%; and shareholders’ equity was $546.7 million. Core deposits increased 18.5% to $5.05 billion, partly reflecting PPP and government-assistance funds and elevated savings. The loan-to-deposit ratio was 85.6%. Cash and cash equivalents totaled $104.1 million. The bank had $1.52 billion available under its FHLB line and $64.5 million available at the Federal Reserve discount window.
Credit, capital and debt: The allowance for credit losses was $83.3 million, or 1.68% of loans (1.83% excluding PPP loans), versus $48.0 million, or 1.08%, a year earlier. Nonperforming assets were $6.2 million, or 0.09% of assets, compared with $1.7 million, or 0.03%. Criticized loans increased to $192.3 million, or 4.2% of loans excluding PPP. The company reported regulatory capital ratios of 8.8% leverage, 12.9% Tier 1 risk-based, 15.2% total risk-based and 11.8% CET1; the bank was classified as well-capitalized. Debt included $55 million of new subordinated notes issued in October, $51.5 million of subordinated debentures and $22 million of short-term borrowings.
Material changes versus 2019
- Net income declined $21.0 million, while net interest income increased $13.6 million as interest expense fell by $17.6 million.
- Loan growth included $416.4 million in PPP loans; excluding PPP, loan growth was approximately $98.2 million, or 2.2%. The bank originated about $558.8 million of PPP loans during 2020, and $426.0 million remained outstanding at year-end.
- Active pandemic-related payment forbearance or deferrals fell from $567.9 million at June 30 to $120.2 million at year-end. These balances are not necessarily classified as troubled debt restructurings.
- Core deposits rose sharply, but management cautioned that pandemic- and stimulus-related balances could be temporary. Total assets also grew, while the tangible common equity ratio decreased to 8.29% from 8.79%.
- The company adopted CECL on January 1, 2020, increasing the opening loan allowance by $3.6 million and reducing retained earnings by a net $3.2 million. Prior-year results were not restated.
Outlook, risks and unusual items
- Outlook: The filing provides no formal earnings or EPS guidance. Management said it believed capital and liquidity were sufficient to withstand a pandemic-related recession, expected deposit rates to remain relatively steady in 2021, and anticipated slower requests for new or extended deferrals through Q1 2021. It cited external projections for a partial recovery in Hawaii tourism in 2021, while emphasizing substantial uncertainty.
- Hawaii and credit exposure: The company is geographically concentrated in Hawaii, where tourism arrivals fell 73.8% in 2020. About 71% of its loan portfolio was real-estate-related and 88.6% was concentrated in Hawaii. Further economic weakness, borrower distress or falling collateral values could increase losses and provisions.
- PPP contingency: A $10 million PPP borrower was the subject of a federal fraud complaint; the borrower’s CEO was charged and the investigation was ongoing. The bank was not a party, was cooperating with authorities, believed the SBA guarantee remained effective and expected repayment. The company also noted that potential PPP-related risks and liabilities could not yet be determined.
- Unusual expenses and actions: Management identified approximately $5.9 million of late-2020 nonrecurring expenses, including employee incentives, branch-consolidation costs, legal settlements and an FHLB prepayment fee. Four branches were consolidated; the company anticipates about $1.8 million in annual savings. The 2020 share-repurchase program was suspended in March; a new authorization of up to $25 million was approved in January 2021.
- Other risks: Low interest rates and margin pressure, changing deposit balances, real-estate concentration, CECL estimate uncertainty, LIBOR transition, cybersecurity, regulation and execution of strategic initiatives remain risks. The company reported a continuing federal investigation related to the PPP loan but said it expected full repayment. Ordinary-course legal claims were not expected by management to have a material adverse effect.
Most important facts for investors to verify
- Whether pandemic-related borrower accommodations, criticized loans and Hawaii tourism trends lead to further deterioration in credit quality or a higher allowance.
- How much PPP-related lending and pandemic-driven deposit growth remains, and the timing and economics of loan forgiveness and fee recognition.
- Whether net interest margin, earnings and funding costs hold up in the low-rate environment as deposits reprice and loans or securities yield less.
- The status and financial consequences, if any, of the $10 million PPP borrower investigation and the bank’s SBA guarantee.
- Whether the expected branch savings materialize, and how dividends, repurchases and capital ratios develop following the new subordinated debt issuance.