FIRST HAWAIIAN, INC. quarterly report, Q2 FY2022

First Hawaiian, Inc. — Q2 2022 Form 10-Q

Business context and reporting period. First Hawaiian is a bank holding company whose wholly owned subsidiary, First Hawaiian Bank, serves consumer and commercial customers, primarily in Hawaii and also in Guam, Saipan and the U.S. mainland. This unaudited filing covers the quarter and six months ended June 30, 2022; comparisons are with the corresponding 2021 periods unless stated otherwise.

Financial performance and position

Metric	Q2 2022	Six months 2022
Net interest income	$145.1 million; +10%	$279.0 million; +7%
Net interest margin	2.60%; +14 basis points	2.51%; +1 basis point
Provision for credit losses	$1.0 million expense	$4.7 million benefit
Noninterest income	$44.1 million; -11%	$85.5 million; -8%
Noninterest expense	$109.2 million; +10%	$213.2 million; +9%
Net income	$59.4 million; -32%	$117.1 million; -19%
Diluted earnings per share	$0.46; versus $0.67	$0.91; versus $1.11
Efficiency ratio	57.33%; versus 54.74%	58.15%; versus 55.12%

• At June 30, total assets were $25.4 billion, loans and leases $13.3 billion, and deposits $22.6 billion. Loans increased 2% and deposits 4% from year-end 2021. Noninterest-bearing deposits were $9.6 billion.
• Cash and cash equivalents were $1.5 billion. The six-month cash flow statement reported $165.7 million operating cash provided, $599.0 million used in investing, and $708.4 million provided by financing, producing a $275.2 million increase in cash and cash equivalents.
• The allowance for loan and lease credit losses was $148.9 million, or 1.12% of loans, down from $157.3 million, or 1.21%, at year-end. Nonaccrual loans were 0.06% of loans; annualized net charge-offs were 0.08% for the first half.
• Stockholders’ equity was $2.25 billion, down 15% from year-end; book value per share was $17.67 and tangible book value per share was $9.86. The filing reports no short- or long-term borrowings outstanding at June 30; deposits are the primary funding source.
• Regulatory capital remained above required levels: CET1 was 11.98%, total capital 13.14%, and Tier 1 leverage 7.54%. The company and bank were classified as well-capitalized.

Material changes and notable items

• Net interest income and margin improved, reflecting rising asset yields, higher investment-security balances and yields, higher returns on deposits held at other banks, and the absence of borrowing costs after long-term borrowings were terminated in November 2021. Higher deposit funding costs partly offset these benefits.
• Profit fell despite higher net interest income. A key comparison is the $35.0 million credit-loss provision benefit in Q2 2021 versus a $1.0 million provision expense in Q2 2022. Higher operating expenses and lower noninterest income also weighed on results.
• Noninterest income was pressured by bank-owned life insurance (BOLI) mark-to-market losses: BOLI income was negative $0.9 million in Q2 and negative $1.3 million for the first half, versus positive income in 2021. Salary and benefits, technology/equipment, contracted services and card rewards were among the principal expense increases.
• The company transferred approximately $4.1 billion of available-for-sale securities to held-to-maturity at fair value, citing capital management in a rising-rate environment and intent and ability to hold to maturity. The transfer recognized no gain or loss; approximately $338.8 million of related after-tax unrealized losses remained in accumulated other comprehensive loss for amortization over the securities’ estimated lives. The transferred securities’ weighted-average life was about eight years.
• Higher interest rates reduced securities valuations. Six-month other comprehensive loss was $449.8 million, largely from investment-security losses; accumulated other comprehensive loss reached $571.5 million. Management reported gross unrealized investment-security losses of $483.5 million at June 30 and attributed them primarily to interest-rate movements, not credit concerns; no securities credit-loss allowance was recorded.
• Management described Hawaii’s economy as improving: June unemployment was 4.3%, domestic visitor counts were near pre-pandemic levels, and home prices and state tax receipts had risen. Japanese visitor arrivals remained far below 2019 levels. Loan growth was led by commercial real estate and residential mortgages; commercial and industrial loans declined partly as PPP loans ran off.

Outlook, risks and contingencies

• The filing provides no specific earnings, revenue or margin guidance. Management said rising rates could benefit net interest income because assets were expected to reprice faster and more than liabilities, while noting that rates also affect funding costs, loan demand, credit quality and securities values. Its June 30 sensitivity analysis estimated net interest income would rise 7.8% under an immediate +100-basis-point parallel rate shift and fall 8.3% under an immediate -100-basis-point shift over 12 months; management cautioned that these are hypothetical simulations, not forecasts.
• Management said liquidity remained high and existing cash, investments and operating cash flows should be sufficient for cash needs over the next 12 months and beyond. Available borrowing capacity was $1.6 billion from the FHLB and $1.3 billion from the Federal Reserve, secured by pledged collateral. Core deposits represented 97% of deposits.
• Risks highlighted include inflation and possible recession, interest-rate and securities valuation risk, commercial real estate and geographic concentration, customer deposit retention, credit deterioration, COVID-19 uncertainty, LIBOR transition, cyber and operational risks, and natural disasters in island markets. Management noted that model-based rate sensitivity can differ from actual results, including if deposits reprice or leave faster than expected.
• Commitments to extend credit and standby and commercial letters of credit totaled approximately $6.8 billion. Unfunded commitments to low-income housing tax-credit entities were $46.3 million. A customer lawsuit filed in Hawaii in 2020 remains unresolved; management disputes wrongdoing, cannot reasonably estimate potential loss, and has recorded no liability. Management does not expect other pending or threatened legal matters to have a material effect.
• The company announced a 2022 repurchase authorization of up to $75 million; $68.0 million remained at June 30. The quarterly dividend was $0.26 per share, and a further $0.26 dividend was declared in July. The May 2022 conversion to new core banking, digital banking, loan and deposit applications, and general-ledger systems changed some processes and controls; management concluded disclosure controls were effective and reported no other material control changes.

Important facts for investors to verify

• Whether rising rates continue to expand net interest income after accounting for deposit repricing, deposit mix and possible outflows.
• The effect of the $4.1 billion securities reclassification, unrealized losses, amortization and prepayment speeds on tangible equity, regulatory capital and future interest income.
• Whether loan growth, credit quality and the reduced allowance remain appropriate if inflation, economic conditions or Hawaii commercial real estate weaken.
• Drivers of elevated operating expenses and weaker BOLI and other noninterest income, and whether they persist.
• Developments in the customer lawsuit, off-balance-sheet commitments, LIBOR transition and the effectiveness of controls following the new-system conversion.