First Hawaiian, Inc. — Q2 2020 Form 10-Q
Business context and reporting period
First Hawaiian is a bank holding company whose wholly owned bank provides consumer and commercial banking, lending, wealth management and related services, primarily in Hawaii, Guam and Saipan. This unaudited filing covers the quarter and six months ended June 30, 2020; comparisons are with the corresponding 2019 periods unless otherwise noted. COVID-19 and the resulting economic contraction, particularly the shutdown of Hawaii tourism, were central to the quarter’s results.
Financial results and key metrics
| Metric | Q2 2020 | Q2 2019 | Six months 2020 | Six months 2019 |
|---|---|---|---|---|
| Net interest income | $127.8 million | $145.6 million | $266.5 million | $290.7 million |
| Provision for credit losses | $55.4 million | $3.9 million | $96.6 million | $9.6 million |
| Noninterest income | $45.7 million | $48.8 million | $94.9 million | $95.8 million |
| Noninterest expense | $91.5 million | $93.3 million | $187.9 million | $185.9 million |
| Net income | $20.0 million | $72.4 million | $58.9 million | $142.4 million |
| Diluted EPS | $0.15 | $0.54 | $0.45 | $1.06 |
| Net interest margin | 2.58% | 3.25% | 2.84% | 3.24% |
| Efficiency ratio | 52.70% | 47.99% | 51.99% | 48.09% |
Q2 total revenue, defined as net interest income plus noninterest income, was $173.5 million, versus $194.4 million a year earlier. Q2 return on average assets was 0.36%; return on average equity was 2.99%. The reported dividend was $0.26 per share for the quarter. The dividend payout ratio was 173.33% for Q2, reflecting reduced earnings.
- Balance sheet at June 30: Total assets were $22.99 billion, up from $20.17 billion at December 31, 2019. Loans and leases were $13.76 billion, compared with $13.21 billion; deposits were $19.36 billion, compared with $16.44 billion.
- Credit reserves and asset quality: The allowance for credit losses on loans and leases was $192.1 million, or 1.40% of loans, versus $130.5 million and 0.99% at year-end. Six-month net charge-offs were $29.5 million, or 0.44% of average loans on an annualized basis. Nonaccrual loans and leases were $32.8 million; nonperforming assets totaled $33.3 million, versus $5.8 million at year-end.
- Cash flow and liquidity: For the first six months, operating cash flow was $108.6 million, investing cash flow was negative $1.59 billion, and financing cash flow was positive $2.64 billion. Cash and cash equivalents ended the period at $1.86 billion, up from $694.0 million. Available-for-sale securities were $5.14 billion.
- Debt and capital: Short-term borrowings were $200 million and long-term borrowings were $200.0 million. The remaining short-term FHLB advance matured in July 2020. The company reported a 11.86% common equity tier 1 ratio, 13.11% total capital ratio and 7.75% leverage ratio; the company and bank were classified as well-capitalized.
Material changes versus prior periods
- Q2 net income fell 72% year over year, principally reflecting the $51.6 million increase in the provision for credit losses and a $17.8 million decline in net interest income. Six-month net income declined 59%, with provision expense up $87.1 million year over year.
- Lower market rates reduced yields on loans and securities, while lower deposit funding costs partly offset the pressure. Q2 net interest margin fell 67 basis points year over year. Management noted that PPP loans bear a 1% rate and also weighed on loan yields.
- Q2 noninterest income declined 6%, largely due to lower card fees and deposit service charges, partly offset by higher other income. Six-month noninterest income was down 1%. Q2 noninterest expense declined 2%, while six-month expense increased 1%.
- Loans grew $552.4 million from year-end, including $916.4 million of PPP loans, partly offset by decreases in Shared National Credits, dealer flooring and consumer balances. Deposits rose $2.9 billion, including increased public time deposits; the company said it raised liquidity in anticipation of PPP-related and other funding needs.
- Six-month securities purchases and valuation gains contributed to a $1.06 billion increase in securities fair value and an $84.6 million after-tax increase in accumulated other comprehensive income related to securities.
Outlook, commentary, risks and unusual items
- Management described the outlook for Hawaii tourism, air travel and economic recovery as highly uncertain. Hawaii’s seasonally adjusted unemployment rate was 13.9% in June 2020 versus 2.7% a year earlier; visitor arrivals declined 49.5% in the first five months of 2020 year over year.
- The company expects adverse economic conditions to continue affecting borrowers, credit quality, fee income and profitability. Management stated that a prolonged low-rate environment could further reduce net interest margin; its interest-rate sensitivity analysis shows higher modeled net interest income in rising-rate scenarios and lower net interest income in falling-rate scenarios.
- At June 30, 21,188 loans and leases totaling $3.03 billion, or 22.0% of total loans, were receiving COVID-related payment deferrals. These accommodations were generally not reported as TDRs or past due when eligible under CARES Act and interagency guidance.
- The bank had 6,016 PPP loans with a $916.4 million amortized cost basis. Forgiveness depends on borrower compliance with program requirements; loans not forgiven may remain on the balance sheet. Management expected a sizeable portion to remain outstanding for up to two years.
- The company adopted CECL on January 1, 2020. Adoption increased the reserve for unfunded commitments by $16.3 million and resulted in a $12.5 million after-tax reduction to retained earnings; subsequent pandemic-driven expected losses materially increased provision expense.
- Liquidity sources included $1.9 billion of available FHLB borrowing capacity and $982 million of FRB capacity. Core deposits were $17.0 billion, or 88% of deposits. Management noted risks from deposit outflows and reliance on secured funding capacity.
- Management did not expect pending or threatened legal proceedings to have a material effect. However, it stated that certain potential tax or other liabilities related to the 2016 reorganization cannot currently be quantified. No material risk-factor changes were reported from the prior 10-K and Q1 2020 10-Q. Disclosure controls were considered effective, with no material change in internal control over financial reporting.
- No formal numerical earnings or full-year guidance is provided in the supplied filing text. The board declared a $0.26-per-share quarterly dividend in July 2020, payable September 4, 2020.
Most important facts for investors to verify
- Whether borrowers receiving deferrals resume payments, and how deferral performance, delinquencies and charge-offs affect future provisions and the adequacy of the CECL allowance.
- The sensitivity of Hawaii’s tourism-dependent economy and the bank’s commercial borrowers to prolonged travel restrictions, unemployment and business closures.
- PPP forgiveness progress, residual loan balances and the effect of low-rate PPP loans on yields, capital and liquidity.
- The durability and composition of the $2.9 billion deposit increase, including public and time deposits, and the availability and collateral requirements of contingent borrowing sources.
- Whether lower market rates, reduced transaction activity and customer assistance measures continue to pressure net interest margin and fee income, and whether the dividend remains supported by earnings and capital.