Bank of Hawaii Corporation — Q2 2014 Form 10-Q
Business context and reporting period. Bank of Hawaii Corporation is a bank holding company headquartered in Honolulu; it serves customers in Hawaii, Guam, and other Pacific Islands. This unaudited filing covers the quarter and six months ended June 30, 2014. Balance-sheet comparisons are to December 31, 2013.
Key financial results
| Metric | Q2 2014 | Q2 2013 | Six months 2014 | Six months 2013 |
|---|---|---|---|---|
| Net interest income | $94.4m | $87.3m | $187.6m | $175.9m |
| Net interest margin | 2.86% | 2.77% | 2.87% | 2.80% |
| Noninterest income | $44.5m | $48.0m | $89.2m | $95.8m |
| Noninterest expense | $81.1m | $81.2m | $164.6m | $165.6m |
| Provision for credit losses | $(2.2)m | $0 | $(2.2)m | $0 |
| Net income | $41.5m | $37.8m | $80.1m | $73.7m |
| Diluted EPS | $0.94 | $0.85 | $1.81 | $1.65 |
Q2 revenue, defined as net interest income plus noninterest income, was $138.9m, compared with $135.4m a year earlier. The filing reports Q2 return on average assets of 1.17%, return on average equity of 15.87%, and an efficiency ratio of 58.38% (59.96% in Q2 2013). The six-month efficiency ratio was 59.46%, versus 60.93%.
Balance sheet, liquidity, and capital
- Assets were $14.84bn, up from $14.08bn at year-end. Loans and leases rose 5% to $6.43bn; deposits increased 6% to $12.67bn.
- Cash and cash equivalents were $942.8m at June 30. Six-month operating cash flow was $73.8m, investing cash flow was $(263.9)m, and financing cash flow was $669.1m; cash and cash equivalents increased $479.0m during the period.
- Long-term debt was $173.7m, broadly unchanged from year-end. Repurchase-agreement borrowings were $745.6m. Management reported an additional $1.2bn of FHLB borrowing capacity and $696m of FRB borrowing capacity, subject to available pledged collateral.
- Shareholders’ equity was $1.05bn. Regulatory capital ratios were 15.66% Tier 1 capital, 16.91% total capital, and 7.20% Tier 1 leverage; the company and bank were described as “well capitalized.” The filing notes a revision to historical capital ratios related mainly to benefit-plan accumulated other comprehensive income; management deemed the effect immaterial.
- The quarterly dividend remained $0.45 per share. The company repurchased 467,778 shares during the first half for $27.0m and paid $40.0m in dividends. In July, the board added $100m to the repurchase authorization.
Material changes and management commentary
- Net income increased 10% in Q2 and 9% for the first half. Management attributed the improvement principally to loan growth, higher net interest margin, and lower securities premium amortization, along with the negative credit-loss provision.
- Mortgage banking income fell 69% in both Q2 and the first half, to $1.8m and $3.8m, respectively, as refinancing activity and mortgage production declined. The company also retained more conforming saleable loans, reducing loan-sale gains.
- Net gains on investment securities were $2.1m in Q2 and $4.2m for the first half, primarily from sales of Visa Class B shares. The company also contributed Visa shares to its foundation.
- Loan and lease balances grew $331m from year-end, with growth in commercial and consumer lending. Nonperforming assets decreased to $34.4m from $39.7m; nonaccrual loans were 0.47% of loans, versus 0.60% at year-end. The allowance was $113.8m, or 1.77% of loans, compared with $115.5m, or 1.89%.
- Deposits rose $755m, partly due to a few large deposits near quarter-end that management says were temporary and withdrawn shortly afterward. Management excluded these deposits from its interest-rate sensitivity analysis.
Outlook, risks, and contingencies
- No specific earnings or revenue guidance is provided. Management described Hawaii’s economy as positive, citing construction activity, stable tourism, low unemployment, and a strong real estate market. It said higher rates could support margin improvement over time, but any benefit would take time to emerge.
- The company’s modeled 12-month net interest income sensitivity at June 30 was +3.6% for an immediate 200-basis-point rate increase and -4.8% for an immediate 100-basis-point decrease. Management cautioned that a flatter or inverted yield curve could reduce net interest income.
- Management identified residential land loans, home equity loans, air transportation leases, and lending on neighbor islands as higher-risk areas. It also cited economic and tourism exposure, interest-rate and securities-market changes, regulatory and capital requirements, litigation, cybersecurity and operational disruption, and natural disasters among forward-looking risks.
- Credit commitments totaled $2.46bn, mainly unfunded commitments to extend credit; the filing notes these may expire undrawn. Legal proceedings arise in the normal course of business; management did not expect outcomes materially above amounts accrued based on information then available.
- For the first half, five residential mortgage loans totaling $1.4m were repurchased under representation-and-warranty provisions, with no losses; there were no pending repurchase requests at June 30. The company had not recorded a liability for mortgage repurchase exposure, which management considered not material based on historical requests and loss trends, while acknowledging requests could increase.
- Visa Class B shares remain subject to transfer restrictions and litigation-related uncertainty. The company’s sales agreements require payment to buyers if Visa further reduces the conversion ratio. Remaining shares were carried at zero cost basis.
Most important facts for investors to verify
- Whether loan growth and the improved net interest margin persist, particularly if interest rates or the yield curve change.
- The sustainability of credit quality and the adequacy of the allowance, including developments in the higher-risk lending categories and residential mortgage nonaccruals.
- How much of the reported deposit growth was recurring after the large temporary deposits were withdrawn.
- Whether declining mortgage production continues to weigh on noninterest income and whether gains from Visa share sales are repeatable.
- Capital and liquidity trends, including the effects of regulatory changes, pledged collateral, and future share repurchases and dividends.
- Developments in mortgage repurchase demands and the Visa Class B conversion-ratio and litigation exposure.