CENTRAL PACIFIC FINANCIAL CORP quarterly report, Q3 FY2019

Full document

Central Pacific Financial Corp. — Q3 2019 Form 10-Q

Business context and period. Central Pacific Financial Corp. is a Hawaii-based bank holding company operating Central Pacific Bank, a community bank with 35 branches and 78 ATMs statewide. This unaudited filing covers the quarter and nine months ended September 30, 2019; balance-sheet comparisons are with December 31, 2018. Unless noted, amounts below are in millions of dollars.

Financial results and position

  • Profitability: Q3 net income was $14.6 million, or $0.51 per diluted share, versus $15.2 million, or $0.52, a year earlier. Nine-month net income was $44.1 million, or $1.53 per diluted share, versus $43.7 million, or $1.47.
  • Interest income and margin: Q3 net interest income was $45.6 million, up 5.4%; taxable-equivalent net interest income was $45.8 million, up 5.2%. Nine-month net interest income was $136.1 million, up 6.1% (taxable-equivalent: $136.8 million, up 6.0%). Net interest margin was 3.30% for Q3 and 3.32% for the first nine months, compared with 3.20% in each 2018 period.
  • Other income and expenses: Q3 other operating income declined 5.1% to $10.3 million, while operating expense rose 2.7% to $34.9 million. For nine months, other operating income increased 8.9% to $32.0 million and expense increased 4.3% to $105.4 million. The nine-month income increase includes a $2.6 million gain from selling converted MasterCard shares.
  • Efficiency and returns: The efficiency ratio was 62.48% for Q3 and 62.67% year to date, versus 62.84% and 64.06%, respectively. The year-to-date ratio benefited from the MasterCard gain. Q3 and nine-month return on average assets were 0.99% and 1.00%; return on average equity was 11.11% and 11.58%.
  • Credit: Provision expense was $1.5 million in Q3 and $4.2 million for nine months, compared with a $0.1 million provision credit and $0.3 million expense in the respective 2018 periods. Nine-month net charge-offs were $4.0 million versus $3.4 million. The allowance was $48.2 million, or 1.10% of loans, at September 30.
  • Cash flow: For nine months, operating cash flow was $52.5 million, investing cash flow was negative $100.9 million, and financing cash flow was positive $41.4 million. Cash and cash equivalents ended at $95.2 million, versus $89.7 million a year earlier.
  • Balance sheet and funding: Total assets were $5.98 billion, up $169.7 million from year-end 2018. Loans and leases were $4.37 billion, up 7.1%; deposits were $5.04 billion, up 1.8%. Core deposits were $4.16 billion, or 82.5% of deposits. Shareholders’ equity was $525.2 million; equity-to-assets was 8.79%.
  • Debt and liquidity: Short-term borrowings were $205.0 million and long-term debt was $101.5 million. The company reported $1.43 billion undrawn under its $1.80 billion FHLB line and $65.6 million of additional Federal Reserve discount-window borrowing capacity. These facilities are subject to collateral and availability conditions.
  • Capital and distributions: The bank’s regulatory capital ratios exceeded “well capitalized” thresholds: leverage 9.4%, Tier 1 risk-based 12.4%, total risk-based 13.5%, and CET1 12.4%. During the first nine months, the company repurchased 631,300 shares for $18.0 million and paid $19.2 million in common dividends.

Material changes versus comparable periods

  • Q3 net income and diluted EPS were lower year over year, despite higher net interest income; higher credit provision and operating costs, alongside lower other income, contributed to the change. Nine-month net income rose modestly, with diluted EPS increasing from $1.47 to $1.53.
  • Loan growth and higher loan yields lifted interest income, but interest expense increased substantially: 22.3% in Q3 and 42.2% year to date, driven by higher deposit rates and increased short-term borrowings.
  • Asset quality indicators improved from year-end: nonperforming assets declined to $1.36 million from $2.74 million, and accruing troubled debt restructurings declined to $8.9 million from $12.9 million. The allowance-to-loans ratio fell from 1.17% to 1.10%.
  • Available-for-sale securities increased in fair value; nine-month other comprehensive income was $28.3 million, compared with a $24.1 million loss in 2018. The company transferred its held-to-maturity securities to available-for-sale upon adopting hedge-accounting guidance, recording a $3.1 million reduction to opening accumulated other comprehensive income.

Outlook, management commentary, and risks

  • RISE2020: Management expects to invest approximately $40 million during the remainder of 2019 and 2020 in digital banking, branch transformation, revenue enhancement, and operational initiatives. Q3 RISE2020 expense was approximately $1.2 million; annual expense is expected to reach about $7 million by early 2021. Management forecast a 63%–65% efficiency ratio for 2019 and 2020 and targets a 57% ratio and 15% return on average equity by the end of 2022. These are forward-looking targets, not guarantees.
  • The company said RISE2020 milestones were progressing on schedule, including planned digital banking and commercial loan platform work. It also warned that implementation could cost more than expected, fail to generate growth, or disrupt operations.
  • Management cited Hawaii economic and real-estate conditions as important exposures. Visitor arrivals had risen, but visitor spending was lower year over year; Oahu home and condominium sales prices and condominium sales volume softened. The company is also exposed to interest-rate movements, borrower credit deterioration, and economic or natural-disaster impacts on Hawaii and tourism.
  • The company plans to implement the CECL expected-credit-loss standard on January 1, 2020. It was developing models and controls but had not quantified the adoption impact; management said it would depend on portfolio composition, assumptions, and economic forecasts.
  • Other notable items: operating lease adoption added a $52.6 million right-of-use asset and $52.8 million lease liability at quarter-end. Unfunded LIHTC commitments were $11.7 million. Management said ordinary-course legal matters were not expected to have a material adverse effect. Disclosure controls were assessed as effective, with no material quarterly change in internal control over financial reporting.

Important facts for investors to verify

  • Whether loan growth and net interest margin remain resilient as deposit and borrowing costs change, particularly after Federal Reserve rate cuts.
  • Credit quality, consumer-loan purchase performance, charge-offs, and the adequacy of the allowance as CECL takes effect; the filing does not provide a clear quantified CECL impact.
  • Actual RISE2020 spending, recurring costs, execution milestones, and whether expected revenue growth supports the stated efficiency and return targets.
  • Funding mix and liquidity sensitivity, including reliance on short-term borrowings, government time deposits, pledged collateral, and available FHLB and Federal Reserve facilities.
  • How much reported earnings and efficiency improvement depend on unusual or market-sensitive items, including the MasterCard gain and bank-owned life-insurance income; also confirm the sustainability of dividends and repurchases.