Central Pacific Financial Corp. — Q1 2012 Form 10-Q
Reporting period: Three months ended March 31, 2012; balance-sheet comparisons are to December 31, 2011. Central Pacific Financial is a Hawaii bank holding company; its subsidiary, Central Pacific Bank, operates 34 branches and 120 ATMs in Hawaii. Dollar figures below are in millions unless noted.
Financial performance and condition
- Profit: Net income was $13.5 million, or $0.32 per diluted share, compared with $4.6 million in Q1 2011. The prior-year quarter’s $4.58 diluted EPS was materially affected by a one-time $85.1 million accounting benefit from the TARP preferred-stock exchange; prior-year net income available to common shareholders was $88.5 million. No income tax expense was recorded in either quarter.
- Revenue and margins: Net interest income was $30.5 million, up 8.2% on a taxable-equivalent basis to $30.6 million. Net interest margin improved to 3.23% from 3.03%. Interest income declined 4.2%, while interest expense fell 61.0%, reflecting lower funding costs and reduced borrowings. Other operating income rose 5.9% to $13.2 million; operating expense fell 6.4% to $35.2 million.
- Credit costs and asset quality: The company recorded a $5.0 million provision credit, versus a $1.6 million credit in Q1 2011; net charge-offs were $2.8 million versus $13.3 million. The allowance declined to $114.3 million, or 5.49% of loans, from $122.1 million and 5.91%. However, nonperforming assets increased to $205.6 million from $195.6 million, and equaled 9.54% of loans, loans held for sale and other real estate, versus 8.99%. A $25.7 million exposure to one California construction borrower accounted for most gross additions to nonperforming assets.
- Balance sheet and liquidity: Total assets were $4.16 billion, up $25.4 million from year-end. Total deposits rose 1.9% to $3.51 billion; loans and leases were $2.08 billion before the allowance, and investment securities were $1.65 billion. Cash and cash equivalents ended at $127.5 million, down $129.5 million during the quarter. Operating cash flow was $26.8 million; investing cash outflow was $170.6 million, primarily reflecting securities purchases; financing cash inflow was $14.2 million.
- Debt and capital: Long-term debt declined to $108.3 million from $158.3 million. The bank had $45 million of FHLB advances and no outstanding discount-window borrowings; substantial FHLB and Federal Reserve facilities were undrawn. Company capital ratios were 14.0% leverage, 22.8% Tier 1 risk-based and 24.1% total risk-based. Bank ratios were 13.3%, 21.6% and 22.9%, respectively. The bank reported ratios above “well-capitalized” thresholds and above the Bank MOU’s 8% minimum leverage requirement.
Material changes and management commentary
- Management reported a fifth consecutive profitable quarter and attributed the Q1 improvement principally to lower credit costs, lower funding expense and higher net interest income. The company continued its recovery plan, including reducing credit risk and improving banking-operations profitability and efficiency.
- Nonperforming assets rose despite lower charge-offs and a lower allowance. Construction and commercial real estate remain significant portfolio exposures; management cautioned that further deterioration in real estate markets, collateral values or borrower finances could increase losses and the allowance.
- Hawaii economic indicators were described as improving, including tourism and unemployment, but management characterized the broader recovery as uncertain. California conditions also remained uneven.
- The company remained subject to a Bank MOU with the FDIC and Hawaii regulators and a Federal Reserve Written Agreement. These restrict dividends, debt actions and share repurchases absent regulatory consent, among other requirements. The company said it believed it was materially complying, but could not assure when the agreements would end.
- Interest payments on trust-preferred-related subordinated debentures had been deferred for 11 consecutive quarters; $9.4 million was accrued at quarter-end. The deferral can continue for up to 20 consecutive quarters under the instruments’ terms and restricts certain distributions and payments.
- A $6.8 million reserve for residential mortgage repurchase losses remained in place. Management cited emerging “make-whole” demands and uncertainty in estimating future repurchase requests and losses. Ordinary-course legal proceedings were not expected by management to have a material adverse effect.
- No formal quantitative earnings or financial guidance was provided. Management identified continued recovery-plan execution, asset-quality improvement, profitability and operating efficiency as priorities.
Important facts for investors to verify
- Whether the rise in nonperforming assets continues, particularly in construction and commercial real estate, and whether the allowance remains adequate as credit conditions change.
- Compliance with the Bank MOU and Federal Reserve Written Agreement, the bank’s capital position, and the practical effect of restrictions on dividends, debt and share repurchases.
- The company’s capacity to meet holding-company obligations: it reported approximately $45.1 million of standalone cash, no anticipated bank dividends in the foreseeable future, and deferred trust-preferred interest.
- Future mortgage repurchase demands, including make-whole claims, and whether the $6.8 million reserve adequately captures potential losses.
- The sustainability of earnings excluding the Q1 2011 TARP-exchange accounting benefit, and the effect of continued loan contraction, low interest rates and securities growth on margins.