First Hawaiian, Inc. — Q2 2019 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2019. First Hawaiian is a bank holding company whose principal subsidiary, First Hawaiian Bank, provides consumer and commercial banking services, primarily in Hawaii. Comparisons below are with Q2 or first-half 2018, or December 31, 2018 for balance-sheet amounts. Dollar amounts are in millions unless noted.
Financial performance
| Metric | Q2 2019 | Q2 2018 | Six months 2019 | Six months 2018 |
|---|---|---|---|---|
| Net interest income | $145.6 | $141.4 | $290.7 | $281.1 |
| Net interest margin | 3.25% | 3.18% | 3.24% | 3.16% |
| Provision for loan and lease losses | $3.9 | $6.0 | $9.6 | $12.0 |
| Noninterest income | $48.8 | $49.8 | $95.8 | $98.5 |
| Noninterest expense | $93.3 | $91.9 | $185.9 | $182.5 |
| Net income | $72.4 | $69.1 | $142.4 | $137.0 |
| Diluted earnings per share | $0.54 | $0.50 | $1.06 | $0.99 |
- Q2 net income increased 5%; first-half net income increased 4%. Higher net interest income and lower loan-loss provision were the main contributors, partly offset by lower noninterest income and higher expenses.
- Q2 net interest income rose 3%, driven by higher loan balances and yields. The benefit was partly offset by higher deposit costs, higher average long-term borrowings and a smaller securities portfolio. The average rate paid on interest-bearing deposits rose 25 basis points in Q2 to 0.87%.
- First-half noninterest income fell 3%, including a $2.6 million net loss on securities sales. Noninterest expense rose 2%; increases in compensation, contracted services, card rewards and marketing were partly offset by lower regulatory assessments and other expense.
- Q2 efficiency ratio was 47.99% versus 48.04%; first-half ratio was 48.09% versus 48.06%. Core measures are non-GAAP; the company reports first-half core net income of $144.7 million and core diluted EPS of $1.07.
Financial position, liquidity and capital
- Total assets were $20.5 billion, down from $20.7 billion at year-end 2018. Loans and leases grew 1% to $13.3 billion; commercial real estate loans rose $203 million and residential real estate loans rose $87 million. Deposits declined 2% to $16.8 billion, mainly from lower demand and money-market balances.
- Cash and cash equivalents were $683.5 million, compared with $1.0 billion at year-end. First-half operating cash flow was $144.2 million, investing cash flow was $5.1 million and financing cash outflow was $469.5 million. Financing outflows included deposit reductions, $70.0 million of dividends and $40.0 million of share repurchases.
- Borrowings totaled $600.0 million: $200.0 million short-term and $400.0 million long-term. The short-term FHLB advance bears 2.79% and matures in June 2020; long-term FHLB advances carry a weighted-average rate of 2.80%. Remaining FHLB borrowing capacity was $1.6 billion; FRB capacity was $665.7 million.
- Capital remained above regulatory minimums: CET1 ratio 11.84%, total capital ratio 12.81% and leverage ratio 8.75%. The company and bank were classified as well-capitalized. Stockholders’ equity increased 5% to $2.66 billion, partly reflecting earnings and a $100.8 million after-tax improvement in securities-related accumulated other comprehensive income.
- Asset-quality indicators were generally low: nonaccrual loans and leases were 0.03% of total loans, down from 0.05% at year-end. The allowance was $138.5 million, or 1.04% of loans, versus $141.7 million and 1.08%. However, annualized first-half net charge-offs rose to 0.20% from 0.14%, largely reflecting consumer charge-offs and a $2.0 million commercial loan charge-off.
Material changes and notable items
- BNP Paribas, through its selling shareholder, completed its exit from First Hawaiian on February 1, 2019. The company received no proceeds from that secondary offering.
- The company sold 48 securities in January 2019 following its prior-year decision to sell them. The sale produced a further $2.6 million loss in first-half 2019; unrealized securities losses declined substantially as market interest rates fell.
- A $100 million share repurchase program was announced in March. Approximately $40 million of shares were repurchased during the first half. A quarterly dividend of $0.26 per share was declared in July, payable September 6, 2019.
- Adoption of lease accounting on January 1, 2019 added a $50.3 million lease liability and $50.6 million right-of-use asset. The company early adopted cloud-computing implementation-cost guidance and capitalized $3.5 million during the first half.
Outlook, commentary, risks and contingencies
- The filing provides no specific earnings or financial guidance. Management described Hawaii’s economy as growing, supported by tourism, real estate and tax revenue, while noting lower visitor spending and softer Oahu home sales. Management is monitoring interest rates, trade tensions, the global economy, tourism and construction activity, and housing affordability.
- Management expects to estimate the financial impact of the CECL credit-loss standard in Q4 2019, after model testing and parallel runs. Detailed model review was expected to begin in Q3; implementation will require operational, data and control work.
- Interest-rate sensitivity modeling indicated that a gradual 100-basis-point increase could raise net interest income by 2.8% over 12 months, while a 100-basis-point decline could reduce it by 3.3%. An immediate 100-basis-point increase was estimated to raise income by 5.8%, while an immediate decline could reduce it by 8.3%. These are hypothetical scenarios, not forecasts, and depend on assumptions about deposit behavior, repricing and prepayments.
- Key risks include the geographic concentration of lending in Hawaii and exposure to tourism, real estate and natural disasters; deposit retention and funding costs; credit losses; interest-rate movements; cybersecurity and operational disruptions; and transition away from LIBOR. The company has LIBOR-linked loans and derivatives and notes uncertainty about replacement benchmarks and contract effects.
- Off-balance-sheet commitments to extend credit were $5.79 billion; standby letters of credit were $185.9 million. A customer overdraft-fee class-action settlement of approximately $4.1 million was funded and preliminarily approved; final approval was scheduled for August 6, 2019. Management said other pending or threatened proceedings were not expected to have a material effect.
- After quarter-end, President and COO Eric Yeaman announced his resignation effective August 12, 2019. Chairman and CEO Robert Harrison was to assume the president role on that date. Management reported effective disclosure controls and no material quarterly change in internal control over financial reporting.
Important facts for investors to verify
- Whether loan growth, particularly commercial and residential real estate, remains sustainable and consistent with underwriting standards and Hawaii’s economic conditions.
- Whether higher consumer net charge-offs and the lower allowance ratio are adequately reflected in reserves, including the eventual impact of CECL.
- Whether deposit balances and funding costs stabilize, and how deposit competition affects net interest margin and liquidity.
- How the securities portfolio and unrealized gains or losses respond to interest rates, and whether management continues portfolio repositioning.
- The progress and estimated impact of CECL, the LIBOR transition, and the final approval of the overdraft settlement; also monitor the leadership transition and capital returns.