Central Pacific Financial Corp. — Q3 2018 Form 10-Q
Business context and period. Central Pacific Financial is a Hawaii bank holding company; its bank operates 35 branches and 78 ATMs across Hawaii. This unaudited filing covers the quarter and nine months ended September 30, 2018. Balance-sheet comparisons are with December 31, 2017; income and cash-flow comparisons are with the corresponding 2017 periods.
Financial performance and position
- Q3 earnings: Net income was $15.2 million, up from $11.8 million; diluted EPS was $0.52 versus $0.39. Nine-month net income was $43.7 million versus $36.9 million; diluted EPS was $1.47 versus $1.20.
- Revenue and margin: Q3 GAAP net interest income was $43.3 million, up 3.2%; other operating income was $10.8 million, up 13.1%. On a taxable-equivalent basis, nine-month net interest income rose 2.1% to $129.1 million. Net interest margin was 3.20%, down 5 basis points in Q3 and 8 basis points for the nine months year over year.
- Profitability and costs: Q3 efficiency ratio improved to 63.05% from 64.99%; the nine-month ratio rose to 64.28% from 63.88%. Nine-month pretax income declined to $56.1 million from $57.5 million, while lower income-tax expense—$12.4 million versus $20.6 million—supported higher net income. The nine-month effective tax rate was 22.09%, compared with 35.81%.
- Loans and credit: Loans and leases grew 5.5% from year-end to $4.0 billion, with growth in commercial, commercial mortgage, residential mortgage, and home-equity lending. The allowance was $46.8 million, down from $50.0 million; allowance-to-loans was 1.18% versus 1.33% at year-end. Nine-month net charge-offs were $3.4 million versus $2.9 million. Nonperforming assets were $3.0 million, down 16.5%; the NPA ratio was 0.08%.
- Cash flow: Nine-month operating cash flow was $78.2 million versus $76.6 million. Investing used $148.3 million and financing provided $77.5 million; cash and cash equivalents increased $7.4 million to $89.7 million.
- Balance sheet, funding and capital: Total assets were $5.73 billion, up $104.9 million from year-end. Deposits rose 1.0% to $5.00 billion. Short-term borrowings increased to $105 million from $32 million; long-term debt was $92.8 million. The company reported $1.56 billion of undrawn FHLB capacity and $76.5 million available at the Federal Reserve discount window. Tangible common equity ratio was 8.35%, down from 8.86%; the company and bank remained above well-capitalized regulatory thresholds.
- Shareholder returns: The company repurchased 849,290 shares for $24.8 million in the first nine months and paid $18.0 million in dividends. The board declared a subsequent quarterly dividend of $0.21 per share.
Material changes and notable items
- Loan growth and higher loan yields lifted interest income, but deposit costs rose faster: Q3 interest expense increased 70.4% year over year, primarily from higher rates on large time deposits. Management said this pressure contributed to lower net interest margin.
- Investment securities fell $109.9 million from year-end. Available-for-sale securities had $38.4 million of gross unrealized losses and held-to-maturity securities $6.4 million; management attributed declines mainly to interest-rate and market changes and stated it did not intend, and was not more likely than not required, to sell the securities before recovery. Nine-month other comprehensive loss was $24.1 million, principally reflecting securities valuation changes; accumulated other comprehensive loss reached $27.1 million.
- Q3 included a $0.3 million increase in the reserve for residential mortgage repurchase losses, primarily associated with Kilauea eruptions. The company identified a $0.1 million residential mortgage collateral property destroyed by lava, with an insurance claim denied, and established a specific reserve for that loan.
- After quarter-end, the company announced redemption of $20 million of Trust III trust preferred securities and the underlying debentures, scheduled for December 17, 2018, at par plus accrued amounts and funded with excess cash. Regulatory approvals had been received.
Outlook, risks and contingencies
- No company earnings or financial guidance is provided in the supplied filing text. Management described Hawaii’s economic outlook as positive for the remainder of 2018, citing tourism and employment, while noting its concentrated Hawaii exposure to real estate, tourism, and natural disasters. State forecasts cited by management anticipated slower growth in 2019.
- The Federal Reserve raised its target range to 2.00%–2.25% in September 2018 and indicated another increase remained possible, subject to conditions. The company’s one-year interest-rate simulation estimated net interest income sensitivity of +1.10% for a 100-basis-point increase and -2.65% for a 100-basis-point decrease, assuming no balance-sheet growth.
- Management identified borrower deterioration, Hawaii real-estate weakness, deposit competition and rising funding costs, interest-rate changes, regulatory developments, and natural disasters as risks. The filing specifically added natural-disaster exposure, including volcanic eruptions, as a risk factor.
- CECL is scheduled for adoption beginning January 1, 2020. Management said the impact could not yet be reasonably estimated and would depend on loan and securities composition, credit quality, and economic conditions; implementation may require significant process and data changes.
- Ordinary-course legal matters were not expected by management to have a material adverse effect. Management reported disclosure controls were effective and no material quarterly change in internal control over financial reporting.
Important facts for investors to verify
- Whether deposit pricing continues to rise faster than loan yields and further pressures net interest margin.
- Loan portfolio quality, net charge-offs, allowance adequacy, and any further credit or repurchase losses related to Kilauea.
- Changes in unrealized securities losses, accumulated other comprehensive loss, and the potential effect on capital.
- Funding needs, short-term borrowing levels, available liquidity, and completion and funding of the planned $20 million debt redemption.
- CECL implementation assumptions and the eventual adoption impact; the filing does not provide a clear estimate.
- Whether Hawaii’s economic and real-estate conditions remain supportive, given the company’s geographic concentration and disaster exposure.