East West Bancorp, Inc. — 2013 Form 10-K Summary
Business context and reporting period
East West Bancorp, Inc. is a bank holding company whose principal subsidiary, East West Bank, provides retail, commercial, real estate, trade finance and international banking services, primarily in California and Greater China. The filing covers the fiscal year ended December 31, 2013. The company reported 2013 full-year results; fourth-quarter net income was $75.8 million and diluted EPS was $0.55.
At year-end, the company operated 119 banking locations in the United States, China and Hong Kong, with $24.73 billion of consolidated assets, $17.81 billion of net consolidated loans and $20.41 billion of deposits.
Financial performance and condition
| Metric | 2013 | 2012 | Change |
|---|---|---|---|
| Net interest income | $956.2 million | $918.9 million | Up 4% |
| Provision for loan losses | $22.4 million | $65.2 million | Down 66% |
| Noninterest income/(loss) | $(92.5) million | $(5.6) million | Greater loss |
| Noninterest expense | $415.5 million | $422.5 million | Down 2% |
| Net income | $295.0 million | $281.7 million | Up 5% |
| Net income available to common stockholders | $291.6 million | $274.8 million | Up 6% |
| Diluted EPS | $2.10 | $1.89 | Up 11% |
| Return on average assets | 1.25% | 1.29% | Down 4 basis points |
| Return on average equity | 12.59% | 12.14% | Up 45 basis points |
| Net interest margin | 4.38% | 4.63% | Down 25 basis points |
- Total assets increased 10% to $24.73 billion. Net non-covered loans increased 31% to $15.62 billion, while covered loans declined 25% to $2.19 billion.
- Deposits increased 11% to $20.41 billion. Core deposits increased 20% to $14.59 billion, while brokered deposits declined $343.4 million.
- Non-covered net charge-offs declined to $3.6 million, or 0.03% of average non-covered loans, from $42.2 million, or 0.38%, in 2012. Non-covered nonperforming assets declined to $130.6 million, or 0.53% of assets.
- The allowance for loan losses increased to $249.7 million, including $241.9 million for non-covered loans. The non-covered allowance ratio declined to 1.54% from 1.92%, primarily because of loan growth.
- Operating cash flow was $425.8 million. Investing activities used $2.73 billion, principally for loan growth and investment securities purchases, while financing activities provided $1.88 billion, principally from deposit growth. Cash and cash equivalents declined $427.3 million to $895.8 million.
- At year-end, East West Bancorp reported total risk-based capital of 13.5%, Tier 1 risk-based capital of 11.9% and Tier 1 leverage capital of 8.6%. East West Bank reported corresponding ratios of 12.9%, 11.6% and 8.4%; the bank remained well capitalized.
- Borrowings included $315.1 million of FHLB advances, $995.0 million of repurchase agreements and $226.9 million of long-term debt. The company also entered into a new $100.0 million three-year term loan in 2013.
Material changes versus the prior comparable period
- Profitability improved despite a lower net interest margin, driven by loan and deposit growth, lower funding costs, materially lower credit-loss provisions and lower noninterest expense.
- Noninterest loss increased sharply because the company recorded a $228.6 million reduction in the FDIC indemnification asset and related receivable, compared with $122.3 million in 2012. This reflected covered-loan payoffs, improved credit expectations and changes in the estimated FDIC repayment obligation.
- Covered loans and the FDIC indemnification asset continued to run off. The indemnification asset fell to $74.7 million from $316.3 million, and the FDIC loss-sharing receivable fell to $30.3 million from $73.1 million.
- The investment securities portfolio increased to $2.73 billion, but its net unrealized position moved from a $8.0 million gain to a $52.7 million loss, primarily reflecting higher market interest rates. No other-than-temporary impairment was recorded in 2013.
- Stockholders’ equity declined slightly to $2.36 billion after $200.0 million of share repurchases, $86.7 million of common and preferred dividends and $35.1 million of other comprehensive loss. The company repurchased 8.0 million shares and increased the common dividend from $0.40 to $0.60 per share annually.
- All outstanding Series A preferred stock was converted into 5.6 million common shares in May 2013.
Outlook, commentary, risks and unusual items
- Management described 2013 as the fourth consecutive year of record earnings and reported continued improvement in credit quality, but noted that economic conditions remained challenging, including high unemployment, reduced spending and a low-interest-rate environment.
- Management expected the company to remain above well-capitalized requirements under Basel III, although implementation beginning January 1, 2015 was expected to affect capital composition and risk-weighting requirements. Trust preferred securities began phasing out of Tier 1 capital in 2013 and are scheduled for full phase-out by 2016.
- The MetroCorp Bancshares acquisition closed on January 17, 2014. MetroCorp had approximately $1.62 billion of assets, $1.22 billion of loans and $1.34 billion of deposits at December 31, 2013; consideration was reported at approximately $268.0 million.
- The FDIC shared-loss agreements for commercial loans begin expiring in November 2014 and June 2015, while residential agreements extend through 2019 and 2020. Management did not expect expiration to have a material impact because of covered-portfolio performance, but future losses on loans no longer covered would be borne by the company.
- Key risks include concentration of residential and commercial real estate lending in California, interest-rate and net-interest-margin risk, deposit and funding liquidity, loan-loss estimation, regulatory and capital changes, FDIC shared-loss compliance, adverse conditions in China and other Asian markets, competition, cybersecurity and operational disruptions.
- Off-balance-sheet exposures included $4.02 billion of undisbursed loan commitments, $1.09 billion of standby letters of credit and $67.96 million of commercial letters of credit. Litigation and regulatory outcomes were described as inherently uncertain, although no material legal proceeding was identified at year-end.
- New mortgage underwriting and qualified-mortgage rules effective January 2014 could restrict the company’s prior low-documentation residential lending practices and affect future residential loan growth.
Important facts investors should verify
- Reconcile the reported earnings benefit from lower provisions and loan growth with the sustainability of the $228.6 million FDIC-related noninterest loss.
- Review the expected earnings impact as covered loans, FDIC indemnification assets and accretable yield continue to decline.
- Assess California real estate, commercial real estate and commercial-and-industrial concentration, including whether the $241.9 million non-covered allowance remains adequate as loans grow.
- Evaluate the effect of rising interest rates on the 4.38% net interest margin, securities portfolio unrealized losses and deposit costs.
- Monitor Basel III implementation, trust preferred capital phase-out and the company’s post-acquisition capital ratios.
- Verify MetroCorp integration costs, realized synergies, asset quality and the effect of the acquisition on 2014 earnings and capital.
- Review liquidity sources, including $3.70 billion of available FHLB capacity, $1.42 billion of Federal Reserve discount-window capacity and the maturity and call features of repurchase agreements.
- Confirm the status of material legal, tax, consumer-compliance and FDIC shared-loss contingencies, including the $74.7 million estimated liability to the FDIC.