EAST WEST BANCORP INC quarterly report, Q2 FY2011

East West Bancorp, Inc. — Form 10-Q Summary

Reporting period: Three and six months ended June 30, 2011. The interim financial statements are unaudited and should be read with the company’s 2010 Form 10-K. East West Bancorp is a bank holding company whose principal subsidiary is East West Bank. The company reported 148.9 million common shares outstanding as of July 29, 2011.

Financial Performance and Position

Metric	Q2 2011	Q2 2010	Six months 2011	Six months 2010
Net interest income	$227.3 million	$203.6 million	$436.2 million	$465.3 million
Provision for loan losses	$26.5 million	$55.3 million	$53.0 million	$131.7 million
Noninterest income	$12.5 million	$35.7 million	$23.5 million	$27.2 million
Noninterest expense	$117.6 million	$125.3 million	$224.4 million	$264.2 million
Net income	$60.5 million	$36.3 million	$116.6 million	$61.3 million
Net income available to common stockholders	$58.8 million	$30.2 million	$113.2 million	$49.0 million
Diluted EPS	$0.39	$0.21	$0.76	$0.34
Net interest margin	4.70%	4.66%	4.61%	5.29%

Q2 net income increased 67% year over year; diluted EPS increased 86%. Annualized return on average assets was 1.12%, versus 0.73% in Q2 2010, and return on average common equity was 11.06%, versus 6.26%.
The Q2 efficiency ratio improved to 43.95% from 51.44%; the six-month ratio improved to 43.57% from 50.17%.
Total assets were $21.87 billion at June 30, 2011, up 5.7% from December 31, 2010. Stockholders’ equity was $2.23 billion, up 5.5% from year-end.
Cash and cash equivalents were $1.60 billion. Investment securities available-for-sale were $3.21 billion, compared with $2.88 billion at year-end.
Total loans receivable, net, were $13.46 billion. Non-covered gross loans increased to $9.34 billion from $8.72 billion, while covered loans declined to $4.36 billion from $4.80 billion.
Total deposits increased 9.6% to $17.14 billion, including $9.35 billion of core deposits and $7.78 billion of time deposits.
FHLB advances declined 56.1% to $533.0 million. Long-term debt was $225.3 million, down from $235.6 million. Securities sold under repurchase agreements were $1.05 billion.
The Bank reported Tier 1 risk-based capital of 14.9%, total risk-based capital of 16.6%, and Tier 1 leverage capital of 9.1%, all above well-capitalized thresholds.

Cash Flow and Liquidity

For the six months ended June 30, 2011, operating activities provided $340.0 million of cash, compared with $510.7 million in the prior-year period.
Investing activities used $840.2 million, primarily reflecting purchases of investment securities, resale agreements, and loans.
Financing activities provided $765.9 million, mainly from a $1.50 billion increase in deposits, partly offset by repayment of FHLB advances.
Cash and cash equivalents increased $264.5 million during the first half to $1.60 billion.
Management stated that available liquidity sources, including deposits, the Federal Reserve discount window, FHLB advances, federal funds lines, and repurchase facilities, were stable and adequate for day-to-day requirements.

Material Changes Versus Comparable Periods

Net interest income increased in Q2 despite lower six-month net interest income. Q2 benefited from loan growth, lower funding costs, and covered-loan accretion; the six-month decline reflected lower covered-loan balances and yields.
The provision for loan losses fell 52% in Q2 and 60% for the first half. Net charge-offs declined to $31.6 million in Q2 and $65.8 million year to date, from $55.2 million and $119.1 million, respectively.
Noninterest income fell sharply because Q2 and six-month 2010 included $19.5 million and $27.6 million of acquisition gains related to WFIB. The 2011 period also had lower securities-sale gains and continued reductions in the FDIC indemnification asset.
Noninterest expense declined 6% in Q2 and 15% for the first half, primarily due to UCB integration synergies, lower compensation, and lower OREO costs. Q2 included a $4.4 million FHLB prepayment penalty.
Non-covered nonperforming assets declined to $181.2 million, or 0.83% of assets, from $194.8 million, or 0.94%, at year-end. Nonaccrual loans declined to $164.7 million from $172.9 million.
Non-covered loans graded Substandard or Doubtful declined 17% from year-end to $570.4 million. Covered nonperforming assets declined to $365.2 million from $503.7 million.
The non-covered allowance for loan losses declined to $213.8 million, or 2.29% of non-covered loans, from $230.4 million, or 2.64%, at year-end.
The investment portfolio moved from a $24.5 million net unrealized loss at year-end to a $5.9 million net unrealized gain at June 30. The company recorded $464 thousand of credit-related investment impairment in the first half, versus $9.4 million in the prior-year period.

Guidance, Outlook, Risks, and Unusual Items

No formal earnings or financial guidance is provided in the filing. Management emphasized loan growth, deposit growth, cost-of-funds reduction, credit-quality improvement, and continued integration efficiencies.
Management expects to pay down an additional $11.1 million of junior subordinated debt during the third quarter of 2011. A third-quarter common dividend of $0.05 per share and Series A preferred dividend of $20 per share were declared.
Covered assets acquired from WFIB and UCB remain subject to FDIC shared-loss agreements, generally reimbursing 80% of eligible losses. The company estimated a potential $7.0 million liability if specified loss thresholds are not reached.
The FDIC indemnification asset declined to $637.5 million from $792.1 million at year-end. The company recorded a $36.2 million reduction in the asset and related receivable for the first half.
California real estate exposure remains material: approximately 94% of non-covered CRE and residential loans are secured by California properties. Further deterioration could increase charge-offs, provisions, and capital needs.
Commercial and trade finance loans grew rapidly, including $243.4 million of cross-border trade finance growth in Hong Kong and China. More than 80% of those cross-border loans were described as secured by cash or standby letters of credit from major financial institutions.
Off-balance-sheet exposure included $2.07 billion of undisbursed loan commitments, $1.46 billion of standby letters of credit, and $91.6 million of commercial letters of credit.
Loans sold or securitized with recourse totaled $650.6 million. Loans sold without recourse totaled $1.62 billion, but may be subject to repurchase or indemnification claims for breaches of representations and warranties.
In July 2011, the company entered into a transaction to sell approximately $235 million of student loans held for sale; the August 3 transaction generated a related gain of $4.7 million.
Interest-rate sensitivity modeling estimated that a 200-basis-point increase would raise projected net interest income by 3.6% but reduce net portfolio value by 3.7%. The company also faces risks from interest rates, liquidity, regulation, FDIC loss-sharing estimates, credit deterioration, securities valuations, and derivative counterparty provisions.
Management reported no material legal proceedings, no material changes to previously disclosed risk factors, and effective disclosure controls as of June 30, 2011.

Investor Verification Checklist

Verify the sustainability of earnings excluding covered-loan accretion, FDIC-related items, loan-sale gains, securities gains, and other nonrecurring items.
Review the composition and performance of rapidly growing commercial, industrial, and cross-border trade finance loans.
Assess California CRE and residential concentration, classified loans, nonaccrual trends, charge-offs, and allowance coverage.
Reconcile the remaining FDIC indemnification asset, FDIC receivable, shared-loss recoveries, and the estimated $7.0 million potential FDIC threshold liability.
Monitor deposit mix, time-deposit pricing, brokered deposits, FHLB repayment obligations, repurchase agreements, and liquidity availability.
Evaluate the effect of trust-preferred debt phase-out requirements and planned debt repayments on regulatory capital.
Confirm the realized gain and accounting treatment for the approximately $235 million student-loan sale announced after quarter-end.