Hope Bancorp, Inc. (HOPE) Q1 2012 Earnings Report, Transcript and Summary

Good day, ladies and gentlemen, and welcome to the First Quarter 2012 BBCN Bancorp, Inc. Earnings Conference Call. My name is Fab [ph] and I'll be your operator for today. [Operator Instructions] As a reminder, this conference is being recorded for replay purposes. I would now like to turn the conference over to your host for today, Angie Yang, Senior Vice President, Investor Relations.

Good morning everyone, and thank you for joining us for the BBCN Bancorp 2012 first quarter investor conference call. Before we begin, I’d like to make a brief statement regarding forward-looking statements. The call today may contain forward-looking projections regarding future events and the future financial performance of the company. We wish to caution you that such statements are just predictions and actual results may differ materially as a result of risks and uncertainties that pertain to the company’s business. We refer you to the documents that the company files periodically with the SEC, specifically the company’s most recent Form 10-K, as well as the Safe Harbor statement in the press release issued yesterday. These documents contain important risk factors that could cause actual results to differ materially from the forward-looking statements. BBCN assumes no obligation to revise any forward-looking projections that may be made on today’s call. The financial results for the 2012 first quarter reflect the further refinement of the estimated fair value calculations and accounting adjustments required under the acquisition method of accounting. We have allotted 1 hour for this call. BBCN’s President and CEO, Alvin Kang, will begin today with an overview of the quarter; and our Chief Financial Officer, Philip Guldeman, will discuss financial results in more detail. Then, Al will wrap up our presentation with closing remarks, before we begin the question-and-answer session. Also joining us this morning from management are Bonnie Lee, Chief Operating Officer; Mark Lee, Chief Credit Officer; and Doug Goddard, our Deputy Chief Financial Officer. With that, I’d like to turn the call over to Al Kang. Al?

Thank you, Angie. Good morning everyone and thanks for joining us today. I’m going to start off by providing an overview of the quarter, and then Phil will walk through our financial results in more detail. We’re very pleased to continue the positive momentum following the merger with a strong earnings report. For the first full quarter of operations as a combined company, we generated net income available to common stockholders of $22.1 million, or $0.28 per diluted common share. On a core basis, our pre-tax pre-provision earnings before the positive effects of acquisition accounting was greater than 2.50%. Our return on average assets was 1.86% in the quarter and our return on average equity was 11.87%. And I’m pleased to note that all of these ratios exceed the recent stand-alone performances of both Nara and Center. Our first quarter results were driven by solid revenue generation, disciplined expense growth, and low credit costs. And Phil will discuss these in more detail later in the presentation. Loan production in the first quarter was lower than the previous quarter, largely reflecting the historical first quarter seasonal trend. Total originations for the first quarter 2012 amounted to $167.6 million. This compares with pro forma loan production of $198.8 million in the fourth quarter 2011. I am very pleased that we continue to make progress on our goal of being a more relationship oriented bank. Of the total $168 million in new production for the quarter, approximately 44% were C&I loans. This production resulted in a slight increase in our C&I portfolio in the quarter, but perhaps just as importantly, the new commercial relationships we brought into the Bank are generating higher balances of non-interest bearing deposits resulting in an improved deposit mix and lower cost of funds. SBA loan production was $34.6 million in the quarter, lower than the pro forma number of $51.4 million last quarter, which reflects the full quarter combined total for both Nara and Center. The decline is primarily due to a seasonal drop off that typically occurs in the first quarter, as well as a few larger loans that didn’t fund until early April. Moving onto asset quality, our overall credit trends were impacted by the downgrade of 3 loans from the Center portfolio to non-accrual status totaling approximately $10 million. These were all CRE loans, but unrelated in terms of property type and geography. We recently completed an external credit review of the acquired portfolio and we did not see anything to lead us to believe that there are any systemic issues. The downgrading of these 3 unrelated loans was a primary driver behind our increase in classified loans, impaired loans, and non-performing loans. Because all of these loans had been recently mark-to-market at the time of our merger closing, there was little in the way of specific [ph] reserves required against these loans at the time of the downgrades. At the same time, our credit trends in the legacy Nara portfolio continues to stabilize, as the quarters in which we had our largest losses get farther away and therefore hold less weight in our allowance methodology. We saw about $4 million of reserve relief in the Nara portfolio. Taken together, our provision requirements were very low this quarter, despite certain negative migration trends reflected in our credit metrics. It is a unique situation driven by the mark-to-market accounting that really requires looking at our portfolio with a different perspective than you would with other banks right now. With that, let me turn the call over to Phil. Phil?

Thanks, Al. Let me start by noting that the merger completed on November 30, 2011 impacts the comparability of operating results for the first quarter of 2012 versus the prior year and preceding quarters. As Al mentioned, our results for the first quarter of 2012 reflect the first full quarter of operations as a combined entity. In comparison, the 2011 fourth quarter included 2 months of stand-alone operations of the former Nara Bancorp and 1 month of combined operations following the completion of the merger. And of course, our prior year first quarter results reflect Nara operations on a stand-alone basis. Where appropriate, we provided in the press release supplemental information that we believe will be helpful in better understanding our past and current performance. Operating results for the 3 months ended March 31, 2012 include a number of pre-tax acquisition accounting adjustments and expenses related to the merger, as well as certain other significant expense items. In total, these had a positive impact of $9.6 million on our pre-tax income for the first quarter of this year. Let’s begin with the income statement. Net interest income for the first quarter came in at $60.9 million, which was higher than our expectations. Net interest income included approximately $9.1 million of loan interest income from accretion of the acquisition accounting discount on Center’s loan portfolio. As you know, the accretion of the discount is driven by the rate, size and remaining maturity of the pay-offs and pay-downs in the acquired portfolio, which can be very difficult, if not impossible to predict. In the first quarter, the accretion significantly exceeded our expectations. Our net interest margin was 5.11% in the first quarter. Excluding the effects of acquisition accounting adjustments, net interest margin was 4.04% or 9 basis points lower than the equivalent ratio for the fourth quarter of 2011. The primary driver of the compression in this margin was a decline in loan yields. The yield on our loan portfolio including loan accretion was 6.75%. The yield excluding loan discount accretion was 5.61%, down 26 basis points from the fourth quarter of 2011. This reduction in yield is primarily attributable to the full quarter impact of the lower-yielding Center loan portfolio and to a lesser extent continued pricing pressures in the marketplace. The decline in loan yields was offset partially by our reduced cost of deposits, which came in at 56 basis points for the first quarter. Excluding the amortization of premium on time deposits assumed in the Center merger, the weighted average cost of deposits was 0.69% for the first quarter of 2012, compared to 0.75% for the fourth quarter of 2011. The improvement was driven by reductions in the cost of interest-bearing deposits, as well as the favorable shift in the mix of deposits to higher concentrations of non-interest-bearing demand deposits, which is driven by our expanding base of commercial customers. Non-interest-bearing demand deposits accounted for 26% of total deposits at March 31, 2012, compared to 19% at March 31, 2011, and 25% at December 31, 2011. Our non-interest income was $11.6 million in the first quarter. The increase versus the fourth quarter of 2011 is primarily attributable to a full quarter of operations as a combined company following the merger. Net gains on sales of SBA loans totaled $3 million for the first quarter after selling $33.4 million in SBA loans to the secondary market. The company also posted a net gain on the sale of securities available-for-sale of $816,000 in the first quarter. We were able to sell a relatively illiquid trust preferred security, which had been mark-to-market in prior periods. Our non-interest expense was $30.4 million in the first quarter, which was slightly lower than our expectations. We incurred $1.8 million in merger-related expenses during the quarter. You may recall that we guided approximately $4 million to $5 million in merger-related expenses, substantially in the first half of 2012, as we complete the systems integration, the branch closings, and other integration steps, most of the balance of this amount should be incurred during the second quarter. Moving to our balance sheet, our gross loans were relatively flat at $3.74 billion at March 31, 2012. New loan originations of $167.6 million were offset by aggregate loan pay-offs, pay-downs, amortizations, and other adjustments, which totaled $169.6 million during the first quarter. This compares with $98 million during the preceding quarter. Al mentioned that the first quarter has historically had lower loan production, I’ll just add to that and say that we also typically see higher levels of pay-offs and pay-downs in the first quarter, as was the case this quarter. Our total deposits fell slightly to $3.92 billion at March 31, 2012, principally reflecting a strategic runoff of high rate, non-jumbo time deposits, which was made possible by the growth in non-interest bearing deposits. The mix of deposits continued to shift favorably with non-interest bearing deposits at March 31, 2012 increasing to $1.01 billion, equal to 26% of total deposits, from $984.4 million or 25% of total deposits at December 31, 2011. At March 31, 2012, core deposits accounted for 85% of total deposits compared with 80% for the preceding fourth quarter. Moving to credit quality, our total Watchlist loans, which is the sum of Special Mention and Classified loans, were $324.3 million at March 31 compared with $302 million at December 31. As noted in our press release, loan grading does not change as a result of acquisition accounting. Our non-performing loans were $81.9 million at March 31 compared with $66.2 million at December 31. The increase in non-performing loans largely reflects the migration of the 3 loans that Al discussed earlier. On a percentage basis, NPLs were 2.19% of total loans at March 31, compared to 1.77% at December 31. Our non-performing assets were $87.6 million at March 31, compared with $73.8 million at March 31. On a percentage basis, NPAs were 1.69% of total assets at March 31, compared to 1.43% at the end of the prior quarter. Our net charge-offs declined to $2.2 million in the first quarter and we’re pleased to note that this is the lowest level of charge-offs we’ve had in several years. As you may recall from the last quarter, we had one CRE loan in the amount of $7.9 million that flowed into NPLs and required a specific reserve of $4.4 million. We were able to restructure the loan in a way that had a positive outcome for us. As a result, we charged-off $1.7 million of the specific reserve in the first quarter and the remainder was freed up to be released. We recorded a provision for loan losses of $2.6 million in the quarter. The decline in the provision for loan losses was attributable to a reduction in net charge-offs and a declining historical ratio. To briefly walk through some of the major items that impacted our provision this quarter, first, we had about $4 million of reserves related to legacy Nara portfolio that were released due to lower historical loss ratios; we had about $2.7 million freed up from the specific reserve on the CRE loan that I just mentioned; we had approximately $2.5 million in provision required for loans from the Center portfolio that matured and were refinanced; and then there was approximately $2 million of provision required as a result of credit deterioration in the Center portfolio. There were other smaller elements that contributed to the total provision that we recorded in the first quarter, but those were the most significant factors. Going forward, the lower historical loss ratio in the Nara portfolio will have less of an impact on driving reserve releases. Accordingly, we would expect our provision expense to be higher over the remainder of 2012. At March 31, we had an allowance for loan losses of $62.3 million or 1.67% of total loans. The coverage ratio for the allowance of loan losses to non-performing loans, excluding acquired loans past due 90 days or more and on accrual status decreased to 98% at March 31 from 124% at December 31. This decrease reflects the inflow of non-performing acquired CRE loans that had previously been mark to fair value and therefore did not require significant additional specific reserves. And finally, all of our capital ratios are well in excess of regulatory definitions for a well-capitalized institution. At March 31, our leverage ratio was 15.03%, the Tier 1 risk-based ratio was 18.75%, and the total risk-based ratio was 20.01%. Tangible common equity represented 11.84% of tangible assets. With that, let me turn the call back to Al.

Thanks, Phil. From an operational standpoint, we continue to feel optimistic about 2012. The second quarter will be a very busy one for us with our operational systems conversion coming upon us in the next 2 weeks, followed by branch consolidations later in May, and the consolidation of our headquarters in late June. These major events will result in a peak of merger-related expenses in the second quarter. However, we expect to begin seeing more meaningful cost saves from the merger beginning in the third quarter from these and other events. With much of our integration planning winding down, we are focusing a greater amount of time and energy on building the Bank’s business. While the market remains extremely competitive and loan demand still quite tepid, we’re pleased to see a stronger loan pipeline relative to recent quarters. We believe that the additional scale, convenience, and brand recognition that we have as the largest Korean-American bank positions us well to capture additional market share. And we’re pleased to note that we had a number of new sizable customer wins in this first quarter. With an expanded potential market of customers in terms of size, location, and ethnicity, we plan to be aggressive in pursuing new business relationships. The loan production that we are anticipating from our strengthened loan pipeline should lead to solid revenue growth in the coming quarters as a result of increasing net interest income and consistent gains on sales of SBA loan. Considering the operating leverage, higher revenue and improved efficiencies that we expect as we move through the year, we believe we should see solid increases in our core earnings power, particularly in the second half of the year. On a final note, understanding that the question will be asked, let me just comment briefly on our plans for TARP redemption. It is our goal to repay TARP as quickly as we can without raising additional capital. Given the strength of our balance sheet and the internal capital we anticipate generating on a go-forward basis, we are well positioned to do so. Now, we would be happy to take questions you might have.

[Operator Instructions] And your first question will come from the line of Aaron Deer with Sandler O’Neill & Partners.

A question on the margin, you guys do a nice job of kind of breaking out some of the merger accounting and I can understand how difficult it is to forecast what the prepayment level might be, but if you try to normalize what level of prepayments you’re going to have at any given quarter and look at your maturities, what kind of impact do you expect from the discount accretion on a go-forward basis?

Well, as I mentioned, it’s really, really hard to predict that because it’s influenced by a number of factors, including the rate of those prepays and pay-offs and we had about 13% of the portfolio turnover this last quarter, but it also depends upon the size and maturity of the individual loan. So if you have a large loan with a long maturity on it, it has a large discount associated with it. So, while we can’t predict in the future any individual quarter, I think we can say that obviously as time goes on that number is going to decrease and ultimately go away as all those loans come over to the BBCN portfolio.

All right. But you do have some sort of estimate that you have to do just to construct that so is there a level that you would anticipate realizing on a go forward basis?

Nothing that we would be willing to share because it really is very unpredictable. We can determine with some degree of accuracy the amount of loans being paid-off, but we can’t determine whether they’ve been outstanding from 7 years or they have -- what their remaining maturity is.

Well, I can add one -- more color to that is that we anticipate that in second quarter, we have about $96 million scheduled to be mature, about $30 million of that is a CRE and $66 million is a C&I. What impact that will have on the discount accretion, I’m not too sure at this time.

Okay. And then the -- I was just curious, the FDIC insurance costs were quite a bit lower, is that due to a lower basis rate for your premium?

Yes, it is. And it’s particularly lower in this quarter only because of the way the billing cycle goes, so we got a little extra benefit from it this quarter. So, it won’t be as good next quarter, but it will continue to be better than prior quarters.

Your next question will come from the line of Lana Chan with BMO Capital Markets.

Could you talk about the SBA loan sale outlook and originations going forward?

Sure. We have a pretty solid SBA pipeline, much stronger than the first quarter. Some of the production in the first quarter, the actual [indiscernible] would be happening in the second quarter. And in terms of selling, we really look at it on a quarter-to-quarter basis. So, it’s pretty difficult to tell -- I mean to tell exactly how much that we are going to sell in the 2Q.

Okay. And you mentioned pay-offs on both the core loan portfolio and SBA was high this quarter due to seasonality, I guess so the expectations are that loan originations will stay strong, but pay-offs will decline in the second quarter?

Traditionally, when we look at the trends, first quarter we experienced higher pay-offs and pay-downs. So, if we have a strong production in the 2Q and have stabilized average pay-offs and pay-downs, we should see some increase in the loan balances.

Okay. And just trying to get at the question about the purchase accounting accretions impact for net interest income, so this quarter, I think, originally you had guided to $50 million to $55 million for net interest income, is that not a good base anymore? I’m assuming it was just higher this quarter because of some of those higher pay-offs and if pay-offs are going to start slowing or should slow in the second quarter, is that still a good base to use going forward?

Well, we don’t typically provide guidance. We did the last quarter only because things were so terribly unusual, but I think in the press release we did state that the amounts of accretion income exceeded our expectations and that’s why the number was about $4 million higher than the guidance that we provided.

Okay.

So, I think, we’re getting closer to a normalized quarter as best as one can tell now that we have a full combined quarter of operations and some unusual purchase accounting adjustments flowing through.

Okay. And then can you just talk about the outlook for just the core margin excluding the purchased accounting accretion, are there additional levers to pull to lower the cost of funds further?

There is potentially a modest opportunity coming both from modest re-pricing of our time deposits and hopefully continued shift in the mix towards non-interest bearing deposits, but our non-interest bearing deposits can swing pretty significantly based upon customer decisions, and Bonnie, I don’t know if you’d like to add to that on the loan side?

I think you covered it very well.

Okay?

Your next question will come from the line of Gary Tenner with D. A. Davidson.

Just had another follow up question on the discount accretion, you told us how much of the discount is remaining, I think it’s somewhere around $45 million, just wanted to confirm it?

I’ll ask Doug, our Deputy Chief Financial Officer.

Well, the part that’s easiest to follow, we had about $78 million today of acquisition related to the non-credit impaired loans, and so we have just the high 60s, less $68 million, $69 million of that.

Okay. And so just to kind of, maybe I might be asking the same question a different way from some of the earlier, but I mean, of the $9 million, or $9.1 million of accretion this quarter, I mean, do you have any sense that you could help us out with in terms of what you would consider to be accelerated accretion versus what might be more of kind of a typical quarter?

Well, I think the fact that we experienced a significant amount of pay-offs in the first quarter might suggest that the first quarter is higher than what we would expect going forward, yet I would in very rough terms, extremely rough terms, absent the pay-off activity, that accretion might have been $3 million or $4 million lower.

Okay, great. That’s helpful.

I think maybe just to put a cap on all of this, I think from a net interest income perspective, the guidance that we gave the $50 million to $55 million, that’s a conservative estimate, but we don’t want you to get too excited with what you saw in the first quarter. So, just keep that range in mind, maybe it’s a little higher towards the high end of that range.

Okay. And then just one question, in terms of service charge income, it was up obviously this quarter because you had a full quarter of the combined company, but a little lower than I would have thought on a combined basis. Have you guys been waiving service charges for any customers as you’ve kind of gone through the re-branding and the combination?

There have been no significant changes in our policies or applications of that, no.

Okay.

[Operator Instructions] Your next question will come from the line of Julianna Balicka with KBW.

I wanted to ask a little bit about the 13% portfolio turnover you had referenced earlier. Of that turnover, how much of the loans were they renewals and re-pricing that came back into your legacy or ongoing core portfolio versus how much of that left the bank?

In the first quarter, we had about a $142 million that’s migrated onto BBCN.

Okay, thank you. And then on the liability side, with the adjustments to the cost of deposits, how should we think about that going forward? As those deposits mature and renew, will we see a higher deposit cost or since those have been adjusted to market rates we shall see not a spike in deposit cost or how should we think about the fair value accounting on the liability side?

Yes, that’s correct. The benefit that we’re receiving on the deposit side will diminish over time.

And do you have a sense of how -- what kind of a pipeline we’re looking at on that particular side?

Probably most of that would be gone in a couple of years. Doug?

Yes, and with it front-ended because it’s based on what the average life of the old Center CDs was and that was in the 9 month to 10 month range in terms of average. So, a great deal of that would be gone in the next couple of quarters.

And so then I guess, then I will step back, so as that rolls off and re-heals [ph] we will see it renewing to higher CD levels, more in line with what the Nara CDs are or will we see them kind of renewing to market rates, which presumably fair value accounting reflects?

Well, they’ll re-price at the BBCN rates, which are lower than the old Center rates, which -- because they were a year old, but yes, they will be re-pricing lower.

And there are no further questions in the queue. I would now like to turn the call back over to management for closing comments.

Well, that was easy. Okay. Well, thanks for joining us and we look forward to speaking to you at the next quarter. Thank you.

Thank you for your participation in today’s conference. This concludes the presentation. You may now disconnect. Have a wonderful day.