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Central Pacific Financial Corp (CPF -3.09%)
Q4 2018 Earnings Conference Call
Jan. 30, 2019, 1:00 p.m. ET
Contents:
- Prepared Remarks
- Questions and Answers
- Call Participants
See all our earnings call transcripts.
Prepared Remarks:
Operator
Good afternoon, ladies and gentlemen. Thank you for standing by, and welcome to the Central Pacific Financial Corp Fourth Quarter 2018 Conference Call. During today's presentation, all participants will be in a listen-only mode. Following the presentation, the conference will be opened for questions. This call is being recorded and will be available for replay shortly after its completion on the Company's website at www.centralpacificbank.com.
I'd like to turn the call over to Mr. David Morimoto, Executive Vice President and Chief Financial Officer. Please go ahead.
David S. Morimoto -- Executive Vice President, Chief Financial Officer
Thank you, Lara, and thank you, all, for joining us as we review the fourth quarter financial results by Central Pacific Financial Corp.
With me this morning are Paul Yonamine, Chairman and Chief Executive Officer; Catherine Ngo, President and Chief Executive Officer of our bank subsidiary; and Anna Hu, Executive Vice President and Chief Credit Officer.
During the course of today's call, management may make forward-looking statements. While we believe these statements are based on reasonable assumptions, they involve risks that may cause actual results to differ materially from those projected. For a complete discussion of the risks related to our forward-looking statements, please refer to our recent filings with the SEC.
And now I'll turn the call over to Paul.
Paul K. Yonamine -- Chairman & Chief Executive Officer
Thank you, David, and good morning, everyone.
We are pleased to have ended the year with a strong fourth quarter that generated net income of $15.8 million as well as a consistent performance throughout 2018 which resulted in an annual net income of $59.5 million and diluted earnings per share of $2.01. We also achieved improvements across the board on key performance measures, including return on average assets, return on average shareholders' equity, efficiency ratio and net interest margin.
We also continued to return shareholder value consistently throughout 2018 with cash dividends and stock repurchases, which, by year-end, reduced the number of CPF common shares outstanding by 3.8% from December 31, 2017. David will provide more details on the financial highlights of the quarter and year-end results.
The economic outlook for Hawaii continues to project positive growth in 2019, however, at a decelerated rate compared to the past few years. The visitor industry remained strong throughout 2018, and as of November, visitor arrivals were up by 6.1% and visitor expenditures were up by 8% year-over-year.
The current projections for 2019 are increases of 1.9% in arrivals and 4.2% in expenditures over 2018. The forecasts for other key economic indicators are also positive in 2019 at a more moderate rate compared to 2018. This includes stable job growth at close to 1%; real personal income at 1.7%; and real GDP at 1.2%. Construction activity in 2019 is expected to remain strong, based on $2.8 billion of non-government building permits issued year-to-date as of November 2018, which was a slight increase of 0.5% over the same period a year ago.
At this time, Catherine will provide some of the Bank highlights of the quarter. Catherine?
A. Catherine Ngo -- President
Thank you, Paul.
The driving factors of our fourth quarter performance can be primarily attributed to strong loan growth and improvements in net interest margin and asset quality. For the year 2018, consistent loan growth provided for increased net income. The positive impact of the Tax Cut and Jobs Act also contributed to our strong earnings for the year.
Total loans increased by $100 million or by 2.5% over the previous quarter-end and by $308 million or by 8.2% from the same period a year ago. On a sequential quarter basis, loan growth was distributed across all loan types, with the exception of a 2.5% decrease in the construction loan portfolio.
On an annual basis, strong growth was realized in all loan categories, led by increases of 15.4% (ph) in commercial and industrial loans and 13.8% in home equity loans. Residential and commercial mortgages also grew by 6.5% and 6.4% respectively.
Asset quality and our credit risk profile continued to improve with a 25% reduction in nonperforming assets over the same period a year ago to $2.7 million or 5 basis points of total assets.
Total deposits on a year-over-year basis remained flat. However, core deposits increased by 0.6% and government time deposits declined by 8.1%.
Competitive pricing for deposits in our local market has been escalating in this interest rate environment. However, net interest margin remained stable throughout the year with a significant increase in the fourth quarter due to loan growth, higher loan and investment yields as well as the increase in non-interest bearing deposits. Our efficiency ratio has improved for the fourth consecutive quarter, primarily due to our continued efforts to improve our operational efficiencies.
At this time, I'll turn the call over to David to review in more detail the highlights of our financial performance. David?
David S. Morimoto -- Executive Vice President, Chief Financial Officer
Thank you, Catherine.
Net income for the fourth quarter of 2018 was $15.8 million or $0.54 -- $0.54 per diluted share compared to net income of $15.2 million or $0.52 per diluted share reported last quarter. Net income for 2018 was $59.5 million or $2.01 per diluted share compared to net income of $41.2 million or $1.34 per diluted share in 2017. The 2017 results were negatively impacted by tax reform.
Return on average assets in the fourth quarter was 1.10% and return on average equity was 12.90%. For the 2018 year, return on average assets was 1.05% and return on average equity was 12.22%. Net interest income increased by $1.4 million and the net interest margin expanded to 3.28% on a sequential quarter basis. The increases were due to strong loan growth and higher loan yields. We also had $0.5 million in interest recoveries on nonaccrual loans reflected in net interest income in the fourth quarter.
As previously announced, we completed the redemption of $20 million in trust preferred securities in December 2018 and an additional $20 million in early January 2019. These redemptions will help to further improve net interest income and net interest margin.
During the fourth quarter, we recorded a credit to the provision for loan and lease losses of $1.4 million compared to a credit provision of $0.1 million recorded in the prior quarter. Net recoveries in the fourth quarter totaled $2.5 million, primarily due to a $4.5 million recovery on a single land loan. At December 31st, our allowance for loan and lease losses was $47.9 million or 1.17% of outstanding loans and leases.
Fourth quarter 2018 other operating income totaled $9.4 million. The sequential quarter decrease was primarily due to $0.8 million lower bank-owned life insurance income and a $0.3 million loss on sale of investment securities. The sequential quarter decline in BOLI income was due to -- due to a $0.4 million debt benefit recorded in the prior quarter and equity market volatility in the current quarter that impacted equity values in one of our insurance policies.
During the fourth quarter, we changed our accounting method for low-income housing tax credit investments to the proportional amortization method. As a result of this change, we reclassified the amortization expense on the investments from other operating expense to income tax expense in current and prior periods.
Other operating expense for the fourth quarter decreased to $33.6 million. The sequential quarter decrease was primarily driven by the core deposit premium being fully amortized at the end of the prior quarter, which eliminated $0.7 million of quarterly expense. Additionally, in the current quarter, there was a total of $0.6 million in credits to the reserves for unfunded commitments and mortgage repurchase losses.
The efficiency ratio for the fourth quarter was 62.2%, which was an improvement from the 62.8% reported last quarter.
The effective tax rate increased to 27.6% in the fourth quarter due to a true-up to the amortization expense on low-income housing tax credit investments, less tax-exempt income and return to provision adjustments. Going forward, we expect the effective tax rate to be approximately 25% to 26%.
During the fourth quarter of 2018 we repurchased roughly 306,000 shares of common stock at an average cost per share of $26.35. We've also repurchased an additional 78,000 shares of common stock month-to-date in January, at an average cost of $25.91.
Finally, I'd like to close the financial summary by summarizing some of the highlights of our fourth quarter results: strong quarter-over-quarter increase in net interest income and net interest margin, driven by strong loan growth and an increase in loan yields; efficiency ratio continues to improve; solid asset quality and capital ratios.
And now I'll return the call to Paul.
Paul K. Yonamine -- Chairman & Chief Executive Officer
Thank you, David.
Overall, we are very pleased with our financial performance in 2018 and look forward to meeting the challenges in the coming year. On the national and global level the New Year appears to have started off with heightened political and economic volatility. We remain confident that our focus on strengthening customer relationships, together with a solid business plan to improve our operations and service offerings, will allow us to achieve our 2019 performance targets.
On behalf of Catherine and our management team, I would like to express my appreciation to our employees, customers and shareholders for their continued support and confidence in our organization as we work toward obtaining our key milestones in the coming year.
At this time, we'll be happy to address any questions you may have. Thank you very much.
Questions and Answers:
Operator
At this time, we will begin the question-and-answer session. (Operator Instructions) And the first question will come from Aaron Deer of Sandler O'Neill and Partners.
Aaron Deer -- Sandler O'Neill and Partners -- Analyst
Hi, good morning, everyone.
Paul K. Yonamine -- Chairman & Chief Executive Officer
Good morning.
A. Catherine Ngo -- President
Good morning.
Aaron Deer -- Sandler O'Neill and Partners -- Analyst
It sounds like you're fairly optimistic for the year ahead and coming off a strong year. I guess, as you look at your pipeline and where that stands today and -- do you think we could again see this high single digit growth in the Hawaii loan portfolio in 2019?
A. Catherine Ngo -- President
I'll take that question, and -- we're continuing to see strength in the Hawaii economy as Paul mentioned, and we do expect good growth in the Hawaii book in 2019. I would guide you for 2019 to mid single digit loan growth.
Aaron Deer -- Sandler O'Neill and Partners -- Analyst
Okay. And then on the deposit side, obviously, there's been a good deal of deposit competition through the better part of this year, particularly I guess in the public deposits where you guys allowed some of that to run off. The -- I guess, looking at how that -- you're using and you're funding -- the securities book seems to have been coming down kind of throughout the year as you've used funding to support your loan growth. What's your expectation for the investment securities book in 2019, given kind of where the deposit competition stands today as well as kind of the shape of the yield curve?
Paul K. Yonamine -- Chairman & Chief Executive Officer
David?
David S. Morimoto -- Executive Vice President, Chief Financial Officer
Yeah, Aaron. I think for the investment portfolio, the plan at this point is to continue on the path we've been on for the last couple quarters, where the investment portfolio largely has been in a run-off mode. So that's the plan at this point. Obviously, things could change, depending on the shape of the yield curve.
Aaron Deer -- Sandler O'Neill and Partners -- Analyst
Okay. And then just -- you obviously had a terrific improvement in the margin this quarter. I know there is a little bit of noise in there with the recovery. But outside of that recovery, was there anything else that drove that increase other than just good core trends? And can we expect to build off of this level looking ahead?
Paul K. Yonamine -- Chairman & Chief Executive Officer
It's a great loan growth in Q4, but, David, maybe provide a little more color?
David S. Morimoto -- Executive Vice President, Chief Financial Officer
Yeah. Aaron, yeah, there was a little bit of interest recoveries in there. But even if you back that out, it was a solid quarter for net interest margin expansion. And like you stated, it was largely due to core trends. I think what we -- what we're starting to see is the asset sensitivity -- we've always talked about the balance sheet being largely well matched initially in the first year, year and a half, but once you get beyond that the asset sensitivity of balance sheet does kick in. And I think what we're seeing now is we're seeing a little bit of that benefit, loan pricing -- new loan originations tend to be north of -- on a weighted average basis, tend to be north of 4.5 (ph) today, which is a nice improvement over what we were seeing say a year ago. And then on the deposit side, the team just did a great job. We basically -- total deposits were relatively flat, but we were able to adjust the composition at a positive fashion. We grew core deposits and especially non-interest bearing DTA and it afforded us the opportunity to run down some of the higher-cost portions of the deposit portfolio.
Aaron Deer -- Sandler O'Neill and Partners -- Analyst
Sure.
David S. Morimoto -- Executive Vice President, Chief Financial Officer
So all in all, a pretty good quarter.
Aaron Deer -- Sandler O'Neill and Partners -- Analyst
Yeah, terrific. Great. Thanks for taking my questions. I'll get back in the queue.
Operator
The next question will come from Jackie Bohlen of KBW.
Jacquelynne Bohlen -- KBW -- Analyst
Hi, good morning, everyone.
A. Catherine Ngo -- President
Good morning, Jackie.
Paul K. Yonamine -- Chairman & Chief Executive Officer
Hi, Jacquelynne (ph).
Jacquelynne Bohlen -- KBW -- Analyst
Looking at the -- the sub debt redemption -- excuse me -- and I know both of those have been previously announced. David, could you just provide us with an update on your anticipated net benefit from both the issuances? I know last quarter we talked about the one issuance, but just curious if, number one, if any of that has changed as rates have moved, and number two, what they would be in combination?
David S. Morimoto -- Executive Vice President, Chief Financial Officer
Yeah, Jackie. So the first one was redeemed I think in mid-December last year, and the second one occurred in the first 10 days of January. So really we haven't seen the benefit -- the benefit was not really baked into the fourth quarter numbers. You'll really see the benefit in the -- beginning in the first quarter of this year. And the combined benefit is -- it works out to roughly $1 million in net interest income -- incremental $1 million in net interest income and roughly 4 basis points improvement in the NIM.
Jacquelynne Bohlen -- KBW -- Analyst
Okay. Thank you. That's helpful. And then I noticed the increase in long-term advances outside of the redemption, and it sounded like those were from the FHLB. Was that just strategic interest rate positioning or was there something else behind that?
David S. Morimoto -- Executive Vice President, Chief Financial Officer
Yeah, Jackie. It was just stabilizing our funding position. We -- we were borrowing a decent amount overnight and we made the asset liability decision to stabilize a portion of that and -- so we went out on a short ladder with the Federal Home Loan Bank on advances to lengthen the liability duration slightly, and it obviously was at much cheaper cost than what we were paying on the trust preferreds.
Jacquelynne Bohlen -- KBW -- Analyst
Yes, yes. Understood. And is that something you might look to continue if rates continue to increase?
David S. Morimoto -- Executive Vice President, Chief Financial Officer
I think that obviously would be an ALCO, an asset/liability committee decision, but those are the strategies that we consistently discuss on a monthly basis. So it is something that we could (inaudible) ourselves on.
Jacquelynne Bohlen -- KBW -- Analyst
Okay, great. Thank you. I'll -- I'll step back for now.
Operator
(Operator Instructions) And our next question will come from Laurie Hunsicker of Compass Point.
Laurie Havener Hunsicker -- Compass Point Research & Trading, LLC -- Analyst
Yeah, hi, good morning.
A. Catherine Ngo -- President
Good morning, Laurie.
Paul K. Yonamine -- Chairman & Chief Executive Officer
Hi.
Laurie Havener Hunsicker -- Compass Point Research & Trading, LLC -- Analyst
I wondered if we could just go back to margin here. I just want to make sure that I'm thinking about this the right way. So if we're looking at your 3.28% margin, there was a basis point or so of nonaccrual recovery taking us down to 3.27%, plus 4 basis point, plus, again, we're going to continue to see the impact of your core deposit build and your non interest-bearing sitting at now 29%. So is it out of the realm that we could see a margin in the first quarter of 3.33%, 3.34%?
David S. Morimoto -- Executive Vice President, Chief Financial Officer
So, Laurie, I think the calc on the interest recoveries might be a little off. I think it's more like 2 basis points or 3 basis points in the quarter. But you are correct that there are -- even backing that out, there was a nice improvement in the NIM. And then from there you would layer on the benefit of the trust preferreds. So where we're guiding for the next few quarters, Laurie, is 3.25% to 3.35%.
Laurie Havener Hunsicker -- Compass Point Research & Trading, LLC -- Analyst
Okay, great. And then can you just talk a little bit -- in the expense line, you had a jump in the legal and professional services to $2.2 million. What was potentially nonrecurring or is that a new run rate?
Paul K. Yonamine -- Chairman & Chief Executive Officer
Hi, Laurie, This is Paul Yonamine. We've embarked on a comprehensive digital strategy review and we've opted to retain some external consultants to naturally address the digital strategy going forward for CPB. But in addition to that, we also took in some external help on our CSIL (ph) project and also for compensation -- incentive compensation as well. So that's -- that's fundamentally the large components of that increase in other operating expense.
Laurie Havener Hunsicker -- Compass Point Research & Trading, LLC -- Analyst
Okay. And will it -- will it likely continue at that same run rate or should we think about that coming down?
Paul K. Yonamine -- Chairman & Chief Executive Officer
We're still in the process of working with the external consultants. My sense is that we're going to continue the momentum throughout the year and we'll have more to talk about as we learn more about what we need to do in the three areas that I touched on. So for the time being, I think you can count on momentum continuing in those areas.
Laurie Havener Hunsicker -- Compass Point Research & Trading, LLC -- Analyst
Okay, great. And then obviously on credits, looking pristine here. You had $2.5 million of recoveries. If we think about that loan loss provision normalized relative to your mid-single-digit loan growth guide, Catherine, if we're thinking about loan loss provision running at a $900,000 to $1 million run rate, is that the right level? Or how should we be thinking about that? Thanks.
A. Catherine Ngo -- President
Yeah, that's a hard one to -- I'll start it and Anna may want to chime in. But that's a hard one to pin down. But as we signaled at the end of last year, we were at the inflection point and so we expect going forward that we will have debit provisions, and so -- it's tied to, of course, loan growth but then also credit quality and a number of other factors that are considered in the calculations.
Laurie Havener Hunsicker -- Compass Point Research & Trading, LLC -- Analyst
Okay. So I mean, I guess, as we are thinking about that, if we just net out the recovery theoretically this quarter, you would have been at about $1 million. Am I thinking about that the right way? Or is there something else I'm missing?
A. Catherine Ngo -- President
In -- it could -- in the range, that's right, Laurie.
Laurie Havener Hunsicker -- Compass Point Research & Trading, LLC -- Analyst
Okay. Okay, great, that's helpful. And then last question. As you finished out a very, very strong year, your capital returns are, on buybacks and dividends, sitting about 100%. Can you just refresh us on how you're thinking about that for 2019? Thanks.
David S. Morimoto -- Executive Vice President, Chief Financial Officer
Hey, Laurie. I think the capital management strategy is going to be largely the same with a little bit of a twist. So we obviously will continue the quarterly cash dividend with a payout ratio and yield comparable to our peers. So we'll continue to move forward with that. Previously, we were pretty clear that we would return the remainder of retained earnings through an open market share repurchase plan. That was the capital plan as we did feel that we had excess capital on the balance sheet. But now that we've been doing that for several years and then with the repayment of $40 million of our trust -- the recent repayment of $40 million of our trust preferreds, we do think that that excess capital piece has been largely removed from the balance sheet. So I think it's going to be more opportunistic going forward. So the cash dividend obviously will stay there, but we're not going to overtly state that we're going to eliminate the rest through an open market share repurchase plan. It really is going to be a function of the market conditions, the stock price and our other uses for that capital.
Laurie Havener Hunsicker -- Compass Point Research & Trading, LLC -- Analyst
Okay. And just -- just a follow-on with that. I mean, because your stock price is certainly below where you repurchased most of it in 2018, can you help us think about in our modeling how many shares we should think about in terms of a buyback? I mean, you previously had been running the last four quarters at a rate of close to 300,000 shares a quarter, and certainly the stock price is lower. So can you help us think about -- can you help us think about that? Thanks.
David S. Morimoto -- Executive Vice President, Chief Financial Officer
Yeah. Again, I think, the -- Laurie, the way to think about it is the share repurchase is obviously an option that we can take advantage of and we can be opportunistic with. We're obviously the ultimate insiders. So we can use that opportunistically. But we're just not going to commit to say that we're that -- we're going to eliminate 100% of retained earnings. We're going to pull back from that. But again, to the extent that the share price is on the lower end of the 52-week range, we likely would be a buyer and a stronger buyer than if it were on the higher end of the range.
Laurie Havener Hunsicker -- Compass Point Research & Trading, LLC -- Analyst
Great, thank you.
Operator
The next question will come from Don Worthington of Raymond James.
Donald Worthington -- Raymond James -- Analyst
Thank you. Good morning, everyone.
A. Catherine Ngo -- President
Good morning, Don.
Donald Worthington -- Raymond James -- Analyst
It looks like you've been making some good progress on the efficiency ratio. Remind me of where you'd like to take that ratio over time.
A. Catherine Ngo -- President
For 2019, we are forecasting that we will be in the low 60s. But over the longer term, so two, three year horizon, we will be in the high 50s.
Donald Worthington -- Raymond James -- Analyst
Okay. And then were there any loan purchases this quarter?
A. Catherine Ngo -- President
Yeah, we had a loan purchase on the mainland. So if you look at the consumer line, you just see the bump up there and that included a $38 million unsecured loan purchase.
Donald Worthington -- Raymond James -- Analyst
Okay, great. All right. Thank you.
A. Catherine Ngo -- President
Of course.
Operator
And this concludes our question-and-answer session. I would like to turn the conference back over to Paul Yonamine for any closing remarks.
Paul K. Yonamine -- Chairman & Chief Executive Officer
Okay. Thank you very much for participating in our earnings call for the fourth quarter 2018. We look forward to future opportunities to update you on our progress. Thank you very much.
Operator
The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.
Duration: 27 minutes
Call participants:
David S. Morimoto -- Executive Vice President, Chief Financial Officer
Paul K. Yonamine -- Chairman & Chief Executive Officer
A. Catherine Ngo -- President
Aaron Deer -- Sandler O'Neill and Partners -- Analyst
Jacquelynne Bohlen -- KBW -- Analyst
Laurie Havener Hunsicker -- Compass Point Research & Trading, LLC -- Analyst
Donald Worthington -- Raymond James -- Analyst
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