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Executives

David Yang - Vice President and Corporate Strategy Officer

Chong Guk Kum - Chief Executive Officer, President, Director, Chief Executive Officer of Hanmi Bank and President of Hanmi Bank

Shick Yoon - Chief Financial Officer, Senior Vice President, Chief Financial Officer of Hanmi Bank and Senior Vice President of Hanmi Bank

Analysts

Julianna Balicka - Keefe, Bruyette, & Woods, Inc., Research Division

Hanmi Financial (HAFC) Q2 2013 Earnings Call July 23, 2013 4:30 PM ET

Operator

Ladies and gentlemen, welcome to the Hanmi Financial Corporation Second Quarter 2013 Conference Call. As a reminder, today's call is being recorded for replay purposes. [Operator Instructions] I would like to introduce Mr. David Yang, first, Vice President of Investor Relations and Business Development.

David Yang

Thank you, Alicia, and thank you all for joining us today. With me to discuss Hanmi Financial's second quarter highlights are CG Kum, our President and Chief Executive Officer; Mark Yoon, Senior Vice President and Chief Financial Officer; and JH Son, Executive Vice President and Chief Credit Officer. Mr. Kum will begin with an overview of the quarter, and Mr. Yoon will then provide more details on our financial performance and review credit quality. At the conclusion of the prepared remarks, we will open the session for questions.

In today's call, we will include comments and forward-looking statements based on current plans, expectations, events and financial industry trends that may affect the company's future operating results and financial position. Our actual results could be different from those expressed or implied by our forward-looking statements, which involve risks and uncertainties.

The speakers on this call claim the protection of the Safe Harbor provisions contained in the Securities Litigation Reform Act of 1995. For some factors that may cause our results to differ from our expectations, please refer to our SEC filings, including our most recent Form 10-K and 10-Qs. In particular, we direct you to the discussion in our 10-K of certain risk factors affecting our business.

This morning, Hanmi Financial issued a news release outlining its financial results for the second quarter and first 6 months of 2013, which can be found on our website at hanmi.com.

I will now turn the call over to Mr. Kum.

Chong Guk Kum

Thank you, David. Good afternoon, everyone. I would like to welcome and thank our investors, research analysts and others for your interest in Hanmi Financial Corporation. Before we begin the call, I would like to thank the Board of Directors for giving me this opportunity to lead Hanmi in its next stage of growth. I have been in the banking industry since 1977 and, for the last 13.5 years, was the CEO of First California Financial Group. Earlier this year, First California was sold at a nice premium. I'm excited about joining the Hanmi team as I believe that the opportunities in the markets we operate are significant.

As we look forward, our strategic plan will focus on initiatives to improve shareholder value and to grow the company safely. To improve shareholder value, we believe that effective capital management has to be one of the key components. As these strategies crystallize, at the appropriate time, we will share our thoughts on the strategy. We will look to improve the profitability of Hanmi by improving efficiency and by growing the company organically. The organic growth strategy will include initiatives to grow and to diversify our loan portfolio, as well as focusing on initiatives to grow core deposits. Recruitment of talented bankers will be a priority for us.

As we begin the -- as we believe that consolidation in the Korean-American banking space will continue, we will continue to evaluate M&A opportunities to a disciplined process to enhance the Hanmi franchise. Risk management will continue to be a priority for us. We will dedicate the necessary resources to ensure that our growth initiatives are supported by appropriate level of investment and focus on risk management.

With that said, Hanmi generated solid profitability in the second quarter and first 6 months of 2013. Our net income was $9.5 million or $0.30 per share for the second quarter of 2013, and $19.6 million or $0.62 per share for the first 6 months of the year. For the last 12 months, our loan portfolio has grown 13% to $2.1 billion from $1.9 billion a year ago. Solid loan growth is one of the key drivers of our second quarter success. Looking forward, the loan pipeline for the third quarter appears to be strong.

With that, I will turn the call over to Mark Yoon, our CFO, to discuss the financial results in more detail. Mark?

Shick Yoon

Thank you, CG, and good afternoon, everyone. Our second quarter results were built on the momentum generated over the past few quarters, and we remain optimistic that profitability will continue to remain robust in the second half of the year. Our pretax earnings increased 78% in the second quarter and were up 88% for the first 6 months of the year compared to a year ago. The highlight for the quarter was our net interest margin, which improved to 4.1%. We improved our credit quality and deposit mix and also grew our loan portfolio by 3% in the quarter, 13% year-over-year. Overall, we are pleased with our second quarter result.

Starting with the balance sheet. Our interest-bearing cash balances were significantly reduced by 92.8% to fund the higher-yielding loans and redeem the TPS. Our investment portfolio decreased $19.1 million in the second quarter due mainly to a $14.3 million sales, $3.5 million maturities, $60.8 million principal paydowns and $5.9 million fair value adjustment, partially offset by $22.3 million purchases. The portfolio was valued at $400.8 million with unrealized gain of $915,000 and modified duration of 4.7 years. We expect to receive principals of $11 million and $13 million from fixed income securities in the third and fourth quarters, respectively. Our plan is to redeploy the funds into high yielding loans.

In the second quarter of 2013, we generated $163.8 million new loans, of which $31.2 million were SBA loans, $119.5 million were CRE loans, including $43.9 million of owner-occupied property loans, $11.9 millions were C&I loans and $1.2 million were consumer loans.

We sold $26.6 million of the guaranteed portion of SBA loans for a $2.4 million gain in the second quarter of 2013. Last quarter, the gain on SBA loan sales totaled $2.7 million, and it was $5.5 million in the second quarter a year ago. Last year, there was no gain recognized from selling SBA loans in the first quarter due to a timing issue on the sale of loans, which pushed some of the first quarter volumes into the second quarter.

As we have said in the past few quarters, loan sales have become an increasingly smaller part of our overall credit risk management. With the nonperforming loans at their lowest level we've seen in more than 60 years, we only sold $4.4 million loans during the second quarter compared to a $44.3 million sold in the year-ago quarter. The loss on loan sales in the second quarter was $460,000 and $557,000 year-to-date compared to a $5.3 million in the second quarter and $7.7 million in the first 6 months a year ago.

On the deposit side, core deposits were $1.8 billion or 76.1% of the deposits, up by $96.8 million or 5.7% compared to a year ago. Year-over-year, our core deposits increased with a $57 million increase in demand deposits and $80 million increase in money markets and NOW accounts. Our overall deposits were down by $23 million year-over-year with a $120 million decrease in Jumbo CDs.

Now let's turn to the income statement. We generated $27.2 million in net interest income before credit loss provision for the second quarter of 2013, up from $25.6 million in the preceding quarter and $25.2 million a year ago. For the first 6 months of the year, net interest income before credit loss provision increased 6.1% to $52.8 million from $49.7 million a year ago. Average interest earning assets were down by $35.8 million in the quarter and up by $15.2 million from a year ago, while average interest-bearing liabilities were down for both comparable periods. The drop of 8 bps in loan yield this quarter was within expectations based on new loan pricing. Our yield on average earning assets improved 16 bps in the quarter and 2 bps year-over-year. Our cost of deposits fell 2 bps in the quarter and 23 bps for the year.

We have had a significant expansion in our net interest margin, reflecting the full redemption of our TPS and ongoing deployment of the excess liquidity into higher yielding loans. For the second quarter, our net interest margin increased 24 bps to 4.1% in the second quarter of 2013. With the redemption of the TPS, we had only $84,000 in interest cost in the quarter compared to a $594,000 in the first quarter and $797,000 a year ago. Our estimated savings of an annual basis is about $2.5 million. We'll also continue to maintain a minimum amount of interest-bearing cash balances to minimize the cash drag on net interest margin.

As we discussed in the release, we did not take a credit loss provision for the past few quarters, reflecting continuing improvement in asset quality. With the reserves at 2.74% of gross loans, our reserve position continues to be well above the average of 2.29% reported for the first quarter by SNL Financial for the 322 banks that make up its U.S. Bank Index.

Noninterest income in the second quarter of 2013 was $8.2 million, which was slightly down from $8.4 million in the prior quarter and up from $7.2 million in the second quarter a year ago. The reason for the slight decline in the second quarter of 2013 resulted from low gains from selling SBA loans and higher losses from selling NPLs, partially offset by higher insurance commissions and the gains from selling securities. For the first 6 months of the year, noninterest income increased to $16.5 million from $10.8 million, which was mainly attributable to a $7.2 million decrease in net loss from selling NPLs. We anticipate that the loss from the note sales will remain low.

On the expense side. Noninterest expense in the second quarter of 2013 was $20 million, up 4.2% from $19.2 million in the first quarter of 2013 and flat from a year ago. For the first 6 months of 2013, noninterest expense increased 1.6% to $39.1 million from $38.5 million in the first half of 2012. Our deposit insurance premiums and regulatory assessments were down significantly for the year-to-date period from last year. Though overall, improvement in our financial condition accounts for the annual decline. The $517,000 second quarter expense is estimated to be the quarterly run rate for the remainder of 2013. Furthermore, professional fees increased for the year-to-date period from last year due to legal expenses incurred in defending lawsuits in the ordinary course of business, as well as professional and legal expenses related to strategic reviews. We expect our professional fees will moderate in the second half of this year due to no further legal expenses for the lawsuit where we recently prevailed, and a potential recoup of legal expenses for another lawsuit.

The efficiency ratio for the second quarter of 2013 went up slightly to a 56.55% by 11 bps from the first quarter and improved by 452 bps from a year ago. The income tax expense was up by 24.3% in the second quarter of 2013, resulting in an effective tax rate of 38%. We expect our annual effective tax rate will be between 38% to 39%.

Finally, our credit quality continues to improve and I'd like to briefly review these metrics. Total classified assets at quarter end were down to $90 million compared to $95 million at the end of first quarter and $143 million a year ago. Nonperforming loans decreased 38% to $28 million, compared to $45 million a year ago, a reduction of $17 million year-over-year. Our net charge-offs were also down at $1.6 million compared to $2.3 million during the first quarter of 2013 and $13.4 million during the second quarter a year ago. Allowance for loan losses totaled $59.9 million or 2.74% of gross loans at quarter end compared to $71.9 million or 3.69% of gross loans a year ago. Allowance for loan losses to nonperforming loans was 214% at the end of June compared to 159% a year ago.

Now I will turn the call back to CG.

Chong Guk Kum

Thank you, Mark. One of the strengths of Hanmi is its customer base that remain loyal even during the most difficult times. On behalf of the Board of Directors and the Hanmi family, I want to thank our loyal customers for their support. Future of Hanmi is bright. With many dedicated and highly skilled employees and more joining us, we are prepared to execute on the strategy to be the premier Korean-American financial company. Thank you for your attention and support.

David Yang

Alicia, let's open the call for questions.

Question-and-Answer Session

Operator

[Operator Instructions] And our first question comes from the line of Julianna Balicka with KBW.

Julianna Balicka - Keefe, Bruyette, & Woods, Inc., Research Division

So in terms of a couple of questions just to follow-up in the quarter. In the press release, you discussed the loan diversification strategies but then also loan production went down this quarter. So could you talk a little bit about why there was a slowdown in production this quarter in particular, and perhaps the run rate for the coming next couple of quarters? Or how should we think about this?

Chong Guk Kum

Well, kind of taking that question from the back-end forward. The run rate for the balance of the year is somewhat indeterminable at this point based on some positive developments as it relates to our personnel. I don't think you can take the second quarter as a run rate for the balance of the year. We'll get a better sense of that as the third quarter ends, as the new personnel arrives in the third quarter. The -- as to the slight decline in the second quarter, we had a really tremendously successful first quarter and it's natural to have a little bit of a slowdown, a little bit of a breather in the second quarter. There was nothing that was material or structurally deficient that caused us to have that kind of a decline. As it relates to the loan diversification strategy, most Korean-American banks are heavily concentrated in commercial real estate, and we reflect the same kind of makeup as far as our loan portfolio is concerned. The -- so going forward, the strategy that we'll be looking to implement is to diversify away from the CRE concentration. That's not to say that we're not going -- we're going to do less CRE loans. Our goal is to do the same level of CRE loans, but to overlay on top of it C&I types of deals that will cause some level of diversification. We also want to do more of the consumer lending, if you will, that will also provide some level of diversification.

Julianna Balicka - Keefe, Bruyette, & Woods, Inc., Research Division

Okay, that makes sense. And in terms of -- speaking of diversification and loan portfolio, in terms of the diversification of the funding base and some of your strategies there, is there anything in particular that you have in the works from your experience at [indiscernible] kind of implement at Hanmi or anything like that?

Chong Guk Kum

As some of our employees are listening in, they're -- they have already heard the importance of core deposits, growth of core deposits at Hanmi. Noninterest-bearing DDA growth is one of the key priorities for us. As some of the lenders have already found out in the loan committee, if they come in with just a loan request without showing us where -- that there is going to be deposits, we're not as excited. And so we are driving towards an organization that will place a high degree of premium, I emphasize, on noninterest-bearing DDA generation. And also as part of that, focused much more on relationship banking versus transactional lending, if you will. So those kinds of initiatives are already underway, and I'm pleased to say that we're already seeing some positive results.

Julianna Balicka - Keefe, Bruyette, & Woods, Inc., Research Division

That's excellent. Very good. An then, in terms of the key hires and the senior hires that you had referenced. I know the Korean papers have been reporting on some personnel changes. Are you able to comment on any particular teams or persons that we may look forward to joining the bank in this coming quarter?

Chong Guk Kum

Well, I mean, as you know, the personnel that you're referring to is still technically an employee of the other company, so I can't speak to that. But if we were fortunate enough to attract a high-caliber, senior level person, who can, in essence, bring with her additional production-oriented personnel, as well as the banking expertise to help me grow Hanmi, that would be a very, very positive situation for us. We are -- since I've been here, I've been fortunate enough to connect with some of the other Korean-American bankers and as a result, there's been interest shown by them in terms of joining Hanmi. And so we hope that in the third quarter and maybe even beyond, that we will continue to have recruiting successes to enhance the team that we already have. As I mentioned in my presentation, Hanmi is -- has been blessed with many highly dedicated skilled employees. They've done a magnificent job of navigating Hanmi through some very, very difficult times. We just need more of those types of bankers in Hanmi. And so that's the goal of mine, so that over the balance of this year and, maybe, even beyond to continue to strengthen the Hanmi's -- the management team and in particular, on the production side.

Julianna Balicka - Keefe, Bruyette, & Woods, Inc., Research Division

Very good. We will look forward to the results in the next couple of quarters and beyond. And finally -- final question and I'll step back, in terms of your capital management planning and developing your capital management strategy, you opened your comments with the idea of Hanmi growing and operating independently. Do you have any more tangible information you could give us, as to expect in terms of dividend, dividend increases, special dividends, viewpoint regarding buybacks, et cetera, et cetera?

Chong Guk Kum

Well, we at Hanmi, and we at Hanmi being including the Board of Directors, are very pleased with the second quarter results and the possibility of additional good results coming in the third and fourth quarters of this year and beyond. So based on the confidence that we have in the earnings stream at Hanmi, it is logical for us to consider a mechanism such as cash dividend. I'm not at this point here to announce that. But logically, a mechanism like that would make sense, and so we are focused on that at this point in time. We're also focused on the other types of -- other means by which to improve capital management, but that will be predicated upon the organic growth that we are able to generate, particularly as a result of new bankers coming on board. That, combined with some M&A opportunities that need to be fully vetted in and evaluated. Once all those things are done, we will get a better sense of what the capital position of first -- excuse me, what Hanmi is. And based on that, we will make some additional decisions as far as capital management is concerned.

Operator

[Operator Instructions] And I'm showing no further questions in the queue at this time. I'd like to turn the conference back to management for any final remarks.

David Yang

Thank you for listening to Hanmi Financial's second quarter conference call. We look forward to talking to you next quarter.

Operator

Ladies and gentlemen, this concludes our conference for today. Thank you for your participation, you may now disconnect.

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