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Central Pacific Financial Corp. (NYSE:CPF)

Q1 2008 Earnings Call Transcript

April 30, 2008 2:00 pm ET

Executives

Clint Arnoldus – President and CEO

Dean Hirata – CFO

Curtis Chinn – Chief Risk Officer

Analysts

Joe Morford – RBC Capital Markets

Brett Rabatin – FTN Midwest

Brent Christ – Fox-Pitt

Fred Cannon – KBW

Jordan Hymowitz – Philadelphia Financial

Brian Hagler – Kennedy Capital

Julienne Cassarino – Prospector Partners

Joseph Plevelich – Schneider Capital Management

Operator

Welcome to the Central Pacific Financial Corporation first quarter 2008 earnings call. Today's call is being recorded. This call may contain forward-looking statements concerning projections of revenues, income, earnings per share, capital expenditures, dividends, capital structure or other financial items, concerning plans and objectives of management for future operations, concerning future economic performance or concerning any of the assumptions underlying or relating to any of the foregoing.

Forward-looking statements can be identified by the fact they do not relate strictly to historical or current facts and may include the words believes, plans, intends, expects, anticipates, forecasts or words of similar meaning. While we believe that our forward-looking statements and the assumptions underlying them are reasonably based, such statements and assumptions are by their nature subject to risks and uncertainties and thus could later prove to be inaccurate or incorrect. Accordingly, actual results could materially differ from projections for a variety of reasons to include, but not limited to, the impact of local, national and international economies and events, including natural disasters on the company's business and operations and on tourism, the military and other major industries operating within the markets we serve, the impact of legislation affecting the banking industry, the impact of competitive products, services, pricing and other competitive forces, movements in interest rates, loan delinquency rates and changes in asset quality generally and the price of the company's stock.

For further information on factors that could cause actual results to materially differ from projections, please see the company's publicly available Securities and Exchange Commission filings, including the company's Form 10-K for the last fiscal year. The company does not update any of its forward-looking statements.

At this time, for opening remarks and introductions, I will turn the call over to Mr. Clint Arnoldus, Chief Executive Officer. Please go ahead.

Clint Arnoldus

Thank you, Jennifer, and thank you all for joining us today to review Central Pacific Financial Corp.'s financial performance for the quarter ended March 31, 2008. With me here today are Dean Hirata, our Chief Financial Officer, and Curtis Chinn, our Chief Risk Officer.

I will be addressing the highlights of our company and marketplace, including discussion on the solid plan we have in place to aggressively manage our California loan portfolio. Dean will follow and provide a detailed financial report of our first quarter results, including a discussion on the California residential construction loan portfolio. After we've completed our remarks, we will be happy to take any questions you might have.

As you all know, 2008 continues to be a challenging year in the marketplace because of problems in the national housing market and the ripple effect of the subprime lending crisis. As we stated in our third and fourth quarter 2007 earnings calls, our California lending businesses have been impacted by the same credit challenges facing many financial institutions across the country. However, I want to underscore that Central Pacific's capital position and the operating fundamentals of our core Hawaii franchise, including asset quality, remains strong. Both our holding company and our bank remain well capitalized based on bank regulatory standards.

Central Pacific Financial Corp. today reported net income for the first quarter of 2008 of $1.7 million or $0.06 per diluted share. This is compared to $20.1 million or $0.65 per diluted share reported in the first quarter of 2007 and a net loss of $44.5 million or a loss of $1.51 per diluted share reported in the fourth quarter of 2007. You'll recall the net loss for the fourth quarter of 2007 included a non-cash goodwill impairment charge totaling $48 million. Our first quarter results reflect net credit cost of $29.7 million, comprised of a provision for loan and lease losses of $34.3 million, partially offset by a decrease to the reserve for unfunded commitments of $4.6 million. This level of provision for loan and lease losses was primarily due to continued credit weakness in the limited number of residential tract lending projects that we financed in California.

We continue to rigorously analyze our loan portfolio, have reserved for the current reduced value of certain assets and are aggressively pursuing opportunities to reduce our exposure to the California residential construction market. More importantly, we expect our capital position to remain strong and reaffirm our intention to maintain our dividend at the current level.

Total assets of $5.8 billion at May 31, 2008, increased by 5.3% from a year ago and 2.1% from December 31, 2007. Total loans and leases of $4.2 billion at March 31, 2008, increased by 7% from a year ago and 0.8% from December 31, 2007. During the current quarter, the Hawaii loan portfolio grew by $104.7 million while the Mainland portfolio decreased by $69.8 million. Total deposits of $3.8 billion at March 31, 2008 decreased by 1.7% from the year ago and 5.6% from December 31, 2007. We believe our deposits may have been affected by the current interest rate environment and the overall softness in the economy.

No one can predict when California's housing market will stabilize. We've been aware of the California issue since June 2007 and as we will outline, in the past nine months, we've taken a number of proactive steps to aggressively deal with each problem California residential construction loan. It's important to remember the scale of Central Pacific's exposure in California and our exposure to residential construction and development. Our total Mainland loan portfolio is $1.2 billion relative to a total loan balance for the company of $4.2 billion. This $1.2 billion balance is comprised of approximately $900 million in California and $300 million in other western states. Total loans outstanding in the California residential construction market were $245.8 million at March 31, 2008, which consisted of $197.9 million in the loan portfolio and $47.9 million classified as held for sale.

At December 31, 2007, total loans outstanding in this sector were $310.6 million, which consisted of $305.2 million in the loan portfolio and $5.4 million classified as held for sale. Therefore, California residential construction loans held in the portfolio represented only 4.7% of total loans at March 31, 2008, down from 7.4% at December 31, 2007. As you can see, we've been working to reduce the impact of the issues in the California residential construction market on our financial results. It's also important to underscore that our situation is specific to California residential construction. Over the coming months, our goal is to continue to aggressively manage down this exposure. We are doing this with a solid team of senior-level personnel with significant real estate experience and outside real estate consultants.

Geographic diversification is and will remain an important enterprise risk management strategy for our company. However, we've also concluded that our current loan production office operation in the mainland is not the most suitable way to approach this market and provide this diversification. As a result, we have aggressively begun to downsize our loan portfolio in California through a combination of individual and bulk loan sales, participations and restructuring along with normal paydowns, in order to significantly reduce our credit exposure in this loan portfolio.

We expect a number of these sales to be completed in the coming months and plan to reduce our $1.2 billion Mainland loan portfolio to $500 million over the next three years. As part of this downsizing, we have begun to reduce our staffing and Mainland operations and have transferred certain functions to Hawaii. This transfer should be completed before the end of 2008. Given the continuing uncertainty of the California real estate market and the potential longer-term negative impact on the bank, rather than wait for the market to recover, we believe a definitive action is best for the company, our shareholders and our employees.

Although Hawaii's economy is showing signs of slowing, we are not currently experiencing the challenging market conditions faced in California. Our Hawaii commercial and residential real estate loan portfolio continues to perform well. Central Pacific also has strategies in place that will allow us to continue to expand our footprint in the Hawaii market and provide us with opportunities for growth and market share expansion. Going forward, our community-based banking strategy is designed to increase our competitive posture and deposit gathering, particularly in the small business sector.

In essence, we've decentralized our banking enterprise and empowered our frontline to become fully integrated within Hawaii's marketplace. We will also continue to offer our customers the best in financial products and services. One example of this is the notable improvements we are making to our 39-branch network, including the opening of a new branch in Kapahulu in Honolulu earlier this month and the opening of a new branch in Lahaina, Maui we announced last quarter. These initiatives are already bearing fruit by attracting new customers and generating new accounts. We will also continue to pursue opportunities to be first in market on products and services. We've done this with our flagship Exceptional Account, Remote Deposit Central and our new Choice Checking product.

Central Pacific currently has 39 branches across the State of Hawaii and 98 ATMs. We are confident in the financial strength and outlook of our company. As we've stated in the past, we know our dividend continues to be important to our shareholders and it's very important to us as well. That's why I want to underscore that we intend to maintain our dividend at current levels.

Finally, on a personal note, you may have heard that I announced my retirement from Central Pacific Financial Corp. at the end of the year. While I'm sad to leave the friends and relationships I've developed through the years, I've decided that at age 61 this is the right time for me to retire. The bank's Board of Directors has commenced a search for a new President and CEO, which will include both internal and external candidates. I remain committed to leading the bank in my current capacity and I look forward to assisting the Board in whatever way possible, in identifying the new CEO and ensuring a smooth and seamless transition.

At this time, our Chief Financial Officer, Dean Hirata, will discuss the financial results of our first quarter. Dean?

Dean Hirata

Thank you, Clint. My discussion will cover the first quarter of 2008 consolidated financial highlights, including a discussion on the California residential construction loan portfolio for Central Pacific Financial Corp. and its subsidiaries.

Starting with the earnings, the first quarter 2008 net income was $1.7 million compared to $20.1 million for the first quarter of 2007 and a net loss of $44.5 million for the fourth quarter of 2007, which included a non-cash goodwill impairment charge totaling $48 million. The decrease was primarily due to credit costs of $29.7 million in the current quarter related to increasing levels of non-performing assets and net charge-offs due to further weakening in the California residential construction market.

On a diluted earnings per share basis, net income was $0.06 for the current quarter compared to $0.65 for the first quarter of 2007 and a net loss of $1.51 for the fourth quarter of 2007. Key performance ratios for the first quarter of 2008 were as follows: Starting with our risk-based capital ratios, tier-one ratio of 10.9%, total capital of 12.2%, and a leveraged ratio of 9.6%. The net interest margin was 3.99% and the efficiency ratio was 46.74%.

Looking at the balance sheet, our total loans and leases of $4.2 billion as of March 31, 2008 grew by $272.1 million or 7% over March 31, 2007 and by $34.9 million or 0.8%, from December 31, 2007. The current quarter increase was attributable to net loan growth of $149.8 million, partially offset by the transfer of California residential construction loans totaling $42.5 million to the held for sale category and charge-offs totaling $54.8 million.

Hawaii loan portfolio grew by $104.7 million, while the Mainland loan portfolio decreased by $69.8 million. Average loan balances increased by 1.8% sequentially. The average yield on loans for the first quarter of 2008 was 6.65%, a decrease of 125 basis points compared to the prior year. On a linked-quarter basis, there was a decrease of 70 basis points. The decrease was primarily attributable to the Fed ease of 300 basis points over the last year, the reversal of interest related to certain non-accrual loans totaling $1.5 million, lower real estate construction loans and increased competition in loan pricing.

Turning to our deposits, they were $3.8 billion as of March 31, 2008, which decreased by $65.6 million or 1.7% from a year ago and by 5.6% on a sequential quarter basis. During the current quarter, most of this decline was due to several jumbo CDs totaling $125.5 million, business checking and money market of $29 million and consumer checking of $31 million. Decreases also reflect the current interest rate environment and overall softness in the Hawaii economy, and we will continue to implement our community-based banking strategy in order to grow the deposits.

The effective cost of interest-bearing liabilities for the current quarter was 2.78%, a decrease of 54 basis points from a year ago. On a linked-quarter basis, the decrease was 47 basis points. Again, the decrease was primarily due to the Fed ease discussed earlier.

Turning now to the earnings, the net interest margin of 3.99% for the first quarter of 2008 decreased by 53 basis points from the same quarter last year and 16 basis points on a sequential quarter basis. The year-over-year compression in the net interest margin was primarily due to the previously mentioned Fed ease, reversal of interest on non-accruals and increased funding costs, resulting from a shift in the composition of the deposit base into higher-rate term deposits. The sequential quarter compression was primarily attributable to a decrease in loan yields and the previously mentioned reversal of interest on non-accrual loans. Excluding the effects of the reversal of interest on non-accrual loans, the net interest margin for the current quarter was 4.1%. As discussed earlier, the credit cost of $29.7 million in the current quarter comprised of a provision for loan and lease losses of $34.3 million, partially offset by a decrease in reserve for unfunded commitments of $4.6 million resulted from significant declines in collateral values related to impaired loans, loans transferred to held for sale and other real estate owned.

Other operating income was $14.3 million for the current quarter, an increase of 28% over the same quarter last year. The increase was primarily due to higher gains on sales of loans from Central Pacific home loans of $0.4 million, increased income from bank-owned life insurance of $0.8 million, and a partial redemption of our equity interest in Visa totaling $0.9 million. On a linked-quarter basis, other operating income was up 25.7% for the same reasons.

Other operating expense was $31.5 million for the current quarter, compared to $30.5 million in the same quarter last year and $35.2 million in the fourth quarter of 2007. The sequential quarter decrease was primarily due to a decrease in reserves of unfunded commitments of $4.6 million, partially offset by a write down of foreclosed property totaling $2.6 million and higher salaries and employee benefits. The expected quarterly run rate is in the $31.5 million to $32.5 million range.

The company's effective tax rate reflects the disproportionate recognition of state and federal tax credits compared to taxable income and the generation of tax-exempt income for the current quarter. The effective tax rate was 36.61% from the year ago quarter and 6.49% in the fourth quarter of 2007.

Turning to our asset quality. At March 31, 2008, non-performing assets totaled $118.8 million or 2.05% of total assets, compared to $1.6 million or 3 basis points at March 31, 2007, and $61.5 million or 1.08% at December 31, 2007. Non-performing assets, as of March 31, 2008, was comprised of non-accrual loans totaling $68.9 million, non-performing loans which are now classified as held for sale totaling $47.9 million, and other real estate owned of $2 million. The sequential quarter increase was primarily attributable to the addition of 13 California residential construction loans totaling $76.5 million, partially offset by charge-offs of six California residential construction loans totaling $16.4 million. Specific reserves have been provided for all of these loans.

Loans delinquent for 90 days or more and still accruing interest of $0.5 million at March 31, 2008 declined by 10.3% from a year ago and 41.1% from December 31, 2007. Net loan charge-offs were $54.2 million in the current quarter compared to $4.3 million in the year ago period and $8.7 million in the fourth quarter of 2007. The sequential quarter increase was primarily due to the partial charge-off of 16 California residential construction loans totaling $53.7 million, comprised of loans held for sale of $28.5 million and impaired loans and other real estate owned totaling $25.2 million.

The allowance for loan and lease losses as a percentage of total loans and leases was 1.73% at March 31, 2008 compared to 1.3% a year ago and 2.22% at December 31, 2007. The current quarter decrease was attributable to the aforementioned net loan charge-offs totaling $54.2 million, partially offset by the $34.3 million provision for loan and lease losses.

Now, looking specifically at the California residential construction exposure, at March 31, 2008, total loans outstanding in the California residential construction market was $245.8 million, which consisted of $197.9 million in the loan portfolio and $47.9 million classified as held for sale. At December 31, 2007, total loans outstanding in this sector was $310.6 million, which consisted of $305.2 million in the loan portfolio and $5.4 million classified as held for sale.

California residential construction loans held in the portfolio represented 4.7% and 7.4% of total loans and leases at March 31, 2008 and December 31, 2007, respectively. At March 31, 2008, non-performing assets related to this sector was $113.4 million or 1.96% of total assets. This balance was comprised of non-accrual loans totaling $63.5 million, non-accrual loans held for sale totaling $47.9 million and other real estate owned of $2 million. Of the remaining $197.9 million balance in the California residential construction portfolio, $95 million was classified and was written down by $18.4 million to fair market value during the quarter.

The allowance for loan and lease losses specific to this classified portfolio was $19 million and $5 million for the remaining performing portion of the portfolio, for a total of $24 million or 12.1% of the total outstanding balance. Therefore, we still hold significant reserves against this portfolio.

Shareholders' equity at March 31, 2008, was $674.7 million or a tangible equity ratio of 7.27%. In January 2008, the company's Board authorized a repurchase of up to 1.2 million shares of the company's stock. During the first quarter of 2008, the company repurchased 100,000 shares. We have suspended the repurchase plan until such time that we get more clarity on the real estate market in California. We intend to maintain our quarterly dividend at the current level.

In looking at the outlook for the remainder of 2008, starting with loan growth, we expect flat loan growth as we expect loan growth in Hawaii to be offset by reductions in our California loan portfolio, deposit growth of 1% to 2%, the net interest margin in the range of 3.9% to 4.1%, non-interest income of 5%, and we will continue to actively manage our overhead costs in order to sustain our strong efficiency ratio. Due to the continued uncertainty in the California housing market, combined with our aggressive reduction of the credit exposure in the California residential construction loan portfolio and the resulting impact on credit costs, we are not able to forecast diluted earning per share for 2008.

This concludes my review of Central Pacific's financial results for the first quarter of 2008. I will now turn the call back over to Clint.

Clint Arnoldus

Thank you, Dean. We'd be happy to entertain any questions that you might have at this time.

Question-and-Answer Session

Operator

Thank you. (Operator instructions) We will start with Joe Morford with RBC Capital Markets.

Joe Morford – RBC Capital Markets

Thanks, good morning everyone.

Clint Arnoldus

Good morning.

Joe Morford – RBC Capital Markets

I wondered if you could, I guess, first talk more specifically about some of the ins and outs to non-performing assets this quarter, the types of loans where they are and details like that.

Curtis Chinn

Joe, this is Curtis Chinn. When you say the ins and outs, can you be a little bit more specific?

Joe Morford – RBC Capital Markets

It sounds like had you 13 credits come into the NPAs, totaling 76. I recognize most of the reduction was charge-offs. But these are all inland Empire, what, are they more land, what types of products and just generally speaking?

Curtis Chinn

Most of it was land, a lot of it was the Inland Empire, you're right.

Joe Morford – RBC Capital Markets

And then what about – do you have the period end number for criticized or classified assets and is most of what you are seeing just further migration within that pool that's driving the higher provisions?

Curtis Chinn

The classified at period end totaled $129 million. That was $235 million at year-end '07. So most of the migration was identified in fourth quarter and then it moved into NPA.

Joe Morford – RBC Capital Markets

Okay. And then, let's see, I guess the – lastly, what drove the decision to move certain loans to held for sale and are these loans specifically under contract now? Are there plans to sell others? What's going on there?

Curtis Chinn

The decisions we had received throughout the quarter and beginning late fourth quarter, letters of interest on a number of the projects. Those that we accepted, obviously, will move to loans held for sale. We moved three properties in the first quarter of '08. The note value on those loans is $13 million. And we have signed purchase of sale agreements on another three properties and we have several other letters of interest that we are reviewing presently.

Joe Morford – RBC Capital Markets

Okay. Thanks so much.

Operator

We will go next to Brett Rabatin with FTN Midwest.

Brett Rabatin – FTN Midwest

Hello, everyone.

Clint Arnoldus

Hi, Brett.

Brett Rabatin – FTN Midwest

Wanted to first ask, you mentioned the $235 million of classified last quarter and you've obviously got that down quite a bit at the end of the first quarter. And the Inland Empire was obviously, that entire portfolio last quarter was classified, and about half the Central Valley portfolio was classified and obviously a lot of the charge-offs came from the Inland Empire. I was curious if you could give us an update on the Central Valley. And then secondly, if any of the charge-offs came from the commercial construction portfolio in California and if you could give us an update on the number of that, what the size of that portfolio is today.

Dean Hirata

Let me take that in reverse order, Brett. The commercial construction portfolio on the Mainland is $416 million and none of the charge-offs were related to that portfolio.

In terms of the Inland Empire, the fourth quarter of '07, we had I believe $106 million in exposure and as of the end of the first quarter of '08, the loan balances on the books were I believe $46 million. That gives you a sense of a lot of the movement was. In terms of the Central Valley, the numbers were I believe around $50 million in the fourth quarter of '07. That's down to about $35 million. So there was movement from classified into the NPA and/or charge-off numbers.

Brett Rabatin – FTN Midwest

Okay. And then, Curtis, can you give us – I didn't quite understand stand the charge-offs that you had, the 53.7 related to the construction, what pool of loans those were specifically on? Could you give us a percentage or an idea of how much you were writing the loans off that you had losses to in the quarter?

Curtis Chinn

Yes, the numbers Dean cited, there was – a $28.5 million in charge-offs were related to those loans that we moved to loans held for sale. So the balance that we moved was roughly $70 million and you deduct the $28 million and that leaves $42.5 million or thereabouts. The other balance of $25.3 million was mostly against the other real estate loans that were deemed to be classified and or impaired.

Brett Rabatin – FTN Midwest

Okay. And then, just lastly the portfolio held for sale of $47.9 million, it sounds like you've got those loans charged off to a degree where additional losses would have to imply sales, sales don't trend upward or that the market softens. What I'm trying to get at is have those loans already been whacked down enough where additional losses from you reducing your exposure to California won't be as meaningful for that portfolio?

Curtis Chinn

For those that's held for sale, that's correct. We marked those to market and that was really based upon letters of interest and/or purchase and sale agreements.

Brett Rabatin – FTN Midwest

Okay. One last one, (inaudible) the remainder of the portfolio that is still impaired or just generally your Inland Empire and your Central Valley exposure, have all of those been updated with appraisals and either renewed or looked at? Can you give us just a feel for what's left and what process is going through?

Curtis Chinn

Dean referenced that number; that's about $95 million, and yes, those all have been updated with recent appraisals and the charge-offs we took on those were based upon those appraisals and any other market intelligence we had relative to valuations.

Brett Rabatin – FTN Midwest

Okay. Great. Thank you.

Operator

And we will go next to Brent Christ with Fox-Pitt.

Brent Christ – Fox-Pitt

Good morning, guys. Can you talk a little bit about kind of your plans in terms of downsizing the Mainland portfolio? You mentioned going from $1.2 billion to about $500 million over the next three years. And obviously that would imply that you are going to (inaudible) back more than just the residential construction portfolio. Just kind of your thoughts on how you plan to go about that. And then as a second question, kind of the cost structure associated with the Mainland operation now and kind of how much leverage there is there to reduce some of the costs associated with it.

Curtis Chinn

Let me address the portfolio issues. Obviously, we are looking at selling individual loans and again, we are also contemplating bulk sales, primarily the residential. We are also looking at potentially portfolio sales. We have about $500 million in term debt on the Mainland and it's good, solid performing assets, also an element of this portfolio does roll off and mature, and we are also looking at doing more in the way of participations with other banks that are still interested in building their portfolio. So combination of those factors is what goes into trying to get the portfolio down to $500 million within three years.

In terms of the operations, we have had a lot of conversations with our staff and shared with them what we are doing operationally. So we've begun to scale back that staff and believe that we can have that reduced over the next year and a half. At the peak, the staff was I believe in excess of 40 and we should be down around 10 to 12 by the end of the year.

Brent Christ – Fox-Pitt

Got you. Just a follow-up in terms of you mentioned the alternatives for reducing the portfolio. At the end of the day, what would you kind of like to be left with on the Mainland? And are you going to be still originating new loans over the near-term?

Curtis Chinn

We aren't originating new loans in the near-term, given our desire to reduce the portfolio, clearly we would want to take care of the needs of good borrowers that we want to retain as we are not totaling exiting the market. In terms of the mix or type of portfolio we would be left with, really not interested in land, not really interested in residential construction, probably have a portfolio that is more heavily weighted towards income producing term type debt, stabilized primary and secondary neighborhood. Some commercial construction for very strong borrowers and those would be defined as developers who have not only development assets but also an income-producing portfolio that can generate liquidity.

Brent Christ – Fox-Pitt

Okay. And then another question. Clint mentioned that he intends to stay around to ensure a seamless transition. But could you give us an update in terms of how the search is going for that position?

Clint Arnoldus

Sure. We recently retained Heidrick & Struggles to conduct that search for us. As you know, they are a very renowned name in those circles. They expect to have the first slate of candidates for us to start interviewing in May. Difficult to say when the search will conclude; it's just going to depend upon the dynamics of the search once we get deeper into it. But it is very active and we expect to be seeing several qualified candidates this month or next month in May.

Brent Christ – Fox-Pitt

And then my last question is, it looks like you saw some pretty good growth in the Hawaii market and just wanted to get a sense of where you are seeing the traction there from a loan perspective.

Dean Hirata

Yes, the growth was – we had growth in commercial real estate group in Hawaii. Some of that was draws under existing construction facilities. We also had good growth in the residential mortgage portfolio and a bit more in our C&I portfolio.

Brent Christ – Fox-Pitt

Great. Thanks a lot.

Operator

We will go next to Fred Cannon with KBW.

Fred Cannon – KBW

Thanks and good afternoon. First a technical question. The reserve for unfunded commitments, if I'm not mistaken, you brought that down by $4.6 million this quarter and you had increased it by $4.7 million the previous quarter. Is that correct? What's going on on that line item?

Curtis Chinn

Fred, this is Curtis. What happened in the fourth quarter, as we were identified loans and downgrading classifications, how we handle those on the unfunded commitments, we assume full funding, so we hit the unfunded commitments with much larger reserves, as if it was fully funded. And as we worked through that portfolio and charge-off and/or move to NPA, those commitments collapsed. So the effect was, it reversed it.

Fred Cannon – KBW

Okay. And then on the reserve, you said you had a lot of the reserve was specific to the California construction portfolio. Could you tell us how much of the current reserve is allocated to the specific to the California construction portfolio?

Dean Hirata

Fred, this is Dean. Of the remaining portfolio, there is about $24 million that's allocated to that and then again, and looking at the break down of that portfolio, there's $95 million that is classified as classified assets and of that $19 million is reserved against that portfolio.

Fred Cannon – KBW

Okay. And then I have to say, you guys are an exception in my coverage universe to actually pull the reserve to loan ratio down in light of accelerating NPAs. Could you talk about your decision process to actually pull that reserve level down this quarter as a percent of loans?

Dean Hirata

Fred, every quarter we go through the valuation of the adequacy of the allowance and we have a standard methodology that we follow, which includes looking at specific reserves as well as a pool of loans. And for the charge-offs that we took in the current quarter, most of those loans, in fact all of the loans had received some form of an allowance that we set out in previous quarters, going back to the third and to fourth quarters. So the additional amounts are really dispute [ph] to any further declines in collateral values during the quarter.

Fred Cannon – KBW

Okay. Finally on the dividends, I believe this is a second quarter in a row where you're operating earnings excluding the goodwill write down didn't, were below the dividend. I guess kind of two questions. One, is how many quarters would you guys feel comfortable going not earning your dividend before you feel compelled to think about eliminating the dividend? And then secondly, do you guys have the cash at the holding company to pay the dividend without having to dividend it up from the bank subsidiary?

Dean Hirata

Fred, again, I guess on the first question, with regards to the continuation of the dividend at the current levels, again, that's going to be dependent on our capital position which as we described is very strong. We are well in excess of what's required for a well capitalized institution. So for the foreseeable couple of quarters, at least looking a couple quarters out, our intent would be to keep the dividend at these levels. Again, part of it is also dependent on the plan to aggressively downsize California and again, in looking at some of the bulk loan sales as well as the individual loan sales, again, looking at the potential impact on our capital. But at this point, we expect that we will continue the dividend at these levels. As far as the funding of the dividend, we do have an upstream of cash from the bank to the holding company which then pays the dividends to the shareholders.

Fred Cannon – KBW

I guess the question is if you already dividended that up or is there actually cash at the holding company where you wouldn't have to ask the regulators to allow for another dividend?

Dean Hirata

For the second quarter, we already have the cash at the holding company.

Fred Cannon – KBW

For the second quarter dividend?

Dean Hirata

Correct.

Fred Cannon – KBW

Okay. Thanks very much.

Operator

Next, Jordan Hymowitz with Philadelphia Financial. And Jordan, your line is open.

Jordan Hymowitz – Philadelphia Financial

Thanks for taking my questions. First of all, on the amount that was written down, what was the original principal balance of those loans? What was the severity of the loans that were written down?

Curtis Chinn

This is Curtis Chinn. Let me take that in pieces. The $28.5 million that was taken against the loans that were moved into the loans held for sale, the original balance was $70 million. In terms of the impaired which is at $95 million as of the ends of the quarter, the original balance was $113 million. So that was $18 million charged off against that portfolio.

Jordan Hymowitz – Philadelphia Financial

Okay. So basically, 28 on 70 is a 40% impairment rate on loans held for sale and closer to 20% on the ones in NPA?

Curtis Chinn

Correct.

Jordan Hymowitz – Philadelphia Financial

And how much exposure is left you said on the California construction?

Curtis Chinn

The residential construction, there's $197 million.

Jordan Hymowitz – Philadelphia Financial

And that's, of that $197 million, has not had an impairment taken to it yet?

Curtis Chinn

Of that $197 million, $95 million is deemed impaired.

Jordan Hymowitz – Philadelphia Financial

Okay. So there's another $100 million that's deemed not impaired.

Curtis Chinn

It's performing and past rated.

Jordan Hymowitz – Philadelphia Financial

Okay. My next question, most of your goodwill results to your California construction, correct, or California exposure not necessarily construction, correct? You made no acquisitions in Hawaii or anything like that, right?

Curtis Chinn

I'm sorry, could you repeat the question?

Jordan Hymowitz – Philadelphia Financial

Most of the $244 million in goodwill results to California, correct?

Dean Hirata

No, the, at the time of the merger going back to late 2004, there was about $300 million that was set up and again of that, a portion of that relates to the loans in California, but the majority relates to the Hawaii operations.

Jordan Hymowitz – Philadelphia Financial

How much results relates to California?

Dean Hirata

There is about $92 million. Basically the way that the $300 million was allocated, about $92 million was allocated to commercial real estate which included both Hawaii as well as California. But, at that point the commercial real estate (inaudible) the merger in California was probably about half of the commercial real estate in total. So about half of the $92 million at the time of the merger would have been allocated to California.

Jordan Hymowitz – Philadelphia Financial

So about $45 million. And I'm just wondering because California obviously is doing much worse and Hawaii is doing much better. Wouldn't there be some impairment taken on the California stuff or is it too small at this point to really – has that been tested or?

Dean Hirata

Well, the impairment charge that we took in the fourth quarter was entirely due to this California portfolio.

Jordan Hymowitz – Philadelphia Financial

Okay. So the fourth quarter reflects that already.

Dean Hirata

So the fourth quarter already reflects the impairment to this portfolio.

Jordan Hymowitz – Philadelphia Financial

Okay. All right. Thank you very much.

Operator

(Operator instructions) We will go next to Brian Hagler with Kennedy Capital.

Brian Hagler – Kennedy Capital

Hey, good afternoon guys. Actually most of my questions have been answered, but just to finish up the prior question, I guess the write-downs on the held for sale portfolio is roughly 40%. NPAs is 20%. Of the $54 million in charge-offs this quarter, what was the average mark for write-off on those assets?

Dean Hirata

Well, if you average those two, it sounds like it would be about 30%.

Brian Hagler – Kennedy Capital

Okay. I guess what I'm getting at is, were they originally written down 20% when they went into NPA and written down another additional amount when they were ultimately charged off or not?

Dean Hirata

Well, for those that were moved to loans held for sale, that was a mark-to-market. That $28 million was taken in this quarter.

Brian Hagler – Kennedy Capital

Okay. So all of the charge-offs came out of held for sale?

Dean Hirata

No, $28 million of the $55 million came out for held for sale, $25 million came from the rest of the residential construction portfolio.

Brian Hagler – Kennedy Capital

Okay. I got you. Okay. Thanks.

Operator

We will go next to Julienne Cassarino with Prospector Partners.

Julienne Cassarino – Prospector Partners

Hello. I was wondering if you had – did you sell any loans? Did you have any loan sales in the quarter?

Dean Hirata

Yes, we did. We did move three properties.

Julienne Cassarino – Prospector Partners

And what kind of recovery rate did you get on those?

Dean Hirata

$0.67 on $1.

Julienne Cassarino – Prospector Partners

Okay. On average for the three?

Dean Hirata

Yes.

Julienne Cassarino – Prospector Partners

Okay. Are you seeing any kind of pick up or slowdown in that market for selling problem loans?

Dean Hirata

There's a lot of interest, so if you want to say interest is a pick up, yes, there's a pick up. People are pretty price sensitive.

Julienne Cassarino – Prospector Partners

Okay. Those loans or those three sales, are those all from the Inland Empire?

Dean Hirata

Yes, they were.

Julienne Cassarino – Prospector Partners

Okay. And of the California residential portfolio that's left at the end of the quarter, about how much of that is land? And that would be included in there, right?

Dean Hirata

Yes, wait one moment, let me get some portfolio statistics. Of the remnant, there is about $74 million that is land.

Julienne Cassarino – Prospector Partners

Okay. Is that raw land in general or is it improved land?

Dean Hirata

Some is raw, some is improved, some is finished lots.

Julienne Cassarino – Prospector Partners

Okay. Of the balance, do you have any uncompleted construction?

Dean Hirata

We do have some projects that have gone vertical where they have work in process that they are finishing.

Julienne Cassarino – Prospector Partners

Okay. Very good. Thank you.

Operator

And we will go next to Joseph Plevelich with Schneider Capital Management.

Joseph Plevelich – Schneider Capital Management

Good afternoon. I'm trying to see if you guys have an expectation for net charge-offs in 2008 and when you would expect NPAs to peak?

Curtis Chinn

Again, at this point, we don't have an estimate on the net charge-offs. Again, we've talked about the downsizing of the portfolio that we expect in the next couple of quarters. So naturally there will be potential charge-offs associated with that. And as far as the bottom, as far as the real estate values are, again at this point, we don't have a forecast on that. It could be as late as end of this year, early 2009.

Joseph Plevelich – Schneider Capital Management

Thanks.

Operator

It looks like there are no further questions at this time. I would like to turn the conference back over to you, Mr. Arnoldus, for any closing or additional remarks.

Clint Arnoldus

All right. I want to thank all of you for participating on our call today. In conclusion, I just want to underscore several key points. The first is that Central Pacific Financial Corp.'s capital position and our operating fundamentals of the core Hawaii franchise including asset quality remains strong. The next point is that we are well prepared for these challenging times facing financial institutions like ours all across the country and we have undertaken proactive steps to actively reduce our credit exposure in the California real estate market and I want to underscore that our core Hawaii franchise is solid. We will continue to create and execute innovative deposit gathering strategies, so that we can expand our footprint in the Hawaii market. I remain very confident that we will work successfully through these challenging times and ultimately, be able to do what's best for our shareholders, our customers, our employees and our communities. Thank you for your interest in our company.

Operator

This concludes today's conference. If you would like to listen to an audio replay of this call, you can do so by dialing 888-203-1112 and entering access code 3498214. The replay of today's call will be available starting this evening at 6:00 pm Central Time and ending on Wednesday, May 7, 2008 at midnight Central Time. You may now disconnect. Thank you.

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Source: Central Pacific Financial Corp. Q1 2008 Earnings Call Transcript
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