Hope Bancorp, Inc. (NASDAQ:HOPE) Q3 2016 Results Earnings Conference Call October 19, 2016 12:30 PM ET
Angie Yang - Director, IR and Corporate Communications
Kevin Kim - Chairman, President and CEO
Kyu Kim - Senior EVP and Head of Community Banking
Doug Goddard - EVP and CFO
Peter Koh - EVP and Chief Credit Officer
Jason Kim - EVP and Chief Lending Officer
Aaron Deer - Sandler O'Neill & Partners L.P.
Matthew Clark - Piper Jaffray
Chris McGratty - KBW
Good morning, and welcome to the Hope Bancorp Third Quarter 2016 Earnings Conference Call. All participants will be in listen-only mode. [Operator Instructions] Please note this event is being recorded.
I would now like to turn the conference over to Angie Yang, Director of Investor Relations. Please go ahead.
Thank you, Gary. Good morning everyone, and thank you for joining us for the Hope Bancorp 2016 third quarter investor conference call.
Before we begin, I'd like to make a brief statement regarding forward-looking remarks. The call today may contain forward-looking projections regarding the future financial performance of the company and future events. These statements constitute forward-looking statements within the meaning of the U.S. Private Securities Litigation Reform Act of 1995 and are not statements of historical fact.
We wish to caution you that such forward-looking statements reflect our expectations based on current expectations, estimates, forecast and projections, and management assumptions about the future performance of Hope Bancorp. These statements are not guarantees of future performance. Actual outcomes and results may differ materially from what is expressed or forecasted in such forward-looking statements.
We refer you to the documents the company files periodically with the SEC as well as the Safe Harbor statements in the press release issued yesterday. Hope Bancorp assumes no obligation to revise any forward-looking projections that may be made on today's call.
The company cautions that the complete financial results to be included in the quarterly report on Form 10-Q for the quarter ended September 30, 2016 could differ materially from the financial results being reported today.
As usual, we have allotted one hour for this call. Presenting from the management side today will be Kevin Kim, Hope Bancorp's President and CEO; Kyu Kim, our Head of Community Banking; and Doug Goddard, our Chief Financial Officer. Chief Credit Officer, Peter Koh; Chief Lending Officer, Jason Kim; and our Chief Financial Strategist, Alex Ko are also here with us today and will participate in the Q&A session.
With that, let me turn the call over to Kevin Kim. Kevin?
Thank you, Angie. Good morning everyone, and thank you for joining us today for our first earnings call as Hope Bancorp. It has been an exciting and busy quarter for the company as we merged the former BBCN Bancorp and Wilshire Bancorp to form the first Korean-American super regional bank in the United States.
During the third quarter of 2016, we generated $26.1 million in net income, or $0.22 per diluted share. This includes $11.2 million of merger-related expenses. Excluding the merger-related expenses, we would estimate net income would have been approximately $23 million or $0.28 per diluted share. And clearly that performance will improve as we realize the cost savings and other synergies we expect from the merger.
I'm very pleased with the progress we have made on the integration to-date. Our experience from the knowledge and center [ph] merger of equals has been invaluable in helping us anticipate potential issues and effectively plan and execute the integration.
We're still in the early stages and we have a great deal of work to do. But I believe we have gotten off to a good start in leveraging the strength of each organization. We're actively training all of our Business Development Officers on how to market the broad array of products and services that they now have at their disposal.
And we have begun offering the corporate credit card program to Wilshire customers that BBCN introduced last year and we have been very pleased with the initial response. We believe there are significant revenue synergies available through the combination of BBCN and Wilshire and we are highly focused and capitalizing on the opportunities we have to deepen all of our customer relationships.
From the cost savings perspective, in late September, we announced our branch optimization plan that includes a first phase of branch consolidations to be completed by the end of 2016.
In total, we are consolidating 12 branches in the first phase which will drive annual cost savings of approximately $11 million pretax. A second phase of branch consolidation is expected to be completed during the first half of 2017.
We took a thoughtful approach to developing our branch optimization plan taking into account the capacity, cost efficiencies, and lease terms of each branch. With all of the affected branches in close proximity to another bank of Hope branch, in most cases, within a quarter of a mile, we would be able to achieve significant cost savings without impacting the convenience and accessibility that is important to our customers.
Now, let me turn the call over to Kyu to provide additional details on our business development efforts in the third quarter. Kyu?
Thank you, Kevin, and good morning everyone. With the completion of the merger and the beginning of our integration occurring during the third quarter, we expected our total loan production to be temporarily impacted.
While BBCN and Wilshire were alike in many ways, the structure of our full [ph] line was not. So, we spent quite a bit of energy in getting our teams accustom to the organizational structure of Bank of Hope.
I am pleased to say that we seem to be well settled in now and we did not suffer any losses in the leadership of our business development team. And we believe our enhanced organizational structure is better suited to support continued growth as a larger super regional bank.
We had $559 million in loan origination and this included BBCN's production in July and Bank of Hope's originations in August and September. If you include Wilshire's originations in July, then our pro forma production would have been $617 million.
We were encouraged by the diversification of the loan production that we saw in our first quarter following the merger. CRE loans accounted for 52% of our loan origination, C&I loans accounted for 31%, and consumer loans accounted for 17%.
SBA originations accounted for approximately 14% of our total loan originations and are included in the CRE and C&I production percentages just noted. The reductions in the CRE originations as a percentage of total new loans are largely attributed to two factors. The first is an increase in the contribution of C&I loan originations in the quarter. We had $164 million of C&I loan production during the quarter. Included within this production was a significant new line commitment of approximately $100 million to a new customer in our residential mortgage warehouse lending business. This line was fully funded at September 30th.
Overall, we now have $2.4 billion in total credit commitments outstanding to commercial customers and the utilization rate on our lines of credit was 52% at the end of the quarter.
The second factor is increase in consumer loan originations. We originated $94.4 million of consumer loan production during the quarter, with $91.3 million coming from our combined operations in residential mortgage lending.
We had a solid quarter of SBA loan production originating $80.7 million or approximately $90 million on a pro forma basis. Total production of the sellable 7(a) loans was $50.2 million in the third quarter.
Looking ahead, it is likely that CRE loan originations will be higher as a percentage of total production in most of the following quarters. Given that demands of our core customer base, we do anticipate more balanced overall loan production and more diversification in the loan portfolio going forward as we continue to focus on non-CRE lending capabilities.
We continue to see a preference for variable rate loans among our customer base, with 62% of our total originations being variable rate and only 38% being fixed rate in the 2016 third quarter.
The average rate on our new loan originations in the third quarter was 4.03%, down from 4.28% for BBCN on a standalone basis in the prior quarter. The decline is partially due to the higher mix of residential mortgage loans and the warehouse line of credit, both of which carry lower interest rates than our traditional CRE and C&I loans.
However, we're seeing some pressure on CRE loan pricing as well. The average rate on new CRE production declined to 4.21% this quarter from 4.32% for BBCN on a standalone basis in the second quarter.
Now that we have gotten past the destruction of the merger closing, we're focused on business development and seeing our pipeline trending positively. As a result, we expect to deliver a strong quarter of loan production and portfolio growth in the fourth quarter. Doug?
Thank you, Kyu. As we would expect, this is an unusual quarter in terms of the variances from prior periods due to the merger. As such I'm going to forgo the usual quarter-to-quarter comparisons and just discuss those items where I believe some additional color is wanted.
I'll begin with a brief overview of the purchase accounting related to the MOE. We took a total loan mark of 1.7% against Wilshire's portfolio. This increased the overall dollar amount of accredible [ph] discount on our books to approximately $45 million at September 30th, 2016.
The total impact of the purchase accounting adjustments added approximately $7.3 million to a pretax income in the third quarter, which positively impacted our net interest margin by 29 basis points.
Excluding the impact of purchase accounting adjustments, our net interest margin is 3.48%. In the second quarter 2016, both BBCN and Wilshire had core demand of 3.53%. The decline in core margin that we saw this quarter was due to continued pressure on loan pricing.
On a core business, going forward, until we see a meaningful increase in interest rates, it's likely we will continue to see some erosion in our net interest margin.
Moving to non-interest income, we chose to remain largely out of the secondary market for SBA loan sales in the third quarter. In part due to the significant corporate activities in the quarter and recorded just $230,000 in net gain on sales.
Given that we did not sell any SBA loans this quarter, you may have noticed a significant increase in the balance of our loans held for sale at September 30th, 2016. We expect to resume our usual practice of selling the majority of our 7(a) loan production in the fourth quarter, presuming the prevailing rates in the market remain relatively attractive.
We did record $1.5 million of gain on sale for residential mortgage loans, which was primarily related to loans originated by the platform that Wilshire contributed to the combined company.
We also did some repositioning in the investment portfolio after the acquisition and sold a number of securities for a net gain of $948,000.
Turning to non-interest expense, there was nothing particularly notable in any of the line items other than the merger-related expense. But I will remind everyone that these figures reflect just two months of combined operation, so there will be an increase in expense levels next quarter prior to the cost savings from the branch optimizations taking effect.
Moving onto asset quality, we recorded $4 million in charge-offs during the third quarter, $3 million of which was related to one commercial loan relationship. After several years of good performance, the underlying business of this relationship deteriorated very rapidly late in the third quarter, following a partnership dispute that caused the main operator of the business to leave the company. The remaining partner found that he was unable to sustain the business and had to shut it down, resulting in a full charge-off of the loan.
Aside from this one issue, we are also closely monitoring any potential impact on our customers as a result of the bankruptcy filing of Hanjin Shipping. We believe we have identified all the borrowers that have direct and/or indirect exposure to the ship -- shipper and we have assigned a dedicated team internally to be responsible for the ongoing review and monitoring.
Our analysis to-date is most of our customers have minimal inventory on the stranded ships after the bankruptcy filing and other shipping companies seem to have stepped in to fill the void.
This remains an evolving issue that we are closing monitoring. We have downgraded the credits that were determined to have a more direct exposure to Special Mention in light of the inherent uncertainty of this situation and will continue to allocate resources as necessary to proactively identify any changes in the health of these borrowers.
Otherwise, we remain generally positive on our asset quality trends with declines quarter-over-quarter in the outstanding balances of the impaired loans, restructured loans, and non-accrual loans.
Due to the charge-offs and an increase in reserve factors related to The Hanjin issue, we recorded a provision for loan losses of $6.5 million in third quarter.
With that, let me turn the call back to Kevin.
Thank you, Doug. As we head into the latter stages of the year, we remain very focused on continue to execute well on our integration plans and ensuring that there is no disruption to customer service.
Our systems integration is scheduled for the weekend of November 11th of 2016. Given the extent of our prior M&A experience, we expect the systems integration will be a seamless event for our customers.
At the same time, we're continuing to plan for the future growth of our franchise. We recently bore [ph] ground on the construction of a new branch in Houston, Texas that is scheduled to open in the spring of 2017. This will be our second branch in the Houston market.
Wilshire opened the first branch in Houston a couple of years ago and it has been a very productive deposit generator. We have an excellent in the Houston market and I'm pleased to say that they have been very effective at attracting non-Korean-American customers and building a truly multiethnic customer base.
This is a model that we would like to replicate in other markets as we build awareness for the Bank of Hope brand as a group banking partner for all retail customers as well as small and middle market businesses regardless of their cultural background.
We also continue to make progress with all longer term plans of opening a branch in Korea. I recently met with the regulatory bodies in Korea and received very positive feedback on our plans to submit a formal application for the branch opening. At this point in time, we seem to be on track for the opening of our branch in Korea sometime in mid-2017.
Underscoring our Board's confidence about the long-term growth prospects of the company; we also announced yesterday our fourth consecutive value increase in our cash dividend from $0.11 per share to $0.12 per share.
Now, while this quarter's financial performance is certainly noisy with the accounting treatments related to the merger, I believe it is still relatively clear how consistent we have been in terms of our operational performance.
As Kyu mentioned, we're very pleased with the loan pipeline heading into the fourth quarter and we look forward to delivering a strong quarter of balance sheet growth as we proceed with our integration plan.
With that, let me open up the call to answer any questions you may have. Operator, please open-up the call.
We will now begin the question-and-answer session. [Operator Instructions]
Our first question comes from Aaron Deer with Sandler O'Neill. Please go ahead.
Hi, good morning everyone. Congratulations on getting the deal closed on the new brand.
I want to start with question on the credits. I was -- I guess I was a little surprised to see the non-accruals down relative to the totals that the combined companies reported at June 30th, particularly in light of The Hanjin exposure. Can you talk a little bit about -- might have been some other improvements in the credits this quarter?
Yes, I think overall -- this is Peter; overall I think our asset quality trends were favorable. As Doug covered very well, I think, we had a little bit of concerns over The Hanjin Shipping bankruptcy and that's why you see a little bit of the Legacy BBCN side Special Mention downgrades were a little bit elevated, but that was the portion of the Special Mention increase.
I think the other portion of increase was just generally the timing of the fiscal year end, there was a lot of financial statements coming in on June 30 mark and we were very proactive, I think we've been monitoring the portfolio and that was a key emphasis for the quarter end as well.
So, I think we just see a little bit of adjustments there, but I think most of the Special Mention increase that we saw -- I think the biggest portion of the contributor was The Hanjin-related borrowers or exposure to The Hanjin borrowers.
Okay. But I guess looking, first of all, the non-accruals, those seem to be moving in a very positive direction, is that -- was there anything specific that drove that?
No, that is true. I think the non-accrual -- I think both -- we had some successes in the non-accrual categories. We were able to manage that downwards even and that was a actually a big success for us I think.
Okay. And then Doug you mentioned the non-impaired loan discounted at September 30th, looking at what the impact was on the accretion here in the third quarter, I'm just trying to get a sense of what we might expect for that amounts to be on an ongoing basis? Obviously, the third quarter just included two of the three months of the deal, but it seems high -- higher than I would've maybe expected otherwise, is that just because of a higher-level pay downs in the quarter? And how might we see this play out going forward?
Probably most are the higher than you expected because the piece of the marks on the deposit side. If you look at the little table in the press release about $2 million of the benefit in the quarter relates to difference in the rates on deposits. And what you'll see is that piece; I think the total mark in the deposits was a little north of $9 million. That will roll off more like a six to nine month period and the remaining $40-ish million related to the increase from the piece from the non-PCI allowance, that's a five-year type amortization, but it's on a declining balance basis, so its higher in the beginning period.
Lot of the pluses and minuses there. I add up all those pluses and minuses, I expect the benefit in the fourth quarter to be fairly similar, but it will be declining as the deposit side drops off in the early part of next year.
Okay. So, it's still kind of in the $7 million range, recognizing that there can be a lot of variability in there?
Yes, absolutely. We've only looked at payoff for two months, so it's going to be some during the first two, three quarters a little bit of bouncing around.
Okay. Very good. I'll step back. Thanks for taking my questions.
The next question comes from Matthew Clark with Piper Jaffray. Please go ahead. Mr. Clark your line is open on our end; it is possibly muted on yours.
Yes, it is. Sorry about that. In terms of the mortgage gain on sale, I bet you guys have assumed from Wilshire, just trying to get a sense of the amount of production that was sold in the quarter?
And then kind of what your expectation is for -- obviously, we'll see a seasonal slowdown here may be in the fourth and first, just curious what you think the ongoing production could be there?
As you said the mortgage lending is seasonal with the second and third quarters being the busier quarters and the fourth and first quarter being slow quarters. We had really good quarter -- really good third quarter, but we do expect that our fourth quarter and first quarter -- next two quarters will be slow down. So, instead of giving you the quarterly projection, I think it's better that we give you the annual projection. We think that we will produce from $275 million to $200 million next year.
The sales on the mortgages of the quarter were in the neighborhood of $70 million.
Got it. Okay. Sound good. And then just on increase in classified loans, can you help us just isolate what was related or tied to The Hanjin -- those related customers? And then talk more specifically -- or in detail about the other pieces that migrated in the quarter? Just trying to get a better sense for the types of businesses, things that are deteriorating because we're seeing more and more of these one-off credit situations. Thanks.
I think the increase that you see that are related to anything related to The Hanjin bankruptcy, you're going to see in the downgrades to the increase in Special Mention category. So, our classified category has not actually impacted yet.
So, we have parts everything as Special Mention and as Doug mentioned, we identified all those borrowers I think were active in the third quarter. So, we have I would say a number of -- that we're looking at -- or other categories -- other types of industries that make us mentioned the increase is really spread out.
And the way I see the portfolio, they are not really one-off, they are just more proactive management of portfolio and when I look at the loan amounts, they are fairly well diversified. You're talking about much smaller dollar amounts and really across different industries.
And -- so I think this is more a proactive management of the portfolio rather than any type of credit concerns that we're seeing here.
Okay. And I guess last one on the outlook for loan growth, now that you guys are together and the types of customers that you guys have both banked in the past, just curious if you have any update on what your growth opportunities or aspirations could be with high single-digit still realistic or even low double-digit?
I think it is probably fair to say it's going to be high single-digit annual gross organically and double-digit.
Got it. Okay. And then one just housekeeping item, can you just give us the intangible amortization in the quarter?
Intangible amortization -- Matthew I'll get back to you on that.
I can get back to you. I don't have that one in my head.
Okay. It's minor. Thanks.
All right. Thank you.
The next question comes from Chris McGratty with KBW. Please go ahead.
Hey, good afternoon everyone. I want to maybe start on expenses, I think in your prepared remarks, you alluded to the two-thirds of the contribution, we still have another month for the expenses to go out.
If I look back at Legacy Wilshire, maybe this is rough estimate, they were running around $26 million a quarter, so that would imply somewhere like $8 million, $9 million that might not yet be in your run rate. Is that a fair -- I guess you agree with that kind of initial assessment before end of the fourth quarter before the savings come in?
Yes, there's a lot of pluses and minuses. So, I mean you're correct from the numbers you're looking back at. I tend to turn that around and as I'm analyzing it, look at it in terms of efficiency ratio. If you back out the merger-related expenses, we're at about a 48% run rate right now these numbers, I expect that number -- that ratio to go down in the fourth quarter, probably the 46% to 47% range and as to cost cuts off the branches and so forth and ports conversion, we should be getting to the kind of targets we talked about when we announced the deal of the mid to low 40s next year.
So, mid to low 40s, Doug, on -- in kind of full year or kind of as a run rate plays out in 2017?
As a run rate when we put the cost cuts, probably about mid-year.
Okay. That's helpful. Just going back on the classified, and kind of talking -- kind of reconciling the growth that you're talking of high single-digit loan growth, the couple of million dollars you had to set aside for the isolated credit, how should we be thinking about maybe any provisioning requirements if these Hanjin loans go to non-accrual or if they don't -- what's kind the base case for the provisioning because for this provisioning rate was a lot lower than six and a half?
Well, I'll start with the base case and I'll let Peter -- Peter likes to get the negative and positive cases. The base I would just look at the current quarter without the sort of unusual activity of one large customer at the impact of the project classification, the provision would have been less than half of what we reported.
And that going forward it's going to be very much dependent as you suggest on the migration of individual credits. I suspect Peter is going to tell us it's kind of early -- the definition of Special Mention as we're watching it and we're not really anticipating a loss yet based on what you know, but you want add any color to that Peter?
Sure Doug. I think Special Mention right now is the perfect kind of category where these relationships that we're concerned over Hanjin Shipping. It's hard to tell, right now, it's early. I think it’s a very -- how you say a volatile -- or it’s a progressing situation and really monitoring I think this everyday almost.
And so we did see some impact to the allowance. We did see a little blip this quarter. We're hoping that it can come down to the baseline, but really it's just too early to tell.
Okay. And Peter, I'm looking at the back of your -- criticize between the Legacy and acquired, if you go to the acquired book, you went from call it, 89 to 275, is that just them bring Wilshire onto your books and re-risk-rating everything? Or is that kind of suggest that there were some deterioration in the acquired book?
That's Wilshire onto our books. Largely -- Wilshire has now acquired classified loans.
Okay, great. And maybe last one if I could. One of your competitors yesterday suggested that that came out of your margins and it came under a bit of pressure, obviously, you guys didn’t sell any production in the quarter. Is the type -- I guess how should be thinking about the level of volume that might be budgeted for next maybe year?
Is this something where you might try to make up margin with volume or for any help on kind of the outlook for SBA would be really great? Thanks.
Chris, this is Jason. I think there's a two questions that you had asked, one was how is the secondary market a premium at this time and it is very stable aside from the adjustment that was made fourth quarter last year, little correction there, but last four quarters, we saw very stable premium market in the secondary market.
Second question was do we expect going forward basis looking in sale. On an annual basis, we expect approximately $200 million guaranty sale into the secondary market.
Okay, that's helpful. Thanks a lot.
Showing no further questions, this concludes our question-and-answer session. I would like to turn the conference back over to management for any closing remarks.
Okay. Thank you, Gary. Once again thank you all for joining us today and we look forward to speaking with you next quarter. Thank you.
The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.
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