Cathay General Bancorp - Q2 2024

Transcript

Operator (participant)

Good afternoon, ladies and gentlemen, and welcome to the Cathay General Bancorp second quarter of 2024 earnings conference call. My name is Cole, and I'll be your coordinator for today. At this time, all participants are in a listen-only mode. Following the prepared remarks, there will be a question-and-answer session. If you would like to participate in this portion of the call, please press star followed by one at any time during the conference. If assistance is needed at any time during the call, please press star followed by zero, and a coordinator will be happy to assist you. Today's call is being recorded and will be available for replay at www.cathaygeneralbancorp.com. I would now like to turn the call over to Georgia Lo, Investor Relations of Cathay General Bancorp. Please go ahead.

Georgia Lo (Head of Investor Relations)

Thank you, Cole, and good afternoon. Here to discuss the financial results today are Mr. Chang Liu, our President and Chief Executive Officer, and Mr. Heng Chen, our Executive Vice President and Chief Financial Officer. Before we begin, we wish to remind you that the speakers on this call may make forward-looking statements within the meaning of the applicable provisions of the Private Securities Litigation Reform Act of 1995, concerning future results and events, and that these statements are subject to certain risks and uncertainties that could cause actual results to differ materially. These risks and uncertainties are further described in the company's annual report on Form 10-K for the year ended December 31st, 2023, at Item 1A in particular, and in other reports and filings with the Securities and Exchange Commission from time to time.

As such, we caution you not to place undue reliance on such forward-looking statements. Any forward-looking statement speaks only as of the date on which it is made, and except as required by law, we undertake no obligations to update or review any forward-looking statements to reflect future circumstances, developments or events, or the occurrence of unanticipated events. This afternoon, Cathay General Bancorp issued an earnings release outlining its second quarter 2024 results. To obtain a copy of our earnings release, as well as our earnings presentation, please visit our website at www.cathygeneralbancorp.com. After comments by management today, we will open up this call for questions. I will now turn the call over to our President and Chief Executive Officer, Mr. Chang Liu.

Chang Liu (President and CEO)

Thank you, Georgia, and good afternoon. Welcome to our 2024 second quarter earnings conference call. This afternoon, we reported net income of $66.8 million for Q2 2024, a 6.4% decrease as compared to $71.4 million in Q1. Diluted earnings per share decreased by 6.1% to $0.92 per share for the second quarter of 2024, as compared to $0.98 per share in the prior quarter. During Q2 2024, we repurchased 689,470 shares of our common stock at an average cost of $36.37, or $25.1 million, under our May 2024 $125 million stock buyback program.

Under the May 2024 stock repurchase program, we anticipate repurchasing around $35 million in stock per quarter in Q3 and Q4, depending on market conditions. In Q2 2024, total gross loans decreased $72 million, or 1.5% annualized, primarily driven by decreases of $42 million, or 5.1% annualized in commercial loans. $69 million or 4.6% annualized in residential mortgages and HELOC, and $25 million or 24.4% annualized in construction loans, offset by an increase of $64 million or 2.6% annualized in commercial real estate loans. Due to slower-than-expected loan growth in the first half of 2024, we have revised our overall loan growth guidance for 2024 to range between 0% and 2%.

Slide six shows the percentage of loans in each major loan portfolio that are either fixed rate or hybrid loans in their fixed rate period. Our loan portfolio consists of 64% fixed rate and hybrid loans, excluding fixed-to-floating interest rate swaps on 4% of total loans. Fixed rate loans comprise 30% of total loans, and hybrid in fixed rate period comprise 34% of total loans. We continue to monitor our commercial real estate loans. Turning to slide eight of our earnings presentation, as of June 30th, 2024, the average loan-to-value of our CRE loans was 50%. As of June 30, 2024, our retail property loan portfolio, as shown on slide nine, comprised of 24% of our total CRE loan portfolio, or 12% of our total loan portfolio.

89% of the $2.4 billion in retail property loan is secured by retail building, a neighborhood, mixed-use or strip centers, and only 10% is secured by shopping centers. On slide 10, office property loans represent 15% of our total commercial real estate loan portfolio, or 8% of our total loan portfolio. Only 35% of the $1.5 billion in office property loans are collateralized by pure office buildings. Only 3% are in central business districts. 37% of office property loans are collateralized by office retail stores, office mixed-use and medical offices, and the remainder, 28%, are collateralized by office condos.

For Q2 2024, we reported net charge-offs of $8 million, of which $5.1 million was reserved as of March 31, 2024, as compared to $1.1 million in Q1. Our nonaccrual loans were 0.55% of total loans as of June 30, 2024, which increased $9.2 million to $107.3 million as compared to Q1. The increase in nonaccrual loans during Q2 2024 came mainly from one office CRE loan and one retail condo CRE loan, totaling $8.3 million, with no projected losses based on recent appraisals. Turning to slide 12.

As of June 30th, 2024, classified loans increased to $324 million from $244 million in Q1, and our special mention loans decreased to $201 million from $249 million in Q1. We recorded a provision for credit loss of $6.6 million in Q2 2024, as compared to $1.9 million in provisions for credit losses for Q1. Total deposits decreased by $73 million, or 1.5% annualized, during Q2 2024, with NOW deposits decreased $186 million in Q2 due to the runoff of brokered NOW deposits.

Total core deposits decreased $274 million, or 11% annualized, and total time deposits increased $201 million, or 8.6% annualized, during Q2 2024, due to a shift from core deposits to time deposit with higher rates. We expect the overall deposit growth to continue at an estimated range between 3% and 4%. As of June 30th, 2024, total uninsured deposits were $8.2 billion, net of $0.8 billion in collateralized deposits, or 41.5% of total deposits. We have an unused borrowing capacity from the Federal Home Loan Bank of $7.1 billion and the Federal Reserve Bank of $174 million, and unpledged securities of $1.7 billion as of June 30, 2024.

These sources of available liquidity more than cover 100% of uninsured and uncollateralized deposits as of June 30th, 2024. I will now turn the floor over to our Executive Vice President and Chief Financial Officer, Mr. Heng Chen, to discuss the quarterly financial results in more detail.

Heng Chen (EVP and CFO)

Thank you, Chang, and good afternoon, everyone. For Q2, 2024, net income decreased by $4.6 million, or 6.4%, to $66.8 million, compared to $71.4 million for Q1, primarily due to a $4.7 million increase in the provision for credit losses for Q2, 2024, and partially due to $4.1 million, or $0.04 per diluted share, from accelerated amortization of solar tax credit investments, which were previously forecasted to be amortized in the second half of 2024. Q2, 2024 net interest margin was 3.01%, as compared to 3.05% for Q1. We are seeing signs that our net interest margin has begun to bottom out since the NIM for the month of June was 3.06%.

Approximately $7.2 billion in high-cost CDs, which will mature and reprice in the second half of 2024, and this will help lower the cost of deposits as they reprice. In Q2, interest recoveries and prepayment penalties added two basis points to the interest income. I'm sorry, to the net interest margin, as compared to no basis points in net interest margin for Q1. Non-interest income for Q2 2024 increased $6.6 million to $13.2 million when compared to $6.6 million in Q1 2024. The increase was primarily due to a $7.6 million decrease in mark-to-market unrealized loss on equity securities, offset by $1.1 million decrease in realized gain on sale of investment securities in Q1 2024.

Non-interest expense increased by $6.1 million, or 6.5%, to $99.3 million in Q2 2024, when compared to $93.2 million in Q1. This increase was primarily due to a $9 million in higher amortization of low-income housing and solar tax credit investments, $1.2 million higher in professional expense, and $1.2 million higher in OREO expense, offset by a decrease of $3 million in salaries and benefits due to a $2 million true-up for the 2023 bonuses in Q1, and $1.1 million seasonally higher payroll expense in Q1. And lastly, a decrease of $2.3 million in FDIC's assessment expense in Q1 2024.

To build up the infrastructure of enterprise risk management and other control functions, we have increased the guidance for core non-interest expense, excluding tax credit and core deposit intangible amortization and OREO expense, to between 4%-5% from our previous guidance of 3%-3.5%. The effective tax rate for Q2 2024 was 7.9% as compared to 10.8% for Q1. We expect effective tax rate between 10.5% and 11.5% for the second half of 2024. We now expect a total 2024 solar tax credit investment amortization of $32.5 million, with $10 million amortization in Q3 and $2 million amortization in Q4. As of June 30, 2024, our Tier 1 leverage capital ratio increased to 10.83% as compared to 10.71%.

As of March 31, 2024, our Tier 1 risk-based capital ratio increased to 13.6% from 13.8% as of March 31, 2024, and our total risk-based capital ratio increased to 14.74% from 14.55% as of March 31, 2024.

Chang Liu (President and CEO)

Thank you, Heng. We'll now proceed to the question and answer portion of the call.

Operator (participant)

Thank you. Ladies and gentlemen, if you have a question at this time, please press the star then one key on your touchtone telephone. We ask that you please limit yourself to one question and one follow-up question. You may return to the queue. If your question has been answered or you wish to remove yourself from the queue, please press star then two. To prevent any background noise, we ask that you please place yourself on mute once your question has been stated. Our first question today will come from Matthew Clark with Piper Sandler. Please go ahead.

Matthew Clark (Managing Director and Senior Research Analyst)

Hey, good afternoon. Thanks for the questions. Maybe the first one just on your spot rate on deposits at the end of June, if you had that number, either interest-bearing or total?

Heng Chen (EVP and CFO)

Yeah, hold on. Well, we have it here. So the spot rate of deposits, total interest bearing, 3.92%.

Matthew Clark (Managing Director and Senior Research Analyst)

Okay. Got it. Thank you. And then just on your updated expense guide on a core basis, it implies that core run rate of $74.2 million this quarter drops, you know, slightly below $72 million in the second half to get to the midpoint of the guide. I guess just trying to get a sense for what's gonna drive that reduction in the core expense rate.

Heng Chen (EVP and CFO)

Well, we continue to have some one-time expenses in Q2, higher consulting, higher marketing, higher charitable contributions, and things like that. You know, we could be off $1 million a quarter here or there, but we think expenses will moderate in the second half.

Matthew Clark (Managing Director and Senior Research Analyst)

Okay. And do you-- can you quantify, I guess, how much of that was unusual, I guess, around consulting, marketing, and charitable?

Heng Chen (EVP and CFO)

Yeah, I'd say it's about $2.5 million.

Matthew Clark (Managing Director and Senior Research Analyst)

Okay. Got it. Okay, thank you. And then just a quick one. Low-income housing amortization expected in 3Q and 4Q?

Heng Chen (EVP and CFO)

I expect $10 million a quarter each for low-income housing.

Matthew Clark (Managing Director and Senior Research Analyst)

Okay. Thank you.

Heng Chen (EVP and CFO)

Thank you.

Operator (participant)

Our next question will come from Andrew Terrell with Stephens. Please go ahead.

Andrew Terrell (Managing Director)

Hey, good afternoon.

Heng Chen (EVP and CFO)

Hi.

Andrew Terrell (Managing Director)

Wanted to ask on the, I appreciate the, the $7.2 billion, I think you said, of CDs that mature in the back half of the year. I was curious, are, are those more heavily weighted to one quarter, or is it, is it fairly spread out between 3Q and 4Q? And then just overall, can you talk about, kind of your expectations for, for spread pickup there? What kind of deposit cost reduction you're, you're kind of aiming for?

Heng Chen (EVP and CFO)

Yeah. It's Q3 is slightly higher than Q4, so it's $3.7 billion in Q3, and Q4 is about $3.5 billion. You know, our six-month CDs from that Chinese promotion started to renew in July. So the good news is we haven't seen any net runoff so far. And I think in general, that rate was 5.2. We've tiered the rates this time, and I think we're targeting around 5, so that would be 20 basis points.

Andrew Terrell (Managing Director)

Okay, perfect. I appreciate it. I would assume that any of the kind of repricing benefit there is, is factored into your margin guidance already?

Heng Chen (EVP and CFO)

Yes. Yes, of course. Yes.

Andrew Terrell (Managing Director)

... Okay. I was looking through the presentation on the classified loans. Looked like they stepped up a decent amount this quarter. I think from $244 million last quarter up to $324 million this quarter. I was hoping you could maybe just talk about the step-up in classifieds a little more this quarter. Kind of any common threads you're seeing in terms of what's driving the increase or just any color on the classified increase?

Chang Liu (President and CEO)

They're mostly downgrades from the EM class, and they're mostly all real estate secured, so we don't think there's any significant risk there.

Andrew Terrell (Managing Director)

Okay, got it. And then Chang, maybe just quickly, any give maybe refreshes on your interest for M&A currently. Just like to get kind of a strategy update on that point.

Chang Liu (President and CEO)

Yeah, we certainly have talked to you guys all about this, and until there's a viable candidate out there or a company out there that makes sense for us, that's within our niche space, you know, we don't have anything on the boards right now.

Andrew Terrell (Managing Director)

Okay, thanks for the questions.

Chang Liu (President and CEO)

Of course.

Operator (participant)

Once again, if you would like to ask a question, please press star then one. Our next question will come from Gary Tenner with D.A. Davidson. Please go ahead.

Gary Tenner (Managing Director and Senior Research Analyst)

Thanks. Good afternoon. Just wanted to ask about the updated, loan growth guidance. You know, annualized loans through the first half of the year are down 4%, so, you know, pretty solid second half just to get back to even, you know, if not above it. So given the change in, in tone, in terms of the full year loan growth, could you talk about, kind of how the pipelines look in various loan segments and where you expect, kind of the driver of that improvement to come from?

Chang Liu (President and CEO)

Gary, most of it probably will come from some of the commercial real estate growth, as you saw in the second quarter results. Our residential mortgage application is down 40%-ish from prior year. C&I business is also down as well, given the higher rates. And because of the higher rates, our clients are using their liquidity to pay down any of the outstanding balances as soon as they can. We're trying to increase both our loan side and the deposit side and trying to pick up more C&I business, but for the most part, you'll probably see any of the increases on the deposit side on the CRE side.

Gary Tenner (Managing Director and Senior Research Analyst)

I appreciate that. And then historically, on C&I, you've had kind of a, you know, some positive fourth quarter seasonality. Do you think that is a positive factor this year as well? Or given your comments, you know, about customers wanting to pay down those lines, do you think that that's a little bit more tempered this year?

Chang Liu (President and CEO)

Probably more tempered this year, Gary. I think given where the rates are, even if there is a potential rate cut in September, that I think the balances will still kind of stay on the lower end. Utilization, I think, has been relatively flat around the 51, 50 percentile, so we're not expecting or looking for a fourth quarter positive impact during that period.

Gary Tenner (Managing Director and Senior Research Analyst)

Thank you.

Chang Liu (President and CEO)

Thanks.

Operator (participant)

Our next question will come from Chris McGratty with KBW. Please go ahead.

Andrew Leischner (Assistant VP of Equity Research)

Hey, how's it going? This is Andrew Leischner on for Chris McGratty. I know you mentioned you're starting to see the NIM stabilize, beginning to bottom out here, but how should we be thinking about the NII trajectory from here? Thank you.

Chang Liu (President and CEO)

Well, we're gonna keep the earning asset number, you know, flat to up slightly. So, that should go up, you know, particularly with the now expected September rate cut and then the second one in December.

Andrew Leischner (Assistant VP of Equity Research)

Okay. Thank you. And then just one more, if I can. Your CRE reserve is at 79 basis points, and your CRE concentration is 288% of total RBC. What's your comfortability there, and any thoughts on, you know, greater reserve build from here? Thank you.

Chang Liu (President and CEO)

Well, I think, we're... We look at the low LTVs, which are about 50, which are about 50%, and the fact that almost all of our CRE loans have full personal guarantees. So, we just... You know, usually what happens with the non-accrual loans is that they stay in non-accrual for two or three quarters, depending on whether they're in California or New York. And if the borrower still can't pay, they become OREO. So and then when we normally are able to sell OREO, close to our book, so, we don't think there's a hit in Cathay's history, you know, with the economy being so solid, we think we'll be okay. But, you know, we would want to have a solid quarterly loan loss provisions to make sure that we remain adequately reserved.

Andrew Leischner (Assistant VP of Equity Research)

Okay, great. Thank you for the color. I'll step back.

Chang Liu (President and CEO)

Thank you.

Operator (participant)

Thank you for your participation. I will now turn the call back over to Cathay General Bancorp's management for any closing remarks.

Chang Liu (President and CEO)

I want to thank everyone for joining us on our call, and we look forward to speaking with you at our next quarterly earnings release call.

Operator (participant)

Ladies and gentlemen, thank you for your participation in today's conference. This concludes the presentation. You may now disconnect, and have a good day.