Edited Transcript of FHB earnings conference call or presentation 28-Jan-20 10:00pm GMT

Turning to Slide 3. I want to take a quick look back and touch on a couple of items before handing the call over to Ravi. 2019 was our first year back as a fully independent bank. The team did a great job managing the bank through the transition, absorbing the additional costs and improving the quality of our balance sheet while continuing to deliver outstanding financial performance.

We also worked hard on improving the customer experience during the transition. Our Net Promoter Score, most recently at 59.6%, has significantly improved since we began measuring it over 3 years ago.

Going forward, we are continuing to invest in technology to enhance the customer experience and increase automation. We are in the process of implementing a new core system and modernizing our digital architecture. These improvements will make us more agile in working with technology partners and in developing our own products.

And now I’ll turn it over to Ravi for the financials.

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Ravi Mallela, First Hawaiian, Inc. – Executive VP of Finance Group, CFO & Treasurer [4]

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Thank you, Bob. Turning to Slide 4. We had very strong loan growth in the quarter. Period-end loans and leases were $13.2 billion, up $368 million or 2.9% versus the prior quarter. For the full year, loans grew $135 million. Excluding the sale of $409 million of SNC loans in the third quarter, full year loan growth was $544 million or 4.2%.

We had good growth in most areas, with the largest growth coming in CRE, residential and C&I loans. CRE loans grew by $155 million, with growth coming from Hawaii and the mainland. Residential mortgages grew by $98 million, as production continued to benefit from low mortgage rates. C&I loans grew by $89 million. Looking forward, we expect loan growth in 2020 to be in the 3% to 4% range.

Turning to Slide 5. Our cost of deposits decreased by 10 basis points to 44 basis points in the fourth quarter, and interest-bearing deposit costs fell 15 basis points to 68 basis points. Total deposit balances ended the quarter at $16.4 billion, down $412 million from the prior quarter. Consumer and commercial deposits grew by $253 million after adjusting for the withdrawal of a $400 million temporary commercial deposit at the start of the quarter. In addition to the commercial deposit withdrawal, a $266 million decrease in public deposits also contributed to the overall decline in total deposits for the quarter.

Turning to Slide 6. Net interest margin in the fourth quarter was 3.15%, a 4 basis points decrease from the reported third quarter NIM of 3.19%. We were able to partially offset the impact of lower yields on loans through improved deposit pricing.

Net interest income in the fourth quarter was $139.6 million, a slight decrease versus the prior quarter. The lower average loan balances in the fourth quarter was primarily due to the sale of loans in the third quarter. Looking forward, assuming no Fed rate moves this year and no significant changes in the shape of the yield curve, we expect the NIM to be relatively stable in the 3.15% range.

Turning to Slide 7. Noninterest income was $46.7 million, $3.3 million lower than the prior quarter. BOLI income was $3.2 million lower in the fourth quarter due to lower interest income and the $1.7 million in death benefits recognized in the third quarter. Other income in the fourth quarter included a $4.5 million charge on the mark-to-market swap for the Visa Class B shares sold in 2016.

Noninterest expenses were $91.1 million, $2.4 million lower than the prior quarter. Noninterest expenses in the third quarter included $2.2 million of nonrecurring expenses. Looking forward to 2020, we anticipate that expenses will increase approximately 6% over 2019 core noninterest expenses.

The drivers behind the growth can be broken down as follows. First, there will be a $6.5 million step-up in expenses, because reimbursements from BNPP ended in 2019. This contributes about 1.8% to the 2020 increase. Inflation-related growth will add about 2% to 3% to expenses. Also, as Bob had mentioned, we have been and will continue to invest in technology projects that will enhance our customer experience and provide operational efficiencies. These expenses are expected to contribute about 1% to 2% to the growth.

With that, I’ll turn the call over to Ralph to cover asset quality.

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Ralph M. Mesick, First Hawaiian, Inc. – Vice Chairman of Risk Management Group & Chief Risk Officer [5]

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Thank you, Ravi. If I could turn your attention to Slide 8 in the deck, you see that we continue to have a high level of asset quality. Credit costs remain low and under our historical average. Nonperforming assets were minimal at quarter-end.

Total nonperforming assets were $5.8 million or 4 basis points of total loans and leases and other real estate owned. Net charge-offs were $6.7 million for the quarter. On an annualized basis, this amounts to 20 basis points on average loans and leases.

For the fourth quarter, the provision expense was $4.3 million, and the allowance for loan and lease losses decreased by $2.4 million to $130.5 million, which is 99 basis points to total loans and leases, down 5 basis points versus the prior quarter.

With respect to CECL, we have no changes to our previously disclosed estimates. Based on our current portfolio and expected economic conditions, we estimate that the adoption would increase our reserve by about 10% to 15%.

And now let me turn the call back over to Bob.

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Robert Scott Harrison, First Hawaiian, Inc. – Chairman, President & CEO [6]

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Thanks, Ralph. Turning to Slide 9. Hawaii’s economy remained steady in the fourth quarter. State unemployment rate was 2.6% in December compared to 3.5% nationally.

The visitor industry continued to operate at a high level through the first 11 months of the year, and year-to-date through November, visitor arrivals were 9.5 million, up 5.4% versus the same period last year. Visitor spending was $16 billion through November, 0.5% higher than the same period last year.

The real estate market in Hawaii remains sound. The median single-family home prices on Oahu were relatively flat on a year-over-year basis, and the overall market remains stable. Looking forward, while there are some signs of slowing, the economy here in Hawaii continues to operate at a very high level, and overall outlook is stable.

And with that, we’d be happy to take any of your questions.

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Questions and Answers

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Operator [1]

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(Operator Instructions) Our first question comes from the line of Ebrahim Poonawala of Bank of America.

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Ebrahim Huseini Poonawala, BofA Merrill Lynch, Research Division – Director [2]

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So I guess, this first question around loan growth, a very strong fourth quarter. As we look at your guidance for 3% to 4% for 2020, what does it assume? Should — are you planning for additional exits within the SNC book? Or are you done with that in terms of repositioning of that portfolio? And just in terms of the strength in the fourth quarter, why do you not see that kind of continuing and leading to probably better than the 3% to 4% guidance you’ve given?

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Robert Scott Harrison, First Hawaiian, Inc. – Chairman, President & CEO [3]

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Yes. A number of questions, Ebrahim. Let me start with the SNC book. And we repositioned that, as you know, in third quarter last year. We’re happy where it’s at. We’re not anticipating any more repositioning out of hand out of the normal maintenance there. We do — as deals come up, we look at that and decide if we want to stay in or not. So that’s kind of an ongoing portfolio from that standpoint. We’re not anticipating any big swings. Q4, we just had a very strong quarter. We did again last year as well. And it’s just as some of the timing of when deals close, et cetera. We’re starting to see some good funding on the construction projects. And so that’s been kind of a wind in our back for the quarter. We see that continuing into a little bit of next year. But it’s hard to predict the entire year off one strong quarter. And so we’re very comfortable with the 3% to 4% range as kind of our balanced growth continues.

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Ebrahim Huseini Poonawala, BofA Merrill Lynch, Research Division – Director [4]

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Understood. And I guess, Ravi, thanks for all the details on the expenses. I guess, if you use the $370 million base for 2019, gets you to about $392 million for the full year. I guess, 2 questions. One, should we expect the — how should we think about the run rate of expense growth in 2020? Is it back half-loaded? Or should we expect just a steady increase as we go through the quarters? And what’s your expectation in terms of how this — what this implies for the efficiency ratio for the full year?

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Ravi Mallela, First Hawaiian, Inc. – Executive VP of Finance Group, CFO & Treasurer [5]

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Yes, I think there are 2 questions there, Ebrahim. The first question is, I don’t know whether we have any specific insight on to when the timing of those expenses would occur. I think if you think about them as a full year, we wanted to give a full year guidance, and I think that’s kind of where we’ve landed for the year. You can maybe spread that out over the course of the year. We’ve been very specific about the guidance on expenses. And I think in the past, we’ve given guidance on the efficiency ratio just because of changes in the rate environment, and frankly, the transition. And now that we’re through the transition and assuming a very stable rate environment with no Fed changes for the year, I think we feel very comfortable with guiding to expenses as opposed to giving a guidance on efficiency ratio.

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Ebrahim Huseini Poonawala, BofA Merrill Lynch, Research Division – Director [6]

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Got it. And if I can just follow up on that. In terms of the 1% to 2% tech investments related expense growth you talked about, Ravi, is that something that we — and I know you’re not guiding for ’21 right now. But as we think about on a go-forward basis, is that kind of what we should assume in your expense run rate? Or is 2020 a little bit unique in terms of things that you’re doing?

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Robert Scott Harrison, First Hawaiian, Inc. – Chairman, President & CEO [7]

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Well, let me start with that, Ebrahim, this is Bob. We don’t give expense guidance past the 1 year, but we will continue to invest in the technology. We’re expecting to see some process improvements and benefits from the core conversion. We’re going to take those efficiencies in both the front office and the back office and kind of reposition that spend into other things in the digital world to help us better serve our customers and be more efficient. So we’re going to very closely watch that number. We’ve never gotten too far ahead of ourselves on the expenses. So we’re going to continue to manage that closely.

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Operator [8]

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Our next question comes from Jackie Bohlen of KBW.

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Jacquelynne Chimera Bohlen, Keefe, Bruyette, & Woods, Inc., Research Division – MD, Equity Research [9]

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Deferred loan origination, did that have any impact on the compensation line in the quarter? Is this your origination fees?

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Ravi Mallela, First Hawaiian, Inc. – Executive VP of Finance Group, CFO & Treasurer [10]

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A small bit, not anything significant.

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Jacquelynne Chimera Bohlen, Keefe, Bruyette, & Woods, Inc., Research Division – MD, Equity Research [11]

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Okay. And understanding that there was a large step-up delta between 2Q and 3Q, was there anything noncore that positively benefited compensation in the fourth quarter? It just looked like it was a little bit low compared to the rest of the year?

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Ravi Mallela, First Hawaiian, Inc. – Executive VP of Finance Group, CFO & Treasurer [12]

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Yes, I believe we had some onetime expenses on the salaries and benefits line, Jackie, in Q3.

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Jacquelynne Chimera Bohlen, Keefe, Bruyette, & Woods, Inc., Research Division – MD, Equity Research [13]

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Okay. So going forward and just in light of the overall expense guide that you gave, and thank you the breakout on that, I would expect an uptick from seasonal payroll in 1Q. But it doesn’t sound like there’s anything else that would drive that line higher outside of normal inflation, is that accurate?

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Robert Scott Harrison, First Hawaiian, Inc. – Chairman, President & CEO [14]

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Well, the only thing to add to that — I think that is accurate. This is Bob — Jackie, is we are moving our minimum wage up to $16 an hour from $15 an hour, and that will be in Q1. That is embedded into the guidance that Ravi gave you. But — so if there’s any weighting back, I think, Ebrahim’s earlier question, there might be a little bit less in Q1, a little bit more later in the year as that kind of rolls through during the quarter, but not significantly on the quarter — on a year basis, we’re still very comfortable with the guidance we gave.

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Jacquelynne Chimera Bohlen, Keefe, Bruyette, & Woods, Inc., Research Division – MD, Equity Research [15]

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Okay. That’s helpful. Just one last one from me and then I’ll step back. In terms of public deposit balances, was there anything that drove the additional reduction in the quarter, and might we see more of that next year?

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Ravi Mallela, First Hawaiian, Inc. – Executive VP of Finance Group, CFO & Treasurer [16]

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Yes. I mean I think we saw some good growth on consumer and commercial during the quarter. We saw about $253 million in growth there. And you’ll see it in the DDA line, which we like — it’s core, and we like that a lot. And I think that just gave us an opportunity to be able to reduce public time by about $158 million in the quarter. Now we feel very comfortable with where we are right now with that $499 million in public time. And we feel that gives us one of the lever to be able to pull if we see outsized loan growth in the quarter. But we’re very happy with the way deposits played out this quarter.

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Jacquelynne Chimera Bohlen, Keefe, Bruyette, & Woods, Inc., Research Division – MD, Equity Research [17]

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Okay. And is that — with the uptick, and I know the average loan-to-deposit ratio was pretty flat at around 79%. But the — is that 80% loan-to-deposit ratio a level that you’re comfortable with? Or would we see that trend higher if you saw other opportunities in the future like that?

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Ravi Mallela, First Hawaiian, Inc. – Executive VP of Finance Group, CFO & Treasurer [18]

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I think — I mean I think we’d see it sort of move with the way we think about the balance sheet in totality. So depending on where we see from the securities book standpoint, any payoffs and our abilities to go into the market and replenish those and loan growth overall, whether it’s outsized quarter-to-quarter, we feel relatively comfortable with the level it’s at right now.

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Operator [19]

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Our next question comes from Steven Alexopoulos of JPMorgan.

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Steven A. Alexopoulos, JP Morgan Chase & Co, Research Division – MD and Head of Mid-Cap & Small-Cap Banks [20]

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To start, so if we look at the $6.5 million increase in expenses tied to the separation from BNP, Ravi, how are you thinking about the timing of that?

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Ravi Mallela, First Hawaiian, Inc. – Executive VP of Finance Group, CFO & Treasurer [21]

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I mean I think we’ll be sort of — that’s in the run rate now. We won’t be — we typically got it quarter over quarter over quarter. So it was spread out over the course of the year. So beyond that, we don’t see any major changes. It’s going to be spread out over the year.

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Robert Scott Harrison, First Hawaiian, Inc. – Chairman, President & CEO [22]

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Yes. The reimbursement last year, as Ravi said, was by quarter. So it shouldn’t — you shouldn’t see any volatility or cyclicality within the year because of that, Steve.

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Steven A. Alexopoulos, JP Morgan Chase & Co, Research Division – MD and Head of Mid-Cap & Small-Cap Banks [23]

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And then just a follow-up on the new core. What’s the timing of that? And when should we anticipate seeing some of the cost related to that?

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Robert Scott Harrison, First Hawaiian, Inc. – Chairman, President & CEO [24]

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We’re looking to have that completed by mid-next year, mid-2021. And so we’re starting to capitalize some of those costs now as appropriate. And then post-conversion, that would enter the expense line as just amortization of the expenses, as you would expect.

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Steven A. Alexopoulos, JP Morgan Chase & Co, Research Division – MD and Head of Mid-Cap & Small-Cap Banks [25]

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Okay. Okay. And then, Bob, I thought I heard you say you’re targeting CET1 at 12%. Is that right?

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Robert Scott Harrison, First Hawaiian, Inc. – Chairman, President & CEO [26]

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That’s correct. And we had guided last year at about 11.75%. And we just looked at it and decided that where we’re at now and what we see going forward, we’re going to inch that up a little bit to 12%.

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Steven A. Alexopoulos, JP Morgan Chase & Co, Research Division – MD and Head of Mid-Cap & Small-Cap Banks [27]

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Okay. What was the thought behind that, because I think most would have assumed that you might have brought it down a little bit, just given how conservative the balance sheet is? What’s the thought on holding even more capital here?

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Robert Scott Harrison, First Hawaiian, Inc. – Chairman, President & CEO [28]

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Well, as we looked at the loan growth going forward, a little less certainty regarding CECL and what’s going to happen on provisioning with that, and we just liked the fact that a little bit more capital until we kind of get into a run rate going forward and that over to predict what’s going to happen with that. It’s a fairly large change. It’s a little bit harder to predict based on the modeling and the economic scenarios you put into that. So that’s where we’re coming out at.

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Steven A. Alexopoulos, JP Morgan Chase & Co, Research Division – MD and Head of Mid-Cap & Small-Cap Banks [29]

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Okay. And then one final one, Ravi, just to follow-up on the guidance for a relatively stable NIM. So loan yields were down quite a bit this quarter, which — not a surprise, right, just given what happened with LIBOR. Where do you see loan yield stabilizing?

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Ravi Mallela, First Hawaiian, Inc. – Executive VP of Finance Group, CFO & Treasurer [30]

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I mean I think we’re — I think if we start to see a stabilization in the shape of the yield curve and we start to see no — we have much more clarity on the fact that the Fed won’t move this year, it’s probably later in the year that we’ll see sort of stability around loan yields. I think what we did this quarter with respect to deposit costs was bring deposit costs down 10 basis points on a 54 basis points average prior quarter, we feel — we moved the deposit number quite well, and we think we’ll be able to offset some of the yield changes on the loan side until yields on the loan side stabilize in the second half of the year.

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Operator [31]

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Our next question comes from Aaron Deer of Piper Sandler.

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Aaron James Deer, Piper Sandler & Co., Research Division – MD & Senior Research Analyst [32]

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Actually most of my questions have been addressed. I’m just curious, though — wonder you didn’t touch on was noninterest income items. And I’m just wondering if there’s any areas within your kind of fee-based businesses where you see opportunities to grow or invest in over the course of this year for some expansion along those line items?

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Ravi Mallela, First Hawaiian, Inc. – Executive VP of Finance Group, CFO & Treasurer [33]

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Maybe I’ll start and Bob can jump in here. I think the area that we’ve seen some nice growth, and frankly, the composition of the growth has been in the trust and investment sides. We’re seeing sort of solid recurring revenue growth in that area. And it’s been solid and consistent across the year. And if we look at that line specifically, I think that’s a place where we continue to invest in the business, and it’s starting into a very solid source of noninterest income for us.

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Robert Scott Harrison, First Hawaiian, Inc. – Chairman, President & CEO [34]

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Yes. Just to add to that — to Ravi’s comments, our assets under administration are just over $15 billion now, $15.1 billion. And we’ve also been successful in repositioning that business from more transactional to ongoing fee basis, which takes out some of the volatility. And so we’re very pleased that we’ve been able to do that over the last really 18 months.

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Aaron James Deer, Piper Sandler & Co., Research Division – MD & Senior Research Analyst [35]

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That’s great. And then credit, obviously, is extremely good here. Just curious, we’re starting to see periodic kind of one-off items pop up in banks elsewhere in the country. Just curious if there’s anything that you’re seeing across the portfolio that you’re starting to keep a closer eye on or areas in the watch list that are of greater concern at this point?

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Ralph M. Mesick, First Hawaiian, Inc. – Vice Chairman of Risk Management Group & Chief Risk Officer [36]

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No. This is Ralph, Aaron. And actually, right now, the outlook is pretty stable, and we haven’t really had a lot of change in the composition of our assets. In fact, our criticized assets have — the levels have come down a little bit over the past year.

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Operator [37]

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(Operator Instructions) Our next question comes from the line of Laurie Hunsicker of Compass Point.

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Laurie Katherine Havener Hunsicker, Compass Point Research & Trading, LLC, Research Division – MD & Research Analyst [38]

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Was hoping we could just go back to deposits, because to your point, they came down dramatically, the cost in the quarter, both the cost of total and the cost of core. And just wondered if we’re going to continue to see that come down. In other words, how much of that was early in the quarter versus later in the quarter?

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Ravi Mallela, First Hawaiian, Inc. – Executive VP of Finance Group, CFO & Treasurer [39]

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This is Ravi. I’ll take the question here. We certainly acted quickly on moving our deposit cost down. I think it’s really a reflection of the fact that deposit pricing in our consumer accounts are — is really rational in our marketplace. And so we certainly did take deposit costs down. I think if you look quarter-over-quarter, that was close to a 19% decline in deposit costs quarter-over-quarter. And so we certainly see there’s more room, but it’s certainly starting at that 44 basis point level, it’s — it doesn’t give us a whole lot of room to move further down.

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Laurie Katherine Havener Hunsicker, Compass Point Research & Trading, LLC, Research Division – MD & Research Analyst [40]

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Okay. And I mean, just directionally, because it wasn’t just your total — in other words, your core deposits went from 34 down to 27 basis points. I’m just wondering, as you took those down, was it early in the quarter or was it later in the quarter?

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Ravi Mallela, First Hawaiian, Inc. – Executive VP of Finance Group, CFO & Treasurer [41]

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I think we did it a couple of times during the quarter, so sort of throughout the quarter, we did it.

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Laurie Katherine Havener Hunsicker, Compass Point Research & Trading, LLC, Research Division – MD & Research Analyst [42]

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Okay. So — okay, great. And then I just wanted to go back to the income statement. Within the other other noninterest income, the $958,000, that’s obviously where the $4.5 million was. Do you have a number for what is total swap income?

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Ravi Mallela, First Hawaiian, Inc. – Executive VP of Finance Group, CFO & Treasurer [43]

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I don’t have that number with me, but we were down about $1 million quarter-over-quarter.

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Laurie Katherine Havener Hunsicker, Compass Point Research & Trading, LLC, Research Division – MD & Research Analyst [44]

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Okay. I can follow-up with you offline. And then just wondered if you’ve got the numbers for where the SNC actually finished at fourth quarter, the SNC, and also the dealer floor plans.

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Robert Scott Harrison, First Hawaiian, Inc. – Chairman, President & CEO [45]

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Yes. We — do you have that, Ravi?

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Ravi Mallela, First Hawaiian, Inc. – Executive VP of Finance Group, CFO & Treasurer [46]

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Yes, the SNC loans ended up about $700 million. And dealer loans were about — now that’s the main — and that’s the mainland right there. Total was about $1 billion, $1.1 billion. And dealer flooring was $862 million.

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Laurie Katherine Havener Hunsicker, Compass Point Research & Trading, LLC, Research Division – MD & Research Analyst [47]

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Okay. And then just last one here. How should we be thinking about tax rate for this next year?

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Ravi Mallela, First Hawaiian, Inc. – Executive VP of Finance Group, CFO & Treasurer [48]

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Yes. We’re projecting our 2020 tax rate to stay at 25.5%.

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Operator [49]

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There appear to be no further questions in queue. At this time, I’d like to turn the call back over to Mr. Haseyama for closing remarks. Sir?

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Kevin Haseyama, First Hawaiian, Inc. – Strategic Planning & IR Manager [50]

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Thank you. We appreciate your interest in First Hawaiian. And please feel free to contact me if you have any additional questions. Thanks again for joining us, and enjoy the rest of your day.

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Robert Scott Harrison, First Hawaiian, Inc. – Chairman, President & CEO [51]

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Thank you, everybody.

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Operator [52]

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Ladies and gentlemen, this concludes today’s conference call. Thank you for participating. You may now disconnect.