Hope Bancorp, Inc. (NASDAQ:HOPE) Q4 2021 Earnings Conference Call January 25, 2022 12:30 PM ET

Company Participants

Angie Yang - Director-IR
Kevin Kim - Chairman, President and CEO
Alex Ko - Senior EVP and CFO
Peter Koh – Senior EVP and COO

Conference Call Participants

Matthew Clark - Piper Sandler
Chris McGratty - KBW
Gary Tenner - D.A. Davidson
Tim Coffey - Janney

Operator

Good day, and welcome to the Hope Bancorp 2021 Fourth Quarter Earnings Conference Call. [Operator Instructions] After today's presentation, there will be an opportunity to ask questions. [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.

Angie Yang

Thank you, Kate. Good morning, everyone, and thank you for joining us for the Hope Bancorp 2021 fourth quarter investor conference call. As usual, we will be using a slide presentation to accompany our discussion this morning. If you have not done so already, please visit the Presentations page of our Investor Relations website to download a copy of the presentation. Or if you are listening in to the webcast, you should be able to view the slides from your computer screen as we progress through the presentation.

Beginning on Slide 2, let me begin with the 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 are based on current expectations, estimates, forecasts, projections and management assumptions about the future performance of the company, including any impact as a result of the COVID-19 pandemic as well as the businesses and markets in which the company does and is expected to operate.

These statements constitute forward-looking statements within the meaning of the US Private Securities Litigation Reform Act of 1995. 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 our 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 annual report on Form 10-K for the year ended December 31, 2021 could differ materially from the financial results being reported today.

In addition, some of the information referenced on this call today are non-GAAP financial measures. Please refer to our 2021 fourth quarter earnings release for the reconciliation of GAAP to non-GAAP financial measures.

Now we have allotted one hour for this call. Presenting from the management side today will be Kevin Kim, Hope Bancorp's Chairman, President and CEO; Alex Ko, Senior Executive Vice President and Chief Financial Officer; Peter Koh, who was promoted to Senior Executive Vice President and Chief Operating Officer effective the beginning of 2022 is here with us as usual and will be available for the Q&A session.

With that, let me turn the call over to Kevin Kim. Kevin?

Kevin Kim

Thank you, Angie. Good morning, everyone, and thank you for joining us today.

Let's begin on Slide 3 with a brief overview of our financial results. We delivered an outstanding financial performance in the fourth quarter of 2021 with a continuation of many of the positive trends that we experienced throughout the year. Another record level of loan originations, further reduction in our deposit costs, additional expansion in our net interest margin and continued expense management leading to an improvement in operating efficiencies.

And as we indicated on our last earnings call, following the significant de-risking of our balance sheet in the second and third quarters, our exceptionally strong loan production resulted in a higher level of loan growth that is more reflective of our traditional performance. This led to a strong increase in revenue and pre-provision net revenue for the fourth quarter.

Our net interest income for 2021 fourth quarter increased 2% over the preceding third quarter, while our non-interest income increased 23% quarter-over-quarter. Altogether, with a 2% quarter-over-quarter decrease in non-interest expense, we delivered a significant improvement in our core performance with pre-provision net revenue coming in at $72.2 million in the fourth quarter, up 10% from the preceding third quarter.

Moving on to Slide 4. Despite the continued challenges presented by the pandemic and supply chain disruptions, for a second consecutive quarter, we produced record loan originations as the larger more productive commercial banking teams we have built continued to capitalize on high-quality lending opportunities.

Total loan production was a record $1.24 billion in the fourth quarter, an increase of 23% compared with the preceding third quarter. This resulted in annualized loan growth of 15.9% in the fourth quarter. Excluding PPP loans, loans outstanding increased 4.9% quarter-over-quarter or 19.6% annualized.

We continue to see higher levels of commercial loan production, resulting from the increasing contributions we are getting now from new banking talent added in the past couple of years, our success in developing relationships with larger corporate clients and the expansion of our lending in attractive vertical markets such as telecom and healthcare. We had $538 million of commercial loan production in the fourth quarter, which was an increase of 57% over the preceding third quarter.

As a result, our commercial loan portfolio increased by 9% from the end of the prior quarter, which continued to improve the diversification of our loan portfolio. Our CRE loan production increased 6% quarter-over-quarter, resulting in 2% growth in this portfolio during the fourth quarter. The higher levels of CRE loan production are partially attributable to the continued expansion of our multifamily lending.

Multifamily loans accounted for 15% of our total CRE loan originations this quarter. And as a result, our multifamily portfolio increased 8% from the end of the prior quarter, furthering our progress in creating a more diversified lower-risk commercial real estate portfolio.

In addition to multifamily, another area where we are seeing strong CRE demand is in warehouse properties, given the growing need for inventory storage and fulfillment facilities. Warehouse CRE loans accounted for 22% of our total CRE originations in the fourth quarter, resulting in a 7% increase from September 30, 2021. The broader business development capabilities we have built have enabled us to generate record loan production, while substantially eliminating originations of hotel/motel loans in order to continue working down this concentration in our portfolio.

Our SBA loan production totaled $55 million in the fourth quarter, which is lower than the preceding third quarter as overall demand for SBA loans across the industry declined following the end of the fee waiver and payment relief in September. We generally saw good trends in loan pricing in the fourth quarter with the average rate on commercial loans increasing from the preceding third quarter and commercial real estate loan rates being stable.

Overall, the average rate on our total loan production was two basis points higher than the prior quarter. Notably, the fourth quarter was our third consecutive quarter in which variable rate loans accounted for greater than 50% of the mix of new loans despite the high level of demand for fixed rate loans in the low interest rate environment.

Now, I will ask Alex to provide additional details on our financial performance for the fourth quarter. Alex?

Alex Ko

Thank you, Kevin.

Beginning with Slide 5, I will start with our net interest income, which totaled $133.3 million for the fourth quarter of 2021, an increase of 2% from $130.3 million in the preceding third quarter. This increase was due to a 2% increase in interest income resulting from higher average balances of loans and investment securities and a 6% decrease in interest expense.

During the fourth quarter, $107 million of PPP loans were forgiven versus $236 million in the preceding third quarter. The net fee realized from PPP forgiveness was $3.7 million in the fourth quarter versus $3.2 million in the third quarter. Our net interest margin increased 6 basis point quarter-over-quarter to 3.13%.

Excluding the impact of purchase accounting adjustment, our net interest margin increased 7 basis points quarter-over-quarter to 3.09%. The increase was due to a more favorable mix of earning assets as we redeployed more of our excess cash into the loan and security portfolios, as well as a 3 basis point reduction in our cost of deposits. Looking at the first quarter of 2022, we expect our net interest margin will be relatively stable compared with the fourth quarter of 2021.

Moving on to Slide 6. From a long-term perspective, we are in an asset-sensitive position. And considering the projected interest rate hikes in 2022, we are well positioned to benefit in a rising interest rate environment.

Variable rate loans as a percentage of total loans accounted for 41% of our portfolio as of December 31, 2021. In addition, our non-interest-bearing deposits increased significantly during 2021, up by nearly $938 million or 19% year-over-year. And this has had a positive impact in increasing our asset sensitivity position during the year.

Now moving on to Slide 7. Our non-interest income was $13.1 million for the fourth quarter, up from $10.6 million in the preceding third quarter as we saw increases in nearly all of our fee-generating areas. The largest increase was net gains on sale of SBA loans, which was up 47% compared to prior quarter. This was due to a higher volume of sales as well as an increase in the average net premium on the sale of SBA loans.

Moving on to non-interest expense on Slide 8. Our non-interest expense was $74.2 million, representing a decrease of 2% from the preceding third quarter. The most significant variance was a 5% decline in our salary and benefit expense, which was primarily due to more normalized bonus reserves, stock compensation expense and an increase in deferred loan origination costs, which had the effect of reducing our salary expense for the quarter.

Our efficiency ratio for the fourth quarter improved 2.9% to 50.7% from 53.6% in the preceding third quarter. Non-interest expense as a percentage of average assets improved to 1.67% for the 2021 fourth quarter from 1.7% for the third quarter.

Now moving on to Slide 9, I will discuss our key deposit trends. Our total deposits were essentially unchanged from the end of prior quarter as growth in money market deposits offset a seasonal decline in non-interest-bearing deposits and continued reduction in our time deposits.

The small decline in non-interest-bearing deposits was due to fluctuations in the end-of-period balances of some of our large clients in corporate banking group, where seasonality is a factor. Underscoring the seasonality aspect, the average balance of non-interest-bearing deposits for the fourth quarter increased 2% over the preceding third quarter. And subsequent to year-end, the deposit balances of these clients have started to build back up. The cost of our interest-bearing deposits and total deposits each declined 3 basis points quarter-over-quarter. These decreases represent our ninth consecutive quarter of declining deposit costs.

Now moving on to Slide 10, I will review our asset quality. We saw continued improvement in asset quality in the fourth quarter. Most notably, criticized loans declined by $51 million or 9%. The further decline in criticized loans reflects our continued progress in working with borrowers following their COVID modification period. Non-performing assets declined by approximately $1.9 million, which was primarily due to the disposition of one large OREO property.

At year-end 2021, our OREO portfolio was just $2.6 million, representing a significant reduction from $20.1 million at the end of 2020. Accruing TDRs increased by $12.9 million from the prior quarter. The increase was due to one large well-secured commercial real estate loan, which payments are current under the modified terms. Delinquent loans less than 90 days past due ticked up as of year-end. Approximately $9 million of this increase reflect administrative delays in the renewal of one large maturing loan. This loan has been renewed and is current.

In addition, we have another $8.5 million of mortgage loans, which have already become current or have been paid off subsequent to year-end. So, in aggregate, our delinquent loans are down by $17.5 million as of today. Following the portfolio de-risking actions in 2021, our loss experience has improved, and we recorded net recoveries of $2.3 million in the fourth quarter.

We recorded a provision for credit losses of $1.5 million in the fourth quarter. The allowance for credit losses coverage ratio as of December 31, 2021 was 1.02% of loans, excluding PPP, compared with 1.05% as of September 30, 2021. The decrease in our ACL coverage ratio mainly reflects an improved macroeconomic forecast, asset quality improvements and a meaningful reduction of problem loans.

Now moving on to Slide 11, let me provide an update on our capital position and returns. We continue to maintain a meaningful amount of excess capital to be utilized for future growth. Tangible common equity per share increased $0.18 from the prior quarter and $0.70 year-over-year.

During the fourth quarter, we completed the repurchase of the previously announced $50 million stock buyback. With our continued strong financial performance and capital position, we announced a new stock repurchase program yesterday, authorizing the company to repurchase up to $50 million of its common stock.

With that, let me turn the call back to Kevin.

Kevin Kim

Thank you, Alex.

Now moving on to Slide 12, let me summarize our achievements for 2021. New loan production accelerated throughout 2021 and positioned the company to return to historically strong growth rates. We continued to enhance the mix of deposits, which contributed to decreasing deposit costs throughout 2021.

We completed a significant de-risking and rebalancing of our loan portfolio and expect to see meaningful improvement in our asset quality in 2022. And most importantly, we delivered strong core performance with our pre-provision net revenue increasing 11% over 2020. In all, we successfully completed another year challenged by the COVID-19 pandemic and I believe we have emerged stronger than ever.

Now moving on to Slide 13, let me provide a few comments about our outlook and priorities for 2022. With the increasing levels of loan production that we have consistently generated throughout 2021, we began the new year with greater momentum and expect that we will deliver strong, more traditional high single-digit to low double-digit loan growth in 2022, excluding PPP.

We expect the loan growth will continue to be well diversified with increasing contributions from our corporate banking group and expanded industry verticals. The higher level of loan growth should enable us to continue remixing our balance sheet towards higher-yielding earning assets and driving further growth in our net interest income.

In 2022, we will continue to employ these strategies to strengthen our commercial banking platform. We have been successful in attracting talent from mainstream banks that has enabled us to expand our addressable markets, effectively target new and attractive industries and add expertise in new areas like telecom, healthcare and multifamily lending.

We recently opened our first full-service branch in the Atlanta area. And toward the end of the year, we plan to open another branch in the Seattle area. Both markets have large and growing Korean-American communities and we believe they can be good sources of loan and deposit growth in the coming years.

We are very optimistic as we start 2022, given the positive trends and high level of execution that we are seeing throughout the company. We have seen excellent results from the investments we have made to strengthen our commercial banking platform over the past few years. We are generating record levels of loan production, while maintaining the strong underwriting criteria that we have in place.

Following the significant de-risking of our loan portfolio in 2021 and a more active stance on working through our criticized assets, assuming no major disruptions in the economic recovery, we expect improving asset quality metrics with our criticized loan balances declining by approximately 20% to 30% by the end of 2022.

With the current expectation of rising interest rates, the improvement in our deposit base should enable us to have a lower deposit beta and see a more positive impact on our net interest margin than in the last cycle of rising interest rates.

And we are effectively managing expenses, while still investing in talent and technology, which should help us to enhance operating leverage as our revenue increases from our continued balance sheet growth. Although the impact of the pandemic continues to linger, we believe that we have never been in a better position to generate profitable growth and create additional value for our shareholders.

With that, we would be happy to take your questions and add any additional color as requested. Operator, please open up the call.

Question-and-Answer Session

Operator

[Operator Instructions] The first question is from Matthew Clark of Piper Sandler. Please go ahead.

Matthew Clark

Maybe starting on with the buyback, maybe with your plan in terms of how active you might be? Do you think you might front end loaded like you did last time or do you feel like it might be kind of spread out more evenly throughout the year?

Kevin Kim

Well, even looking at the current valuation in the market, we still believe it is an opportune time for us to utilize our stock buyback program. So, I think it will be active.

Matthew Clark

Okay. And then on the recovery on the previously charged-off loan, can you quantify how much that was that drove the overall net recoveries just on a dollar basis, if you had it?

Kevin Kim

It was a sizable loan. I might have to get back to you on the exact figure. But it is a current workout situation in the sense so we can't disclose the actual details there. But it was one of the larger loans in the third quarter, which was previously charged-off.

Matthew Clark

Okay, I was trying to back into kind of a normalized net charge-off ratio, but we can follow-up. Okay, and then just on the reserve coverage at this point at 102X PPP, I guess how do you feel about that ratio based on the pipeline and the expected next change within your portfolio?

Kevin Kim

Sure, our CECL day one allowance was around 96 basis points and we're a little over 100 basis points right now. So we're sort of nearing the day one CECL allowance. So I think - we still have some room I believe, I'm just looking at the kind of the mechanics behind our ACL methodology.

I think there's still a little bit of room to reduce, but there are various factors, including loan growth expectations, and obviously, the asset quality we anticipate will continue to show improvement. So there will be some variables that we'll have to kind of play out. But again, I think we have some room, but we are nearing sort of the day one CECL allowance there.

Matthew Clark

Okay. And then just on the swap fees and equity income fees this quarter. Can you quantify both of those and how they compare to the third quarter I'm just trying to get a sense for the sustainability of both those items?

Kevin Kim

Yes I know swap fee income is fluctuate this quarter, we had about 600K and I would expect that we'll continue to the same level or a little bit increase going forward, but it will be a function of the interest rate the movement as well.

Matthew Clark

And then on the equity income and dividend gain revenue?

Kevin Kim

The equity income was also no, it was kind of a one-off item, because we got kind of refund from the equity investments. So I don't think it will continue going forward, but it was also in the neighborhood of about $0.5 million in this quarter. We might not recur, that amount of income going forward.

Matthew Clark

Okay, thank you. And last one for me just on the SBA production and premiums. Should we assume this pace of production or loans sold into the secondary market will continue? And then how do you think about the outlook for premiums a little surprised that it went up this quarter, given the fact that the government has kind of backed away a little bit?

Alex Ko

Well, the SBA loan premiums in the secondary market, is holding up pretty well. I don't see much difference in the premium level, from the fourth quarter to the first quarter of this year. In terms of the SBA loan sales income for 2022. I think we are planning to sell approximately $40 million per quarter, but obviously that will depend upon the premium rates offered in the secondary market.

So the SBA loan sales income will be between like $3.5 million to $4.5 million per quarter. In terms of production, we still expect robust production in 2021 versus 2022. We had approximately $288 million of production in 2021 and in 2022 we expect about $0.25 billion about $250 million of SBA loan production. So, our SBA loan production will continue to be robust.

Operator

The next question is from Chris McGratty of KBW. Please go ahead.

Chris McGratty

Okay, good afternoon. I want to maybe dig into the rate sensitivity for a moment. Kevin, I think you mentioned in you're prepared remarks much better position in the bps cycle. I'm interested in kind of maybe some numbers behind what each 25 basis point might mean to the interesting - if you have that?

Alex Ko

Sure, Chris let me start with a 25 basis point increase. And I don't know the exact timing, but let's assume in March, if we have a 25 bps increase. I would quantify the remaining nine months of impact. I would expect around like $5 million of additional net interest income or like a 95 basis point increase. That would be my expectation at this juncture. But I also wanted to note our deposit beta.

We did have a quite high deposit beta in our - interest rate rising environment, let's say, later part of 2017, and 2018 and our deposit beta was a very high. But given the changes that we made or actual improvement that we made, i.e. much lower relying on the CDs and much higher composition of non-interest bearing deposit accounts, I would expect our deposit beta for the interest rate increasing environment will be much lower. And I think that will help our margin expectation and also NII.

Chris McGratty

Sure. And that nine months, so that $5 million, just so I make sure I understand that would be a nine month basis. So, you know, assuming they were to occur on an annual basis, it would be closer to like $6.5 million, $7 million around four-basis point to margin. Is that the right math?

Alex Ko

Yes, yes, that's only nine months, so you can analyze to annual.

Chris McGratty

Okay, and what is your expectation for model deposit betas and also I think - we're kind of as a sell side struggling with - just deposit retention at the industry level or deposit growth from here, given all the stimulus?

Alex Ko

Yes, deposit beta Chris, that's the area that we are actually spending a lot of hours as well, to make sure we can accurately quantify the beta. And maybe it might be helpful, if I just give you a little bit color on our previous interest rising rate environment. Let's say 2018, our total deposit beta was around 70% and why it was a kind of high it was because our reliance on the CD was pretty high.

And we see the real sensitivity on the deposit rate in the rising environment, CD is the most sensitive. So at that time, our loan to deposit ratio was not as like low as we see now. So we need to offer a higher deposit rate. So that's the kind of main reason why we had almost 70% of deposit beta, but based on our new deposit mix, we have a much higher money market deposit as percentage of a total deposit.

And also in the time deposit is less than 19%. So it's good. So we would expect like a mid-40% of the deposit beta. But I don't know exactly whether it will be 40% or 45%. But it is management's focus is that we'll be more disciplined in the deposit pricing, which will differentiate from our earlier experience.

Because we were actually offering very high - deposit rate, and it really hurt us and I don't think we'll repeat that. And our deposit position as of today really supports management's intention to be disciplined pricing on the budget side.

Chris McGratty

Yes, that's great color if I could just squeeze one more on margin, from rates if we get a second and third rate hike are there any lets off points with regard to floors or any derivatives that would make you perhaps more asset sensitive on the second and third, or is that math you gave us the four kind of steady state reached 25?

Alex Ko

Yes, I don't think you know, the derivatives would have a much impact. It's a more kind of a deposit beta and also loan pricing. We have about 41% of our loans are variable and quite substantial portion is prime as well. And those will be immediately re-priced. So I think those are the two main driver for the margin expansion. And as I said earlier, net interest margin, you know Q1, we expect fairly stable, but going forward Q2 and the remaining of 2022.

Again, I think it's a function of how many times and what basis-point the rate increase. But in the directional wise, if the rate goes up, it will definitely help more in the positive expansion to the margin after the Q1 and the remaining of 2022.

Chris McGratty

Great, thank you very much. And Kevin, maybe just one on capital to follow-up on Matt's question, you were active with the buyback. But your CET1 is still 11 and hasn't really changed in the last year. Could you just remind us the governing ratio and would like to run the bank - understanding the balance between loan growth, which is improving and just opportunistic buybacks?

Alex Ko

Well, we do not have any specific ratio that we are sharing with the investors. But what I can tell you is that our Board considers this capital situation on a regular basis, taking into account all the potential uses of capital that will be most beneficial for the shareholders.

So if your question is about whether after the [$50] million current buyback program, we may have another one coming. I don't think it is a little premature at this time to tell you, but obviously, we will consider all the possibilities.

Operator

[Operator Instructions] The next question is from Gary Tenner of D.A. Davidson. Please go ahead.

Gary Tenner

Thanks good morning. I just want to go back to a couple of items Alex, you just mentioned in terms of the mid 40% deposit beta that you were talking to? Is that the expectation for say the first 100 basis points of tightening or is that kind of where you're thinking from the initial move, 40% on the first 25 basis points, are we starting lower? And then getting to the mid-40s over the course of 100 basis points?

Alex Ko

Sure, I should have maybe clarified because there is a many assumptions and it will result in different NII implication. So, we have a parallel shocks and also 25 basis points, you know, day one shocks but the 43% is more our parallel shocks ramp scenario. Meaning, it will increase by in a ramp scenario basis. That's what we are actually forecasting. And the ramp scenario that we modeled is 100 basis point 1% increase, but it's a gradual over the period as the ramp scenario defines.

Gary Tenner

Okay, thanks for that. And then just to clarify, as you're talking about the variable rate loan book, you know, almost $6 billion of re-loans, you're saying that there's no aim for now Moore's or and the money floor that will slowdown and you're repressing it up?

Alex Ko

Yes, we do have variable rate laws with the floor, but that amount is less than $1 billion. It's only like a 16% or $900 million. And out of 93 million out of that balances $834 million of loans have already in interest rate equal to floors. So I don't think the floor would have much impact on our margin or I suppose.

Gary Tenner

Okay, thank you. And then just one last one for me that add to accruing TDRs. The cultural seven what segment was it within CRE?

Alex Ko

Yes, it was just considered CRE retail.

Gary Tenner

Retail, okay that's it for me. Thank you.

Operator

The next question is from Tim Coffey of Janney. Please go ahead.

Tim Coffey

Great thanks, good morning everybody. Can you remind me how much you have in PPP loans?

Alex Ko

Sure, we have a total of PPP loans remained at Q4 was a total of $228 million.

Tim Coffey

Great, thanks, Alex and how much do you have in remaining fees?

Alex Ko

Yes, we recognized $5.2 million in Q4, and the remaining for the rest is only $6.7 million left.

Tim Coffey

Okay, great, thanks. And then it's kind of looking thinking about the guide - your outlook for the next quarter, and the next year on both sides revenues and expenses. What's the right way to think about your efficiency ratio, right, because I mean, you obviously saw great improvement this quarter, it seems like you would ex rates have an improved efficiency ratio going forward? Is it right to think that it's going to be in the low 50s?

Kevin Kim

Tim, let me let me first respond to that. Yes, efficiency ratio is the ratio that we carefully monitor. And also at the same time, we look at the ratio with respect to the average assets. And in 2022, our goal is to maintain the efficiency ratio in the low 50s or around 50%. Understand it will be a challenge, because we expect some of the expense line items will be taking up especially compensation expense and things like that.

But at the same time, those expenses that we expect to increase are largely related to the business generation. And as we previously mentioned, a good chunk of the increase in the compensation expense will be for hiring additional bankers on the frontline. So, those expense increases will be directly tied to our revenue generation. And second point that I would like to point out is that in the rising interest rate environment, net revenue growth is expected from our asset sensitive position, as Alex explained.

And lastly, our continued balance sheet growth should also help us enhance our operating leverage. So our goal is to be close to 50% and at the same time, the ratio of our non-interest expenses to the average assets will be under 1.7%.

Tim Coffey

Yep, fantastic those are my questions. Thank you.

Operator

Thank you. [Operator Instructions] There are no other questions at this time. This concludes our question and answer session. I would like to turn the conference back over to management for closing remarks.

Kevin Kim

Once again, thank you all for joining us today. We hope everyone stays safe and healthy, and we look forward to speaking with you again in three months. Bye, everyone.

Operator

The conference has now concluded. Thank you for attending today's presentation, you may now disconnect.