First Hawaiian, Inc. (NASDAQ:FHB) Q4 2023 Earnings Call Transcript

First Hawaiian, Inc. (NASDAQ:FHB) Q4 2023 Earnings Call Transcript January 26, 2024

First Hawaiian, Inc. isn’t one of the 30 most popular stocks among hedge funds at the end of the third quarter (see the details here).

Operator: Good day, and thank you for standing by. Welcome to the First Hawaiian, Inc. Q4 2023 Earnings Conference Call. At this time, all participants are in a listen-only mode. After the speakers’ presentation, there will be a question-and-answer session. [Operator Instructions] Please be advised that today’s conference is being recorded. I would now like to hand the conference over to your speaker today, Kevin Haseyama, Investor Relations Manager.

Kevin Haseyama: Thank you, Josh, and thank you, everyone for joining us as we review our financial results for the fourth quarter of 2023. With me today are Bob Harrison, Chairman, President and CEO; Jamie Moses, Chief Financial Officer; and Lea Nakamura, Chief Risk Officer. We have prepared a slide presentation that we will refer to in our remarks today. The presentation is available for downloading and viewing on our website at fhb.com in the Investor Relations section. During today’s call, we will be making forward-looking statements. So please refer to Slide 1 for our safe harbor statement. We may also discuss certain non-GAAP financial measures. The appendix to this presentation contains reconciliations of these non-GAAP financial measurements to the most directly comparable GAAP measurements. And now, I’ll turn the call over to Bob.

Robert Harrison: Good morning, everyone. I’ll start with a quick overview of the local economy. Overall, Hawaii has been resilient in spite of some headwinds. State payrolls were improving at a modest pace prior to the Maui wildfires, but we’re certainly impacted by that disaster. Nevertheless, statewide (ph) unemployment rate remains low. The seasonally adjusted unemployment rate for December was 2.9% compared to the national unemployment rate of 3.7%. The visitor industry has performed well on a year-to-date basis with the Maui visitor industry recovering faster than expected and visitors to the rest of the state reaching record levels. Through November, total visitor arrivals were 5% higher than last year and total spend was 6.2% higher.

Arrivals from Japan continued to increase with year-to-date arrivals at 506,000, up over 220% from the prior year. The housing market remained relatively stable despite reduced activity. In December, the median sales price for a single-family home on Oahu was right about $1 million, which was 5% below December 2022. Median sales prices for condominiums on Oahu was $510,000, 1.5% higher than the previous year. Turning to Slide 2. I’ll discuss the highlights of our fourth quarter financial performance. We finished the year with a solid quarter. We continued to grow customer deposits. We believe that net interest margin has bottomed out and credit quality remains excellent. As I’ll cover on the next slide, we took balance sheet actions that are immediately additive to earnings.

Our return on average tangible assets was 0.81%, and return on average tangible common equity was 13.66%. We continue to maintain strong capital levels with a CET1 ratio of 12.39% and total capital ratio of 13.57%. Turning to Slide 3. I wanted to go over the balance sheet actions we took in the fourth quarter that will reduce earning assets while adding to net interest income. In late December, we sold $526 million of low-yielding investment securities in the loss of $40 million. We intend to use those proceeds to reduce high cost deposit balances starting in the first quarter. By eliminating the negative spread from this asset liability combination, we will improve our net interest margin and generate higher net interest income off lower average earning assets.

Capital ratio levels are high, and we have ample liquidity, so we continue to look for opportunities to optimize our balance sheet. We plan to bring down our cash levels to a more normalized range of around $500 million to $600 million. Separately, following the change Visa announced in late 2023 that improve the economics of selling Class B shares, we elected to sell our remaining shares for a gain of about $41 million. The shares were carried on our balance sheet at zero book value. Turning to Slide 4. Period end loans and leases were $14.4 billion, about $21 million higher than September 30. We had good growth in C&I loans, primarily driven by growth in dealer flooring. As we had anticipated, decline in CRE loans was primarily due to the payoff of several completed construction projects.

While there is a headwind for balances, it speaks to the quality of the projects, the strength of the sponsors and overall credit quality of the portfolio. The decline in consumer loans was primarily indirect auto. Looking forward to 2024, we expect the full year loan growth rate to be in the low-single digit range. Continued weak demand for residential loans and additional pay downs from our completed construction projects present headwinds to loan growth. Now I’ll turn it over to Jamie.

James Moses: Thanks, Bob. Turning to Slide 5. Retail and commercial deposits increased by $405 million in total. Commercial deposits were up $243 million and retail deposits increased by $162 million, which allowed us to reduce our reliance on public time deposits. There was no material impact from any Maui recovery related deposit flows. Total deposit balances declined by $179 million due to a $584 million decline in public deposits, $506 million of which were those higher cost time deposits. The percentage of non-interest-bearing deposits to total deposits was a healthy 36%. We expect further reductions in the balances of higher cost public time deposits starting in the first quarter. The rate of increase in deposit costs slowed down in the fourth quarter.

Our total cost of deposits was 156 basis points, a 16 basis point increase from the prior quarter. Turning to Slide 6. Net interest income declined by $5.4 million from the prior quarter to $151.8 million due to lower average earning assets and a lower net interest margin. The net interest margin declined by 5 basis points to 2.81%. As we discussed previously, we expect that the security sales and reduction in higher cost deposit balances in Q1 will add about 10 basis points to the 2024 margin and improved net interest income. Our spot NIM in December was 2.75%. So looking forward, we projected NIM in the 2.85% range in Q1. Through the end of the third quarter, the — fourth quarter, the cumulative betas were 44.6% on interest-bearing deposits and 28.6% on total deposits.

On Slide 7, non-interest income was $58.3 million, $12.3 million more than the prior quarter. We had several significant non-recurring items that contributed to the increase. As mentioned previously, we sold a little over 120,000 shares of vis-a-vis stock for a net gain of $40.8 million. We also recognized a net gain of $7.9 million from the sale of a branch property. These were partially offset by the $40 million loss on the previously mentioned sale of securities and another $1.3 million from other miscellaneous segments. Excluding these non-recurring items, non-interest income would have been $50.9 million in the fourth quarter. We expect non-interest income to run about $49 million to $50 million per quarter in 2024. Expenses were $142.3 million, $22.9 million more than the prior quarter.

Similar to non-interest income, we had several non-recurring items that drove the increase. The largest item was the $16.3 million FDIC special assessment. We also had several smaller non-recurring expenses totaling about $7.3 million in the quarter. Excluding these items, non-interest expense was about $118.7 million in the fourth quarter. In 2024, we expect full year expenses to be around $500 million, primarily due to continued investment in technology and infrastructure as well as some general inflation. Now I’ll turn it over to Lea.

Lea Nakamura: Thank you, Jamie. Moving to Slide 8. The bank maintained its strong credit performance and healthy credit metrics in the fourth quarter. While we have seen some modest deterioration in credit quality, our experienced so far is well within our expectations. We are not observing any broad signs of weakness across either the consumer or commercial books, and we have sufficient loan loss coverage. Commercial criticized assets increased to 1.2% of total loans and leases, driven primarily by a single credit, which was downgraded to special mention, while classified assets fell 2 basis points to 19 basis points of total loans and leases. Year-to-date net charge-offs were $12.2 million. Our annualized year-to-date net charge-off rate was 9 basis points, 3 basis points higher than in the third quarter.

Non-performing assets and 90 day past due loans were 15 basis points of total loans and leases at the end of the fourth quarter, up 2 basis points from the prior quarter. And lastly, the bank recorded a $5.3 million provision for the quarter. Moving to Slide 9, we show our fourth quarter allowance for credit losses broken out by disclosure segments. The asset ACL increased $1.7 million to $156.5 million with coverage of 1 basis point to 1.09% of total loans and leases. Turning to Slide 10. We provide a snapshot of our commercial real estate exposure. CRE represents approximately 30% of total loans and leases. The CRE portfolio is well diversified across collateral types, well secured and remains of high quality. Office exposures remained manageable at 5.2% of total loans and leases.

We continue to closely monitor the CRE segment given the implications of the rate environment, credit tightening and recessionary headwinds and their follow-on impact to vacancy rates, debt service and asset values. The credit quality of this portfolio remains very good. And now I’ll turn it back over to Bob.

Robert Harrison: Thanks, Lea. In summary, we had a solid quarter. We believe we’re well positioned to continue to perform well in a challenging environment. The security sale executed in December will enable us to pay down our higher cost deposits and will immediately improve the margin and net income. Now we’d be happy to take your questions.

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Q&A Session

Operator: Thank you. [Operator Instructions] Our first question comes from Steven Alexopoulos with JPMorgan. You may proceed.

Steven Alexopoulos: Hi, everybody.

Robert Harrison: Hey, Steve.

James Moses: Hi. Steve.

Steven Alexopoulos: I want to start on the margin. You guys said $2.85 is what you expect for the first quarter. And Bob, you said you think you would hit a bottom on the margin. So I’m curious, once we get into the Fed starting to cut rates, where do you see the NIM trending because you are at the sensitive (ph), I believe.

James Moses: That’s right. I call it sort of moderately asset sensitive off of a flat balance sheet, look, and that still continues to be the case, Steve. The dynamics of the balance sheet today, as it exists, though, we continue to see securities portfolio runoff. And when you look through the numbers there, that’s something like a 220 (ph) yield in totality in the portfolio. So we expect about $600 million in cash flow throughout the year off of that. And when you’re funding things on the margin, it’s 5% or so with public time deposits. That’s a pretty significant tailwind in terms of how the margin goes. So when we look at the way that the Fed — or sorry, the forward curve looks in terms of Fed cuts, it’s also kind of laid out later in the year. So we think, generally speaking, the dynamics of the balance sheet allow for the NIM to continue to grind higher over the course of the year, even with that — even with the way that the forward curve looks.

Steven Alexopoulos: Okay. That’s positive. Could we go a little bit deeper with that. So you guys are not one of the highest deposit rate payers, right? It’s a function of our market. But in order to get NIM grinding higher. What’s your assumption because I don’t know if you’re seeing competitors test the market for lower rates already or not. But how quick could you lower your deposit rates once the Fed does start coming down?

James Moses: Yeah. So we have a pretty — the deposit rates, our deposit customer segments are pretty well defined at the moment. And a very large chunk of our customers saw immediate increases to their deposit rates on the way up, and they expect to see those same things on the way down. The amount of that is slightly smaller than what our floating rate assets are. So we are technically asset sensitive there. But we do think that a pretty large chunk of those deposits will reprice lower immediately. And again, Steve, right, the dynamics on the balance sheet, we also have another almost $1.5 billion of fixed rate cash flow that we expect kind of comes off this year as well. And so that gets repriced up higher to today’s rates.

Even as the Fed is coming down, these rates are still higher than where those were put on. So again, it’s not really about asset sensitive or liability sensitive. It’s more about kind of dynamics we see on the balance sheet. And there’s going to be a function of some lower earning assets as well, but a higher new grind over time.

Steven Alexopoulos: Got it. Thanks. If I could ask one other question, totally different topic. So it was nice to see the dealer growth in the quarter. Curious where are those balances? And is there still room to catch up or is that now the new normal, like where those balances sit today? Thanks.

Robert Harrison: Well, Steve, maybe I’ll take this one. First, that if you say it enough times, eventually, it’s true. So finally, we saw some nice lift in dealer floor plan in Q4, as you saw. The bulk of that is in the Mainland portfolio. It really is driven by — that has bigger commitments out there, but also driven by a manufacturer base. The domestics have done a better job of bringing back supply the — more of the imports. Foreign producers have been lagging a bit, but it has been very helpful. So we are seeing those balances grow. So the balance at the end of the year was $563 million in total. That’s still just about $300 million less than it was at the end of 2019. So just to give you some perspective.

Steven Alexopoulos: Still some room.

Robert Harrison: Yeah, roughly the same commitment, the same basic dealer group. It won’t go back to that. None of us expect it will go back to that. But certainly, there is still some room there.

Robert Harrison: Thanks for taking my questions.

Operator: Thank you. One moment for questions. Our next question comes from Andrew Liesch with Piper Sandler. You may proceed.

Andrew Liesch: Hey. Good morning, everyone. Thanks for taking my questions.

Robert Harrison: Hi, Andrew.

Andrew Liesch: Just on the expense guidance there, a little bit steeper ramp-up than I was expecting. I guess where are you seeing most of that pressure come in? Is it really just inflation? Is it under contracts? Where is a lot of that expense guide coming from?

Robert Harrison: Andrew, we were hoping you were going to ask that question. We figured someone. And it really comes down to — and we’ve talked about this in pieces and maybe I’ll take a couple of minutes to try to wrap it together and give you a better idea of what we been doing for the last couple of years and what we’re continuing to invest in. So we’re always trying to be very thoughtful on how we’re spending our money. And we really have been focused on ever since our core conversion and part of that to enhance our strategy across really three different pillars, and that’s data, technology and people. So with what we’ve been doing over the last couple of years is, we’ve built out a pretty sophisticated data and analytics platform.