Preferred Bank
Q1 2011 Earnings Call Transcript

Published: 22 Apr 2011

[Operator:]

Welcome to the Preferred Bank first quarter 2011 conference call. [Operator instructions.] I would now like to turn the conference over to Lasse Glassen of the Financial Relations Board. Please go ahead sir.

[Lasse Glassen:]

Thank you, and good day everyone. Thanks for joining us to discuss Preferred Bank’s preliminary results for the first quarter ended March 31, 2011. With us today from management are Mr. Li Yu, chairman, president, and chief executive officer; Ed Czajka, chief financial officer; and Louie Couto, executive vice president. Management will provide a brief summary of the quarter, and then we’ll open the call for questions. During the course of this conference call, statements made by management may include forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Such forward-looking statements are based upon specific assumptions that may or may not prove correct. Forward-looking statements are also subject to known and unknown risks, uncertainties, and other factors relating to Preferred Bank operations and business environment, all of which are difficult to predict, and many of which are out of the control of Preferred Bank. For a detailed description of these risks and uncertainties, please refer to the documents the company files with the Federal Deposit Insurance Corporation, or FDIC. If any of these uncertainties materializes or any of these assumptions prove incorrect, Preferred Bank results could differ materially from its expectations as set forth in these statements. Preferred Bank assumes no obligation to update such forward-looking statements. At this time, I’d now like to turn the call over to Mr. Li Yu. Mr. Yu?

[Li Yu:]

Thank you for joining us. Good afternoon. I’m pleased to report a first quarter profit of $700,000. It is small, but it is very precious to us in light of the large NPA we still have on our books. The first quarter of credit cost about $3.3 million is entirely limited to OREO. $600,000 was related to the sale or disposition of properties, and another $2.7 million is related to valuation adjustments or writeoffs. On the sales side, the activity was satisfactory as we are netting $0.94 plus on the dollar. On the valuation adjustment side, it is unusually large and I will discuss this matter at a later time. Total OREO was reduced 25% between quarters. We did not have much dollar amount improvement on our non-performing loans, although a whole lot of grunt work has been done. As I outlined in the press release, I do expect some reasonable activities and progress in the ensuing quarters. Now, looking ahead, we now have a favorable net interest margin, which should improve along with the reduction of NPAs over time. We believe our costs are under control and the legal costs and ORU costs should further improve gradually along with the reduction of NPAs. And the new assessment formula for the FDIC insurance premium should also benefit the bank beginning the third quarter of this year. Our capital is very adequate, and our liquidity is very satisfactory, but most of all, we retain a very, very loyal base of customers. So the only question we have right now is the credit costs in the future. On the loan loss provision side, at this time I can only foresee a mild requirement for the rest of the year. This is partially because much of our construction loan portfolio is rapidly paying down. The proportionately large reserve that was assigned to this portfolio will be greatly reduced and released to be used by other loans. However, having said that, we are always mindful of one element that we really have no control over. We still have a few shared national credit participation loans on our books, and it may surprise us in the third quarter, although we hope not. In any event, if it negatively surprises us, I still expect our total loan loss provision this year will be much, much milder than the previous year. Also, we may even be pleasantly surprised with the recovery of some of the loan losses that were previously charged off. On the OREO side, I hope the future valuation adjustment will not be as severe as this quarter, although I can never be sure about the direction of appraisal reports. For instance, the March quarter’s valuation adjustment of $2.1 million, of $2.7 million total, is related to only one loan, for which the appraiser heavily relied on upon one comp that was an FDIC loss-sharing asset sale. However, as of March 31, we only have four pieces of property with appraisal reports that are older than three months, but less than six months old. So we hope, and we think, we’re pretty much up to date with that. On the business side, we booked roughly $70 million in new loans in the first quarter, but that was not enough because some of the [inaudible] outstanding, but that was not enough to offset the payoffs, paydowns, and the sale of the loans. So we had a net reduction in the first quarter of our loan portfolio. Looking forward, based on today’s pipeline, I’m projecting new loan originations of $70-85 million in the second quarter, which means we should have an increase in the new loan portfolio by June 30. The majority of new loans booked are C&I loans, and owner-occupied CIE loans. Thank you very much and now we’re ready for your questions.

[Operator:]

Thank you sir. [Operator instructions.] And our first question comes from the line of Aaron Deer with Sandler O’Neill & Partners. Please go ahead.

[Andrew:]

Hey guys. This is actually Andrew on for Aaron today. Good to see the profit in the quarter. Just curious, looked like land loans were up a little bit. Just kind of curious what drove that.

[Li Yu:]

Louie, you want to answer that?

[Louie Couto:]

That was actually a long-time customer that we had some remaining dispersed that was secured by land. It was actually about $500,000. It was not a major increase.

[Andrew:]

Okay, gotcha. And then what drove the decline in professional services fees and is this a good run rate going forward?

[Ed Czajka:]

Well, it’s interesting. At the end of the year we had a certain amount set aside in accrued liabilities for audit fees and other professional services. We had anticipated a much higher level of expense on through the first quarter related to the year-end audit. That amount of expense was never incurred, so we got to reverse some of those accrued liabilities out. I would not take that as a run rate going forward. I would take it somewhere between Q4 of 2010 and Q1 of 2011, somewhere in there in terms of the average for professional services is going to be a good run rate for the next few quarters.

[Andrew:]

Great. So that’s what line in the press release was. Thanks so much.

[Operator:]

Thank you. Our next question comes from the line of Julianna Balicka with KBW. Please go ahead.

[Julianna Balicka:]

I have a couple questions. One, in terms of your loan portfolio you mentioned $70-80 million of originations that you are anticipating for the second quarter. In terms of your loan portfolio of $886 million, what is the typical paydown, runoff rate, renewal rate excluding any non-performing asset-related movement?

[Li Yu:]

We are anticipating, including the non-performing assets movement, a reduction of about $40 million for the second quarter. But we think that the new bookings will be about $70-80 million so we should gain a little bit. Not all the $70-80 million will be outstanding at quarter-end.

[Julianna Balicka:]

They’ll be more like commitments?

[Li Yu:]

Yes.

[Julianna Balicka:]

And are you seeing any increased drawdowns from borrowers? Any increased optimism?

[Li Yu:]

At this point in time we are not seeing much increased drawdown.

[Julianna Balicka:]

And what’s the current rate you have on utilization on C&I?

[Ed Czajka:]

At this point, still hovering a little over 50%.

[Julianna Balicka:]

That’s pretty good actually. And final question I have and I’ll step back. In terms of your deposits, what is the dollar amount of brokered deposits that you have if any, and what is the dollar amount of the internet sourced deposits?

[Ed Czajka:]

As of the end of March, we had about $40 million in brokered outstanding. I believe we had about $120 million in the internet deposits, and of that $40 million in brokered about $25 million matures actually before the end of April. So we’ll have about $15 million left after that.

[Julianna Balicka:]

And what about the $120 million? Do they have a maturity?

[Ed Czajka:]

That’s all spread out throughout the course of 2011 and on into 2012.

[Operator:]

Thank you. Our next question comes from the line of Joe Gladue with B. Riley. Please go ahead.

[Joe Gladue:]

I guess I’d like to follow up on Julianna’s question on deposits. Just wondering about the decline in non-interest-bearing deposits. A noticeable decline during the quarter. Was there any specific thing driving that?

[Li Yu:]

I have been asking the question among our branches and our production staff and so on. The best answer I have is other than one customer leaving us – about $2-3 million that was related to loans. The best answer that I can get is a combination of A) are you paying taxes? Many companies are paying taxes before April 1, and some of the individuals are paying taxes. And B), it seems to be especially among the Chinese people. There is a sport going on of buying distressed assets. They like to buy real estate, and a lot of money is being spent on buying real estate. And if you notice, there is a notable increase. It more than offset the decrease in non-interest-bearing. The interest-bearing core comps is actually increasing.

[Joe Gladue:]

Just continuing further on the funding costs and net interest margin line. Obviously you talked about the maturity of the brokered CDs, but any other opportunities for reducing the funding costs over the next few quarters?

[Ed Czajka:]

Well, in terms of funding costs, Joe, there’s not going to be a tremendous amount of change. There will be a little bit of a dip as we pay off some of these brokered and some of the internet CDs mature. The other thing that happened during the quarter is we did run a promotion back in the fourth quarter of 2009 and a lot of those CDs matured during this quarter and that’s why you saw some of the reduction in overall CDs as well as we had some brokered mature during the first quarter. So that has helped. The other thing in terms of the margin going forward, obviously we benefitted from the fact that there were almost zero new nonaccrual loasn for the quarter. So the reversals of interest income were not there as they have been in past quarters, specifically in the fourth quarter of 2010. That impacted us by almost 100 basis points on the yield side. So absent that, and obviously going forward hopefully absent that type of extraordinary item, I would expect the yield on the asset side to stay relatively stable. I do want to note that we were aided in the first quarter by a recovery of interest of about $260,000 on a loan that had previously been on nonaccrual that paid off and we got the interest reversed. We got that back as well, so we were aided by $260,000. That benefitted the margin in Q1 by about 10 basis points. So on a normalized it would have been about $363[,000]. So going forward I would look for very slight margin expansion, the majority of which is coming from small reductions on the funding side.

[Joe Gladue:]

And just curious on the performing TDRs. Looks like there was a nice decrease from the fourth quarter. Was all of that due to paydowns? Or did anything slide into nonaccruing?

[Louie Couto:]

None of those slid into nonaccruing. In fact, all the performing TDRs as of year-end are either still performing and perhaps at this point they’re at a market yield and they’re no longer reported as a TDR.

[Operator:]

Thank you. Our next question comes from the line of Joe Stieven with Stieven Capital. Please go ahead.

[Joe Stieven:]

First of all, congrats on getting things back on track. A number of my questions have been already asked and answered, but if you could go back to the NPAs for a little bit, we saw some nice reductions in the OREOs, but I think as you said the NPLs, the nonperforming loans, didn’t do much. And you still have a good balance of those performing. When do you think you’ll start to see those nose over and start making some significant improvements as far as coming off the balance sheet?

[Li Yu:]

That’s about the hardest question to answer. First of all, there are several reasons for those being placed on nonaccrual. One of the reasons is that when the loan is performing and when you have a company and people that seem to be capable of continuing to perform, but the valuation seems to be lower - current market value based on appraisal reports seems to be lower than the loan, so they are put on nonperforming status. I guess some day in the future when the valuation comes back, that creates a base for us to consider it to put it on accrual, and that’s one case. The other case is that when you have some loans where the valuation is good, the loan is well-protected by collateral, but for some reason we have doubts about its sponsors’ ability to continue to pay the loan based on their so-called global cash flow. Well, these people’s global cash flow was showing a marked improvement. I guess that gives us reason to establish the fact we can put it back on accrual, but all of this, based on future events and based on outside our control events, and we don’t know where. We just don’t want to be criticized if we put it back on accrual. As a shareholder – and I’m always looking for a silver lining, maybe I’m just fooling myself - whatever interest we collect today becomes the profit of tomorrow.

[Joe Stieven:]

That’s correct. Okay. And then just on the OREO side, you already say you’ve got a $2.4 million transaction scheduled to close in April. Do you have any other big pieces in there that are looking like you’re getting close to some type of resolution?

[Li Yu:]

We have two pieces currently in contract, in escrow. Sometimes that doesn’t necessarily mean that it will close. Past experience indicates a lot of drop off from time to time. They renegotiate and so on. But we do have a couple of pieces that are right at the value that we’re carrying. Otherwise we would adjust downward. And then one piece is much higher than the value we’re carrying.

[Joe Stieven:]

And approximately what size are they both?

[Louie Couto:]

Each one of those is slightly in excess of $5 million.

[Joe Stieven:]

So that’s in total $10 million. That’s a decent amount.

[Louie Couto:]

And to add some color, your question was about of the $100 million we have on nonaccrual loans, about half is performing. The other half is not. And Mr. Yu touched on some of the difficulties of restoring those to accrual status. Of the ones that are not performing, the majority of those – as I think we outlined in our press release, we are either in forbearance or have receivers in those projects, and we do anticipate movement on that portion of the NPLs in the next couple of quarters.

[Joe Stieven:]

And how much is that approximately, in total?

[Louie Couto:]

Of the $52 million that is actually nonperforming, there’s about $26 million we have forbearances on where the projects are about ready to start moving, and there’s another $16 million either in receivership and or we are in the process of foreclosing. And so both of those buckets we anticipate movement in the next couple quarters.

[Joe Stieven:]

I am going to put you on the spot. So if you look at your total buckets, of all your nonperforming loans and OREO, which total about $140 million, it sounds like you feel pretty firm that the directionality of that continuing to come down. It’s hard to say the exact pace, but let’s just say at a pace something like you saw in the first quarter. Is that probably a reasonable thing for us to be estimating?

[Li Yu:]

It is my personal desire – again, as I said some things are not predictable. My preference to myself is that I want to reduce it much more in each quarter as compared to the first quarter.

[Joe Stieven:]

Good. We’d be happy with that too. [Laughter.]

[Li Yu:]

I’m in the same boat as you are, because I need to see my stock up.

[Operator:]

Thank you. [Operator instructions.] And our next question comes from the line of John Deysher with Pinnacle. Please go ahead.

[John Deysher:]

Just a followup question on the NPA migration chart. What was the nature of the additions to the nonaccrual status? I think there was about $10.6 million. What types of loans were those?

[Louie Couto:]

It was a combination. The largest, about $5.5 million, was housing for sale. There was about $1 million. It was a further advance on a construction loan where we’re advancing to complete construction. And about $4 million or so was actually CRE loans.

[John Deysher:]

And the first one, the $5.5 million, I didn’t quite catch that. That was housing?

[Louie Couto:]

It’s housing. It’s completed housing ready for sale. And in fact, on that one we actually have a December appraisal at $6.9 million.

[John Deysher:]

That’s single-family residences?

[Louie Couto:]

That’s correct.

[John Deysher:]

Do you expect it to continue? Is that kind of a normalized rate you would expect going forward?

[Louie Couto:]

It’s hard to say anything is normal in this market, but I wouldn’t necessarily believe that it would be that high.

[John Deysher:]

And I guess the other question is on the taxes. Is that $325,000 tax bill a one-off situation? What should we assume taxes are going to be for the balance of the year?

[Ed Czajka:]

Well, it’s tough to predict right now. As we indicated in the press release it’s at $325,000 – actually most of the $325,000 is related to AMT for the loss carryback that went from 2010 back to 2008. It was discovered basically in early April of this year, that’s why it was not a year-end issue for last year. Our tax people didn’t get it. Going forward, we don’t anticipate a lot of tax expense if at all, but there’s some trickiness here with regard to Section 382 and the change of control that we went through back in 2010 because of the large amount of stock offerings. So we have a limitation as to how much we have to carry back each year. We’re actually kind of working through that right now and it really depends on the nature of our pretax earnings and it depends on the nature of our taxable income or taxable loss. For instance, if we have pretax earnings – say like this quarter we have pretax earnings of a million bucks, but we had a taxable loss because there were loans charged off that were losses on sale of previously provided, on OREO where we had previously provided valuation allowances on. So that essentially is a taxable loss. On the surface of it, that looks like there would be no tax liability incurred. However, we are limited by how much of that taxable loss we get to use going forward. I know that’s a long answer, and it really didn’t give you much, but we’re trying to work through that. But I would not expect much in the way of accrued tax liability for 2011.

[John Deysher:]

Okay, so it should be fairly minimal, certainly not at statutory rates.

[Ed Czajka:]

Yes. That’s correct.

[Operator:]

Thank you. And at this time there are no further questions. I’d like to turn the call back over to management for any closing comments.

[Li Yu:]

Well, thank you very much. We’re encouraged by this quarter, and we’re encouraged by the overall condition of the bank. And we hope that we can continue our work in the liquidation of the troubled assets area. And with that we certainly expect all areas of our operation will further improve. Thank you very much.