Hope Bancorp (NASDAQ:HOPE) Q2 2020 Earnings Call

0:00 Good day and welcome to HOPE Bancorp's 2020 second quarter earnings conference call. All participants will be in listen-only mode. Should you need assistance, please signal a conference specialist by pressing star then zero on your telephone keypad. After today's presentation, there will be an opportunity to ask questions. To ask a question, you may press star then one on your telephone keypad. To withdraw your question, please press star then two. 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.

0:41 Thank you, Andrew. Good morning, everyone, and thank you for joining us for the Hope Bancorp 2020 Second 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 through the webcast, you should be able to view the slides from your computer screen as we progress through the presentation. Beginning on slide two, I'd like to begin with a 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.

1:32 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 U.S. 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.

2:27 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 quarterly report of Form 10-Q for the quarter ended June 30, 2020 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 2020 second 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 Kemp, Hope Bancorp's Chairman, President, and CEO, and Alex Koh, our Executive Vice President and Chief Financial Officer.

3:22 Chief Credit Officer Peter Koh is also here with us today. and will be available for the Q&A session. With that, let me turn the call over to Kevin Kim. Kevin?

3:33 Thank you, Angie. Good morning, everyone, and thank you for joining us today. Let's begin with slide three with a brief overview of our financial results. We executed well despite the continuing challenges presented by the COVID-19 pandemic and delivered a solid quarter of earnings We generated net income of $26.8 million, or 22 cents per diluted share in the second quarter, up from $26 million, or 21 cents per diluted share in the preceding first quarter. To some extent, the environment created by the pandemic has accelerated our progress on a number of the longer-term strategic initiatives that we have in place to enhance our profitability and franchise value. First, we are more effectively leveraging our cost structure.

4:34 With the solid balance sheet growth we were able to generate while maintaining disciplined expense control, our non-interest expense to average assets ratio improved to 1.60% in the second quarter from 1.87% in the preceding first quarter. Next, during the second quarter, we made significant progress with our deposit initiatives and had very strong inflows of core deposits, which has enabled us to continue improving our deposit mix. Our total deposits increased 10% from the end of the prior quarter, with the vast majority of that growth coming in non-interest-bearing deposits.

5:21 As a result, non-interest-bearing deposits increased to 28.6% of total deposits on June 30, up from 24.7% a year earlier. Over the same time period, our time deposits have decreased from 46.7% to 35.1% of total deposits. The improved deposit mix combined with our ability to pass through rate cuts to our deposit customers helped to reduce our cost of deposits to 87 basis points in the second quarter, a decline of 47 basis points from the preceding quarter. Moving on to slide four, we had a strong quarter of business development with total loans increasing at an annualized rate of approximately 9%.

6:16 We originated $832 million in new loans in the second quarter, which was 33% higher than the preceding first quarter and 65% higher than the same quarter in 2019. $480 million of our loan production was attributable to the PPP program. The remaining $352 million of loan production came from our traditional business development efforts. Excluding the PPP loans, we had $216 million in commercial real estate loan production, nearly $62 million of CNI loan production, and $74 million of consumer loan production, primarily consisting of residential mortgages.

7:06 With our concentrated efforts to process PPP loans during the quarter, We had just a small amount of traditional SBA originations this quarter, approximately $6 million. Moving on to slide five, I would like to share some additional information about the PPP loans that we originated in the second quarter. Excluding approximately $6 million of PPP loans that were paid off within 21 days of funding, we had a net for which we expect to earn, in aggregate, $18.7 million in lenders' fees. As shown on this slide, the vast majority of the PPP loans that we process were in amounts less than $350,000 and earning a 5% fee.

8:02 Looking at the number of PPP applications processed, you can see that 96% of PPP applications percent of these loans were under $350,000, underscoring Bancorp's continued leadership position for the small business customers. While the vast majority of the PPP loans process were for existing customers, we added 246 new customers that we hope to grow into larger relationships in the future. Now moving on to slide six. Let me discuss the loan modification program we implemented to help our borrowers manage through the impact of the pandemic. At June 30th, we had approximately $3.1 billion in loan modifications granted, accounting for 24.2% of our total loan portfolio.

8:58 The majority of the modifications are payment deferrals related to our CRE portfolio, with just $151 million for CNI loans and $147 million in consumer loans, which largely represents residential mortgage loans. In terms of timing, you can see in the chart at the bottom of the slide that the peak of our modifications was from mid-April to mid-May, and these modifications have fallen off significantly since then. As you can see in the pie chart, The vast majority of our loan deferrals or more than 95% of loans modified were for a short duration of 90 days or less.

9:45 We are now in the process of having discussions with these borrowers to determine their need, if any, for additional deferral support. We have been proactively reaching out to our customers throughout this pandemic crisis. While it is still too early to project with a high degree of accuracy due to the fluid situation. Based on our discussions to date, we currently expect approximately 60% plus or minus of our commercial borrowers will request a second deferral. For those borrowers that will consider a second round of modification support, we will be requesting on a best effort basis Concessions in the form of additional collateral, payment reserves, or some other type of credit enhancement like additional guarantees.

10:43 Moving on to slide seven. The hospitality sector is clearly one of the industries that have been most heavily impacted by the pandemic. As such, we would anticipate the majority of our business customers requesting a second round of modifications will be from our hotel and motel borrowers. However, as previously noted, our hotel-motel portfolio is largely composed of limited service facilities, and these properties have been much less impacted by the lockdown than the destination full-service hotel properties. We believe the rebound for these properties will be felt much sooner than the other type and other property types in the hospitality sector. It is also a positive factor that 73% of our portfolio is represented by flagged properties and 93% of our hotel-motel exposure is located in major MSAs in which we operate.

11:51 On another positive note, we are pleased to see that month-to-month occupancy trends have stabilized for a number of our larger hotel operators, and they have been able to operate at or near break even during the month of June. We also have some hotel borrowers who have already indicated they will not require a second deferral. Even though occupancy trends are down year over year, they have other sources of income or liquidity that will enable them to resume servicing their debt as agreed upon. That said, The duration of the pandemic and the impact it is having on customer behavior and the economy have been longer lasting than any of us would like.

12:38 As a result, we expect the majority of our hotel-motel borrowers may need some additional support by way of payment relief until their cash flows further improve. Over the last quarter, we have undertaken a very comprehensive review We analyzed each credit and placed them into one of the three categories, low, medium, or high, in terms of how long we believe it will take the property to stabilize and return to a more normalized level of occupancy and cash flow. This review took into account factors such as the location, the type of hotel, The customer base and current operating trends were available.

13:28 Based on this review, approximately 75% of our hotel loans were placed in the low or medium categories. The remaining 25% that were placed in the high category include properties such as airport hotels, where we expect occupancy rates to lack a general economic recovery given our assumption that Business Travel will remain muted for an extended period of time. However, when factoring in the low LTV and guarantor support on these loans, we believe should this scenario of an extended recovery period play out, any potential losses to be experienced on these loans will be manageable.

14:16 With regard to our retail portfolio, the majority of this is represented by street mall types of properties, Many of larger properties of which are anchored by grocery markets. And as we have noted before, the tenants of our retail CRA properties are largely service-oriented businesses. As most cities and states across the country are in various phases of reopening, many of these tenants are operating at some degree of limited service, observing social distancing requirements. As such, our retail property owners, by and large, are beginning to receive some level of rent payments from their tenants, and thus, we are beginning to see some stability for these borrowers.

15:02 Based on our discussion to date with our retail CRE customers, we currently anticipate that a fair number of these borrowers will also need an additional round of deferrals but not to the same extent of our hotel-motel operators. Underscoring the impact of the COVID-19, we have further increased our coverage ratio as of June 30 of 2020 for these two segments of our portfolio. For hotel-motel properties, the coverage ratio increased to 1.23% from 1.04% as of March 31 of 2020. Excluding impact of purchase accounting discount, the coverage would be 1.41% for our hotel-motel portfolio.

15:54 For retail CRA properties, the coverage ratio increased to 1.46% from 1.15% as of March 31 of 2020. And excluding the impact of purchase accounting discount, the coverage ratio would be 1.6% for our retail CRA portfolio. Now, I will ask Alex to provide additional details on our financial performance for the second quarter. Alex?

16:22 Thank you, Kevin. Beginning with slide 8, I will start with our net interest income, which totaled $109.8 million. This compares with $119.3 million in the preceding first quarter. which included $5.6 million in purchase accounting discount accretion due to a large payoff of an acquired loan. While we had an increase in average loans and earnings assets, this was more than offset by a decline in our net interest margin. Our net interest margin declined by 52 basis points to 2.79%.

17:10 On a core basis, excluding purchase accounting adjustment, our net interest margin declined by 33 basis points. Our core margin was largely impacted by our temporary increase in excess liquidity, which we expect to reduce and deploy in the second half of 2020. Without the increase in excess liquidity in the second quarter, Our core margin would have declined by approximately 11 basis points for the second quarter. The compression in our net interest margin was largely attributable to a significant decline in our average loan yield due to the repricing of our variable rate loans following the 150 basis point reduction in rates in March.

18:10 In addition, our interest earning assets included a significantly higher balance of lower yielding assets due to the excess liquidity that was built up when the pandemic crisis emerged. Together with a strong growth in core deposits throughout the quarter, the excess liquidity had an adverse impact to our net interest margin. These factors were partially offset by a 59 basis point decline in our cost of interest bearing deposits, reflecting rate reductions in our money market accounts and time deposits.

18:57 Together with a $1 billion increase in non-interest bearing deposits, our total cost of deposits declined 47 basis point from the prior quarter to 87 basis points. On an accounting note, we are amortizing the fees earned on PPP loans over a 24-month expected life of these loans. In the second quarter of 2020, we recognized $2.57 million in PPP loan fees, and we would expect this amount to increase in the third quarter with a full quarter's contribution from our PPP loans.

19:45 We believe the second quarter represents the growth in our net interest margin, and we expect to see some expansion in the second half of 2020 due to the following factors. First, Given that we already had a full quarter's impact from the rate reduction since March, we should see relative stability in loan yields going forward, which should support growth in our interest income. Second, we have additional opportunities to pass through lower rates on our deposits as our CDs are maturing at much higher rates So we expect to have continued reduction in deposit costs, which will help contain our interest expense.

20:44 And finally, we have built up significant excess liquidity that we plan to redeploy into higher yielding earning assets and reduce higher costing deposits in the second half of the year. The magnitude and timing of the deployment of our excess liquidity will certainly be an important factor in the movement of our net interest margin. But we are currently expecting our net interest margin will expand throughout the second half of 2020 in excess of 3% by end of the fourth quarter. Now moving on to slide nine.

21:31 Our non-interest income was $11.2 million for the 2020 second quarter, a decrease of 15% from the preceding first quarter. The decrease was largely due to the impact of COVID-19 lockdowns, which resulted in a significant reduction in business activity and account transactions. As such, we had a decline in Deposit service charges reflecting reduced non-sufficient fund and analysis fees, as well as lower international service and wire transfer fees. These reductions were partially offset by higher loan servicing fees quarter over quarter.

22:23 Moving on to non-interest expenses on slide 10. Our non-interest expense was $67 million, a decline of 7% from the preceding first quarter. In terms of significant variances, our salaries and employee benefit expenses declined by $3.7 million. This was primarily due to a significant increase in the number of loan transactions processed during the quarter as a result of SBA PPP program. The other major factor contributing to lower non-interest expense was a reduction in our professional fees, which declined by $1.8 million, or 54% quarter over quarter.

23:18 I will note that this is the second consecutive quarter with a considerable reduction in professional fees. In the preceding first quarter, professional fees were down quarter over quarter by 45%. During the pandemic, we have further tightened up discretionary spending across our organization, which resulted in decline across most expense line items, including advertising and marketing expenses. As the pandemic has continued and now expect to be part of the new normal for some time, we have evaluated our staffing needs in light of the changes in our operation due to COVID-19.

24:12 We are taking the perspective that this is an opportunity to more efficiently utilize our personnel. As a result, Earlier in the third quarter, the company affected a 4% workforce reduction in light of the impact the COVID-19 pandemic is having on the economy and business environment. This will reduce our salary and benefit expenses by more than $1.5 million per quarter, beginning with the third quarter. I will just note that We have recorded a full amount of severance expenses related to this staff reduction of $780,000 in our compensation expense in the second quarter of 2020.

25:09 Our effective tax rate for the quarter was 26.8%, an increase from 19.9% in the prior quarter due to our higher level of projected Pre-tax income compared with the projection from the prior quarter. For the remainder of the year, we are projecting an effective tax rate of approximately 23.5%. Now, moving on to slide 11, I will discuss some of our key deposit trends. Our total deposits increased by 10% From the end of the prior quarter to a record $14.1 billion, we saw the strongest growth in non-interest-bearing deposits, which increased by approximately $1 billion, or 34%, from the end of the prior quarter.

26:14 Approximately $326 million of the increase was attributable to PPP-related deposits, while the rest largely reflect our commercial customers building up liquidity. This strong quarter-over-quarter increase in non-interest-bearing deposits contributed to the considerable reduction in our deposit costs in the second quarter. If you recall, our cost of deposits picked In the third quarter of 2019, before beginning a month-by-month declining trend to its lowest level in the years.

27:02 In the current third quarter, we have $1.6 billion of CDs maturing at an average blended rate of 1.81%. So we are looking forward to having Another quarter of meaningful reductions in our cost of deposits. Now, moving on to slide 12, I will review our asset quality. Due to our ability to work with our COVID-19 impacted borrowers under the CARES Act, despite the significant stress on the economy during the second quarter, we had relatively modest increases in delinquent loans Our loss experience, however, continued to be minimal, with net charge-offs representing just two basis points of average loans in the quarter.

28:06 Now, moving on to slide 13, we recorded a provision for credit losses of $17.5 million in the quarter. which increased our allowance for credit losses after net charge-off by $16.9 million to $161.8 million as of June 30, 2020. The provision for the second quarter reflects declines in the macroeconomic factors, enhanced qualitative factors including additional reserve on top of that for our hotel motel properties and an additional management overlay for all COVID-19 modified loans.

28:58 Our allowance for credit losses increased to $161.8 million as of June 30, 2020 from $144.9 million at the end of the first quarter. Moving on to slide 14. As a percentage of total loans, our allowances for credit losses increased to 1.26% at June 30 from 1.15% at March 31. When purchase accounting discounts are included, our coverage ratio increases to 1.54% of total loans or 1.6% of total loans If you also exclude PPP loans.

29:53 As a side note, our PPP loans are included in our CNI portfolio. Now, moving on to slide 15. Let me provide an overview of our liquidity and capital position. We entered the COVID-19 pandemic from a strong position, and this was further strengthened with a strong buildup in liquidity during the quarter. The $1 billion increase in non-interest bearing demand deposits was a major factor contributing to the reduction in our deposit costs and certainly supported our liquidity needs during this volatile and uncertain pandemic crisis.

30:43 Looking at our overall liquidity position, It remains very strong as of June 30, 2020, and our primary sources funds continue to be customer deposits. We also continue to maintain a robust capital position with our total risk-based capital ratio, Tier 1 common equity ratio, and Tier 1 capital ratios all strengthening from March 31, 2020. We also continue to grow equity with our book value per share and tangible common equity per share, increasing quarter over quarter by 1% and year over year by 5%.

31:35 As of June 30, 2020, we maintained a meaningful cushion of excess capital above the minimum amount required to be considered well capitalized. We had a minimum 3.23% in cushion or $433 million in excess capital before any of our capital ratio reaches the well-capitalized threshold. Finally, I would like to note that we have completed our quarterly goodwill impairment analysis. which took into account the recent decline in our bank valuations in a prolonged COVID-19 pandemic and determined that loan payment has occurred.

32:26 With that, let me turn the call back to Kevin.

32:30 Thank you, Alex. Let's move on to slide 16. As we move into the second half of the year, we continue to deal with a great deal of uncertainty regarding the length and impact of the current crisis. Given the impact COVID-19 is having on the hospitality and retail sectors in particular, we are not currently pursuing new loans in these areas. And while this has had an impact on our loan pipeline, we are budgeting for meaningful loan growth for the full year, driven by higher levels of business activity by our corporate banking Warehouse Line, and Residential Mortgage Teams. In addition to relatively healthy loan growth, we anticipate that a number of other factors will contribute to improved performance in the second half of the year.

33:24 First, as Alex mentioned, we believe we should see expansion in our net interest margin due to stabilization in our loan yields, continued reduction in our deposit costs, and deployment of our access liquidity. Second, we continue to see strong demand for refinancing in our residential mortgage origination business, which should lead to higher levels of production and gain on sale. And finally, we will continue to look out for opportunities to make adjustments in our overall cost structure to reflect the new environment we are operating in. Alex mentioned The recent staff reductions we made will save approximately $1.5 million per quarter and optimizing our use of human resources is an ongoing initiative that could result in additional cost savings in the future.

34:23 Over the longer term, the changes we are seeing in customer behavior, particularly related to the use of our digital banking platform during the pandemic will certainly create additional opportunities for us to evaluate and optimize our branch footprint. While the crisis continues, we will remain conservative in our operating philosophies, maintaining a strong capital position, growing core deposits, staying disciplined in our expense control and building our credit loss reserve. We believe this will enable us to continue supporting our customers and communities while delivering solid performance for our shareholders.

35:08 As we have been communicating to our customers and communities throughout the pandemic, with hope we will get through this together. Now, we would be happy to take your questions and add any additional color as requested. Operator, please open up the call. We will now begin the question and answer session. To ask a question, you may press star then 1 on your telephone keypad. If you are using a speakerphone, please pick up your handset before pressing the keys. If at any time your question has been addressed and you would like to withdraw your question, please press star then 2. At this time, we will pause momentarily to assemble our roster.

35:56 First question comes from Matthew Clark of Piper Sandler. Please go ahead.

36:02 Good morning. Good morning. In the press release, you mentioned additional initiatives in light of the new normal design to restructure our balance sheet. Can you just provide some more color on how you plan to restructure the balance sheet from here?

36:23 Sure, Matthew. Definitely management believes balance sheet restructuring is one of the key to effectively deal with this very challenging environment. Let me start with our liquidity buildup during the quarter. We have about $1 billion of non-interest bearing deposits and partially about $350 million is coming from PPP loan deposits, but the access like 700 million plus is coming from non interest bearing deposits from the customers. And we believe this really strengthening our balance position. Because if you recall, we had like 99% of a loan to deposit ratio.

37:18 And the funding side, we had a quite expensive funding We have had, but it was really management's real big focus is to stabilize the funding side, and we were able to achieve those low-cost funding sides, which, again, enables us to kind of use effectively for our operating efficiencies. So with those good funding sources, our kind of strategy to The asset side is more fee income driven, as well as dealing with, again, this very compressed interest rate environment. But certain products, such as warehouse businesses and also some mortgage businesses, given this rate environment, it is very attractive, especially for the warehouse businesses.

38:15 The credit cost we have seen is very, very minimum. and fee incomes we can also recognize from there. So the asset side, those are the areas obviously we will continue to look for the industry very close to specialize and maximize our earning asset opportunities. And also, as we discussed during the prepared remarks and earlier discussion, expense control. We have made a quite good strategy implemented already, and we see the reduction started. But I think this will continue going forward.

39:04 Examples of those expense controls, obviously effective utilization of H.R. General Resources, which we already said is $1.5 million per quarter savings, but we will continue to do that. And also, we learned good lessons from the office space and the optimization opportunities. We are re-evaluating the office spaces or occupancy expenses. I think we can get some It might take a little bit of time. I don't expect we have a big dollar amount of savings from the occupants next quarter or two, but that's more longer. But certainly we think that will be coming in terms of expense savings. And also branch consolidations, optimizing the branch locations and kind of a recently The technology-driven businesses convinced us that we can have much more effective branch consolidation, which will save our expenses.

40:17 So those are the kind of high-level basis of our balance sheet and expense saving strategy. This will continue. And this will be our top priority to make sure we deliver the financial result and our optimal level in this very challenging environment.

40:40 Okay, great. And then the new loan origination rate was 339. I think that includes PPP, though. Do you have that rate X PPP? And then you suggest loan yields being flat from here? I think the core loan yield was 421 X PPP. I'm just trying to make sure we're on the same page in terms of flat loan yields and where the new business came on on a core basis.

41:15 Yes. Given this PPP, contractual coupon rate is 1%, but we have loan fees or lender fee because our majority of those PPP loans are under $350,000. at a rate of 5% we can earn. So reflecting those amortization of those lender fee, the effective interest rate for those PPP was about 3.4%. So it's not that different from what we originated all the loans, including PPP. So I think it's in the neighborhood of 3.4% as well for the new originations, including PPP.

42:03 and just separate the PPP, it's a 3.39 or 3.4%. And also, total loan yield, the actual loan yield, we had a 4.23%, but without the PPP, it's a very minor changes. It's a 4.25%, so only two basis point differences.

42:24 Okay. I guess what I'm getting at is, you know, how are loan yields going to stay flat if you're putting on new production at 340?

42:33 Matthew, keep in mind that during the second quarter, we had a very low level of SBA loan productions because our resources were tied to the PPP activities. In the second half of the year, we expect a robust production from the SBA unit. The SBA rates are much more lucrative than the other type of loans. And I think that will make some difference in the second half also.

43:06 Okay. And then just circling back to the excess liquidity, the strong non-interest-bearing deposit growth, excluding the PPP, that's $650 million or so. I guess, what's your sense that All of that sticks, just given that people were able to pay their taxes July 15th, and obviously there's some stimulus money in there that's likely to get spent. I guess, how much of that do you actually think is going to stick?

43:40 Sure. I think it's really difficult to have a real accurate expectation, because there's so many moving parts. As you mentioned, the forgiveness of those periods, and also The depositors, their own liquidity built up or their operating philosophy or their expectation. However, I also wanted to talk about non-PPP deposits that we gathered. I know you asked about 350 million of the PPP specifically. Maybe that, given the kind of expense qualified expense period extended from to 8 to 24 weeks. So just considering 24 weeks, maybe majority of that in the 350 can be draw down or utilized during the Q4.

44:39 That would be our expectation. But the remaining 650, actually it's a little bit more than $650 million that we expect to stay much longer period. When we look at the actual composition of this $1 billion DDA increases, we saw about 800 new customers who never had a business with us, but they started to business with us. So we believe that as a 9-inch bearing deposit, new customers in this environment are very important. So we will try to serve them and retain them as much as we can. So I would expect that the remaining $650 or $700 million, the attrition, if any, will be minimum.

45:30 And to support that, we have a look at the actual noninterest-bearing deposit balances subsequent to June 30. And as of actually last night, when I checked it, the balance was very stable. It didn't change. So one month, it didn't change at all. So we'll see. But I think this is really great for us to secure our funding at a very low cost, which is one of our key strategies to enhance our damages margin and the profitability going forward. Okay, thank you. The next question comes from Chris McGrady of KBW. Please go ahead.

46:15 Oh, good afternoon. Thanks for the question. Alex, I just want to go back to your understanding of I'm not sure if he can speak up. It's kind of breaking up, sir.

46:36 Is that better? Yes, thank you. Please go ahead. What's better, Chris?

46:44 Sorry about that. Is that better, Alex? Yes, yes. Okay, great. Sorry about that. I'm on a spell. The guidance on the margin and interest income. I think you said reported margin 3% by the end of the year. Is that correct? Is that inclusive of accretion and the PCP contribution?

47:04 Okay, Chris, I'm going to try and repeat your question because it was difficult to hear. He's asking about our NIF guidance reaching in excess of 3% and whether that includes accretion, the purchase discount.

47:21 Yes, to answer your question, Chris, yes, it does include. But I think the core margin is more important. And as you know, we have a Christian income. And last quarter in Q1, we have a Christian income like more than $5 million, which kind of overstated in Q1. One, but it does actually have an impact in the second quarter. Looks like a much bigger margin compression. Actually, it did have an 18 basis point of accretion differences, which impacted negatively on net interest margin. So our projection for 3% or higher until the year end is just core net interest margin assuming the consistent accretion embedded there.

48:21 And I don't anticipate a big payoff or pay down or charge off on the purchase loan. So it will be stable. And that does include it in our 3% or higher our margin expectation.

48:44 That's helpful. Thank you. And in terms of just net interest income dollars, obviously appreciate all the moving parts of the balance sheet and liquidity. Should we expect stability in net interest income, growth in net interest income, modest pressure? I'm just trying to get a sense of where to start for the end of the year. Thanks.

49:06 Sure, net interest income, yeah, you know, as we discussed, you know, I don't anticipate and also I think as Pat said, you know, they would maintain the interest rate at this rate, you know, for like next year or like for the time being. And assuming there's no big interest rate, market interest changes, our loan yield, I don't think it will have significant changes, especially I don't think it will and many more. We have already 150 basis point rate reduction in full to our variable rate loans and it is very low loan we are earning already. But I think the deposit side is we have more flexibility or we can continue to better, meaning The CD that is maturing for Q3, as I said, like it's a 1.81%, but we can renew it in the neighborhood of 65 basis point. And also continuously we monitor our money market account and we reduce the rate. And I didn't see any real alarming negative reaction from our and many more depositors from the rate that we continue to lower.

50:38 So with that, I think net interest income, I don't think it will go back to like a year ago, the level given the rate environment, but the dollar amount of net interest income, I think it will be stabilized going forward. Okay, that's helpful.

50:56 And just to make sure I'm clear on the expenses. This quarter included a little over a $5 million benefit from the PPP originations. You have some severance costs in there as well, and then you announced a million and a half prospective savings. How do I think about all of this for expense levels in the back half of the year? Where should the run rate be? Sure.

51:25 The loan rate, I would expect it will increase from Q2. Reason, as you mentioned, we had a $5.2 million of PPP loan origination cost. I don't think we will have that repeated going forward. But those will be offset by our already executed HR optimization plan or $1.5 million savings. So those two will have, let's say, about $3.5 million increase compared to Q2 going forward. But as I said, expense control is management's top focuses that I mentioned, like branch rationalizations and continued professional fee reductions.

52:16 If you recall, as I said, we have We had quite elevated level of professional fees last year, but we have been continuously reducing it. And I think there's a further room for us to reduce a little bit. So with all those, I think about $70 million of a run rate. I feel comfortable to say that. And in terms of efficiency ratio, it will be in the neighborhood of, let's say, 55%. That interest expense over average asset ratio, it will be between like 1.65 or 1.6% ranges. Okay. That's great. Thank you for the question.

53:03 Again, if you have a question, please press star then 1. The next question comes from Gary Tenner of DA Davidson. Please go ahead.

53:12 Thanks. Good morning. Alex, I wonder if you have the average PPP loans outstanding for the quarter versus the 480 or 474 at quarter end.

53:25 Sure. We have a total origination balance is $474 million after $6 million paid off. The average balance for Q2 for PPP was about $343 million. Okay, thanks.

53:43 And then I just wanted to follow up in terms of your comments on the amount of deposit stickiness, which, you know, ex-PPP related deposits, you know, you feel pretty good about. When you talk about kind of, you know, using that excess liquidity, part of it maybe goes into loan growth, which, you know, you all seem positive on for the back half of the year. But any other plans in terms of the, you know, investment portfolio? Do you have any goals for how you'd like that balance to look towards the end of the year?

54:14 Yeah, sure. In terms of our investment portfolio in conjunction with our increased or excess liquidity, actually, second half, no, actually, two-thirds of the second quarter, we started to purchase investment security. So total, the amount of investment security that we purchased was in excess of $300 million. And the The yield is not that great, given, again, the interest rate environment. But I think we will utilize, because access liquidity deployment plan is very important. That does have a direct impact to our net interest income and margin.

54:59 And our priority is obviously higher earning assets, i.e., loan portfolio, which include warehouse and mortgage. And as Kevin mentioned, our SBA production for the second quarter was only $6 million, and I would expect the SBA production will pick up. So if we have the deployment of our access to the loan, again, that will be our priority, but I think having investment security purchase as a backup or alternative to use the access liquidity will continue to look for and continue to purchase the investment security.

55:48 Okay, and then just to go back to the expectations for meaningful loan growth, I think, as it was put in the slide deck, I assume that that is kind of on the base of loans at period end, excluding the PPP balances?

56:02 Is that fair? Yeah, that's fair. That's fair, and Year-over-year, we expect high single-digit or low double-digit growth.

56:17 Okay, thank you. And then last question for me, I think. You guys delayed the earnings release because of the kind of challenges of completing the goodwill impairment. So I just wonder if you could talk about that a little bit, given where the stock is trading at the deep discount, the tangible book, kind of how that process went. And obviously, you didn't appear in a good role this quarter. So any comments on that?

56:45 Sure. Let me start with what was the reason why we spent time. Actually, we were very cautious to make sure we do the right assessment. And we wanted to give our accountant enough time so that their actual national office signed off our management assessment. And the triggering event was, as you mentioned, our stock price where we are traded. Compared to even tangible book value, our trade value is much lower. So having that triggering event, we did have a robust analysis of our good rule impairment by looking at the income approaches. It's that kind of accounting terminology, actually valuation terminology, income approach versus fair market value approaches.

57:41 Fair market value approaches, that's kind of our traded stock value, which does seem to be much lower, which might lead to a good impairment. But actually, we look at our income approaches, which makes more sense. and this income approaches taking into the consideration of our future income going forward, you know, five years with more accurate projection, the growth rate, and then also after that terminal value we use. So long story short, based on our projected income discounted with, you know, right amount of discount rate, we concluded we have significant amount of cushion or The access fair value over book value. So we have a total of $465 million of goodwill, and a cushion that we come up with was about $700 million. So we believe that was good enough, but our auditor definitely needs to make sure. So we wanted to make sure everybody be comfortable with that.

58:56 So going forward, we will continue to have the assessment unless our stock price bounce back to the level that we want it to. But given the significant amount of access fair value over book value that we have determined as of June 30, going forward, we will continue to the assessment. But unless there is a really unexpected big changes of our expected earnings or something. I don't know. We'll assess again, but less likely that immediate quarters will have a different conclusion on our goodwill impairment.

59:43 Okay, that's great color, Alex. I appreciate it. And actually, if I could squeeze one last question in. Your dividend payer ratios around the 65% to 70% range based on the first half of the year earnings, What are the current thoughts, Kevin, in terms of the dividend payout?

1:00:04 We feel comfortable about the dividend payout ratio that we currently have. And our intention is to keep our quarterly dividend at current levels absent any material unexpected developments in the future. This is based upon our strong CAPR ratios. We feel very comfortable with our CAPR situation, including our T01 common equity ratio. And we regularly perform rigorous stress testing analysis on our capital situation. And based upon what we have so far, We expect and we intend to keep our quarterly dividend and current levels, but that is something that we have to assess every quarter, but that is currently what we have in mind.

1:01:06 All right, thanks again. Okay, thank you. Next question comes from David Feaster of Raymond James. Please go ahead. Hey, good morning, everybody. Happy Friday.

1:01:21 I just wanted to start out on the commentary about loan growth. I'm just curious, A, have you guys tightened the credit box at all with regards to new loans? And then, B, where are you seeing demand within that commercial segment? Where are you seeing demand and where are you interested in growing?

1:01:42 Well, as I mentioned in the prepared script, Our corporate banking group, our warehouse line business unit, and our mortgage unit. Those are the units that we expect to be most active in the second half of the year. In terms of the mortgage productions, we did not have a very productive first and second quarter. but I think that we have a very nice pipeline building up right now and the reason that the performance was not as good as we would like to see was because of some of our operations in the back office and I think we have resolved all the issues. So I think we can have a much better Mortgage Productions. And in addition, we are starting up a non-QM loan program, which we plan to retain on our portfolio.

1:02:51 So that will contribute to the loan growth. And as you can easily see, our corporate banking group and warehouse line business unit are the major units who will contribute to the growth.

1:03:12 Within there, have you tightened up underwriting standards at all or the credit box within the corporate banking space at all? Again, within corporate banking, where are you seeing demand? What segments and where are you interested in growing?

1:03:30 Actually, this is Peter. In terms of the credit box overall, we have tightened the credit box in areas that We see impact from the COVID pandemic. So obviously our CRE portfolio in various places like hotels and retail, definitely we have built a lot more buffer or actually done some moratoriums. In corporate banking, there are opportunities in that sector with basically maintaining the same credit box, we're finding good opportunities to grow, whether that is in Asset managers or capital call lines, telecom industries. We see various opportunities throughout that we see some pipeline, meaningful pipelines building.

1:04:19 Okay, that's helpful.

1:04:20 And then I guess just on the re-deferrals, appreciate all the commentary that you guys gave. Curious, as these re-deferrals start coming in, would you expect to see additional risk rating downgrades and reserve builds in the back half of the year? And maybe, I guess, just how do you think about the overall reserve and your comfort levels there?

1:04:44 Sure. You know, we feel comfortable with the level of reserves as we have assessed the portfolio very closely. I think we've done very deep dive assessments and particularly the higher risk areas such as the hotel and the retail as well as our C&I portfolio. So we feel comfortable where we are now. As we move forward, obviously there's a lot of uncertainties in the marketplace right now. So it really depends on the speed of the economic recovery, the success and speed of health vaccines, treatments for the coronavirus, a lot of variables in place. So unless we see further deterioration in the portfolio, right now these loans are basically put into a past-watch COVID-19 rated grade.

1:05:38 And so the impact on reserve levels are starting to build, as you have seen in the second quarter. As you move forward, we just have to see how fast the recovery pace is for our borrowers As we mentioned in our prepared remarks, as we assess the hotel portfolio, which is, I think everyone's looking at that as one of the higher exposures, really, as expected, what we're finding as we do an individual loan assessment is that these hotels are much more limited service, local or drive-to destination type of hotels. We have seen less of an impact. Obviously, there's been impact through the months of March and April through some of the artificial closures of the economy. But in the months of June and July, we look at both the metro regions, so we're looking at individual county hotel data that's coming out from industry reports, as well as comparing that to our actual portfolio performance and we're actually seeing hotel recoveries in our portfolio starting to definitely pick up and we actually have seen some hotels reach even break even points already. So we are monitoring this situation very closely. I think we'll continue to assess the risk ratings as we move forward as

1:07:12 we always do and We'll really have to kind of see how the recovery looks like.

1:07:20 Okay. That's terrific. And then just one more kind of a couple quick button-up ones. You have the levels of purchase accounting remaining on the books. Does that 3% margin target by the fourth quarter, is that inclusive of the PPP? And then maybe what are your expectations for the timing of PPP fees? Thanks.

1:07:44 Sure. Sure. So remaining, total $26 million remaining on the PCD discount we have. And as I kind of answered to Chris's question earlier, this accretion impact is reflected on the 3% or slightly higher net interest margin forecast by Q4. And this actually, as you know, the discount is continuously decreasing as we amortize or recognize as an interest income.

1:08:32 And then just the expectations for the timing of the PPP fees?

1:08:38 The amortization PPP fee.

1:08:41 Oh, sure, sure. Got it, got it, got it. I think we also mentioned during the script, we estimate over the next two years, 24 months, we will amortize over that period using straight line method. So including the loan fee and the loan cost, in terms of dollar amount, we recognize about $2.9 million in Q3 Going forward, it will be a little bit higher than Q2 compared to Q2. It will be about $3.9 million in Q3 we would recognize as income. That will, again, spread out the next 24 months. Okay. Thank you.

1:09:43 This concludes our question and answer session. I would like to turn the conference back over to management for any closing remarks.

1:09:50 Thank you. Once again, thank you all for joining us today. We hope every one of you stay safe and healthy, and we look forward to speaking with you again next quarter. So long, everyone. The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.