HANMI FINANCIAL CORPORATION The following is management's discussion and analysis of our results of operations and financial condition as of and for the three months endedMarch 31, 2023 . This analysis should be read in conjunction with our Annual Report on Form 10-K for the year endedDecember 31, 2022 (the "2022 Annual Report on Form 10-K") and with the unaudited consolidated financial statements and notes thereto set forth in this Quarterly Report on Form 10-Q for the period endedMarch 31, 2023 (this "Report").
Forward-Looking Statements
Some of the statements contained in this Report are forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended (the "Securities Act"), and Section 21E of the Securities Exchange Act of 1934, as amended (the "Exchange Act"). All statements in this Report other than statements of historical fact are "forward-looking statements" for purposes of federal and state securities laws, including, but not limited to, statements about anticipated future operating and financial performance, financial position and liquidity, business strategies, regulatory and competitive outlook, investment and expenditure plans, capital and financing needs and availability, plans and objectives of management for future operations, developments regarding our capital and strategic plans and other similar forecasts and statements of expectation and statements of assumptions underlying any of the foregoing. In some cases, you can identify forward-looking statements by terminology such as "may," "will," "should," "could," "expects," "plans," "intends," "anticipates," "believes," "estimates," "predicts," "potential," or "continue," or the negative of such terms and other comparable terminology. Although we believe that the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future results, levels of activity, performance or achievements. Forward-looking statements involve known and unknown risks, uncertainties and other factors that may cause our actual results, levels of activity, performance or achievements to differ from those expressed or implied by the forward-looking statements. These factors include the following: failure to maintain adequate levels of capital and liquidity to support our operations; the effect of potential future supervisory action against us orHanmi Bank ; the effect of our rating under the Community Reinvestment Act and our ability to address any issues raised in our regulatory exams; general economic and business conditions internationally, nationally and in those areas in which we operate; volatility and deterioration in the credit and equity markets; changes in consumer spending, borrowing and savings habits; availability of capital from private and government sources; demographic changes; competition for loans and deposits and failure to attract or retain loans and deposits; fluctuations in interest rates and a decline in the level of our interest rate spread; inflation; risks of natural disasters; the current or anticipated impact of military conflict, terrorism or other geopolitical events; a failure in or breach of our operational or security systems or infrastructure, including cyber-attacks; the failure to maintain current technologies; the inability to successfully implement future information technology enhancements; difficult business and economic conditions that can adversely affect our industry and business, including competition, fraudulent activity and negative publicity; risks associated withSmall Business Administration loans; failure to attract or retain key employees; our ability to access cost-effective funding; changes in liquidity, including the size and composition of our deposit portfolio, including the percentage of uninsured deposits in the portfolio; fluctuations in real estate values; changes in accounting policies and practices; the continuing impact of the COVID-19 pandemic on our business and results of operation; changes in governmental regulation, including, but not limited to, any increase inFederal Deposit Insurance Corporation insurance premiums; changes in the fiscal and monetary policies of theBoard of Governors of theFederal Reserve System ; the ability ofHanmi Bank to make distributions toHanmi Financial Corporation , which is restricted by certain factors, includingHanmi Bank's retained earnings, net income, prior distributions made, and certain other financial tests; the ability to identify a suitable strategic partner or to consummate a strategic transaction; the adequacy of our allowance for credit losses; our credit quality and the effect of credit quality on our credit losses expense and allowance for credit losses; changes in the financial performance and/or condition of our borrowers and the ability of our borrowers to perform under the terms of their loans and other terms of credit agreements; our ability to control expenses; changes in securities markets; and risks as it relates to cyber security against our information technology infrastructure and those of our third party providers and vendors. For additional information concerning risks we face, see "Part II, Item 1A. Risk Factors" in this Report and "Item 1A. Risk Factors" in Part I of the 2022 Annual Report on Form 10-K. We undertake no obligation to update these forward-looking statements to reflect events or circumstances that occur after the date on which such statements were made, except as required by law.
Critical Accounting Policies
We have established various accounting policies that govern the application of GAAP in the preparation of our financial statements. Our significant accounting policies are described in the Notes to the consolidated financial statements in our 2022 Annual Report on Form 10-K. We had no significant changes in our accounting policies since the filing of our 2022 Annual Report on Form 10-K.
Certain accounting policies require us to make significant estimates and assumptions that have a material impact on the carrying value of certain assets and liabilities, and we consider these critical accounting policies. For a description of these critical
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accounting policies, see "Item 7. Management's Discussion and Analysis of
Financial Condition and Results of Operations - Critical Accounting Policies" in
our 2022 Annual Report on Form 10-K. Actual results could differ significantly
from these estimates and assumptions, which could have a material impact on the
carrying value of assets and liabilities at the balance sheet dates and our
results of operations for the reporting periods. Management has discussed the
development and selection of these critical accounting policies with the Audit
Committee of the Company's Board of Directors.
Executive Overview
Net income was$22.0 million , or$0.72 per diluted share, for the three months endedMarch 31, 2023 compared with$20.7 million , or$0.68 per diluted share, for the same period a year ago. The increase in net income was primarily driven by an increase in net interest income of$6.9 million , offset by a$1.1 million increase in noninterest expense attributable to higher salaries and employee benefits and an increase in credit loss expense of$3.5 million . The increase in credit loss expense during the first quarter of 2023 was due to$2.1 million in credit loss expense in the first quarter of 2023 and a$1.4 million recovery of credit loss expense in the first quarter of 2022.
Other financial highlights include the following:
•
Cash and due from banks increased
•
Securities increased
•
Loans receivable, before the allowance for credit losses, were
•
Deposits were
•
Stockholders' equity at
•
Return on average assets for the quarter ended
Results of Operations
Net Interest Income
Our primary source of revenue is net interest income, which is the difference between interest derived from earning assets, and interest paid on liabilities obtained to fund those assets. Our net interest income is affected by changes in the level and mix of interest-earning assets and interest-bearing liabilities, referred to as volume changes. Net interest income is also affected by changes in the yields earned on assets and rates paid on liabilities, referred to as rate changes. Interest rates charged on loans receivable are affected principally by changes to interest rates, the demand for loans receivable, the supply of money available for lending purposes, and other competitive factors. Those factors are, in turn, affected by general economic conditions and other factors beyond our control, such as federal economic policies, the general supply of money in the economy, legislative tax policies, governmental budgetary matters, and the actions of theFederal Reserve . 38 -------------------------------------------------------------------------------- The following table shows the average balance of assets, liabilities and stockholders' equity; the amount of interest income, on a tax-equivalent basis, and interest expense; the average yield or rate for each category of interest-earning assets and interest-bearing liabilities; and the net interest spread and the net interest margin for the periods indicated. All average balances are daily average balances. Three Months Ended March 31, 2023 March 31, 2022 Interest Average Interest Average Average Income / Yield / Average Income / Yield / Balance Expense Rate Balance Expense Rate Assets (dollars in thousands) Interest-earning assets: Loans receivable (1)$ 5,944,399 $ 80,923 5.51 %$ 5,231,672 $ 53,924 4.18 % Securities (2) 980,712 4,025 1.67 % 930,505 2,516 1.11 % FHLB stock 16,385 289 7.16 % 16,385 248 6.14 % Interest-bearing deposits in other banks 192,902 2,066 4.34 % 494,887 216 0.18 % Total interest-earning assets 7,134,398 87,303 4.96 % 6,673,449 56,904 3.46 % Noninterest-earning assets: Cash and due from banks 65,088 62,968 Allowance for credit losses (71,452 ) (73,177 ) Other assets 239,121 229,952 Total assets$ 7,367,155 $ 6,893,192 Liabilities and Stockholders' Equity Interest-bearing liabilities: Deposits: Demand: interest-bearing$ 109,391 $ 29 0.11 %$ 124,892 $ 17 0.06 % Money market and savings 1,453,569 7,315 2.04 % 2,106,008 1,189 0.23 % Time deposits 2,223,615 18,154 3.31 % 937,044 807 0.35 % Total interest-bearing deposits 3,786,575 25,498 2.73 % 3,167,944 2,013 0.26 % Borrowings 268,056 2,369 3.58 % 130,556 337 1.05 % Subordinated debentures 129,483 1,583 4.89 % 213,171 3,598 6.75 % Total interest-bearing liabilities 4,184,114 29,450 2.85 % 3,511,671 5,948 0.69 % Noninterest-bearing liabilities and equity: Demand deposits: noninterest-bearing 2,324,413 2,634,398 Other liabilities 127,112 88,367 Stockholders' equity 731,516 658,756 Total liabilities and stockholders' equity$ 7,367,155 $ 6,893,192 Net interest income$ 57,853 $ 50,956 Cost of deposits (3) 1.69 % 0.14 % Net interest spread (taxable equivalent basis) (4) 2.10 % 2.77 % Net interest margin (taxable equivalent basis) (5) 3.28 % 3.10 % (1) Loans receivable include loans held for sale and exclude the allowance for credit losses. Nonaccrual loans receivable are included in the average loans receivable balance. (2) Amounts calculated on a fully taxable equivalent basis using the current statutory federal tax rate of 21%. (3) Represents interest expense on deposits as a percentage of all interest-bearing and noninterest-bearing deposits. (4) Represents the average yield earned on interest-earning assets less the average rate paid on interest-bearing liabilities. (5) Represents net interest income as a percentage of average interest-earning assets. 39 -------------------------------------------------------------------------------- The table below shows changes in interest income and interest expense and the amounts attributable to variations in interest rates and volumes for the periods indicated. The variances attributable to simultaneous volume and rate changes have been allocated to the change due to volume and the change due to rate categories in proportion to the relationship of the absolute dollar amount attributable solely to the change in volume and to the change in rate. Three Months Ended March 31, 2023 vs March 31, 2022 Increases (Decreases) Due to Change In Volume Rate Total (in thousands) Interest and dividend income: Loans receivable (1) $ 7,288$ 19,711 $ 26,999 Securities (2) 136 1,373 1,509 FHLB stock - 41 41 Interest-bearing deposits in other banks (132 ) 1,982 1,850 Total interest and dividend income 7,292 23,107 30,399 Interest expense: Demand: interest-bearing $ (2 ) $ 14$ 12 Money market and savings (372 ) 6,498 6,126 Time deposits 1,108 16,239 17,347 Borrowings 355 1,677 2,032 Subordinated debentures (1,415 ) (600 ) (2,015 ) Total interest expense (326 ) 23,828 23,502 Change in net interest income $ 7,618$ (721 ) $ 6,897 (1) Loans receivable include loans held for sale and exclude the allowance for credit losses. Nonaccrual loans receivable are included in the average loans receivable balance. (2) Amounts calculated on a fully taxable equivalent basis using the current statutory federal tax rate of 21%. For the three months endedMarch 31, 2023 and 2022, net interest income was$57.9 million and$51.0 million , respectively. The net interest spread and net interest margin, on a taxable equivalent basis, for the quarter endedMarch 31, 2023 , were 2.10% and 3.28%, respectively, compared with 2.77% and 3.10%, respectively, for the same period in 2022. Interest and dividend income increased$30.4 million , or 53.4%, to$87.3 million for the three months endedMarch 31, 2023 from$56.9 million for the same period in 2022 due to higher average interest-earning asset balances and yields. Interest expense increased$23.5 million , or 395.1%, to$29.5 million for the three months endedMarch 31, 2023 from$5.9 million for the same period in 2022 primarily due to higher deposit and borrowing rates due to the rising interest rate environment offset by lower subordinated debenture costs. The average balance of interest earning assets increased$460.9 million , or 6.9%, to$7.13 billion for the three months endedMarch 31, 2023 from$6.67 billion for the three months endedMarch 31, 2022 . The average balance of loans increased$712.7 million , or 13.6%, to$5.94 billion for the three months endedMarch 31, 2023 from$5.23 billion for the three months endedMarch 31, 2022 due mainly to lower payoffs and$303.6 million of loan production during the quarter. The average balance of securities increased$50.2 million , or 5.4%, to$980.7 million for the three months endedMarch 31, 2023 from$930.5 million for the three months endedMarch 31, 2022 . The average balance of interest-bearing deposits at other banks decreased$302.0 million to$192.9 million for the three months endedMarch 31, 2022 , as excess funds were used to fund loan and securities growth. The average yield on interest-earning assets, on a taxable equivalent basis, increased 150 basis points to 4.96% for the three months endedMarch 31, 2023 from 3.46% for the three months endedMarch 31, 2022 , mainly due to the higher interest rate environment. The average yield on loans increased to 5.51% for the three months endedMarch 31, 2023 from 4.18% for the three months endedMarch 31, 2022 , driven mainly by the higher interest rate environment. The average yield on securities, on a taxable equivalent basis, increased to 1.67% for the three months endedMarch 31, 2023 from 1.11% for the three months endedMarch 31, 2022 , reflecting the rising market interest rate environment. The average yield on interest-bearing deposits in other banks increased 416 basis points to 4.34% for the three months endedMarch 31, 2023 from 0.18% for the three months endedMarch 31, 2022 mainly due to higher market rates. The average balance of interest-bearing liabilities increased$672.4 million , or 19.1%, to$4.18 billion for the three months endedMarch 31, 2023 compared to$3.51 billion for the three months endedMarch 31, 2022 . The average balance of time deposits and borrowings increased$1.29 billion and$137.5 million , respectively, offset by decreases in the average balance of money market and savings accounts and subordinated debentures of$652.4 million and$83.7 million , respectively. 40 -------------------------------------------------------------------------------- The average cost of interest-bearing liabilities was 2.85% and 0.69% for the three months endedMarch 31, 2023 and 2022, respectively. The average cost of subordinated debentures decreased 186 basis points to 4.89% for the three months endedMarch 31, 2023 compared to 6.75% for the three months endedMarch 31, 2022 , due to a pre-tax charge of$1.1 million for the three months endedMarch 31, 2022 for the remaining debt issuance costs due upon redemption on the 2027 Notes. The average cost of borrowings increased 253 basis points to 3.58% for the three months endedMarch 31, 2023 compared to 1.05% for the three months endedMarch 31, 2022 . The average cost of interest-bearing deposits increased 247 basis points to 2.73% for the three months endedMarch 31, 2023 , compared to 0.26% for the three months endedMarch 31, 2022 . The increased costs were primarily due to increased market interest rates.
Credit Loss Expense
For the first quarter of 2023, the Company recorded$2.1 million of credit loss expense, comprised of a$2.2 million credit loss expense for loan losses, and a$48,000 negative provision for off-balance sheet items. For the same period in 2022, the Company recorded a$1.4 million recovery of credit loss expense, comprised of a$1.2 million negative provision for loan losses, and a$0.2 million negative provision for off-balance sheet items. The increase in credit loss expense for the three months endedMarch 31, 2023 as compared to the same period in 2022 was mainly attributable to a specific reserve allocation of$2.5 million on a nonperforming commercial and industrial loan in the health-care industry. The recovery of credit loss expense for the three months endedMarch 31, 2022 resulted from a combination of overall improvements in asset quality and economic forecasts, as well as a net reduction in specific qualitative factors allocated to criticized hospitality loans impacted by the pandemic, offset by strong loan growth
See also "Allowance for Credit Losses and Allowance for Credit Losses Related to Off-Balance Sheet Items" for further details.
Noninterest Income
The following table sets forth the various components of noninterest income for the periods indicated:
Increase Increase
Three Months Ended March 31, (Decrease) (Decrease)
2023 2022 Amount Percent
(in thousands)
Service charges on deposit accounts
$ (296 ) (10.30 )% Trade finance and other service charges and fees 1,258 1,142 116 10.16 Servicing income 742 734 8 1.09 Bank-owned life insurance income 270 244 26 10.66 All other operating income 1,618 1,004 614 61.16 Service charges, fees & other 6,467 5,999 468 7.80 Gain on sale of SBA loans 1,869 2,521 (652 ) (25.86 ) Total noninterest income$ 8,336 $ 8,520
For the three months endedMarch 31, 2023 , noninterest income was$8.3 million , a decrease of$0.2 million , or 2.2%, compared with$8.5 million for the same period in 2022. The decrease was mainly attributable to a$0.7 million decrease in the gain on loan sales resulting from lower volume and net trade premiums, offset by a$0.5 million increase in swap fee income included in other operating income. 41 --------------------------------------------------------------------------------
Noninterest Expense
The following table sets forth the components of noninterest expense for the periods indicated:
Increase Increase
Three Months Ended March 31, (Decrease) (Decrease)
2023 2022 Amount Percent
(in thousands)
Salaries and employee benefits $ 20,610 $ 17,717 $ 2,893 16.33 %
Occupancy and equipment 4,412 4,646 (234 ) (5.04 )
Data processing 3,253 3,236 17 0.53
Professional fees 1,335 1,430 (95 ) (6.64 )
Supplies and communications 676 665 11 1.65
Advertising and promotion 833 817 16 1.96
All other operating expenses 1,957 3,186 (1,229 ) (38.58 )
Subtotal 33,076 31,697 1,379 4.35
Other real estate owned expense
(income) (201 ) 12 (213 ) NM
Repossessed personal property expense
(income) (84 ) (17 ) (67 ) 394.12
Total noninterest expense $ 32,791 $ 31,692 $ 1,099 3.47 %
For the three months ended March 31, 2023 , noninterest expense was $32.8
million , an increase of $1.1 million , or 3.5% compared with $31.7 million for
the same period in 2022. Salaries and employee benefits increased $2.9 million
due to annual merit and bonus increases, and a 3.3% increase in average
full-time equivalent employees. All other operating expenses decreased $1.2
million attributable mainly to a decrease in loan-related expenses.
Income Tax Expense
Income tax expense was$9.3 million and$8.5 million representing an effective income tax rate of 29.7% and 29.0% for the three months endedMarch 31, 2023 and 2022, respectively. The increase in the effective tax rate for the three months endedMarch 31, 2023 , compared to the same period in 2022 was principally due to an increase in tax charges from the Company's share-based compensation and an increase in disallowed interest expense.
Financial Condition
Securities
As ofMarch 31, 2023 , our securities portfolio consisted ofU.S. government agency and sponsored agency mortgage-backed securities, collateralized mortgage obligations and debt securities, tax-exempt municipal bonds and, to a lesser extent,U.S. Treasury securities. Most of these securities carry fixed interest rates. Other than holdings ofU.S. government agency and sponsored agency obligations, there were no securities of any one issuer exceeding 10% of stockholders' equity as ofMarch 31, 2023 orDecember 31, 2022 . Securities increased$24.9 million to$878.7 million atMarch 31, 2023 from$853.8 million atDecember 31, 2022 , due to$29.5 million in securities purchases and a$13.6 million increase in the fair value of securities atMarch 31, 2023 compared toDecember 31, 2022 . 42 -------------------------------------------------------------------------------- The following table summarizes the contractual maturity schedule for securities, at amortized cost, and their cost weighted average yield, which is calculated using amortized cost as the weight, as ofMarch 31, 2023 : After One After Five Year But Years But Within One Within Five Within Ten After Ten Year Years Years Years Total Amount Yield Amount Yield Amount Yield Amount Yield Amount Yield (dollars in thousands) Securities available for sale: U.S. Treasury securities$ 17,347 3.36 %$ 38,827 2.97 % $ - 0.00 % $ - 0.00 %$ 56,174 3.09 %U.S. government agency and sponsored agency obligations: Mortgage-backed securities - residential 1 2.52 114 2.90 5,565 2.85 526,437 1.59 532,117 1.60 Mortgage-backed securities - commercial - - 7,310 2.44 1,482 1.06 52,697 1.54 61,489 1.64 Collateralized mortgage obligations - - 255 1.28 725 2.65 111,041 2.40 112,021 2.40 Debt securities 18,211 1.34 132,151 1.36 - - - - 150,362 1.36 TotalU.S. government agency and sponsored agency obligations 18,212 1.34 139,830 1.42
7,772 2.49 690,175 1.72 855,989 1.67 Municipal bonds-tax exempt
- - - -
19,985 1.38 57,904 1.32 77,889 1.34
Total securities available
$ 178,657 $ 27,757 $ 748,079 $ 990,052 for sale 2.33 % 1.75 % 1.69 % 1.68 % 1.72 % Loans Receivable As ofMarch 31, 2023 andDecember 31, 2022 , loans receivable (excluding loans held for sale), net of deferred loan fees and costs, discounts and allowance for credit losses, were$5.91 billion and$5.90 billion , respectively. The increase primarily reflected$303.6 million in new loan production, offset by$154.9 million in loan sales and payoffs, and amortization and other reductions of$139.7 million . Loan production primarily consisted of residential mortgages of$97.2 million , commercial real estate of$75.5 million , equipment financing agreements of$69.3 million , SBA loans of$34.5 million and commercial and industrial loans of$27.1 million . The table below shows the maturity distribution of outstanding loans, before the allowance for credit losses as ofMarch 31, 2023 . In addition, the table shows the distribution of such loans between those with floating or variable interest rates and those with fixed or predetermined interest rates. After One After Three After Five Year but Years but Years but Within Within Within After Within One Three Five Fifteen Fifteen Year Years Years Years Years Total (in thousands) Real estate loans: Commercial property Retail$ 100,032 $ 230,151 $ 315,128 $ 369,914 $ 37,128 $ 1,052,353 Hospitality 129,528 229,840 144,816 146,465 18,363 669,012 Office 41,917 184,439 273,115 29,981 4,251 533,703 Other 120,904 393,833 517,131 322,487 61,393 1,415,748 Total commercial property loans 392,381 1,038,263 1,250,190 868,847 121,135 3,670,816 Construction 85,072 28,288 - - - 113,360 Residential 6,669 46 15 5,053 806,134 817,917 Total real estate loans 484,122 1,066,597 1,250,205 873,900 927,269 4,602,093 Commercial and industrial loans 316,499 162,837 190,337 108,476 - 778,149 Equipment financing agreements 23,942 179,185 355,378 41,711 - 600,216 Loans receivable$ 824,563 $ 1,408,619 $ 1,795,920 $ 1,024,087 $ 927,269 $ 5,980,458 Loans with predetermined interest rates 360,056 953,702 1,394,647 185,588 254,158 3,148,151 Loans with variable interest rates 464,507 454,917 401,273 838,499 673,111 2,832,307 43
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The table below shows the maturity distribution of outstanding loans, before the
allowance for credit losses, with fixed or predetermined interest rates due
after one year, as of
After Five
After One After Three Years but
Year but Years but Within After
Within Three Within Five Fifteen Fifteen
Years Years Years Years Total
(in thousands)
Real estate loans:
Commercial property
Retail $ 203,787 $ 272,471 $ 57,949 $ - $ 534,207
Hospitality 91,464 134,054 6,497 - 232,015
Office 144,714 217,817 - - 362,531
Other 303,177 408,040 65,111 7,721 784,049
Total commercial property
loans 743,142 1,032,382 129,557 7,721 1,912,802
Construction 28,288 - - - 28,288
Residential 40 15 2,723 246,437 249,215
Total real estate loans 771,470 1,032,397 132,280 254,158 2,190,305
Commercial and industrial
loans 3,047 6,872 11,597 - 21,516
Equipment financing
agreements 179,185 355,378 41,711 - 576,274
Loans receivable $ 953,702 $ 1,394,647 $ 185,588 $ 254,158 $ 2,788,095
The table below shows the maturity distribution of outstanding loans, before the
allowance for credit losses, with floating or variable interest rates (including
hybrids) due after one year, as of March 31, 2023 .
After Five
After One After Three Years but
Year but Years but Within After
Within Three Within Five Fifteen Fifteen
Years Years Years Years Total
(in thousands)
Real estate loans:
Commercial property
Retail $ 26,364 $ 42,657 $ 311,965 $ 37,128 $ 418,114
Hospitality 138,377 10,761 139,968 18,363 307,469
Office 39,725 55,298 29,981 4,251 129,255
Other 90,656 109,091 257,375 53,672 510,794
Total commercial property
loans 295,122 217,807 739,289 113,414 1,365,632
Residential 5 - 2,331 559,697 562,033
Total real estate loans 295,127 217,807 741,620 673,111 1,927,665
Commercial and industrial
loans 159,790 183,466 96,879 - 440,135
Loans receivable $ 454,917 $ 401,273 $ 838,499 $ 673,111 $ 2,367,800
Industry
As of March 31, 2023 , the loan portfolio included the following concentrations
of loans to one type of industry that were greater than 10.0% of loans
receivable outstanding:
Percentage of
Balance as of Loans Receivable
March 31, 2023 Outstanding
(in thousands)
Lessor of nonresidential buildings $ 1,780,674 29.8 %
Hospitality 704,088 11.8 %
Loan Quality Indicators
Loans 30 to 89 days past due and still accruing were $15.4 million at March 31,
2023 , compared with $7.5 million at December 31, 2022 , attributable mainly to a
$6.7 million past due and accruing loan at March 31, 2023 , that resolved its
delinquency subsequent to the end of the first quarter.
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At
Special mention loans were$64.3 million atMarch 31, 2023 compared with$79.0 million atDecember 31, 2022 . The$14.7 million decrease in special mention loans included downgrades to classified loans of$10.0 million , and payoffs of$4.6 million .
Classified loans were
Activity in criticized loans was as follows for the periods indicated:
Special Mention Classified
(in thousands)
March 31, 2023
Balance at January 1, 2023 $ 79,013 $ 46,192
Additions 766 13,808
Reductions (15,439 ) (12,713 )
Balance at March 31, 2023 $ 64,340 $ 47,287
December 31, 2022
Balance at January 1, 2022 $ 95,294 $ 60,633
Additions 133,134 15,808
Reductions (149,415 ) (30,249 )
Balance at
Nonperforming Assets
Nonperforming loans consist of loans receivable on nonaccrual status and loans 90 days or more past due and still accruing interest. Nonperforming assets consist of nonperforming loans and OREO. Loans are placed on nonaccrual status when, in the opinion of management, the full timely collection of principal or interest is in doubt. Generally, the accrual of interest is discontinued when principal or interest payments become more than 90 days past due, unless we believe the loan is adequately collateralized and in the process of collection. However, in certain instances, we may place a particular loan on nonaccrual status earlier, depending upon the individual circumstances surrounding the loan's delinquency. When a loan is placed on nonaccrual status, previously accrued but unpaid interest is reversed against current income. Subsequent collections of cash are applied as principal reductions when received, except when the ultimate collectability of principal is probable, in which case interest payments are credited to income. Nonaccrual loans may be restored to accrual status when principal and interest become current and full repayment is expected. Interest income is recognized on the accrual basis for impaired loans not meeting the criteria for nonaccrual. OREO consists of properties acquired by foreclosure or similar means, or vacant bank properties for which their usage for operations has ceased and management intends to offer for sale. Except for nonaccrual loans, management is not aware of any other loans as ofMarch 31, 2023 for which known credit problems of the borrower would cause serious doubts as to the ability of such borrowers to comply with their present loan or equipment financing agreement repayment terms, or any known events that would result in a loan or equipment financing agreement being designated as nonperforming at some future date. Management cannot, however, predict the extent to which a deterioration in general economic conditions, real estate values, increases in general rates of interest, inflation or changes in the financial condition or business of borrowers may adversely affect a borrower's ability to pay. Nonperforming loans were$20.1 million atMarch 31, 2023 , or 0.34% of loans, compared with$9.8 million atDecember 31, 2022 , or 0.17% of the portfolio. The increase reflects a$10.0 million commercial and industrial loan in the health-care industry secured by real estate and business assets for which there was a specific allowance of$2.5 million .
Nonperforming assets were
Individually Evaluated Loans
The Company reviews loans on an individual basis when the loan does not share similar risk characteristics with loan pools.
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Individually evaluated loans were $20.1 million and $9.8 million as of March 31,
2023 and December 31, 2022 , respectively, representing an increase of $10.3
million , or 103.6%. The increase primarily reflects the addition of a $10.0
million nonperforming commercial and industrial loan in the health-care
industry. Specific allowances associated with individually evaluated loans
increased $2.9 million to $6.2 million as of March 31, 2023 compared with $3.3
million as of December 31, 2022 . The increase primarily reflects the addition of
a $2.5 million specific allowance on the previously mentioned nonperforming loan
in the health-care industry.
No loans were modified during the three months ended
Allowance for Credit Losses and Allowance for Credit Losses Related to Off-Balance Sheet Items
The Company's estimate of the allowance for credit losses atMarch 31, 2023 andDecember 31, 2022 reflected losses expected over the remaining contractual life of the assets based on historical, current, and forward-looking information. The contractual term does not consider extensions, renewals or modifications unless the Company has identified an expected troubled debt restructuring. Management selected three loss methodologies for the collective allowance estimation. AtMarch 31, 2023 , the Company used the discounted cash flow ("DCF") method to estimate allowances for credit losses for the commercial and industrial loan portfolio, the Probability of Default/Loss Given Default ("PD/LGD") method for the commercial real estate, construction, SBA and residential real estate portfolios, and the Weighted Average Remaining Maturity ("WARM") method to estimate expected credit losses for the equipment financing agreements portfolio. Loans that do not share similar risk characteristics are individually evaluated for allowances. For the loans utilizing the DCF method, the Company determined that four quarters represented a reasonable and supportable forecast period and reverted to a historical loss rate over twelve quarters on a straight-line basis. Reasonable and supportable forecasts of economic conditions are imbedded in the DCF model. For each of the loan segments identified above, the Company applied an annualized historical PD/LGD using all available historical periods. The PD/LGD method incorporates a forecast of economic conditions into loss estimates using a qualitative adjustment.
The Company applied an expected loss ratio based on internal historical losses adjusted as appropriate for qualitative factors when applying the WARM method.
As of
To adjust the historical and forecast periods to current conditions, the Company applies various qualitative factors derived from market, industry or business specific data, changes in the underlying portfolio composition, trends relating to credit quality, delinquency, nonperforming and adversely rated equipment financing agreements, and reasonable and supportable forecasts of economic conditions. The allowance for credit losses was$72.2 million atMarch 31, 2023 compared with$71.5 million atDecember 31, 2022 . The allowance attributed to individually evaluated loans was$6.2 million atMarch 31, 2023 compared with$3.3 million atDecember 31, 2022 . The allowance attributed to collectively evaluated loans was$66.0 million atMarch 31, 2023 compared with$68.2 million atDecember 31, 2022 , and considered the impact of changes in macroeconomic assumptions, lower average loss rates in the commercial and industrial segment and normalized interest rate forecasts for the subsequent four quarters. 46 -------------------------------------------------------------------------------- The following table reflects our allocation of the allowance for credit losses by loan category as well as the amount of loans in each loan category, including related percentages: March 31, 2023 December 31, 2022 Allowance Percentage of Percentage of Allowance Percentage of Percentage of Amount Total Allowance Total Loans Total Loans Amount Total Allowance Total Loans Total Loans (dollars in thousands) Real estate loans: Commercial property Retail$ 9,405 13.0 %$ 1,052,353 17.6 %$ 7,872 11.0 %$ 1,023,608 17.2 % Hospitality 14,138 19.6 669,012 11.2 13,407 18.7 646,893 10.8 Office 2,509 3.5 533,703 8.9 2,293 3.2 499,946 8.4 Other 9,186 12.7 1,415,748 23.7 13,056 18.3 1,553,729 26.0 Total commercial property loans 35,238 48.8 3,670,816 61.4 36,628 51.2 3,724,176 62.4 Construction 4,003 5.5 113,360 1.9 4,022 5.7 109,205 1.8 Residential 4,290 6.0 817,917 13.7 3,376 4.7 734,472 12.4 Total real estate loans 43,531 60.3 4,602,093 77.0 44,026 61.6 4,567,853 76.6 Commercial and industrial loans 15,333 21.2 778,149 13.0 15,267 21.3 804,492 13.4 Equipment financing agreements 13,385 18.5 600,216 10.0 12,230 17.1 594,788 10.0 Total$ 72,249 100.0 %$ 5,980,458 100.0 %$ 71,523 100.0 %$ 5,967,133 100.0 %
The following table sets forth certain ratios related to our allowance for credit losses at the dates presented:
As of
March 31, 2023 December 31, 2022
(dollars in thousands)
Ratios:
Allowance for credit losses to loans receivable 1.21 % 1.20 %
Nonaccrual loans to loans 0.34 % 0.17 %
Allowance for credit losses to nonaccrual loans 360.34 % 726.42 %
Balance:
Nonaccrual loans at end of period $ 20,050 $ 9,846 Nonperforming loans at end of period $ 20,050 $ 9,846 As ofMarch 31, 2023 andDecember 31, 2022 , the allowance for credit losses related to off-balance sheet items, primarily unfunded loan commitments, was$3.1 million . The Bank closely monitors the borrower's repayment capabilities, while funding existing commitments to ensure losses are minimized. Based on management's evaluation and analysis of portfolio credit quality and prevailing economic conditions, we believe these allowances were adequate for current expected lifetime losses in the loan portfolio and off-balance sheet exposure as ofMarch 31, 2023 . The following table presents a summary of net (charge-offs) recoveries for the loan portfolio: Three Months Ended Net (Charge-Offs) Recoveries to Net (Charge-Offs) Average Loans Average Loans Recoveries (1) (dollars in thousands) March 31, 2023 Commercial real estate loans$ 3,800,499 $ (412 ) (0.04 )% Residential loans 780,833 68 0.03 Commercial and industrial loans 760,835 25 0.01 Equipment financing agreements 602,232 (1,136 ) (0.75 ) Total$ 5,944,399 $ (1,455 ) (0.10 )% March 31, 2022 Commercial real estate loans$ 3,752,658 $ (335 ) (0.04 )% Residential loans 407,967 2 0.00 Commercial and industrial loans 578,583 259 0.18 Equipment financing agreements 492,464 176 0.14 Total$ 5,231,672 $ 102 0.01 % (1) Annualized For the three months endedMarch 31, 2023 , gross charge-offs were$2.2 million , an increase of$1.4 million , from$0.8 million for the same period in 2022 and gross recoveries were$0.8 million , a decrease of$0.1 million , from$0.9 million for the three 47 -------------------------------------------------------------------------------- months endedMarch 31, 2022 . Net loan charge-offs were$1.5 million , or 0.10% of average loans, compared with net loan recoveries of$0.1 million , or 0.01% of average loans, for the three months endedMarch 31, 2023 and 2022, respectively.
Deposits
The following table shows the composition of deposits by type as of the dates
indicated:
March 31, 2023 December 31, 2022
Balance Percent Balance Percent
(dollars in thousands)
Demand - noninterest-bearing $ 2,334,083 37.6 % $ 2,539,602 41.3 %
Interest-bearing:
Demand 104,245 1.7 115,573 1.9 Money market and savings 1,382,472 22.3 1,556,690 25.2 Uninsured time deposits of more than$250 ,000: Three months or less 96,204 1.6 44,828 0.7 Over three months through six months 94,526 1.5 123,471 2.0 Over six months through twelve months 452,572 7.3 191,248 3.1 Over twelve months 72,093 1.2 138,451 2.2 Other time deposits 1,664,843 26.8 1,458,209 23.6 Total deposits$ 6,201,038 100.0 %$ 6,168,072 100.0 % Total deposits were$6.20 billion and$6.17 billion as ofMarch 31, 2023 andDecember 31, 2022 , respectively, representing an increase of$33.0 million , or 0.5%. The increase in deposits was primarily driven by an increase of$424.0 million in time deposits, offset by a decrease of$391.0 million in all other deposits due to rising market rates and the shift to time deposits. AtMarch 31, 2023 , the loan-to-deposit ratio was 96.4% compared with 96.7% atDecember 31, 2022 . As ofMarch 31, 2023 , the aggregate amount of uninsured deposits (deposits in amounts greater than$250,000 , which is the maximum amount for federal deposit insurance) was$2.60 billion , of which$1.88 billion were demand, money market and savings deposits and$715.4 million were time deposits. As ofDecember 31, 2022 , the aggregate amount of uninsured deposits was$2.65 billion , consisting of$2.15 billion in demand, money market and savings deposits and$498.0 million in time deposits.
Borrowings and Subordinated Debentures
Borrowings mostly take the form of advances from the FHLB. At bothMarch 31, 2023 andDecember 31, 2022 , total advances from the FHLB were$350.0 million . The Bank had$250.0 million of overnight advances from the FHLB at bothMarch 31, 2023 andDecember 31, 2022 .
The weighted-average interest rate of all FHLB advances at
The FHLB maximum amount outstanding at any month end during each of the year to
date periods ended
The following is a summary of contractual maturities greater than twelve months
of FHLB advances:
March 31, 2023 December 31, 2022
Weighted Weighted
Outstanding Average Outstanding Average
FHLB of San Francisco Balance Rate Balance Rate
(dollars in thousands)
Advances due over 12 months through 24 months$ 25,000 1.22 %$ 37,500 0.40 % Advances due over 24 months through 36 months 25,000 4.44 12,500 1.90 Outstanding advances over 12 months$ 50,000 2.83 %$ 50,000 0.78 % 48
-------------------------------------------------------------------------------- Subordinated debentures were$129.6 million as ofMarch 31, 2023 and$129.4 million as ofDecember 31, 2022 . Subordinated debentures are comprised of fixed-to-floating subordinated notes of$108.2 million as ofMarch 31, 2023 andDecember 31, 2022 , and junior subordinated deferrable interest debentures of$21.3 million and$21.2 million as ofMarch 31, 2023 andDecember 31, 2022 , respectively. See "Note 8 - Borrowings and Subordinated Debentures" to the consolidated financial statements for more details.
Stockholders' Equity
Stockholders' equity atMarch 31, 2023 was$662.2 million , compared with$637.5 million atDecember 31, 2022 . The increase was primarily due to$14.4 million of first quarter net income net of dividends as well as a$9.9 million reduction in unrealized after-tax loss due to changes in the value of the securities portfolio resulting from decreases in intermediate-term interest rates during the first quarter. Interest Rate Risk Management The spread between interest income on interest-earning assets and interest expense on interest-bearing liabilities is the principal component of net interest income, and interest rate changes substantially affect our financial performance. We emphasize capital protection through stable earnings. In order to achieve stable earnings, we prudently manage our assets and liabilities and closely monitor the percentage changes in net interest income and equity value in relation to limits established within our guidelines. The Company performs simulation modeling to estimate the potential effects of interest rate changes. The following table summarizes one of the stress simulations performed to forecast the impact of changing interest rates on net interest income and the value of interest-earning assets and interest-bearing liabilities reflected on our balance sheet (i.e., an instantaneous parallel shift in the yield curve of the magnitude indicated below) as ofMarch 31, 2023 . The Company compares this stress simulation to policy limits, which specify the maximum tolerance level for net interest income exposure over a 1- to 12-month and a 13- to 24- month horizon, given the basis point adjustment in interest rates reflected below. Net Interest Income Simulation Change in 1- to 12-Month Horizon 13- to 24-Month Horizon Interest Dollar Percentage Dollar Percentage Rate Change Change Change Change (dollars in thousands) 300%$ 14,669 6.24 %$ 7,822 3.16 % 200%$ 9,031 3.84 %$ 3,210 1.30 % 100%$ 5,337 2.27 %$ 3,616 1.46 % (100%)$ (7,224 ) (3.07 %)$ (7,704 ) (3.11 %) (200%)$ (16,260 ) (6.92 %)$ (19,522 ) (7.88 %) (300%)$ (26,613 ) (11.32 %)$ (34,516 ) (13.93 %) Change in Economic Value of Equity (EVE) Interest Dollar Percentage Rate Change Change (dollars in thousands) 300% $ (30,634 ) (4.05 %) 200% $ (20,334 ) (2.69 %) 100% $ 522 0.07 % (100%) $ (22,630 ) (2.99 %) (200%) $ (69,952 ) (9.25 %) (300%)$ (140,113 ) (18.53 %) The estimated sensitivity does not necessarily represent our forecast, and the results may not be indicative of actual changes to our net interest income. These estimates are based upon a number of assumptions, including the timing and magnitude of interest rate changes, prepayments on loans receivable and securities, pricing strategies on loans receivable and deposits, and replacement of asset and liability cash flows. 49 --------------------------------------------------------------------------------
The key assumptions, based upon loans receivable, securities and deposits, are as follows:
Conditional prepayment rates*:
Loans receivable 15 %
Securities 6 %
Deposit rate betas*:
NOW, savings, money market demand 47 %
Time deposits, retail and wholesale 76 %
* Balance-weighted average
While the assumptions used are based on current economic and local market conditions, there is no assurance as to the predictive nature of these conditions, including how customer preferences or competitor influences might change.
Capital Resources and Liquidity
Capital Resources
Historically, our primary source of capital has been the retention of operating earnings. In order to ensure adequate capital levels, the Board regularly assesses projected sources and uses of capital, expected loan growth, anticipated strategic actions (such as stock repurchases and dividends), and projected capital thresholds under adverse and severely adverse economic conditions. In addition, the Board considers the Company's access to capital from financial markets through the issuance of additional debt and securities, including common stock or notes, to meet its capital needs. In response to the uncertainty surrounding the COVID-19 pandemic, the Board reduced the quarterly cash dividends paid on common stock beginning in the second quarter of 2020. Due to the continued stabilization of Company results and financial condition, the Board authorized an increase in the quarterly cash dividend to$0.12 per share for the second quarter of 2021 from$0.10 per share for the first quarter of 2021. As the effects of the pandemic continued to subside and the Company's results and financial condition improved, the Board again increased the dividend to$0.20 per share for the fourth quarter of 2021, to$0.22 per share for the first and second quarters of 2022, and to$0.25 per share for the third and fourth quarters of 2022 and first quarter of 2023. The Board will continue to re-evaluate the level of quarterly dividends in subsequent quarters. The Company's ability to pay dividends to shareholders depends in part upon dividends it receives from the Bank.California law restricts the amount available for cash dividends to the lesser of a bank's retained earnings or net income for its last three fiscal years (less any distributions to shareholders made during such period). Where the above test is not met, cash dividends may still be paid, with the prior approval of theDepartment of Financial Protection and Innovation ("DFPI"), in an amount not exceeding the greater of: (1) retained earnings of the bank; (2) net income of the bank for its last fiscal year; or (3) the net income of the bank for its current fiscal year. As ofApril 1, 2023 , the Bank has the ability to pay dividends of approximately$156.1 million , after giving effect to the$0.25 dividend declared for the second quarter of 2023, without the prior approval of the Commissioner of the DFPI. AtMarch 31, 2023 , the Bank's total risk-based capital ratio of 14.15%, Tier 1 risk-based capital ratio of 13.06%, common equity Tier 1 capital ratio of 13.06% and Tier 1 leverage capital ratio of 11.06%, placed the Bank in the "well capitalized" category pursuant to capital rules, which is defined as institutions with total risk-based capital ratio equal to or greater than 10.00%, Tier 1 risk-based capital ratio equal to or greater than 8.00%, common equity Tier 1 capital ratios equal to or greater than 6.50%, and Tier 1 leverage capital ratio equal to or greater than 5.00%. AtMarch 31, 2023 , the Company's total risk-based capital ratio was 14.80%, Tier 1 risk-based capital ratio was 11.94%, common equity Tier 1 capital ratio was 11.59% and Tier 1 leverage capital ratio was 10.09%.
For a discussion of implemented changes to the capital adequacy framework prompted by Basel III and the Dodd- Frank Wall Street Reform and Consumer Protection Act, see our 2022 Annual Report on Form 10-K.
50
--------------------------------------------------------------------------------Liquidity
For a discussion of liquidity for the Company, see Note 14 - Liquidity included in the notes to unaudited consolidated financial statements in this Report and Note 22 - Liquidity in our 2022 Annual Report on Form 10-K.
Off-Balance Sheet Arrangements
For a discussion of off-balance sheet arrangements, see Note 12 - Off-Balance Sheet Commitments included in the notes to unaudited consolidated financial statements in this Report and "Item 1. Business - Off-Balance Sheet Commitments" in our 2022 Annual Report on Form 10-K.
Contractual Obligations
There have been no material changes to the contractual obligations described in our 2022 Annual Report on Form 10-K.
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