Good afternoon, ladies and gentlemen. Thank you for standing by, and welcome to Central Pacific Financial Corp. First Quarter 2021 conference call. During today's presentation, all parties will be in listen-only mode. Following the presentation, the conference will be open for questions. This call is being recorded and will be available for replay shortly after its completion on the company's website at www.cpb.bank. I'd like to turn the call over to Mr. David Morimoto, Executive Vice President, Chief Financial Officer. Please go ahead.
Thank you, Kate, and thank you all for joining us as we review the financial results for the first quarter of 2021 for Central Pacific Financial Corp. With me this morning are Paul Yonamine, Chairman and Chief Executive Officer, Catherine Ngo, President, Arnold Martines, Executive Vice President and Chief Banking Officer, and Anna Hu, Executive Vice President and Chief Credit Officer. We have prepared a slide presentation that we will refer to in our remarks today. The presentation is available in the investor relations section of our website at cpb.bank. During the course of today's call, management may make forward-looking statements. While we believe these statements are based on reasonable assumptions, they involve risks that may cause actual results to differ materially from those projected. For a complete discussion of the risks related to our forward-looking statements, please refer to slide two of our presentation.
Now I'll turn the call over to Paul.
Thank you, David, good morning, everyone. As always, we appreciate your interest in Central Pacific Financial Corp. In the first quarter of 2021, Central Pacific completed several key milestones. We completed our RISE 2020 initiative, which included the revitalization of our Central Pacific Plaza lobby, digital banking enhancements, and other revenue and efficiency initiatives. Additionally, as we continue our commitment to best-in-class digital banking technology, in the first quarter, we implemented further upgrades and enhancements to our consumer online and mobile banking systems, and we launched our new small business online banking system. Further, this quarter, we launched a new online platform for opening consumer deposit accounts and consumer term loans. During the first quarter, Central Pacific stepped up again to support our small business community by originating over 3,600 PPP loans, totaling over $290 million.
We are proud of our hardworking team of employees that have enabled us to accomplish these milestones and results. We continue to be highly focused on building upon these successes and achieving our financial targets. Our financial results for the first quarter were very strong, with the highest quarterly pre-tax income since 2007. We also continue to have solid asset quality, liquidity, and capital. Based on our strong results and financial position, our board of directors increased our quarterly cash dividend to $0.24 per share. I'd like to now turn the call over to Catherine to provide an update on our state and company's pandemic status. Catherine.
Thank you, Paul. The state of Hawaii is making progress towards economic recovery. Our unemployment rate declined to 9% in March, and while still elevated, is significantly down from its peak of 22% in April last year. Our tourism industry is returning with our Safe Travels program running well and the potential for a vaccine passport program starting in the late summer. Visitor arrivals have recently been averaging nearly 20,000 per day, or about two-thirds of pre-pandemic levels. Real estate in Hawaii continues to be extremely strong, with the median price for a single-family home on Oahu hitting a record high of $950,000 in March. The state of Hawaii continues to have a very low COVID infection rate, with the lowest case rate in the nation on a per capita basis.
Our vaccination progress is also quite good, with over 30% of our residents fully vaccinated, currently putting us the eighth highest state in the nation. With these strong stats, the state continues to safely reopen. At Central Pacific, we are deemed an essential service, and therefore, our employees were given access to the COVID vaccination starting in March, and many are fully vaccinated at this point. I'd like to turn the call over now to Arnold Martines, our Executive Vice President and Chief Banking Officer. Arnold.
Thank you, Catherine. In the first quarter, our total loan portfolio increased by $174 million, primarily due to the new round of PPP loan originations. Net of PPP loan originations, we grew our commercial constructions, commercial mortgage, and home equity portfolios, which was offset by declines in our commercial and industrial, residential mortgage, and consumer loan portfolios. The new round of PPP loan originations in Q1 required us to shift resources and attention to supporting our business customers with their second draw PPP applications. In Q1, we processed over 3,600 PPP loans totaling over $290 million, which represented over 50% of the loans we funded in 2020.
Concurrently, our team continues to assist our existing PPP borrowers with applying for forgiveness from the SBA, resulting in approximately $100 million in paydowns in Q1. To date, inclusive of forgiveness applications processed in 2020 and through March 31st, we have processed over 3,600 forgiveness applications, resulting in $234 million in PPP loan paydowns. Our team continues to engage and support our small business customers to help meet their needs with our broader banking product and service offerings. To date, we have expanded banking relationships with approximately 20% of the new to CPB small business customers. Our deposits during the first quarter increased by $410 million, or about 8% sequential quarter, which was supported by PPP loan funding and other government stimulus. Additionally, our cost of total deposits declined by 3 basis points from the prior quarter and is now down just to 6 basis points.
As the economic recovery in Hawaii takes traction, our bankers will continue to engage and support our customers and build a healthy pipeline of new business for the bank. I would like to turn the call over to Anna Hu, our Executive Vice President and Chief Credit Officer, to provide details on our credit portfolio risk management activities. Anna?
Thank you, Arnold. At March 31st, the loan portfolio totaled $5.1 billion, with 53% consumer and 47% commercial. Approximately 78% of the total loan portfolio, excluding PPP balances, is real estate secured. At quarter end, the total balance of loans on payment deferrals declined significantly by $80.7 million sequential quarter to $39.5 million, or 0.9% of the total loan portfolio, excluding PPP balances. Addition al payment deferrals were provided on residential loans and consumer loans. We anticipate continuing to provide assistance through repayment plans and loan modifications over the next several months. We had no payment deferrals in our commercial real estate and commercial and industrial loan portfolios at quarter end. Total loans on payment deferrals further declined to $32.5 million as of April 21st. During the quarter, criticized loans declined by $10.5 million sequential quarter to $181.7 million, or 4% of the total loan portfolio, excluding PPP balances.
Special mention loans declined by $14.7 million- $127.8 million, or 2.8% of the total loan portfolio, excluding PPP balances. Classified loans increased by $4.2 million - $53.9 million, or 1.2% of the total loan portfolio, excluding PPP balances. The decrease in special mention loans is primarily due to loans being upgraded as a result of improvements in our borrowers' operating performance. The increase in classified loans is primarily due to residential and consumer loans. We continue to monitor our borrowers in the high-risk industries of food service and accommodation, where $44 million is rated special mention and $8 million is rated classified. Approximately 27% of total special mention balances and 8% of total classified balances also received PPP loans. Additional details on our high-risk industry loans and loans rated special mention and classified can be found on slides 11, 13, and 14.
Overall, our asset quality remains strong, and we expect to see continued improvement in our loan portfolio. I'll now turn the call over to David Morimoto, our Executive Vice President and Chief Financial Officer. David?
Thank you, Anna. Net income for the first quarter was $18 million, or $0.64 per diluted share. Return on average assets in the first quarter was 1.07%, and return on average equity was 13.07%. Net interest income for the first quarter was $49.8 million, which decreased from the prior quarter, primarily due to less recognition of PPP fee income due to lower forgiveness. Net interest income included $5.2 million in PPP net interest income and net loan fees, compared to $6.3 million in the prior quarter. At March 31st, unearned net PPP fees for Rounds One and Two was $5.8 million, and net fees for Round Three was $14.5 million. The net interest margin decreased to 3.19% in the first quarter, compared to 3.32% in the prior quarter. The decrease was due to the lower PPP fee income recognition, as well as lower loan yields.
The net interest margin normalized for PPP was 3.12% in the first quarter, compared to 3.17% in the prior quarter. First quarter other operating income totaled $10.7 million compared to $14.1 million in the prior quarter. The decrease was primarily due to lower mortgage banking income of $2.5 million and lower income from bank-owned life insurance of $0.4 million. Other operating expense for the first quarter was $37.8 million, which was a decrease of $6.8 million compared to the prior quarter. The prior quarter included one-time expenses totaling $5.9 million. Additionally, in the current quarter, $0.8 million in PPP loan origination costs were deferred from salaries and benefits. The efficiency ratio decreased to 62.5% in the first quarter, compared to 68.2% in the prior quarter, primarily due to the one-time expenses in the prior quarter.
Net charge-offs in the first quarter totaled $0.7 million compared to net charge-offs of $1.8 million in the prior quarter. At March 31st, our allowance for credit losses was $81.6 million, or 1.80% of outstanding loans, excluding the PPP loans. This compares to 1.83% as of the prior quarter end. In the first quarter, we recorded a $0.8 million credit to the provision for credit losses due to improvements in the economic forecast utilized in our CECL methodology. The effective tax rate was 23.2% in the first quarter, a slight decline from the prior quarter as we recognized a benefit for capital loss carrybacks. Going forward, we expect the effective tax rate to be in the 24%-26% range. Our liquidity and capital positions remain strong, and we continue to perform robust stress testing.
Finally, as Paul noted earlier, our board of directors declared a quarterly cash dividend of $0.24 per share, which was an increase from the $0.23 in the prior quarter. Thanks. Now I'll return the call to Paul.
Thank you, David. In summary, Central Pacific has a solid financial credit, liquidity, and capital position, and we continue to make positive forward progress on our strategy. Further, we remain committed to providing support to our employees, customers, and the community as we progress through the economic recovery. On behalf of our management team and employees, thank you for your continued support and confidence in our organization. At this time, we'll be happy to address any questions you may have. Thank you.
We will now begin the question-and-answer session. To ask a question, you may press star then one on your touchtone phone. If you're using a speakerphone, please pick up your handset before pressing the keys. To withdraw your question, please press star then two. At this time, we will pause momentarily to assemble our roster. Our first question is from David Feaster from Raymond James. Go ahead.
Hey, good morning, everybody.
Hey, David.
Good morning.
I just wanted to start out on growth. It sounds like the PPP program was a distraction in the quarter. Just curious how originations have trended, how the pipeline's shaping up heading into the second quarter, just maybe where you're seeing demand and kind of the pulse of the client, the customer?
Sure, David. Before I pass it on to Arnold Martines, our chief banking officer, I might just also, as you probably know, first quarter is always a slow start quarter to begin with. Despite all of that, again, the whole team working hard on the PPP loans. I think PPP continues to win that loyalty and recognition in the community. We continue to bring over new accounts into the bank. What I can tell you, as we have been in previous calls, we're still very committed to mid to high single digit growth on loans for the balance of the year. Let me have Arnold touch a little bit more about our pipeline and some other details. Arnold?
Yeah. Thanks, Paul. Yeah, we feel very good about our pipeline. Pipeline's really healthy, particularly in our CRE area, our resi. Residential production in the first quarter was pretty strong at $300 million. The overall outlook for our portfolio with regard to CRE, resi looking at restarting. We see the market conditions improving. We're looking at restarting our consumer lending in Hawaii, our small business lending. We feel pretty good moving into the year that we're going to see some nice loan growth as we progress in the quarters to come.
Okay. That's helpful. I guess within that pipeline, you talked about the new customer acquisition from PPP. Do you have any sense of how much is new client acquisition from the new hires? In the PPP program versus just increased sentiment among your investor base and the improved economic outlook.
Yeah. On the PPP non-customer conversion, as you know, we just did a great job last year with the PPP effort. All the new clients that we were able to bring in and support, we've already converted about 20% of those customers to PPP, that's translating to some nice deposit growth in the $45 million-$60 million range for us. We have a very focused effort on converting more of these customers throughout this year. I do believe, to your point, that we're going to see some nice new customer acquisition as a result, some really nice new business for the bank.
David, this is Paul Yonamine. Let me just chime in as well. I think in this first quarter, we've seen a lot of new accounts as a result of a lot of the PPP work that Arnold Martines referenced. We've definitely seen the deposit growth as a result of that. Now, as we continue to harvest things and the economy returning, we're quite hopeful that we'll be seeing some growth in other areas of banking. I think, again, it's right on course.
Okay. That's good color. I guess just with all this excess liquidity, it sounds like organic growth's coming, but just any thoughts on potential loan purchases to supplement the organic growth? I guess, just taking it all together, how do you think about the core NIM going forward? Do you think we can kind of stay in that 305, 315 realm, and that we're kind of approaching a trough as growth accelerates and earning asset mix improves?
David, did you mean stock repurchase or loan purchase?
Loan pool purchase.
Okay. All right. David, you want to take that?
Yeah. David. As you know, based on our past history, we always have considered some mainland loan purchases, portfolio purchases, to augment our Hawaii originations. That's always an option that we'll avail ourselves of if the risk-reward opportunity is there relative to what we're seeing locally. That is always available. The second part of your question on the net interest margin, core net interest margin, excluding PPP. The guidance remains the same, consistent with prior quarter that you mentioned, the 3.05%-3.15% net of PPP. We're still hopeful that we can have the net interest margin, the core net interest margin trough around middle of this year. Just to give you a little more color, the reported NIM was down 13 basis points.
We disclosed that eight basis points of that was related to less PPP fee income due to slower forgiveness. The remaining five, about one to two basis points of that is due to excess liquidity on the balance sheet. Really the balance sheet repricing is down to three to four basis points sequential quarter. We're getting close.
Okay. That's great color. Thanks, everybody.
Thank you, David.
Thanks, David.
Our next question is from Jacquelynne Bohlen from KBW. Go ahead.
Hi. Good morning, everyone.
Good morning.
I'm going to start on balance sheet management as it relates to capital. I mean, obviously you're having tremendous deposit growth, and it's increasing the balance sheet. Just wondering how you're thinking about that, number one, and number two, if it had any impact on no share repurchases in the quarter or if there were other factors at play on that.
Hey, Jackie. It's David. Obviously, very strong deposit growth, deposit and loan growth. As you can tell, the deposit growth, it goes beyond just PPP deposits, PPP loan origination deposits. There was definitely some organic deposit growth that Paul referenced too. How it plays into the capital decision making, even with the balance sheet being where it is, just short of $7 billion, we still believe we have some excess capital. We are looking to restart the repurchase plan in May. The degree to which it's utilized is going to be at management's discretion , obviously. It's going to be a function of share price and our outlook for the balance sheet going forward. We are thinking we're going to avail ourselves of that opportunity, that lever on capital management going forward. We are getting more comfortable with the economic outlook.
Hi, Jackie, this is Paul. Just to add to that, the spike in tourism has really kicked in since spring break. Prior to that, it was still somewhat slow. A lot of the economic indicators for Hawaii are very positive now. That was really just within this last month or so. Looking forward, as David mentioned, stock repurchases are definitely back on the table. I just wanted to add that color.
Okay, great. No, that's good color that it's only within the last month that things are looking more positive. Just in terms of flow, and I realize this is probably next to impossible to predict, but I know in the past we've talked about the potential for PPP deposit outflows to mirror PPP loan forgiveness. Obviously with the new stimulus, it makes it challenging to look at those trends. Just wondering if you're seeing the anticipated outflow that you might've expected, or if those deposits are proving to be a little stickier.
Yes. Jackie, this is Arnold. We're seeing some nice organic growth despite obviously some outflows in the deposit portfolio, given that the small businesses are going to spend some of that money. No, we're seeing some really nice organic growth. I'd say that this is a real rough number, but in Q1, we're thinking it's about $170 million roughly of outflows because of money being spent. We feel pretty good about the difference being really strong growth, organic growth and momentum for us. Although I will say as a caveat there'll continue to be some outflows in the coming quarters given the expectation that people will continue spending money and obviously some of the stimulus money will flow out as well.
Okay. It sounds like, obviously, I'm looking at on an absolute basis, deposits up 7%, but it sounds like that's a factor of some outflows related to 2020 PPP, obviously inflows from 2021 PPP, but also some good organic growth as you convert some of those 2020 customers over to full relationships. Did I sum that up?
That's correct.
Jackie, this is Paul again. We are still looking forward to mid-single digit growth in deposits for the year. Now with the economy coming back, hopefully businesses will further stimulate and we can work from there.
Okay, great. Thank you everyone.
Thank you.
Again, if you have a question, please press star then one. Our next question is from Andrew Liesch from Piper Sandler. Go ahead.
Hi. Good morning, everyone.
Morning.
Morning.
The follow-up question on the mortgage production you said was pretty strong at $300 million. Looked like the portfolio declined and mortgage banking revenue had declined as well and was a little bit short of my forecast. What's some of the trends you're seeing on the mortgage front? Could the gain on sale number come back? Are you going to portfolio more of the residential production? How does that all shake out?
Yeah, Andrew, this is Arnold. Clearly as you know, the gain on sale is a function of what we sell versus what we portfolio. In looking at Q2, overall the production is going to be really strong. We're looking at $260 million-$270 million production. As far as gain on sale, we're probably looking in the one and a half to three million range. Again, it's a function of what we decide to portfolio versus what we sell based on what we're seeing in the marketplace and in our views of the future.
Got it. What are you seeing on gain on sale spreads? Have those narrowed at all?
No, the spreads are starting to normalize. We are seeing some normalization in the spreads, Andrew.
Okay. Great. That's helpful. On the other side, expenses declined nicely on a core basis. Obviously some of that was from the deferred comp, if I add that back in, maybe $38.5 million, is this a good run rate to you going forward? Do you think expenses could rise from here as economic activity comes back too, and you have more customer transactions?
We continue to guide to $39 million-$41 million. I have to say that one thing we've done during the pandemic is demonstrated a lot of restraint on how we spend, and whether it be on headcount and other expenses. We're still in line with $39 million-$41 million.
Got it. That's really helpful. You've covered all my other questions. Thanks so much. I'll step back.
Great. Thank you.
Our next question is from Laurie Hunsicker from Compass Point. Go ahead.
Yeah. Hey, thanks. Good morning.
Morning.
I think I'm just down to one question. Obviously no C&I, no CRE deferrals. Fabulous. I just want to confirm that to the extent that loans have returned to partial payment, meaning they're interest-only deferrals, are those included in the deferral number?
Yeah. Well, the numbers that are down to $39.5 million is primarily loans on forbearance. Loans that have reinstated return are not in that number. Is that the question you're asking, Laurie?
No. If you've got a loan that was previously on deferral and now it's back but it's interest only, is that interest only on deferral, or is that no longer counted in deferral, in your deferral count?
Yeah. It's no longer counted.
Okay, just so I'm clear, interest onlys are no longer counted in deferrals?
Correct.
Okay. Okay. That's it. Thank you very much.
Yeah. Thanks, Laurie.
Thanks, Laurie.
This concludes our question-and-answer session. I would like to turn the conference back over to Paul Yonamine for closing remarks.
Thank you. That's Paul Yonamine. Thank you very much everyone for participating in our earnings call for the first quarter of 2021. We look forward to future opportunities to update you on our progress. Thank you.
The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.