Good day everyone and welcome to the RBB Bancorp earnings conference call for the fourth quarter and full year 2021. At this time, all participants are in a listen-only mode. Later, you will have an opportunity to ask questions during the question and answer session. You may register to ask a question at any time by pressing the star and one on your touch-tone phone. Please note this call may be recorded and I will be standing by should you need any assistance. I would now like to turn the conference over to Catherine Wei.
Thank you. Good day everyone, and thank you for joining us to discuss RBB Bancorp's financial results for the fourth quarter of 2021. With me today for management are President and CEO, Alan Thian, EVP and Chief Financial Officer, David Morris, EVP and Chief Credit Officer, Jeffrey Yeh, and EVP and Chief Risk Officer, Vincent Liu. Management will provide a brief summary of the results, which can be found in the earnings press release that is available on our investor relations website. We'll open up the call to your questions. During this conference call, statements made by management may include forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Such forward-looking statements are based upon specific assumptions that may or may not prove correct.
Forward-looking statements are also subject to known and unknown risks and uncertainties and other factors relating to RBB Bancorp's operations and business environment, all of which are difficult to predict and many of which are beyond the control of the company. For a detailed discussion of these risks and uncertainties, please refer to the documents the company has filed with the SEC. If any of these uncertainties materialize or any of these assumptions prove incorrect, RBB Bancorp's results could differ materially from its expectations as set forth in these statements. The company assumes no obligation to update such forward-looking statements unless required by law. Now, I'd like to turn the call over to Alan Thian. Alan.
Thank you, Catherine. Good day everyone, and thank you for joining us today. Royal Business Bank excellent fourth quarter results contributed to a record year of growth and performance in 2021. Our expansion strategy has proven to be an effective driver of earnings, loan growth, improvements in our deposit franchise, and most importantly, shareholder value. Our nationwide footprint gives us the ability to focus our loan and deposit origination efforts in regions with high economic growth. Our focus on serving the financial needs of underbanked first-generation immigrant Americans gives us access to deposits and loans that have long been ignored by conventional commercial banks. Our long history of underwriting and monitoring these differentiated assets give us the confidence that we are appropriately pricing risks and addressing issues as they arise.
Our recent expansion into the Hawaiian market and our announced acquisition of Gateway Bank in the San Francisco Bay Area will provide us with additional opportunities to bring our unique model to new markets. We now have a physical presence in six of our nine target markets and expect to have additional expansion opportunities to discuss in the near future. While we are pleased with our record financial results, we are also proud to have been recognized for our service to the communities in which we serve and operate. Last year, both Simon Pang, our EVP and Chief Strategy Officer, and I were appointed to national commissions to advise on community development, and we were awarded a $1.8 million CDFI grant by the U.S. Treasury. We believe these appointments and the grant are a testament to the work we do in the communities we serve.
With that, I will turn the call over to David to discuss some of the quarter's financial highlights before opening up the call for questions. David.
Thank you, Alan Thian. I'll start by reviewing some of the highlights of our income statement before moving on to our balance sheet. Net income grew 2.2% from last quarter and 40.9% from a year earlier to a record $15.9 million or $0.79 per diluted share in the fourth quarter. Net income benefited from several factors. A $135.9 million increase in average earning assets and a stable yield drove a $1.6 million increase in net interest income from the prior quarter. Net interest income also benefited from a decline in interest expense due to a decline in average interest-bearing liabilities and a modest decline in deposit costs.
Fourth quarter non-interest income decreased by $2.4 million from the previous quarter, primarily due to last quarter's CDFI grant and some unrealized losses on equity investments and derivatives this quarter. Non-interest expense decreased from last quarter as a $2 million decrease in compensation expense was offset by a $940,000 increase in legal and professional expenses. The decrease in compensation expense was due in part to an increase in the percentage of compensation paid in restricted stock units that will vest over time. The increase in legal and professional expenses were due in part to expenses related to the acquisition of the branch in Honolulu and the announced acquisition of Gateway Bank and the revision of the compensation plan.
Net interest margin was 3.43% for the fourth quarter, an increase of 5 basis points from the third quarter and a decrease of 24 basis points from a prior year. Annualized return on average assets and return on tangible common equity were relatively stable in the fourth quarter at 1.52% and 15.98% following the impact of the CDFI grant in the third quarter. Net loans held for investment totaled $2.9 billion as of December 31st, which was a $90.3 million increase from last quarter. We had good growth in all our products, except C&I, which decreased by $8 million from the prior quarter, and SBA, which decreased by $12.6 million. Our non-QM mortgage product, which is our most profitable mortgage product, continues to lag due to the rate environment.
Our yield on average earning assets for the quarter was stable from the last quarter at 3.97% and down 58 basis points from the prior year. As with the NIM, this year-over-year decrease was almost entirely due to lower returns on excess capital. With respect to funding, commercial customer activity drove $175 million of growth in average non-interest-bearing deposits over the quarter. Year-end commercial activity drove an increase in deposits at December 31st, which have remained elevated but could decline somewhat if rates increased. Our average cost of interest-bearing deposits for the quarter was 0.47%, which was down 4 basis points from the prior quarter and 46 basis points from the fourth quarter of 2020.
Non-performing assets increased by $6.5 million to $21 million in the fourth quarter, increasing 12 basis points to 0.5% of total assets. We anticipate this increase will be temporary and will return to previous levels by the end of the second quarter. As of January 15th, we had no loans in COVID-19 deferments. We took a provision for credit losses of $635,000 in the fourth quarter, primarily attributable to loan growth. Our capital levels remain strong with our capital ratios well above regulatory minimums. With that, we are happy to take your questions. Operator, please open up the call.
Certainly. At this time, if you would like to ask a question, please press the star and one on your touch-tone phone. You may remove yourself from the queue at any time by pressing the pound key. Once again, that is star and one if you would like to ask a question. We ask that you please pick up your handset to allow optimal sound quality, and we will take our first question from Nick Cucharale with Piper Sandler. Your line is now open.
Good day, everyone. How are you?
Hi, Nick.
We're great.
Hi. Hi, good afternoon.
I'd like to start with the exceptional deposit growth this quarter. You noted the expanding relationships with a number of your commercial clients, but can you give us some more detail on this? Are there any concentrations in this quarter's growth that we should be aware of?
Yes. There is. We have a couple of big clients who have come on board. Well, I shouldn't say come on board. We had one client that took some money out at the end of the third quarter and has put the money back in, and we have had growth in another client, significant growth in another client also. Okay?
Are we talking about like a majority of this quarter's growth coming from one or two clients? I'd just like to kinda decipher that a little bit.
I would say it's the majority of the growth is coming from a few clients but then also he had some good growth in our branches. Okay.
Okay. Just from an overarching perspective, are you expecting non-interest-bearing deposits to increase the percentage of total deposits from this level?
No. We actually anticipate as the COVID all the COVID money goes away and as interest rates go up, we expect $300 million-$500 million of non-interest-bearing deposits to either run off the bank, run out of the bank, or go into higher instruments.
Okay. Related to that, just to stay on the topic, you've driven your cost of funds down significantly due to both rate and mix. Now, does this significant change in the funding base change the strategy at all?
I don't think so.
We don't think so. It was just that the interest rate environment had been so low for these past years that we just continue to drive our interest rate lower. I would say that one of the reason is because during the pandemic in this past two years, what we found in common was that it could be a lot of depositors, they afraid to come to the bank. A lot of the renewal of the interest rate, they were not that keen in bargaining on the rate a little bit. We see very little bargain on negotiation of the rate from our existing customer in the last two years. They.
Because reenrollment is so low that it doesn't make sense for them to come in and close the CD, close the account, and move to the next bank just for one, two, or five basis points. I believe that helps a lot too. Because in the last two years we find that actually it's very easy for us to deal with our customer. I really see people come and negotiate rate with us. However, like just, like David mentioned, when rate get to that low, a customer may not even want to negotiate one or two or five basis points. However, it really depends on if this year, if interest rate is really move up four times and if every time it's 25 basis points, the story could be different.
That there's still something that we'll wait to see. However, there are some bank in our communities is already promoting a 68 basis point for a year and 88 basis point for 1.5 years. Again, we are not going to follow that. However, some smaller bank is already trying to lock in, trying to offer higher rate to lock in the money.
That is very helpful. Just my last question, just on loan growth. Can you update us on your organic targets for 2022 and just how the pipeline compares to this time last quarter?
Yes. Again, our loan growth was still between, I would say that it's still between 8%-10%. Again, depending on how fast would be the interest rate increase. Because when the interest rate because we grow a lot on the commercial side. So when if interest rate moves up fast and I see that maybe we may see loan maybe was instead of 10%, we'll see 7% or 8%. One of the reason is being that when interest rate move up a 50 basis point or 75 basis point, that will impact the debt coverage ratio. And that, again, because the stress test, we're going to raise our interest rate on stress test as well.
I anticipate that some of the loans that previously would qualify because of lower interest rate will not qualify in the future. That may either we will have to reduce the loan amount or maybe they will. If this is a purchase, they may not qualify at all. There's still that it will be another moving parts. However, I believe we are still looking at on the conservative side, we are still looking at 7%-8% growth.
I appreciate all the color. I'll step out. Thanks for taking my question.
We will take our next question from Andrew Terrell with Stephens Inc. Your line is now open.
Hey, good afternoon.
Good afternoon.
Hey, I just wanna circle back to the non-interest bearing deposit increase we saw this quarter. Just to clarify, do you expect some of the increase this quarter to be transitory and potentially run off in the next couple of quarters? If so, can you just quantify that amount?
Yes. We do expect that, it's transitory. We expect that, you know, that we were talking about $175 million in average balances. We expect close to half of what came on over the quarter to probably go off in the next six months.
Okay. Is that incremental to the, I think you referenced $300 million-$500 million of non-interest-bearing that you expect could either-
No.
run off or be paid?
That's part of it.
Okay. Part of it.
That's part of it.
Okay. Got it. Looking at the kind of mortgage gain on sale margin, it looks like it ticked up a little bit this quarter. I guess should we expect the gain on sale margin for mortgage to kind of step down a little bit from here, given the outlook on interest rates? Can you just provide an updated expectation on mortgage production or sold volume for both the QM and non-QM business as we head into 2022?
Okay. The volume for non-QM business right now is zero for mortgage sales. For Fannie Mae, we're still hoping that we can meet our $8 million-$10 million mark, which will give us our gain on sale that we would need to have that we've talked about in the past. Okay. As far as what we earn on our Fannie Mae loans right now, in August we went to mandatory delivery, and we began hedging all of our mortgages. It's ended up being a good play for us because we've ended up earning about a full point more than what we were earning prior. Having said that, right now servicing as part of the gain is right now at an all-time high. As rates go up, that will go down.
As rates go up, we would expect the amount that we earn on our mortgage sales go down maybe 50 basis points. Depends on how quickly and how high they go.
Okay. Thank you. Just on the expense base, it was nice to see kind of the quarter-on-quarter decline, this quarter, if you adjust for some of the merger. Can you maybe help us think about it? I get the kind of full year 2022 gets a little bit lumpy with kind of some of the cost saves and added deal expenses. Can you help us think about kind of run rate for expenses heading into the first quarter?
I think our expenses are going to be very close, if not a little bit higher than our third quarter of 2021. It's gonna probably be higher than that because our salaries, most of the demand on our employees or demand for our employees I should say, is extremely high. I think even our average performers are probably getting close to 5%, and our better performers are getting up to 10-
10%.
10%. Okay. That's only because we cannot, you know, we need to retain our staff. Okay.
Okay. Very helpful. Thank you for taking my questions. Congrats on a good quarter. I'll step back.
Thank you.
Once again, that is star and one if you would like to ask a question. We will take our next question from Kelly Motta with KBW. Your line is now open.
Hi. Thank you so much for the question. Most of mine have been asked and answered already. Maybe, since we have the time, you could give us an update on the M&A environment. I know you have the deal pending. You just closed the Hawaii branch acquisition. Does this kind of keep you out for the next year or so, or do you still have the capacity and desire to continue to look for acquisitions?
I would say that our strategy all along is to grow both organically and through M&A. Our strategy on organic growth is pretty much like 8% on loans, 11%-12% on deposits. The M&A side really depends on at a certain point or at any point if there is a bank of our interest that becomes available. Knowing that we are looking at a specific market, an area where the financial institution is serving the first-generation immigrants or possible other unserved or underserved market. There is just a different market segment we are getting into.
There are a few institutions we always have our eye on, such as an area like Seattle, an area like Texas and an area like some of the metropolitan city like Phoenix, Miami, Atlanta. Those are still the targets that we are looking at. Again, it's really whether we can pick up a particular institution to see whether we have any of these institutions that we're looking at become available.
Kelly?
Oh, that answers my question. Thank you. Thank you so much.
Okay.
We have a follow-up question from Andrew Terrell with Stephens Inc. Your line is now open.
Hey, thanks for taking the follow-up. I did wanna ask one quick one just on the buyback. I saw you purchased some shares, I think 75,000 shares back during the quarter. Obviously, we've seen an improvement in price from there, and you've got a pending acquisition now. Just wanted to get kind of updated thoughts on appetite as it pertains to the buyback moving forward. Thanks.
Okay. Right now we're over our, I guess, target price for the buyback, so that will—there probably won't be any buyback for the, as long as we're still at a $29 price that we are right now, there won't be. But if the price does go back down, it's already preset, so it will, it will kick in at that level. Okay? We still have 333,000 shares, I believe, close to that we can do. Our problem is the volume. There's days when we're buying—When we're in the market, we're buying, you know, less than 1,000 shares.
Okay. Understood. Thank you for taking my question.
Yeah. Thank you.
We have no further questions on the line at this time. I will turn the program back over to our presenters for any additional or closing remarks.
Once again, thank you all for joining us today. We look forward to speaking to many of you in the coming days and weeks. Have a nice day.
This does conclude today's program. Thank you for your participation. You may disconnect at this time, and have a wonderful day.