Central Pacific Financial Corp: Form 10-Q for the period ended Sep 30, 2024

Forward-Looking Statements and Factors that Could Affect Future Results

Certain statements contained in this quarterly report on Form 10-Q that are not statements of historical fact constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995 (the "Act"), notwithstanding that such statements are not specifically identified. In addition, certain statements may be contained in our future filings with the U.S. Securities and Exchange Commission ("SEC"), in press releases and in oral and written statements made by us or with our approval that are not statements of historical fact and constitute forward-looking statements within the meaning of the Act. Examples of forward-looking statements include, but are not limited to: (i) projections of revenues, expenses, income or loss, earnings or loss per share, capital expenditures, the payment or nonpayment of dividends, capital position, credit losses, and net interest margin or other financial items; (ii) statements of plans, objectives and expectations of Central Pacific Financial Corp. (the "Company") or its management or Board of Directors, including those relating to business plans, use of capital resources, products or services and regulatory developments and regulatory actions; (iii) statements of future economic performance including anticipated performance results from our business initiatives; and (iv) any statements of the assumptions underlying or relating to any of the foregoing. Words such as "believe," "plan," "anticipate," "seek," "expect," "intend," "forecast," "hope," "target," "continue," "remain," "estimate," "will," "should," "may" and other similar expressions are intended to identify forward-looking statements but are not the exclusive means of identifying such statements.

While we believe that our forward-looking statements and the assumptions underlying them are reasonably based, such statements and assumptions are by their nature subject to risks and uncertainties, and thus could later prove to be inaccurate or incorrect. Accordingly, actual results could differ materially from those statements or projections for a variety of reasons. Factors that could cause actual results to differ from those discussed in the forward-looking statements include, but are not limited to:

• the effects of inflation and interest rate fluctuations;
• the adverse effects of recent bank failures and the potential impact of such developments on customer confidence, deposit behavior, liquidity and regulatory responses thereto;
• the adverse effects of the COVID-19 pandemic virus (and its variants) and other pandemic viruses on local, national and international economies, including, but not limited to, the adverse impact on tourism and construction in the State of Hawaii, our borrowers, customers, third-party contractors, vendors and employees, as well as the effects of government programs and initiatives in response thereto;
• supply chain disruptions;
• labor contract disputes and potential strikes impacting both the U.S. National and Hawaii economies;
• the increase in inventory or adverse conditions in the real estate market and deterioration in the construction industry;
• adverse changes in the financial performance and/or condition of our borrowers and, as a result, increased loan delinquency rates, deterioration in asset quality, and losses in our loan portfolio;
• the impact of local, national, and international economies and events (including natural disasters such as wildfires, volcanic eruptions, hurricanes, tsunamis, storms, and earthquakes) on the Company's business and operations and on tourism, the military, and other major industries operating within the Hawaii market and any other markets in which the Company does business;
• deterioration or malaise in domestic economic conditions, including any destabilization in the financial industry and deterioration of the real estate market, as well as the impact of declining levels of consumer and business confidence in the state of the economy in general and in financial institutions in particular;
• changes in estimates of future reserve requirements based upon the periodic review thereof under relevant regulatory and accounting requirements;
• the impact of the Dodd-Frank Wall Street Reform and Consumer Protection Act (the "Dodd-Frank Act"), changes in capital standards, other regulatory reform and federal and state legislation, including but not limited to regulations promulgated by the Consumer Financial Protection Bureau (the "CFPB"), government-sponsored enterprise reform, and any related rules and regulations which affect our business operations and competitiveness;
• the costs and effects of legal and regulatory developments, including legal proceedings and lawsuits we are or may become subject to, or regulatory or other governmental inquiries and proceedings and the resolution thereof, the results of regulatory examinations or reviews and the effect of, and our ability to comply with, any regulations or regulatory orders or actions we are or may become subject to, and the effect of any recurring or special FDIC assessments;
• the effect of changes in accounting policies and practices, as may be adopted by the regulatory agencies, as well as the Public Company Accounting Oversight Board ("PCAOB"), the Financial Accounting Standards Board ("FASB") and other accounting standard setters and the cost and resources required to implement such changes;
• the effects of and changes in trade, monetary and fiscal policies and laws, including the interest rate policies of the Board of Governors of the Federal Reserve System (the "FRB" or the "Federal Reserve");
• securities market and monetary fluctuations, including the impact resulting from the elimination of the London Interbank Offered Rate Index;
• negative trends in our market capitalization and adverse changes in the price of the Company's common stock;
• the effects of any acquisitions or dispositions we may make or evaluate, and the costs associated with any potential or actual acquisition or disposition, including re-engagement in any potential acquisition process;
• political instability;
• acts of war or terrorism;
• changes in consumer spending, borrowings and savings habits;
• technological changes and developments;
• cybersecurity and data privacy breaches and the consequence therefrom;
• failure to maintain effective internal control over financial reporting or disclosure controls and procedures;
• our ability to address deficiencies in our internal controls over financial reporting or disclosure controls and procedures;
• changes in the competitive environment among financial holding companies and other financial service providers;
• our ability to successfully implement our initiatives to lower our efficiency ratio;
• our ability to attract and retain key personnel;
• changes in our personnel, organization, compensation and benefit plans;
• our ability to successfully implement and achieve the objectives of our Banking-as-a-Service ("BaaS") initiatives, including adoption of the initiatives by customers and risks faced by any of our bank collaborations including reputational and regulatory risk; and
• our success at managing the risks involved in the foregoing items.

For further information with respect to factors that could cause actual results to materially differ from the expectations or projections stated in the forward-looking statements, please see the Company's publicly available Securities and Exchange Commission filings, including the Company's Form 10-K for the last fiscal year and in particular, the discussion of "Risk Factors" set forth therein and herein. We urge investors to consider all of these factors carefully in evaluating the forward-looking statements contained in this document. Forward-looking statements speak only as of the date on which such statements are made. We undertake no obligation to update any forward-looking statements to reflect events or circumstances after the date on which such statement is made, or to reflect the occurrence of unanticipated events except as required by law.

Overview

Central Pacific Financial Corp. ("CPF") is a Hawaii corporation and a bank holding company. Our principal business is to serve as a holding company for our bank subsidiary, Central Pacific Bank. We refer to Central Pacific Bank herein as "our Bank" or "the Bank," and when we say "the Company," "we," "us" or "our," we mean the holding company on a consolidated basis with the Bank and our other consolidated subsidiaries.

Central Pacific Bank is a full-service community bank with 27 branches and 56 ATMs located throughout the State of Hawaii as of September 30, 2024.

The Bank offers traditional deposit and lending products and services to consumer and business customers such as accepting demand, money market, savings and time deposits, originating loans, including commercial loans, construction loans, commercial real estate loans, residential mortgage loans, and consumer loans and fiduciary and investment management services.

Basis of Presentation

Management's discussion and analysis of financial condition and results of operations should be read in conjunction with the accompanying consolidated financial statements under "Part I, Item 1. Financial Statements (Unaudited)." The following discussion should also be read in conjunction with the Company's Annual Report on Form 10-K for the year ended December 31, 2023 filed with the U.S. Securities and Exchange Commission (the "SEC") on February 21, 2024, including the “Risk Factors” set forth therein.

Critical Accounting Policies and Use of Estimates

The preparation of financial statements in accordance with accounting principles generally accepted in the United States of America ("GAAP") requires that management make certain judgments and use certain estimates and assumptions that affect amounts reported and disclosures made. Actual results may differ from those estimates and such differences could be material to the financial statements.

Accounting estimates are deemed critical when a different estimate could have reasonably been used or where changes in the estimate are reasonably likely to occur from period-to-period and would materially impact our consolidated financial statements as of or for the periods presented. Management has discussed the development and selection of the critical accounting estimates noted below with the Audit Committee of the Board of Directors, and the Audit Committee has reviewed the accompanying disclosures.

The Company identified a significant accounting policy, which involves a higher degree of judgment and complexity in making certain estimates and assumptions that affect amounts reported in our consolidated financial statements. At September 30, 2024 and December 31, 2023, the significant accounting policy that we believed to be the most critical in preparing our consolidated financial statements is the determination of the allowance for credit losses ("ACL") on loans. This is further described in Note 1 - Summary of Significant Accounting Policies included in the accompanying notes to the consolidated financial statements, Note 1 - Summary of Significant Accounting Policies included in the accompanying notes to the consolidated financial statements for the year ended December 31, 2023, and the section titled "Critical Accounting Policies and Use of Estimates" in Management's Discussion and Analysis of Financial Condition and Operating Results included in the Company's 2023 Annual Report on Form 10-K.

Financial Summary

Net income for the three months ended September 30, 2024 was $13.3 million, or $0.49 per diluted share, compared to net income of $13.1 million, or $0.49 per diluted share for the three months ended September 30, 2023. Net income during the third quarter of 2024 was impacted by $3.1 million in pre-tax expenses related to our evaluation and assessment of a strategic opportunity.

Net income for the nine months ended September 30, 2024 was $42.1 million, or $1.55 per diluted share, compared to net income of $43.8 million, or $1.62 per diluted share for the nine months ended September 30, 2023.

During the three months ended September 30, 2024, the Company recorded a provision for credit losses of $2.8 million, compared to a provision of $4.9 million during the three months ended September 30, 2023. The decrease was primarily due to a decrease in loan balances outstanding and improvements in the Hawaii economic forecast assumptions used in the Company's estimate of the ACL.

During the nine months ended September 30, 2024, the Company recorded a provision for credit losses of $9.0 million, compared to a provision of $11.0 million during the nine months ended September 30, 2023.

The Company's pre-provision net revenue ("PPNR"), a non-GAAP financial measure which excludes the provision for credit losses and income tax expense from net income, for the three months ended September 30, 2024 was $19.9 million, compared to $22.4 million for the three months ended September 30, 2023. The Company's PPNR for the nine months ended September 30, 2024 was $63.6 million, compared to $68.7 million for the nine months ended September 30, 2023. The decrease in PPNR for the three and nine months ended September 30, 2024 is primarily due to the aforementioned expenses related to a strategic opportunity. See the following section titled "Non-GAAP Financial Measures" for reconciliation of PPNR.

The following table presents annualized returns on average assets ("ROA") and average shareholders' equity ("ROE"), and basic and diluted earnings per share ("EPS") for the periods presented. ROA and ROE are annualized based on a 30/360 day convention.

Non-GAAP Financial Measures

The Company uses certain non-GAAP financial measures in addition to our GAAP results to provide useful information which we believe are better indicators of the Company's core activities. This information should be considered as supplemental in nature and should not be considered in isolation or as a substitute for the related financial information prepared in accordance with GAAP. In addition, these non-GAAP financial measures may not be comparable to similarly entitled measures reported by other companies.

The reconciling adjustments from GAAP or reported financial measures to non-GAAP adjusted financial measures are limited to the $3.1 million in pre-tax expenses related to our evaluation and assessment of a strategic opportunity. Management does not consider these expenses to be representative of the Company's core earnings.

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Adjusted Net Income and Diluted Earnings per Share

The following table presents a reconciliation of the Company's adjusted net income and adjusted diluted EPS for the periods presented:

(dollars in thousands, except per share data)

Adjusted Pre-Provision Net Revenue

The Company believes that PPNR, a non-GAAP financial measure, is useful as a tool to help evaluate the ability to provide for credit costs through operations. The following table presents a reconciliation of the Company's PPNR and adjusted PPNR for the periods presented:

(dollars in thousands)

The higher adjusted PPNR in the third quarter of 2024 was primarily due to higher net interest income of $1.9 million compared to the year-ago period. The higher net interest income was primarily due to higher average yields earned on interest-earning assets, which outpaced the higher average rates paid on interest-bearing deposits.

The lower adjusted PPNR in the nine months ended September 30, 2024 was primarily due to lower net interest income of $2.9 million compared to the year-ago period. The lower net interest income was primarily due to higher average balances and rates paid on interest-bearing deposits driven by the high interest rate environment in 2024, which outpaced the higher average yields earned on loans and investment securities.

Adjusted Efficiency Ratio

The Company believes that the efficiency ratio, a non-GAAP financial measure, provides useful supplemental information that is important to a proper understanding of the Company's business results and operating efficiency, which is calculated by dividing total other operating expense by total revenue (net interest income and total other operating income).

The following table presents a calculation of our efficiency ratio and adjusted efficiency ratio for the periods presented:

(dollars in thousands)

Our adjusted efficiency ratio increased to 65.51% in the third quarter of 2024, compared to 63.91% in the year-ago quarter.

For the nine months ended September 30, 2024, our adjusted efficiency ratio increased to 65.26%, compared to 63.89% in the year-ago period.

The higher adjusted efficiency ratio in the third quarter of 2024, compared to the same year-ago period, was due to higher other operating expense, partially offset by higher net interest income and other operating income.

The higher adjusted efficiency ratio in the nine months ended September 30, 2024, compared to the same year-ago period, was due to higher other operating expense and lower net interest income, partially offset by higher other operating income.

Adjusted Return on Average Assets and Adjusted Return on Average Shareholders' Equity

The following table presents a calculation of our adjusted ROA and adjusted ROE for the periods presented:

(dollars in thousands)

Adjusted Tangible Common Equity Ratio

The following table presents a calculation of our tangible common equity ("TCE") ratio and adjusted TCE ratio as of the dates presented:

(dollars in thousands)

Material Trends

The majority of our operations are concentrated in the State of Hawaii. As a result, our performance is significantly influenced by the strength of the real estate markets, economic environment and environmental conditions in Hawaii. Macroeconomic conditions also influence our performance. A favorable business environment is generally characterized by expanding gross state product, low unemployment and rising personal income, while an unfavorable business environment is characterized by the reverse.

On August 8, 2023, a series of wildfires broke out on the Island of Maui, in Kula, Upcountry Maui, Kihei, and most devastatingly in the town of Lahaina. The wildfires took the lives of at least 100 people and destroyed over 2,200 structures, of which approximately 86% were residential homes. The disaster area had more than 800 business establishments with about 7,000 employees. The Company did not sustain any damages to its facilities on Maui.

Visitors to Maui decreased by approximately 57% in September 2023 compared to September 2022 but has started to recover at a slow but steady pace as West Maui officially reopened to visitors in early October 2023 and government officials are encouraging travelers to return to Maui, while avoiding the affected area, to support its economic recovery. In August 2024, visitors to Maui were up by approximately 80% compared to August 2023, but still down by 25% from August 2019. The unemployment rate for the Island of Maui was 8.4% in September 2023 and has since improved to 4.0% in September 2024.

In response to the Maui wildfires, the Company provided three to six months interest and/or principal loan payment deferrals to customers who were directly impacted by the wildfires on a case-by-case basis, which have all ended and returned to current payment status as of September 30, 2024.

Despite the Maui wildfires, Hawaii’s economy continued its recovery from the COVID-19 pandemic. According to preliminary statistics from the Hawaii Tourism Authority ("HTA"), a total of 6.5 million visitors arrived to the Hawaiian Islands during the eight months ended August 31, 2024, mainly from the U.S. Mainland, compared to 6.7 million in the same prior year period and 7.1 million from the same period in the pre-pandemic and record year in 2019. Average daily visitors from Japan were up approximately 27% during the eight months ended August 31, 2024 compared to the same prior year period, but were down by approximately 54% from the same period in 2019.

Total spending for visitors arriving in the eight months ended August 31, 2024 was $14.06 billion, down 2.3% from $14.39 billion in the same period last year, and up by 16.6% from $12.06 billion in the eight months ended August 31, 2019.

According to a September 2024 report by the University of Hawaii Economic Research Organization ("UHERO"), total visitor arrivals by air are expected to be approximately 9.7 million in 2024, which is an increase of approximately 0.9% from 9.6 million last year. Visitor spending is expected to decline approximately 4.0% to $19.89 billion in 2024 from last year's record year for visitor spending of $20.71 billion.

The Department of Labor and Industrial Relations reported that Hawaii's seasonally adjusted annual unemployment rate was 2.9% in the month of September 2024, compared to 3.0% in the month of September 2023 and the national seasonally adjusted unemployment rate of 4.1% in the month of September 2024. UHERO projects Hawaii's seasonally adjusted annual unemployment rate to remain low at approximately 3.0% in 2024.

Real estate lending is one of the primary focuses for the Company, including residential mortgage and commercial mortgage loans. As a result, the Company is dependent on the strength of Hawaii's real estate market. While the Hawaii housing market continues to experience some moderation in sales activity, there continues to be strong demand and low inventory. According to the Honolulu Board of Realtors, sales of Oahu single-family homes in the nine months ended September 30, 2024 were up 5.8%, while sales of Oahu condominiums were down 5.6% from the same prior year period. The Oahu single-family home median price in the nine months ended September 30, 2024 rose by 4.8% to $1.10 million from $1.05 million in the same prior year period. The Oahu condominium median price in the nine months ended September 30, 2024 rose by 1.0% to $510,000 from $505,000 in the same prior year period.

Hawaii's economy is measured by the growth of real personal income and real gross state product. UHERO projects real personal income to grow by 1.4% and real gross state product to grow by 1.0% in 2024.

Results of Operations

Net Interest Income and Net Interest Margin

A comparison of net interest income and net interest margin on a taxable-equivalent basis for the three and nine months ended September 30, 2024 and 2023 is presented below. Net interest margin is defined as annualized net interest income, on a taxable-equivalent basis using a federal statutory tax rate of 21%, as a percentage of average interest earning assets.

(dollars in thousands)

Net interest income (expressed on a taxable-equivalent basis) was $54.0 million for the third quarter of 2024, representing an increase of $1.9 million, or 3.6% from $52.1 million in the year-ago quarter. The increase in net interest income from the year-ago quarter was primarily due to higher average yields earned on interest earning assets, combined with declines in average interest-bearing demand balances and average time deposits over $250,000 balances. These positive variances were partially offset by declines in average investment securities and loans and higher average rates paid on interest-bearing deposits.

Interest Income

Taxable-equivalent interest income was $78.0 million for the third quarter of 2024, representing an increase of $5.4 million, or 7.5%, from $72.6 million in the year-ago quarter. The increase during the third quarter of 2024, compared to the year-ago quarter was primarily attributable to an increase in average yield earned on loans of 40 basis points ("bp" or "bps"), resulting in an increase in interest income of approximately $5.3 million and an increase in average yield earned on investment securities of 51 bps, resulting in an increase in interest income of approximately $1.9 million, combined with increases in the average balance and average yield earned on interest-bearing deposits in other financial institutions resulting in an increase in interest income of approximately $0.4 million. The increase in the average yield earned on investment securities was partially attributable to income of $1.1 million from an interest rate swap that became effective on March 31, 2024. These increases were partially offset by decreases in average loans and investment securities balances of $176.4 million and $22.3 million, respectively, resulting in decreases in interest income of approximately $2.0 million and $0.1 million, respectively.

Interest Expense

Interest expense was $24.0 million for the third quarter of 2024, representing an increase of $3.6 million, or 17.4%, from $20.5 million in the year-ago quarter. Due to the high interest rate environment, average rates paid on interest-bearing deposits of 1.82% increased by 33 bps from the year-ago quarter, resulting in an increase in interest expense of approximately $4.9 million. The increase was partially offset by a decrease in average interest-bearing deposits of $95.6 million, resulting in a decrease in interest expense of approximately $1.3 million.

Net Interest Margin

Our net interest margin of 3.07% for the third quarter of 2024 increased by 19 bps from 2.88% in the year-ago quarter. The increase in net interest margin for the third quarter of 2024 was primarily attributable to increases in average yields earned on interest-bearing deposits in other financial institutions, investment securities and loans, which outpaced the increase in average rates paid on interest-bearing deposits.

In an effort to rein in inflation, the FRB aggressively increased interest rates since the first quarter of 2022 when the Federal Funds Rate target was 0.00% to 0.25%. Since then, the FRB has raised the Federal Funds Rate by more than five percentage points, up to a 22-year high, 5.25% to 5.50% in July 2023. The Federal Funds rate remained at that level until September 2024. At the September 2024 Federal Open Market Committee ("FOMC") meeting, the FOMC lowered interest rates by 50 bps to 4.75% to 5.00%, as they gained greater confidence that inflation is moving sustainably towards its 2% target.

(dollars in thousands)

Net interest income (expressed on a taxable-equivalent basis) was $156.4 million for the nine months ended September 30, 2024, representing a decrease of $3.0 million or 1.9% from $159.5 million in the nine months ended September 30, 2023. The decrease from the year-ago period was primarily due to higher average balances and average rates paid on interest-bearing deposits and long-term debt, combined with a decrease in average loans and investment securities balances. These negative variances were partially offset by increases in average yields earned on interest-earning assets.

Interest Income

Taxable-equivalent interest income was $228.6 million for the nine months ended September 30, 2024, representing an increase of $19.5 million, or 9.3%, from $209.1 million in the year-ago period. The increase was primarily attributable to increases in average yields earned on loans and investment securities of 42 bps and 31 bps, respectively, resulting in increases in interest income of approximately $16.9 million and $3.5 million, respectively. The increase in the average yield earned on investment securities was partially attributable to income of $1.9 million from an interest rate swap that became effective on March 31, 2024. In addition, the increase in average balance and yield earned on interest-bearing deposits in other financial institutions of $119.3 million and 22 bps, respectively, resulted in an increase in interest income of approximately $5.0 million. These increases were partially offset by a decrease in average loan balances of $153.2 million during the nine months ended September 30, 2024, compared to the year-ago period, resulting in a decrease in interest income of approximately $5.0 million.

Interest Expense

Interest expense was $72.2 million for the nine months ended September 30, 2024, which increased by $22.5 million, or 45.3%, from $49.7 million in the year-ago period. Due to the high interest rate environment, average rates paid on interest-bearing deposits of 1.82% increased by 63 bps and average interest-bearing deposit balances increased by $52.8 million from the year-ago period, resulting in increases in interest expense of approximately $22.3 million and $0.8 million, respectively.

Net Interest Margin

Our net interest margin of 2.95% for the nine months ended September 30, 2024 decreased by 3 bps from 2.98% in the year-ago period. As previously discussed, the decrease in net interest margin for the nine months ended September 30, 2024 compared to the year-ago period was primarily attributable to the aforementioned increases in average rates paid on interest-bearing deposits and long-term debt, which outpaced the increases in average yields earned on interest-earning assets.

Rate-Volume Analysis

For each category of interest-earning assets and interest-bearing liabilities, information is provided on changes attributable to: (i) changes in average balances (volume) and (ii) changes in weighted average interest rates (rate). The change in volume is calculated as change in average balance, multiplied by prior period average yield/rate. The change in rate is calculated as change in average yield/rate, multiplied by current period volume. The change in interest income not solely due to change in volume or change in rate has been allocated proportionately to change in volume and change in average yield/rate.

(dollars in thousands)

Other Operating Income

The following tables present components of other operating income for the periods presented:

(dollars in thousands)

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For the third quarter of 2024, total other operating income was $12.7 million, which increased by $2.7 million, or 26.7%, from $10.0 million in the year-ago quarter. The increase was primarily due to higher income from bank-owned life insurance ("BOLI") of $1.5 million, other service charges and fees of $0.7 million, and income from fiduciary activities of $0.2 million. The higher income from BOLI was primarily attributable to volatile equity market returns and their impact on corporate-owned life insurance policies used to hedge deferred compensation expense.

(dollars in thousands)

For the nine months ended September 30, 2024, total other operating income was $36.1 million, which increased by $4.6 million, or 14.6%, from $31.5 million in the year-ago period. The increase from the same year-ago period was primarily due to higher other service charges and fees of $1.9 million, income from BOLI of $1.8 million, income from fiduciary activities of $0.7 million, and mortgage banking income of $0.5 million. The higher other service charges and fees was attributable to higher investment services fees, ATM and debit card fees and fees on foreign exchange. The higher income from BOLI during the nine months ended September 30, 2024 was primarily attributable to volatile equity market returns.

Other Operating Expense

The following tables present components of other operating expense for the periods presented:

(dollars in thousands)

For the third quarter of 2024, total other operating expense was $46.7 million, which increased by $7.1 million, or 17.9%, from $39.6 million in the year-ago quarter. The increase was primarily due to higher salaries and employee benefits of $3.3 million, $3.1 million in expenses related to our evaluation and assessment of a strategic opportunity, and directors' deferred compensation plan expense of $1.1 million. The higher salaries and employee benefits and directors' deferred compensation plan expense were partially attributable to volatile equity market returns and are consistent with the increase in income from BOLI which is used to hedge the deferred compensation expenses.

(dollars in thousands)

For the nine months ended September 30, 2024, total other operating expense was $128.4 million and increased by $6.8 million, or 5.6%, from $121.6 million in the same year-ago period. The increase was primarily due to the aforementioned $3.1 million in expenses related to a strategic opportunity, higher salaries and employee benefits of $2.4 million, and higher directors' deferred compensation plan expense of $1.8 million compared to the same year-ago period. The higher salaries and employee benefits and directors' deferred compensation plan expense were partially attributable to volatile equity market returns and are consistent with the increase in income from BOLI which is used to hedge the deferred compensation expenses. These increases were partially offset by lower computer software expense of $0.4 million, legal and professional services of $0.4 million, and FDIC insurance assessment of $0.4 million.

Income Taxes

The Company recorded income tax expense of $3.8 million for the third quarter of 2024, compared to $4.3 million in the same year-ago period. The effective tax rate ("ETR") for the third quarter of 2024 was 22.03%, compared to 24.87% in the same year-ago period.

The Company recorded income tax expense of $12.6 million for the nine months ended September 30, 2024, compared to $13.9 million in the same year-ago period. The effective tax rate for the nine months ended September 30, 2024 was 23.00%, compared to 24.06% in the same year-ago period.

The decrease in income tax expense and the effective tax rate for the three and nine months ended September 30, 2024 was primarily attributable to higher tax-exempt BOLI income, additional low-income housing tax credits recognized, and lower pre-tax income compared to the same year-ago periods.

The Company's net deferred tax assets ("DTA"), net of valuation allowance, totaled $22.5 million and $29.5 million at September 30, 2024 and December 31, 2023, respectively, and was included in other assets on our consolidated balance sheets. The decrease in DTA was primarily due to projected utilization of net operating loss carryforwards, which arose in 2022 due to unrealized losses on investment securities.

The valuation allowance on our net deferred tax assets ("DTA") at September 30, 2024 and December 31, 2023 totaled $4.4 million, which related entirely to our DTA from net apportioned net operating loss ("NOL") carryforwards for California state income tax purposes, as the Company does not expect to generate sufficient income in California to utilize the DTA.

Financial Condition

Total assets were $7.42 billion at September 30, 2024 and decreased by $227.4 million, or 3.0%, from $7.64 billion at December 31, 2023, as loans, net of deferred costs, decreased by $96.4 million and excess liquidity was used to pay off high-cost government time deposits that matured during the nine months ended September 30, 2024.

Investment Securities

Investment securities totaled $1.33 billion at September 30, 2024, which increased by $50.0 million, or 3.9%, from $1.28 billion at December 31, 2023. The increase in the investment securities portfolio reflected purchases of $95.5 million and an increase in the market valuation on the AFS portfolio of $25.9 million, partially offset by principal runoff of $71.4 million.

Loans

The following table presents outstanding loans by category and geographic location as of the dates presented:

(dollars in thousands)

Loans, net of deferred costs, totaled $5.34 billion at September 30, 2024, which decreased by $96.4 million, or 1.77%, from $5.44 billion at December 31, 2023. The decrease was primarily due to decreases in consumer of $110.9 million, home equity of $39.4 million, residential mortgage of $29.9 million, and construction of $27.4 million. These decreases were partially offset by increases in commercial mortgage of $87.4 million and commercial and industrial of $23.7 million.

The Hawaii loan portfolio decreased by $59.9 million, or 1.3%, from December 31, 2023. The decrease reflected decreases in consumer of $44.5 million, home equity of $39.4 million, construction of $29.3 million, residential mortgage of $29.9 million and commercial and industrial of $10.5 million. These decreases were partially offset by an increase in commercial mortgage of $93.7 million.

The U.S. Mainland loan portfolio decreased by $36.4 million, or 4.5%, from December 31, 2023. The decrease was primarily attributable to a decrease in consumer loans of $66.4 million, as the Company continued its strategy to let the US. Mainland consumer loan portfolio to runoff with minimal purchases year-to-date. The decrease was partially offset by an increase in commercial and industrial loans of $34.3 million.

Nonperforming Assets and Accruing Loans 90+ Days Past Due

The following table presents nonperforming assets and accruing loans 90+ days past due as of the dates presented:

(dollars in thousands)

The following table presents year-to-date activities in nonperforming assets for the period presented:

(dollars in thousands)

Nonperforming assets totaled $11.6 million, or 0.16% of total assets at September 30, 2024, compared to $7.0 million, or 0.09% of total assets at December 31, 2023. The increase in nonperforming assets from December 31, 2023 was primarily attributable to additions to nonaccrual loans totaling $10.2 million, partially offset by $1.2 million in repayments of nonaccrual loans,

$0.6 million in loans returned to accrual status and $3.8 million in net charge-offs, valuation and other adjustments. The majority of the nonaccrual loans are in the residential mortgage category which are well-collateralized with strong loan-to-value ratios.

Criticized loans at September 30, 2024 declined by $17.1 million from December 31, 2023 to $33.0 million, or 0.6% of the total loan portfolio. Special mention loans declined by $14.1 million to $10.7 million, or 0.2% of the total loan portfolio. Classified loans declined by $3.0 million to $22.3 million, or 0.4% of the total loan portfolio.

The Company's ratio of classified assets and other real estate owned to tier 1 capital and the ACL was 2.93% at September 30, 2024, which decreased from 3.41% at December 31, 2023.

Allowance for Credit Losses

The following table presents certain information with respect to the ACL as of the dates and for the periods presented:

(dollars in thousands)

Our ACL totaled $61.6 million at September 30, 2024, compared to $63.9 million at December 31, 2023 and $64.5 million at September 30, 2023.

During the third quarter of 2024, we recorded a provision for credit losses on loans of $3.0 million and net charge-offs of $3.6 million. During the nine months ended September 30, 2024, we recorded a provision for credit losses on loans of $9.6 million and net charge-offs of $11.9 million.

The decrease in the provision for credit losses on loans during the three and nine months ended September 30, 2024, compared to the same year-ago periods, was primarily due to a decrease in loan balances outstanding and improvements in the Hawaii economic forecast assumptions used in the Company's estimate of the ACL in the three and nine months ended September 30, 2024.

Our ratio of ACL to total loans was 1.15% at September 30, 2024, compared to 1.18% at December 31, 2023 and 1.17% at September 30, 2023.

In accordance with GAAP, loans held for sale and other real estate assets are not included in our assessment of the ACL.

Deposits

The following table presents the composition of our deposits by category as of the dates presented:

(dollars in thousands)

The Company's deposit portfolio is diversified and long-tenured as it is built upon a business model based on long-term customer relationships. Approximately 52% of deposit customers have been banking with us for more than 10 years.

Our total deposits of $6.58 billion at September 30, 2024 decreased by $264.6 million, or 3.9%, from total deposits of $6.85 billion at December 31, 2023. The decreases in government time deposits of $249.8 million, noninterest-bearing demand deposits of $75.4 million, and interest-bearing demand deposits of $73.8 million were partially offset by increases in savings and money market deposits of $126.6 million, other time deposits greater than $250,000 of $5.4 million, and time deposits up to $250,000 of $2.4 million. Due to the high interest rate environment, we continued to see a shift in the composition of the deposit portfolio from demand deposits to savings and money market and time deposits. The decline in government time deposits was largely due to planned runoff of high-cost government time deposits that matured during the nine months ended September 30, 2024.

Our core deposits, which we define as demand deposits, savings and money market deposits, and time deposits up to $250,000, totaled $5.97 billion at September 30, 2024 and decreased by $20.2 million, from $5.99 billion at December 31, 2023. Core deposits as a percentage of total deposits was 90.6% at September 30, 2024, compared to 87.4% at December 31, 2023. Our average cost of total deposits was 132 bps during the nine months ended September 30, 2024, compared to 84 bps during the same year-ago period.

The Company had estimated uninsured deposits of $2.74 billion, or 42% of total deposits as of September 30, 2024, compared to an estimated $2.91 billion, or 42% of total deposits as of December 31, 2023. The Company had fully collateralized deposits of approximately $305.8 million and $536.3 million as of September 30, 2024 and December 31, 2023, respectively. The Company's estimated uninsured deposits, excluding fully collateralized deposits, totaled $2.44 billion, or 37% of total deposits as of September 30, 2024, compared to the estimated $2.37 billion, or 35% of total deposits as of December 31, 2023.

The following table presents the amount of time deposits in excess of the FDIC insurance limit of $250,000 by remaining maturity as of September 30, 2024:

(dollars in thousands)

Capital Resources

In order to ensure adequate levels of capital, we perform ongoing assessment of projected sources and uses of capital in conjunction with an analysis of the size and quality of our assets, the anticipated performance of our business, changes in monetary and fiscal policies, and the level of risk and regulatory capital requirements. As a part of this assessment, the Board of Directors reviews our capital position on an ongoing basis to ensure it is adequate, including, but not limited to, the need for raising additional capital or the ability to return capital to our shareholders, including the ability to declare cash dividends or repurchase our securities.

Common Equity

Our total shareholders' equity was $543.7 million at September 30, 2024, compared to $503.8 million at December 31, 2023. The change in total shareholders' equity was primarily attributable to net income of $42.1 million, partially offset by cash dividends declared of $21.1 million, the repurchase of $0.9 million in shares of our common stock under our stock repurchase programs, and other comprehensive income of $18.1 million in the nine months ended September 30, 2024.

Our total shareholders' equity to total assets ratio was 7.33% at September 30, 2024, compared to 6.59% at December 31, 2023. Our book value per share was $20.09 and $18.63 at September 30, 2024 and December 31, 2023, respectively.

Holding Company Capital Resources

CPF is required to act as a source of strength to the Bank under the Dodd-Frank Act. CPF is obligated to pay its expenses and payments on its junior subordinated debentures which fund payments on the outstanding trust preferred securities and subordinated notes.

CPF relies on the Bank to pay dividends to fund its obligations. In order to meet its ongoing obligations, on a stand-alone basis, CPF had an available cash balance of $23.1 million and $22.1 million as of September 30, 2024 and December 31, 2023, respectively.

As a Hawaii state-chartered bank, the Bank may only pay dividends to the extent it has retained earnings as defined under Hawaii banking law ("Statutory Retained Earnings"), which differs from GAAP retained earnings. The Bank had Statutory Retained Earnings of $190.4 million and $169.1 million as of September 30, 2024 and December 31, 2023, respectively.

Dividends are payable at the discretion of the Board of Directors and there can be no assurance that the Board of Directors will allow the Company to continue to pay dividends at the same rate, or at all, in the future. Our ability to pay cash dividends to our shareholders is subject to restrictions under federal and Hawaii law, including restrictions imposed by the FRB and covenants set forth in various agreements we are a party to, including covenants set forth in our subordinated debentures and subordinated notes.

Share Repurchases

In January 2024, the Company’s Board of Directors approved a new authorization to repurchase up to $20.0 million of its common stock from time to time in the open market or in privately negotiated transactions (the "2024 Repurchase Plan"), pursuant to a newly authorized share repurchase plan. The 2024 Repurchase Plan replaces and supersedes in its entirety the 2023 Repurchase Plan.

During the nine months ended September 30, 2024, the Company repurchased 49,960 shares of common stock, at an aggregate cost of $0.9 million under the Company's share repurchase program. As of September 30, 2024, $19.1 million remained available for repurchase under the Company's 2024 Repurchase Plan.

Trust Preferred Securities

As of September 30, 2024, the Company has two statutory trusts, CPB Capital Trust IV ("Trust IV") and CPB Statutory Trust V ("Trust V"), which issued a total of $50.0 million in floating rate trust preferred securities. The trust preferred securities, the underlying floating rate junior subordinated debentures that are the assets of Trusts IV and V, and the common securities issued by Trusts IV and V are redeemable in whole or in part on any interest payment date on or after December 15, 2009 for Trust IV and V, or at any time in whole but not in part within 90 days following the occurrence of certain events.

On July 3, 2023, after the cessation of the LIBOR benchmark rate on June 30, 2023, the Company amended its Trust IV and Trust V debt agreements to replace the LIBOR-based reference rate with an adjusted CME Term Secured Overnight Financing Rate ("SOFR") plus a tenor spread adjustment. Accounting Standards Codification ("ASC") 848 allows us to account for the modification as a continuation of the existing contract without additional analysis. The $30.0 million in floating rate trust preferred securities of Trust IV bear an interest rate of three-month CME Term SOFR plus a tenor spread adjustment of 0.26% plus 2.45% and the $20.0 million in floating rate trust preferred securities of Trust V bear an interest rate of three-month CME Term SOFR plus a tenor spread adjustment of 0.26% plus 1.87%.

Our obligations with respect to the issuance of the trust preferred securities constitute a full and unconditional guarantee by the Company of each trust's obligations with respect to its trust preferred securities. Subject to certain exceptions and limitations, we may elect from time to time to defer subordinated debenture interest payments, which would result in a deferral of dividend payments on the related trust preferred securities, for up to 20 consecutive quarterly periods without default or penalty.

The Company determined that its investments in Trust IV and Trust V did not represent a variable interest and therefore the Company was not the primary beneficiary of each of the trusts. As a result, consolidation of the trusts by the Company were not required.

Subordinated Notes

On October 20, 2020, the Company completed a $55.0 million private placement of ten-year fixed-to-floating rate subordinated notes, which was used to support regulatory capital ratios and for general corporate purposes. The Company exchanged the privately placed notes for registered notes with the same terms and in the same aggregate principal amount at the end of the fourth quarter of 2020. The notes bear a fixed interest rate of 4.75% for the first five years through November 1, 2025 and will reset quarterly thereafter for the remaining five years to the then current three-month SOFR, as published by the Federal Reserve Bank of New York, plus 4.56%. The subordinated notes had a carrying value of $54.7 million at September 30, 2024, which was net of unamortized debt issuance costs of $0.3 million that is being amortized over the expected life.

Regulatory Capital Ratios

The Company and the Bank are subject to various regulatory capital requirements administered by federal banking agencies. Capital adequacy guidelines and, additionally for banks, prompt corrective action regulations, involve quantitative measures of assets, liabilities, and certain off-balance-sheet items calculated under regulatory accounting practices. Capital amounts and classifications are also subject to qualitative judgments by regulators. Failure to meet capital requirements can initiate regulatory action.

Federal banking agencies previously issued an interim final rule that delayed the estimated impact on regulatory capital resulting from the adoption of CECL. The interim final rule provided banking organizations that implement CECL before the end of 2020 the option to delay for two years the estimated impact of CECL on regulatory capital relative to regulatory capital determined under the prior incurred loss methodology, followed by a three-year transition period to phase out the aggregate amount of capital benefit provided during the initial two-year delay. The federal banking agencies subsequently issued a final rule that made certain technical changes to the interim final rule. The changes in the final rule apply only to those banking organizations that elected the CECL transition relief provided under the rule. The Company elected this option and the transition period ends for the Company on December 31, 2024.

General capital adequacy regulations adopted by the FRB and FDIC require an institution to maintain minimum leverage capital, tier 1 risk-based capital, total risk-based capital, and common equity tier 1 ("CET1") capital ratios. In addition to these uniform risk-based capital guidelines and leverage ratios that apply across the industry, the regulators have the discretion to set individual minimum capital requirements for specific institutions at rates significantly above the minimum guidelines and ratios. For a further discussion of capital requirements for the Company and the Bank and the effect of forthcoming changes in required regulatory capital ratios, see the discussion in the "Business — Supervision and Regulation" sections of our 2023 Form 10-K.

The following table presents the regulatory capital ratios for the Company and the Bank, as well as the minimum capital adequacy requirements applicable to all financial institutions, as of the dates presented. The leverage capital, tier 1 risk-based capital, total risk-based capital, and CET1 risk-based capital ratios for the Company and the Bank as of September 30, 2024 and December 31, 2023, were above the levels required for a "well capitalized" regulatory designation.

(dollars in thousands)

[1] Under the Basel III Capital Rules, the Company and the Bank must also maintain a 2.5% Capital Conservation Buffer ("CCB") to avoid becoming subject to restrictions on capital distributions and certain discretionary bonus payments to management. The CCB is calculated as a ratio of CET1 capital to risk-weighted assets, and effectively increases the required minimum risk-based capital ratios.

Market Risk

Market risk is the risk of loss in a financial instrument arising from adverse changes in market rates/prices such as interest rates, foreign currency rates, commodity prices and equity prices. Our primary market risk exposure is interest rate risk that occurs when rate-sensitive assets and rate-sensitive liabilities mature or reprice during different periods or in differing amounts.

Asset/Liability Management and Interest Rate Risk

The Company is subject to interest rate risk in the normal course of business through the activities of making loans and taking deposits, as well as from our investment securities portfolio and other interest-bearing funding sources. Our earnings and capital are sensitive to risk of interest rate fluctuations. Asset/liability management attempts to coordinate our rate-sensitive assets and rate-sensitive liabilities to meet our financial objectives. Potentially adverse interest rate risk exposures are managed through the shortening or lengthening of the duration of assets and liabilities.

The Asset/Liability Management Committee ("ALCO") manages interest rate risk utilizing a detailed and dynamic simulation model to analyze earnings and capital in various interest rate scenarios and balance sheet forecasts. Earnings are typically measured by estimated changes in net interest income ("NII") under different rate scenarios. Capital impact is measured through an Economic Value of Equity ("EVE") analysis which monitors the impact of the durations of rate sensitive assets and liabilities. The EVE analysis simulates the cash flows for all on- and off- balance sheet instruments under different rate scenarios which are then discounted to determine a present value for each scenario. The net present value of our assets and liabilities represents the EVE for each scenario. The EVE results for each scenario are then compared to the base scenario to determine the Company’s sensitivities to longer term rate exposures. The results of the analyses are shared with the Board of Directors and informs strategic actions to mitigate and optimize our risk position and profitability.

The ALCO simulation model used to measure and manage interest rate risk exposures includes both dynamic and static balance sheet and rate scenarios. The dynamic model scenarios provide an enhanced view that enables management and the Board of Directors to have a realistic view of the expected impact to earnings and capital from forecasted non-parallel movements in interest rates as well as balance sheet changes. On the other hand, static rate scenarios are a measurement of embedded interest rate risk in the balance sheet as of a point in time and incorporate various hypothetical interest rate scenarios that may include gradual or immediate parallel rate changes. The static scenarios have the benefit of comparability against prior periods and other financial institutions. Both dynamic and static model simulations include the use of a number of key modeling assumptions including prepayment speeds, pricing spreads of assets and liabilities, deposit decay rates and the timing and magnitude of deposit rate changes in relation to changes in the overall level of interest rates. The assumptions are typically based on analyses of institution specific actual historical data and trends. Market information is also incorporated where relevant and appropriate. Assumptions are periodically reviewed and updated by ALCO. During periods of increased market volatility, assumptions will be reviewed more frequently. While management believes the assumptions are reasonable, actual behaviors and results may likely differ.

The following table reflects our static net interest income sensitivity analysis as of the dates presented. The simulations estimate net interest income assuming no balance sheet growth under a flat interest rate scenario. The net interest income sensitivity is measured as the change in net interest income in alternate interest rate scenarios as a percentage of the flat rate scenario. The alternate rate scenarios assume rates move up or down 100 bps, 200 bps or 300 bps in either a gradual (defined as the stated change over a 12-month period in equal increments) or an instantaneous, parallel fashion.

Our Asset/Liability Management Policy seeks to maximize the risk-adjusted return to shareholders while maintaining consistently acceptable levels of liquidity, interest rate risk and capitalization. The ALCO Policy requires that simulated changes in NII should be within certain specified ranges, or steps must be taken to reduce interest rate risk. The net interest income sensitivity table shows that the Company’s balance sheet is relatively well-matched against movements in interest rates and within our ALCO Policy risk limits that have been approved by the Board of Directors.

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Liquidity and Borrowing Arrangements

Our objective in managing liquidity is to maintain a balance between sources and uses of funds in order to economically meet the cash requirements of customers for loans and deposit withdrawals and participate in lending and investment opportunities as they arise. We monitor our liquidity position in relation to changes in loan and deposit balances on a daily basis to ensure maximum utilization, maintenance of an adequate level of readily marketable assets and access to short-term funding sources.

The high profile regional bank failures in the first half of 2023 drove several precautionary actions to ensure adequate liquidity including carrying higher levels of on-balance sheet liquidity, limited portfolio reinvestments, and efficient allocation of collateral to maximize funding sources. The higher level of on-balance sheet liquidity was carried through the remainder of 2023 and is seen in the financial results. Additionally, the Company performs regular liquidity stress testing under a variety of scenarios to ensure that liquidity is adequate under certain potential liquidity stress events. Further, forecasts of Company cash flows are updated and analyzed periodically and more frequently during periods of elevated liquidity risk.

Core deposits have historically provided us with a sizable source of relatively stable and low cost funds, but are subject to competitive pressure in our market. A significant portion of our deposits are granular, long-tenured, and relationship-based. In addition to core deposit funding, we also have access to a variety of other short-term and long-term funding sources, which include proceeds from maturities of our loans and investment securities, as well as secondary funding sources available to meet our liquidity needs, such as the Federal Home Loan Bank of Des Moines (the "FHLB"), secured repurchase agreements and the Federal Reserve discount window.

As of September 30, 2024, the Company had $326.6 million in cash on its balance sheet and approximately $2.55 billion in total other liquidity sources, including available borrowing capacity and unpledged investment securities. Total available sources of liquidity as a percentage of uninsured and uncollateralized deposits was 118%. Refer to Note 8 - Short-Term Borrowings and Long-Term Debt in the accompanying notes to the consolidated financial statements in this report for information on the Company's borrowing arrangements.

Information regarding our material contractual obligations is provided in "Part II, Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations" of our Annual Report on Form 10-K for the year ended December 31, 2023. There have been no material changes in our cash requirements from known contractual and other obligations since December 31, 2023.

For quantitative and qualitative disclosures regarding market risks, refer to "Market Risk" and "Asset/Liability Management and Interest Rate Risk" of Part I, Item 2, "Management’s Discussion and Analysis of Financial Condition and Results of Operations."

Evaluation of Disclosure Controls and Procedures

As of the end of the period covered by this report and pursuant to Rule 13a-15 of the Securities Exchange Act of 1934, as amended, (the "Exchange Act"), the Company's management, including the principal executive officer and principal financial officer, conducted an evaluation of the effectiveness and design of the Company's disclosure controls and procedures (as that term is defined in Rules 13a-15(e) and 15d-15(e) of the Exchange Act). Based upon that evaluation, the Company's principal executive officer and principal financial officer concluded that the Company's disclosure controls and procedures were effective as of the end of the period covered by this report.

Changes in Internal Control Over Financial Reporting

There have been no changes in the Company’s internal control over financial reporting (as defined in Rule 13a-15(f) and 15d-15(f) of the Exchange Act) that occurred during the period covered by this report, that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.

There have been no material changes from the Risk Factors as previously disclosed in our Annual Report on Form 10-K for the year ended December 31, 2023, as filed with the SEC on February 21, 2024.