Cathay General Bancorp - 10-Q quarterly report FY

 

Washington, D.C. 20549

 

(Mark One)

 

 

 

 

 

 

CATHAY GENERAL BANCORP 

(Exact name of registrant as specified in its charter)

 

 

 

(Former name, former address and former fiscal year, if changed since last report)

 

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See definition of “large accelerated filer,” “accelerated filer,” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

 

 

 

Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date.

 

Common stock, $.01 par value, 49,416,526 shares outstanding as of April 30, 2008.

 

 

 

In this quarterly Report on Form 10-Q, the term “Bancorp” refers to Cathay General Bancorp and the term “Bank” refers to Cathay Bank. The terms “Company,” “we,” “us,” and “our” refer to Bancorp and the Bank collectively. The statements in this report include forward-looking statements within the meaning of the applicable provisions of the Private Securities Litigation Reform Act of 1995 regarding management’s beliefs, projections, and assumptions concerning future results and events. These forward-looking statements may include, but are not limited to, such words as "believes," "expects," "anticipates," "intends," "plans," "estimates," "may," "will," "should," "could," "predicts," "potential," "continue," or the negative of such terms and other comparable terminology or similar expressions. Forward-looking statements are not guarantees. They involve known and unknown risks, uncertainties, and other factors that may cause the actual results, performance, or achievements of the Company to be materially different from any future results, performance, or achievements expressed or implied by such forward-looking statements. Such risks and uncertainties and other factors include, but are not limited to adverse developments or conditions related to or arising from: 

 

 

These and other factors are further described in the Company’s Annual Report on Form 10-K for the year ended December 31, 2007, (at Item 1A in particular) its reports and registration statements filed with the Securities and Exchange Commission (“SEC”) and other filings it makes in the future with the SEC from time to time. Actual results in any future period may also vary from the past results discussed in this report. Given these risks and uncertainties, we caution readers not to place undue reliance on any forward-looking statements, which speak to the date of this report. The Company has no intention and undertakes no obligation to update any forward-looking statement or to publicly announce the results of any revision of any forward-looking statement to reflect future developments or events.

 

 

 

 

 

See Accompanying Notes to Unaudited Condensed Consolidated Financial Statements

 

 

See Accompanying Notes to Unaudited Condensed Consolidated Financial Statements

 

 

See Accompanying Notes to Unaudited Condensed Consolidated Financial Statements.

 

 

Cathay General Bancorp (the “Bancorp”) is the holding company for Cathay Bank (the “Bank”), six limited partnerships investing in affordable housing investments in which the Bank is the sole limited partner, and GBC Venture Capital, Inc. The Bancorp also owns 100% of the common stock of five statutory business trusts created for the purpose of issuing capital securities. The Bank was founded in 1962 and offers a wide range of financial services. As of March 31, 2008, the Bank operates twenty one branches in Southern California, ten branches in Northern California, nine branches in New York State, three branches in Illinois, three branches in Washington State, two branches Texas, one branch in Massachusetts, one branch in New Jersey, one branch in Hong Kong, and a representative office in Shanghai and in Taipei. Deposit accounts at the Hong Kong branch are not insured by the Federal Deposit Insurance Corporation (the “FDIC”).

 

 

The acquisition was accounted for using the purchase method of accounting in accordance with Statement of Financial Accounting Standards (“SFAS”) No. 141, “Business Combinations.” The assets acquired and liabilities assumed were recorded by the Company at their fair values as of March 31, 2007:

 

 

No loans acquired as part of the acquisition of UHB were determined to be impaired and therefore no loans were within the scope of Statement of Position (SOP) 03-3, “Accounting for Certain Loans or Debt Securities Acquired in a Transfer”. In addition, the estimated other costs related to the acquisition were recorded as a liability at closing when allocating the related purchase price. The purchase price allocation is still preliminary and subject to final determination and valuation of the fair value of assets acquired and liabilities assumed.

 

 

As of March 31, 2008, goodwill was $319.3 million, a decrease of $588,000 compared to December 31, 2007 due to a reversal of accrued penalties of $528,000 as a result of the settlement with the California Franchise Board for a claim related to GBC Bancorp’s 2001 California tax return and a tax refund of $60,000 related to New Asia Bancorp’s 2006 tax year. Merger-related lease liability was $557,000 as of March 31, 2008, with cash outlays of $49,000 for the three months ended March 31, 2008.

The preparation of the consolidated financial statements in accordance with GAAP requires management of the Company to make a number of estimates and assumptions relating to the reported amount of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenues and expenses during the period. Actual results could differ from those estimates. The most significant estimate subject to change relates to the allowance for loan losses.

 

 

 

 

 

 

 

 

 

 

 

 

 

Basic earnings per share excludes dilution and is computed by dividing net income available to common stockholders by the weighted-average number of common shares outstanding for the period. Diluted earnings per share reflects the potential dilution that could occur if securities or other contracts to issue common stock were exercised or converted into common stock and resulted in the issuance of common stock that then shared in earnings.

 

Outstanding stock options with anti-dilutive effect were not included in the computation of diluted earnings per share. The following table sets forth basic and diluted earnings per share calculations and the average shares of stock options with anti-dilutive effect:

 

 

 

 

 

 

 

 

 

 

 

 

The stock compensation expense recorded related to non-vested stock above was $177,000 for the three months ended March 31, 2008, and $148,000 for the three months ended March 31, 2007. Unrecognized stock-based compensation expense related to non-vested stock awards was $0.6 million at March 31, 2008, and is expected to be recognized over the next 10 months.

 

In addition to stock options and restricted stock awards above, in February 2008, the Company also granted restricted stock units on 82,291 shares of the Company’s common stock to its eligible employees. On the date of granting of these restricted stock units, the closing price of the Company’s stock was $23.37 per share. Such restricted stock units have a maximum term of five years and vest in approximately 20% annual increments subject to employees’ continued employment with the Company. The following table presents information relating to the restricted stock units grant as of March 31, 2008:

 

 

The compensation expense recorded related to restricted stock units above was $27,000 for the three months ended March 31, 2008. Unrecognized stock-based compensation expense related to restricted stock units was $1.6 million at March 31, 2008, and is expected to be recognized over the next 4.9 years.

 

 

 

 

 

 

 

For those securities obtained under the resale agreements, the collateral is either held by a third party custodian or by the counter-party and is segregated under written agreements that recognize the Company’s interest in the securities. Interest income associated with securities purchased under resale agreements totaled $6.3 million for the first quarter of 2008 and $3.3 million for the same quarter a year ago.  

 

In the normal course of business, the Company becomes a party to financial instruments with off-balance sheet risk to meet the financing needs of its customers. These financial instruments include commitments to extend credit in the form of loans, or through commercial or standby letters of credit, and financial guarantees. These instruments represent varying degrees of exposure to risk in excess of the amounts included in the accompanying condensed consolidated balance sheets. The contractual or notional amount of these instruments indicates a level of activity associated with a particular class of financial instrument and is not a reflection of the level of expected losses, if any.

 

The Company's exposure to credit loss in the event of non-performance by the other party to the financial instrument for commitments to extend credit is represented by the contractual amount of those instruments. The Company uses the same credit policies in making commitments and conditional obligations as it does for on-balance sheet instruments. The following table summarizes the outstanding commitments as of the dates indicated:

 

 

As of March 31, 2008, $19.8 million unfunded commitments for affordable housing investments were recorded under other liabilities compared to $19.2 million at December 31, 2007.

 

 

Securities sold under agreements to repurchase were $1.6 billion with a weighted average rate of 3.77% at March 31, 2008, compared to $1.4 billion with a weighted average rate of 3.57% at December 31, 2007. Seventeen floating-to-fixed rate agreements totaling $900.0 million are with initial floating rates for a period of time ranging from six months to one year, with the floating rates ranging from the three-month LIBOR minus 100 basis points to the three-month LIBOR minus 340 basis points. Thereafter, the rates are fixed for the remainder of the term, with interest rates ranging from 4.29% to 5.07%. After the initial floating rate term, the counterparties have the right to terminate the transaction at par at the fixed rate reset date and quarterly thereafter. Thirteen fixed-to-floating rate agreements totaling $650.0 million are with initial fixed rates ranging from 1.00% and 3.50% with initial fixed rate terms ranging from six months to eighteen months. For the remainder of the seven year term, the rates float at 8% minus the three-month LIBOR rate with a maximum rate ranging from 3.25% to 3.75% and minimum rate of 0.0%. After the initial fixed rate term, the counterparties have the right to terminate the transaction at par at the floating rate reset date and quarterly thereafter. In addition, there were two short term repurchase agreements totaling $30.2 million which matured on April 10, 2008, with a weighted average interest rate of 3.48% at March 31, 2008.

 

At March 31, 2008, included in long-term transactions are nineteen repurchase agreements totaling $1.0 billion that were callable but which had not been called. Two fixed-to-floating rate repurchase agreements of $50.0 million each have variable interest rates currently at 3.75% maximum rate until their final maturities in September 2014. Four floating-to-fixed rate repurchase agreements of $50.0 million each have fixed interest rates ranging from 4.89% to 5.07%, until their final maturities in January 2017. Ten floating-to-fixed rate repurchase agreements totaled $550.0 million have fixed interest rates ranging from 4.29% to 4.78%, until their final maturities in 2014. Two floating-to-fixed rate repurchase agreements of $50.0 million each have fixed interest rates ranging at 4.75% and 4.79%, until their final maturities in 2011. One floating-to-fixed rate repurchase agreement of $50.0 million has fixed interest rate at 4.83% until its final maturities in 2012.

 

 

 

 

 

On September 29, 2006, the Bank issued $50.0 million in subordinated debt in a private placement transaction. This instrument matures on September 29, 2016 and bears interest at a per annum rate based on the three month LIBOR plus 110 basis points, payable on a quarterly basis. At March 31, 2008, the per annum interest rate on the subordinated debt was 3.80% compared to 5.93% at December 31, 2007. The subordinated debt was issued through the Bank and qualifies as Tier 2 capital for regulatory reporting purposes and is included in long-term debt in the accompanying condensed consolidated balance sheets.

 

 

 

As previously disclosed, on December 31, 2003, the California Franchise Tax Board (FTB) announced its intent to list certain transactions that in its view constitute potentially abusive tax shelters. Included in the transactions subject to this listing were transactions utilizing regulated investment companies (RICs) and real estate investment trusts (REITs). While the Company continues to believe that the tax benefits recorded in 2000, 2001, and 2002 with respect to its regulated investment company were appropriate and fully defensible under California law, the Company participated in Option 2 of the Voluntary Compliance Initiative of the Franchise Tax Board, and paid all California taxes and interest on these disputed 2000 through 2002 tax benefits, and at the same time filed a claim for refund for these years while avoiding certain potential penalties. The Company retains potential exposure for assertion of an accuracy-related penalty should the FTB prevail in its position in addition to the risk of not being successful in its refund claims.

 

The FASB issued Interpretation No. 48 Accounting for Uncertainty in Income Taxes (“FIN 48”) which requires that the amount of recognized tax benefit should be the maximum amount which is more-likely-than-not to be realized and that amounts previously recorded that do not meet the requirements of FIN 48 be charged as a cumulative effect adjustment to retained earnings. As of December 31, 2006, the Company reflected a $12.1 million net state tax receivable related to payments it made in April 2004 under the Voluntary Compliance Initiative program for the years 2000, 2001, and 2002, after giving effect to reserves for loss contingencies on the refund claims. The Company has determined that its refund claim related to its regulated investment company is not more-likely-than-not to be realized and consequently, charged a total of $8.5 million, comprised of the $7.9 million after tax amount related to its refund claims as well as a $0.6 million after tax amount related to California Net Operating Losses generated in 2001 as a result of its regulated investment company, to the balance of retained earnings as of the January 1, 2007, effective date of FIN 48.

 

At the January 1, 2007, adoption date of FIN 48, the total amount of the Company’s unrecognized tax benefits was $5.5 million, of which $1.6 million, if recognized, would affect the effective tax rate. The Company recognizes interest and penalties accrued related to unrecognized tax benefits in income tax expense. At January 1, 2007, the adoption date of FIN 48, the total amount of accrued interest and penalties was $1.7 million. In February 2008, the Company withdrew, with the agreement of the California Franchise Tax Board, a claim related to GBC Bancorp’s 2001 California tax return and reversed $0.5 million of accrued penalties with a corresponding decrease in goodwill. The amount of additional unrecognized tax benefits expected to be recognized during 2008 is not expected to be significant.

 

 

 

On November 2007, the Company announced that its Board of Directors had approved a new stock repurchase program to buy back up to an aggregate of one million shares of the Company’s common stock following the completion of the stock repurchase program of May 2007. During 2007, the Company repurchased 2,829,203 shares of common stock for $92.4 million, or an average price of $32.67 per share. No shares were purchased during the first quarter of 2008. At March 31, 2008, 622,500 shares remain under the Company’s November 2007 repurchase program.

 

 

SFAS 157 defines fair value, establishes a framework for measuring fair value in generally accepted accounting principles, and expands disclosures about fair value measurements. The Company adopted SFAS 157 on January 1, 2008, and determined the fair values of our financial instruments based on the three-level fair value hierarchy established in SFAS 157. The three-level inputs to measure the fair value of assets and liabilities are as follows:

 

 

 

 

 

 

The following table presents the Company’s hierarchy for its assets and liabilities measured at fair value on a recurring basis at March 31, 2008:

 

 

The Company measured the fair value of its warrants on a recurring basis using significant unobservable inputs. The fair value of warrants was $113,000 at March 31, 2008, compared to $125,000 at December 31, 2008. The fair value adjustment of $12,000 were included in earnings in the first quarter of 2008.

 

 

The following discussion is given based on the assumption that the reader has access to and has read the Annual Report on Form 10-K for the year ended December 31, 2007, of Cathay General Bancorp (“Bancorp”) and its wholly-owned subsidiary Cathay Bank (the “Bank” and, together, the “Company” or “we”, “us,” or “our”).

 

 

The discussion and analysis of the Company’s unaudited condensed consolidated balance sheets and results of operations are based upon its unaudited condensed consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. The preparation of these consolidated financial statements requires management to make estimates and judgments that affect the reported amounts of assets and liabilities, revenues and expenses, and related disclosures of contingent assets and liabilities at the date of our financial statements. Actual results may differ from these estimates under different assumptions or conditions.

 

Accounting for the allowance for credit losses involves significant judgments and assumptions by management, which have a material impact on the carrying value of net loans; management considers this accounting policy to be a critical accounting policy. The judgments and assumptions used by management are based on historical experience and other factors, which are believed to be reasonable under the circumstances as described under the heading “Accounting for the allowance for credit losses” in the Company’s annual report on Form 10-K for the year ended December 31, 2007.

 

Accounting for investment securities involves significant judgments and assumptions by management, which have a material impact on the carrying value of securities and the recognition of any “other-than-temporary” impairment to our investment securities. The judgments and assumptions used by management are described under the heading “Investment Securities” in the Company’s annual report on Form 10-K for the year ended December 31, 2007.

 

Accounting for income taxes involves significant judgments and assumptions by management, which have a material impact on the amount of taxes currently payable and the income tax expense recorded in the financial statements. The judgments and assumptions used by management are described under the heading “Income Taxes” in the Company’s annual report on Form 10-K for the year ended December 31, 2007.

 

 

 

 

 

Net interest income before provision for credit losses increased to $75.2 million during the first quarter of 2008, $2.4 million, or 3.4%, higher than the $72.8 million during the same quarter a year ago. The increase was due primarily to the strong growth in loans and investment securities offset by the impact of the decline in the net interest margin.

 

The net interest margin, on a fully taxable-equivalent basis, was 3.16% for the first quarter of 2008. The net interest margin decreased 27 basis points from 3.43% in the fourth quarter of 2007 and decreased 67 basis points from 3.83% in the first quarter of 2007. The decrease in the net interest margin from prior quarters was primarily as a result of the lag in the downward repricing of certificates of deposit.

 

 

For the first quarter of 2008, the yield on average interest-earning assets was 6.46% on a fully taxable-equivalent basis, and the cost of funds on average interest-bearing liabilities equaled 3.80%. In comparison, for the first quarter of 2007, the yield on average interest-earning assets was 7.44% and cost of funds on average interest-bearing liabilities equaled 4.27%. The interest spread, defined as the difference between the yield on average interest-earning assets and the cost of funds on average interest-bearing liabilities, decreased to 2.66% for the quarter ended March 31, 2008, from 3.17% for the same quarter a year ago primarily due to the reasons discussed above.

 

Average daily balances, together with the total dollar amounts, on a taxable-equivalent basis, of interest income and interest expense, and the weighted-average interest rate and net interest margin are as follows:

 

 

 

The following table summarizes the changes in interest income and interest expense attributable to changes in volume and changes in interest rates:

Taxable-Equivalent Net Interest Income — Changes Due to Rate and Volume(1)

 

 

 

 

Non-interest income, which includes revenues from depository service fees, letters of credit commissions, securities gains (losses), gains (losses) on loan sales, wire transfer fees, and other sources of fee income, was $6.5 million for the first quarter of 2008, an increase of $640,000, or 10.9%, compared to the non-interest income of $5.9 million for the first quarter of 2007.

 

Letters of credit commissions increased $148,000, or 11.5%, to $1.4 million in the first quarter of 2008 from $1.3 million in the same quarter of 2007 due primarily to increases in acceptance commissions.

 

Other operating income increased $757,000, or 24.8%, to $3.8 million in the first quarter of 2008 from $3.1 million in the same quarter a year ago primarily due to increases in commissions from foreign currency and exchange transactions of $803,000 and increases in venture capital income of $603,000 offset by decreases in other fees on loans of $453,000 and by decreases in commissions from official checks sales of $101,000. For the first quarter of 2008, the Company recorded no securities gains compared to net securities gains of $191,000 for the first quarter of 2007.

 

 

Non-interest expense increased $1.73 million, or 5.7%, to $32.0 million in the first quarter of 2008 compared to $30.2 million in the same quarter a year ago. The efficiency ratio was 39.11% for the first quarter of 2008 compared to 38.44% in the year ago quarter and 38.62% for the fourth quarter of 2007.

 

The increase of non-interest expense from the first quarter a year ago to the first quarter of 2008 was primarily due to a combination of the following:

 

 

 

 

 

Offsetting the above overall increases was a $261,000 decrease in other real estate owned expenses, a $119,000 decrease in operation expenses of affordable housing investments, and a $101,000 decrease in other operating expenses. In the first quarter of 2008, the Company recorded an $871,000 reduction in operations of affordable housing investments as a result of a cash distribution compared to a $500,000 reduction in the year ago quarter.

 

 

The effective tax rate was 35.4% for the first quarter of 2008, compared to 36.8% for the same quarter a year ago and 36.2% for the full year 2007. The lower effective tax rate for the first quarter of 2008 was due to increases in low income housing tax credits, an increased percentage of taxable income apportioned to lower tax rate jurisdictions, and a lower taxable income in 2008.

 

Total assets increased by $40.4 million, or 0.4%, to $10.44 billion at March 31, 2008 from year-end 2007 of $10.40 billion. The increase in total assets was represented primarily by increases in available- for-sale securities of $103.9 million, or 4.4%, and increases in loans of $235.2 million, or 3.5%, offset by decreases of $211.1 million in securities purchased under agreements to resell.

 

 

Total securities were $2.5 billion, or 23.5%, of total assets at March 31, 2008, compared with $2.3 billion, or 22.6%, of total assets at December 31, 2007. The increase of $103.9 million, or 4.4%, was primarily due to purchases of callable agency securities and agency mortgage backed securities which provided collateral for securities sold under agreements to repurchase.

 

The net unrealized gains on securities available-for-sale, which represents the difference between fair value and amortized cost, totaled $12.8 million at March 31, 2008, compared to net unrealized losses of $941,000 at year-end 2007. The increase in unrealized gain on securities available-for-sale was caused by the decrease in market interest rates during the first quarter of 2008. Net unrealized gains/losses in the securities available-for-sale are included in accumulated other comprehensive income or loss, net of tax, as part of total stockholders’ equity.

 

The average taxable-equivalent yield on securities available-for-sale decreased 42 basis points to 5.21% for the three months ended March 31, 2008, compared with 5.63% for the same period a year ago, as securities matured, prepaid, or were called and proceeds were reinvested at lower interest rates.

 

The following tables summarize the composition, amortized cost, gross unrealized gains, gross unrealized losses, and fair value of securities available-for-sale, as of March 31, 2008, and December 31, 2007: