1 ================================================================================ UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D. C. 20549 ---------------------- FORM 10-Q (Mark One) [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended June 30, 1998 OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from............to.................... Commission file number 0-7949 ---------------------- FIRST HAWAIIAN, INC. (Exact name of registrant as specified in its charter) ---------------------- DELAWARE 99-0156159 (State of incorporation) (I.R.S. Employer Identification No.) 999 BISHOP STREET, HONOLULU, HAWAII 96813 (Address of principal executive offices) (Zip Code) (808) 525-7000 (Registrant's telephone number, including area code) ---------------------- Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or l5(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes [X] No [ ] The number of shares outstanding of each of the issuer's classes of common stock as of July 31, 1998 was: Class Outstanding - ----------------------------- ----------------- Common Stock, $5.00 Par Value 31,142,560 Shares ================================================================================
2 PART I. FINANCIAL INFORMATION <TABLE> <CAPTION> Page ---- <S> <C> Item 1. Financial Statements (Unaudited) Consolidated Balance Sheets at June 30, 1998, December 31, 1997 and June 30, 1997 2 Consolidated Statements of Income for the quarter and six months ended June 30, 1998 and 1997 3 Consolidated Statements of Cash Flows for the six months ended June 30, 1998 and 1997 4 Consolidated Statements of Changes in Stockholders' Equity for the six months ended June 30, 1998 and 1997 5 Notes to Consolidated Financial Statements 5 - 7 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 8 - 22 Item 3. Quantitative and Qualitative Disclosures About Market Risk 22 - 23 PART II. OTHER INFORMATION Item 4. Submission of Matters to a Vote of Security Holders 24 Item 6. Exhibits and Reports on Form 8-K 25 SIGNATURES 26 EXHIBIT INDEX </TABLE> 1
3 PART I. FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS CONSOLIDATED BALANCE SHEETS (Unaudited) First Hawaiian, Inc. and Subsidiaries <TABLE> <CAPTION> JUNE 30, December 31, June 30, 1998 1997 1997 ----------- ----------- ----------- (in thousands) <S> <C> <C> <C> ASSETS Interest-bearing deposits in other banks $ 216,748 $ 137,930 $ 55,130 Federal funds sold and securities purchased under agreements to resell 141,000 134,274 45,000 Available-for-sale investment securities 715,600 778,124 893,886 Loans: Loans 6,304,829 6,238,681 6,031,552 Less allowance for loan losses 85,749 82,596 84,189 ----------- ----------- ----------- Net loans 6,219,080 6,156,085 5,947,363 ----------- ----------- ----------- Total earning assets 7,292,428 7,206,413 6,941,379 Cash and due from banks 278,458 282,905 278,812 Premises and equipment 238,275 245,999 245,388 Customers' acceptance liability 746 867 1,498 Core deposit premium 23,501 25,347 27,270 Goodwill 94,304 96,030 98,438 Other assets 243,552 235,531 222,503 ----------- ----------- ----------- TOTAL ASSETS $ 8,171,264 $ 8,093,092 $ 7,815,288 =========== =========== =========== LIABILITIES AND STOCKHOLDERS' EQUITY Deposits: Noninterest-bearing demand $ 844,961 $ 823,302 $ 875,316 Interest-bearing demand 1,543,386 1,494,379 1,305,002 Savings 1,014,166 986,895 1,038,398 Time 2,509,759 2,490,915 2,356,169 Foreign 286,055 293,709 300,961 ----------- ----------- ----------- Total deposits 6,198,327 6,089,200 5,875,846 ----------- ----------- ----------- Short-term borrowings 635,670 721,865 766,019 Acceptances outstanding 746 867 1,498 Other liabilities 267,155 230,723 166,337 Long-term debt 214,725 218,736 176,737 Guaranteed preferred beneficial interests in Company's junior subordinated debentures 100,000 100,000 100,000 ----------- ----------- ----------- TOTAL LIABILITIES 7,416,623 7,361,391 7,086,437 ----------- ----------- ----------- Stockholders' equity: Preferred stock -- -- -- Common stock 165,952 165,952 165,952 Surplus 148,168 148,165 148,180 Retained earnings 497,246 473,659 451,771 Accumulated other comprehensive income 6,295 (241) 827 Treasury stock (63,020) (55,834) (37,879) ----------- ----------- ----------- TOTAL STOCKHOLDERS' EQUITY 754,641 731,701 728,851 ----------- ----------- ----------- TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 8,171,264 $ 8,093,092 $ 7,815,288 =========== =========== =========== </TABLE> The accompanying notes are an integral part of these consolidated financial statements. 2
4 CONSOLIDATED STATEMENTS OF INCOME (Unaudited) First Hawaiian, Inc. and Subsidiaries <TABLE> <CAPTION> QUARTER ENDED JUNE 30, SIX MONTHS ENDED JUNE 30, ----------------------------- ------------------------------- 1998 1997 1998 1997 ------------ ------------ ------------ ------------ (in thousands, except shares and per share data) <S> <C> <C> <C> <C> INTEREST INCOME Interest and fees on loans $ 131,433 $ 126,701 $ 261,379 $ 248,253 Lease financing income 4,287 4,466 9,174 7,697 Interest on investment securities: Taxable interest income 11,829 15,881 24,349 33,406 Exempt from Federal income taxes 25 190 50 422 Other interest income 5,020 2,215 8,965 5,070 ------------ ------------ ------------ ------------ Total interest income 152,594 149,453 303,917 294,848 ------------ ------------ ------------ ------------ INTEREST EXPENSE Deposits 51,798 48,606 102,831 95,813 Short-term borrowings 8,756 11,400 17,863 23,404 Long-term debt 5,591 3,790 11,196 7,460 ------------ ------------ ------------ ------------ Total interest expense 66,145 63,796 131,890 126,677 ------------ ------------ ------------ ------------ Net interest income 86,449 85,657 172,027 168,171 Provision for loan losses 7,516 4,261 11,912 8,013 ------------ ------------ ------------ ------------ Net interest income after provision for loan losses 78,933 81,396 160,115 160,158 ------------ ------------ ------------ ------------ NONINTEREST INCOME Trust and investment services income 6,258 6,143 13,427 12,898 Service charges on deposit accounts 7,419 7,221 14,691 14,018 Other service charges and fees 7,933 7,279 16,298 14,842 Securities gains (losses), net -- 221 (5) 219 Other 9,610 5,497 12,416 8,238 ------------ ------------ ------------ ------------ Total noninterest income 31,220 26,361 56,827 50,215 ------------ ------------ ------------ ------------ NONINTEREST EXPENSE Salaries and wages 27,847 28,533 55,371 57,235 Employee benefits 7,345 9,023 15,301 17,731 Occupancy expense 9,772 9,516 19,531 20,141 Equipment expense 6,675 6,484 13,121 12,570 Other 24,583 21,309 46,535 40,198 ------------ ------------ ------------ ------------ Total noninterest expense 76,222 74,865 149,859 147,875 ------------ ------------ ------------ ------------ Income before income taxes 33,931 32,892 67,083 62,498 Income taxes 12,263 10,627 24,187 19,717 ------------ ------------ ------------ ------------ NET INCOME $ 21,668 $ 22,265 $ 42,896 $ 42,781 ============ ============ ============ ============ PER SHARE DATA: BASIC EARNINGS $ .70 $ .70 $ 1.38 $ 1.35 ============ ============ ============ ============ DILUTED EARNINGS $ .69 $ .70 $ 1.37 $ 1.34 ============ ============ ============ ============ CASH DIVIDENDS $ .31 $ .31 $ .62 $ .62 ============ ============ ============ ============ AVERAGE SHARES OUTSTANDING 31,143,766 31,789,800 31,162,875 31,782,666 ============ ============ ============ ============ </TABLE> The accompanying notes are an integral part of these consolidated financial statements. 3
5 CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited) First Hawaiian, Inc. and Subsidiaries <TABLE> <CAPTION> SIX MONTHS ENDED JUNE 30, ------------------------- 1998 1997 --------- --------- (in thousands) <S> <C> <C> CASH AND DUE FROM BANKS AT BEGINNING OF PERIOD $ 282,905 $ 333,511 --------- --------- Cash flows from operating activities: Net income 42,896 42,781 Adjustments to reconcile net income to net cash provided by operating activities: Provision for loan losses 11,912 8,013 Net gain on sale of assets (6,022) (2,500) Depreciation and amortization 16,511 15,816 Income taxes 19,828 8,163 Decrease (increase) in interest receivable (2,867) 2,179 Increase (decrease) in interest payable 1,408 (1,759) Decrease in prepaid expenses 2,131 5,267 Other 6,173 (35,530) --------- --------- Net cash provided by operating activities 91,970 42,430 --------- --------- Cash flows from investing activities: Net decrease (increase) in interest-bearing deposits in other banks (78,818) 15,000 Net decrease (increase) in Federal funds sold and securities purchased under agreements to resell (6,726) 103,370 Purchase of available-for-sale investment securities (156,476) (128,309) Proceeds from sale of available-for-sale investment securities -- 186,357 Proceeds from maturity of available-for-sale investment securities 229,852 187,087 Net increase in loans to customers (88,912) (242,801) Proceeds from sale of assets 11,402 2,500 Capital expenditures (6,920) (10,624) Other 7,751 (37,510) --------- --------- Net cash provided by (used in) investing activities (88,847) 75,070 --------- --------- Cash flows from financing activities: Net increase (decrease) in deposits 109,127 (60,862) Net decrease in short-term borrowings (90,195) (173,541) Proceeds from (payments on) long-term debt, net (10) 80,994 Cash dividends paid (19,309) (19,703) Issuance (repurchase) of treasury stock, net (7,183) 913 --------- --------- Net cash used in financing activities (7,570) (172,199) --------- --------- CASH AND DUE FROM BANKS AT END OF PERIOD $ 278,458 $ 278,812 ========= ========= Supplemental disclosures: Interest paid $ 130,482 $ 128,436 ========= ========= Income taxes paid $ 4,359 $ 11,554 ========= ========= Supplemental schedule of noncash investing and financing activities: Loans converted into other real estate owned $ 6,203 $ 5,277 ========= ========= Loans made to facilitate the sale of other real estate owned $ 958 $ 366 ========= ========= </TABLE> The accompanying notes are an integral part of these consolidated financial statements. 4
6 CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY (Unaudited) First Hawaiian, Inc. and Subsidiaries <TABLE> <CAPTION> Accumulated Other Common Retained Comprehensive Treasury Stock Surplus Earnings Income Stock Total --------- --------- --------- --------- --------- --------- (in thousands, except per share data) <S> <C> <C> <C> <C> <C> <C> Balance, December 31, 1997 $ 165,952 $ 148,165 $ 473,659 $ (241) $ (55,834) $ 731,701 Comprehensive income: Net income -- -- 42,896 -- -- 42,896 Unrealized valuation adjustment, net of tax and reclassification adjustment -- -- -- 6,536 -- 6,536 --------- --------- --------- --------- --------- --------- Comprehensive income -- -- 42,896 6,536 -- 49,432 --------- --------- --------- --------- --------- --------- Purchase of treasury stock -- -- -- -- (7,342) (7,342) Cash dividends ($.62 per share) -- -- (19,309) -- -- (19,309) Incentive Plan for Key Executives -- 3 -- -- 156 159 --------- --------- --------- --------- --------- --------- BALANCE, JUNE 30, 1998 $ 165,952 $ 148,168 $ 497,246 $ 6,295 $ (63,020) $ 754,641 ========= ========= ========= ========= ========= ========= Balance, December 31, 1996 $ 165,952 $ 148,196 $ 428,693 $ 1,850 $ (38,807) $ 705,884 Comprehensive income: Net income -- -- 42,781 -- -- 42,781 Unrealized valuation adjustment, net of tax and reclassification adjustment -- -- -- (1,023) -- (1,023) --------- --------- --------- --------- --------- --------- Comprehensive income -- -- 42,781 (1,023) -- 41,758 --------- --------- --------- --------- --------- --------- Cash dividends ($.62 per share) -- -- (19,703) -- -- (19,703) Incentive Plan for Key Executives -- (16) -- -- 928 912 --------- --------- --------- --------- --------- --------- Balance, June 30, 1997 $ 165,952 $ 148,180 $ 451,771 $ 827 $ (37,879) $ 728,851 ========= ========= ========= ========= ========= ========= </TABLE> The accompanying notes are an integral part of these consolidated financial statements. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) First Hawaiian, Inc. and Subsidiaries 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES The accounting and reporting policies of First Hawaiian, Inc. and Subsidiaries (collectively the "Company") conform with generally accepted accounting principles and practices within the banking industry. The following is a summary of significant accounting policies: CONSOLIDATION The consolidated financial statements of the Company include the accounts of First Hawaiian, Inc. ("FHI") and its wholly-owned subsidiaries: First Hawaiian Bank and its wholly-owned subsidiaries (the "Bank"); Pacific One Bank ("Pacific One"); FHL Lease Holding Company, Inc.; First Hawaiian Capital I (of which FHI owns all the common securities); and FHI International, Inc. All significant intercompany balances and transactions have been eliminated in consolidation. In the opinion of management, all adjustments (which included only normal recurring adjustments) necessary for a fair presentation are reflected in the consolidated financial statements. RECLASSIFICATIONS Certain amounts in the consolidated financial statements for 1997 have been reclassified to conform with the 1998 presentation. Such reclassifications had no effect on the consolidated net income as previously reported. 2. NEW PRONOUNCEMENTS The provisions of Statement of Financial Accounting Standards ("SFAS") No. 125, "Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities," that were deferred by SFAS No. 127, "Deferral of the Effective Date of Certain Provisions of FASB Statement No. 125 - An Amendment of FASB Statement No. 125," became effective as to repurchase agreements, dollar rolls, securities lending and certain other transactions after December 31, 1997. The Company requires delivery of collateral or other security as a condition to entering into repurchase or reverse-repurchase transactions. With respect to reverse-repurchase transactions, the Company does not take control of the related collateral. Accordingly, the Company does not record the collateral along with the obligation to return such collateral in its Consolidated Balance Sheets. The Company has not relinquished control of any securities transferred in repurchase transactions for the six month period ended June 30, 1998, and the Company has not recorded the collateral transfer or a receivable from the applicable counterparties. 5
7 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) First Hawaiian, Inc. and Subsidiaries Effective January 1, 1998, the Company adopted SFAS No. 130, "Reporting Comprehensive Income," which established standards for reporting comprehensive income (defined therein to include net income, unrealized gains and losses on available-for-sale investment securities, foreign currency adjustments, as well as certain other items not included in the income statement). The Company's Consolidated Statements of Changes in Stockholders' Equity have been reformatted and restated for the prior periods in compliance with SFAS No. 130. In June 1997, the Financial Accounting Standards Board (the "FASB") issued SFAS No. 131, "Disclosures about Segments of an Enterprise and Related Information." SFAS No. 131 establishes standards for reporting operating segments and requires certain other disclosures about products and services, geographic areas and major customers. The disclosure requirements are effective for the year ending December 31, 1998. SFAS No. 131 requires selected information about operating segments in interim financial statements beginning in 1999. The adoption of this standard is not expected to have a material effect on the Company's consolidated financial statements. In February 1998, the FASB issued SFAS No. 132, "Employers' Disclosures about Pensions and Other Postretirement Benefits," which standardized the disclosure requirements for pensions and other post-retirement benefits. The Company plans to implement SFAS No. 132 (which does not change existing measurement or recognition standards) in its consolidated financial statements for the year ending December 31, 1998. The adoption of this standard is not expected to have a material effect on the Company's consolidated financial statements. In June 1998, the FASB issued SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities." SFAS No. 133 establishes accounting and reporting standards for derivative instruments and hedging activities. SFAS No. 133 requires the recognition of all derivative instruments as either assets or liabilities in the statement of financial position and measurement of those derivative instruments at fair value. SFAS No. 133 is effective for all fiscal quarters of fiscal years beginning after June 15, 1999. The adoption of this standard is not expected to have a material effect on the Company's consolidated financial statements. 3. EARNINGS PER SHARE As of December 31, 1997, the Company adopted SFAS No. 128, "Earnings Per Share," which specifies the computation, presentation and disclosure requirements for earnings per share. By adopting SFAS No. 128, the Company was required to restate and expand its presentation for prior period earnings per share data. The basic and diluted earnings per share data of the Company reported under SFAS No. 128 did not differ materially from the primary and fully diluted earnings per share data previously reported by the Company under Accounting Principles Board Opinion No. 15, "Earnings Per Share." The following is a reconciliation of the numerators and denominators of the Company's basic and diluted earnings per share: <TABLE> <CAPTION> Quarter Ended June 30, ------------------------------------------------------------------------------------- 1998 1997 ----------------------------------------- ----------------------------------------- Income Shares Per Share Income Shares Per Share (Numerator) (Denominator) Amount (Numerator) (Denominator) Amount ----------- ----------- --------- ----------- ------------ --------- (in thousands, except number of shares and per share data) <S> <C> <C> <C> <C> <C> <C> Basic: Net income $ 21,668 31,143,766 $.70 $ 22,265 31,789,800 $.70 Effect of dilutive securities - Stock incentive plan options -- 190,632 -- -- 94,651 -- ----------- ----------- ---- ----------- ----------- ---- Diluted: Net income and assumed conversions $21,668 31,334,398 $.69 $ 22,265 31,884,451 $.70 =========== =========== ==== =========== =========== ==== </TABLE> <TABLE> <CAPTION> Six Months Ended June 30, ------------------------------------------------------------------------------------- 1998 1997 ----------------------------------------- ----------------------------------------- Income Shares Per Share Income Shares Per Share (Numerator) (Denominator) Amount (Numerator) (Denominator) Amount ----------- ----------- --------- ----------- ------------ --------- (in thousands, except number of shares and per share data) <S> <C> <C> <C> <C> <C> <C> Basic: Net income $ 42,896 31,162,875 $1.38 $ 42,781 31,782,666 $1.35 Effect of dilutive securities - Stock incentive plan options -- 190,545 -- -- 96,405 -- ----------- ----------- ----- ----------- ----------- ----- Diluted: Net income and assumed conversions $42,896 31,353,420 $1.37 $ 42,781 31,879,071 $1.34 =========== =========== ===== =========== =========== ===== </TABLE> 6
8 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) First Hawaiian, Inc. and Subsidiaries 4. IMPAIRED LOANS The following table summarizes impaired loan information as of and for the six months ended June 30, 1998 and 1997 and as of and for the year ended December 31, 1997: <TABLE> <CAPTION> JUNE 30, 1998 December 31, 1997 June 30, 1997 ------------- ----------------- ------------- (in thousands) <S> <C> <C> <C> Impaired loans $ 74,688 $ 74,751 $101,705 Impaired loans with related allowance for loan losses calculated under SFAS No. 114 $ 51,547 $ 38,278 $ 67,195 Total allowance for impaired loans $ 13,176 $ 9,257 $ 10,603 Average impaired loans $ 75,491 $ 90,901 $ 98,859 Interest income recorded during the period $ 498 $ 835 $ 542 </TABLE> Impaired loans without a related allowance for loan losses are generally collateralized by assets with fair values in excess of the recorded investment in the loans. Interest payments on impaired loans are generally applied to reduce the outstanding principal amounts of such loans. 5. MERGER AGREEMENT WITH BANCWEST CORPORATION On May 28, 1998, FHI signed a definitive agreement for the merger of BancWest Corporation ("BancWest"), parent company of Bank of the West, with and into FHI, which will be the surviving corporation. The surviving corporation will change its name to "BancWest Corporation." BancWest is wholly-owned by Banque Nationale de Paris ("BNP"), France's second largest banking group with more than $300 billion in assets. BNP will receive approximately 25.9 million shares of the surviving corporation's Class A Common Stock (representing approximately 45% of the voting stock) valued at approximately $962.6 million. The transaction is subject to, among other things, regulatory and stockholder approval, is expected to be completed during the fourth quarter of 1998, and will be accounted for using the purchase method of accounting. Bank of the West, headquartered in San Francisco, is California's fifth largest bank with approximately $5.8 billion in assets and 105 branches in 21 counties in Northern and Central California. The new combined BancWest Corporation will have more than 200 branches in the states of Hawaii, California, Oregon, Washington, Idaho, the territory of Guam and Saipan. 6. SUBSIDIARY MERGERS On April 18, 1997, Pioneer Federal Savings Bank ("Pioneer"), a wholly-owned subsidiary of FHI, was merged with and into the Bank. Five Pioneer branches became branches of the Bank and 14 branches were closed in connection with the merger. On December 31, 1997, Pacific One Bank, National Association ("Pacific One, N.A."), a wholly-owned subsidiary of FHI, was merged with and into Pacific One. The eight branches of Pacific One, N.A., all of which are located in the State of Washington, became branches of Pacific One. On June 19, 1998, First Hawaiian Creditcorp, Inc. ("Creditcorp"), a wholly-owned subsidiary of FHI, was merged with and into the Bank. All 13 Creditcorp branches were closed in connection with the merger. 7. FIRST HAWAIIAN CAPITAL I First Hawaiian Capital I is a Delaware business trust (the "Trust") which was formed in 1997. The Trust issued $100,000,000 of its capital securities (the "Capital Securities") in 1997, and used the proceeds therefrom to purchase junior subordinated deferrable interest debentures (the "Debentures") of FHI. In addition, the Trust also purchased $3,093,000 of Debentures in connection with the acquisition by FHI of common securities of the Trust. The Debentures (aggregate principal amount $103,093,000) are the sole assets of the Trust. The Capital Securities qualify as Tier 1 capital of FHI and are fully and unconditionally guaranteed by FHI. The Capital Securities accrue and pay interest (which payment may be deferred pursuant to the terms of the Capital Securities) semi-annually at an annual interest rate of 8.343%. The Capital Securities are mandatorily redeemable upon maturity of the Debentures on July 1, 2027, or upon earlier redemption in whole or in part as provided for in the governing indenture. 7
9 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Certain matters contained herein are forward-looking statements that involve certain risks and uncertainties that could cause the Company's actual results to differ materially from those discussed in the forward-looking statements. Factors that could cause or contribute to such differences include, but are not limited to: (1) global, national and local economic and market conditions; (2) the level and volatility of interest rates and currency values; (3) credit risks inherent in the lending processes; (4) loan and deposit demand in the geographic regions in which the Company conducts business; (5) the impact of intense competition in the rapidly evolving banking and financial services business; (6) the effect of current and pending government legislation and regulations; (7) the extensive regulation of the Company's business at both the federal and state levels; (8) whether expected cost savings from the pending merger with BancWest discussed below are realized within expected time frames; (9) whether revenues following the merger with BancWest are lower than expected or deposit attrition, operating costs or customer loss and business disruption following the merger may be greater than expected; (10) whether costs or difficulties related to the integration of the businesses of the Company and BancWest are greater than expected; (11) unforeseen costs and/or complications relating to the Company's year 2000 compliance efforts discussed below; and (12) other matters discussed below. The Company expressly disclaims any obligation or undertaking to release any update or revision to any forward-looking statement contained herein to reflect any change in the Company's expectations with regard thereto or any change in events, conditions or circumstances on which any statement is based. PENDING MERGER On May 28, 1998, FHI signed a definitive agreement for the merger of BancWest Corporation ("BancWest") with and into FHI, which will be the surviving corporation. The surviving corporation will change its name to "BancWest Corporation." BancWest is wholly-owned by Banque Nationale de Paris ("BNP"), France's second largest banking group with more than $300 billion in assets. BNP will receive approximately 25.9 million shares of the surviving corporation's Class A Common Stock (representing approximately 45% of the voting stock) valued at approximately $962.6 million. The transaction is subject to, among other things, regulatory and stockholder approval, is expected to be completed during the fourth quarter of 1998, and will be accounted for using the purchase method of accounting. Although no assurance can be given either that any specific level of cost savings will be achieved or as to the timing thereof, FHI currently expects the surviving corporation to achieve approximately $23.2 million and $41.0 million in pre-tax annual cost savings in 1999 and 2000, respectively, as a result of the merger. The cost savings are expected to be derived principally by merging Pacific One with Bank of the West, integrating data processing and back-office operations (in particular, eliminating vendor costs relating to BancWest's current outsourcing of back-office processing), eliminating duplicative operations and consolidating certain retail and wholesale operations. It is also estimated that a one-time pre-tax restructuring charge of approximately $67.0 million will be incurred upon consummation of the merger principally as a result of employee separations, elimination of duplicative facilities, employee relocations, and losses on asset impairments and dispositions of assets. A portion of this restructuring charge relates to exiting certain activities of Bank of the West that will be reflected as a purchase price adjustment rather than a charge to earnings. The finalization of these plans could result in material changes to the estimates discussed herein. The Company also expects that the surviving corporation will be able to generate increased revenues as a result of the merger. The Company expects that pre-tax revenue enhancements will be approximately $6.3 million in 1999 and approximately $9.8 million in 2000. The Company expects to achieve these results, in part, from potential cross-selling of products and services to the commercial and consumer customer bases of the combined company. Whether these anticipated benefits are ultimately achieved will depend on a number of factors, including the ability of the surviving corporation to successfully integrate the businesses of the Company and BancWest. For further information on the merger, see the Company's Reports on Form 8-K dated May 28, 1998. 8
10 NET INCOME The Company recorded consolidated net income for the first six months of 1998 of $42,896,000, an increase of $115,000, or .3%, over the first six months of 1997. For the second quarter of 1998, the consolidated net income of $21,668,000 represented a $597,000, or 2.7%, decrease compared to the same quarter in 1997. The modest increase in consolidated net income for the first six months and decrease in the second quarter of 1998 reflect the continuing effects of the sluggish economy in Hawaii. Basic and diluted earnings per share for the first six months of 1998 were $1.38 and $1.37, respectively, represent increases of 2.2% over the same period in 1997. Basic earnings per share for the second quarter of 1998 remained flat at $.70 and diluted earnings per share decreased $.01, or 1.4%, to $.69, in each case as compared to the same period in 1997. The percentage increases in consolidated net income on a per share basis were greater than the percentage changes in consolidated net income because the acquisition of shares under the Company's stock repurchase program, pursuant to which the Company is authorized to repurchase up to 3.1 million shares of the Company's common stock (of which 1.8 million shares were repurchased through June 30, 1998), resulted in a lower average number of outstanding shares in 1998 as compared to 1997. Basic and diluted cash earnings per share (defined as earnings per share in accordance with generally accepted accounting principles plus after-tax amortization of intangibles that are deducted from regulatory capital for risk-based purposes) for the first six months of 1998 were $1.48 and $1.47, respectively, represent increases of 2.8%, over the same period in 1997. Basic cash earnings per share for the second quarter of 1998 remained flat at $.74 and diluted earnings per share decreased $.01, or 1.4%, to $.75, in each case as compared to the same period in 1997. On an annualized basis, the Company's return on average total assets for the first six months of 1998 was 1.07%, a decrease of .9% compared to the same period in 1997, and its return on average stockholders' equity was 11.73%, a decrease of 2.7% compared to the same period in 1997. NET INTEREST INCOME Net interest income, on a fully taxable equivalent basis, increased $3,517,000, or 2.1%, to $172,102,000 for the first six months of 1998 from $168,585,000 for the same period in 1997. The increase in net interest income for the first six months of 1998 over the same period in 1997 was primarily due to an increase in average earning assets of $125,489,000, or 1.8%, and a 2 basis point (1% equals 100 basis points) increase in the net interest margin from 4.75% in 1997 to 4.77% in 1998. The increase in the net interest margin was primarily attributable to an increase of 9 basis points in the yield on average earning assets for the six months of 1998 over the same period in 1997, principally as a result of the partial liquidation of lower-yielding investment securities held by the Company. The Company used the proceeds from the partial liquidation to reduce its short-term borrowings and to fund higher-yielding loans. The increase in the yield on average earning assets was partially offset by an increase of 8 basis points in the rate paid on funding sources for the first six months of 1998 over the same period in 1997. The increase in the rate paid on funding sources reflects, among other things, the issuance by First Hawaiian Capital I of $100,000,000 aggregate liquidation amount of its capital securities (the "Capital Securities") in June 1997 and a decrease in average noninterest-bearing demand deposits of $22,330,000, or 2.7%. Net interest income increased $621,000, or .7%, to $86,461,000 for the second quarter of 1998 from $85,840,000 for the same period in 1997. The increase in net interest income for the second quarter of 1998 over the same period in 1997 was primarily due to an increase in average earning assets of $196,057,000, or 2.8%, partially offset by a 9 basis point decrease in the net interest margin from 4.83% in 1997 to 4.74% in 1998. The decrease in the net interest margin for the second quarter of 1998 was primarily attributable to a decrease in the yield on average earning assets of 6 basis points and an increase in the rate paid on funding sources of 3 basis points compared to the same period in 1997. The decrease on the yield on average earning assets was attributable to the lower yields earned on commercial, financial and agricultural and consumer loans and lease financing. As previously discussed, the increase in the rate paid on funding sources reflects, among other things, the issuance of the Capital Securities in June 1997. 9
11 Average earning assets increased by $125,489,000, or 1.8%, and $196,057,000 or 2.8%, for the first six months and second quarter of 1998, respectively, over the same periods in 1997, primarily due to higher levels of interest-bearing deposits in other banks and loans. The increase was partially offset by the partial liquidation of investment securities in connection with the merger of the Bank and Pioneer in April 1997 and a change in the collateral requirements for state and local government funds. Average loans for the first six months and second quarter of 1998 increased by $313,097,000, or 5.3%, and $274,354,000, or 4.6%, respectively, over the same periods in 1997. The mix of loans continues to change as the Company diversifies its loan portfolio, both geographically and by industry. These efforts have resulted in growth in the Company's banking operations in the Pacific Northwest, automobile financing in California and Oregon and credit extensions to companies in the media and telecommunications industry located on the mainland United States. In addition, the proposed merger with BancWest will further enhance this loan diversification strategy. Finally, the mix of average earning assets continues to change, with average loans representing 85.6% and 85.4% of average earning assets for the first six months and second quarter of 1998, respectively, as compared to 82.8% and 83.9%, respectively, for the same periods in 1997. Average interest-bearing deposits and liabilities increased by $112,247,000, or 1.8%, and $150,365,000, or 2.4%, for the first six months and second quarter of 1998, respectively, over the same periods in 1997. The increase was primarily due to the issuance of the Capital Securities and an increase in deposits of $253,578,000, or 5.0%, and $273,792,000, or 5.4%, for the first six months and second quarter of 1998, respectively, over the same periods in 1997, primarily from a shifting of public funds from repurchase agreements to deposits. The increase was partially offset by a decrease in short-term borrowings that were repaid using proceeds received from the partial liquidation of the investment securities portfolio described above. 10
12 The following table sets forth consolidated average balance sheets, an analysis of interest income/expense, and average yield/rate for each major category of interest-earning assets and interest-bearing liabilities for the periods indicated on a taxable equivalent basis. The tax equivalent adjustment is made for items exempt from Federal income taxes (assuming a 35% tax rate for 1998 and 1997) to make them comparable with taxable items before any income taxes are applied. <TABLE> <CAPTION> QUARTER ENDED JUNE 30, ------------------------------------------------------------------------------- 1998 1997 -------------------------------------- ----------------------------------- INTEREST Interest AVERAGE INCOME/ YIELD/ Average Income/ Yield/ ASSETS BALANCE EXPENSE RATE (1) Balance Expense Rate (1) --------- --------- -------- --------- --------- -------- (dollars in thousands) <S> <C> <C> <C> <C> <C> <C> Earning assets: Interest-bearing deposits in other banks $ 178,476 $ 2,646 5.95% $ 33,310 $ 488 5.88% Federal funds sold and securities purchased under agreements to resell 175,756 2,374 5.42 129,933 1,727 5.33 Available-for-sale investment securities (2) 718,370 11,868 6.63 987,656 16,166 6.57 Loans (3) (4) 6,250,315 135,719 8.71 5,975,961 131,255 8.81 ---------- ---------- ---------- ------- Total earning assets 7,322,917 152,607 8.36 7,126,860 149,636 8.42 ---------- ------- Nonearning assets 802,840 794,886 ---------- ---------- Total assets $8,125,757 $7,921,746 ========== ========== </TABLE> <TABLE> <CAPTION> SIX MONTHS ENDED JUNE 30, ----------------------------------------------------------------------- 1998 1997 ---------------------------------- ---------------------------------- INTEREST Interest AVERAGE INCOME/ YIELD/ Average Income/ Yield/ ASSETS BALANCE EXPENSE RATE (1) Balance Expense Rate (1) --------- --------- -------- -------- --------- -------- (dollars in thousands) <S> <C> <C> <C> <C> <C> <C> Earning assets: Interest-bearing deposits in other banks $ 156,733 $ 4,724 6.08% $ 44,381 $ 1,250 5.68% Federal funds sold and securities purchased under agreements to resell 158,674 4,241 5.39 143,780 3,820 5.36 Available-for-sale investment securities (2) 730,484 24,426 6.74 1,045,338 34,040 6.57 Loans (3) (4) 6,231,227 270,601 8.76 5,918,130 256,152 8.73 ---------- -------- ---------- --------- Total earning assets 7,277,118 303,992 8.42 7,151,629 295,262 8.33 -------- --------- Nonearning assets 792,508 805,324 ---------- --------- Total assets $8,069,626 $ 7,956,953 ========== =========== </TABLE> (1) Annualized. (2) Average balances exclude the effects of fair value adjustments. (3) Nonaccruing loans have been included in the computations of average loan balances. (4) Interest income for loans included loan fees of $6,555 and $13,542 for the quarter and six months ended June 30, 1998, respectively, and $6,109 and $11,981 for the quarter and six months ended June 30, 1997, respectively. 11
13 <TABLE> <CAPTION> QUARTER ENDED JUNE 30, --------------------------------------------------------------------------- 1998 1997 ----------------------------------- ------------------------------------- INTEREST Interest LIABILITIES AND AVERAGE INCOME/ YIELD/ Average Income/ Yield/ STOCKHOLDERS' EQUITY BALANCE EXPENSE RATE (1) Balance Expense Rate (1) --------- --------- -------- ---------- --------- -------- (dollars in thousands) <S> <C> <C> <C> <C> <C> <C> Interest-bearing deposits and liabilities: Deposits $5,316,899 $ 51,798 3.91% $5,043,107 $ 48,606 3.87% Short-term borrowings 669,174 8,756 5.25 876,569 11,400 5.22 Long-term debt and capital securities 316,893 5,591 7.08 232,925 3,790 6.53 ---------- ---------- ---------- ---------- Total interest-bearing deposits and liabilities 6,302,966 66,145 4.21 6,152,601 63,796 4.16 ------ ---- ---------- ---- Interest rate spread 4.15% 4.26% ==== ==== Noninterest-bearing demand deposits 832,415 820,493 Other liabilities 246,122 227,567 ---------- ---------- Total liabilities 7,381,503 7,200,661 Stockholders' equity 744,254 721,085 ---------- ---------- Total liabilities and stockholders' equity $8,125,757 $7,921,746 ========== ========== Net interest income and margin on earning assets 86,462 4.74% 85,840 4.83% ==== ==== Tax equivalent adjustment 13 183 ---------- ---------- Net interest income $ 86,449 $ 85,657 ========== ========== (1) Annualized. </TABLE> <TABLE> <CAPTION> SIX MONTHS ENDED JUNE 30, ----------------------------------------------------------------------------- 1998 1997 -------------------------------------- ---------------------------------- INTEREST Interest LIABILITIES AND AVERAGE INCOME/ YIELD/ Average Income/ Yield/ STOCKHOLDERS' EQUITY BALANCE EXPENSE RATE (1) Balance Expense Rate (1) --------- --------- -------- --------- --------- -------- (dollars in thousands) <S> <C> <C> <C> <C> <C> <C> Interest-bearing deposits and liabilities: Deposits $5,277,947 $ 102,831 3.93% $5,024,369 $ 95,813 3.85% Short-term borrowings 679,356 17,863 5.30 910,664 23,404 5.18 Long-term debt and capital securities 317,437 11,196 7.11 227,460 7,460 6.61 ---------- ---------- ---------- --------- Total interest-bearing deposits and liabilities 6,274,740 131,890 4.24 6,162,493 126,677 4.15 ---------- ---- ---------- ---- Interest rate spread 4.18% 4.18% ==== ==== Noninterest-bearing demand deposits 819,631 841,961 Other liabilities 237,524 237,011 ---------- ---------- Total liabilities 7,331,895 7,241,465 Stockholders' equity 737,731 715,488 ---------- ---------- Total liabilities and stockholders' equity $8,069,626 $7,956,953 ========== ========== Net interest income and margin on earning assets 172,102 4.77% 168,585 4.75% ==== ==== Tax equivalent adjustment 75 414 ---------- ---------- Net interest income $ 172,027 $ 168,171 ========== ========== (1) Annualized. </TABLE> 12
14 AVAILABLE-FOR-SALE INVESTMENT SECURITIES The following table presents the amortized cost and fair values of available-for-sale investment securities as of the dates indicated: <TABLE> <CAPTION> JUNE 30, December 31, June 30, 1998 1997 1997 ---------- ---------- ---------- (in thousands) <S> <C> <C> <C> Amortized cost $ 705,103 $ 778,528 $ 892,507 Unrealized gains 10,554 1,021 1,641 Unrealized losses (57) (1,425) (262) ---------- ---------- ---------- Fair value $ 715,600 $ 778,124 $ 893,886 ========== ========== ========== </TABLE> Gross realized gains and losses for the six months ended June 30, 1998 and 1997 were as follows: <TABLE> <CAPTION> 1998 1997 -------- -------- (in thousands) <S> <C> <C> Realized gains $ -- $ 992 Realized losses (5) (773) -------- -------- Securities gains (losses), net $ (5) $ 219 ======== ======== </TABLE> Gains and losses realized on the sales of available-for-sale investment securities are determined using the specific identification method. 13
15 LOANS The following table sets forth the loan portfolio by major categories and loan mix at June 30, 1998, December 31, 1997 and June 30, 1997: <TABLE> <CAPTION> JUNE 30, 1998 December 31, 1997 June 30, 1997 ----------------------- ----------------------- ----------------------- AMOUNT % Amount % Amount % ---------- ------- ---------- ------- ---------- ------- (dollars in thousands) <S> <C> <C> <C> <C> <C> <C> Commercial, financial and agricultural $1,624,529 25.8% $1,582,698 25.4% $1,525,979 25.3% Real estate: Commercial 1,254,752 19.9 1,193,538 19.1 1,225,602 20.3 Construction 163,078 2.6 166,482 2.7 167,230 2.8 Residential: Insured, guaranteed or conventional 1,382,921 21.9 1,486,887 23.8 1,475,858 24.5 Home equity credit lines 427,620 6.8 457,724 7.4 462,839 7.6 ---------- ------- ---------- ------- ---------- ------- Total real estate loans 3,228,371 51.2 3,304,631 53.0 3,331,529 55.2 ---------- ------- ---------- ------- ---------- ------- Consumer 724,002 11.5 678,984 10.9 589,842 9.8 Lease financing 345,576 5.5 333,270 5.3 278,046 4.6 Foreign 382,351 6.0 339,098 5.4 306,156 5.1 ---------- ------- ---------- ------- ---------- ------- Total loans 6,304,829 100.0% 6,238,681 100.0% 6,031,552 100.0% ======= ======= ======= Less allowance for loan losses 85,749 82,596 84,189 ---------- --------- --------- Total net loans $6,219,080 $6,156,085 $5,947,363 ========== ========== ========== Total loans to: Total assets 77.2% 77.1% 77.2% Total earning assets 86.5% 86.6% 86.9% Total deposits 101.7% 102.5% 102.6% </TABLE> The loan portfolio is the largest component of total earning assets and accounts for the greatest portion of total interest income. At June 30, 1998, total loans were $6,304,829,000, representing increases of 1.1% and 4.5% over December 31, 1997 and June 30, 1997, respectively. Commercial, financial and agricultural loans as of June 30, 1998 increased $41,831,000, or 2.6%, over December 31, 1997, and $98,550,000, or 6.5%, over June 30, 1997. Although the Company continues its efforts to diversify the loan portfolio, both geographically and by industry, overall loan volume in the State of Hawaii continues to decline as a result of the sluggish economy. Credit extensions in the Pacific Northwest and the media and telecommunications industry located on the mainland United States account for the majority of the increase in loan balances and geographic and industry diversification. Consumer loans as of June 30, 1998 increased $45,018,000, or 6.6%, over December 31, 1997, and $134,160,000, or 22.7%, over June 30, 1997. The increase was primarily due to an increase in direct and indirect automobile financing in California and Oregon. Lease financing as of June 30, 1998 increased $12,306,000, or 3.7%, over December 31, 1997, and $67,530,000, or 24.3%, over June 30, 1997. The increase was primarily due to an increase in leveraged leases on equipment located on the mainland United States. The Company's international operations, principally in Guam and Grand Cayman, British West Indies, involve foreign banking and international financing activities, including short-term investments, loans, acceptances, letters of credit financing and international funds transfers. International activities are identified on the basis of the domicile of the applicable customer. Foreign loans as of June 30, 1998, increased $43,253,000, or 12.8%, over December 31, 1997, and $76,195,000, or 24.9%, over June 30, 1997. The increase in foreign loans was primarily due to an increase in loan balances in Guam. Loan concentrations are considered to exist when there are amounts loaned to multiple borrowers engaged in similar activities which would cause them to be similarly impacted by economic or other conditions. At June 30, 1998, the Company did not have a concentration of loans greater than 10% of total loans which is not otherwise disclosed as a category of loans as shown in the above table. 14
16 NONPERFORMING ASSETS A summary of nonperforming assets at June 30, 1998, December 31, 1997 and June 30, 1997 follows: <TABLE> <CAPTION> JUNE 30, December 31, June 30, 1998 1997 1997 ------- ------- ------- (dollars in thousands) <S> <C> <C> <C> Nonperforming loans: Nonaccrual: Commercial, financial and agricultural $ 11,348 $ 9,038 $16,380 Real estate: Commercial 5,178 4,590 6,835 Construction -- -- 1,878 Residential: Insured, guaranteed, or conventional 9,139 6,353 8,761 Home equity credit lines 90 50 49 ------- ------- ------- Total real estate loans 14,407 10,993 17,523 ------- ------- ------- Consumer 92 -- -- Lease financing 121 10 -- Foreign 331 -- -- ------- ------- ------- Total nonaccrual loans 26,299 20,041 33,903 ------- ------- ------- Restructured: Commercial, financial and agricultural 579 1,532 2,813 Real estate: Commercial 32,348 30,843 39,129 Construction -- -- 1,668 Residential: Insured, guaranteed, or conventional 1,116 2,626 1,384 Home equity credit lines -- 559 559 ------- ------- ------- Total real estate loans 33,464 34,028 42,740 ------- ------- ------- Total restructured loans 34,043 35,560 45,553 ------- ------- ------- Total nonperforming loans 60,342 55,601 79,456 Other real estate owned 25,795 30,760 18,419 ------- ------- ------- Total nonperforming assets $86,137 $86,361 $97,875 ======= ======= ======= Past due loans: Commercial, financial and agricultural $ 982 $ 2,521 $ 6,331 Real estate: Commercial 3,547 567 4,550 Residential: Insured, guaranteed, or conventional 23,489 25,002 12,907 Home equity credit lines 2,001 2,077 3,048 ------- ------- ------- Total real estate loans 29,037 27,646 20,505 ------- ------- ------- Consumer 3,242 3,589 2,770 Lease financing 175 11 52 Foreign 1,348 -- -- ------- ------- ------- Total past due loans (1) $34,784 $33,767 $29,658 ======= ======= ======= Nonperforming assets to total loans and other real estate owned (end of period): Excluding 90 days past due accruing loans 1.36% 1.38% 1.62% Including 90 days past due accruing loans 1.91% 1.92% 2.11% Nonperforming assets to total assets (end of period): Excluding 90 days past due accruing loans 1.05% 1.07% 1.25% Including 90 days past due accruing loans 1.48% 1.48% 1.63% </TABLE> (1) Represents loans which are past due 90 days or more as to principal and/or interest, are still accruing interest and are in the process of collection. 15
17 NONPERFORMING ASSETS, CONTINUED Nonperforming assets decreased from $97,875,000, or 1.62% of total loans and other real estate owned ("OREO"), at June 30, 1997, to $86,137,000, or 1.36% of total loans and OREO, at June 30, 1998. The percentage of nonperforming assets to total assets decreased from 1.25% at June 30, 1997 to 1.05% at June 30, 1998. The decrease in nonperforming assets of $11,738,000, or 12.0%, from June 30, 1997 to June 30, 1998 was primarily due to decreases in: (1) commercial, financial and agricultural nonaccrual loans of $5,032,000, or 30.7%; and (2) commercial real estate restructured loans of $6,781,000, or 17.3%. The decrease in nonperforming loans was partially offset by an increase in OREO of $7,376,000, or 40.0%. The decrease in commercial, financial and agricultural nonaccrual loans and real estate - commercial restructured loans was primarily due to the transfer of three loans totalling $13,610,000 to OREO. These transfers to OREO were partially offset by the sales of commercial and residential real estate properties totalling $6,520,000 and write-downs of $1,842,000. In the second quarter of 1998, the Company identified a potential problem loan (not otherwise classified as nonperforming or past due in the table on page 15) of $10,025,000 where possible credit problems of the borrower caused management to have serious concerns as to the ability of such borrower to comply with the present loan repayment terms. Such loan consisted of a commercial real estate loan, which was current as of June 30, 1998. If current conditions continue, such loan may be disclosed in future periods as a nonperforming asset. Loans past due 90 days or more and still accruing interest totalled $34,784,000 at June 30, 1998, an increase of $5,126,000, or 17.3%, over June 30, 1997. The increase was primarily due to certain real estate - residential loans sold with recourse that were repurchased in the fourth quarter of 1997 and the first six months of 1998, which increase was partially offset by a decrease in commercial, financial and agricultural loans. All of the loans which are past due 90 days or more and still accruing interest are, in management's judgment, adequately collateralized and in the process of collection. In recent years, the level of the Company's nonperforming assets and charge-offs has been affected by the impact of adverse economic conditions and trends in Hawaii. The most important of these adverse economic trends is the prolonged economic downturn over the last eight years. Hawaii's recovery from its 1991 recession continues to be slow and protracted. In contrast, the mainland (including the Pacific Northwest), continues to experience economic expansion. In addition, Hawaii continues to show weaknesses in its local real estate market, including declining real estate value. Recently, a number of countries in the Asia Pacific region, including Japan, have experienced significant weaknesses in their economies. The economic downturn in Asia may adversely impact the volume and spending level of Asian visitors to Hawaii, which in turn may adversely affect the Hawaiian economy. Outstanding commitments and loans to debtors in Asian countries of $14,771,000, excluding Japan, represented approximately .18% of total assets and 2.0% of total stockholders' equity and, including Japan $108,960,000, represented approximately 1.33% of total assets and 14.4% of total stockholders' equity, in each case at June 30, 1998. These commitments and loans are primarily collateralized by certificates of deposit, Hawaii real estate, standby letters of credit issued by Asian banks and/or guarantees by credit-worthy Asian individuals and corporations. The Company does not foresee a major improvement in Hawaii's economic conditions in the near term and believes that these trends may continue to affect the level of nonperforming assets and related charge-offs in future periods. 16
18 DEPOSITS The following table sets forth the average balances and the average rates paid on deposits for the periods indicated: <TABLE> <CAPTION> QUARTER ENDED JUNE 30, ------------------------------------------------------ 1998 1997 ------------------------ --------------------- AVERAGE AVERAGE Average Average BALANCE RATE (1) Balance Rate (1) --------- -------- --------- --------- (dollars in thousands) <S> <C> <C> <C> <C> Interest-bearing demand $1,810,698 2.60% $1,631,956 2.52% Savings 828,902 2.44 890,553 2.49 Time 2,677,299 5.24 2,520,598 5.22 ---------- ---------- Total interest-bearing deposits 5,316,899 3.91 5,043,107 3.87 Noninterest-bearing demand 832,415 -- 820,493 -- ---------- ---------- Total deposits $6,149,314 3.38% $5,863,600 3.32% ========== ========== </TABLE> <TABLE> <CAPTION> SIX MONTHS ENDED JUNE 30, ---------------------------------------------- 1998 1997 -------------------- --------------------- AVERAGE AVERAGE Average Average BALANCE RATE (1) Balance Rate (1) --------- -------- --------- --------- (dollars in thousands) <S> <C> <C> <C> <C> Interest-bearing demand $1,798,651 2.60% $1,586,458 2.54% Savings 827,990 2.46 940,032 2.32 Time 2,651,306 5.29 2,497,879 5.25 ---------- ---------- Total interest-bearing deposits 5,277,947 3.93 5,024,369 3.85 Noninterest-bearing demand 819,631 -- 841,961 -- ---------- ---------- Total deposits $6,097,578 3.40% $5,866,330 3.29% ========== ========== </TABLE> Average interest-bearing deposits increased $253,578,000, or 5.1%, and $273,792,000, or 5.4%, for the first six months and second quarter of 1998, respectively, over the same periods in 1997. The increase in average interest-bearing deposits was primarily due to a higher level of public funds and various deposit product programs initiated by the Company. (1) Annualized. 17
19 PROVISION AND ALLOWANCE FOR LOAN LOSSES The following table sets forth the activity in the allowance for loan losses for the periods indicated: <TABLE> <CAPTION> QUARTER ENDED SIX MONTHS ENDED JUNE 30, JUNE 30, ---------------------------------- ---------------------------------- 1998 1997 1998 1997 ----------- ----------- ----------- ----------- (dollars in thousands) <S> <C> <C> <C> <C> Loans outstanding (end of period) $ 6,304,829 $ 6,031,552 $ 6,304,829 $ 6,031,552 =========== =========== =========== =========== Average loans outstanding $ 6,250,315 $ 5,975,961 $ 6,231,227 $ 5,918,130 =========== =========== =========== =========== Allowance for loan losses summary: Balance at beginning of period $ 83,154 $ 85,136 $ 82,596 $ 85,248 ----------- ----------- ----------- ----------- Loans charged off: Commercial, financial and agricultural 545 3,339 1,460 3,353 Real estate: Commercial 419 88 420 343 Construction -- -- -- 61 Residential 898 960 1,617 2,035 Consumer 3,826 3,436 7,682 6,511 Lease financing 5 16 5 16 Foreign 109 16 216 20 ----------- ----------- ----------- ----------- Total loans charged off 5,802 7,855 11,400 12,339 ----------- ----------- ----------- ----------- Recoveries on loans charged off: Commercial, financial and agricultural 44 1,271 662 1,319 Real estate: Commercial 120 52 515 64 Residential 72 647 73 662 Consumer 614 664 1,323 1,198 Lease financing -- 7 -- 11 Foreign 31 6 68 13 ----------- ----------- ----------- ----------- Total recoveries on loans previously charged off 881 2,647 2,641 3,267 ----------- ----------- ----------- ----------- Net charge-offs (4,921) (5,208) (8,759) (9,072) Provision charged to expense 7,516 4,261 11,912 8,013 ----------- ----------- ----------- ----------- Balance at end of period $ 85,749 $ 84,189 $ 85,749 $ 84,189 =========== =========== =========== =========== Net loans charged off to average loans .32%(1) .35%(1) .28%(1) .31%(1) Net loans charged off to allowance for loan losses 23.02%(1) 24.81%(1) 20.60%(1) 21.73%(1) Allowance for loan losses to total loans (end of period) 1.36% 1.40% 1.36% 1.40% Allowance for loan losses to nonperforming loans (end of period): Excluding 90 days past due accruing loans 1.42X 1.06x 1.42X 1.06x Including 90 days past due accruing loans .90X .77x .90X .77x </TABLE> (1) Annualized. 18
20 PROVISION AND ALLOWANCE FOR LOAN LOSSES, CONTINUED For the first six months of 1998, the provision for loan losses was $11,912,000, an increase of $3,899,000, or 48.7%, over the same period in 1997. The provision for loan losses was $7,516,000 for the second quarter of 1998, an increase of $3,255,000, or 76.4%, over the same period in 1997. The increase in the provision for loan losses for the first six months and second quarter of 1998 over the same periods in 1997 reflects the prolonged economic downturn in Hawaii, an 18.0% increase in consumer loan charge-offs and the potential problem loan identified in the second quarter of 1998 (see section titled "Nonperforming Assets" on page 15). The provision for loan losses is based upon management's judgment as to the adequacy of the allowance for loan losses (the "Allowance") to absorb future losses. The Company uses a systematic methodology to determine the adequacy of the Allowance and related provision for loan losses to be reported for financial statement purposes. The determination of the adequacy of the Allowance is ultimately one of management judgment, which includes consideration of many factors, including, among other things, the amount of problem and potential problem loans, net charge-off experience, changes in the composition of the loan portfolio by type and location of loans and in overall loan risk profile and quality, general economic factors and the fair value of collateral. Net charge-offs were $8,759,000 for the first six months of 1998, a decrease of $313,000, or 3.5%, compared to the same period in 1997. Net charge-offs for the second quarter of 1998 were $4,921,000 compared to $5,208,000 for the same period a year ago. The decrease in charge-offs in the first six months and second quarter of 1998 was primarily due to charge-offs on four commercial, financial and agricultural loans totalling $2,650,000 in the prior year. The decrease in loan recoveries in the first six months and second quarter of 1998 was primarily due to a $1,188,000 recovery on a commercial, financial and agricultural loan in the prior year. For the first six months and second quarter of 1998, consumer loan charge-offs increased $1,171,000 and $390,000, or 18.0% and 11.4%, respectively, over the same periods in 1997. Consumer loan charge-offs were negatively impacted by the ongoing sluggish Hawaii economy and continued increase in personal bankruptcies. Smaller balance homogeneous credit card and consumer loans are charged off at a predetermined delinquency status or earlier if the Company determines that the loan is uncollectible. The allowance for loan losses increased to 1.42 times nonperforming loans (excluding 90 days past due accruing loans) at June 30, 1998 from 1.06 times at June 30, 1997 as a result of a 24.1% decrease in nonperforming loans. In management's judgment, the Allowance was adequate to absorb potential losses currently inherent in the loan portfolio at June 30, 1998. However, changes in prevailing economic conditions in the Company's markets could result in changes in the level of nonperforming assets and charge-offs in the future and, accordingly, changes in the Allowance. NONINTEREST INCOME Noninterest income totalled $56,827,000 and $31,220,000, for the first six months and second quarter of 1998, respectively, an increase of $6,612,000 and $4,859,000, or 13.2% and 18.4%, respectively, over the same periods in 1997. Trust and investment services income increased $529,000 and $115,000, or 4.1% and 1.9%, for the first six months and second quarter of 1998, respectively, over the same periods in 1997. Service charges on deposit accounts increased $673,000 and $198,000, or 4.8% and 2.7%, for the first six months and second quarter of 1998, respectively, over the same periods in 1997. Other service charges and fees increased $1,456,000 and $654,000, or 9.8% and 9.0%, for the first six months and second quarter of 1998, respectively, over the same periods in 1997. The increase was primarily due to higher: (1) income earned from annuity and mutual fund sales; and (2) mortgage servicing fees for mortgage loans that were originated and sold with servicing retained. Other noninterest income increased $4,178,000 and $4,113,000, or 50.7% and 74.8%, for the first six months and second quarter of 1998, respectively, over the same periods in 1997. The increase was primarily due to: (1) gains on sales of a corporate aircraft and the Maui regional manager's residence of $3,907,000 and $2,115,000, respectively; and (2) income earned on bank owned life insurance on certain officers. The increase was partially offset by a gain on sale of other real estate owned ("OREO") of $3,029,000 in the second quarter of 1997. 19
21 NONINTEREST EXPENSE Noninterest expense totalled $149,859,000 for the first six months of 1998, an increase of 1.3% over the same period in 1997. Noninterest expense totalled $76,222,000 for the second quarter of 1998, an increase of 1.8% over the same period a year ago. Total personnel expense (salaries and wages and employee benefits) decreased $4,294,000 and $2,364,000, or 5.7% and 6.3%, for the first six months and second quarter of 1998, respectively, compared to the same periods in 1997. The decrease was primarily due to: (1) lower salaries and wages expense as a result of the Company's re-engineering and consolidation efforts; and (2) higher pension credits. Occupancy expense for the first six months of 1998 decreased $610,000, or 3.0%, compared to the same period in 1997. The occupancy expense for the second quarter of 1998 increased $256,000, or 2.7%, over the same period in 1997. Equipment expense increased $551,000 and $191,000, or 4.4% and 2.9%, respectively, for the first six months and second quarter of 1998, over the same periods in 1997. The increase was a result of: (1) higher data processing equipment rental expense; and (2) higher depreciation expense on furniture and equipment. Other noninterest expense increased $6,337,000 and $3,274,000, respectively, for the first six months and second quarter of 1998, an increase of 15.8% and 15.4%, respectively, over the same periods in 1997. The increase was the result of write-downs of certain OREO of $2,101,000, higher outside service expenses primarily related to the Year 2000 project (see Year 2000 disclosure on pages 21 to 22) and higher foreclosed property expenses. In addition, the cash surrender value of certain executive life insurance policies increased (recorded as a credit to insurance expense) in March 1997. This increase was partially offset by a loss on the sale of a: (1) certain loan in June 1997; and (2) certain OREO in March 1997. INCOME TAXES The Company's effective income tax rate (exclusive of the tax equivalent adjustment) for the first six months and second quarter of 1998 was 36.1%, as compared to 31.5% and 32.3%, respectively, for the same periods in 1997. The effective tax rate for the first six months and second quarter of 1997 was positively impacted by the: (1) recognition of certain previously unrecognized tax credits; (2) partial reversal of an overaccrual of State of Hawaii income taxes; and (3) donation of real property to a non-profit organization. 20
22 LIQUIDITY AND CAPITAL Stockholders' equity was $754,641,000 at June 30, 1998, an increase of 3.1% over $731,701,000 at December 31, 1997. The ratio of average stockholders' equity to average total assets was 9.16% for the second quarter of 1998 compared to 9.10% for the second quarter of 1997. The primary source of funds for the dividends paid by the Company to its stockholders is dividends received from its subsidiaries. The Bank and Pacific One are subject to regulatory limitations on the amount of dividends they may declare or pay. At June 30, 1998, the aggregate amount available for payment of dividends by such subsidiaries without prior regulatory approval was $280,459,000. The Company is subject to various regulatory capital requirements administered by the Federal banking agencies. Failure to meet minimum capital requirements can initiate certain discretionary (and, in the case of the Company's depository institution subsidiaries, mandatory) actions by regulators that, if undertaken, could have a material effect on the Company's consolidated financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Company and its depository institution subsidiaries must each meet specific capital guidelines that involve quantitative measures of their assets, liabilities, and certain off-balance sheet items as calculated under regulatory accounting practices. These capital amounts and classifications are also subject to qualitative judgments by the regulators about components, risk weightings, and other factors. Quantitative measures established by regulation to ensure capital adequacy require the Company to maintain minimum amounts and ratios (set forth in the table below, at June 30, 1998) of Tier 1 and Total capital to risk-weighted assets, and of Tier 1 capital to average assets. <TABLE> <CAPTION> Minimum For Capital To Be Actual Adequacy Purposes Well-Capitalized ------------------------------------------------------------------------------- Amount Ratio Amount Ratio Amount Ratio ------------------------------------------------------------------------------- (dollars in thousands) <S> <C> <C> <C> <C> <C> <C> Tier 1 Capital to Risk-Weighted Assets $734,565 9.49% $309,669 4.00% $464,503 6.00% Total Capital to Risk-Weighted Assets $910,314 11.76% $619,337 8.00% $774,172 10.00% Tier 1 Capital to Average Assets $734,565 9.17% $240,359 3.00% N/A N/A </TABLE> As of June 30, 1998, the Company and its depository institution subsidiaries were categorized as well-capitalized under the applicable Federal regulations. To be categorized as well-capitalized, the Company must maintain Tier 1 risk-based and Total risk-based capital ratios of 6% and 10%, respectively (as set forth in the table above). Management is not aware of any conditions or events subsequent to June 30, 1998, that would cause a change in the Company's category. YEAR 2000 ISSUES Many computer programs were written to use only two digits to identify the year. Thus, a computer program could read the digits "00" as the year 2000 or as the year 1900. If not corrected, the Company's system and software may fail or create erroneous results in the year 2000. Also, microprocessors embedded in many operating facilities -- such as elevators and communication systems -- may cause equipment malfunctions because of the year 2000 date change. Failure by the Company (or by third parties upon which the Company relies) to address the year 2000 issues could cause material loss to the Company. In 1995, management began a comprehensive program to address the year 2000 issue and ensure that the Company's computer software and hardware and other date-sensitive facilities will continue to function properly in the year 2000 and thereafter. The Company has completed the awareness and assessment phase of this program. The Company is well underway with renovation and is well into testing mission-critical systems. Testing for individual mission-critical systems is scheduled to be substantially completed by the end of 1998, with integration testing to occur during 1999. 21
23 The Company has also begun to assess the year 2000 compliance efforts of external parties upon which the Company relies. For example, the Company has established a program to identify and monitor its largest borrowers and to assess the credit risk to the Company of a failure of material borrowers to address year 2000 issues. Costs in connection with the year 2000 program, currently estimated at a total of $9 million through June 30, 2000, are not anticipated to materially impact the Company's operations. Through June 30, 1998, an estimated total of $2,012,000 has been expended on identification, assessment, remediation and testing as scheduled under the program. The Company is developing contingency plans for addressing any material failure to deal with the year 2000 date change that will address, among other things, the Company's exposure to year 2000 noncompliance by third parties. The Company's goal is to finalize contingency plans for mission-critical products and services in 1999. Even though the Company's planned software and hardware modifications and system upgrades should adequately address year 2000 issues, there can be no assurance that unforeseen difficulties will not arise. There is no assurance that the failure of any external party to resolve its year 2000 issues would not have a material adverse effect on the Company. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK Certain disclosures in this Item 3 are forward-looking statements about matters that involve certain risks and uncertainties that could cause the Company's actual results to differ materially from those discussed in such forward-looking statements. See Item 2 above for a discussion of factors that could cause or contribute to such differences. INTEREST RATE RISK MEASUREMENT AND MANAGEMENT The net interest income of the Company is subject to interest rate risk to the extent the Company's interest-bearing liabilities (primarily deposits and borrowings) mature or reprice on a different basis than its interest-earning assets (primarily loans and investment securities). When interest-bearing liabilities mature or reprice more quickly than interest-earning assets during a given period, an increase in interest rates could reduce net interest income. Similarly, when interest-earning assets mature or reprice more quickly than interest-bearing liabilities, a decrease in interest rates could also reduce net interest income. In addition, the impact of interest rate swings may be exacerbated by factors such as our customers' propensity to manage their demand deposit balances more or less aggressively or to refinance mortgage loans depending on the interest rate environment. The Asset/Liability Committees of each of the Company's subsidiary companies are responsible for managing interest rate risk. Oversight for the Company taken as a whole and individual subsidiary companies is also provided by the Treasury & Investment Division and the Asset/Liability Committee of the Bank. The frequency of the various Asset/Liability Committee meetings range from weekly to monthly. Recommendations for changes to a particular subsidiary's interest rate profile, should they be deemed necessary and exceed established policies, are made to its Board of Directors. Other than loans that are originated and held for sale, the Company does not enter into derivatives or other financial instruments for trading purposes. The Company's exposure to interest rate risk is managed primarily by taking actions that impact certain balance sheet accounts (e.g., lengthening or shortening maturities in the investment portfolio, changing asset and/or liability mix -- including by increasing or decreasing the amounts of fixed and/or variable instruments held by the Company -- to adjust sensitivity to interest rate changes) and/or utilizing off-balance sheet instruments such as interest rate swaps, caps or floors. The Company models its net interest income in order to quantify its exposure to changes in interest rates. Generally, the size of the balance sheet is held constant and then subjected to interest rate shocks of 100 and 200 basis points (both increases and decreases). Each account-level item is repriced according to its respective contractual characteristics, including any imbedded options which might exist (e.g., loans which permit the borrower to prepay the principal balance of the loan prior to maturity without penalty). Off-balance sheet instruments such as interest rate swaps, caps or floors are included as part of the modeling process. For each interest rate shock scenario, net interest income over a 12-month horizon is compared against the results of a scenario in which no interest rate change occurs (a "flat rate scenario") to determine the level of interest rate risk at that time. The Company continues to monitor the projected impact of increases and decreases in interest rates on the Company's net interest income. Exposure remains well within board approved limits. 22
24 SIGNIFICANT ASSUMPTIONS UTILIZED AND INHERENT LIMITATIONS The significant net interest income changes for each interest rate scenario include assumptions based on accelerating or decelerating mortgage prepayments in declining or rising scenarios, respectively, and adjusting deposit levels and mix in the different interest rate scenarios. The magnitude of changes to both areas in turn are based upon analyses of customers' behavior in differing rate environments. However, these analyses may differ from actual future customer behavior. For example, actual prepayments may differ from current assumptions because prepayments are affected by many variables which cannot be predicted with certainty (e.g., prepayments of mortgages may differ on fixed and adjustable loans depending upon current interest rates, expectations of future interest rates, availability of refinancing, economic benefit to borrower, financial viability of borrower, etc.). As with any model for analyzing interest rate risk, certain limitations are inherent in the method of analysis presented above. For example, the actual impact on net interest income due to certain interest rate shocks may differ from those projected should market conditions vary from assumptions used in the analysis. Furthermore, the analysis does not consider the effects of a changed level of overall economic activity that could exist in certain interest rate environments. Moreover, the method of analysis used does not take into account the actions that management might take to respond to changes in interest rates because of inherent difficulties in determining the likelihood or impact of any such response. At June 30, 1998, there was no significant change in the Company's market risk from the information provided with respect to "Quantitative and Qualitative Disclosures About Market Risk" in the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 1997. Quantitative and qualitative disclosures regarding the Company's market risk are also included in "Management's Discussion and Analysis of Financial Condition and Results of Operations" (page 36) and "Notes to Financial Statements" (page 47) in the Financial Review section of the Company's Annual Report 1997. 23
25 PART II. OTHER INFORMATION ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS At the annual meeting of stockholders held on April 16, 1998, the stockholders voted on the following matters: (a) Fix the total number of directors at fifteen: for - 28,481,800 (98.8%), against - 57,638 (.2%), abstained - 275,330 (1.0%) and unvoted - 7 (less than .1%). (b) Election of five directors for a term of three years expiring in 2001, or until their successors are elected and qualified: <TABLE> <CAPTION> Votes --------------------------------------------- Name For Withheld ---- ---------------------- ----------------- <S> <C> <C> <C> <C> Dr. Julia Ann Frohlich 28,676,191 (99.5%) 138,582 (.5%) John A. Hoag 28,709,985 (99.6%) 104,790 (.4%) Bert T. Kobayashi, Jr. 28,707,750 (99.6%) 107,023 (.4%) Fred C. Weyand 28,703,284 (99.6%) 111,491 (.4%) Robert C. Wo 28,704,969 (99.6%) 109,806 (.4%) </TABLE> There were no abstentions. The following persons continue as directors for the terms indicated as follows: <TABLE> <CAPTION> Expiration of Director Term of Office -------- -------------- <S> <C> Walter A. Dods, Jr. 1999 Paul Mullin Ganley 1999 Dr. Richard T. Mamiya 1999 Dr. Fujio Matsuda 1999 George P. Shea, Jr. 1999 John W. A. Buyers 2000 John C. Couch 2000 David M. Haig 2000 Roderick F. McPhee 2000 John K. Tsui 2000 </TABLE> (c) Approval of the 1998 Stock Incentive Plan: for - 25,644,380 (89.0%), against - 1,082,565 (3.8%), abstained - 320,394 (1.1%) and unvoted - 1,767,436 (6.1%). (d) Election of Coopers & Lybrand, L.L.P., now known as PricewaterhouseCoopers LLP, as the auditor of the Company to serve for the ensuing year: for - 28,680,992 (99.5%), against - 38,304 (.2%), abstained - 95,474 (.3%) and unvoted - 5 (less than .1%). 24
26 ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K (a) Exhibits Exhibit 10 Material Contracts. Management Contracts and Compensatory Plans. (i) First Hawaiian, Inc. Stock Incentive Plan, as amended, filed herewith. (ii) First Hawaiian, Inc. Long-term Incentive Plan, as amended, filed herewith. (iii) First Hawaiian, Inc. Supplemental Executive Retirement Plan, as amended, filed herewith. (iv) First Hawaiian, Inc. Incentive Plan for Key Executives, as amended, filed herewith. (v) First Hawaiian Directors' Retirement Plan, as amended, filed herewith. (vi) First Hawaiian, Inc. Deferred Compensation Plan, as amended, filed herewith. (vii) First Hawaiian, Inc. 1998 Stock Incentive Plan, as amended, filed herewith. Exhibit 12 Statement regarding computation of ratios. Exhibit 27 Financial data schedule. (b) Reports on Form 8-K - FHI filed two reports on Form 8-K during the quarter ended June 30, 1998 as follows: o Form 8-K, Dated May 28, 1998, in which FHI announced the definitive agreement for the merger of BancWest Corporation with and into FHI. o Form 8-K, Dated May 28, 1998, in which FHI filed exhibits relating to the proposed merger of FHI with BancWest Corporation. 25
27 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. FIRST HAWAIIAN, INC. (REGISTRANT) Date August 10, 1998 By /s/ HOWARD H. KARR ------------------------------ ----------------------------- HOWARD H. KARR EXECUTIVE VICE PRESIDENT, CHIEF FINANCIAL OFFICER AND TREASURER (PRINCIPAL FINANCIAL OFFICER) 26
28 EXHIBIT INDEX <TABLE> <CAPTION> EXHIBIT NUMBER DESCRIPTION ------ ----------- <S> <C> 10 Material contracts. 12 Statement regarding computation of ratios. 27 Financial data schedule. </TABLE>