Hanmi Financial - 10-Q quarterly report FY

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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

(Mark One)

(X)   Quarterly report pursuant to section 13 or 15 (d) of the Securities Exchange Act of 1934

(   )   Transition report pursuant to Section 13 or 15 (d) of the Securities Exchange Act of 1934

Hanmi Financial Corporation

(213) 382-2200

Not Applicable

     Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(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   (   )

     Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b.2 of the Exchange Act.).

Yes   (x)      No   (   )

As of October 31, 2003, there were 14,124,989 outstanding shares of the issuer’s Common Stock.

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FORM 10-Q

INDEX

HANMI FINANCIAL CORPORATION

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HANMI FINANCIAL CORPORATION
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION

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See accompanying notes to consolidated financial statements.

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HANMI FINANCIAL CORPORATION
CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME
FOR THE QUARTER AND NINE MONTHS ENDED SEPTEMBER 30, 2003 AND 2002

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HANMI FINANCIAL CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2003 AND 2002

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See accompanying notes to consolidated financial statements.

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Notes to Consolidated Financial Statements

Note 1. Hanmi Financial Corporation

     Hanmi Financial Corporation (“Hanmi Financial” or the “Company”) is a Delaware corporation incorporated on March 14, 2000 pursuant to a Plan of Reorganization and Agreement of Merger to be the holding company for Hanmi Bank (the “Hanmi Bank”). The Company became the holding company for Hanmi Bank in September 2000, and is subject to the Bank Holding Company Act of 1956, as amended.

     Hanmi Bank, the sole subsidiary of the Company, was incorporated under the laws of the State of California on August 24, 1981, and was licensed by the California Department of Financial Institutions on December 15, 1982. Hanmi Bank’s deposit accounts are insured under the Federal Deposit Insurance Act up to applicable limits thereof, and the Bank is a member of the Federal Reserve System. Hanmi Bank’s headquarters office is located at 3660 Wilshire Boulevard, Penthouse Suite “A”, Los Angeles, California 90010.

     Hanmi Bank is a community bank conducting general business banking with its primary market encompassing the multi-ethnic population of the Los Angeles, Orange, San Diego and Santa Clara counties. Hanmi Bank’s full-service offices are located in business areas where many of the businesses are run by immigrants and other minority groups. Hanmi Bank’s client base reflects the multi-ethnic composition of these communities. Hanmi Bank currently has fourteen full-service branch offices located in Los Angeles, Orange, San Diego and Santa Clara counties. Of the fourteen offices, Hanmi Bank opened eleven as de novo branches and acquired the other three through acquisition.

Note 2. Basis of Presentation

     In the opinion of management, the consolidated financial statements of Hanmi Financial Corporation and its subsidiary reflect all the material adjustments necessary for a fair presentation of the results for the interim period ended September 30, 2003, but are not necessarily indicative of the results which will be reported for the entire year. In the opinion of management, the aforementioned consolidated financial statements are in conformity with accounting principles generally accepted in the United States of America.

     Certain reclassifications were made to the prior period presentation to conform to the current period’s presentation.

Note 3. Employee Stock based Compensation

     The Company measures its employee stock-based compensation arrangements under the provisions of Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to Employees” (“APB 25”). Accordingly, no compensation expense has been recognized for the stock option plan, as stock options were granted at fair value at the date of grant. Had compensation expense for the Company’s stock option plan been determined based on the fair value estimated using the Black-Scholes model at the grant date for previous awards, the Company’s net income and income per share would have been reduced to the pro forma amounts indicated for the periods as follows:

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Note 4. Earnings Per Share

     Earnings per share is calculated on both a basic and diluted basis. Basic earnings per share excludes dilution and is computed by dividing 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 or resulted from the issuance of common stock that then shared in earnings, excluding common shares in treasury.

The following table presents a reconciliation of the components used to derive basic and diluted earnings per share for the periods indicated.

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Note 5. Derivative Financial instruments

     The Company has entered into interest rate swaps to hedge the interest rate risk associated with the cash flows of specifically identified variable-rate loans. As of September 30, 2003, the Company had four interest rate swap agreements with a total notional amount of $60 million, wherein the Company receives a fixed rate of 5.77% and 6.37% at quarterly intervals, for each $20 million notional amount, respectively. The Company receives a fixed rate of 6.51% and 6.76% at quarterly intervals, for each $10 million notional amount, which was entered into during the third quarter, respectively as well. The Company pays a floating rate at quarterly intervals based on the Wall Street Journal published Prime Rate.

     As of September 30, 2003, the fair value of the interest rate swaps was in a favorable position of $959,000. A total of $623,000, net of tax, is included in other comprehensive income. The fair value of the interest rate swap is included in other assets in the accompanying consolidated statements of financial condition. No significant ineffectiveness was recognized for the three or nine months ended September 30, 2003.

Note 6. Current Accounting Matters

     In May, 2003, Statement of Financial Accounting Standards No. 150,Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity (“SFAS 150”) was issued. SFAS No. 150 establishes standards for how an issuer classifies and measures certain financial instruments with characteristics of both liabilities and equity that have been presented either entirely as equity or between the liabilities section and the equity section of the statement of financial position. SFAS 150 clarifies that the Company’s Capital Securities be classified as a liability, whereas previously they were classified between the liabilities and equity sections. SFAS 150 is effective for financial instruments entered into or modified after May 31, 2003, and otherwise is effective at the beginning of the first interim period beginning after June 15, 2003. To date, the financial impact of SFAS 150 has not had a material effect on the Company.

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     In April 2003, The Financial Accounting Standards No. 149, Amendment of Statement 133 on Derivative Instruments and Hedging Activities (“SFAS 149”) was issued. SFAS No. 149 clarifies and amends financial accounting and reporting for derivative instruments, including certain derivative instruments embedded in other contracts and for hedging activities under Statement of Financial Accounting Standards No. 133, “Accounting for Derivative Instruments and Hedging Activities” (“SFAS 133”). In general, SFAS 149 is effective for contracts entered into or modified after June 30, 2003 and for hedging relationships designated after September 30, 2003. The financial impact of SFAS 149 did not have a material effect on the Company.

     In January 2003, the FASB issued Interpretation No. 46, Consolidation of Variable Interest Entities, and an interpretation of ARB No. 51 (“FIN 46”).This Interpretation provides guidance to improve financial reporting for Special Purpose Entities, Off-Balance Sheet Structures and Similar Entities. FIN 46 requires a variable interest entity to be consolidated by a company if that company is subject to a majority of the risk of loss from the variable interest entity’s activities or is entitled to receive a majority of the entity’s residual returns or both. Prior to FIN 46, a company included another entity in its consolidated financial statements only if it controlled the entity through voting interests. FIN 46 also requires disclosures about variable interest entities that the company is not required to consolidate but in which it has a significant variable interest. The consolidated requirements of FIN 46 apply immediately to variable interest entities created after January 31, 2003. FASB deferred the effective date for applying the provision of FIN 46 for interest held by public entities in variable interest entities or potential variable interest created before February 1, 2003 until the end of the first interim or annual period after December 15, 2003. Certain disclosure requirements apply in all financial statements issued after January 31, 2003, regardless of when the variable interest entity was established. The Company does not believe it has any variable interest entities that require consolidation or deconsolidation as a result of applying the provisions of FIN 46.

     In December 2002, the FASB issued SFAS No. 148, Accounting for Stock-Based Compensation – Transition and Disclosure, an amendment of FASB Statement No. 123. This Statement amends FASB Statement No. 123, Accounting for Stock-Based Compensation, to provide alternative methods of transition for a voluntary change to the fair value method of accounting for stock-based employee compensation. SFAS 148 also amends the disclosure provisions of SFAS 123 to require prominent disclosure about the effects on reported net income of the Company’s accounting policy decisions with respect to stock-based employee compensation. Finally, SFAS 148 amends APB Opinion No. 28, “Interim Financial Reporting,” to require disclosure about those effects in interim financial information. It is anticipated that the financial impact of the SFAS 148 would not have a material impact on the Company.

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Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

     The following is management’s discussion and analysis of the major factors that influenced the Company’s results of operations and financial condition for the nine months ended September 30, 2003. This analysis should be read in conjunction with the Company’s Annual Report included in Form 10-K for the year ended December 31, 2002 and with the unaudited financial statements and notes as set forth in this report.

Critical Accounting Policies

     We have established various accounting policies which govern the application of accounting principles generally accepted in the United States of America in the preparation of our financial statements. Our significant accounting policies are described in the Company’s Annual Report on Form 10-K for the year ended December 31, 2002. Certain accounting policies require us to make significant estimates and assumptions which have a material impact on the carrying value of certain assets and liabilities, and we consider these to be critical accounting policies. The estimates and assumptions we use are based on historical experience and other factors, which we believe to be reasonable under the circumstances. Actual results could differ significantly from these estimates and assumptions which could have a material impact on the carrying value of assets and liabilities at the balance sheet dates and our results of operations for the reporting periods. Management has discussed the development and selection of these critical accounting policies with the Audit Committee of our Board of Directors.

     We believe the allowance for loan losses is the critical accounting policy that requires the most significant estimates and assumptions, which are particularly susceptible to significant change in the preparation of our financial statements.

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Selected Financial Data

     The following table sets forth-certain selected financial data concerning the Company for the periods indicated:

Forward-Looking Information

     Certain matters discussed under this caption may constitute forward-looking statements under Section 27A of the Securities Act and Section 21E of the Securities Exchange Act of 1934. These forward looking statements relate to, among other things, expectations of the environment in which the Company operates and projection of future performance. There can be no assurance that the results described or implied in such forward-looking statements will, in fact, be achieved and actual results, performance, and achievements could differ materially because the business of the Company involves inherent risks and uncertainties. Risks and uncertainties include possible future deteriorating economic conditions in the Company’s areas of operation; interest rate risk associated with volatile interest rates and related asset-liability matching risk; liquidity risks; risk of significant non-earning assets, and net credit losses that could occur, particularly in times of weak economic conditions or times of rising interest rates; risks of available-for-sale securities declining significantly in value as interest rates rise; and regulatory risks

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associated with the variety of current and future regulations to which the Company is subject. For additional information concerning these factors, see the Company’s filings with the Securities and Exchange Commission, and in particular, the Company’s Form 10-K under the heading “Factors That May Affect Future Results of Operation.”, “Interest Rate Risk Management”, and “Liquidity and Capital Resources”.

Dividends

     On September 18, 2003, the Company declared a quarterly common stock cash dividend of $0.10 per share for the third quarter of 2003. The dividend was paid on October 15, 2003 to shareholders of record on October 1, 2003. The future dividend payout is subject to the Company’s future earnings and legal requirements and the discretion of the Board of Directors.

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Results of Operations

     The Company’s net income for the nine months ended September 30, 2003 was $14.1 million or $0.99 per diluted share compared to $12.2 million or $0.87 per diluted share for the nine months ended September 30, 2002. The 15.5% increase in net income for 2003 as compared to 2002 was mainly due to the decrease in impairment charge on investments of $4.4 million. An increase in net interest income after provision for loan losses of $3.4 million was substantially offset by an increase in salaries and employee benefits expenses of $2.4 million. The annualized return on average assets was 1.19% for the nine months ended September 30, 2003 compared to a return on average assets of 1.28% for the same period of 2002, a decrease of 9 basis points. The annualized return on average equity was 14.50% for the nine months ended September 30, 2003, compared to a return on average equity of 14.82% for the same period in 2002, a decrease of 32 basis points.

Net Interest Income

     The principal component of the Company’s earnings is net interest income, which is the difference between the interest and fees earned on loans and investments and the interest paid on deposits and other borrowed funds. When net interest income is expressed as a percentage of average interest-earning assets, the result is the net interest margin. The net interest spread is the yield on average interest-earning assets less the average cost of interest-bearing deposits and borrowed funds.

     For the nine months ended September 30, 2003, the Company’s net interest income before provision for loan losses was $40.5 million. This represented an increase of $4.6 million or 12.9% over net interest income before provision for loan losses of $35.8 million for the nine months ended September 30, 2002. The interest rate spread decreased to 3.01% for the nine months ended September 30, 2003, from 3.32% for the same period in 2002. The change was mainly due to a decrease in interest rates received on loans and investments. The net interest margin also decreased to 3.64% for the nine months ended September 30, 2003, from 4.07% for the same period in 2002 due to an increase in the volume of interest earning assets with lower interest rates.

     Total interest income increased $4.5 million or 8.7% to $56.1 million for the nine months ended September 30, 2003 from $51.6 million for the nine months ended September 30, 2002. The increase was mainly the result of an increase in volume of interest earning assets. The interest-earning assets increased by $307.4 million or 26.2% to $1,481.8 million compared to $1,174.3 million a year ago.

     The Company’s interest expense on deposits and other borrowed funds for the nine months ended September 30, 2003 decreased by $146,000 or 0.9% to $15.7 million from $15.8 million for the nine months ended September 30, 2002. The decrease reflected a decrease in interest cost paid to depositors which offsets the increase in the volume of interest-bearing deposits and borrowings. Average interest-bearing liabilities were $1.0 billion for the nine months ended September 30, 2003, which represented an increase of $194.6 million or 23.4% from average interest-bearing liabilities of $831.7 million for the nine months ended September 30, 2002.

     The cost of average interest-bearing liabilities decreased to 2.04% for the nine months ended September 30, 2003, compared to a cost of 2.54% for the same period of 2002. Overall interest on deposits decreased mainly due to repricing of interest rates on long-term certificates of deposit to the lower interest rates as the deposits matured.

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     The table below represents the average yield on each category of interest-earning assets, average rate paid on each category of interest-bearing liabilities, and the resulting interest rate spread and net yield on interest-earning assets for periods indicated. All average balances are daily average balances.

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     The table below shows changes in interest income and interest expense and the amounts attributable to variations in interest rates and volumes for the periods indicated. The variances attributable to simultaneous volume and rate changes have been allocated to the change due to volume and the change due to rate categories in proportion to the relationship of the absolute dollar amount attributable solely to the change in volume and to the change in rate.

Provision for loan losses

     For the quarter ended September 30, 2003, the Company recorded a provision for loan losses of $1.7 million to support rapid loan growth and an increase in nonperforming loans. This represented an increase of $650,000 or 61.9% from $1.1 million compared to the same period in 2002. For the nine months ended September 30, 2003, the Company made an additional provision of $4.4 million, which represented an increase of $1.2 million or 39.0% from $3.2 million compared to the same period in 2002. The Company’s management believes that the allowance for loan losses is sufficient for the inherent losses at September 30, 2003. (See Allowance and provision for loan losses)

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Non-interest Income

     Non-interest income includes revenues earned from sources other than interest income. It is mainly comprised of service charges and fees on deposit accounts, fees charged on trade finance, and gain on sale of loans and investment securities. Non-interest income decreased $669,000 or 13.1% to $ 4.5 million for the quarter ended September 30, 2003 from $5.1 million for the same period in 2002 due to the decrease of gain on sale of loans and securities. Excluding these, non-interest income increased by $430,000 or 11.6% for the quarter ended September 30, 2003.

     For the nine months ended September 30, 2003, non-interest income decreased by $652,000 or 4.3% to $14.6 million due to the change in fair value of interest rate swaps of $1.4 million recognized in 2002. If this item is excluded, non-interest income for the nine months ended September 30, 2003 increased by $716,000 or 5.2% compared to $13.9 million for the nine months ended September 30, 2002.

     Service charges on deposit accounts increased $311,000 or 13.1% during the quarter ended September 30, 2003 to $2.7 million compared to $2.4 million during the same period in 2002. The increase was mainly due to expansion of the branch network, opening of branches in Torrance in December 2002 and Santa Clara in January 2003, and overall deposit increase.

     For nine months ended September 30, 2003, service charges on deposit accounts increased $853,000 or 12.5 % to $7.7 million compared to $6.8 million during the same period in 2002 due to expansion of the branch network and deposit growth.

     Gain on sale of loans decreased $276,000 or 47.3% for the quarter ended September 30, 2003 to $307,000, compared to $583,000 during the same period in 2002. The decrease was mainly due to a decrease in sales of SBA loans of $222,000 and a decrease in sales of Mortgage loans of $54,000.

     The company sells the guaranteed portion of the SBA loans in the secondary markets, while the Company retains servicing rights. For the nine months ended September 30, 2003, the Company recognized gain of $1.1 million from such sales, which was a decrease of $128,000 or 10.4% compared to the same period in 2002.

     Gain on sales of mortgage loans, however, increased $291,000 or 121% to $532,000 compared to $241,000 for the nine months in 2002. For the nine months ended September 30, 2003, the gain on sale of loans increased by $163,000 or 11.1% to $1.6 million from $1.5 million for the same period in 2002.

     There was no gain on sale of securities recognized during the third quarter of 2003, compared to $823,000 in the same period in 2002. During the second quarter of 2003, the Company sold a part of a Worldcom (“Worldcom”) corporate bond, which had defaulted in January 2002. The Company sold the bond at a gain of $380,000. For the nine months ended September 30, 2003, gain on sale of securities decreased by $893,000 or 51.0% compared to the same period in 2002 due to a decrease in volume of securities sold.

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     The breakdown of non-interest income by category is reflected below:

Non-interest Expenses

     Non-interest expenses for the third quarter of 2003 increased by $715,000 or 8.0% to $9.7 million from $9.0 million for the same period in 2002. This increase was mainly due to an increase of salaries and employee benefits and occupancy expense of $1 million, which was offset by a decrease of impairment charges on investment securities of $456,000 recognized during the same period in 2002. Excluding the impairment charge, non-interest expense increased $1.2 million or 13.8% from $8.5 million for the quarter ended September 30, 2002.

     For the nine months ended September 30, 2003, non-interest expense decreased $170,000 or 0.6% to $28.9 million from $29.1 million for the same period in 2002. The decrease was mainly due to the impairment charge of $4.4 million made on the Worldcom bond in 2002. If this

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expense was excluded, non-interest expense actually increased by $4.2 million or 17.2% from $24.7 million for the same period in 2002. The increase was mainly due to increase in salaries and employee benefits, occupancy and equipment, and data processing as the Company is expanding the network.

     Salaries and employee benefits for the third quarter of 2003 increased by $688,000 or 15.1% to $5.3 million from $4.6 million for the same period in 2002 due to an addition of two new branches in Torrance and Santa Clara and annual salary adjustments. Among this increase, severance payments of $290,000 were included as a result of the reorganization accomplished in the third quarter of 2003.

     For the nine months ended September 30, 2003, salaries and employee benefits increased by $2.4 million or 18.3% to $15.5 million from $13.1 million for the same period in 2002 due to annual salary increase and salary expense incurred in connection with the early departure of former Chief Executive Officer and retirement of Chief Financial Officer.

     The occupancy and equipment expenses for the third quarter of 2003 increased by $313,000 or 29.2% to $1.4 million from $1.1 million for the same period in 2002. For the nine months ended September 30, 2003, occupancy and equipment increased by $650,000 or 20.3% to $3.9 million from $3.2 million for the same period in 2002. This increase is also a result of the Company’s recent expansion of new branches as well as annual adjustment of existing leases for other branch premises.

     Data processing fees for the third quarter of 2003 increased by $72,000 or 10.25% to $775,000 from $703,000 during the same period in 2002. For the nine months ended September 30, 2003, data processing fees increased $243,000 or 11.8% to $2.3 million from $2.1 million for the same period in 2002. Additional expense was incurred mainly due to increase in the volume of transaction accounts resulting from Company’s recent expansion of new branches.

     Other operating expenses for the quarter ended September 30, 2003 increased by $117,000 or 11.1% to $1.2 million from $1.1 million compared to the same period in 2002. Among other expenses, correspondent Company charges, corporate administration expense, and credit card related expenses increased over the same period in 2002.

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     The breakdown of non-interest expense by category is reflected below:

Provision for Income Taxes

     For the nine months ended September 30, 2003, the Company recognized a provision for income taxes of $7.6 million on net income before tax of $21.8 million, representing an effective tax rate of 35%. The lower tax rate compared to prior to 2002 was mainly due to an income tax benefit generated from a Real Estate Investment Trust, a special purpose subsidiary of the Company, which provides flexibility to raise additional capital in a tax efficient manner.

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Financial Condition

Summary of Changes in Balance Sheets September 30, 2003 compared to December 31, 2002

     The Company has been able to offset the margin compression with strong asset growth. At September 30, 2003, the Company’s total assets increased by $278.4 million or 19.1% to $1,735 million from $1,456 million at December 31, 2002. The increase was mainly due to an increase in investment securities available-for-sales and loans. Investment securities available for sale increased $172.9 million or 63.6% to $444.9 million from $272.0 million at December 31, 2002. Loans, net of unearned loan fees, allowance for loan losses and loans held for sale, totaled $1,154.6 million at September 30, 2003, which represents an increase of $193.0 million or 20.1% from $961.6 million at December 31, 2002. The increase in assets was mainly funded by deposits, which increased by $217.9 million or 17.0% to $1,501.9 million at September 30, 2003 from $1,284.0 million at December 31, 2002.

Investment Security Portfolio

     The Company classified its securities as held-to-maturity or available-for-sale in accordance with Statement of Financial Accounting Standards (SFAS) No. 115. Those securities that the Company has the ability and intent to hold to maturity are classified as “held-to-maturity securities”. All other securities are classified as “available-for-sale”. The Company owned no trading securities at September 30, 2003. Securities classified as held-to-maturity are stated at cost, adjusted for amortization of premiums and accretion of discounts, and available-for-sale securities are stated at fair value. The securities currently held by the Company are U.S. agencies, municipal bonds, mortgage-backed securities, collateralized mortgage obligations and asset-backed securities and others.

     As of September 30, 2003, held-to-maturity securities totaled $1.4 million and available-for-sale securities totaled $444.9 million, compared to $7.5 million and $272.0 million at December 31, 2002, respectively.