PART IIII
General
Hope Bancorp, Inc. (“Hope Bancorp” on a parent-only basis, and the “Company,” “we” or “our” on a consolidated basis with the Bank of Hope sinceHope) is a bank holding company headquartered in Los Angeles, California. The Company was incorporated in Delaware in the merger of equals between BBCN Bancorp, Inc. and Wilshire Bancorp, Inc. and their respective subsidiaries BBCN Bank and Wilshire Bank effective July 29, 2016.year 2000. Previously he served on the board of directors of the former Wilshire Bancorp and Wilshire Bank from 2004 to 2007 and was re-appointed to the board in July 2009. Mr. Byun established Jay Dee, Inc., an apparel manufacturer, in 1993 and served as President and Chief Executive Officer until his retirement in 2013. He was also Founder, President and Chief Executive Officer of OTO Sportswear from 1988 to 2010. From 2000 to 2004, Mr. Byun served as a director of Los Angeles-based Pacific Union Bank, which was acquired by Hanmi Bank in April 2004. He earned his B.A. in Economics from the College of Economics and Business Administration at Yonsei University in Seoul, Korea.
Hope Bancorp exists primarily for the purpose of holding the stock of the boardBank and other subsidiaries it may acquire or establish. Bank of directors of Hope Bancorp since May 2012Hope’s deposits are insured by the Federal Deposit Insurance Corporation (the “FDIC”), up to applicable limits.
We file reports with the Securities and servedExchange Commission (the “SEC”), which include annual reports on Form 10-K, quarterly reports on Form 10-Q and current reports on Form 8-K, as Chairmanwell as proxy and information statements in connection with our stockholders’ meetings. The SEC maintains a website that contains the reports, proxy and information statements and other information regarding issuers that file electronically with the SEC. The address of the boardwebsite is www.sec.gov. Our website address is www.bankofhope.com. Electronic copies of directorsour annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, and other information and reports we file with the SEC and amendments to those reports, are available free of BBCNcharge by visiting the Investor Relations section of our website. These reports are generally posted as soon as reasonably practicable after they are electronically filed with the SEC. None of the information on or hyperlinked from the Company’s website is incorporated into this Annual Report on Form 10-K.
Mergers and Acquisitions
On July 29, 2016, we completed the acquisition of Wilshire, previously headquartered in Los Angeles, California. With the completion of the acquisition, 35 branches in California, New York, New Jersey, Texas, Alabama, and Georgia were added to our existing branch network in addition to six loan production offices. Some of these branch locations and loan production offices were subsequently closed as part of our consolidation plan. Our current consolidated network consists of 63 branches and 11 loan production offices.
The Wilshire acquisition was accounted for in accordance with Accounting Standard Codification (“ASC”) 805 “Business Combinations,” and the assets and liabilities of Wilshire were recorded at fair value at the date of acquisition. The fair value of assets acquired from Wilshire totaled approximately $4.63 billion and goodwill recorded from acquisitions consummated in 2016 totaled $359.0 million.
Business Overview
Our principal business activities are conducted through the Bank and primarily consist of earning interest on loans and investment securities that are primarily funded by customer deposits and other borrowings. Operating revenues consist of the difference between interest received and interest paid, gains and losses on the sale of financial assets, and fees earned for financial services provided to our customers. Interest rates are highly sensitive to many factors that are beyond our control, such as general economic conditions, new legislation and the policies of various governmental and regulatory authorities. Although our business may vary with local and national economic conditions, such variations are not generally seasonal in nature.
Through our current network of 63 branches and 11 loan production offices, we offer core business banking products for small and medium-sized businesses and individuals. We accept deposits and originate a variety of loans, including commercial business loans, commercial real estate loans, trade finance loans, Small Business Administration (“SBA”) loans, auto loans, single-family mortgages, warehouse lines of credit, personal loans, and credit cards. We offer cash management services to our business customers, which include remote deposit capture, lock box, and ACH origination services. We offer comprehensive investment and wealth management services to high-net-worth clients. We also offer a mobile banking application for smart devices that extends access to banking services, such as mobile deposits and bill payment, for our customers at all times. In an effort to better meet our customers’ needs, our mini-market branches generally offer hours from December 20119 a.m. to 6 p.m. Most of our branches offer 24-hour automated teller machines (“ATMs”). We also offer debit card services to all customers. In addition, most of our branches offer foreign exchanges services, safe deposit boxes, and other customary bank services. Our website at www.bankofhope.com offers internet banking services and applications in both English and Korean.
Lending Activities
Commercial Business Loans
We provide commercial loans to businesses for various purposes such as for working capital, purchasing inventory, debt refinancing, business acquisitions, and other business related financing needs. Commercial loans are typically classified as (1) short-term loans (or lines of credit) or (2) long-term loans (or term loans to businesses). Short-term loans are often used to finance current assets such as inventory and accounts receivable and typically have terms of one year with interest paid monthly on the outstanding balance with the principal balance due at maturity. Long-term loans typically have terms of five to seven years with principal and interest paid monthly. The credit worthiness of our borrowers is determined before a loan is originated and is periodically reviewed to ascertain whether credit quality changes have occurred. Commercial business loans are typically collateralized by the borrower’s business assets and/or real estate. We seek to establish deposit relationships with all of our commercial business loan customers.
Our commercial business loan portfolio includes trade finance loans from our Corporate Banking Center, which generally serves businesses involved in international trade activities. These loans are typically collateralized by business assets and are used to meet the short-term working capital needs (accounts receivable and inventory financing) of our borrowers. Our International Operations Department issues and advises on letters of credit for export and import businesses. The underwriting procedure for this type of credit is the same as for commercial business loans. We offer the following types of letters of credit to customers:
Commercial: An undertaking by the issuing bank to pay for a commercial transaction.
Standby: An undertaking by the issuing bank to pay for the non-performance of the applicant customer.
Revocable: Letter of credit that can be modified or cancelled by the issuing bank at any time with notice to the beneficiary (does not provide the beneficiary with a firm promise of payment).
Irrevocable: Letter of credit that cannot be altered or cancelled without mutual consent of all parties.
Sight: Letter of credit requiring payment upon presentation of conforming shipping documents.
Usance: Letter of credit that allows the buyer to delay payment up to a designated number of days after presentation of shipping documents.
Import: Letter of credit issued to assist customers in purchasing goods from overseas.
Export: Letter of credit issued to assist customers in selling goods overseas.
Transferable: Letter of credit that allows the beneficiary to transfer its drawing (payment) rights, in part or full, to another.
Non-transferable: Letter of credit that does not allow the beneficiary to transfer their right, in part or full, to another.
Our trade finance services include the issuance and negotiation of letters of credit, as well as the handling of documentary collections. On the export side, we provide advice and negotiation of commercial letters of credit and we transfer and issue back-to-back letters of credit. We also provide importers with trade finance lines of credit, which allow for the issuance of commercial letters of credit and the financing of documents received under such letters of credit, as well as documents received under documentary collections. Exporters are assisted through June 2014. Formerlyexport lines of credit as well as through immediate financing of clean documents presented under export letters of credit.
We provide commercial equipment lease financing through a directorrelationship with a third-party leasing company. Equipment leasing loans are generally capital leases with maturities up to five years.
We also provide warehouse lines of Center Financial Corporation and Centercredit to mortgage loan originators. The lines of credit are used by these originators to fund mortgages which are then pledged to the Bank from 2008as collateral until the mergermortgage loans are sold and the lines of equals with Nara Bancorp, Inc. and Nara Bank completed on November 30, 2011, Mr. Kim wascredit are paid down. The typical duration of these lines of credit from the lead negotiatortime of funding to pay-down ranges from Center resulting10-30 days. Although collateralized by mortgage loans, the structure of warehouse lending agreements results in the creationcommercial and industrial loan treatment for these types of BBCN.loans.
Commercial Real Estate Loans
Real estate loans are extended for the purchase and refinance of commercial real estate and are generally secured by first deeds of trust. The maturities on the majority of such loans are generally five to seven years with a 25-year principal amortization schedule and a balloon payment due at maturity. We offer both fixed and floating rate commercial real estate loans. It is our general policy to restrict commercial real estate loan amounts to 75% of the appraised value of the property at the date of origination.
We originate loans to finance construction projects including one-to-four family residences, multifamily residences, senior housing, and commercial projects. Residential construction loans are due upon the sale of the completed project and are generally collateralized by first liens on the real estate and have floating interest rates. Construction loans are considered to have higher risks than other loans due to the ultimate repayment being sensitive to interest rate changes, governmental regulation of real property, and the availability of long-term financing. Economic conditions may also impact our ability to recover our investment in construction loans. Adverse economic conditions may negatively impact the real estate market, which could affect the borrowers’ ability to complete and sell the project. Additionally, the fair value of the underlying collateral may fluctuate as market conditions change. As construction loans make up only a small percentage of the total loan portfolio, these loans are not further broken down into classes.
Small Business Administration Loans
We extend loans partially guaranteed by the SBA. We primarily extend SBA loans known as SBA 7(a) loans and SBA 504 loans. SBA 7(a) loans are typically extended for working capital needs, purchase of inventory, purchase of machinery and equipment, debt refinance, business acquisitions, start-up financing, or to purchase or construct owner-occupied commercial property. SBA 7(a) loans are typically term loans with maturities up to 10 years for loans not secured by real estate and up to 25 years for real estate secured loans. SBA loans are fully amortizing with monthly payments of principal and interest. SBA 7(a) loans are typically floating rate loans that are secured by business assets and/or real estate. Depending on the loan amount, each loan is typically guaranteed 75% to 85% by the SBA, with a maximum gross loan amount to any one small business borrower of $5.0 million and a maximum SBA guaranteed amount of $3.75 million.
We are generally able to sell the guaranteed portion of the SBA 7(a) loans in the secondary market at a premium, while earning servicing fee income on the sold portion over the remaining life of the loan. In addition to the interest yield earned on the unguaranteed portion of the SBA 7(a) loans that are not sold, we can recognize income from gains on sales and from loan servicing on the SBA 7(a) loans that are sold. Although we have historically sold the guaranteed portion of SBA 7(a) loans that we originated, we recently made the decision to retain these loans due to the decline in premiums offered in the secondary market. Therefore, for the time being, we will be retaining these loans and earn interest income on the guaranteed portion of SBA loans as well the unguaranteed portions.
SBA 504 loans are typically extended for the purpose of purchasing owner-occupied commercial real estate or long-term capital equipment. SBA 504 loans are typically extended for up to 20 years or the life of the asset being financed. SBA 504 loans are financed as a participation loan between the Bank and the SBA through a Certified Development Company (“CDC”). Generally, the loans are structured to give the Bank a 50% first deed of trust (“TD”), the CDC a 40% second TD, and the remaining 10% is funded by the borrower. Interest rates for first TD Bank loans are subject to normal bank commercial rates and terms, and the second TD CDC loans are fixed for the life of the loans based on certain indices.
All of our SBA loans are originated through our SBA Loan Departments. The SBA Loan Departments are staffed by loan officers who provide assistance to qualified businesses. The Bank has been designated as an SBA Preferred Lender, which is the highest designation awarded by the SBA. This designation generally facilitates a more efficient marketing and approval process for SBA loans. We have attained SBA Preferred Lender status nationwide.
Consumer Loans
Our consumer loans consist of single-family mortgages, home equity, auto loans, and personal loans, with a majority of our consumer loan portfolio currently consisting of single-family mortgages secured by a first deed of trust on single family residences under a variety of loan products including fixed-rate and adjustable-rate mortgages with either 30-year or 15-year terms. Adjustable rate mortgage loans are also offered with flexible initial and periodic adjustments ranging from five to seven years.
Investing Activities
The main objective of our investment strategy is to provide a source of on-balance sheet liquidity while providing a means to manage our interest rate risk, and to generate an adequate level of interest income without taking undue risks. Subject to various restrictions, our investment policy permits investment in various types of securities, certificates of deposit (“CDs”), and federal funds sold. Our investment portfolio has consisted of government sponsored agency bonds, mortgage-backed securities, collateralized mortgage obligations (“CMOs”), corporate securities, municipal securities, and mutual funds. For a detailed breakdown of our investment portfolio, see Item 7 “Management’s Discussion and Analysis of Financial Condition and Results of Operations – Financial Condition – Investment Security Portfolio.”
Our securities are classified for accounting purposes as available for sale. We do not maintain held to maturity or trading investment portfolios. Securities purchased to meet investment-related objectives, such as liquidity management or interest rate risk and which may be sold as necessary to implement management strategies, are designated as available for sale at the time of purchase.
Deposit Activities
We attract both short-term and long-term deposits from the general public by offering a wide range of deposit products and services. Through our branch network, we provide our banking customers with personal and business checking accounts, money market accounts, savings accounts, time deposit accounts, individual retirement accounts, 24-hour ATMs, internet banking and bill-pay, remote deposit capture, lock boxes, and ACH origination services. In addition to our retail and business deposits, we obtain both secured and unsecured wholesale deposits including public deposits such as State of California Treasurer’s time deposits, brokered money market and time deposits, and deposits gathered from outside of the Bank’s normal market area through deposit listing services.
FDIC-insured deposits are our primary source of funds. As part of our asset-liability management, we analyze our retail and wholesale deposit maturities and interest rates to monitor and manage our cost of funds, to the extent feasible in the context of changing market conditions, as well as to promote stability in our supply of funds. For additional information on deposits, see Item 7 “Management’s Discussion and Analysis of Financial Condition and Results of Operations – Financial Condition – Deposits.”
Borrowing Activities
When we have more funds than required for our reserve requirements or short-term liquidity needs, we may sell federal funds to other financial institutions. Conversely, when we have less funds than required, we may borrow funds from the Federal Home Loan Bank of San Francisco (the “FHLB”), the Federal Reserve Bank of San Francisco (“the Federal Reserve Bank”), or our correspondent banking relationships. In addition, we may borrow from the FHLB on a longer term basis to provide funding for certain loan or investment securities strategies, as well as asset-liability management strategies.
The FHLB functions in a reserve credit capacity for qualifying financial institutions. As a member, we are required to own capital stock in the FHLB and may apply for advances from the FHLB on an unsecured basis or by utilizing qualifying loans and certain securities as collateral. The FHLB offers a full range of borrowing programs on its advances, with terms ranging from one day to thirty years, at competitive market rates. A prepayment penalty is usually imposed for early repayment of these advances. Information concerning FHLB advances and other borrowings is included in Note 9 of “Notes to Consolidated Financial Statements.”
We may also borrow from the Federal Reserve Bank. The maximum amount that we may borrow from the Federal Reserve Bank’s discount window is up to 95% of the outstanding principal balance of the qualifying loans and the fair value of the securities that we pledge.
Long-Term Debt
At December 31, 2018, nine wholly-owned subsidiary grantor trusts (“Trusts”) had issued $126.0 million of pooled trust preferred securities (“Trust Preferred Securities”). The Trust Preferred Securities accrue and pay distributions periodically at specified annual rates as provided in the related indentures for the securities. The Trusts used the net proceeds from the offering of the Trust Preferred Securities to purchase a like amount of subordinated debentures (the “Debentures”) issued by us. The Debentures are the sole assets of the trusts. Our obligations under the Debentures and related documents, taken together, constitute a full and unconditional guarantee by us of the obligations of the trusts. The Trust Preferred Securities are mandatorily redeemable upon the maturity of the Debentures (which have maturity dates ranging from 2033 to 2037), or upon earlier redemption as provided in the indentures. We have the right to redeem the Debentures in whole (but not in part) on a quarterly basis at a specified redemption price. We also have the right to defer interest on the Debentures for up to five years.
In 2018, we issued $217.5 million aggregate principal amount of 2.00% convertible senior notes maturing on May 15, 2038 in a private offering to investors. Holders of the convertible notes can convert to shares of our common stock at a specified conversion rate at any time on or after February 15, 2023. Prior to joining BBCN asFebruary 15, 2023, the Presidentconvertible notes cannot be converted unless under certain specified scenarios. The convertible notes can be settled in entirely cash, stock, or a combination of stock and Chief Executive Officer, Mr. Kim practiced law for 18 years, focusingcash at our option. We have the right to call the convertible notes on corporateor after May 20, 2023 and business transactions, business acquisitions, tax planning, and real estate transactions. Mr. Kim began his professional career as a Certified Public Accountant working for approximately 10 years at twoholder of the largest public accounting firms. Mr. Kim servesnotes can put the note on certain dates on or after May 15, 2023. The convertible notes were issued as part of our plan to repurchase shares of our common stock. Subsequent to the boardsissuance of directorsthe convertible notes, we repurchased $150.0 million in common stock during 2018.
Market Area and Competition
We currently have 63 banking offices in areas having high concentrations of Korean-Americans, of which 35 are located in the Los Angeles, Area Chamber of CommerceOrange County, Oakland and United Way of Greater Los Angeles. He received a B.A. with a major in English and a minor in International Trade from Hankuk University of Foreign Studies in Seoul, Korea, an M.B.A. from the Anderson School of Management, the UniversitySilicon Valley (Santa Clara County) areas of California, Los Angeles, and a J.D. from Loyola Law School in California. Mr. Kim is a graduate of the ABA Stonier Graduate School of Banking, University of Pennsylvania, and earned his Wharton Leadership Certificate from The Wharton School Aresty Institute of Executive Education.
We compete for loans, deposits, and customers with other commercial banks, savings and loan associations, securities and brokerage companies, mortgage companies, insurance companies, marketplace finance platforms, money market funds, credit unions, and other non-bank financial service providers. Many of these competitors are much larger in total assets and capitalization, have greater access to capital markets, are more widely recognized, have broader geographic scope, and offer a broader range of financial services than we do.
Economic Conditions, Government Policies and Legislation
Our profitability, like that of most financial institutions, depends, among other things, on interest rate differentials. In general, the difference between the interest expense on interest bearing liabilities, such as director ofdeposits, borrowings, and debt, and the Overseas Korean Trade Associationinterest income on our interest earning assets, such as loans we extend to our customers and securities held in our investment portfolio, as well as Directorthe level of noninterest bearing deposits, have a significant impact on our profitability. Interest rates are highly sensitive to many factors that are beyond our control, such as the economy, inflation, unemployment, consumer spending, and political changes and events. The impact that future changes in domestic and foreign economic and political conditions might have on our performance cannot be predicted.
Our business is also influenced by the monetary and fiscal policies of the Korean Chamberfederal government and the policies of Commerce in Los Angeles. He also has served in the past as Vice Chairman of the Korean Chamber of Commerce in Los Angeles, President of the South Bay Lions Club, Chairman of the Korean American Inter-Cultural Foundation, and Director of the Korean Federation of Los Angeles. He received a B.S. degree in Industrial Engineering from Hanyang University in Seoul, Korea as well as a Masters in Industrial Engineering at the University of Southern California.
General
The following summarizes certain laws and Bank, formerly known as BBCNregulations that apply to Hope Bancorp and BBCN the Bank. These descriptions of statutes and regulations and their possible effects do not purport to be complete descriptions of all of the provisions of those statutes and regulations and their possible effects on us, nor do they purport to identify every statute and regulation that may apply to us.
Bank since 2007Holding Company Regulation
Hope Bancorp is a registered bank holding company. As a bank holding company, is subject to regulation, supervision and was integrally involvedregular examination by the FRB under the Bank Holding Company Act. Hope Bancorp is also required to file periodic reports of its operations with the twoFRB and other such reports as the FRB may require.
Bank holding companies are required to maintain certain levels of capital (See “Capital Adequacy Requirements”) and must serve as a source of financial and managerial strength to subsidiary banks and commit resources as necessary to support each subsidiary bank. FRB regulations and polices limit the dividends a bank holding company may pay to its shareholders and the amount of its shares that it may repurchase. (See “Dividends and Stock Repurchases”.) FRB rules and policies also regulate provisions of certain bank holding company debt and the FRB may impose interest ceilings and reserve requirements on such debt and require prior approval to purchase or redeem debt securities in certain situations.
The FRB may require a bank holding company to terminate an activity or terminate control of or liquidate or divest certain subsidiaries, affiliates or investments if the FRB believes the activity or the control of the subsidiary or affiliate constitutes a significant risk to the financial safety, soundness or stability of any bank subsidiary. Under certain circumstances, the FRB could, for example, prohibit Hope Bancorp from paying dividends or repurchasing is common stock on the basis that doing would be an unsafe or unsound banking practice.
The activities in which a bank holding company may engage are limited to those activities determined by the FRB to be so closely related to banking or managing or controlling banks as to be a proper incident thereto. Bank holding companies that elect and retain “financial holding company” status pursuant to the Gramm-Leach-Bliley Act of 1999 (the “GLBA”) may also engage in broader securities, insurance, merchant banking and other activities that are determined to be “financial in nature” or are incidental or complementary to activities that are financial in nature. To elect and retain financial holding company status, a bank holding company and all depository institution subsidiaries of a bank holding company must be considered well capitalized and meet certain other requirements. Hope Bancorp has not elected financial holding company status and neither Hope Bancorp nor the Bank has engaged in any activities determined by the FRB to be financial in nature or incidental or complementary to activities that are financial in nature.
A bank holding company must seek approval from the FRB prior to acquiring all or substantially all of the assets of any bank or bank holding company or the ownership or control of voting shares of any bank or bank holding company if, after giving effect to such acquisition, it would own or control, directly or indirectly, more than 5 percent of a bank. Under the Bank Merger Act, the prior approval of the FDIC is required for the Bank to merge with another bank or purchase all or substantially all of the assets or assume any of the deposits of another FDIC-insured depository institution. Federal banking regulators review competitive, management, financial, compliance and other factors when considering applications for these approvals. Similar California or other state banking agency approvals may also be required.
The Company is also a bank holding company within the meaning of Section 3700 of the California Financial Code. Therefore, the Bank and any of its subsidiaries are subject to examination by, and may be required to file reports with, the DBO. DBO approvals are also required for certain mergers and acquisitions
Bank Regulation
The Bank is a California state-chartered bank whose deposit accounts are insured by the FDIC, up to applicable limits. As such, the Bank is subject to regulation, supervision and regular examination by the California Department of equals creatingBusiness Oversight (the “DBO”) and the FDIC. In addition, while the Bank is not a member of Hope. He previously servedthe FRB, the Bank is subject to certain regulations of the FRB.
Federal and state laws and regulations applicable to banks regulate, among other things, the scope of their business, their investments, their reserves against deposits, lending activities, servicing and foreclosing on loans, borrowings, capital requirements, certain check-clearing activities, dividends, branching, and mergers and acquisitions. California banks are also subject to statutes and regulations including FRB Regulation O and Federal Reserve Act Sections 23A and 23B and Regulation W, which restrict or limit loans or extensions of credit to “insiders”, including officers, directors, and principal shareholders, and loans or extension of credit by banks to affiliates or purchases of assets from affiliates, including parent bank holding companies, except pursuant to certain exceptions and only on terms and conditions at least as favorable to those prevailing for comparable transactions with unaffiliated parties. The Dodd-Frank Act expanded definitions and restrictions on transactions with affiliates and insiders under Sections 23A and 23B and also lending limits for derivative transactions, repurchase agreements and securities lending and borrowing transactions.
Under the Federal Deposit Insurance Act (“FDI Act”) and the California Financial Code, California state chartered commercial banks may generally engage in any activity permissible for national banks. Therefore, the Bank may form subsidiaries to engage in the capacitiesmany so-called “closely related to banking” or “nonbanking” activities commonly conducted by national banks in operating subsidiaries or by subsidiaries of Lead Independent Director from July 2016bank holding companies. Further, California state chartered banks may conduct certain financial activities permitted under GLBA in a “financial subsidiary” to July 2017the same extent as a national bank, provided the bank is and from March 2013remains well-capitalized, well-managed and in satisfactory compliance with the Community Reinvestment Act (the “CRA”). The Bank currently conducts no non-banking or financial activities through subsidiaries.
Capital Adequacy Requirements
Hope Bancorp and the Bank are subject to June 2014,similar regulatory capital requirements administered by their primary federal supervisory banking agencies. Pursuant to the Dodd-Frank Wall Street Reform and Consumer Protection Act (the “Dodd-Frank Act”), the federal banking agencies have adopted capital rules (the “New Capital Rules”) based on the Basel III Accord. The New Capital Rules became effective on January 1, 2015, subject to certain phase-in provisions. The New Capital Rules are risk-based, meaning that the levels of capital required vary based on the perceived degree of risk associated with a banking organization’s balance sheet assets, such as loans and investment securities, and those recorded as off-balance sheet items, such as commitments, letters of credit, and recourse arrangements. Bank holding companies and banks engaged in significant trading activity may also served as Vice Chairmanbe subject to the market risk capital guidelines and be required to incorporate additional market and interest rate risk components into their risk-based capital standards. The classifications and, therefore, the required capital amounts are also subject to qualitative judgments by regulators about components, risk-weighting, and other factors.
The New Capital Rules (i) introduce a new capital measure called “common equity Tier 1 and a related regulatory capital ratio of common equity Tier 1 to risk‑weighted assets, (ii) specify that Tier 1 capital consists of common equity Tier 1 and “additional Tier 1 capital” instruments meeting certain requirements, (iii) mandate that most deductions and adjustments to regulatory capital measures be made to common equity Tier 1 and not to the other components of capital, and (iv) expand the scope of the Companydeductions from May 2012 through June 2014. Since joiningand adjustments to capital compared to prior capital rules. The New Capital Rules also changed the board, Mr. Whang has beenrisk-weights of certain assets used to calculate the risk-based capital ratios, such as those for high volatility commercial real estate acquisition, development and construction loans, certain past due non-residential mortgage loans and certain mortgage-backed and other securities exposure. The New Capital Rules also change the permitted composition of Tier 1 capital to exclude trust preferred securities (subject to certain grandfathering exceptions for organizations like Hope Bancorp, which had less than $15 billion in assets as of December 31, 2009), mortgage servicing rights and certain deferred tax assets and to include unrealized gains and losses on available for sale debt and equity securities (unless the organization opts out of including such unrealized gains and losses).
Under the New Capital Rules, the minimum capital ratios applicable to Hope Bancorp and the Bank are as follows:
4.5% common equity Tier 1 to risk‑weighted assets;
6.0% Tier 1 capital (that is, common equity Tier 1 plus additional Tier 1 capital) to risk‑weighted assets;
8.0% total capital (that is, Tier 1 capital plus Tier 2 capital) to risk‑weighted assets; and
4.0% Tier 1 capital to average consolidated assets as reported on regulatory financial statements (known as the “leverage ratio”). (To be considered well-capitalized under the Prompt Corrective Action framework, the Bank must maintain a strong advocate committed to enhancing board leadership and governance. Mr. Whang isminimum Tier 1 leverage ratio of at least 5%.)
At December 31, 2018, the founder and Chairman of Orange Circle Studios, which provides premier lines of gift product and calendar publishing services. He is a goal-oriented entrepreneur who has started three successful companies over the past 20 years, including Codra Enterprises in 1985 and Avalanche Publishing, Inc. in 1990. Previously, Mr. Whang held various management positions with Daewoo Corporation, where he began his career in the early 1970s until he resigned from the position as President of the western division of Daewoo International (USA) in 1985. In 2006, Mr. Whang was chosen as entrepreneur of the year by the Korean American Chamber of Commerce in recognition of his success in the mainstream publishing industry and as an exemplary minority entrepreneur. Mr. Whang graduated from the College of Business Administration at Seoul National University with a B.A. in International Economy.
The New Capital Rule create an additional “capital conservation buffer” of 2.5% of risk-weighted assets above the regulatory minimum capital ratios. If Hope formerly known as BBCN Bancorp and BBCNthe Bank effective March 20, 2014. Mr. Zuehls hasdo not maintain capital sufficient to satisfy the capital conservation buffer, they would face restrictions in their ability to pay dividends, repurchase shares and pay discretionary bonuses. The capital conservation buffer was phased in in increments of 0.625% beginning in 2015 through January 1, 2019.
Including the capital conservation buffer of 2.5%, which was fully phased in as of January 1, 2019, the minimum ratios for a banking organization to be considered “well capitalized” for bank regulatory purposes are as follows: (i) a common equity Tier 1 capital ratio of 7.0%, (ii) a Tier 1 capital ratio of 8.5% and (iii) a total capital ratio of 10.5%. Management believes that, as of December 31, 2018, Hope Bancorp and the Bank met all requirements under the New Capital Rules applicable to them on a fully phased-in basis as if such requirements were then in effect, including the capital conservation buffer.
While the New Capital Rules set higher regulatory capital standards for Hope Bancorp and the Bank, bank regulators may also continue their past policies of expecting banks to maintain additional capital beyond the new minimum requirements. The implementation of the New Capital Rules or more stringent requirements to maintain higher levels of capital or to maintain higher levels of liquid assets could adversely impact the Company’s net income and return on equity, restrict the ability to pay dividends or executive bonuses and require the raising of additional capital.
The Bank is also subject to capital adequacy requirements under the California Financial Code.
See “Management’s Discussion and Analysis of Financial Condition and Results of Operations.”
Increased Supervision and Regulation for Bank Holding Companies with Consolidated Assets of More than $10 Billion
As a banking organization with consolidated assets exceeding $10 billion, the Company is subject to heightened supervision and regulation imposed by the Dodd-Frank Act, such as the following:
We are subject to periodic examination by the Consumer Finance Protection Bureau (“CFPB”) with respect to compliance with federal consumer laws. Although we were previously subject to regulations issued by the CFPB, the Bank’s primary federal regulatory, the FDIC, previously had responsibility for our consumer compliance exams. See “Consumer Finance Protection Bureau.”
We are subject to the maximum permissible interchange fee for swipe transactions, equal to no more than 40 years21 cents plus 5 basis points of experiencethe transaction value for many types of debit interchange transactions.
We calculate our FDIC deposit assessment base using a performance score and a loss-severity score system described below in areas“Deposit Insurance.”
We are subject to the “Volcker Rule,” which generally restricts us from engaging in activities that are considered proprietary trading and from sponsoring or investing in certain entities, including hedge or private equity funds that are considered covered funds. While Hope Bancorp and the Bank had no investment positions or relationships at December 31, 2018 that were subject to the Volcker Rule, we may be subject to the compliance and recording keeping provisions of complex auditing, accounting, fraudthis rule.
The Dodd-Frank Act requires banking organizations with consolidated assets exceeding $10 billion to establish board-level risk committees and forensic accounting, complex tax issues,to perform annual stress tests. The Economic Growth, Regulatory Relief, and Consumer Protection Act enacted in 2018 raises the asset thresholds for these requirements to $50 billion and $100 billion, respectively.
Many aspects of the Dodd-Frank Act continue to be subject to rule-making and have yet to take full effect, making it difficult to anticipate the overall financial impact on the Company, its customers or the financial industry generally. Provisions in the legislation that affect deposit insurance assessments, payment of interest on demand deposits and interchange fees could increase the costs associated with deposits as well as place limitations on certain revenues those deposits may generate.
Prompt Corrective Action
The FDI Act requires the federal bank regulatory agencies to take “prompt corrective action” with respect to a depository institution that does not meet certain capital adequacy standards, including requiring the prompt submission of an acceptable capital restoration plan. Depending on the bank’s capital ratios, the agencies’ regulations define five categories in which an insured depository institution will be placed: well-capitalized, adequately capitalized, undercapitalized, significantly undercapitalized, and critically undercapitalized. At each successive lower capital category, an insured bank is subject to more restrictions, including restrictions on the bank’s activities, operational practices or the ability to pay dividends or executive bonuses.
The prompt corrective action standards were revised to conform with the New Capital Rules. Under current standards, in order to be generally considered well-capitalized for bank regulatory purposes, the Bank is required maintain the following minimum capital ratios: a common equity Tier 1 ratio of 6.5%, a Tier 1 ratio of 8%, a total capital ratio of 10% and a leverage ratio of 5%. A bank meeting the minimum capital ratios required to be considered well-capitalized, adequately capitalized, or undercapitalized may, however, may be treated as though it were in the next lower capital category if the appropriate federal banking agency, after notice and opportunity for hearing, determines that an unsafe or unsound condition or practice warrants such treatment.
The federal banking agencies also may require banks and bank holding companies subject to enforcement actions to maintain capital ratios in excess of the minimum ratios otherwise generally required to be deemed well capitalized for bank regulatory purposes, in which case institutions may no longer be deemed to be well capitalized and may therefore be subject to certain restrictions such as on taking brokered deposits.
Consumer Compliance Laws
The Bank must comply with numerous federal and state consumer protection statutes and implementing regulations, including, but not limited to, the Fair Debt Collection Practices Act, the Fair Credit Reporting Act, the Equal Credit Opportunity Act, the Truth in Lending Act, the Fair Housing Act, the Home Mortgage Disclosure Act, the Real Estate Settlement Procedures Act, the National Flood Insurance Act, the California Homeowner Bill of Rights and various federal and state privacy protection laws, including the Telephone Consumer Protection Act, and CAN-SPAM Act. The Bank and Hope Bancorp are also subject to federal and state laws prohibiting unfair or fraudulent business practices, untrue or misleading advertising and unfair competition.
These laws and regulations mandate certain disclosure and reporting requirements and regulate the manner in which financial institutions must deal with customers when taking deposits, making loans, servicing, collecting and foreclosure of loans, and providing other services. Failure to comply with these laws and regulations can subject the Bank to various penalties, including but not limited to enforcement actions, injunctions, fines or criminal penalties, punitive damages to consumers, and the loss of certain contractual rights.
Community Reinvestment Act
The Bank is subject to the Community Reinvestment Act (“CRA”), which requires federal banking regulators to evaluate the record of a financial institution in meeting the credit needs of its local communities, including low and moderate income neighborhoods. The federal banking agencies consider a financial institution’s compliance with the CRA into account when considering regulatory applications for mergers and other expansionary activities. The Bank received a “Satisfactory” rating in the most recent public disclosure of CRA performance measurementevaluation released by the FDIC in 2018, which states that the Bank’s CRA performance under the Lending, Investment, and Service Tests supports the overall rating.
USA PATRIOT Act and Anti-Money Laundering Laws
Under the USA PATRIOT Act of 2001, financial institutions are subject to prohibitions against specified financial transactions and account relationships, as well as enhanced due diligence standards that are intended to prevent and detect the use of the United States financial system for money laundering and terrorist financing activities. The act requires financial institutions, including banks, to establish anti-money laundering programs, including employee training and independent audit requirements, meet minimum standards specified by the act, follow minimum standards for customer identification and maintenance of customer identification records, and regularly compare customer lists against lists of suspected terrorists, terrorist organizations and money launderers.
The Bank Secrecy Act (the “BSA”) establishes requirements for recordkeeping and reporting by banks and other financial institutions that are intended to help identify the source, volume and movement of currency and other monetary instruments into and out of the United States in order to help detect and prevent money laundering connected with drug trafficking, terrorism and other criminal activities. Under the BSA and related consulting matters. In additionregulations, banking institutions must file suspicious activity reports and maintain programs designed to being a Certified Public Accountant, Mr. Zuehls has a Ph.D. in accounting, holds aassure and monitor compliance with certain recordkeeping and reporting requirements regarding currency transactions. The programs must include systems and internal controls to assure ongoing compliance, provide for independent testing of such systems and compliance and provide appropriate personnel training.
Loans to One Borrower
Under California law, degreethe Bank’s ability to make aggregate secured and unsecured loans to borrower is a Certified Fraud Examiner. Previously, Mr. Zuehls held various leadership positions at KPMGlimited to 25% and Arthur Andersen & Co.15%, tworespectively, of the largest international public accounting firmsBank’s unimpaired capital and surplus. The Bank has established internal loan limits that are lower than the legal lending limits for a California bank.
Deposit Insurance
The FDIC is an independent federal agency that insures deposits, up to prescribed statutory limits, of federally insured banks and savings institutions, and safeguards the safety and soundness of the depository institutions. The FDIC insures our customer deposits through the DIF up to prescribed limits. The FDIC may terminate a depository institution’s deposit insurance upon a finding that the institution’s financial condition is unsafe or unsound, or that the institution has engaged in unsafe or unsound practices that pose a risk to the DIF or that may prejudice the interest of the bank’s depositors. The termination of the Bank’s deposit insurance would result in the world. A recognized expert in complex accounting matters, Mr. Zuehls has taught in Ph.D.revocation of the Bank’s charter by the DBO.
We are generally unable to control the amount of assessments that we pay for FDIC insurance, which can be affected by the cost of bank failures to the FDIC, among other factors. The Dodd-Frank Act revised the FDIC’s DIF management authority by setting requirements for the Designated Reserve Ratio (the DIF balance divided by estimated insured deposits) and Masters’ programs at several Southern California universitiesredefining the assessment base which is used to calculate banks’ quarterly assessments. The amount of FDIC assessments paid by each DIF member institution is based on its asset size and has held numerous seminars on various accountingits relative risk of default as measured by regulatory capital ratios and tax issues. He servesother supervisory factors.
In 2016, the FDIC adopted a rule increasing the DIF’s minimum reserve ratio to 1.35% as required by the Dodd Frank Act. As required by the Dodd-Frank Act, the costs of increasing the DIF’s reserve ratio from 1.15% to 1.35% was borne by depository institutions with total consolidated assets of $10 billion or more, which had an impact on the Audit CommitteeBank’s deposit insurance assessments because the Bank exceeded $10 billion in assets. In 2018, the FDIC reached the minimum reserve ratio of 1.35% and as a result the FDIC does not currently assesses a surcharge on banks with total assets in excess of $10 billion. Any future changes in FDIC insurance assessments may have a material and adverse effect on our earnings and could have a material adverse effect on the value of, or market for, our common stock.
Safety and Soundness Standards; Regulatory Enforcement Authority
The federal and California bank regulatory agencies have extensive discretion in connection with their supervisory and enforcement activities and examination policies, including policies with respect to the classification of assets and the establishment of appropriate loan loss reserves for regulatory purposes. The federal bank regulatory agencies have adopted guidelines to assist in identifying and addressing potential safety and soundness concerns before an institution’s capital becomes impaired. The guidelines establish operational and managerial standards generally relating to: (1) internal controls, information systems, and internal audit systems; (2) loan documentation; (3) credit underwriting; (4) interest-rate exposure; (5) asset growth and asset quality; and (6) compensation, fees, and benefits. Further, the regulatory agencies have adopted safety and soundness guidelines for asset quality and for evaluating and monitoring earnings to ensure that earnings are sufficient for the maintenance of adequate capital and reserves.
If, as a result of an examination, the FRB, the FDIC or the DBO should determine that the financial condition, capital resources, asset quality, earnings prospects, management, liquidity, or other aspects of the largest research foundation at California State University, Los Angeles. Mr. Zuehls earned a B.S. in Accounting at California State University, Los Angeles, an M.A. and Ph.D. from Stafford University in England, and a J.D. from Southwestern University School of Law in Los Angeles.
Require affirmative action to determinecorrect any conditions resulting from any violation or practice;
Direct an increase in capital and the desired compositionmaintenance of higher specific minimum capital ratios, which could preclude the board, to assistHope Bancorp or the board in identifying qualified individuals to become board members, consistent with criteria approved by the board of directors, and to recommend to the board the director nominees for the annual meetings of stockholders. The Nomination and Governance Committee will utilize the same standards for evaluating director candidates recommended by stockholders as it does for candidates proposed by the board of directors or members thereof.
Restrict Hope Bancorp’s or the Bank’s growth geographically, by products and services, or by mergers and acquisitions;
Enter into or issue informal or formal enforcement actions, including required board resolutions, memoranda of the stockholders, not less than 100 days, nor more than 120 days,understanding, written agreements and consent or cease and desist orders or prompt corrective action orders to take corrective action and cease unsafe and unsound practices;
Assess civil money penalties;
Require prior to the anniversaryapproval of the immediately preceding annual meeting of the stockholders; provided, however, that in the event that the date of the annual meeting of stockholders is more than 30 days before or after such anniversary date, notice by the stockholder to be timely must be so received not later than the close of business on the tenth day following the earlier of the date on which notice or public announcement of the date of the annual meeting of stockholders was first given or made by the Company, and (ii) in the case of a special meeting of the stockholders called for the purpose of electing directors, not later than the close of business on the tenth day following the earlier of the date on which notice or public announcement of the date of the special meeting was first given or made by the Company.
Terminate FDIC insurance, revoke the charter and/or take possession of and close and liquidate the Bank or appoint the FDIC as receiver.
Dividends and Stock Repurchases
Hope Bancorp’s ability to pay dividends or repurchase shares of its common stock is subject to restrictions set forth in the Delaware General Corporation Law. The Delaware General Corporation Law provides that a Delaware corporation may pay dividends or repurchase its shares either (i) out of the Company’s common stock, are required to file reportscorporation’s surplus (as defined by Delaware law), or (ii) if there is no surplus, out of ownership and changes in ownership with the SEC. The SEC requires executive officers, directors and greater than 10% beneficial owners to furnish to us copies of all Section 16(a) forms they file. Based solely on our review of these reports and of certifications furnished to us, we believe that duringcorporation’s net profits for the fiscal year ended December 31, 2017,in which the dividend is declared and/or the preceding fiscal year. It is the FRB’s policy, however, that bank holding companies should generally pay dividends on common stock only out of income available over the past year, and only if prospective earnings retention is consistent with the organization’s expected future needs and financial condition. FRB policy requires that a banking holding company must notify the FRB its repurchase or redemption of shares would cause a net reduction of in the amount of such capital instrument outstanding at the beginning of the quarter in which the redemption or repurchase occurs. It is also the FRB’s policy that bank holding companies should not maintain dividend levels or repurchase shares in amounts that would that undermine their ability to be a source of strength to its banking subsidiaries. The FRB also discourages dividend payment ratios that are at maximum allowable levels unless both asset quality and capital are very strong. In addition, if Hope Bancorp does not maintain an adequate capital conservation buffer under the New Capital Rules, its ability to pay dividends to or repurchase shares from shareholders may be restricted.
The Bank is a legal entity that is separate and distinct from Hope Bancorp. Hope Bancorp depends the Bank’s payment of dividends as primary source of cash for use in Hope Bancorp’s operations, Hope Bancorp’s payment of dividends to shareholders and Hope Bancorp’s stock repurchases. The Bank’s ability to pay dividends to Hope Bancorp is subject to provisions of the California Financial Code that limit the amount available for cash dividends to the lesser of a bank’s retained earnings or net income for its last three fiscal years (less any distributions to shareholders made during such period). Where the above test is not met, cash dividends may still be paid, with the prior approval of the DBO, in an amount not exceeding the greatest of (1) retained earnings of the bank; (2) the net income of the bank for its last fiscal year; or (3) the net income of the bank for its current fiscal year. The Bank’s ability to pay cash dividends to Hope Bancorp will also depend upon management’s assessment of future capital requirements, contractual restrictions, and other factors. If the Bank does not maintain an adequate capital conservation buffer under the New Capital Rules, the Bank may face restrictions on its ability to pay dividends to Hope Bancorp.
Consumer Financial Protection Bureau
The Dodd-Frank Act created the CFPB as an independent entity within the FRB with broad rulemaking, supervisory and enforcement authority over consumer financial products and services, including deposit products, residential mortgages, home-equity loans and credit cards. The bureau’s functions include investigating consumer complaints, conducting market research, rulemaking, supervising and examining bank consumer transactions, and enforcing rules related to consumer financial products and services. CFPB regulations and guidance apply to all executive officers, directorsfinancial institutions and greaterbanks with $10 billion or more in assets are subject to examination by the CFPB. Banks with less than 10% beneficial owners complied with all applicable Section 16(a) filing requirements.$10 billion in assets continue to be examined for compliance by their primary federal banking agency. The Bank is subject to examination by the CFPB. The CFPB has the authority to bring formal and informal enforcement actions against the Bank similar to those that may be brought by the federal banking regulators discussed above.
Employees
As of December 31, 2018, we had 1,494 full-time equivalent employees compared to review the qualifications1,470 full-time equivalent employees at December 31, 2017. None of candidates to the board of directors. This assessment includes the consideration of the following factors, among others:
our employees are represented by a union or covered by a collective bargaining agreement. Management believes that its relations with its employees are good.
In the course of conducting its business operations, we are exposed to a variety of risks, some of which are inherent in the financial services industry and others of which are more specific to its own business. The following discussion addresses the most significant risks that could affect our business, financial condition, liquidity, results of operations, and capital position. The risks and uncertainties described below are not the only ones we face. Additional risks and uncertainties not presently known to us or that we currently deem immaterial may also affect our business. If any of these known or unknown risks or uncertainties actually occurs, our business, financial condition and results of operations may be materially and adversely effected. In that event, the market price for our common stock will likely decline.
Economic conditions in the markets in which we operate may adversely affect our loan portfolio and reduce the demand for our services. We focus our business primarily in Korean-American communities in California, the greater New York City, Chicago, Houston and Dallas, and Seattle metropolitan areas, New Jersey, Virginia, Alabama, and Georgia. Adverse economic conditions in our market areas could potentially have a material adverse impact on the quality of our business. A renewed economic slowdown in the markets in which we operate currently and in the future may have any or all of the following consequences, any of which may reduce our net income and adversely affect our financial condition:
loan delinquencies may increase;
problem assets and foreclosures may increase;
the level and duration of deposits may decline;
demand for our products and services may decline; and
collateral for loans may decline in value below the principal amount owed by the borrower.
We have a high level of loans secured by real estate collateral. A downturn in the real estate market may seriously impair our loan portfolio. As of December 31, 2018, approximately 80% of our loan portfolio consisted of loans secured by various types of real estate (including 1-4 family residential loans in our consumer loan portfolio). Following the financial crisis of 2008, there was a general slowdown in the economy and declines in the value of real estate. Although the economy has rebounded and real estate prices have gradually recovered from their earlier low levels, it is possible that there will be renewed deterioration in the real estate market generally and in commercial real estate values in particular. Such developments may result in additional loan charge-offs and provisions for loan losses, which may have a material and adverse effect on our net income and capital levels.
Our commercial loan and commercial real estate loan portfolios expose us to risks that may be greater than the risks related to our other loans. Our loan portfolio includes commercial loans and commercial real estate loans, which are secured by hotels and motels, shopping/retail centers, service station and car wash, industrial and warehouse properties, and other types of commercial properties. Commercial and commercial real estate loans carry more risk as compared to other types of lending, because they typically involve larger loan balances often concentrated with a single borrower or groups of related borrowers.
Accordingly, charge-offs on commercial and commercial real estate loans may be larger on a per loan basis than those incurred with our residential or consumer loan portfolios. In addition, these loans expose a lender to greater credit risk than loans secured by residential real estate. The payment experience on commercial real estate loans that are secured by income producing properties are typically dependent on the successful operation of the related real estate project and thus, may subject us to adverse conditions in the real estate market or to the general economy. The collateral securing these loans typically cannot be liquidated as easily as residential real estate. If we foreclose on these loans, our holding period for the collateral typically is longer than residential properties because there are fewer potential purchasers of the collateral.
Unexpected deterioration in the credit quality of our commercial or commercial real estate loan portfolios would require us to increase our provision for loan losses, which would reduce our profitability and could materially adversely affect our business, financial condition, results of operations and prospects.
In addition, with respect to commercial real estate loans, federal and state banking regulators are examining commercial real estate lending activity with heightened scrutiny and may require banks with higher levels of commercial real estate loans to implement more stringent underwriting, internal controls, risk management policies and portfolio stress testing, as well as possibly higher levels of allowances for losses and capital levels as a result of commercial real estate lending growth and exposures. Because a significant portion of our loan portfolio is comprised of commercial real estate loans, the banking regulators may require us to maintain higher levels of capital than we would otherwise be expected to maintain, which could limit our ability to leverage our capital and have a material adverse effect on our business, financial condition, results of operations and prospects.
Our allowance for loan losses may not cover our actual loan losses. If our actual loan losses exceed the amount we have allocated for estimated probable incurred losses, our business will be adversely affected. We attempt to limit the risk that borrowers will fail to repay loans by carefully underwriting our loans, but losses nevertheless occur in the ordinary course of business operations. We create allowances for estimated loan losses through provisions that are recorded as reductions in income in our accounting records. We base these allowances on estimates of the following:
historical experience with our loans;
evaluation of current economic conditions and other factors;
reviews of the quality, mix and size of the overall loan portfolio;
reviews of delinquencies; and
the quality of the collateral underlying our loans.
If our allowance estimates are inadequate, we may incur losses, our financial condition may be materially and adversely affected and we may be required to try and raise additional capital to enhance our capital position. In addition, various regulatory agencies, as an integral part of their examination process, periodically review the adequacy of our allowance. These agencies may require us to establish additional allowances based on their judgment of the information available at the time of their examinations. No assurance can be given that we will not sustain loan losses in excess of present or future levels of the allowance for loan losses or that regulatory agencies will not require us to increase our allowance thereby impacting our profitability.
Changes in interest rates affect our profitability. The interest rate risk inherent in our lending, investing, and deposit taking activities is a significant market risk to us and our business. We derive our income mainly from the difference or “spread” between the interest earned on loans, securities and other interest earning assets, and interest paid on deposits, borrowings and other interest bearing liabilities. In general, the wider the spread, the more net interest income we earn. When market rates of interest change, the interest we receive on our assets and the interest we pay on our liabilities will fluctuate. This can cause decreases in our spread and can greatly affect our income. In addition, interest rate fluctuations can affect how much money we may be able to lend. There can be no assurance that we will be successful in minimizing the potentially adverse effects of changes in interest rates.
If we lose key employees, our business may suffer. There is intense competition for experienced and highly qualified personnel in the Korean-American banking industry and the banking industry more broadly. Our future success depends on the continued employment of existing senior management personnel. If we lose key employees temporarily or permanently, it may hurt our business. We may be particularly hurt if our key employees, including any of our executive officers, became employed by our competitors in the Korean-American banking industry.
Environmental laws may force us to pay for environmental problems. The cost of cleaning up or paying damages and penalties associated with environmental problems may increase our operating expenses. When a borrower defaults on a loan secured by real property, we often purchase the property in foreclosure or accept a deed to the property surrendered by the borrower. We may also take over the management of commercial properties whose owners have defaulted on loans. We also lease premises where our branches and other facilities are located, all where environmental problems may exist. Although we have lending, foreclosure and facilities guidelines that are intended to exclude properties with an unreasonable risk of contamination, hazardous substances may exist on some of the properties that we own, lease, manage or occupy. We may face the risk that environmental laws may force us to clean up the properties at our expense. The cost of cleaning up a property may exceed the value of the property. We may also be liable for pollution generated by a borrower’s operations if we take a role in managing those operations after a default. We may find it difficult or impossible to sell contaminated properties.
We are exposed to the risks of natural disasters. A significant portion of our operations is concentrated in Southern California, which is an earthquake and fire prone region. A major earthquake or fire may result in material loss to us. A significant percentage of our loans are and will be secured by real estate. Many of our borrowers may suffer uninsured property damage, experience interruption of their businesses or lose their jobs after an earthquake or fire. Those borrowers might not be able to repay their loans, and the collateral for such loans may decline significantly in value. Unlike a bank with operations that are more geographically diversified, we are vulnerable to greater losses if an earthquake, fire, flood, mudslide or other natural catastrophe occurs in Southern California.
An increase in nonperforming assets would reduce our income and increase our expenses. If the level of nonperforming assets increases in the future, it may adversely affect our operating results and financial condition. Nonperforming assets are mainly loans on which the borrowers are not making their required payments. Nonperforming assets also include loans that have been restructured to permit the borrower to make payments and real estate that has been acquired through foreclosure or deed in lieu of foreclosure of unpaid loans. To the extent that assets are nonperforming, we have less earning assets generating interest income and an increase in credit related expenses, including provisions for loan losses.
We may experience adverse effects from acquisitions. We have acquired other banking companies and bank offices in the past, and will consider additional acquisitions as opportunities arise. If we do not adequately address the financial and operational risks associated with acquisitions of other companies, we may incur material unexpected costs and disruption of our business. Future acquisitions may increase the degree of such risks.
Risks involved in acquisitions of other companies include:
the risk of failure to adequately evaluate the asset quality of the acquired company;
difficulty in assimilating the operations, technology and personnel of the acquired company;
diversion of management’s attention from other important business activities;
difficulty in maintaining good relations with the loan and deposit customers of the acquired company;
inability to maintain uniform and effective operating standards, controls, procedures and policies;
potentially dilutive issuances of equity securities or the incurrence of debt and contingent liabilities; and
amortization of expenses related to acquired intangible assets that have finite lives.
Liquidity risks may impair our ability to fund operations and jeopardize our financial condition. Liquidity is essential to our business. An inability to raise funds through deposits, borrowings, the sale of loans, and other sources may have a material adverse effect on our liquidity. Our access to funding sources in amounts adequate to finance our activities may be impaired by factors that affect us specifically or the financial services industry in general. Factors that may detrimentally impact our access to liquidity sources include a decrease in the level of our business activity due to a market downturn or adverse regulatory action against us. Our ability to acquire deposits or borrow may also be impaired by factors that are not specific to us, such as a disruption of the financial markets or negative views and expectations about the prospects for the banking industry or the general financial services industry as a whole.
Increases in the level of our problem assets, occurrence of operating losses or a failure to comply with requirements of the agencies which regulate us may result in regulatory actions against us which may materially and adversely affect our business and the market price of our common stock. The DBO, the FDIC, and the FRB each have authority to take actions to require that we comply with applicable regulatory capital requirements, cease engaging in what they perceive to be unsafe or unsound practices or make other changes in our business. Among others, the corrective measures that such regulatory authorities may take include requiring us to enter into informal or formal agreements regarding our operations, the issuance of cease and desist orders to refrain from engaging in unsafe and unsound practices, removal of officers and directors and the assessment of civil monetary penalties. See “Item 1. Business – Supervision and Regulation” for a further description of such regulatory powers.
Changes in accounting standards may affect how we record and report our financial condition and results of operations. Our accounting policies and methods are fundamental to how we record and report our financial condition and results of operations. From time to time, the Financial Accounting Standards Board and SEC change the financial accounting and reporting standards that govern the preparation of our financial statements. These changes and their impacts on us can be hard to predict and may result in unexpected and materially adverse impacts on our reported financial condition and results of operations.
For example, in June 2016, the Financial Accounting Standards Board issued ASU 2016-13, Financial Instruments - Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments. ASU 2016-13 requires banking organizations to determine the adequacy of their allowance for loan losses with an expected loss model, which is referred to as the current expected credit loss (“CECL”) model. Under the CECL model, banking organizations will be required to present certain financial assets carried at amortized cost, such as loans held for investment and held-to-maturity debt securities, at the net amount expected to be collected. The measurement of expected credit losses is to be based on information about past events, including historical experience, current conditions, and reasonable and supportable forecasts that affect the collectability of the reported amount. This measurement will take place at the time the financial asset is first added to the balance sheet and periodically thereafter. This differs significantly from the “incurred loss” model required under current GAAP, which delays recognition until it is probable a loss has been incurred. Adoption of the CECL model will significantly change the manner in which the Company determines the adequacy of its allocation for loan losses. ASU 2016-13 is expected to be effective for public business entities for fiscal years after December 15, 2019. The Company is evaluating the impact the CECL model will have on its accounting, but the Company may recognize a one-time cumulative-effect adjustment to the allowance for loan losses as of the beginning of the first reporting period in which the new standard is effective. The Company cannot yet determine the magnitude of any such one-time cumulative adjustment or of the overall impact of the new standard on its financial condition or results of operations. The federal banking regulators have adopted a rule that gives a banking organization the option to phase in over a three-year period the day-one adverse effects of CECL on its regulatory capital.
We face a risk of noncompliance and enforcement action with the Bank Secrecy Act and other anti-money laundering statutes and regulations. The Bank Secrecy Act, the USA PATRIOT Act of 2001, and other laws and regulations require financial institutions, among other duties, to institute and maintain an effective anti-money laundering program and file suspicious activity and currency transaction reports as appropriate. The federal Financial Crimes Enforcement Network is authorized to impose significant civil money penalties for violations of those requirements and has recently engaged in coordinated enforcement efforts with the individual federal banking regulators, as well as the U.S. Department of Justice, Drug Enforcement Administration, and Internal Revenue Service. We are also subject to increased scrutiny of compliance with the rules enforced by the Office of Foreign Assets Control and compliance with the Foreign Corrupt Practices Act. If our policies, procedures and systems are deemed deficient, we would be subject to liability, including fines and regulatory actions, which may include restrictions on our ability to pay dividends and the necessity to obtain regulatory approvals to proceed with certain aspects of our business plan. Failure to maintain and implement adequate programs to combat money laundering and terrorist financing could also have serious reputational consequences for us. Any of these results could materially and adversely affect our business, financial condition and results of operations.
The occurrence of fraudulent activity, breaches or failures of our information security controls or cybersecurity-related incidents could have a material adverse effect on our business. As a financial institution, we are susceptible to fraudulent activity, information security breaches and cybersecurity-related incidents that may be committed against us or our clients, which may result in financial losses or increased costs to us or our clients, disclosure or misuse of our information or our client information, misappropriation of assets, privacy breaches against our clients, litigation, or damage to our reputation. Such fraudulent activity may take many forms, including check fraud, electronic fraud, wire fraud, phishing, social engineering, and other dishonest acts. Information security breaches and cybersecurity-related incidents may include fraudulent or unauthorized access to systems used by us or our clients, denial or degradation of service attacks, and malware, or other cyber-attacks. In recent periods, there continues to be a rise in electronic fraudulent activity, security breaches, and cyber-attacks within the financial services industry, especially in the commercial banking sector due to cyber criminals targeting commercial bank accounts. Consistent with industry trends, we have also experienced an increase in attempted electronic fraudulent activity, security breaches and cybersecurity-related incidents in recent periods. Moreover, in recent periods, several large corporations, including financial institutions and retail companies, have suffered major data breaches, in some cases exposing not only confidential and proprietary corporate information, but also sensitive financial and other personal information of their customers and employees and subjecting them to potential fraudulent activity. Some of our clients may have been affected by these breaches, which increase their risks of identity theft, credit card fraud and other fraudulent activity that could involve their accounts with us.
Information pertaining to us and our clients is maintained, and transactions are executed, on the networks and systems of us, our clients and certain of our third party partners, such as our online banking or reporting systems. The secure maintenance and transmission of confidential information, as well as execution of transactions over these systems, are essential to protect us and our clients against fraud and security breaches and to maintain our clients’ confidence. Breaches of information security also may occur, and in infrequent cases have occurred, through intentional or unintentional acts by those having access to our systems or our clients’ or counterparties’ confidential information, including employees. In addition, increases in criminal activity, levels and sophistication, advances in computer capabilities, new discoveries, vulnerabilities in third-party technologies (including browsers and operating systems) or other developments could result in a compromise or breach of the technology, processes and controls that we use to prevent fraudulent transactions and to protect data about us, our clients and underlying transactions, as well as the technology used by our clients to access our systems. Although we have developed, and continue to invest in, systems and processes that are designed to detect and prevent security breaches and cyber-attacks and periodically test our security, our inability to anticipate, or failure to adequately mitigate, breaches of security could result in: losses to us or our clients; our loss of business and/or clients; damage to our reputation; the incurrence of additional expenses; disruption to our business; our inability to grow our online services or other businesses; additional regulatory scrutiny or penalties; or our exposure to civil litigation and possible financial liability - any of which could have a material adverse effect on our business, financial condition and results of operations.
More generally, publicized information concerning security and cyber-related problems could inhibit the use or growth of electronic or web-based applications or solutions as a means of conducting commercial transactions. Such publicity may also cause damage to our reputation as a financial institution. As a result, our business, financial condition and results of operations could be adversely affected.
We are subject to operational risks relating to our technology and information systems. The continued efficacy of our technology and information systems, related operational infrastructure and relationships with third party vendors in our ongoing operations is integral to our performance. Failure of any of these resources, including but not limited to operational or systems failures, interruptions of client service operations and ineffectiveness of or interruption in third party data processing or other vendor support, may cause material disruptions in our business, impairment of customer relations and exposure to liability for our customers, as well as action by bank regulatory authorities.
Our business reputation is important and any damage to it may have a material adverse effect on our business. Our reputation is very important for our business, as we rely on our relationships with our current, former, and potential clients and stockholders in the communities we serve. Any damage to our reputation, whether arising from regulatory, supervisory or enforcement actions, matters affecting our financial reporting or compliance with SEC and exchange listing requirements, negative publicity, our conduct of our business or otherwise may have a material adverse effect on our business.
As we expand outside our California markets, we may encounter additional risks that may adversely affect us. Currently, the majority of our offices are located in California, but we also have offices in the New York City, Chicago, Houston, Dallas, and Seattle metropolitan areas, New Jersey, Virginia, Alabama, and Georgia. Over time, we may seek to establish offices to serve Korean-American communities in other parts of the United States as well. In the course of these expansion activities, we may encounter significant risks, including unfamiliarity with the characteristics and business dynamics of new markets, increased marketing and administrative expenses and operational difficulties arising from our efforts to attract business in new markets, manage operations in noncontiguous geographic markets, comply with local laws and regulations and effectively and consistently manage our non-California personnel and business. If we are unable to manage these risks, our operations may be materially and adversely affected.
Adverse conditions in South Korea or globally may adversely affect our business. A substantial number of our customers have economic and cultural ties to South Korea and, as a result, we are likely to feel the effects of adverse economic and political conditions there. If economic or political conditions in South Korea deteriorate, we may, among other things, be exposed to economic and transfer risk, and may experience an outflow of deposits by our customers with connections to South Korea. Transfer risk may result when an entity is unable to obtain the foreign exchange needed to meet its obligations or to provide liquidity. This may materially and adversely impact the recoverability of investments in or loans made to such entities. Adverse economic conditions in South Korea may also negatively impact asset values and the profitability and liquidity of our customers who operate in this region. In addition, a general overall decline in global economic conditions may materially and adversely affect our profitability and overall results of operations.
Our use of appraisals in deciding whether to make loans secured by real property does not ensure that the value of the real property collateral will be sufficient to repay our loans. In considering whether to make a loan secured by real property, we require an appraisal of the property. However, an appraisal is only an estimate of the value of the property at the time the appraisal is made and requires the exercise of a considerable degree of judgment. If the appraisal does not accurately reflect the amount that may be obtained upon sale or foreclosure of the property, whether due to a decline in property value after the date of the original appraisal or defective preparation of the appraisal, we may not realize an amount equal to the indebtedness secured by the property and as a result, we may suffer losses.
Governmental regulation and regulatory actions against us may further impair our operations or restrict our growth. We are subject to significant governmental supervision and regulation. These regulations affect our lending practices, capital structure, investment practices, dividend policy and growth, among other things. Congress and federal regulatory agencies continually review banking laws, regulations and policies for possible changes. Statutes and regulations affecting our business may be changed at any time and the interpretation of these statutes and regulations by examining authorities may also change. In addition, regulations may be adopted which increase our deposit insurance premiums and enact special assessments which could increase expenses associated with running our business and adversely affect our earnings.
There can be no assurance that such statutes and regulations, any changes thereto or to their interpretation will not adversely affect our business. In particular, these statutes and regulations, and any changes thereto, could subject us to additional costs (including legal and compliance costs), limit the types of financial services and products we may offer and/or increase the ability of non-banks to offer competing financial services and products, among other things. In addition to governmental supervision and regulation, we are subject to changes in other federal and state laws, including changes in tax laws, which could materially affect us and the banking industry generally. We are subject to the rules, regulations of, and examination by the FRB, the FDIC and the DBO, and the CFPB. In addition, we are subject to the rules and regulation of the Nasdaq Stock Market and the SEC and are subject to enforcement actions and other punitive actions by these agencies. If we fail to comply with federal and state regulations, the regulators may limit our activities or growth, impose fines on us or in the case of our bank regulators, ultimately require our bank to cease its operations. Bank regulations can hinder our ability to compete with financial services companies that are not regulated in the same manner or are less regulated. Federal and state bank regulatory agencies regulate many aspects of our operations. These areas include:
the capital that must be maintained;
the kinds of activities that can be engaged in;
the kinds and amounts of investments that can be made;
the locations of offices;
insurance of deposits and the premiums that we must pay for this insurance;
procedures and policies we must adopt;
conditions and restrictions on our executive compensation; and
how much cash we must set aside as reserves for deposits.
In addition, bank regulatory authorities have the authority to bring enforcement actions against banks and bank holding companies, including the Bank and Hope Bancorp, for unsafe or unsound practices in the conduct of their businesses or for violations of any law, rule or regulation, any condition imposed in writing by the appropriate bank regulatory agency or any written agreement with the authority. Enforcement actions against us could include a federal conservatorship or receivership for the bank, the issuance of additional orders that could be judicially enforced, the imposition of civil monetary penalties, the issuance of directives to enter into a strategic transaction, whether by merger or otherwise, with a third party, the termination of insurance of deposits, the issuance of removal and prohibition orders against institution-affiliated parties, and the enforcement of such actions through injunctions or restraining orders. In addition, as we have grown beyond $10 billion in assets, we are subject to enhanced CFPB examination as well as required to perform more comprehensive stress-testing on our business and operations.
SBA lending is an important part of our business. Our SBA lending program is dependent upon the federal government, and we face specific risks associated with originating SBA loans. Our SBA lending program is dependent upon the federal government. As an SBA Preferred Lender, we enable our clients to obtain SBA loans without being subject to the potentially lengthy SBA approval process necessary for lenders that are not SBA Preferred Lenders. The SBA periodically reviews the lending operations of participating lenders to assess, among other things, whether the lender exhibits prudent risk management. When weaknesses are identified, the SBA may request corrective actions or impose enforcement actions, including revocation of the lender’s Preferred Lender status. If we lose our status as a Preferred Lender, we may lose some or all of our customers to lenders who are SBA Preferred Lenders, and as a result we could experience a material adverse effect to our financial results. Any changes to the SBA program, including changes to the level of guarantee provided by the federal government on SBA loans, may also have a material adverse effect on our business.
We historically sold the guaranteed portion of our SBA 7(a) loans in the secondary market, but during the end of 2018, we made the decision to retain most of the SBA 7(a) loans that we originate due to the low premiums being offered in the secondary market. These sales of SBA 7(a) loans have historically resulted in both premium income for us at the time of sale, and created a stream of future servicing income. We may not be able to continue originating these loans or return to selling them in the secondary market. Furthermore, even if we are able to continue originating and return to selling SBA 7(a) loans in the secondary market, we might not continue to realize premiums upon the sale of the guaranteed portion of these loans. When we sell the guaranteed portion of our SBA 7(a) loans, we incur credit risk on the non-guaranteed portion of the loans, and if a customer defaults on the non-guaranteed portion of a loan, we share any loss and recovery related to the loan pro-rata with the SBA. If the SBA establishes that a loss on an SBA guaranteed loan is attributable to significant technical deficiencies in the manner in which the loan was originated, funded or serviced by us, the SBA may seek recovery of the principal loss related to the deficiency from us, which could materially adversely affect our business, financial condition, results of operations and prospects.
The laws, regulations and standard operating procedures that are applicable to SBA loan products may change in the future. We cannot predict the effects of these changes on our business and profitability. Because government regulation greatly affects the business and financial results of all commercial banks and bank holding companies and especially our organization, changes in the laws, regulations and procedures applicable to SBA loans could adversely affect our ability to operate profitably.
Our stock price may be volatile, which may result in substantial losses for our stockholders. The market price of our common stock may be subject to fluctuations in response to a number of factors, including:
issuing new equity securities;
the amount of our common stock outstanding and the trading volume of our stock;
actual or anticipated changes in our future financial performance;
changes in financial performance estimates by us or by securities analysts;
competitive developments, including announcements by us or our competitors of new products or services or acquisitions, strategic partnerships, joint ventures or capital commitments;
the operating and stock performance of our competitors;
changes in interest rates;
changes in key personnel;
changes in economic conditions that affect the Bank’s performance; and
changes in legislation or regulations that affect the Bank.
We may raise additional capital, which could have a dilutive effect on the existing holders of our common stock and adversely affect the market price of our common stock. We periodically evaluate opportunities to access capital markets, taking into account our financial condition, regulatory capital ratios, business strategies, anticipated asset growth and other relevant considerations. It is possible that future acquisitions, organic growth or changes in regulatory capital requirements could require us to increase the amount or change the composition of our current capital, including our common equity. For all of these reasons and others, and always subject to market conditions, we may issue additional shares of common stock or other capital securities in public or private transactions.
The issuance of additional common stock, debt, or securities convertible into or exchangeable for our common stock or that represent the right to receive common stock, or the exercise of such securities, could be substantially dilutive to holders of our common stock. Holders of our common stock have no preemptive or other rights that would entitle them to purchase their pro rata share of any offering of shares of any class or series and, therefore, such sales or offerings could result in dilution of the ownership interests of our stockholders.
We may reduce or discontinue the payment of dividends on common stock. Our stockholders are only entitled to receive such dividends as our Board may declare out of funds legally available for such payments. Although we have historically declared cash dividends on our common stock, we are not required to do so and may reduce or eliminate our common stock dividend in the future. Our ability to pay dividends to our stockholders is subject to the restrictions set forth in Delaware law, by the FRB, and by certain covenants contained in our subordinated debentures. Notification to the FRB is also required prior to our declaring and paying a cash dividend to our stockholders during any period in which our quarterly and/or cumulative twelve-month net earnings are insufficient to fund the dividend amount, among other requirements. We may not pay a dividend if the FRB objects or until such time as we receive approval from the FRB or we no longer need to provide notice under applicable regulations. In addition, we may be restricted by applicable law or regulation or actions taken by our regulators, now or in the future, from paying dividends to our stockholders. We cannot provide assurance that we will continue paying dividends on our common stock at current levels or at all. A reduction or discontinuance of dividends on our common stock could have a material adverse effect on our business, including the market price of our common stock.
The conditional conversion features of the convertible notes issued by the Company, if met, may adversely affect our financial condition and operating results. In the event the conditional conversion features of the convertible notes issued by the Company are met, holders of convertible notes will be entitled to convert the notes at any time during specified periods at their option. If one or more holders elect to convert their notes, unless we elect to satisfy our conversion obligation by delivering solely shares of our common stock (other than paying cash in lieu of delivering any fractional share), we would be required to settle a portion or all of our conversion obligation through the payment of cash, which could adversely affect our liquidity.
We may not have the ability to raise the funds necessary to settle conversions of the convertible notes in cash or to repurchase the convertible notes if holders of the convertible note exercise their repurchase rights or upon a fundamental change, and our future debt may contain limitations on our ability to pay cash upon conversion or repurchase of the convertible notes. Holders of the convertible notes will have the right to require us to repurchase all or a portion of their convertible notes on certain specified dates or upon the occurrence of a fundamental change at a repurchase price equal to 100% of the principal amount of the convertible notes to be repurchased, plus accrued and unpaid special interest, if any. We may not have enough available cash or be able to obtain financing at the time we are required to repurchase convertible notes surrendered or pay cash with respect to the convertible notes being converted if we elect not to issue shares, which could harm our reputation and affect the trading price of our common stock.
The value of our securities in our investment portfolio may decline in the future. The fair value of our investment securities may be adversely affected by market conditions, including changes in interest rates, implied credit spreads, and the occurrence of any events adversely affecting the issuer of particular securities in our investments portfolio or any given market segment or industry in which we are invested. We analyze our securities on a quarterly basis to determine if an other-than-temporary impairment has occurred. The process for determining whether impairment is other-than-temporary usually requires complex, subjective judgments about the future financial performance of the issuer in order to assess the probability of receiving all contractual principal and interest payments on the security. Because of changing economic and market conditions affecting issuers, we may be required to recognize other-than-temporary impairment in future periods, which could have a material adverse effect on our business, financial condition, or results of operations.
If we fail to maintain an effective system of internal controls and disclosure controls and procedures, we may not be able to accurately report our financial results or prevent fraud. Effective internal control over financial reporting and disclosure controls and procedures are necessary for us to provide reliable financial reports, effectively prevent fraud and to operate successfully as a public company. If we cannot provide reliable financial reports or prevent fraud, our reputation and business would be harmed. In addition, failure in our internal control over financial reporting and disclosure controls and procedures could cause us to fail to meet the continued listing requirements of the Nasdaq Global Select Market and, as a result, adversely impact the liquidity and trading price of our securities.
Anti-takeover provisions in our charter documents and applicable federal and state law may limit the ability of another party to acquire us, which could cause our stock price to decline. Various provisions of our charter documents could delay or prevent a third-party from acquiring us, even if doing so might be beneficial to our shareholders. These include, among other things, advance notice requirements to submit stockholder proposals at stockholder meetings and the authorization to issue “blank check” preferred stock by action of the Board of Directors acting alone, thus without obtaining stockholder approval. In addition, applicable provisions of federal and state law require regulatory approval in connection with certain acquisitions of our common stock and supermajority voting provisions in connection with certain transactions. In particular, both federal and state law limit the acquisition of ownership of, generally, 10% or more of our common stock without providing prior notice to the regulatory agencies and obtaining prior regulatory approval or non-objection or being able to rely on an exemption from such requirement. Collectively, these provisions of our charter documents and applicable federal and state law may prevent a merger or acquisition that would be attractive to stockholders and could limit the price investors would be willing to pay in the future for our common stock.
Our common stock is equity and therefore is subordinate to our subsidiaries’ indebtedness and preferred stock. Our common stock constitutes equity interests and does not constitute indebtedness. As such, common stock will rank junior to all current and future indebtedness and other non-equity claims on us with respect to assets available to satisfy claims against us, including in the event of our liquidation. We may, and the bank and our other subsidiaries may also, incur additional indebtedness from time to time and may increase our aggregate level of outstanding indebtedness. Additionally, holders of common stock are subject to the prior dividend and liquidation rights of any holders of our preferred stock that may be outstanding from time to time. The Board of Directors is authorized to cause us to issue additional classes or series of preferred stock without any action on the part of our stockholders. If we issue preferred shares in the future that have a preference over our common stock with respect to the payment of dividends or upon liquidation, or if we issue preferred shares with voting rights that dilute the voting power of the common stock, then the rights of holders of our common stock or the market price of our common stock could be materially adversely affected.
Our common stock is not insured and you could lose the value of your entire investment. An investment in our common stock is not a deposit and is not insured against loss by any government agency.
Implementation of the various provisions of the Dodd-Frank Act-in particular provisions that are applicable to banks and bank holding companies with $10 billion or more in assets-may delay the receipt of regulatory approvals and increase our operating costs or otherwise have a material effect on our financial condition, results of operations and stock price. The Dodd-Frank Wall Street Reform and Consumer Protection Act (the “Dodd-Frank Act”) enacted in 2010 significantly changes the bank regulatory structure and affects the lending, deposit, investment, trading and operating activities of financial institutions and their holding companies. The Dodd-Frank Act requires various federal agencies to adopt a broad range of new implementing rules and regulations and to prepare numerous studies and reports for Congress. The federal agencies are given significant discretion in drafting the implementing rules and regulations, and the rule-making process is still underway.
Several requirements in the Dodd-Frank Act for new banking regulations are applicable to certain banks and bank holding companies with $10 billion or more in assets. As a result of the merger, we surpassed this threshold, and these provisions, subject to a phase in period, will significantly increase compliance and operating costs and otherwise may have a significant impact on our business, financial condition, results of operations and stock price. Such provisions include the following:
The Dodd-Frank Act created the CFPB, which has broad powers to supervise and enforce consumer protection laws. The CFPB has broad rule-making authority for a wide range of consumer protection laws that apply to all banks, including the authority to prohibit “unfair, deceptive or abusive” acts and practices. The CFPB has examination and enforcement authority over all banks with more than $10 billion in assets, and accordingly has assumed examination and enforcement authority over us post-merger.
The Dodd-Frank Act increased the authority of the FRB to examine us and our non-bank subsidiaries and gave the FRB the authority to establish rules regarding interchange fees charged for an electronic debit transaction by a payment card issuer that, together with its affiliates, has assets of $10 billion or more, and to enforce a new statutory requirement that such fees be reasonable and proportional to the actual cost of a transaction to the issuer (the “Durbin Amendment”). By regulation, the FRB has limited the fees for such a transaction to the sum of 21 cents plus five basis points times the value of the transaction, plus up to one cent for fraud prevention costs. The effect of the Durbin Amendment has significantly lowered our interchange or “swipe” revenue, but such lower fees are not expected to have a material adverse effect on our results of operations.
The Dodd-Frank Act established 1.35% as the minimum Designated Reserve Ratio (“DRR”). The FDIC has determined that the DRR should be 2.0% and has adopted a plan under which it will meet the statutory minimum DRR of 1.35% by the statutory deadline of September 30, 2020. The Dodd-Frank Act requires the FDIC to offset the effect of the increase in the statutory minimum DRR to 1.35% from the former statutory minimum of 1.15% on institutions with assets less than $10 billion. As a result of the merger, we are no longer entitled to benefit from the offset.
It is difficult to predict the overall compliance cost of these provisions, which became effective (with phase-in periods) when the merger was consummated. Compliance with these provisions will require additional staffing, engagement of external consultants and other operating costs that could have a material adverse effect on our future financial condition, results of operations and stock price.
Item 1B. |
None.
Our principal executive offices are located at 3200 Wilshire Blvd., Suite 1400, Los Angeles, California 90010. As of December 31, 2018, we operated full-service branches at 56 leased and seven owned facilities, and we operated loan production offices at 11 leased facilities. Expiration dates of our leases range from 2019 to 2030. We believe our present facilities are suitable and adequate for our current operating needs.
In the normal course of business, we are involved in various legal claims. We have reviewed all legal claims against us with counsel and have taken into consideration the views of such counsel as to the potential outcome of the claims. Accrued loss contingencies for all legal claims totaled approximately $755 thousand at December 31, 2018. It is reasonably possible we may incur losses in addition to the amounts we have accrued. However, at this time, we are unable to estimate the range of additional losses that are reasonably possible because of a number of factors, including the fact that certain of these litigation matters are still in their early stages and involve claims for which, at this point, we believe have little to no merit. Management has considered these and other possible loss contingencies and does not expect the amounts to be material to any of the consolidated financial statements.
Not applicable.
Part II
The closing price for our common stock on the NASDAQ Global Select Market on February 25, 2019 was $14.68 per share. As of race, religion, national origin, sexual orientation, disability or any other basis.February 25, 2019, there were 1,200 stockholders of record of our common stock.
The following graph compares the yearly percentage change in the cumulative total shareholder return (stock price appreciation plus reinvested dividends) on our common stock with (i) the cumulative total return of the Board
future price performance. The Audit Committee helps the board of directors monitor financial risk and internal controls from a risk-based perspective and oversees the annual audit plan. It also reviews reports from the Company’s internal audit department.
ASSUMES $100 INVESTED ON DECEMBER 31, 2013
ASSUMES DIVIDENDS REINVESTED
FISCAL YEAR ENDING DECEMBER 31, 2018
| Period Ending | |||||||||||
| Stock/Index | 12/31/2013 | 12/31/2014 | 12/31/2015 | 12/31/2016 | 12/31/2017 | 12/31/2018 | |||||
| Hope Bancorp, Inc. | $100.00 | $88.77 | $109.30 | $143.04 | $122.44 | $82.21 | |||||
| NASDAQ Composite | $100.00 | $114.75 | $122.74 | $133.62 | $173.22 | $168.30 | |||||
| S&P 600 Index | $100.00 | $105.76 | $103.67 | $131.20 | $148.56 | $135.96 | |||||
| SNL Bank and Thrift | $100.00 | $111.63 | $113.89 | $143.78 | $169.07 | $140.45 | |||||
| S&P 500 Index | $100.00 | $113.69 | $115.26 | $129.05 | $157.22 | $150.33 | |||||
Share Repurchase Program
On April 26, 2018, our Board of Directors approved a share repurchase program that authorized the repurchase of up to $100.0 million in common stock. We completed the repurchase of $100.0 million in common stock in July 2018. Subsequently on September 20, 2018, the Board of Directors approved another share repurchase program that authorized the repurchase of up to $50.0 million in common stock. We completed the repurchase of $50.0 million in common stock in November 2018. Altogether, we repurchased approximately 9.0 million shares totaling $150.0 million in 2018 at an average weighted price of $16.65.
The following table summarizes share repurchase activities during the fourth quarter of 2018:
| Period | Total Number of Shares Purchased | Average Price Paid per Share | Total Number of Shares Purchased as Part of Publicly Announced Program | Approximate Dollar Value of Shares that May Yet Be Purchased Under the Program | ||||||||||
| (Dollars in thousands) | ||||||||||||||
| October 1, 2018 to October 31, 2018 | 1,296,969 | $ | 14.00 | 1,296,969 | $ | 31,798 | ||||||||
| November 1, 2018 to November 30, 2018 | 2,139,788 | 14.83 | 2,139,788 | — | ||||||||||
| December 1, 2018 to December 31, 2018 | — | — | — | — | ||||||||||
| Total | 3,436,757 | $ | 14.52 | 3,436,757 | ||||||||||
| Item 6. | SELECTED FINANCIAL DATA |
The following table presents selected financial and other data for each of the years in the five-year period ended December 31, 2018. The information below should be read in conjunction with, the more detailed information included elsewhere herein, including our Audited Consolidated Financial Statements and Notes thereto.
| As of or For The Year Ended December 31, | |||||||||||||||||||
| 2018 | 2017 | 2016 | 2015 | 2014 | |||||||||||||||
| (Dollars in thousands, except share and per share data) | |||||||||||||||||||
| Income Statement Data: | |||||||||||||||||||
| Interest income | $ | 650,172 | $ | 572,104 | $ | 421,934 | $ | 313,660 | $ | 302,657 | |||||||||
| Interest expense | 162,245 | 90,724 | 58,579 | 40,618 | 36,060 | ||||||||||||||
| Net interest income | 487,927 | 481,380 | 363,355 | 273,042 | 266,597 | ||||||||||||||
| Provision for loan losses | 14,900 | 17,360 | 9,000 | 8,000 | 12,638 | ||||||||||||||
| Net interest income after provision for loan losses | 473,027 | 464,020 | 354,355 | 265,042 | 253,959 | ||||||||||||||
| Noninterest income | 60,180 | 66,415 | 51,819 | 43,691 | 44,187 | ||||||||||||||
| Noninterest expense | 277,726 | 266,601 | 214,975 | 153,384 | 151,624 | ||||||||||||||
| Income before income tax provision | 255,481 | 263,834 | 191,199 | 155,349 | 146,522 | ||||||||||||||
| Income tax provision | 65,892 | 124,389 | 77,452 | 63,091 | 57,907 | ||||||||||||||
| Net income | $ | 189,589 | $ | 139,445 | $ | 113,747 | $ | 92,258 | $ | 88,615 | |||||||||
| Per Common Share Data: | |||||||||||||||||||
| Earnings - basic | $ | 1.44 | $ | 1.03 | $ | 1.10 | $ | 1.16 | $ | 1.11 | |||||||||
| Earnings - diluted | $ | 1.44 | $ | 1.03 | $ | 1.10 | $ | 1.16 | $ | 1.11 | |||||||||
| Book value (period end) | $ | 15.03 | $ | 14.23 | $ | 13.72 | $ | 11.79 | $ | 11.10 | |||||||||
| Cash dividends declared per common share | $ | 0.54 | $ | 0.50 | $ | 0.45 | $ | 0.42 | $ | 0.35 | |||||||||
| Number of common shares outstanding (period end) | 126,639,912 | 135,511,891 | 135,240,079 | 79,566,356 | 79,503,552 | ||||||||||||||
| Balance Sheet Data—At Period End: | |||||||||||||||||||
| Assets | $ | 15,305,952 | $ | 14,206,717 | $ | 13,441,422 | $ | 7,912,648 | $ | 7,140,330 | |||||||||
| Securities available for sale | $ | 1,846,265 | $ | 1,720,257 | $ | 1,556,740 | $ | 1,010,556 | $ | 792,523 | |||||||||
| Loans receivable, net of unearned loan fees and discounts (excludes loans held for sale) | $ | 12,098,115 | $ | 11,102,575 | $ | 10,543,332 | $ | 6,248,341 | $ | 5,565,192 | |||||||||
| Deposits | $ | 12,155,656 | $ | 10,846,609 | $ | 10,642,035 | $ | 6,340,976 | $ | 5,693,452 | |||||||||
| FHLB advances and federal funds purchased | $ | 821,280 | $ | 1,227,593 | $ | 754,290 | $ | 530,591 | $ | 480,975 | |||||||||
| Subordinated debentures | $ | 101,929 | $ | 100,853 | $ | 99,808 | $ | 42,327 | $ | 42,158 | |||||||||
| Convertible notes, net | $ | 194,543 | $ | — | $ | — | $ | — | $ | — | |||||||||
| Stockholders’ equity | $ | 1,903,211 | $ | 1,928,255 | $ | 1,855,473 | $ | 938,095 | $ | 882,773 | |||||||||
| Average Balance Sheet Data: | |||||||||||||||||||
| Assets | $ | 14,749,166 | $ | 13,648,963 | $ | 10,342,063 | $ | 7,389,530 | $ | 6,830,244 | |||||||||
| Securities available for sale | $ | 1,772,080 | $ | 1,679,468 | $ | 1,276,068 | $ | 871,010 | $ | 713,775 | |||||||||
| Gross loans, including loans held for sale | $ | 11,547,022 | $ | 10,642,349 | $ | 8,121,897 | $ | 5,846,658 | $ | 5,355,243 | |||||||||
| Deposits | $ | 11,628,177 | $ | 10,751,886 | $ | 8,232,984 | $ | 5,879,704 | $ | 5,439,920 | |||||||||
| Stockholders’ equity | $ | 1,910,224 | $ | 1,907,746 | $ | 1,342,954 | $ | 912,609 | $ | 848,443 | |||||||||
| As of or For The Year Ended December 31, | |||||||||||||||||||
| 2018 | 2017 | 2016 | 2015 | 2014 | |||||||||||||||
| (Dollars in thousands) | |||||||||||||||||||
| Selected Performance Ratios: | |||||||||||||||||||
Return on average assets(1) | 1.29 | % | 1.02 | % | 1.10 | % | 1.25 | % | 1.30 | % | |||||||||
Return on average stockholders’ equity(2) | 9.92 | % | 7.31 | % | 8.47 | % | 10.11 | % | 10.44 | % | |||||||||
| Average stockholders’ equity to average assets | 12.95 | % | 13.98 | % | 12.99 | % | 12.35 | % | 12.42 | % | |||||||||
| Dividend payout ratio (dividends per share/earnings per share) | 37.58 | % | 48.54 | % | 40.86 | % | 36.21 | % | 31.53 | % | |||||||||
Net interest spread(3) | 3.04 | % | 3.46 | % | 3.49 | % | 3.62 | % | 3.88 | % | |||||||||
Net interest margin(4) | 3.53 | % | 3.80 | % | 3.75 | % | 3.88 | % | 4.13 | % | |||||||||
Yield on interest earning assets(5) | 4.71 | % | 4.51 | % | 4.36 | % | 4.46 | % | 4.68 | % | |||||||||
Cost of interest bearing liabilities(6) | 1.67 | % | 1.05 | % | 0.87 | % | 0.84 | % | 0.80 | % | |||||||||
Efficiency ratio(7) | 50.67 | % | 48.67 | % | 51.78 | % | 48.43 | % | 48.79 | % | |||||||||
| Regulatory Capital Ratios: | |||||||||||||||||||
| Hope Bancorp: | |||||||||||||||||||
| Common Equity Tier 1 | 11.44 | % | 12.30 | % | 12.10 | % | 12.08 | % | 12.96 | % | |||||||||
| Tier 1 Leverage | 10.55 | % | 11.54 | % | 11.49 | % | 11.53 | % | 11.62 | % | |||||||||
| Tier 1 risk-based | 12.21 | % | 13.11 | % | 12.92 | % | 12.67 | % | 13.64 | % | |||||||||
| Total risk-based | 12.94 | % | 13.82 | % | 13.64 | % | 13.80 | % | 14.80 | % | |||||||||
| Bank of Hope: | |||||||||||||||||||
| Common Equity Tier 1 | 13.63 | % | 12.95 | % | 12.75 | % | 12.56 | % | 13.44 | % | |||||||||
| Tier 1 Leverage | 11.76 | % | 11.40 | % | 11.33 | % | 11.43 | % | 11.45 | % | |||||||||
| Tier I risk-based | 13.63 | % | 12.95 | % | 12.75 | % | 12.56 | % | 13.44 | % | |||||||||
| Total risk-based | 14.36 | % | 13.66 | % | 13.46 | % | 13.69 | % | 14.61 | % | |||||||||
| Asset Quality Data: | |||||||||||||||||||
| Nonaccrual loans | $ | 53,286 | $ | 46,775 | $ | 40,074 | $ | 40,801 | $ | 46,353 | |||||||||
Loans 90 days or more past due and still accruing (8) | 1,529 | 407 | 305 | 375 | 361 | ||||||||||||||
| Restructured loans (accruing) | 50,410 | 67,250 | 48,874 | 47,984 | 57,128 | ||||||||||||||
| Total nonperforming loans | 105,225 | 114,432 | 89,253 | 89,160 | 103,842 | ||||||||||||||
| Other real estate owned | 7,754 | 10,787 | 21,990 | 21,035 | 21,938 | ||||||||||||||
| Total nonperforming assets | $ | 112,979 | $ | 125,219 | $ | 111,243 | $ | 110,195 | $ | 125,780 | |||||||||
| Asset Quality Ratios: | |||||||||||||||||||
| Nonaccrual loans to loans receivable | 0.44 | % | 0.42 | % | 0.38 | % | 0.65 | % | 0.83 | % | |||||||||
| Nonperforming loans to loans receivable | 0.87 | % | 1.03 | % | 0.85 | % | 1.43 | % | 1.87 | % | |||||||||
| Nonperforming assets to total assets | 0.74 | % | 0.88 | % | 0.83 | % | 1.39 | % | 1.76 | % | |||||||||
Nonperforming assets to loans receivable and other real estate owned | 0.93 | % | 1.13 | % | 1.05 | % | 1.76 | % | 2.25 | % | |||||||||
| Allowance for loan losses to loans receivable | 0.77 | % | 0.76 | % | 0.75 | % | 1.22 | % | 1.22 | % | |||||||||
| Allowance for loan losses to nonaccrual loans | 173.70 | % | 180.74 | % | 197.99 | % | 187.27 | % | 146.18 | % | |||||||||
| Allowance for loan losses to nonperforming loans | 87.96 | % | 73.88 | % | 88.90 | % | 85.70 | % | 65.25 | % | |||||||||
| Allowance for loan losses to nonperforming assets | 81.92 | % | 67.51 | % | 71.32 | % | 69.34 | % | 53.87 | % | |||||||||
| Net charge-offs (recoveries) to average loans receivable | 0.06 | % | 0.11 | % | 0.07 | % | (0.01 | )% | 0.23 | % | |||||||||
| (1) | Net income divided by average assets. |
| (2) | Net income divided by average stockholders’ equity. |
| (3) | Difference between the average yield earned on interest earning assets and the average rate paid on interest bearing liabilities. |
| (4) | Net interest income expressed as a percentage of average interest earning assets. |
| (5) | Interest income divided by average interest earning assets. |
| (6) | Interest expense divided by average interest bearing liabilities. |
| (7) | Noninterest expense divided by the sum of net interest income plus noninterest income. |
| (8) | Excludes acquired credit impaired loans totaling $14.1 million, $18.1 million, $19.6 million, $12.2 million, and $30.4 million as of December 31, 2018, 2017, 2016, 2015, and 2014, respectively. |
| Item 7. | MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS |
You should read the following discussion and analysis of our financial condition and results of operations together with our Consolidated Financial Statements and accompanying notes presented elsewhere in this Report. This discussion and analysis contains forward-looking statements that involve risks, uncertainties and assumptions. Our actual results may differ materially from those anticipated in these forward-looking statements as a result of many factors, including those set forth under Item 1A “Risk Factors” and elsewhere in this Report. Please see the “Forward Looking Information” immediately preceding Part I of this Report.
Overview
We offer a full range of commercial and retail banking loan and deposit products through Bank of Hope. We have 63 banking offices in California, New York/New Jersey, Illinois, Washington, Texas, Virginia, Alabama, and Georgia. We have 11 loan production offices located in Atlanta, Dallas, Denver, Portland, Seattle, Fremont, and in Southern California We offer our banking services through our network of banking offices and loan production offices to our customers who typically are small to medium-sized businesses in our market areas. We accept deposits and originate a variety of loans including commercial business loans, commercial real estate loans, trade finance loans, SBA loans, and consumer loans.
Our results are affected by economic conditions in our markets and to a lesser degree in South Korea. A decline in economic and business conditions in our market areas or in South Korea may have a material adverse impact on the quality of our loan portfolio or the demand for our products and services, which in turn may have a material adverse effect on our financial condition and results of operations.
Our principal business involves earning interest on loans and investment securities that are funded primarily by customer deposits and other borrowings. Our operating income and net income are derived primarily from the difference between interest income received from interest earning assets and interest expense paid on interest bearing liabilities and, to a lesser extent, from fees received in connection with servicing loan and deposit accounts and income from the sale of loans. Historically, we sold most the guaranteed portion of SBA loans we originated on the secondary market, but due to the reduced premiums received on secondary market for SBA guaranteed sales, we made the decision to retain the loans on our balance sheet. Our major expenses are the interest we pay on deposits and borrowings, provisions for loan losses and general operating expenses, which primarily consist of salaries and employee benefits, occupancy costs, and other operating expenses. Interest rates are highly sensitive to many factors that are beyond our control, such as changes in the national economy and in the related monetary policies of the FRB, inflation, unemployment, consumer spending and political changes and events. We cannot predict the impact that these factors and future changes in domestic and foreign economic and political conditions might have on our performance.
Mergers and Acquisitions
On January 23, 2017, we announced the signing of a definitive agreement and plan of merger (the “U & I Merger Agreement”) with U & I Financial Corporation (“U & I”) pursuant to which U & I would have merged with and into Hope Bancorp with Hope Bancorp as the surviving corporation. As part of the merger, UniBank, a wholly-owned subsidiary of U & I, would have merged with and into the Bank. Subsequently on September 15, 2017, we announced the termination of the proposed merger with U & I as regulatory approval had not been obtained. The Mutual Termination Agreement provides, among other things, that each party will bear its own costs and expenses in connection with the terminated transaction, without penalties or termination fees. In connection with the termination, the parties have provided mutual releases to one another relating to the merger transaction.
On July 29, 2016, we completed the merger with Wilshire Bancorp, Inc (“Wilshire”). Through the merger, we acquired Wilshire’s thirty-five full-service branch offices, twenty-two of which were located in California, eight in New York and New Jersey, three in Texas, and one of each in Georgia and Alabama. Under the terms of the Merger Agreement, Wilshire shareholders had the right to receive 0.7034 of a share of our common stock in exchange for each share of Wilshire common stock they own in a 100% stock-for-stock transaction.
Each acquisition was accounted for as an acquisition in accordance with the acquisition method of accounting as detailed in Accounting Standards Codification (“ASC”) 805, Business Combinations. The acquisition method of accounting requires an acquirer to recognize the assets acquired, the liabilities assumed, and any non-controlling interest in the acquiree based on their fair values as of the date of acquisition. This process is heavily reliant on measuring and estimating the fair values of all the assets and liabilities of the acquired entities. To the extent we did not have the requisite expertise to determine the fair values of the assets acquired and liabilities assumed, we engaged third party valuation specialists to assist us in determining such values.
Critical Accounting Policies
Our financial statements are prepared in accordance with generally accepted accounting principles in the United States of America (“GAAP”) and generally accepted practices within the banking industry. The financial information contained within these statements is, to a significant extent, financial information that is based on approximate measures of the financial effects of transactions and events that have already occurred. All of our significant accounting policies are described in Note 1 of our Consolidated Financial Statements presented elsewhere in this reportReport and are essential to understanding Management’s Discussion and Analysis of Financial Condition and Results of Operations. GAAP requires management to make estimates and judgments that affect the reported amounts of assets and liabilities, revenues and expenses, and related disclosures of contingent assets and liabilities at the date of our financial statements. Actual results may materially and adversely differ from these estimates under different assumptions or conditions.
The following is a summary of the more subjective and complex accounting estimates and principles affecting the financial condition and results reported in our financial statements. In each area, we have identified the variables we believe to be the most important in the estimation process. We use the best information available to us to make the estimations necessary to value the related assets and liabilities in each of these areas.
Business Combinations
Mergers and acquisitions are accounted for in accordance with ASC 805 “Business Combinations” using the acquisition method of accounting. Assets and liabilities acquired and assumed are generally recorded at their fair values as of the date of the transaction. The excess of purchase price over the fair value of assets acquired and liabilities assumed is recorded as goodwill. Significant estimates and judgments are involved in the fair valuation and purchase price allocation process. Critical accounting policies related to acquired loans is discussed in more detail below under “Acquired Loans and Purchase Credit Impaired Loans”.
Investment Securities
The fair values of investment securities are generally determined by reference thereto.quoted market prices obtained from independent external broker or external pricing services providers who have experience in valuing these securities. We perform a monthly analysis on the broker quotes received from third parties to assess whether the prices represent a reasonable estimate of the fair value. The procedures include, but are not limited to, initial and on-going review of third party pricing methodologies as well as independent auditors’ reports from the third party regarding its controls over valuation of financial instruments, review of pricing trends and monitoring of trading volumes. We also compare the market prices obtained from one source to another reputable independent external broker or independent external pricing service provider for the reasonableness of the initial market prices obtained on a quarterly basis. We did not adjust any of the prices provided to us by the independent pricing services at December 31, 2018 or 2017.
We evaluate securities for other-than-temporary impairment on at least a quarterly basis, and more frequently when economic or market concerns warrant such evaluation. Consideration is given to the financial condition and near-term prospects of the issuer; the length of time and the extent to which the fair value has been less than cost, and our intention to sell, or whether it is more likely than not that we will be required to sell, a security in an unrealized loss position before recovery of its amortized cost basis. In analyzing an issuer’s financial condition, we consider whether the securities are issued by the federal government or its agencies, whether downgrades by bond rating agencies have occurred, and the results of reviews of the issuer’s financial condition. We do not believe that we had any investment securities available for sale with unrealized losses that would be deemed to be other-than-temporarily impaired as of December 31, 2018. Investment securities are discussed in more detail under “Financial Condition—Investment Securities Portfolios” below.
Allowance for Loan Losses
Accounting for the allowance for loan losses involves significant judgments and assumptions by management, which has a material impact on the carrying value of net loans. The judgments and assumptions used by management are based on historical data and management’s analysis of other qualitative factors, including the current economic environment as described under “Financial Condition—Allowance for Loan Losses” below.
Purchased Credit Impaired (“PCI”) Loans
In accordance with ASC 310-30, PCI loans were aggregated into pools based on individually evaluated common risk characteristics and expected cash flows were estimated on a pool basis. Each pool is accounted for as a single asset with a single interest rate, cumulative loss rate and cash flow expectation. A loan will be removed from a pool of loans at its carrying value only if the loan is sold or foreclosed, assets are received in satisfaction of the loan or the loan is written off.
The Human Resourcescash flows expected to be received over the life of the pools were estimated by management with the assistance of a third party valuation specialist. These cash flows were utilized in calculating the carrying values of the pools and Compensationunderlying loans, book yields, effective interest income and impairment, if any, based on actual and projected events. Default rates, loss severity and prepayment speeds assumptions are periodically reassessed and updated within the accounting model to update the expectation of future cash flows. The excess of the cash expected to be collected over the pool’s carrying value is considered to be the accretable yield and is recognized as interest income over the estimated life of the loan pool using the effective interest yield method. The accretable yield will change due to changes in the timing and amounts of expected cash flows. Changes in the accretable yield are disclosed quarterly.
The excess of the contractual balances due over the cash flows expected to be collected is considered to be nonaccretable difference. The nonaccretable difference represents our estimate of the credit losses expected to occur and was considered in determining the fair value of the loans as of their acquisition date. Subsequent to their acquisition date, any increases in expected cash flows over those expected at the acquisition date in excess of fair value are adjusted through the accretable difference on a prospective basis. Any subsequent decreases in expected cash flows over those expected at their acquisition date are recognized by recording a provision for loan losses.
PCI loans that met the criteria for nonaccrual of interest prior to the acquisition are considered performing upon acquisition, regardless of whether the customer is contractually delinquent, if we can reasonably estimate the timing and amount of the expected cash flows on such loans and if we expect to collect the new carrying value of the loans in full. As such, we no longer consider the loan to be nonaccrual or nonperforming and accrue interest on these loans, including the impact of any accretable discount. We have determined that we can reasonably estimate future cash flows on any such acquired loans that are past due 90 days or more and on which we are accruing interest and we expect to fully collect the carrying value of the loans.
Goodwill
We assess goodwill for impairment annually. Before applying the two-step goodwill impairment test, in accordance with ASC 350 “Intangibles - Goodwill and Other”, we make a qualitative assessment of whether it is more likely than not that a reporting unit’s fair value is less than its carrying amount. If we conclude that it is not more likely than not that the fair value of a reporting unit is less than its carrying amount, we do not perform the two-step impairment test. We assessed certain qualitative factors to determine whether impairment was likely including: our market capitalization, capital adequacy, continued performance compared to peers, and continued improvement in asset quality trends, among others. Based on our qualitative assessment, we were not required to perform the two-step impairment test as of December 31, 2018.
Goodwill may also be tested for impairment on an interim basis if circumstances change or an event occurs between annual tests that would more likely than not reduce the fair value of the reporting unit below its carrying amount. Significant judgment is applied when goodwill is assessed for impairment. This judgment includes developing cash flow projections, selecting appropriate discount rates, identifying relevant market comparables, incorporating general economic and market conditions and selecting an appropriate control premium. The selection and weighting of the various fair value techniques may result in a higher or lower fair value. Judgment is applied in determining the weighting that is most representative of fair value.
Income Taxes
The provision for income taxes is based on income reported for financial statement purposes, and differs from the amount of taxes currently payable, since certain income and expense items are reported for financial statement purposes in different periods than those for tax reporting purposes. Taxes are discussed in more detail in Note 11 to our Consolidated Financial Statements presented elsewhere in this Report. Accrued taxes represent the net estimated amount due or to be received from taxing authorities. In estimating accrued taxes, we assess the relative merits and risks of the appropriate tax treatment of transactions taking into account statutory, judicial, and regulatory guidance in the context of our tax position. We account for income taxes using the asset and liability approach, the objective of which is to establish deferred tax assets and liabilities for the temporary differences between the financial reporting basis and the tax basis of our assets and liabilities at enacted tax rates expected to be in effect when such amounts are realized or settled. Deferred tax assets are reduced by a valuation allowance when, in the opinion of management, it is more likely than not that some portion, or all, of the deferred tax asset will not be realized. In assessing the realization of deferred tax assets, management evaluates both positive and negative evidence, including the existence of any cumulative losses in the current year and the prior two years, the amount of taxes paid in available carry-back years, the forecasts of future income and taxable income, applicable tax planning strategies, and assessments of current and future economic and business conditions. This analysis is updated quarterly and adjusted as necessary.
Section 382 of the Internal Revenue Code imposes a limitation (“382 Limitation”) on a corporation’s ability to use any net unrealized built in losses and other tax attributes, such as net operating loss and tax credit carry-forwards, when it undergoes a 50% ownership change over a designated testing period not to exceed three years (“382 Ownership Change”). As a result of the acquisition on July 29, 2016, Wilshire Bancorp underwent a 382 Ownership Change resulting in a 382 Limitation to its net operating loss and tax credit carry-forwards. Wilshire Bancorp did not have a net unrealized built in loss as of the 382 Ownership Change date. Given the applicable 382 Limitation, we expect to fully utilize Wilshire Bancorp’s net operating loss and tax credit carry-forwards before expiration. However, future transactions, such as issuances of common stock or sales of shares of our stock by certain holders of our shares, including persons who have held, currently hold or may accumulate in the future 5% or more of our outstanding common stock for their own account, could trigger a future Section 382 Ownership Change, which could limit our use of these tax attributes.
On December 22, 2017, the U.S. government enacted comprehensive tax legislation commonly referred to as the Tax Cuts and Jobs Act (“Tax Act”). Among other changes, the Tax Act reduces the U.S. federal corporate tax rate from 35% to 21%. We reasonably estimated the effects of the Tax Act and recorded a provisional amount increasing income tax expense by $25.4 million for the year ended December 31, 2017 in accordance with SEC Staff Accounting Bulletin No. 118 (“SAB 118”). This amount is comprised of the re-measurement of federal net deferred tax assets and impairment of the low-income housing investment, resulting from the permanent reduction in the U.S. statutory corporate tax rate to 21% from 35%. As required by SAB 118, we continued to reassess and refine the effects of the Tax Act on its deferred tax amounts during 2018. As a result, we recorded an income tax expense of $442 thousand during the year ended December 31, 2018. As of December 31, 2018, we have completed the accounting for the income tax effects of the Tax Act. See Note 11 to the consolidated financial statements for further details.
Results of Operations
Operations Summary
Our most significant source of income is net interest income, which is the difference between our interest income and our interest expense. Generally, interest income is generated from the loans we extend to our customers and from investments, and interest expense is generated from interest bearing deposits our customers have with us and from borrowings that we may have, such as FHLB advances, federal funds purchased, convertible notes, and subordinated debentures. Our ability to generate profitable levels of net interest income is largely dependent on our ability to manage the levels of interest earning assets and interest bearing liabilities, and the rates received or paid on them, as well as our ability to maintain sound asset quality and appropriate levels of capital and liquidity. As mentioned above, interest income and interest expense may fluctuate based on factors beyond our control, such as economic or political conditions.
We attempt to minimize the effect of interest rate fluctuations on net interest margin by monitoring our interest sensitive assets and our interest sensitive liabilities. Net interest income can be affected by a change in the composition of assets and liabilities, such as replacing higher yielding loans with a like amount of lower yielding investment securities. Changes in the level of nonaccrual loans and changes in volume and interest rates can also affect net interest income. Volume changes are caused by differences in the level of interest earning assets and interest bearing liabilities. Interest rate changes result from differences in yields earned on assets and rates paid on liabilities.
The other source of our income is noninterest income, including service charges and fees on deposit accounts, loan servicing fees, fees from trade finance activities, net gains on sale of loans that were held for sale and investment securities available for sale, and other income and fees. Our noninterest income can be reduced by charges for other than temporary impairment on investment securities.
In addition to interest expense, our income is impacted by provisions for loan losses and noninterest expense, primarily salaries and benefits and occupancy expense. The following table presents our condensed consolidated statements of income and the increases year over year.
| Year Ended December 31, 2018 | Increase (Decrease) | Year Ended December 31, 2017 | Increase | Year Ended December 31, 2016 | |||||||||||||||||||||
| Amount | % | Amount | % | ||||||||||||||||||||||
| (Dollars in thousands) | |||||||||||||||||||||||||
| Interest income | $ | 650,172 | $ | 78,068 | 14 | % | $ | 572,104 | $150,170 | 36 | % | $ | 421,934 | ||||||||||||
| Interest expense | 162,245 | 71,521 | 79 | % | 90,724 | 32,145 | 55 | % | 58,579 | ||||||||||||||||
| Net interest income | 487,927 | 6,547 | 1 | % | 481,380 | 118,025 | 32 | % | 363,355 | ||||||||||||||||
| Provision for loan losses | 14,900 | (2,460 | ) | (14 | )% | 17,360 | 8,360 | 93 | % | 9,000 | |||||||||||||||
| Noninterest income | 60,180 | (6,235 | ) | (9 | )% | 66,415 | 14,596 | 28 | % | 51,819 | |||||||||||||||
| Noninterest expense | 277,726 | 11,125 | 4 | % | 266,601 | 51,626 | 24 | % | 214,975 | ||||||||||||||||
| Income before income tax provision | 255,481 | (8,353 | ) | (3 | )% | 263,834 | 72,635 | 38 | % | 191,199 | |||||||||||||||
| Income tax provision | 65,892 | (58,497 | ) | (47 | )% | 124,389 | 46,937 | 61 | % | 77,452 | |||||||||||||||
| Net income | $ | 189,589 | $ | 50,144 | 36 | % | $ | 139,445 | $ | 25,698 | 23 | % | $ | 113,747 | |||||||||||
Net Income
Our net income was $189.6 million for 2018 compared to $139.4 million for 2017 and $113.7 million for 2016. Our earnings per common share based on fully diluted shares were $1.44, $1.03, and $1.10 for 2018, 2017, and 2016, respectively. The return on average assets was 1.29%, 1.02%, and 1.10% and the return on average stockholders’ equity was 9.92%, 7.31%, and 8.47% for 2018, 2017, and 2016, respectively. The increase in net income for 2018 compared to 2017 was due to the reduction in tax provision expense as a result of the Tax Cuts and Jobs Act which reduced the corporate federal income tax rate from 35% to 21% starting on January 1, 2018.
Impact of Acquisitions
The comparability of our operating results is affected by our acquisition of Wilshire Bancorp in July 2016. We acquired $4.63 billion in total assets from Wilshire at the time of the acquisition. The acquisition was accounted for using the acquisition method of accounting and, accordingly, Wilshire’s operating results have been included in the consolidated financial statements from the acquisition date. Financial information for the years 2018 and 2017 reflect full years of combined operations subsequent to the merger with Wilshire, while 2016 reflects seven months of stand-alone operations and five months of combined operations.
Income before income tax provision for the year ended December 31, 2018, 2017, and 2016 were impacted by the accretion of discounts and the amortization of premiums relating to past acquisitions. The following table summarizes the accretion and amortization adjustments that are included in net income for the periods indicated below:
| Year Ended December 31, | ||||||||||||
| 2018 | 2017 | 2016 | ||||||||||
| (Dollars in thousands) | ||||||||||||
| Accretion on purchased non-impaired loans | $ | 11,715 | $ | 18,372 | $ | 9,330 | ||||||
| Accretion on purchased credit-impaired loans | 21,837 | 21,542 | 15,817 | |||||||||
| Amortizations of premium on low income housing tax credits | (338 | ) | (338 | ) | (127 | ) | ||||||
| Amortization of premiums on acquired FHLB borrowings | 1,413 | 1,597 | 973 | |||||||||
| Accretion of discounts on acquired subordinated debt | (1,076 | ) | (1,045 | ) | (539 | ) | ||||||
| Amortization of premiums on acquired time deposits and savings | 1 | 4,903 | 5,857 | |||||||||
| Amortization of core deposit intangibles | (2,461 | ) | (2,703 | ) | (1,732 | ) | ||||||
| Total acquisition accounting adjustments | $ | 31,091 | $ | 42,328 | $ | 29,579 | ||||||
| Merger-related expenses | 7 | (1,781 | ) | (16,914 | ) | |||||||
| Total | $ | 31,098 | $ | 40,547 | $ | 12,665 | ||||||
Net Interest Margin and Net Interest Rate Spread
We analyze our earnings performance using, among other measures, net interest spread and net interest margin. The net interest spread represents the difference between the weighted average yield earned on interest earning assets and average rate paid on interest bearing liabilities. Net interest income, when expressed as a percentage of average total interest earning assets, is referred to as the net interest margin. Our net interest margin is affected by changes in the yields earned on assets and rates paid on liabilities, as well as the ratio of the amounts of interest earning assets to interest bearing liabilities.
Interest rates charged on our loans are affected principally by the demand for such loans, the supply of money available for lending purposes, the interest rate environment, and other competitive factors. These factors are in turn affected by general economic conditions and other factors beyond our control, such as federal economic policies, the general supply of money in the economy, legislative tax policies, governmental budgetary matters, and the actions of the FRB.
The following table presents our net interest margin, net interest rate spread, and our condensed consolidated average balance sheet information, together with interest rates earned and paid on the various sources and uses of funds, for the periods indicated:
| Year Ended December 31, | ||||||||||||||||||||||||||||||||
| 2018 | 2017 | 2016 | ||||||||||||||||||||||||||||||
Average Balance | Interest Income/ Expense | Average Yield/ Rate | Average Balance | Interest Income/ Expense | Average Yield/ Rate | Average Balance | Interest Income/ Expense | Average Yield/ Rate | ||||||||||||||||||||||||
| (Dollars in thousands) | ||||||||||||||||||||||||||||||||
| INTEREST EARNING ASSETS: | ||||||||||||||||||||||||||||||||
Loans(1)(2)(3) | $ | 11,547,022 | $ | 594,103 | 5.15 | % | $ | 10,642,349 | $ | 529,760 | 4.98 | % | $ | 8,121,897 | $ | 392,127 | 4.83 | % | ||||||||||||||
Securities(3) | 1,772,080 | 45,342 | 2.56 | % | 1,679,468 | 36,917 | 2.20 | % | 1,276,068 | 25,442 | 1.99 | % | ||||||||||||||||||||
FRB and FHLB stock and other investments | 487,922 | 10,727 | 2.20 | % | 360,086 | 5,427 | 1.51 | % | 281,824 | 4,365 | 1.55 | % | ||||||||||||||||||||
| Total interest earning assets | 13,807,024 | 650,172 | 4.71 | % | 12,681,903 | 572,104 | 4.51 | % | 9,679,789 | 421,934 | 4.36 | % | ||||||||||||||||||||
| Total noninterest earning assets | 942,142 | 967,060 | 662,274 | |||||||||||||||||||||||||||||
| Total assets | $ | 14,749,166 | $ | 13,648,963 | $ | 10,342,063 | ||||||||||||||||||||||||||
| INTEREST BEARING LIABILITIES: | ||||||||||||||||||||||||||||||||
| Deposits: | ||||||||||||||||||||||||||||||||
| Demand, interest bearing | $ | 3,276,815 | 43,252 | 1.32 | % | $ | 3,490,440 | 31,856 | 0.91 | % | 2,587,548 | 21,136 | 0.82 | % | ||||||||||||||||||
| Savings | 229,608 | 1,889 | 0.82 | % | 268,292 | 1,354 | 0.50 | % | 234,332 | 1,282 | 0.55 | % | ||||||||||||||||||||
| Time deposits | 5,107,698 | 89,817 | 1.76 | % | 4,037,259 | 41,692 | 1.03 | % | 3,219,484 | 25,673 | 0.80 | % | ||||||||||||||||||||
| Total interest bearing deposits | 8,614,121 | 134,958 | 1.57 | % | 7,795,991 | 74,902 | 0.96 | % | 6,041,364 | 48,091 | 0.80 | % | ||||||||||||||||||||
FHLB advances and federal funds purchased | 870,124 | 15,127 | 1.74 | % | 787,119 | 10,706 | 1.36 | % | 619,557 | 7,560 | 1.22 | % | ||||||||||||||||||||
| Convertible notes, net | 123,040 | 5,797 | 4.65 | % | — | — | — | % | — | — | — | % | ||||||||||||||||||||
| Other borrowings | 97,455 | 6,363 | 6.44 | % | 96,363 | 5,116 | 5.24 | % | 64,165 | 2,928 | 4.49 | % | ||||||||||||||||||||
| Total interest bearing liabilities | 9,704,740 | 162,245 | 1.67 | % | 8,679,473 | 90,724 | 1.05 | % | 6,725,086 | 58,579 | 0.87 | % | ||||||||||||||||||||
| Noninterest bearing liabilities and equity: | ||||||||||||||||||||||||||||||||
| Noninterest bearing demand deposits | 3,014,056 | 2,955,895 | 2,191,620 | |||||||||||||||||||||||||||||
| Other liabilities | 120,146 | 105,849 | 82,403 | |||||||||||||||||||||||||||||
| Stockholders’ equity | 1,910,224 | 1,907,746 | 1,342,954 | |||||||||||||||||||||||||||||
| Total liabilities and stockholders’ equity | $ | 14,749,166 | $ | 13,648,963 | $ | 10,342,063 | ||||||||||||||||||||||||||
| Net interest income | $ | 487,927 | $ | 481,380 | $ | 363,355 | ||||||||||||||||||||||||||
| Net interest margin | 3.53 | % | 3.80 | % | 3.75 | % | ||||||||||||||||||||||||||
Net interest spread(4) | 3.04 | % | 3.46 | % | 3.49 | % | ||||||||||||||||||||||||||
Cost of funds(5) | 1.28 | % | 0.78 | % | 0.66 | % | ||||||||||||||||||||||||||
| Cost of deposits | 1.16 | % | 0.70 | % | 0.58 | % | ||||||||||||||||||||||||||
(1) Interest income on loans includes accretion of net deferred loan origination fees and costs, prepayment fees received on loan pay-offs and accretion of discounts on acquired loans. See the table below for detail.
(2) Average balances of loans are net of deferred loan origination fees and costs and include nonaccrual loans and loans held for sale.
(3) Interest income and yields are not presented on a tax-equivalent basis.
(4) Yield on interest earning assets minus cost of interest bearing liabilities.
(5) Yield on interest bearing liabilities and noninterest bearing deposits.
The following table presents net loan origination fees, loan prepayments fee income, interest reversed for nonaccrual loans, and discount accretion income included as part of loan interest income for the years indicated:
| Year ended December 31, | Net Loan Origination Fees | Loan Prepayment Fee Income | Interest Reversed for Nonaccrual Loans, Net of Income Recognized | Accretion of Discounts on Acquired Loans | ||||||||||||
| (Dollars in thousands) | ||||||||||||||||
| 2018 | $ | 1,492 | $ | 2,603 | $ | (590 | ) | $ | 33,552 | |||||||
| 2017 | $ | 1,485 | $ | 3,963 | $ | (419 | ) | $ | 39,914 | |||||||
| 2016 | $ | 1,798 | $ | 3,491 | $ | (483 | ) | $ | 25,147 | |||||||
Net Interest Income
Net interest income was $487.9 million for 2018, compared to $481.4 million for 2017 and $363.4 million for 2016. Changes in net interest income are a function of changes in interest rates and volume of interest earning assets and interest bearing liabilities. The table below sets forth information regarding the changes in interest income and interest expense for the periods indicated. The total change for each category of interest earning assets and interest bearing liabilities is segmented into the change attributable to variations in volume (changes in volume multiplied by the old rate) and the change attributable to variations in interest rates (changes in rates multiplied by the old volume). Nonaccrual loans are included in average loans used to compute this table.
| For the year ended December 31, | |||||||||||||||||||||||
| 2018 Compared to 2017 | 2017 Compared to 2016 | ||||||||||||||||||||||
Net Increase | Change due to | Net Increase | Change due to | ||||||||||||||||||||
| Rate | Volume | Rate | Volume | ||||||||||||||||||||
| (Dollars in thousands) | |||||||||||||||||||||||
| INTEREST INCOME: | |||||||||||||||||||||||
| Interest and fees on loans | $ | 64,343 | $ | 18,225 | $ | 46,118 | $ | 137,633 | $ | 12,512 | $ | 125,121 | |||||||||||
| Interest on securities | 8,425 | 6,305 | 2,120 | 11,475 | 2,810 | 8,665 | |||||||||||||||||
| Interest on other investments | 5,300 | 2,988 | 2,312 | 1,062 | (120 | ) | 1,182 | ||||||||||||||||
| TOTAL INTEREST INCOME | $ | 78,068 | $ | 27,518 | $ | 50,550 | $ | 150,170 | $ | 15,202 | $ | 134,968 | |||||||||||
| INTEREST EXPENSE: | |||||||||||||||||||||||
| Interest on demand deposits | $ | 11,396 | $ | 13,451 | $ | (2,055 | ) | $ | 10,720 | $ | 2,697 | $ | 8,023 | ||||||||||
| Interest on savings | 535 | 753 | (218 | ) | 72 | (104 | ) | 176 | |||||||||||||||
| Interest on time deposits | 48,125 | 34,943 | 13,182 | 16,019 | 8,608 | 7,411 | |||||||||||||||||
| Interest on FHLB advances and federal funds purchased | 4,421 | 3,206 | 1,215 | 3,146 | 937 | 2,209 | |||||||||||||||||
| Convertible notes, net | 5,797 | — | 5,797 | — | — | — | |||||||||||||||||
| Interest on other borrowings | 1,247 | 1,188 | 59 | 2,188 | 545 | 1,643 | |||||||||||||||||
| TOTAL INTEREST EXPENSE | $ | 71,521 | $ | 53,541 | $ | 17,980 | $ | 32,145 | $ | 12,683 | $ | 19,462 | |||||||||||
| NET INTEREST INCOME | $ | 6,547 | $ | (26,023 | ) | $ | 32,570 | $ | 118,025 | $ | 2,519 | $ | 115,506 | ||||||||||
Net interest income before provision for loan losses increased by $6.5 million, or 1%, during 2018. The increase was primarily due to an increase in average interest earning assets by 9% during the year which resulted in an increase of $50.6 million in interest income due to volume. Interest bearing liabilities increased by 12% for 2018 compared to the previous year which resulted in an increase of $18.0 million in interest expense due to volume. Interest expense change in 2018 compared to 2017 due to change in rate amounted to $53.5 million mostly due to the increase in interest rates in 2018 and repricing of deposits. Although yields on interest earnings assets increased for 2018 compared to 2017, the increase was offset by the increase in cost of deposits for the same period.
Net interest income before provision for loan losses increased by $118.0 million, or 32%, during 2017. The increase was primarily due to an increase in average interest earning assets by 31% during the year which resulted in an increase of $135.0 million in interest income due to volume. Interest bearing liabilities increased by 29% for 2017 compared to the previous year, which resulted in an increase of $19.5 million in interest expense due to volume. Although yields on interest earnings assets increased for 2017 compared to 2016, the increase was largely offset by the increase in cost of deposits for the same period.
Average interest earnings assets and liabilities for 2018 and 2017 included the full year impact from assets acquired and liabilities assumed from Wilshire, while average interest earnings assets and liabilities for 2016 included only five months of asset and liability balances acquired from Wilshire.
Interest Income
Interest income was $650.2 million for 2018, compared to $572.1 million for 2017 and $421.9 million for 2016. The yield on average interest earning assets was 4.71% for 2018, compared to 4.51% for 2017 and 4.36% for 2016.
Comparison of 2018 with 2017
The increase in interest income of $78.1 million, or 14%, for 2018 compared to 2017 was primarily a result of the growth in total loans and investments. The increase in interest income was primarily attributable to the increase in loans as a result of higher rates on new originations as well as an increase in loan rates for variable rate loans. Average total loans increased by $904.7 million in 2018 compared to 2017 and total investments and FHLB stock and other investments together increased $220.4 million in the same period. Discount accretion income on acquired loans decreased in 2018 totaling $33.6 million compared to $39.9 million for 2017.
Comparison of 2017 with 2016
The increase in interest income of $150.2 million, or 36%, for 2017 compared to 2016 was primarily a result of the growth in total loans and investments. The increase in 2017 was a result of both organic growth and the full year impact of the assets acquired from Wilshire compared to only a five month impact of assets acquired from Wilshire for 2016. Average total loans increased $2.52 billion in 2017 compared to 2016, and total investments increased $403.4 million in the same period. Discount accretion income on acquired loans increased in 2017 totaling $39.9 million compared to $25.1 million for 2016. Accretion income on loans acquired from Wilshire was recognized throughout the entire year in 2017, whereas in 2016, accretion income was recorded in only the last five months of the year subsequent to the acquisition in July 2016.
Interest Expense
Deposits
Interest expense on deposits was $135.0 million for 2018 compared to $74.9 million for 2017 and $48.1 million for 2016. The average cost of deposits was 1.16% for 2018, compared to 0.70% for 2017 and 0.58% for 2016. The average cost of interest bearing deposits was 1.57% for 2018, compared to 0.96% for 2017 and 0.80% for 2016.
Comparison of 2018 with 2017
The increase in interest expense on total deposits of $60.1 million, or 80%, for 2018 compared to 2017 was due to an increase in interest bearing deposit accounts, particularly an increase in time deposits accounts, in addition to an overall increase in rates offered in 2018. Federal funds rates were increased by 25 basis points by the Federal Open Market Committee (“Compensation Committee”FOMC”) has reviewedin March 2018, June 2018, September 2018, and discussedDecember 2018. As a result of the Compensation Discussioninterest rate hikes in 2018, many of our deposits were priced higher and Analysistime deposits were renewed and opened at higher interest rates increasing our total cost of deposits for 2018. The average balance of noninterest bearing deposits accounted for 26% of total average deposits at December 31, 2018 compared to 27% at December 31, 2017. During 2018, we issued $217.5 million in convertible notes (carried at a discount) which also contributed to the increase in interest expense for 2018 compared to 2017. The convertible notes have a coupon rate of 2.00%, but the accretion of discount and capitalization of issuance costs contributes to the increase in cost of convertible notes.
Comparison of 2017 with 2016
The increase in interest expense on total deposits of $26.8 million, or 56%, for 2017, compared to 2016 was due to an increase in interest bearing liabilities in addition to an overall increase in rates offered in 2017. Federal funds rates was increased by the Federal Open Market Committee (“CD&A”FOMC”) in June of 2017 and again in December of 2017. As of result of the 25 basis point increase in interest rates in June 2017, many of our deposits were priced higher and time deposits were renewed and opened at higher interest rates increasing our total cost of deposits for 2017. In addition, average deposits for 2017 included a full year of balances assumed from Wilshire while 2016 only reflected five months of assumed deposits in the average deposit balance. The average balance of noninterest bearing deposits accounted for 27% of total average deposits at December 31, 2017 compared to 27% at December 31, 2016.
FHLB Advances and Federal Funds Purchased
FHLB advances and federal funds purchased include borrowings from the FHLB and federal funds purchased. As part of our asset-liability management, we utilize FHLB advances to supplement our deposit source of funds. Therefore, there may be fluctuations in these balances depending on the short-term liquidity and longer-term financing needs of the Bank.
Average FHLB advances and federal funds purchased were $870.1 million in 2018, compared to $787.1 million in 2017 and $619.6 million in 2016. Interest expense on FHLB advances was $15.1 million for 2018 compared to $10.7 million for 2017 and $7.6 million for 2016. The average cost of FHLB advances was 1.74% for 2018, compared to 1.36% for 2017 and 1.22% for 2016. The average cost of FHLB advances includes the amortization of premiums recorded on advances acquired from prior acquisitions. Total amortization FHLB premiums for 2018 was $1.4 million, compared to $1.6 million in 2017 and $973 thousand in 2016. During 2018, we repaid $465.0 million in FHLB advances with an average rate of 1.61% and borrowed $130.0 million in advances with an average rate of 2.39%.
We did not have federal funds purchased at December 31, 2018 and December 31, 2016. At December 31, 2017, we had $69.9 million in federal funds purchased included in this Proxy Statementaverage FHLB advances and federal funds purchased, which were all fully repaid during the first quarter of 2018.
Convertible Debt
During the second quarter of 2018, we issued $217.5 million in senior convertible notes. The carrying balance of our convertible notes are net of discount to be amortized and issuance costs to be capitalized. The cost of our convertible notes for 2018 was 4.65%. We had no convertible notes outstanding in 2017 or 2016. The cost of our convertible notes consists of the 2.00% coupon rate, the non-cash conversion option rate, and the issuance cost capitalization rate. After the fifth year, the cost of the convertible notes will decline as the non-cash conversion discount will be fully amortized and the issuance costs will be fully capitalized leaving the coupon rate as the only remaining cost.
Other Borrowings
Other borrowings include subordinated debentures which bear interest at 3-month LIBOR plus a designated spread. With the acquisition of Wilshire, we assumed four subordinated debentures at a fair value of $56.9 million. There were no other changes in our balance of subordinated debentures during 2017 or 2018, aside for the increases related to the discount accretion on subordinated debentures acquired from previous acquisitions. The average rate on other borrowing increased to 6.44% for 2018 compared to 5.24% for 2017 and 4.49% for 2016. The increase in cost of other borrowings in 2017 and 2018 was due to the increase in the 3-month LIBOR rate.
Provision for Loan Losses
The provision for loan losses reflects our judgment of the current period cost associated with credit risk inherent in our loan portfolio. The loan loss provision for each period is dependent upon many factors, including loan growth, net charge-offs, changes in the composition of the loan portfolio, delinquencies, assessments by management, third parties’ and regulators’ examination of the loan portfolio, the value of the underlying collateral on problem loans and the general economic conditions in our market areas. Specifically, the provision for loan losses represents the amount charged against current period earnings to achieve an allowance for loan losses that, in our judgment, is adequate to absorb probable incurred losses inherent in our loan portfolio. Periodic fluctuations in the provision for loan losses result from management’s assessment of the adequacy of the allowance for loan losses; however, actual loan losses may vary in material respects from current estimates. If the allowance for loan losses is inadequate, we may be required to record additional loan loss provision, which may have a material adverse effect on our business and our financial condition.
Comparison of 2018 with 2017
The provision for loan losses was $14.9 million for 2018, a decrease of $2.5 million, or 14%, from $17.4 million for 2017. The decrease in provision for loan losses for 2018 compared to 2017 was largely due the reduction in net charge-offs for 2018 compared to 2017. The allowance for loan losses requirement increased only slightly in 2018 to 0.77% of total loans compared to 0.76% of total loans for 2017. The reduction in net charge-offs for 2018 resulted in a reduction in reduction in provision for loans losses required to replenish the allowance for loan losses for the year. Net charge offs totaled $6.9 million for 2018 compared to $12.2 million for 2017.
Comparison of 2017 with 2016
The provision for loan losses was $17.4 million for 2017, an increase of $8.4 million, or 93%, from $9.0 million for 2016. The provision was calculated based on net charge offs of $12.2 million during the year and an increase in the required allowance for loan losses primarily due to an increase in loan volume which also contributed to the increase in provision.
See “Financial Condition—Allowance for Loan Losses” for a description of our methodology for determining the allowance for loan losses.
Noninterest Income
Noninterest income is primarily comprised of service charges on deposit accounts, net gains on sales of SBA and residential mortgage loans, and other fees and income. Noninterest income was $60.2 million for 2018 compared to $66.4 million for 2017 and $51.8 million for 2016.
Comparison of 2018 with 2017
The decrease in noninterest income for 2018 over 2017 primarily reflected decreases in service charges on deposit accounts, loan servicing fees, and net gain on sales of SBA and other loans.
Service charges on deposits decreased $2.1 million, or 10%, to $18.6 million due mostly to a decrease of $1.2 million in non-sufficient funds collected from business and personal accounts and a decrease of $758 thousand in analysis fees charged on demand deposits accounts.
Loan servicing fees decreased by $737 thousand, or 13.6%, to $4.7 million in 2018 compared to $5.4 million in 2017. The decrease in loan servicing fees in 2018 was primarily a result of an increase in payoffs of loans we service. When loans that we service are paid off, the remaining unamortized servicing asset originally recorded is charged against servicing fees reducing our overall fee income.
Net gains on sales of SBA loans decreased by $3.1 million, or 24%, to $9.7 million in 2018 from $12.8 million in 2017. The volume of sales of SBA loans and the net gains recorded from the sales largely depends on the production of SBA loans which decreased during in 2018. During the fourth quarter of 2018, we made the decision discontinue the practice of regularly selling the guaranteed portion of SBA loans on the secondary market and to retain these loans on our balance sheet due to the decline in premiums offered in the secondary market for the guaranteed portions SBA loans. SBA loans sold totaled $159.8 million in 2018 compared to $177.4 million in 2017.
Other income and fees increased by $625 thousand, or 4.2%, to $15.4 million in 2018 from $14.8 million in 2017. Other income and fees are comprised of loan recoveries on pre-merger charged-off loans, fair value changes of equity investments, swap fee income, gain/losses on sale of fixed assets, income from bank owned life insurance, and miscellaneous income. The increase in 2018 was largely due to an increase in the fair value of equity investments and recoveries on pre-merger charged off loans, offset by a decline in swap fee income, gain on sale of fixed assets, and miscellaneous income.
Comparison of 2017 with 2016
The increase in noninterest income for 2017 over 2016 primarily reflected increases in service charges on deposit accounts, loan servicing fees, net gain on sales of SBA loans, and other income and fees. These increases were largely due to the increase in operations from the acquisition of Wilshire.
Service charges on deposits increased $4.7 million, or 29%, to $20.6 million due mostly to an increase of $2.8 million in analysis fees charged on demand deposits accounts and an increase of $1.3 million in non-sufficient funds collected from business and personal accounts. The increase in deposits service charges in 2017 was largely due to the full year impact of the increase in deposits from the acquisition of Wilshire.
Loan servicing fees increased by $1.9 million, or 54%, to $5.4 million in 2017 compared to $3.5 million in 2016. The increase in loan servicing fees in 2017 was primarily a result of an increase in sales of residential loans and SBA loans in 2016 and 2017. We earn servicing fees on loans we continue to service subsequent to the sales of the loans. As more loans continue to be sold, our servicing fees continue to increase until the loans are paid off.
Net gains on sales of SBA loans increased by $4.0 million, or 46%, to $12.8 million in 2017 from $8.8 million in 2016. The volume of sales of SBA loans and the net gains recorded from the sales are primarily driven by the production of SBA loans which increased during in 2017. SBA loans sold totaled $177.4 million in 2017 compared to $116.1 million in 2016. The increase in SBA loans sold in 2017 was due to the full year operations of the combined bank after the acquisition of Wilshire, while 2016 represented only five months of combined operations.
Other income and fees increased by $3.1 million, or 27% in 2017 compared to 2016. Loan recoveries on pre-merger charged-off loans and miscellaneous income increased $1.2 million in 2017 and gains on sale of fixed assets increased by $1.0 million in 2017 compared to the previous year mostly due to the sale of a building and associated land at the end of 2017.
A breakdown of noninterest income by category is shown below:
| Year Ended December 31, 2018 | Increase (Decrease) | Year Ended December 31, 2017 | Increase (Decrease) | Year Ended December 31, 2016 | |||||||||||||||||||||
| (Dollars in thousands) | Amount | % | Amount | % | |||||||||||||||||||||
| Service fees on deposit accounts | $ | 18,551 | $ | (2,068 | ) | (10 | )% | $ | 20,619 | $ | 4,655 | 29 | % | $ | 15,964 | ||||||||||
| International service fees | 4,371 | (123 | ) | (3 | )% | 4,494 | 801 | 22 | % | 3,693 | |||||||||||||||
| Loan servicing fees, net | 4,696 | (737 | ) | (14 | )% | 5,433 | 1,914 | 54 | % | 3,519 | |||||||||||||||
| Wire transfer fees | 4,934 | (123 | ) | (2 | )% | 5,057 | 731 | 17 | % | 4,326 | |||||||||||||||
| Net gains on sales of SBA loans | 9,708 | (3,066 | ) | (24 | )% | 12,774 | 4,024 | 46 | % | 8,750 | |||||||||||||||
| Net gains on sales of other loans | 2,485 | (442 | ) | (15 | )% | 2,927 | 7 | — | % | 2,920 | |||||||||||||||
| Net gains on sales or called securities available for sale | — | (301 | ) | (100 | )% | 301 | (649 | ) | (68 | )% | 950 | ||||||||||||||
| Other income and fees | 15,435 | 625 | 4 | % | 14,810 | 3,113 | 27 | % | 11,697 | ||||||||||||||||
| Total noninterest income | $ | 60,180 | $ | (6,235 | ) | (9 | )% | $ | 66,415 | $ | 14,596 | 28 | % | $ | 51,819 | ||||||||||
Noninterest Expense
Noninterest expense is primarily comprised of salaries and benefit expense, occupancy expense, furniture and equipment expense, advertising expenses, data processing and communications expenses, professional fees, investment in affordable housing partnership expenses, and other expenses. Noninterest expense was $277.7 million for 2018, compared to $266.6 million for 2017 and $215.0 million for 2016. The increases in noninterest expenses were $11.1 million, or 4%, for 2018 compared to 2017, and $51.6 million, or 24%, for 2017 compared to 2016. Noninterest expense as a percentage of average assets for 2018 was 1.88% compared to 1.95% for 2017 and 2.08% for 2016.
Comparison of 2018 with 2017
The increase in noninterest expense for 2018 over 2017 was due mostly to increases in salaries and employee benefits, occupancy expenses, data processing expenses, professional fees, Federal Deposit Insurance Corporation (“FDIC”) assessment expenses, credit related expenses, and branch restructuring costs, partially offset by a decline in investment in affordable housing partnership expenses, OREO expenses, merger and integration expenses, and other expenses.
Salaries and employee benefits totaled $153.5 million for 2018, an increase of $8.9 million, or 6%, compared to $144.7 million for 2017. The increase was comprised of a $10.1 million increase in employee salary expenses and a decrease of $1.2 million in employee benefits. These increases reflect increases in the number of full-time equivalent employees to 1,494 at December 31, 2018, from 1,470 at December 31, 2017, as well as an increase in commission and other types of compensation. During the third quarter of 2018, we restructured our incentive compensation plans, which lowered our bonus accruals for the second half of 2018, offsetting a portion of the salaries and benefits increase due to the rise in employees. In order to improve our deposit mix, our incentive compensation plan was restructured so that a more significant portion of the incentive compensation is now tied to core deposit gathering.
Occupancy expense increased $1.8 million, or 6%, to $30.4 million for 2018 compared to $28.6 million for 2017. The increase in occupancy expense was due mostly to an increase in lease expenses as a result of annual rent escalations for 2018.
Data processing and communications expenses increased $2.1 million, or 17%, to $14.2 million for 2018 compared to $12.2 million for 2017. The increase in deposit and loan accounts in 2018 compared to 2017, led to an increase in the total number of deposit and loan transactions which resulted in higher data processing expenses paid for 2018 compared to 2017. During the fourth quarter of 2018, we renegotiated our contract with our core banking platform provider, whose fees make up a significant portion of our data processing and communications expenses. As a result of the newly negotiated contract, our fees related to the use of the third party core banking system will be reduced in future periods.
Professional fees increased $1.3 million, or 9%, to $16.3 million for 2018 compared to $15.0 million for 2017. Compliance requirements as a result of exceeding $10 billion in total assets has resulted in additional spending to improve upon our infrastructure in fields related to IT, accounting, compliance, and risk management. For 2018, management chose to deploy a portion of the savings in tax provision that resulted from the reduction in the corporate tax rate to improve certain key areas with the assistance of third party consultants. Professional fees for 2018 also included fees paid to third parties for assistance with the upcoming implementation of the new accounting standard for current expected credit loss and implementation of the new lease accounting standard.
Investments in affordable housing partnership expenses decreased $1.8 million, or 13%, to $12.1 million for 2018 compared to $13.9 million for 2017. In 2017, we recorded an impairment of $3.3 million on our investments in affordable housing partnerships after an analysis of the individual investment carrying values compared to their expected future tax benefits. We did not record an impairment on our investments in affordable housing partnerships in 2018 which resulted in a decline in investments in affordable housing partnership expenses. We make investments in affordable housing partnerships and receive Community Reinvestment Act credit and tax credits which reduces our overall tax provision expense. Investments in affordable housing partnership expenses that are not impairment related are based on the performance of the underlying investment. We receive updated financial information for our affordable housing partnerships investments and record losses based on the performance of the investment. These losses will eventually be offset by tax credits which reduce our tax provision expense. Investments in affordable housing partnerships increased from $81.0 million at December 31, 2017 to $92.0 million at December 31, 2018.
FDIC assessment expenses increased $1.4 million, or 27%, to $6.6 million for 2018 compared to $5.2 million for 2017. The FDIC assessment premium utilizes an initial base assessment rate which is calculated as a percentage of our average consolidated total assets less average tangible equity. In addition to the initial assessment base, adjustments are added based on our regulatory rating and certain financial measures. The increase in consolidated assets resulted in additional FDIC assessment premiums paid in 2018 compared to 2017. During the fourth quarter, the FDIC reached the minimum reserve ratio of 1.35% and announced it would no longer assess the large institution surcharge (surcharge on institution in excess of $10 billion in consolidated assets). As a result, we experienced a small decline in our FDIC assessment expense for the fourth quarter of 2018.
Credit related expenses increased $2.3 million, or 392%, to $2.9 million for 2018 compared to $582 thousand for 2017. Credit related expenses increased in 2018 compared to 2017 largely due to a decrease in provision reversals for off balance sheet unfunded commitments. For 2018, credit for off balance sheet unfunded commitments totaled $100 thousand compared to a credit off balance sheet unfunded commitments of $2.4 million for 2017. Reserves for off balance sheet unfunded commitments at December 31, 2018 totaled $736 thousand compared to $836 thousand at December 31, 2017.
OREO expenses decreased $2.9 million, or 94%, to $187 thousand in 2018 compared to $3.1 million in 2017. The decrease in OREO expense in 2018 was due to a reduction in OREO valuation expenses and a reduction in expenses related to the maintenance of OREO during the year. With the reduction in OREO balance, the related expenses have declined. The total balance of OREO at December 31, 2018 was $7.8 million compared to $10.8 million at December 31, 2017.
In December 2018, we incurred a restructuring charge of $1.7 million, related to our branch rationalization plan which was announced in December 2018. The branch rationalization plan is still subject to regulatory non-objection and is expected to be implemented by the second quarter of 2019. The branch rationalization plan will impact six of our branch offices across the country. With the consolidation of these branches, we project approximately $1.9 million in pretax cost savings on an annual basis. The $1.7 million in restructuring costs consisted of $229 thousand in salaries and benefit expenses, $957 thousand in occupancy expense, and $488 thousand in other various expenditures. There were no branch restructuring costs for 2017.
In 2018 we recorded a $7 thousand reversal to merger and integration expenses resulting in a decrease $1.8 million to total merger and integration expenses for 2018 compared to 2017. Merger and integration expenses for 2017 consisted of remaining expenses related to the merger with Wilshire and expenses for the terminated merger with U & I Financial Corp.
Other expenses decreased $1.1 million, or 7%, to $15.6 million in 2018 compared to $16.8 million in 2017. The decrease in other expenses was due to the decline in various other expenses in 2018 compared to the previous year.
Comparison of 2017 with 2016
The increase in noninterest expense for 2017 over 2016 was due mostly to increases in salaries and employee benefits, occupancy expenses, furniture and equipment, advertising and marketing, professional fees, and investment in affordable housing partnership expenses partially offset by a decline in merger and integration expenses and credit related expenses. Most noninterest expense line items aside from merger and integration expenses and credit related expense increased in 2017 compared to 2016 as expenses for 2017 represented a full year of combined operations after the merger with Wilshire, while 2016 represented only five months of combined operations and related expenditures.
Salaries and employee benefits totaled $144.7 million for 2017, an increase of $36.7 million, or 34%, compared to $107.9 million for 2016. The increase was comprised of a $28.2 million increase in employee salary expenses and an increase of $8.5 million in employee benefits. These increases primarily reflect increases in the number of full-time equivalent employees to 1,470 at December 31, 2017, from 1,372 as of December 31, 2016. The increase in salaries and employee benefits was due to an increase in full-time employees and because 2017 reflected a full year of combined expenses including staff acquired from Wilshire while 2016 reflected salary and benefit expenses for only the last five months of combined operations.
Occupancy expense increased $4.0 million, or 16%, to $28.6 million for 2017 compared to $24.6 million for 2016. With the acquisition of Wilshire, we assumed 35 branches offices and six loan production offices. Although some of these locations were subsequently closed in accordance with our branch consolidation plan, the remaining lease locations contributed to the overall increase in occupancy expenses for 2017 compared to 2016. The increase in expenses for 2017 was due to the full year of expenditure for leases acquired from Wilshire while 2016 expenditures included Wilshire related lease expenses for only the last five months of the year.
Furniture and equipment expenses increased $2.9 million, or 25%, to $14.6 million for 2017 compared to $11.7 million for 2016. The increase in these expenses in 2017 compared to the previous year was due to the full year of combined furniture and equipment expenses after the merger with Wilshire compared to only five months of expenses after the merger with Wilshire in 2016.
Advertising and marketing expenses increased $3.0 million, or 40%, to $10.3 million for 2017 compared to $7.3 million in 2016. Advertising and marketing expenses for 2017 included $1.5 million in fees paid to sponsor the Ladies Professional Golf Association (“LPGA”) Bank of Hope Founders Cup event for the first time in March 2017. The remaining increase in 2017 was due to a full year of expenses for the combined entity after the merger with Wilshire compared to five months of combined expenses for 2016.
Professional fees increased $8.4 million, or 128%, to $15.0 million for 2017 compared to $6.6 million for 2016. The increase in professional fees for 2017 compared 2016 was due to an increase in predecessor external auditor fees as well as additional consulting costs associated with new compliance requirements as a result of exceeding $10 billion in total assets. We also had an increase in legal fees for 2017 compared 2016, due mostly to fees related to the proposed merger with U & I Financial Corp. which was terminated in September 2017.
Investments in affordable housing partnership expenses increased $9.8 million, or 238%, to $13.9 million for 2017 compared to $4.1 million in 2016. In 2017, we recorded an impairment of $3.3 million on our investments in affordable housing partnerships after an analysis of the individual investment carrying values compared to their expected future tax benefits. We also recorded an impairment of $1.6 million as a direct result of the Tax Act, which reduced the corporate tax rate to 21%. The impairment that resulted due to the tax reform, was recorded as an increase in tax provision expense. Investments in affordable housing partnerships increased from $70.1 million at December 31, 2016 to $81.0 million at December 31, 2017.
Credit related expenses decreased $2.4 million, or 80%, to $582 thousand for 2017 compared to $3.0 million for 2016. Credit related expenses declined in 2017 compared to 2016 largely due to a $2.8 million provision reversal for off balance sheet unfunded commitments recorded during the third quarter of 2017. Updated information related to off balance sheet unfunded commitments and utilization rates used in the calculation of the allowance for unfunded commitments resulted in a $2.8 million reduction in the required allowance for the third quarter of 2017. Reserves for off balance sheet unfunded commitments at December 31, 2017 totaled $836 thousand compared to $3.2 million at December 31, 2016.
Merger and integration expenses decreased $15.1 million, or 89%, to $1.8 million for 2017 compared to $16.9 million for 2016. The decline in merger and integration expenses was due to a decline in expenses related to the merger with Wilshire. The bulk of merger and integration expenses for 2016 were for advisory and legal fees associated with the acquisition of Wilshire. With the merger completed in 2016, these expenses were greatly reduced in 2017. Merger and integration expense for 2017 mostly consisted of remaining expenses related to the merger with Wilshire but also included expenses for the now terminated merger with U & I Financial Corp.
Other expenses increased $2.0 million, or 13%, to $16.8 million in 2017 compared to $14.8 million in 2016. Amortization of core deposit intangible included in other expenses increased $1.0 million from $1.7 million in 2016 to $2.7 million in 2017. The increase in other expenses for 2017 was due to a full year of combined other expenses after the merger with Wilshire compared to only five months of combined expenses recorded for 2016.
A breakdown of noninterest expense by category is provided below:
| Year Ended December 31, 2018 | Increase (Decrease) | Year Ended December 31, 2017 | Increase (Decrease) | Year Ended December 31, 2016 | |||||||||||||||||||||
| (Dollars in thousands) | Amount | % | Amount | % | |||||||||||||||||||||
| Salaries and employee benefits | $ | 153,523 | $ | 8,854 | 6 | % | $ | 144,669 | $ | 36,725 | 34 | % | $ | 107,944 | |||||||||||
| Occupancy | 30,371 | 1,784 | 6 | % | 28,587 | 4,013 | 16 | % | 24,574 | ||||||||||||||||
| Furniture and equipment | 14,902 | 259 | 2 | % | 14,643 | 2,917 | 25 | % | 11,726 | ||||||||||||||||
| Advertising and marketing | 9,414 | (867 | ) | (8 | )% | 10,281 | 2,961 | 40 | % | 7,320 | |||||||||||||||
| Data processing and communications | 14,232 | 2,053 | 17 | % | 12,179 | 776 | 7 | % | 11,403 | ||||||||||||||||
| Professional fees | 16,286 | 1,332 | 9 | % | 14,954 | 8,398 | 128 | % | 6,556 | ||||||||||||||||
| Investment in affordable housing partnerships expenses | 12,066 | (1,796 | ) | (13 | )% | 13,862 | 9,762 | 238 | % | 4,100 | |||||||||||||||
| FDIC assessments | 6,572 | 1,399 | 27 | % | 5,173 | 1,008 | 24 | % | 4,165 | ||||||||||||||||
| Credit related expenses | 2,863 | 2,281 | 392 | % | 582 | (2,372 | ) | (80 | )% | 2,954 | |||||||||||||||
| OREO expense, net | 187 | (2,913 | ) | (94 | )% | 3,100 | 608 | 24 | % | 2,492 | |||||||||||||||
| Branch restructuring costs | 1,674 | 1,674 | 100 | % | — | — | — | % | — | ||||||||||||||||
| Merger and integration expense | (7 | ) | (1,788 | ) | N/A | 1,781 | (15,133 | ) | (89 | )% | 16,914 | ||||||||||||||
| Other | 15,643 | (1,147 | ) | (7 | )% | 16,790 | 1,963 | 13 | % | 14,827 | |||||||||||||||
| Total noninterest expense | $ | 277,726 | $ | 11,125 | 4 | % | $ | 266,601 | $ | 51,626 | 24 | % | $ | 214,975 | |||||||||||
Income Tax Provision
The provision for income taxes for 2018 was $65.9 million, compared to $124.4 million in 2017 and $77.5 million in 2016. The effective income tax rate was 25.79% for 2018 compared to 47.15% for 2017 and 40.51% for 2016. On December 22, 2017, the U.S. government enacted comprehensive tax legislation commonly referred to as the Tax Cuts and Jobs Act which among other changes, reduces the U.S. federal corporate tax rate from 35% to 21%. As a result of the Tax Act, our overall tax rate declined for 2018 compared to 2017. For 2017, we had to reassess our net deferred tax assets and investments in affordable housing partnerships at the lower tax rate. This resulted in additional tax provision expenses of $25.4 million for 2017 increasing the tax rate compared to 2016. See Note 11 of Notes to Consolidated Financial Statements for more detailed information on income taxes.
Financial Condition
Our total assets were $15.31 billion at December 31, 2018 compared to $14.21 billion at December 31, 2017, an increase of $1.10 billion, or 8% year over year. The increase in assets for 2018 compared to 2017 was principally due to the increase in loans from higher loan originations in 2018 as well as an increase in investment securities due to purchases throughout the year.
Loan Portfolio
We offer a variety of products designed to meet the credit needs of our borrowers. Our lending activities primarily consist of commercial real estate loans, commercial business loans, trade finance, and consumer loans. Gross loans receivable rose by $995.5 million to $12.10 billion at December 31, 2018 from $11.10 billion at December 31, 2017. The remaining discount on acquired loans at December 31, 2018 totaled $65.6 million compared to $85.5 million at December 31, 2017.
We experienced an increase in all loan types except for construction loans in 2018 compared to the previous year. The rates of interest charged on adjustable rate loans are set at specified spreads based on the prime lending rate and LIBOR rates and vary as the prime lending rate and LIBOR rates varies. Approximately 38% of our total loans were adjustable rate loans at December 31, 2018 compared to 43% at December 31, 2017. Commercial real estate loans as a percentage to total loans declined to 71% for 2018 compared to 76% for 2017 due to the increase in commercial and consumer loans which make up a larger percentage of our loan portfolio for 2018 compared to the previous year. The increase consumer loans for 2018 compared to 2017 was due to the increase in origination for 1-4 family residential loans.
With certain exceptions, we are permitted under applicable law to make unsecured loans to single borrowers (including certain related persons and entities) in aggregate amounts of up to 15% of the sum of our total capital and our allowance for loan losses (as defined for regulatory purposes) at the Bank level and certain capital notes and debentures issued by us, if any. As of December 31, 2018, our lending limit was approximately $341.2 million per borrower for unsecured loans. For lending limit purposes, a secured loan is defined as a loan secured by collateral having a current fair value of at least 100% of the amount of the loan or extension of credit at all times and satisfying certain other requirements. In addition to unsecured loans, we are permitted to make such collateral-secured loans in an additional amount up to 10% (for a total of 25%) of our total capital and the allowance for loan losses for a total limit of approximately $568.6 million to one borrower as of December 31, 2018. The largest aggregate amount of loans that the Bank had outstanding to any one borrower and related entities was $150.8 million, of which the entire amount was performing and in good standing at December 31, 2018.
The following table shows the composition of our loan portfolio by type of loan on the dates indicated:
| December 31, | ||||||||||||||||||||||||||||||||||
| 2018 | 2017 | 2016 | 2015 | 2014 | ||||||||||||||||||||||||||||||
| Amount | % | Amount | % | Amount | % | Amount | % | Amount | % | |||||||||||||||||||||||||
| (Dollars in thousands) | ||||||||||||||||||||||||||||||||||
| Loan portfolio composition: | ||||||||||||||||||||||||||||||||||
| Commercial real estate loans: | ||||||||||||||||||||||||||||||||||
| Residential | $ | 51,197 | — | % | $ | 49,774 | — | % | $ | 57,884 | 1 | % | $ | 33,797 | — | % | $ | 21,415 | — | % | ||||||||||||||
| Commercial | 8,395,327 | 69 | % | 8,142,036 | 73 | % | 7,842,573 | 75 | % | 4,912,655 | 78 | % | 4,324,349 | 78 | % | |||||||||||||||||||
| Construction | 275,076 | 2 | % | 316,412 | 3 | % | 254,113 | 2 | % | 123,030 | 2 | % | 94,086 | 2 | % | |||||||||||||||||||
| Total commercial real estate loans | 8,721,600 | 71 | % | 8,508,222 | 76 | % | 8,154,570 | 78 | % | 5,069,482 | 80 | % | 4,439,850 | 80 | % | |||||||||||||||||||
| Commercial business | 2,127,630 | 18 | % | 1,780,869 | 16 | % | 1,832,021 | 17 | % | 980,153 | 16 | % | 903,621 | 16 | % | |||||||||||||||||||
| Trade finance | 197,190 | 2 | % | 166,664 | 2 | % | 154,928 | 1 | % | 99,163 | 2 | % | 134,762 | 2 | % | |||||||||||||||||||
| Consumer and other | 1,051,486 | 9 | % | 647,102 | 6 | % | 403,470 | 4 | % | 102,573 | 2 | % | 89,849 | 2 | % | |||||||||||||||||||
| Total loans outstanding | 12,097,906 | 100 | % | 11,102,857 | 100 | % | 10,544,989 | 100 | % | 6,251,371 | 100 | % | 5,568,082 | 100 | % | |||||||||||||||||||
| Less: deferred loan costs (fees) | 209 | (282 | ) | (1,657 | ) | (3,030 | ) | (2,890 | ) | |||||||||||||||||||||||||
| Gross loans receivable | 12,098,115 | 11,102,575 | 10,543,332 | 6,248,341 | 5,565,192 | |||||||||||||||||||||||||||||
| Less: allowance for loan losses | (92,557 | ) | (84,541 | ) | (79,343 | ) | (76,408 | ) | (67,758 | ) | ||||||||||||||||||||||||
| Loans receivable, net | $ | 12,005,558 | $ | 11,018,034 | $ | 10,463,989 | $ | 6,171,933 | $ | 5,497,434 | ||||||||||||||||||||||||
Commercial Real Estate Loans
Our commercial real estate loans consist primarily of loans secured by deeds of trust on commercial real estate, including SBA loans secured by commercial real estate. It is our general policy to restrict commercial real estate loan amounts to 75% of the appraised value of the property at the time of loan funding. We offer both fixed and floating interest rate loans. The maturities on such loans are generally up to seven years (with payments determined on the basis of principal amortization schedules of up to 25 years and a balloon payment due at maturity). Real estate loans secured by non-consumer residential real estate comprise less than 1% of the total loan portfolio (consumer residential mortgage loans are classified separately and included in consumer loans). Construction loans are also a small portion of the total real estate portfolio, comprising approximately 2% of total loans outstanding. Total real estate loans, consisting primarily of commercial real estate loans, increased $213.4 million or, 3%, to $8.72 billion at December 31, 2018 from $8.51 billion at December 31, 2017. Although commercial real estate originations declined slightly in 2018 compared to 2017, the decline in payoff and pay-downs resulted in a small increase in commercial real estate loans for 2018 compared to 2017.
Other Loans
Commercial business loans include term loans to businesses, lines of credit, trade finance facilities, commercial SBA loans, equipment leasing loans, and warehouse lines of credit. Business term loans are generally provided to finance business acquisitions, working capital, and/or equipment purchases. Lines of credit are generally provided to finance short-term working capital needs. Trade finance facilities are generally provided to finance import and export activities. SBA loans are provided to small businesses under the U.S. SBA guarantee program. Short-term credit facilities (payable within one year) typically provide for periodic interest payments, with principal payable at maturity. Term loans (usually 5 to 7 years) normally provide for monthly payments of both principal and interest. SBA commercial loans usually have a longer maturity (7 to 10 years). These credits are reviewed on a periodic basis, and most loans are secured by business assets and/or real estate. Warehouse lines of credit are utilized by mortgage originators to fund mortgages which are then pledged to the Bank as collateral until the mortgage loans are sold and the lines of credit are paid down. The typical duration of these lines of credit from the time of funding to pay-down ranges from 10-30 days. Although collateralized by mortgage loans, the structure of warehouse lending agreements results in the commercial business classification for warehouse lines of credit. During 2018, commercial business loans increased $346.8 million, or 19%, to $2.13 billion at December 31, 2018 from $1.78 billion at December 31, 2017. The increase in commercial business loans was due to an increase in commercial lines of credit and commercial term loans. Consumer loans comprise approximately 9% of the total loan portfolio. Most of our consumer loan portfolio, approximately 95%, consists of single-family mortgages, but also include automobile loans, home equity lines and loans, signature term loans and lines of credit, and credit card loans. Consumer loans increased $404.4 million, or 62%, to $1.05 billion at December 31, 2018 from $647.1 million at December 31, 2017. The increase in consumer loans was due primarily to the increase in originations of single-family mortgages in 2018.
We provide lines of credit to business customers usually on an annual renewal basis. We normally do not make loan commitments in material amounts for periods in excess of one year.
The following table shows our loan commitments and letters of credit outstanding at the dates indicated:
| December 31, | |||||||||||||||||||
| 2018 | 2017 | 2016 | 2015 | 2014 | |||||||||||||||
| (Dollars in thousands) | |||||||||||||||||||
| Commitments to extend credit | $ | 1,712,032 | $ | 1,526,981 | $ | 1,592,221 | $ | 802,251 | $ | 586,714 | |||||||||
| Standby letters of credit | 69,763 | 74,748 | 63,753 | 45,083 | 41,987 | ||||||||||||||
| Other commercial letters of credit | 65,822 | 74,147 | 52,125 | 36,256 | 37,439 | ||||||||||||||
| Total | $ | 1,847,617 | $ | 1,675,876 | $ | 1,708,099 | $ | 883,590 | $ | 666,140 | |||||||||
Nonperforming Assets
Nonperforming assets consist of nonaccrual loans, accruing loans that are 90 days or more past due, accruing restructured loans, and OREO.
Loans are placed on nonaccrual status when they become 90 days or more past due, unless the loan is both well-secured and in the process of collection. Loans may be placed on nonaccrual status earlier if the full and timely collection of principal or interest becomes uncertain. When a loan is placed on nonaccrual status, unpaid accrued interest is charged against interest income. Loans are charged off when collection of the loan is determined to be unlikely. Loans are restructured when, for economic or legal reasons related to the borrower’s financial difficulties, the Bank grants a concession to the borrower that it would not otherwise consider. OREO consists of real estate acquired by the Bank through foreclosure or similar means, including by deed from the owner in lieu of foreclosure, and is held for future sale.
Nonperforming assets were $113.0 million at December 31, 2018 compared to $125.2 million at December 31, 2017. Nonperforming assets at December 31, 2018 decreased from nonperforming assets at December 31, 2017 due to the decreases in accruing restructured loans and OREO which was partially offset by an increase in nonaccrual loans . The following table illustrates the composition of nonperforming assets and nonperforming loans by legacy loans (loans originated by us) and acquired loans (excluding PCI loans) as of the dates indicated:
| December 31, | |||||||||||||||||||
| 2018 | 2017 | 2016 | 2015 | 2014 | |||||||||||||||
| (Dollars in thousands) | |||||||||||||||||||
| Nonaccrual loans | $ | 53,286 | $ | 46,775 | $ | 40,074 | $ | 40,801 | $ | 46,353 | |||||||||
| Loans past due 90 days or more and still accruing | 1,529 | 407 | 305 | 375 | 361 | ||||||||||||||
| Accruing restructured loans | 50,410 | 67,250 | 48,874 | 47,984 | 57,128 | ||||||||||||||
| Total nonperforming loans | 105,225 | 114,432 | 89,253 | 89,160 | 103,842 | ||||||||||||||
| Other real estate owned | 7,754 | 10,787 | 21,990 | 21,035 | 21,938 | ||||||||||||||
| Total nonperforming assets | $ | 112,979 | $ | 125,219 | $ | 111,243 | $ | 110,195 | $ | 125,780 | |||||||||
| Nonaccrual loans: | |||||||||||||||||||
| Legacy Portfolio | $ | 42,248 | $ | 28,235 | $ | 28,944 | $ | 28,469 | $ | 28,815 | |||||||||
| Acquired Portfolio | 11,038 | 18,540 | 11,130 | 12,332 | 17,538 | ||||||||||||||
| Total nonaccrual loans | $ | 53,286 | $ | 46,775 | $ | 40,074 | $ | 40,801 | $ | 46,353 | |||||||||
| Nonperforming loans: | |||||||||||||||||||
| Legacy Portfolio | $ | 75,859 | $ | 77,305 | $ | 74,890 | $ | 73,422 | $ | 83,609 | |||||||||
| Acquired Portfolio | 29,366 | 37,127 | 14,363 | 15,738 | 20,233 | ||||||||||||||
| Total nonperforming loans | $ | 105,225 | $ | 114,432 | $ | 89,253 | $ | 89,160 | $ | 103,842 | |||||||||
Maturity of Loans
The following table illustrates the maturity distribution intervals of loans outstanding as of December 31, 2018.
| December 31, 2018 | |||||||||||||||
| Loans Maturing | |||||||||||||||
Within One Year | After One to Five Years | After Five Years | Total Loans Outstanding | ||||||||||||
| (Dollars in thousands) | |||||||||||||||
| Real estate loans: | |||||||||||||||
| Residential | $ | 9,163 | $ | 33,077 | $ | 8,957 | $ | 51,197 | |||||||
| Commercial | 687,026 | 3,542,013 | 4,166,288 | 8,395,327 | |||||||||||
| Construction | 239,559 | 35,517 | — | 275,076 | |||||||||||
| Total real estate loans | 935,748 | 3,610,607 | 4,175,245 | 8,721,600 | |||||||||||
| Commercial business loans | 991,328 | 587,999 | 548,303 | 2,127,630 | |||||||||||
| Trade finance loans | 188,460 | 8,730 | — | 197,190 | |||||||||||
| Consumer loans | 35,156 | 18,275 | 998,055 | 1,051,486 | |||||||||||
| Total loans outstanding | $ | 2,150,692 | $ | 4,225,611 | $ | 5,721,603 | $ | 12,097,906 | |||||||
| Fixed interest rate* | $ | 530,413 | $ | 2,937,063 | $ | 4,088,661 | $ | 7,556,137 | |||||||
| Variable interest rate | 1,620,279 | 1,288,548 | 1,632,942 | 4,541,769 | |||||||||||
| Total loans outstanding | $ | 2,150,692 | $ | 4,225,611 | $ | 5,721,603 | $ | 12,097,906 | |||||||
* Includes hybrid loans (loans with fixed interest rates for a specified period and then convert to variable interest rates) in fixed interest rate periods as of December 31, 2018.
Concentrations
Our lending activities are predominately in California, New Jersey and the New York City, Houston, Dallas, Chicago, and Seattle metropolitan areas. At December 31, 2018, loans from California represented 68.1% of the total loans outstanding and loans from New York and New Jersey represented 13.9%. The remaining 18.0% of total loans outstanding represented loans from other states. Although we have a diversified loan portfolio, a substantial portion of the loan portfolio and credit performance depends on the economic stability of Southern California. Within the California market, most of our business activity is with customers located within Southern California (59.0%). Therefore, our exposure to credit risk is significantly affected by changes in the economy in the Southern California area. Within our commercial real estate loan portfolio, the largest industry concentrations are retail building (20.1%), hotel/motel (19.4%), gas station & car wash (11.2%), and industrial & warehouse (10.4%). Within our commercial and industrial loan portfolio, the largest industry concentrations are wholesalers (25.3%), manufacturing (13.9%), retail trade (13.6%), and services (8.2%).
Allowance for Loan Losses
The Bank has implemented a multi-faceted process to identify, manage, and mitigate the credit risks that are inherent in the loan portfolio. For new loans, each loan application package is fully analyzed by experienced reviewers and approvers. In accordance with current lending approval authority guidelines, a majority of loans are approved by the Management Loan Committee (“MLC”) and Directors Loan Committee (“DLC”). For existing loans, the Bank maintains a systematic loan review program, which includes internally conducted reviews and periodic reviews by external loan review consultants. Based on these reviews, loans are graded as to their overall credit quality, which is measured based on: payment capacity and collateral documentation; proper lien perfection; proper approval by loan committee(s); adherence to any loan agreement covenants; compliance with internal policies and procedures, and with laws and regulations; adequacy and strength of repayment sources including borrower or collateral generated cash flow; payment performance; and liquidation value of the collateral. We closely monitor loans that management has determined require further supervision because of the loan size, loan structure, and/or specific circumstances of the borrower.
When principal or interest on a loan is 90 days or more past due, a loan is generally placed on nonaccrual status unless it is considered to be both well-secured and in the process of collection. Further, a loan is considered a loss in whole or in part when (1) it appears that loss exposure on the loan exceeds the collateral value for the loan, (2) servicing of the unsecured portion has been discontinued, or (3) collection is not anticipated due to the borrower’s financial condition and general economic conditions in the borrower’s industry. Any loan or portion of a loan judged by management to be uncollectible is charged against the allowance for loan losses, while any recoveries are credited to the allowance.
The allowance for loan losses was $92.6 million at December 31, 2018, compared to $84.5 million at December 31, 2017. We recorded provisions for loan losses of $14.9 million in 2018 compared to $17.4 million in 2017, and $9.0 million in 2016. During 2018, we charged off $10.9 million in loans outstanding and recovered $4.0 million in loans previously charged off. Total Criticized Loans, or loan rated special mention, substandard, doubtful, or loss at December 31, 2018 totaled $481.4 million compared to $568.5 million at December 31, 2017. The allowance for loan losses was 0.77% of gross loans at December 31, 2018 compared to 0.76% at December 31, 2017. In addition to allowance for loan losses, we had $736 thousand in allowances for unfunded loan commitments as of December 31, 2018, compared to $836 thousand as of December 31, 2017.
For loans not classified as impaired loans, general loan loss allowances are provided to cover probable and incurred losses. The allowance is determined based first on a quantitative analysis using a loss migration methodology. The loans are classified by type and loan grade and the historical loss migration is tracked for the various stratifications. We further segregate these stratifications between loans accounted for under the amortized cost method (referred to as “Legacy Loans”) and loans previously acquired (referred to as “Acquired Loans”), as acquired loans were originally recorded at fair value with no carryover of the related allowance for loan losses. See “Financial Condition—Allowance for Loan Losses Methodology” for a detailed description of our loan loss methodology.
Impaired loans as defined by ASC 310-10-35, totaled $104.0 million and $114.3 million, as of December 31, 2018 and December 31, 2017, respectively, with specific allowances of $4.8 million and $5.3 million, respectively. The MLC, DLC, and the Management ALLL Committee of the Bank all review the adequacy of the allowance for loan losses on at least a quarterly basis and more frequently as needed. Based upon these evaluations and internal and external reviews of the overall quality of our loan portfolio, we believe that the allowance for loan losses was adequate to absorb estimated probable incurred losses inherent in the loan portfolio as of December 31, 2018. However, no assurances can be given that the Bank will not experience further losses in excess of the allowance, which may require additional future provisions for loan losses.
The following table presents total nonaccrual and delinquent loans (loans past due 30 to 89 days) as of the dates indicated:
| December 31, | |||||||||||||||||||
| 2018 | 2017 | 2016 | 2015 | 2014 | |||||||||||||||
| (Dollars in thousands) | |||||||||||||||||||
| Real estate—Residential | $ | — | $ | — | $ | 679 | $ | — | $ | — | |||||||||
| Real estate—Commercial | 38,260 | 33,838 | 37,649 | 28,085 | 34,051 | ||||||||||||||
| Real estate—Construction | — | 1,300 | 2,813 | 1,369 | 1,521 | ||||||||||||||
| Commercial business | 21,187 | 25,546 | 13,076 | 15,893 | 12,875 | ||||||||||||||
| Trade finance | 2,697 | — | 2,556 | 1,731 | 3,194 | ||||||||||||||
| Consumer and other | 18,235 | 10,451 | 1,643 | 2,087 | 1,211 | ||||||||||||||
| Total Nonaccrual and Delinquent Loans | $ | 80,379 | $ | 71,135 | $ | 58,416 | $ | 49,165 | $ | 52,852 | |||||||||
| Nonaccrual loans included above | $ | 53,286 | $ | 46,775 | $ | 40,074 | $ | 40,801 | $ | 46,353 | |||||||||
We categorize loans into risk categories based on relevant information about the ability of borrowers to service their debt including but not limited to: current financial information, historical payment experience, credit documentation, public information, and current economic trends. We analyze loans individually by classifying the loans as to credit risk. This analysis includes all non-homogeneous loans. Homogeneous loans are not risk rated and credit risk is analyzed largely by the number of days past due.
This analysis is performed on at least a quarterly basis. We use the following definitions for risk ratings:
Pass: Loans that meet a preponderance or more of our underwriting criteria and evidence an acceptable level of risk.
Special Mention: Loans that have potential weaknesses that deserve management’s close attention. If left uncorrected, these potential weaknesses may result in deterioration of the repayment prospects for the loan or of the institution’s credit position at some future date.
Substandard: Loans classified as substandard are inadequately protected by the current net worth and paying capacity of the borrower or of the collateral pledged, if any. Loans so classified have a well-defined weakness or weaknesses that jeopardize the repayment of the debt. They are characterized by the distinct possibility that the institution will sustain some loss if the deficiencies are not corrected.
Doubtful/Loss: Loans classified as doubtful have all the weaknesses inherent in those classified as substandard with the added characteristic that the weaknesses make collection or repayment in full, on the basis of currently existing facts, conditions, and values, highly questionable and improbable.
Loans assigned a risk rating of Special Mention, Substandard, Doubtful, or Loss are referred to as Criticized Loans and loans assigned a risk rating of Substandard, Doubtful, or Loss are separately referred to as Classified Loans. The following table provides the detail of Criticized Loans by risk rating as of the dates indicated:
| December 31, | |||||||||||||||||||
| 2018 | 2017 | 2016 | 2015 | 2014 | |||||||||||||||
| (Dollars in thousands) | |||||||||||||||||||
| Special Mention | $ | 163,089 | $ | 214,891 | $ | 243,656 | $ | 104,186 | $ | 122,335 | |||||||||
| Substandard | 317,915 | 353,222 | 311,106 | 201,362 | 221,875 | ||||||||||||||
| Doubtful/Loss | 412 | 362 | 1,949 | 2,214 | 2,187 | ||||||||||||||
| Total Criticized Loans | $ | 481,416 | $ | 568,475 | $ | 556,711 | $ | 307,762 | $ | 346,397 | |||||||||
The following table shows the provision for loan losses, the amount of loans charged off, and recoveries on loans previously charged off together with the balance in the allowance for loan losses at the beginning and end of each year, the amount of average and total loans outstanding as well as other pertinent ratios as of the dates and for the years indicated:
| At or For The Year Ended December 31, | |||||||||||||||||||
| 2018 | 2017 | 2016 | 2015 | 2014 | |||||||||||||||
| (Dollars in thousands) | |||||||||||||||||||
| LOANS: | |||||||||||||||||||
| Average loans receivable, including loans held for sale (net of deferred fees) | $ | 11,547,022 | $ | 10,642,349 | $ | 8,121,897 | $ | 5,846,658 | $ | 5,355,243 | |||||||||
| Total loans receivables, excluding loans held for sale (net of deferred fees) | 12,098,115 | 11,102,575 | 10,543,332 | 6,248,341 | 5,565,192 | ||||||||||||||
| ALLOWANCE: | |||||||||||||||||||
| Balance—beginning of year | 84,541 | 79,343 | 76,408 | 67,758 | 67,320 | ||||||||||||||
| Loans charged off: | |||||||||||||||||||
| Commercial real estate | 6,726 | 3,142 | 910 | 741 | 2,726 | ||||||||||||||
| Commercial business and trade finance | 2,891 | 13,300 | 7,293 | 3,530 | 14,933 | ||||||||||||||
| Consumer and other loans | 1,258 | 968 | 757 | 641 | 100 | ||||||||||||||
| Total loans charged off | 10,875 | 17,410 | 8,960 | 4,912 | 17,759 | ||||||||||||||
| Less recoveries: | |||||||||||||||||||
| Commercial real estate | 1,028 | 212 | 1,187 | 1,947 | 963 | ||||||||||||||
| Commercial business and trade finance | 2,892 | 4,996 | 1,614 | 3,011 | 4,366 | ||||||||||||||
| Consumer and other loans | 71 | 40 | 94 | 604 | 230 | ||||||||||||||
| Total loan recoveries | 3,991 | 5,248 | 2,895 | 5,562 | 5,559 | ||||||||||||||
| Net loans charged off (recovered) | 6,884 | 12,162 | 6,065 | (650 | ) | 12,200 | |||||||||||||
| Provision for loan losses | 14,900 | 17,360 | 9,000 | 8,000 | 12,638 | ||||||||||||||
| Balance—end of year | $ | 92,557 | $ | 84,541 | $ | 79,343 | $ | 76,408 | $ | 67,758 | |||||||||
| RATIOS: | |||||||||||||||||||
| Net loan charge-offs (recoveries) to average loans | 0.06 | % | 0.11 | % | 0.07 | % | (0.01 | )% | 0.23 | % | |||||||||
| Allowance for loan losses to total loans receivable | 0.77 | % | 0.76 | % | 0.75 | % | 1.22 | % | 1.22 | % | |||||||||
| Net loan charge-offs (recoveries) to allowance for loan losses | 7.44 | % | 14.39 | % | 7.64 | % | (0.85 | )% | 18.01 | % | |||||||||
| Net loan charge-offs (recoveries) to provision for loan losses | 46.20 | % | 70.06 | % | 67.39 | % | (8.13 | )% | 96.53 | % | |||||||||
| Allowance for loan losses to nonperforming loans | 87.96 | % | 73.88 | % | 88.90 | % | 85.70 | % | 65.25 | % | |||||||||
Allowance for Loan Losses Methodology
We maintain an allowance for loan losses to provide for estimated probable losses that are inherent in our loan portfolio. The allowance is based on our regular quarterly assessments. Our methodologies for measuring the appropriate level of the allowance include the combination of: (1) a quantitative historical loss migration analysis (“Migration Analysis”) for pools of loans and a qualitative analysis of subjective factors and (2) a specific allowance method for impaired loans.
The following table reflects our allocation of the allowance for loan losses by loan category and the ratio of each loan category to total loans as of the dates indicated:
| December 31, | ||||||||||||||||||||||||||||||||||
| 2018 | 2017 | 2016 | 2015 | 2014 | ||||||||||||||||||||||||||||||
| Amount of allowance for loan losses | Percent of loans to total loans | Amount of allowance for loan losses | Percent of loans to total loans | Amount of allowance for loan losses | Percent of loans to total loans | Amount of allowance for loan losses | Percent of loans to total loans | Amount of allowance for loan losses | Percent of loans to total loans | |||||||||||||||||||||||||
| (Dollars in thousands) | ||||||||||||||||||||||||||||||||||
| Loan Type | ||||||||||||||||||||||||||||||||||
Real estate—residential | $ | 112 | — | % | $ | 88 | — | % | $ | 209 | 1 | % | $ | 230 | — | % | $ | 146 | — | % | ||||||||||||||
Real estate—commercial | 55,890 | 69 | % | 57,664 | 73 | % | 49,917 | 75 | % | 54,505 | 78 | % | 46,535 | 78 | % | |||||||||||||||||||
Real estate—construction | 765 | 2 | % | 930 | 3 | % | 1,621 | 2 | % | 917 | 2 | % | 667 | 2 | % | |||||||||||||||||||
| Commercial business | 27,765 | 18 | % | 20,755 | 16 | % | 23,547 | 17 | % | 16,547 | 16 | % | 16,471 | 16 | % | |||||||||||||||||||
| Trade finance | 719 | 2 | % | 1,716 | 2 | % | 1,897 | 1 | % | 3,592 | 2 | % | 3,456 | 2 | % | |||||||||||||||||||
| Consumer and other | 7,306 | 9 | % | 3,388 | 6 | % | 2,152 | 4 | % | 617 | 2 | % | 483 | 2 | % | |||||||||||||||||||
| Total | $ | 92,557 | 100 | % | $ | 84,541 | 100 | % | $ | 79,343 | 100 | % | $ | 76,408 | 100 | % | $ | 67,758 | 100 | % | ||||||||||||||
The adequacy of the allowance for loan losses is determined by management based upon an evaluation and review of the credit quality of the loan portfolio, consideration of historical loan loss migration experience, relevant internal and external factors that affect the collection of a loan, and other pertinent factors.
The Migration Analysis is a formula methodology based on the Bank’s actual historical net charge off experience for each loan pool and loan risk grade (Pass, Special Mention, Substandard and Doubtful). The migration analysis is centered on the Bank’s internal credit risk rating system. Our internal and external credit reviews are used to determine and validate loan risk grades. This credit review system takes into consideration factors such as: borrower’s background and experience; historical and current financial condition; credit history and payment performance; economic conditions and their impact on various industries; type, fair value, and volatility of the value of collateral; lien position; and the financial strength of any guarantors.
A general loan loss allowance is provided on loans not specifically identified as impaired (“non-impaired loans”). For non- impaired loans, including loans acquired without credit deterioration, the allowance is determined first based on a quantitative analysis using a loss migration methodology. The loans are classified by type and loan grade and the historical loss migration is tracked for the various stratifications. Loss experience is quantified for a specified period determined by management and then weighted to give more weight to the most recent periods. That loss experience is then applied to the stratified portfolio at the end of each quarter. As of December 31, 2018, we utilized nineteen non-homogeneous loan pools in the quantitative analysis process. The non-impaired commercial real estate loan portfolio was stratified into fourteen different loan pools based on such reviewsproperty types and discussions, has recommendedthe non-impaired commercial and industrial loan portfolio was stratified into five different loan pools based on loan type in order to allocate historic loss experience to more granular loan pools.
Additionally, in order to systematically quantify the credit risk impact of other trends and changes within the loan portfolio, the Bank utilizes qualitative adjustments to the Migration Analysis within established parameters. The parameters for making adjustments are established under a Credit Risk Matrix that provides seven possible scenarios for each of the factors below. The matrix allows for up to three positive (major, moderate and minor), three negative (major, moderate and minor), and one neutral credit risk scenarios within each factor for each loan type pool. Generally, the factors are considered to have no significant impact (neutral) to our historical migration ratios. However, if information exists to warrant adjustment to the Migration Analysis, changes are made in accordance with the established parameters supported by narrative and/or statistical analysis. The Credit Risk Matrix and the nine possible scenarios enable the Bank to qualitatively adjust the Loss Migration Ratio or individual specific reserve allocations by as much as 50 basis points in either direction (positive or negative) for each loan type pool. This matrix considers the following nine factors, which are patterned after the guidelines provided under the Federal Financial Institutions Examination Council (“FFIEC”) Interagency Policy Statement on the Allowance for Loan and Lease Losses:
Changes in lending policies and procedures, including underwriting standards and collection, charge-off and recovery practices.
Changes in national and local economic and business conditions and developments, including the condition of various market segments.
Changes in the nature and volume of the loan portfolio.
Changes in the experience, ability and depth of lending management and staff.
Changes in the trends of the volume and severity of past due and classified loans and changes in trends in the volume of nonaccrual loans, troubled debt restructurings and other loan modifications.
Changes in the quality of our loan review system and the degree of oversight by the Directors.
Changes in the value of underlying collateral for collateral dependent loans.
The existence and effect of any concentrations of credit, and changes in the level of such concentrations.
The effect of external factors such as competition and legal and regulatory requirements on the level of estimated losses in our loan portfolio.
We also establish specific loss allowances for loans where we have identified potential credit risk conditions or circumstances related to a specific individual credit. The specific allowance amounts are determined by a method prescribed by ASC 310-10-35-22, Measurement of Impairment. The loans identified as impaired are accounted for in accordance with one of the three acceptable valuation methods: 1) the present value of future cash flows discounted at the loan’s effective interest rate; 2) the loan’s observable market price; or 3) the fair value of the collateral, if the loan is collateral dependent. For the collateral dependent impaired loans, we obtain an appraisal to determine the amount of impairment as of the date that the loan became impaired. The appraisals are based on an “as is” valuation. To ensure that appraised values remain current, we generally obtain either an internally prepared evaluation report or an updated appraisal every twelve months from a qualified independent appraiser. If the fair value of the collateral, less cost to sell, is less than the recorded amount of the loan, we then recognize impairment by creating or adjusting an existing valuation allowance with a corresponding charge to the provision for loan losses. If an impaired loan is expected to be collected through liquidation of the collateral, the loan is deemed to be collateral dependent and the amount of impairment is charged off against the allowance for loan losses.
We consider a loan to be impaired when it is probable that not all amounts due (principal and interest) will be collectible in accordance with the contractual terms of the loan agreement. Factors considered by management in determining impairment include payment status, collateral value and the probability of collecting scheduled principal and interest payments when due. Loans that experience insignificant payment delays and payment shortfalls generally are not classified as impaired. The significance of payment delays and payment shortfalls is determined on a case-by-case basis by taking into consideration all of the circumstances surrounding the loan and the borrower, including the length of the delay, the reasons for the delay, the borrower’s prior payment record and the amount of the shortfall in relation to the principal and interest owed.
For commercial business loans, real estate loans and certain consumer loans, we base the measurement of loan impairment on the present value of the expected future cash flows, discounted at the loan’s effective interest rate or on the fair value of the loan’s collateral if the loan is collateral dependent. The scope for evaluation of individual impairment includes all loans greater than $500 thousand risk graded Substandard, Doubtful, Loss, or classified as troubled debt restructurings (“TDRs”). Management evaluates most consumer loans for impairment on a collective basis because these loans generally have smaller balances and are homogeneous in the underwriting of terms and conditions and in the types of collateral. If a loan is deemed to be impaired, the amount of the impairment is supported by a specific allowance amount which is included in the allowance for loan losses through a charge to the provision for loan losses.
Impaired loans at December 31, 2018 were $104.0 million, a net decrease of $10.3 million from $114.3 million at December 31, 2017. This net decrease in impaired loans is due primarily to payoffs and charge-offs of impaired loans in 2018.
Investment Security Portfolio
The main objectives of our investment strategy are to provide sources of liquidity while managing our interest rate risk and to generate an adequate level of interest income without taking undue risks. Our investment policy permits investments in various types of securities, certificates of deposits, and federal funds sold in compliance with various restrictions in the policy. All of our investment securities are classified as available for sale. The securities for which we have the ability and intent to hold to maturity may be classified as held to maturity securities. However, we do not currently maintain a held-for-maturity or trading portfolio.
Our available for sale securities totaled $1.85 billion at December 31, 2018, compared to $1.72 billion at December 31, 2017. We had no securities that were categorized as held to maturity at December 31, 2018 or 2017. We had securities that were called or paid down totaling $221.6 million and purchased $393.6 million in securities during the year. At December 31, 2018, we had a carrying balance of $354.6 million in securities that were pledged to secure public deposits, or for other purposes required or permitted by law. $336.8 million in securities were pledged in the State of California time deposit program, $6.8 million was pledged at the United State Department of Justice, and $11.1 million were pledged for other public deposits. At December 31, 2017, we had $22.0 million in mutual funds that were categorized as available for sale securities that were subsequently reclassified as equity investments in accordance with the adoption of ASU 2016-01 on January 1, 2018.
Our investment portfolio consists of government sponsored enterprise (“GSE”) bonds, mortgage backed securities (“MBS”), collateralized mortgage obligations (“CMOs”), corporate securities, and municipal securities.
Our available for sale securities portfolio is primarily invested in residential CMOs and residential and commercial MBS, which combined to represent 96% and 94% of our total available for sale portfolio as of December 31, 2018 and 2017, respectively. At December 31, 2018 and 2017, all of our CMOs and MBS were issued by the Government National Mortgage Association (“GNMA”), Fannie Mae (“FNMA”), or Freddie Mac (“FHLMC”), which guarantee the contractual cash flows of these investments. All of our corporate and municipal securities at December 31, 2018 were rated as investment grade.
The following table presents the amortized cost, estimated fair value, and net unrealized gain and losses on our investment securities as of the dates indicated:
| December 31, | |||||||||||||||||||||||
| 2018 | 2017 | ||||||||||||||||||||||
Amortized Cost | Estimated Fair Value | Net Unrealized Loss | Amortized Cost | Estimated Fair Value | Net Unrealized Loss | ||||||||||||||||||
| (Dollars in thousands) | |||||||||||||||||||||||
| Debt securities: | |||||||||||||||||||||||
| U.S. Government agency and U.S. Government sponsored enterprises: | |||||||||||||||||||||||
| CMOs | $ | 914,710 | $ | 895,122 | $ | (19,588 | ) | $ | 856,193 | $ | 838,709 | $ | (17,484 | ) | |||||||||
| MBS: | |||||||||||||||||||||||
| Residential | 415,659 | 402,605 | (13,054 | ) | 477,676 | 471,214 | (6,462 | ) | |||||||||||||||
| Commercial | 481,081 | 469,126 | (11,955 | ) | 308,046 | 301,365 | (6,681 | ) | |||||||||||||||
| Corporate securities | 5,000 | 3,826 | (1,174 | ) | 4,997 | 4,475 | (522 | ) | |||||||||||||||
| Municipal securities | 77,168 | 75,586 | (1,582 | ) | 82,542 | 82,537 | (5 | ) | |||||||||||||||
| Total debt securities | $ | 1,893,618 | $ | 1,846,265 | $ | (47,353 | ) | $ | 1,729,454 | $ | 1,698,300 | $ | (31,154 | ) | |||||||||
| Mutual funds* | — | — | — | 22,425 | 21,957 | (468 | ) | ||||||||||||||||
| Total | $ | 1,893,618 | $ | 1,846,265 | $ | (47,353 | ) | $ | 1,751,879 | $ | 1,720,257 | $ | (31,622 | ) | |||||||||
* Mutual funds were reclassified as equity investments in accordance with ASU 2016-01 on January 1, 2018.
The following table summarizes the maturity of securities based on carrying value and their related weighted average yield (non-tax equivalent) at December 31, 2018:
| Within One Year | After One But Within Five Years | After Five But Within Ten Years | After Ten Years | Total | ||||||||||||||||||||||||||||||
| Amount | Yield | Amount | Yield | Amount | Yield | Amount | Yield | Amount | Yield | |||||||||||||||||||||||||
| (Dollars in thousands) | ||||||||||||||||||||||||||||||||||
| CMOs* | $ | — | — | % | $ | 2,354 | 1.49 | % | $ | 5,383 | 1.82 | % | $ | 887,385 | 2.59 | % | $ | 895,122 | 2.59 | % | ||||||||||||||
| MBS: | ||||||||||||||||||||||||||||||||||
| Residential* | — | — | % | 5,388 | 1.71 | % | 66,286 | 1.88 | % | 330,931 | 2.56 | % | 402,605 | 2.43 | % | |||||||||||||||||||
| Commercial* | — | — | % | 7,251 | 1.88 | % | 310,609 | 3.11 | % | 151,266 | 2.48 | % | 469,126 | 2.89 | % | |||||||||||||||||||
| Corporate Securities | — | — | % | — | — | % | — | — | % | 3,826 | 3.61 | % | 3,826 | 3.61 | % | |||||||||||||||||||
| Municipal Securities | 761 | 4.07 | % | 17,669 | 2.28 | % | 27,901 | 2.19 | % | 29,255 | 2.90 | % | 75,586 | 2.50 | % | |||||||||||||||||||
| Total | $ | 761 | 4.07 | % | $ | 32,662 | 2.04 | % | $ | 410,179 | 2.83 | % | $ | 1,402,663 | 2.58 | % | $ | 1,846,265 | 2.63 | % | ||||||||||||||
* Investments in U.S. Government agency and U.S. Government sponsored enterprises
The following table shows our investments with gross unrealized losses and their estimated fair values, aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position, at December 31, 2018:
| Less than 12 months | 12 months or longer | Total | ||||||||||||||||||||||||||||||
Description of Securities | Number of Securities | Fair Value | Gross Unrealized Losses | Number of Securities | Fair Value | Gross Unrealized Losses | Number of Securities | Fair Value | Gross Unrealized Losses | |||||||||||||||||||||||
| (Dollars in thousands) | ||||||||||||||||||||||||||||||||
| CMOs* | 1 | $ | 8,041 | $ | (28 | ) | 93 | $ | 700,095 | $ | (21,101 | ) | 94 | $ | 708,136 | $ | (21,129 | ) | ||||||||||||||
| MBS: | ||||||||||||||||||||||||||||||||
| Residential* | 4 | 19,973 | (37 | ) | 45 | 363,334 | (13,064 | ) | 49 | 383,307 | (13,101 | ) | ||||||||||||||||||||
| Commercial* | 3 | 38,494 | (218 | ) | 27 | 312,428 | (12,761 | ) | 30 | 350,922 | (12,979 | ) | ||||||||||||||||||||
| Corporate securities | — | — | — | 1 | 3,826 | (1,174 | ) | 1 | 3,826 | (1,174 | ) | |||||||||||||||||||||
| Municipal securities | 13 | 5,528 | (83 | ) | 32 | 42,444 | (1,897 | ) | 45 | 47,972 | (1,980 | ) | ||||||||||||||||||||
| Total | 21 | $ | 72,036 | $ | (366 | ) | 198 | $ | 1,422,127 | $ | (49,997 | ) | 219 | $ | 1,494,163 | $ | (50,363 | ) | ||||||||||||||
* Investments in U.S. Government agency and U.S. Government sponsored enterprises
ASC 320 requires an entity to assess whether the entity has the intent to sell a debt security or more likely than not will be required to sell the debt security before its anticipated recovery. If either of these conditions is met, an entity must recognize an other than temporary impairment (“OTTI”). If an entity does not intend to sell the debt security and will not be required to sell the debt security, the entity must consider whether it will recover the amortized cost basis of the security. If the present value of expected cash flows is less than the amortized cost basis of the security, OTTI shall be considered to have occurred. OTTI is then separated into the amount of the total impairment related to credit losses and the amount of the total impairment related to all other factors. An entity determines the impairment related to credit losses by comparing the present value of cash flows expected to be collected from the security with the amortized cost basis of the security. OTTI related to the credit loss is then recognized in earnings. OTTI related to all other factors is recognized in other comprehensive income.
ASC 320 requires an entity to assess whether the entity plans to sell an equity security and does not expect the fair value of the equity security to recover by the time of the sale. If both of these conditions are met, an entity must recognize OTTI when the decision to sell is made. The entity considers facts and circumstances present at the time of assessment, which include the consideration of general market conditions, and the duration and extent to which the fair value is below cost. OTTI related to equity securities is recognized in earnings.
We evaluate securities for OTTI on at least a quarterly basis, and more frequently when economic or market concerns warrant such evaluation. Consideration is given to the financial condition and near-term prospects of the issuer, the length of time and the extent to which the fair value of the securities has been less than our cost for the securities, and our intention to sell, or whether it is more likely than not that we will be required to sell, a security in an unrealized loss position before recovery of its amortized cost basis. In analyzing an issuer’s financial condition, we consider whether the securities are issued by the federal government or its agencies, whether downgrades by bond rating agencies have occurred, and the results of reviews of the issuer’s financial condition.
We consider the losses on our investments in an unrealized loss position at December 31, 2018 to be temporary based on: 1) the likelihood of recovery; 2) the information available to us relative to the extent and duration of the decline in market value; and 3) our intention not to sell, and our determination that it is more likely than not that we will not be required to sell, a security in an unrealized loss position before recovery of its amortized cost basis. The increase in the net unrealized loss position can be attributed to the change in Treasury yields due to the increases in interest rates at December 31, 2018 compared to rates at December 31, 2017.
Equity Investments
On January 1, 2018, we adopted ASU 2016-01 and reclassified $22.0 million in mutual funds classified as available for sale and other investments to equity investments. As of December 31, 2018, equity investments totaled $49.8 million. Equity investments as of December 31, 2018 included $23.4 million in equity investments with readily determinable fair values and $26.4 million in equity investments without readily determinable fair values.
Equity investments with readily determinable fair values at December 31, 2018 consisted of mutual funds totaling $21.5 million and $1.9 million in equity stock. Changes to the fair value of equity investments with readily determinable fair values is recorded in other noninterest income.
Equity investments without readily determinable fair values at December 31, 2018 included $25.1 million in Community Reinvestment Act investments, $1.0 million in Community Development Financial Institutions investments, and $370 thousand in correspondent bank stock. Equity investments without readily determinable fair values are carried at cost, less impairment, and adjustments are made to the carrying balance based on observable price changes. There were no impairments or observable price changes for these investments during year ended December 31, 2018.
Deposits
Deposits are our primary source of funds for loans and investments. We offer a wide variety of deposit account products to commercial and consumer customers. Total deposits increased to $12.16 billion at December 31, 2018 from $10.85 billion at December 31, 2017.
The increase in deposits during 2018 was primarily due to an increase in time deposits partially offset by a decline in money market and NOW accounts. At December 31, 2018, we had $1.57 billion in brokered time deposits, money market, and interest checking accounts and $300.0 million in California State Treasurer deposits compared to $797.1 million in brokered deposits and $300.0 million in California State Treasurer deposits at December 31, 2017. The brokered deposits represented approximately 12.9% of our total deposits as of December 31, 2018 compared to 7.3% as of December 31, 2017. The California State Treasurer deposits have up to three and six months maturities with a weighted average interest rate of 2.34% and 1.37% at December 31, 2018 and December 31, 2017, respectively.
Although our deposits may vary with local and national economic conditions, we do not believe that our deposits are seasonal in nature. The following table sets forth the balances of our deposits by category for the periods indicated:
| December 31, | ||||||||||||||||||||
| 2018 | 2017 | 2016 | ||||||||||||||||||
| Amount | Percent | Amount | Percent | Amount | Percent | |||||||||||||||
| (Dollars in thousands) | ||||||||||||||||||||
| Demand, noninterest bearing | $ | 3,022,633 | 25 | % | $ | 2,998,734 | 27 | % | $ | 2,900,241 | 27 | % | ||||||||
| Demand, interest bearing | 3,036,653 | 25 | % | 3,332,703 | 31 | % | 3,401,446 | 32 | % | |||||||||||
| Savings | 225,746 | 2 | % | 240,509 | 2 | % | 301,906 | 3 | % | |||||||||||
| Time deposit of more than $250,000 | 1,773,430 | 14 | % | 1,279,108 | 12 | % | 1,077,024 | 10 | % | |||||||||||
| Other time deposits | 4,097,194 | 34 | % | 2,995,555 | 28 | % | 2,961,418 | 28 | % | |||||||||||
| Total Deposits | $ | 12,155,656 | 100 | % | $ | 10,846,609 | 100 | % | $ | 10,642,035 | 100 | % | ||||||||
The following table presents the maturity schedules of our time deposits, for the years indicated:
| December 31, | ||||||||||||||||||||
| 2018 | 2017 | 2016 | ||||||||||||||||||
| Amount | Percentage | Amount | Percentage | Amount | Percentage | |||||||||||||||
| (Dollars in thousands) | ||||||||||||||||||||
| Three months or less | $ | 1,626,890 | 28 | % | $ | 857,761 | 20 | % | $ | 1,006,581 | 25 | % | ||||||||
| Over three months through six months | 1,165,674 | 20 | % | 1,075,202 | 25 | % | 719,986 | 18 | % | |||||||||||
| Over six months through twelve months | 2,390,715 | 41 | % | 1,923,003 | 45 | % | 1,761,056 | 43 | % | |||||||||||
| Over twelve months | 687,345 | 11 | % | 418,697 | 10 | % | 550,819 | 14 | % | |||||||||||
| Total time deposits | $ | 5,870,624 | 100 | % | $ | 4,274,663 | 100 | % | $ | 4,038,442 | 100 | % | ||||||||
The following table indicates the maturity schedules of our time deposits in amounts of more than $250,000 as of December 31, 2018:
| Amount | Percentage | ||||||
| (Dollars in thousands) | |||||||
| Three months or less | $ | 571,535 | 32 | % | |||
| Over three months through six months | 332,352 | 19 | % | ||||
| Over six months through twelve months | 774,224 | 44 | % | ||||
| Over twelve months | 95,319 | 5 | % | ||||
| Total | $ | 1,773,430 | 100 | % | |||
There can be no assurance that we will be able to continue to replace maturing time deposits at competitive rates. However, if we are unable to replace these maturing time deposits with new deposits, we believe that we have adequate liquidity resources to fund these obligations through secured credit lines with the FHLB and FRB, as well as with liquid assets.
Borrowings
We utilize a combination of short-term and long-term borrowings from the FHLB and other sources to help manage our liquidity position. However, borrowings are used as a secondary source of funds and deposits are our main source of liquidity.
Federal Funds Purchased
Federal funds purchased generally mature within one to three business days from the transaction date. We did not have any federal funds purchased at December 31, 2018. At December 31, 2017, we had $69.9 million in overnight federal funds purchased at an average weighted rate of 1.79%.
FHLB Advances
We may borrow from the FHLB on a long term basis to provide funding for certain loans or investment securities strategies, as well as for asset liability management strategies. As of December 31, 2018 and 2017, FHLB advances totaled $821.3 million and $1.16 billion, respectively with average remaining maturities of 1.8 years and 2.0 years, respectively. The weighted average rate, net of fair value adjustments, for FHLB advances was 1.78% at December 31, 2018 compared to 1.63% at December 31, 2017. As of December 31, 2018, our remaining available FHLB borrowing capacity was $2.97 billion. See Note 9 of the Consolidated Financial Statements for more detailed information on FHLB advances.
Convertible Debt
During the second quarter of 2018, we issued $217.5 million aggregate principal amount of 2.00% convertible senior notes maturing on May 15, 2038 in a private offering to qualified institutional investors under Rule 144A of the Securities Act of 1933. The convertible notes were issued as part of our plan to repurchase common stock. The convertible notes pay interest on a semi-annual basis to holders of the notes. The convertible notes can be called by us, in whole or in part, at any time after five years for the original issued amount in cash. Holders of the notes can put the notes for cash on the fifth, tenth, and fifteenth year of the note. The carrying balance of convertible notes at December 31, 2018 was $194.5 million net of a $23.0 million discount, which represents the conversion option discount and issuance costs to be capitalized. (See footnote 10 “Subordinated Debentures and Convertible Notes” for additional information regarding convertible notes issued)
Subordinated Debentures
At December 31, 2018, nine wholly-owned subsidiary grantor trusts (“Trusts”) had issued $126.0 million of pooled trust preferred securities (“Trust Preferred Securities”). The Trust Preferred Securities accrue and pay distributions periodically at specified annual rates as provided in the related indentures for the securities. The Trusts used the net proceeds from the offering of the Trust Preferred Securities to purchase a like amount of subordinated debentures (the “Debentures”) issued by us. The Debentures are the sole assets of the trusts. Our obligations under the Debentures and related documents, taken together, constitute a full and unconditional guarantee by us of the obligations of the trusts. The Trust Preferred Securities are mandatorily redeemable upon the maturity of the Debentures, or upon earlier redemption as provided in the indentures. We have the right to redeem the Debentures in whole (but not in part) on or after specific dates, at a redemption price specified in the indentures plus any accrued but unpaid interest to the redemption date.
As of December 31, 2018 and 2017, the Trusts are not reported on a consolidated basis pursuant to ASC 810, Consolidation. Therefore, the capital securities of $126.0 million are not presented on the consolidated statements of financial condition. Instead, the long-term subordinated debentures of $101.9 million as of December 31, 2018, issued by us to the Trusts and the investment in Trusts’ common stock of $3.9 million (included in other assets) are separately reported.
The following table summarizes our outstanding Debentures related to the Trust Preferred Securities at December 31, 2018:
| Trust Name | Issuance Date | Amount | Carry Value of Subordinated Debentures | Maturity Date | Coupon Rate | Current Rate | Interest Distribution and Callable Date | |||||||||||
| (Dollars in thousands) | ||||||||||||||||||
| Nara Capital Trust III | 06/05/2003 | $ | 5,000 | $ | 5,155 | 06/15/2033 | 3 month LIBOR + 3.15% | 5.94% | Every 15th of Mar, Jun, Sep, and Dec | |||||||||
| Nara Statutory Trust IV | 12/22/2003 | 5,000 | 5,155 | 01/07/2034 | 3 month LIBOR + 2.85% | 5.29% | Every 7th of Jan, Apr, Jul and Oct | |||||||||||
| Nara Statutory Trust V | 12/17/2003 | 10,000 | 10,310 | 12/17/2033 | 3 month LIBOR + 2.95% | 5.74% | Every 17th of Mar, Jun, Sep and Dec | |||||||||||
| Nara Statutory Trust VI | 03/22/2007 | 8,000 | 8,248 | 06/15/2037 | 3 month LIBOR +1.65% | 4.44% | Every 15th of Mar, Jun, Sep and Dec | |||||||||||
| Center Capital Trust I | 12/30/2003 | 18,000 | 14,026 | 01/07/2034 | 3 month LIBOR +2.85% | 5.29% | Every 7th of Mar, Jun, Sep, and Dec | |||||||||||
| Wilshire Statutory Trust II | 03/17/2005 | 20,000 | 15,526 | 03/17/2035 | 3 month LIBOR +1.79% | 4.58% | Every 17th of Mar, Jun, Sep, and Dec | |||||||||||
| Wilshire Statutory Trust III | 09/15/2005 | 15,000 | 10,948 | 09/15/2035 | 3 month LIBOR +1.40% | 4.19% | Every 15th of Mar, Jun, Sep, and Dec | |||||||||||
| Wilshire Statutory Trust IV | 07/10/2007 | 25,000 | 17,758 | 09/15/2037 | 3 month LIBOR +1.38% | 4.17% | Every 15th of Mar, Jun, Sep, and Dec | |||||||||||
| Saehan Capital Trust I | 03/30/2007 | 20,000 | 14,803 | 06/30/2037 | 3 month LIBOR +1.62% | 4.42% | Every 30th of Mar, Jun, Sep, and Dec | |||||||||||
| Total Trust | $ | 126,000 | $ | 101,929 | ||||||||||||||
Capital Resources
Historically, our primary source of capital has been the retention of earnings, net of dividend payments to shareholders. We seek to maintain capital at a level sufficient to assure our stockholders, our customers, and our regulators that Hope Bancorp and the Bank subsidiary are financially sound. For this purpose, we perform ongoing assessments of our components of capital as well as projected sources and uses of capital in conjunction with projected increases in assets and levels of risk.
In conjunction with the acquisition of PIB, we assumed warrants (related to the TARP Capital Purchase Plan) to purchase shares of its common stock. At the acquisition date, the warrants were canceled and converted into a warrant to purchase BBCN Bancorp which were converted to Hope Bancorp common stock. These warrants expired on December 12, 2018, ten years subsequent to the issuance date. As of December 31, 2018, there were no warrants outstanding to purchase our common stock.
Our total stockholders’ equity decreased $25.0 million, or 1.3%, to $1.90 billion at December 31, 2018 from $1.93 billion at December 31, 2017. The decline in our stockholders’ equity at December 31, 2018 compared to December 31, 2017 was largely due to the share repurchase transactions during the second half of 2018. On April 26, 2018 our board of directors approved a share repurchase program that authorized the use up to $100.0 million of the proceeds from the convertible notes offering to repurchase its common stock. The board of directors subsequently approved another share repurchase program on September 20, 2018 that authorized another $50.0 million in share repurchases. Altogether we repurchased $150.0 million in share during the second half of 2018 which was recorded as treasury stock reducing our overall stockholders’ equity at December 31, 2018 compared to December 31, 2017. The reduction in equity from the repurchased treasury stock was offset by net income earned in 2018 totaling $189.6 million less dividends paid on common stock of $71.6 million.
At December 31, 2018, our ratio of common equity to total assets was 12.43% compared to 13.57% at December 31, 2017, and our tangible common equity represented 9.61% of tangible assets at December 31, 2018, compared with 10.54% of tangible assets at December 31, 2017. Tangible common equity per share was $11.25 at December 31, 2018, compared with $10.68 at December 31, 2017. Tangible common equity to tangible assets and tangible common equity per share are non-GAAP financial measures that we believe provides investors with information that is useful in understanding our financial performance and position. The table below shows the reconciliation of GAAP to non-GAAP financial measures for tangible common equity to tangible assets and tangible common equity per share.
| At December 31, | |||||||
| 2018 | 2017 | ||||||
| (Dollars in thousands, except share data) | |||||||
| Total common stockholders’ equity | $ | 1,903,211 | $ | 1,928,255 | |||
| Less: Goodwill and core deposit intangible assets, net | (478,511 | ) | (480,973 | ) | |||
| Tangible common equity | $ | 1,424,700 | $ | 1,447,282 | |||
| Total assets | $ | 15,305,952 | $ | 14,206,717 | |||
| Less: Goodwill and core deposit intangible assets, net | (478,511 | ) | (480,973 | ) | |||
| Tangible assets | $ | 14,827,441 | $ | 13,725,744 | |||
| Common shares outstanding | 126,639,912 | 135,511,891 | |||||
Tangible common equity ratio (Tangible common equity / tangible assets) | 9.61 | % | 10.54 | % | |||
Common tangible equity per share (Tangible common equity / common shares outstanding) | $ | 11.25 | $ | 10.68 | |||
The following tables compare Hope Bancorp’s and the Bank’s actual capital ratios at December 31, 2018 to those required by our regulatory agencies to generally be deemed “adequately capitalized” for capital adequacy classification purposes:
| December 31, 2018 | ||||||||||||||||||||
| Actual | Required | Excess | ||||||||||||||||||
| Amount | Ratio | Amount | Ratio | Amount | Ratio | |||||||||||||||
| (Dollars in thousands) | ||||||||||||||||||||
| Hope Bancorp | ||||||||||||||||||||
| Common equity tier 1 capital (to risk-weighted assets): | $ | 1,458,344 | 11.44 | % | $ | 573,723 | 4.50 | % | $ | 884,621 | 6.94 | % | ||||||||
Total capital (to risk-weighted assets) | $ | 1,649,664 | 12.94 | % | $ | 1,019,952 | 8.00 | % | $ | 629,712 | 4.94 | % | ||||||||
Tier 1 capital (to risk-weighted assets) | $ | 1,556,371 | 12.21 | % | $ | 764,964 | 6.00 | % | $ | 791,407 | 6.21 | % | ||||||||
Tier 1 capital (to average assets) | $ | 1,556,371 | 10.55 | % | $ | 590,176 | 4.00 | % | $ | 966,195 | 6.55 | % | ||||||||
| December 31, 2018 | ||||||||||||||||||||
| Actual | Required | Excess | ||||||||||||||||||
| Amount | Ratio | Amount | Ratio | Amount | Ratio | |||||||||||||||
| (Dollars in thousands) | ||||||||||||||||||||
| Bank of Hope | ||||||||||||||||||||
| Common equity tier 1 capital (to risk-weighted assets): | $ | 1,737,092 | 13.63 | % | $ | 573,699 | 4.50 | % | $ | 1,163,393 | 9.13 | % | ||||||||
Total capital (to risk-weighted assets) | $ | 1,830,385 | 14.36 | % | $ | 1,019,910 | 8.00 | % | $ | 810,475 | 6.36 | % | ||||||||
Tier 1 capital (to risk-weighted assets) | $ | 1,737,092 | 13.63 | % | $ | 764,932 | 6.00 | % | $ | 972,160 | 7.63 | % | ||||||||
Tier 1 capital (to average assets) | $ | 1,737,092 | 11.76 | % | $ | 590,639 | 4.00 | % | $ | 1,146,453 | 7.76 | % | ||||||||
New capital rules require a capital conservation buffer of 2.50% above the three minimum risked-weighted capital ratios. In January 2016, the capital conservation buffer started to phase in at 0.625% and increases at annual increments of 0.625% until fully-phased in January 2019. At January 1, 2016, the capital conservation buffer stood at 0.625% and increased to 1.25% at January 1, 2017, and increased again to 1.875% on January 1, 2018, and will be fully phased-in on January 1, 2019 at 2.50%. Our capital ratios at December 31, 2018 and December 31, 2017 exceeded all of the regulatory minimums including the fully-phased in capital conservation buffer.
Liquidity Management
Liquidity risk is the risk of reduction in our earnings or capital that would result if we were not able to meet our obligations when they come due without incurring unacceptable losses. Liquidity risk includes the risk of unplanned decreases or changes in funding sources and changes in market conditions that affect our ability to liquidate assets quickly and with minimum loss of value. Factors considered in liquidity risk management are the stability of the deposit base; the marketability, maturity, and pledging of our investments; the availability of alternative sources of funds; and our demand for credit.
The objective of our liquidity management is to have funds available to meet cash flow requirements arising from fluctuations in deposit levels and the demands of daily operations, which include funding of securities purchases, providing for customers’ credit needs, and ongoing repayment of borrowings.
We manage our liquidity actively on a daily basis and it is reviewed periodically by our management-level Asset/Liability Management Committee (“ALM”) and the Board Asset Liability Committee (“ALCO”). This process is intended to ensure the maintenance of sufficient funds to meet our liquidity needs, including adequate cash flow for off-balance-sheet commitments. In general, our liquidity is managed daily by controlling the level of federal funds and the funds provided by cash flow from operations. To meet unexpected demands, lines of credit are maintained with the FHLB, the Federal Reserve Bank, and other correspondent banks. The sale of investment securities and loans held for sale also serves as a source of funds.
Our primary sources of liquidity are derived from financing activities, which include customer and broker deposits, federal funds facilities, and borrowings from the FHLB and the FRB Discount Window. These funding sources are augmented by payments of principal and interest on loans, proceeds from sale of loans, pay down of investment securities, and the liquidation or sale of securities from our available for sale portfolio. Primary uses of funds include withdrawal of and interest payments on deposits, originations of loans, purchases of investment securities, payment of operating expenses, and payment of dividends.
Net cash inflows from operating activities totaled $219.9 million, $203.9 million, and $130.6 million during 2018, 2017 and 2016, respectively. Net cash inflows from operating activities for 2018 were primarily attributable to proceeds from sales of loans held for sale and net income partially offset by originations of held for sale loans.
Net cash outflows from investing activities totaled $1.15 billion, $767.3 million, and $463.4 million during 2018, 2017 and 2016, respectively. Net cash outflows for investing activities during 2018 were primarily from purchases of securities available for sale and the net change in loans receivable. These outflows were offset by proceeds received for securities available for sale that were paid down during the year.
Net cash inflows from financing activities totaled $895.1 million, $618.1 million, and $471.7 million during 2018, 2017 and 2016, respectively. Net cash inflows from financing activities for 2018 was primarily attributable to an increase in deposits and proceeds from our convertible notes offering (net of issuance fees) offset by the repayment of FHLB advances, treasury stock repurchases, and dividends paid on common stock.
When we have more funds than required for our reserve requirements or short-term liquidity needs, we sell federal funds to other financial institutions. Conversely, when we have less funds than required, we may purchase federal funds, borrow funds from the FHLB or the FRB’s Discount Window. As of December 31, 2018, the maximum amount that we were able to borrow on an overnight basis from the FHLB and the FRB was an aggregate of $3.81 billion, and we had $821.3 million in borrowings from the FHLB (including $1.3 million in premiums from acquired advances) and no borrowings outstanding from the FRB. The FHLB System functions as a line of credit facility for qualifying financial institutions. As a member, we are required to own capital stock in the FHLB and may apply for advances from the FHLB by pledging qualifying loans and certain securities as collateral for these advances.
At times we maintain a portion of our liquid assets in interest bearing cash deposits with other banks, overnight federal funds sold to other banks, and in investment securities available for sale that are not pledged. Our liquid assets consist of cash and cash equivalents, interest bearing cash deposits with other banks, liquid investment securities available for sale, and loan repayments within 30 days. Liquid assets totaled $1.83 billion and $1.73 billion at December 31, 2018 and 2017, respectively. Cash and cash equivalents totaled $459.6 million at December 31, 2018 compared to $492.0 million at December 31, 2017.
Because our primary sources and uses of funds are deposits and loans, the relationship between gross loans and total deposits provides one measure of our liquidity. Typically, the closer the ratio of loans to deposits is to, or the more it exceeds 100%, the more we rely on borrowings and other sources to provide liquidity. Alternative sources of funds such as FHLB advances, brokered deposits, and other collateralized borrowings that provide liquidity as needed from diverse liability sources are an important part of our asset/liability management strategy. For 2018, our average gross loans to average deposits ratio was 99%, unchanged from 2017 and 2016.
We believe our liquidity sources to be stable and adequate to meet our day-to-day cash flow requirements. At December 31, 2018, management was not aware of any demands, commitments, trends, events, or uncertainties that will or are reasonably likely to have a material or adverse effect on our liquidity position. As of December 31, 2018, we are not aware of any material commitments for capital expenditures in the foreseeable future.
Off-Balance- Sheet Activities and Contractual Obligations
The Bank routinely engages in activities that involve, to varying degrees, elements of risk that are not reflected, in whole or in part, in the Consolidated Financial Statements. These activities are part of our normal course of business and include traditional off-balance-sheet credit-related financial instruments, interest rate swap contracts, operating leases, and interest commitments on our liabilities.
Traditional off-balance-sheet credit-related financial instruments are primarily commitments to extend credit and standby letters of credit. These activities may require us to make cash payments to third parties in the event specified future events occur. The contractual amounts represent the extent of our exposure in these off-balance-sheet activities. However, since certain off-balance-sheet commitments, particularly standby letters of credit, are expected to expire or be only partially used, the total amount of commitments does not necessarily represent future cash requirements. These activities are necessary to meet the financing needs of our customers.
We do not anticipate that our current off-balance-sheet activities will have a material impact on our future results of operations or financial condition. Further information regarding risks from our off-balance-sheet financial instruments can be found in Note 14 of the Notes to Consolidated Financial Statements and in Item 7A. - “Quantitative and Qualitative Disclosures about Market Risk.”
We also commit to fund certain affordable housing partnership investments in the future. Funded commitments are presented as investments in affordable housing partnerships in the Consolidated Financial Statements while unfunded commitments are presented as commitments to fund investment in affordable housing partnerships.
We lease our banking facilities and equipment under non-cancelable operating leases, which have remaining terms of up to 15 years. Our facility lease obligations are discussed in Note 14 of the Notes to Consolidated Financial Statements.
The following table summarizes our contractual obligations and commitments to make future payments as of December 31, 2018. Payments shown for time deposits, FHLB advances, convertible notes, and subordinated debenture include interest obligation to their respective repricing dates:
| Payments Due By Period | |||||||||||||||||||
| Less than 1 year | 1-3 years | 3-5 years | Over 5 years | Total | |||||||||||||||
| (Dollars in thousands) | |||||||||||||||||||
| Contractual Obligations and Commitments | |||||||||||||||||||
| Time deposits | $ | 5,256,722 | $ | 674,188 | $ | 21,656 | $ | 146 | $ | 5,952,712 | |||||||||
| FHLB advances | 358,880 | 342,249 | 147,812 | — | 848,941 | ||||||||||||||
| Convertible notes | 4,350 | 8,700 | 223,518 | — | 236,568 | ||||||||||||||
| Subordinated debentures * | 1,239 | — | — | 101,929 | 103,168 | ||||||||||||||
| Operating lease obligations | 14,968 | 25,098 | 13,752 | 19,338 | 73,156 | ||||||||||||||
| Commitments to fund investments in affordable housing partnerships | 31,743 | 11,468 | 1,062 | 2,234 | 46,507 | ||||||||||||||
| Unused credit extensions | 1,293,047 | 349,060 | 45,817 | 24,108 | 1,712,032 | ||||||||||||||
| Standby letters of credit | 66,342 | 3,421 | — | — | 69,763 | ||||||||||||||
| Other commercial letters of credit | 65,376 | 446 | — | — | 65,822 | ||||||||||||||
| Total | $ | 7,092,667 | $ | 1,414,630 | $ | 453,617 | $ | 147,755 | $ | 9,108,669 | |||||||||
* Interest for variable rate subordinated debentures were calculated using interest rates at December 31, 2018.
| Item 7A. | QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK |
The objective of our asset and liability management activities is to improve our earnings by adjusting the type and mix of assets and liabilities to effectively address changing conditions and risks. Through overall management of our balance sheet and by controlling various risks, we seek to optimize our financial returns within safe and sound parameters. Our operating strategies for attaining this objective include managing our net interest margin through appropriate risk/return pricing of assets and liabilities and emphasizing growth in retail deposits, as a percentage of interest bearing liabilities, to reduce our cost of funds. We also seek to improve earnings by controlling noninterest expense and enhancing noninterest income. We use risk management instruments to modify interest rate characteristics of certain assets and liabilities to hedge against our exposure to interest rate fluctuations, reducing the effects these fluctuations might have on associated cash flows or values. We also perform periodic internal analyses to measure, evaluate and monitor market risk.
Interest Rate Risk
Market risk is the risk of loss to future earnings, to the fair value of our assets and liabilities, or to future cash flows that may result from changes in the price of a financial instrument. Interest rate risk is the most significant market risk impacting us. Interest rate risk occurs when interest rate sensitive assets and liabilities do not reprice simultaneously or at the same rate of interest or in equal volume. A key objective of our asset and liability management is to manage interest rate risk associated with changing asset and liability cash flows, values of our assets and liabilities, and market interest rate movements. The management of our interest rate risk is governed by policies reviewed and approved annually by the Board of Directors of the Bank. The Board delegates responsibility for interest rate risk management to the ALM, which is composed of the Bank’s senior executives and other designated officers.
The fundamental objective of our ALM is to manage our exposure to interest rate fluctuations while maintaining adequate levels of liquidity and capital. The ALM meets regularly to monitor the interest rate risk, the sensitivity of our assets and liabilities to interest rate changes, the book and fair values of assets and liabilities, our investment activities, and directs changes in the composition of our interest earning assets and interest bearing liabilities. The ALM reports at least quarterly to the ALCO. Our strategy has been to reduce the sensitivity of our earnings to interest rate fluctuations by more closely matching the effective maturities or repricing characteristics of our assets and liabilities. Certain assets and liabilities, however, may react in different degrees to changes in market interest rates. Further, interest rates on certain types of assets and liabilities may fluctuate prior to changes in market interest rates, while interest rates on other types may lag behind. We consider the anticipated effects of these factors when implementing our interest rate risk management objectives.
Derivative Activity
As part of our asset and liability management strategy, we may enter into derivative financial instruments, such as interest rate swaps, caps, floors, interest rate lock commitments, and forward sales commitments, with the overall goal of minimizing the impact of interest rate fluctuations on our net interest margin. Interest rate swaps and caps involve the exchange of fixed-rate and variable-rate interest payment obligations without the exchange of the underlying notional amounts.
Our monitoring activities related to managing interest rate risk include both interest rate sensitivity “gap” analysis and the use of a simulation model. While traditional gap analysis provides a simple picture of the interest rate risk embedded in the statement of financial condition, it provides only a static view of interest rate sensitivity at a specific point in time and does not measure the potential volatility in forecasted results relating to changes in market interest rates over time. Accordingly, we combine the use of gap analysis with the use of a simulation model, which provides a dynamic assessment of interest rate sensitivity.
The interest rate sensitivity gap is defined as the difference between the amount of interest earning assets anticipated to reprice within a specific time period and the amount of interest bearing liabilities anticipated to reprice within that same time period. A gap is considered positive when the amount of interest rate sensitive assets repricing within a specific time period exceeds the amount of interest bearing liabilities repricing within that same time period. A positive cumulative gap suggests that earnings will increase when interest rates rise and decrease when interest rates fall. A negative cumulative gap suggests that earnings will increase when interest rates fall and decrease when interest rates rise.
The following table illustrates our combined asset and liability contractual repricing as of December 31, 2018:
| 0 - 3 Months | Over 3 Months to 1 Year | Over 1 Year to 5 Years | Over 5 Years | Total | ||||||||||||||||
| (Dollars in thousands) | ||||||||||||||||||||
| Rate Sensitive Assets | ||||||||||||||||||||
| Interest-bearing cash in other banks | $ | 240,240 | $ | — | $ | — | $ | — | $ | 240,240 | ||||||||||
Interest-bearing deposits in other financial institutions | 3,428 | 25,981 | — | — | 29,409 | |||||||||||||||
| Securities available for sale | 3,826 | 2,509 | 21,313 | 1,818,617 | 1,846,265 | |||||||||||||||
| Equity investments | 49,835 | — | — | — | 49,835 | |||||||||||||||
Loans outstanding(1) | 4,796,552 | 699,344 | 5,790,778 | 836,360 | 12,123,034 | |||||||||||||||
| FHLB stock | 25,461 | — | — | — | 25,461 | |||||||||||||||
| Total rate sensitive assets | $ | 5,119,342 | $ | 727,834 | $ | 5,812,091 | $ | 2,654,977 | $ | 14,314,244 | ||||||||||
| Rate Sensitive Liabilities | ||||||||||||||||||||
| Money market and NOW | 3,036,653 | — | — | — | 3,036,653 | |||||||||||||||
| Savings deposits | 138,940 | 34,417 | 52,386 | 3 | 225,746 | |||||||||||||||
| Time deposits | 1,626,890 | 3,556,389 | 687,201 | 144 | 5,870,624 | |||||||||||||||
| FHLB advances | 25,000 | 321,280 | 475,000 | — | 821,280 | |||||||||||||||
| Convertible notes | — | — | 194,543 | — | 194,543 | |||||||||||||||
| Subordinated Debentures | 101,929 | — | — | — | 101,929 | |||||||||||||||
| Total rate sensitive liabilities | $ | 4,929,412 | $ | 3,912,086 | $ | 1,409,130 | $ | 147 | $ | 10,250,775 | ||||||||||
| Net Gap Position | $ | 189,930 | $ | (3,184,252 | ) | $ | 4,402,961 | $ | 2,654,830 | |||||||||||
| Cumulative Gap Position | $ | 189,930 | $ | (2,994,322 | ) | $ | 1,408,639 | $ | 4,063,469 | |||||||||||
___________________
| (1) | Includes nonaccrual loans of loans of $53.3 million and held for sale of $25.1 million. |
The simulation model discussed above provides our ALM with the ability to simulate our net interest income. In order to measure, at December 31, 2018, the sensitivity of our forecasted net interest income to changing interest rates, both rising and falling interest rate scenarios were projected and compared to base market interest rate forecasts. One application of our simulation model measures the impact of market interest rate changes on the net present value of estimated cash flows from our assets and liabilities, defined as our market value of equity. This analysis assesses the changes in market values of interest rate sensitive financial instruments that would occur in response to an instantaneous and sustained increase in market interest rates.
Our net interest income and market value of equity exposure related to these hypothetical changes in market interest rates are illustrated in the following table:
| December 31, 2018 | December 31, 2017 | ||||||||||
| Simulated Rate Changes | Estimated Net Interest Income Sensitivity | Market Value of Equity Volatility | Estimated Net Interest Income Sensitivity | Market Value of Equity Volatility | |||||||
| + 200 basis points | 4.50 | % | (4.30 | )% | 2.18 | % | (4.42 | )% | |||
| + 100 basis points | 2.18 | % | (2.12 | )% | 1.12 | % | (2.08 | )% | |||
| - 100 basis points | (3.24 | )% | 1.14 | % | (2.22 | )% | 1.00 | % | |||
| - 200 basis points | (7.17 | )% | 0.92 | % | (8.56 | )% | 0.60 | % | |||
The estimated sensitivity does not necessarily represent our forecast of future results and the estimated results may not be indicative of actual changes to our net interest income. These estimates are based upon a number of assumptions including: the nature and timing of interest rate levels including yield curve shape, prepayment on loans and securities, pricing strategies on loans and deposits, and replacement of asset and liability cash flows. While the assumptions used are based on current economic and local market conditions, there is no assurance as to the predictive nature of these conditions including how customer preferences or competitor influences may change. The ALCO, which oversees our interest rate risk management, has established the exposure limits for acceptable changes in net interest income and market value of equity related to these hypothetical changes in market interest rates. Given the limitations of the analysis, management believes that these hypothetical changes are considered tolerable and manageable as of December 31, 2018.
| Item 8. | FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA |
The following Consolidated Financial Statements of Hope Bancorp, together with the reports thereon of Crowe LLP and BDO USA, LLP begin on page F-1 of this Report and are incorporated herein by reference:
Consolidated Statements of Comprehensive Income for the Years Ended December 31, 2018, 2017 and 2016
See “Item 15. Exhibits and Financial Statement Schedules” for exhibits filed as a part of this Report.
The supplementary data required by this Item (selected quarterly financial data) is provided in Note 23 “Quarterly Financial Data (unaudited)” in the Notes to the Consolidated Financial Statements.
| Item 9. | CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE |
None.
| Item 9A. | CONTROLS AND PROCEDURES |
| a. | Evaluation of Disclosure Controls and Procedures |
Disclosure controls and procedures are controls and procedures designed to ensure that information required to be disclosed by us in reports filed or submitted under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the rules and forms of the SEC, and that such information is accumulated and communicated to our management, including our President and Chief Executive Officer and our Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure.
In designing and evaluating disclosure controls and procedures, our management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives, and our management is required to apply its judgment in evaluating the cost-benefit relationship of possible controls and procedures.
We conducted an evaluation under the supervision and with the participation of our management, including our President and Chief Executive Officer and our Chief Financial Officer, of the effectiveness of the design and operation of our disclosure controls and procedures (as defined in Rule 13a-15(e) under the Exchange Act) as of December 31, 2018. Based upon that evaluation, our President and Chief Executive Officer and our Chief Financial Officer determined that our disclosure controls and procedures were effective as of December 31, 2018.
b. Management’s Annual Report on Internal Control Over Financial Reporting
The management of the Company is responsible for establishing and maintaining adequate internal control over financial reporting for the Company as defined in Rule 13a-15(f) under the Exchange Act. This system, which our management has chosen to base on the framework set forth in the 2013 Internal Control-Integrated Framework, published by the Committee of Sponsoring Organizations of the Treadway Commission (“COSO”), is supervised by our President and Chief Executive Officer and Chief Financial Officer, and is effected by the Company’s board of directors, management and other personnel, is designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with accounting principles generally accepted in the United States of America.
The Company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the Company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the Company are being made only in accordance with authorizations of management and the directors of the Company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the Company’s assets that could have a material effect on the financial statements.
Because of its inherent limitations, a system of internal control over financial reporting can provide only reasonable assurance and may not prevent or detect misstatements. Further, because of changes in conditions, effectiveness of internal controls over financial reporting may vary over time.
With the participation of our President and Chief Executive Officer and our Chief Financial Officer, and under the direction of our audit committee, our management has conducted an assessment of the effectiveness of the Company’s system of internal control over financial reporting as of December 31, 2018 using the criteria set forth by COSO. Based on this assessment, our management believes that the CD&A beCompany’s system of internal control over financial reporting was effective as of December 31, 2018.
Our independent registered public accounting firm has issued an attestation report on our internal control over financial reporting which is included below in this section.
c. Changes in Internal Control Over Financial Reporting
Management has determined that there were no changes in our internal control over financial reporting (as defined in Rule 13a-15(f) of the Exchange Act) during the quarter ended December 31, 2018 that materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
Report of Independent Registered Public Accounting Firm
Our independent registered public accounting firm has issued an audit report on our internal control over financial reporting which is included on page F-1 of this report.
| Item 9B. | OTHER INFORMATION |
None.
PART III
| Item 10. | DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE |
The information required by this Item with respect to the Company’s directors and executive officers, Section 16(a) beneficial ownership reporting compliance, the Company’s Code of Ethics and Business Conduct, director nomination procedures, the Audit Committee and the audit committee financial expert will be filed in Hope Bancorp’s definitive Proxy Statement for its 2019 Annual Meeting of Stockholders (the “2019 Proxy Statement”), which will be filed with the SEC not later than 120 days after December 31, 2018.
| Item 11. | EXECUTIVE COMPENSATION |
The information required by this Item with respect to director and incorporatedexecutive compensation, “Compensation Committee Interlocks and Insider Participation” and “Compensation Committee Report” will be filed in Hope Bancorp’s 2019 Proxy Statement which will be filed with the SEC not later than 120 days after December 31, 2018.
| Item 12. | SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS. |
The information required by reference intothis Item with respect to security ownership of certain beneficial owners and management will be filed in Hope Bancorp’s 2019 Proxy Statement which will be filed with the Company’sSEC not later than 120 days after December 31, 2018.
The following table summarizes our equity compensation plans as of December 31, 2018:
Securities Authorized for Issuance Under Equity Compensation Plans
| Plan Category | Number of securities to be issued upon exercise of outstanding options, warrants and rights (a) | Weighted average exercise price of outstanding options, warrants and rights (b) | Number of securities remaining available for future issuance under equity compensation plans excluding securities reflected in Column (a) (c) | ||||||
| Equity compensation plans approved by security holders | 982,631 | $ | 15.41 | 1,111,396 | |||||
| Equity compensation plans not approved by security holders | — | — | — | ||||||
| Total | 982,631 | $ | 15.41 | 1,111,396 | |||||
| Item 13. | CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE |
The information required by this Item with respect to certain relationships and related transactions and director independence will be filed in Hope Bancorp’s 2019 Proxy Statement which will be filed with the SEC not later than 120 days after December 31, 2018.
| Item 14. | PRINCIPAL ACCOUNTANT FEES AND SERVICES |
The information required by this Item with respect to principal accountant fees and services will be filed in Hope Bancorp’s 2019 Proxy Statement which will be filed with the SEC not later than 120 days after December 31, 2018.
PART IV
| Item 15. | EXHIBITS AND FINANCIAL STATEMENT SCHEDULES |
(a)(1) Financial Statements: The financial statements listed under Part II-Item 8. “Financial Statements and Supplementary Data” are filed as part of this Annual Report on Form 10-K for10-K.
(a)(2) Financial Statement Schedules: All financial statement schedules have been omitted since the fiscal year ended December 31, 2017.
(a)(3) List of Exhibits
| NEO | 2016 Base Salary | 2017 Base Salary | Year-over-Year % Change | ||||||
Kevin S. Kim President & Chief Executive Officer | $ | 705,000 | $ | 840,000 | 19.1% | ||||
Alex Ko Executive Vice President & Chief Financial Officer | $ | 310,030 | $ | 325,532 | 5.0% | ||||
David P. Malone Senior Executive Vice President & Chief Operating Officer | $ | — | $ | 450,000 | n/a | ||||
Kyu S. Kim Senior Executive Vice President & Regional President, Eastern Region | $ | 338,000 | $ | 358,280 | 6.0% | ||||
Johann (Min) You Executive Vice President & Chief Risk Officer | $ | 305,000 | $ | 328,860 | 7.8% | ||||
Douglas J. Goddard Formerly Executive Vice President & Chief Financial Officer | $ | 310,000 | $ | 325,532 | 5.0% | ||||
| Performance Measures | Weight | 2017 Performance Goals | Actual Results | Bonus Earned | |||||||||||||||||||
| Minimum | Target | Maximum | |||||||||||||||||||||
| Profitability | 50 | % | |||||||||||||||||||||
Return on Average Assets(1) | 10 | % | 1.02 | % | 1.27 | % | 1.52 | % | 1.24 | % | 58,867 | ||||||||||||
Return on Average Equity(1) | 30 | % | 7.51 | % | 9.39 | % | 11.27 | % | 8.93 | % | 163,825 | ||||||||||||
| Efficiency Ratio | 10 | % | 48.68 | % | 46.36 | % | 44.04 | % | 48.67 | % | 42,091 | ||||||||||||
| Balance Sheet Growth | 30 | % | |||||||||||||||||||||
| Deposit Growth (retail) | 15 | % | 8.80 | % | 11.00 | % | 13.20 | % | 1.92 | % | — | ||||||||||||
| Total Loan Growth | 15 | % | 9.02 | % | 11.28 | % | 13.54 | % | 5.30 | % | — | ||||||||||||
Regulatory Ratings/ Strategic(2) | 20 | % | |||||||||||||||||||||
| Lower Range | Current Range | Higher Range | Current Range | $ | 126,000 | ||||||||||||||||||
| TOTAL | 100 | % | $ | 390,783 | |||||||||||||||||||
| Level | Target Incentive as a Percentage of Salary | Performance Basis | |||||||||||
| Bank | Individual | ||||||||||||
| Senior Executive Vice President | 45 | % | 80 | % | 20 | % | |||||||
| Executive Vice President | 40 | % | 75 | % | 25 | % | |||||||
| Performance Measures | 2017 Target Performance Goal | Weight | Actual Results | |||||||||||||||
| Sr. EVP | EVP | |||||||||||||||||
| Profitability | 28.00 | % | 26.25 | % | ||||||||||||||
| Net Income ($millions) | $ | 175.69 | 5.60 | % | 5.25 | % | $ | 139.45 | ||||||||||
| Return on Average Equity | 9.639 | % | 5.60 | % | 5.25 | % | 7.31 | % | ||||||||||
| Return on Average Assets | 1.27 | % | 5.60 | % | 5.25 | % | 1.02 | % | ||||||||||
| Net Interest Margin | 3.75 | % | 5.60 | % | 5.25 | % | 3.8 | % | ||||||||||
| Efficiency Ratio | 46.36 | % | 5.60 | % | 5.25 | % | 48.67 | % | ||||||||||
| Balance Sheet Growth | 26.00 | % | 24.38 | % | ||||||||||||||
| Deposit Growth (excluding wholesale) | 11.00 | % | 13.00 | % | 12.19 | % | 1.92 | % | ||||||||||
| Total Loan Growth | 11.28 | % | 13.00 | % | 12.19 | % | 5.30 | % | ||||||||||
| Strategic Initiatives | 13.00 | % | 12.19 | % | 69.00 | % | ||||||||||||
| Regulatory Ratings | 13.00 | % | 12.19 | % | 75.00 | % | ||||||||||||
| Total Bank Goals | 80.00 | % | 75.00 | % | ||||||||||||||
| 2017 Individual Goal Category | Sr. EVP Weights | EVP Weights | ||||||||
| Meet financial budget goals, including loans, deposits and profitability assigned | 2.00 | % | 2.50 | % | ||||||
| Maintain high standards of asset quality, customer service, and employee morale | 2.00 | % | 2.50 | % | ||||||
| Satisfactory rating for any applicable internal audits, compliance code of ethics related subjects, minimized (litigation or actual cash losses) and timely implementation of corrective actions | 2.00 | % | 2.50 | % | ||||||
| Retain and recruit unit’s critical employees | 2.00 | % | 2.50 | % | ||||||
| Develop staff by providing adequate trainings | 2.00 | % | 2.50 | % | ||||||
| Individual Performance Evaluations Score | 10.00 | % | 12.50 | % | ||||||
| Total Individual Goals | 20.00 | % | 25.00 | % | ||||||
| NEO | 2017 PIP Bonus | % of Target | ||||
Alex Ko Executive Vice President & Chief Financial Officer | $ | 124,000 | 95% | |||
David P. Malone Senior Executive Vice President & Chief Operating Officer | $ | 174,000 | 86% | |||
Kyu S. Kim Senior Executive Vice President & Regional President, Eastern Region | $ | 129,000 | 80% | |||
Johann (Min) You Executive Vice President & Chief Risk Officer | $ | 99,000 | 75% | |||
Douglas J. Goddard Formerly Executive Vice President & Chief Financial Officer | $ | — | n/a | |||
| Performance Criteria | Weight | Target Goal | Actual Results | % of Target Achieved | % of Maximum Contribution Awarded |
| Return on Average Assets | 50% | 1.12% | 1.10% | 91.1% | 40.5% |
| Return on Average Equity | 50% | 9.75% | 8.47% | 75% | 0.0% |
| Performance Measure | Weighting | Measurement Perspective | Performance Goals | ||
| Threshold | Target | Stretch | |||
Cumulative EPS(1) | 50% | Absolute | 4% | 6.5% | 10% |
Total Shareholder Return(2)(3) | 50% | Relative | 30th Percentile | 50th Percentile | 80th Percentile |
| Payout as % of Target | 50% | 100% | 150% | ||
| Position | Total Target Award | Time-Based Vesting RSUs | Performance Contingent PSUs |
| Chief Executive Officer | 125% | 62.5% | 62.5% |
| Chief Operating Officer | 75% | 37.5% | 37.5% |
| Other NEOs | 10% - 50% | 5% - 25% | 5% - 25% |
| Grant Date | Time-Based Award | Performance-Contingent Award | |
Kevin S. Kim President & Chief Executive Officer | 6/26/2017 | 28,656 | 28,656 |
Alex Ko Executive Vice President & Chief Financial Officer | 7/27/2017 | 2,000 | 2,000 |
David P. Malone Senior Executive Vice President & Chief Operating Officer | 7/27/2017 | 8,500 | 8,500 |
Kyu S. Kim Senior Executive Vice President & Regional President, Eastern Region | 7/27/2017 | 2,500 | 2,500 |
Johann (Min) You Executive Vice President & Chief Risk Officer | 7/27/2017 | 2,500 | 2,500 |
Douglas J. Goddard(1) Formerly Executive Vice President & Chief Financial Officer | 7/27/2017 | 2,000 | 2,000 |
| Name and Principal Position | Year | Salary ($)(1) | Bonus ($)(2) | Stock Awards ($)(3) | Options Awards ($)(4) | Non-Equity Incentive Plan Compen- sation ($)(5) | Change in Pension Value and Nonqualified Deferred Comp Earnings ($)(6) | All Other Compen-sation ($)(7) | Total ($) |
Kevin S. Kim President & Chief Executive Officer | 2017 2016 2015 | 803,654 696,346 668,077 | 1,050 1,100 857 | 974,734 429,500 — | — 276,477 — | 411,033 670,250 648,224 | 4,162 3,406 2,695 | 57,789 40,097 49,190 | 2,252,422 2,117,176 1,369,043 |
Alex Ko Executive Vice President & Chief Financial Officer | 2017 2016 | 321,452 138,301 | 1,050 61,100 | 64,910 120,260 | — 64,699 | 124,000 94,000 | — — — | 31,634 14,006 | 543,046 492,336 |
David P. Malone Senior Executive Vice President & Chief Operating Officer | 2017 | 269,544 | 1,050 | 275,868 | — | 174,000 | — — — | 12,142 | 732,603 |
Kyu S. Kim Senior Executive Vice President & Regional President, Eastern Region | 2017 2016 2015 | 353,330 334,250 322,308 | 1,050 1,100 788 | 81,138 154,620 — | — 97,003 — | 141,150 141,150 153,000 | 1,640 1,455 1,282 | 33,139 30,567 29,976 | 611,446 760,145 507,354 |
Johann (Min) You Executive Vice President & Chief Risk Officer | 2017 2016 2015 | 322,055 300,317 287,308 | 1,050 1,100 857 | 81,138 146,030 — | — 97,003 — | 99,000 109,000 100,000 | — — | 28,654 25,725 23,824 | 531,896 679,175 411,989 |
Douglas J. Goddard Formerly Executive Vice President & Chief Financial Officer | 2017 2016 2015 | 283,149 307,425 298,442 | — 1,100 857 | 64,910 128,850 — | — 64,669 — | — 93,000 95,000 | — — — | 28,918 26,913 26,238 | 376,977 621,957 420,537 |
Estimated Future Payouts Under Non-equity Incentive Plan Awards(1)(2) | Estimated Future Payouts Under Equity Incentive Plan Awards(3) | All Other Stock Awards: Number of Shares of Stock or Units (#) | All Other Option Awards: Number of Securities Under-lying Options (#) | Exercise or Base Price of Option Awards ($/Sh) | Grant Date Fair Value of Stock and Option Awards ($) | ||||||||
| Grant Date | Threshold ($) | Target ($) | Maximum ($) | Threshold (#) | Target (#) | Maximum (#) | |||||||
Kevin S. Kim President & Chief Executive Officer | 3/10/2017 | 420,000 | 630,000 | 1,050,000 | |||||||||
| 6/26/2017 | 7,164 | 14,328 | 21,492 | ||||||||||
| 6/26/2017 | 7,164 | 14,328 | 21,492 | ||||||||||
| 6/26/2017 | 28,656 | 524,978 | |||||||||||
Alex Ko Executive Vice President & Chief Financial Officer | 3/10/2017 | 130,213 | |||||||||||
| 7/27/2017 | 500 | 1,000 | 1,500 | ||||||||||
| 7/27/2017 | 500 | 1,000 | 1,500 | ||||||||||
| 7/27/2017 | 2,000 | 35,300 | |||||||||||
David P. Malone Senior Executive Vice President & Chief Operating Officer | 3/10/2017 | 202,500 | |||||||||||
| 7/27/2017 | 2,125 | 4,250 | 6,375 | ||||||||||
| 7/27/2017 | 2,125 | 4,250 | 6,375 | ||||||||||
| 7/27/2017 | 8,500 | 150,025 | |||||||||||
Kyu S. Kim Senior Executive Vice President & Regional President, Eastern Region | 3/10/2017 | 161,226 | |||||||||||
| 7/27/2017 | 625 | 1,250 | 1,875 | ||||||||||
| 7/27/2017 | 625 | 1,250 | 1,875 | ||||||||||
| 7/27/2017 | 2,500 | 44,125 | |||||||||||
Johann (Min) You Executive Vice President & Chief Risk Officer | 3/10/2017 | 131,544 | |||||||||||
| 7/27/2017 | 625 | 1,250 | 1,875 | ||||||||||
| 7/27/2017 | 625 | 1,250 | 1,875 | ||||||||||
| 7/27/2017 | 2,500 | 44,125 | |||||||||||
Douglas J. Goddard Formerly Executive Vice President & Chief Financial Officer | 3/10/2017 | 130,213 | |||||||||||
| 7/27/2017 | 500 | 1,000 | 1,500 | ||||||||||
| 7/27/2017 | 500 | 1,000 | 1,500 | ||||||||||
| 7/27/2017 | 2,000 | 35,300 | |||||||||||
Option Awards(1) | Stock Awards | ||||||||||||
| Name | Option/Stock Award Grant Date | Number of Securities Underlying Unexercised Options: (#) Exercisable | Number of Securities Underlying Unexercised Options: (#) Unexercisable | Option Exercise Price ($) | Option Expiration Date | Number of Shares or Units of Stock That Have Not Vested (#)(2) | Market Value of Shares or Units of Stock That Have Not Vested ($)(3) | ||||||
Kevin S. Kim President & Chief Executive Officer | 4/11/2014 | 12,000 | 219,000 | ||||||||||
| 6/27/2014 | 120,000 | 50,000 | 15.88 | 6/27/2024 | |||||||||
| 5/26/2016 | 30,660 | 16.12 | 5/26/2026 | ||||||||||
| 9/1/2016 | 40,000 | 20,000 | 17.18 | 9/1/2026 | |||||||||
| 9/1/2016 | 8,334 | 152,096 | |||||||||||
| 6/26/2017 | 28,656 | 522,972 | |||||||||||
| 6/26/2017 | 14,328 | 261,486 | |||||||||||
| 6/26/2017 | 14,328 | 261,486 | |||||||||||
Alex Ko Executive Vice President & Chief Financial Officer | 3/31/2014 | 1,441 | 26,298 | ||||||||||
| 4/8/2015 | 3,378 | 61,649 | |||||||||||
| 9/1/2016 | 4,000 | 16,000 | 17.18 | 9/1/2026 | |||||||||
| 9/1/2016 | 5,600 | 102,200 | |||||||||||
| 7/27/2017 | 2,000 | 36,500 | |||||||||||
| 7/27/2017 | 1,000 | 18,250 | |||||||||||
| 7/27/2017 | 1,000 | 18,250 | |||||||||||
David P. Malone Senior Executive Vice President & Chief Operating Officer | 9/1/2016 | 13,333 | 6,667 | 17.18 | 9/1/2026 | ||||||||
| 9/1/2016 | 4,500 | 82,125 | |||||||||||
| 7/27/2017 | 8,500 | 155,125 | |||||||||||
| 7/27/2017 | 4,250 | 77,563 | |||||||||||
| 7/27/2017 | 4,250 | 77,563 | |||||||||||
Kyu S. Kim Senior Executive Vice President & Regional President, Eastern Region | 6/26/2013 | 800 | 14,600 | ||||||||||
| 9/1/2016 | 6,000 | 24,000 | 17.18 | 9/1/2026 | |||||||||
| 9/1/2026 | 7,200 | 131,400 | |||||||||||
| 7/27/2017 | 2,500 | 45,625 | |||||||||||
| 7/27/2017 | 1,250 | 22,813 | |||||||||||
| 7/27/2017 | 1,250 | 22,813 | |||||||||||
Johann (Min) You Executive Vice President & Chief Risk Officer | 9/1/2016 | 6,000 | 24,000 | 17.18 | 9/1/2026 | ||||||||
| 9/1/2016 | 6,800 | 124,100 | |||||||||||
| 7/27/2017 | 2,500 | 45,625 | |||||||||||
| 7/27/2017 | 1,250 | 22,813 | |||||||||||
| 7/27/2017 | 1,250 | 22,813 | |||||||||||
Douglas J. Goddard Formerly Executive Vice President & Chief Financial Officer | 9/1/2016 | 4,000 | 16,000 | 17.18 | 1/2/2018 | ||||||||
| Option Awards | Stock Awards | ||||||
| Name | Number of Shares Acquired on Exercise (#) | Value Realized on Exercise ($)(1) | Number of Shares Acquired on Vesting (#) | Value Realized on Vesting ($)(2) | |||
Kevin S. Kim(3) President & Chief Executive Officer | — | — | 6,000 8,333 | 112,980 134,995 | |||
Alex Ko(4) Executive Vice President & Chief Financial Officer | — | — | 1,400 | 22,680 | |||
David P. Malone(5) Senior Executive Vice President & Chief Operating Officer | 4,500 | 72,900 | |||||
Kyu S. Kim(6) Senior Executive Vice President & Regional President, Eastern Region | — | — | 800 1,800 | 14,656 29,160 | |||
Johann (Min) You(7) Executive Vice President & Chief Risk Officer | 27,540 | ||||||
Douglas J. Goddard(8) Formerly Executive Vice President & Chief Financial Officer | 4,000 | 7,360 | 1,500 | 24,300 | |||
| Name | Executive Contributions in Last Fiscal Year ($) | Registrant Contributions in Last Fiscal Year ($)(1) | Aggregate Earnings in Last Fiscal Year ($)(2) | Aggregate Withdrawals/Distributions ($) | Aggregate Balance at Last Fiscal Year-End ($)(3) | |||
Kevin S. Kim President & Chief Executive Officer | — | 20,250 | 10,090 | — | 166,964 | |||
Kyu S. Kim Senior Executive Vice President & Regional President, Eastern Region | — | 12,150 | 14,042 | — | 232,351 | |||
| Name | Fees Earned or Paid in Cash ($)(1) | Stock Awards ($) | Option Awards ($) | Change in Pension Value and Nonqualified Deferred Compensation Earnings | All Other Compensation ($)(2) | Total ($) | ||||||||||||
| Current | ||||||||||||||||||
Scott Yoon-Suk Whang (Chairman of the Board)(3) | 111,000 | — | — | — | 15,000 | 126,000 | ||||||||||||
| Donald D. Byun | 84,000 | — | — | — | 15,000 | 99,000 | ||||||||||||
| Steven J. Didion | 81,000 | — | — | — | 15,000 | 96,000 | ||||||||||||
| Jinho Doo | 75,000 | — | — | — | 15,000 | 90,000 | ||||||||||||
| Daisy Y. Ha | 75,000 | — | — | — | 15,000 | 90,000 | ||||||||||||
| Jin Chul Jhung | 78,000 | — | — | — | 19,944 | 97,944 | ||||||||||||
Steven S. Koh (4) | 118,000 | — | — | — | 15,000 | 133,000 | ||||||||||||
| Chung Hyun Lee | 84,000 | — | — | — | 19,944 | 103,944 | ||||||||||||
| William J. Lewis | 84,000 | — | — | — | 15,000 | 99,000 | ||||||||||||
David P. Malone(5) | 29,000 | — | — | — | 6,250 | 35,250 | ||||||||||||
| John R. Taylor | 84,000 | — | — | — | 15,000 | 99,000 | ||||||||||||
| Dale S. Zuehls | 81,000 | — | — | — | 15,000 | 96,000 | ||||||||||||
| Retired | ||||||||||||||||||
Lawrence Jeon(6) | 38,000 | — | — | — | 7,500 | 45,500 | ||||||||||||
Craig D. Mautner(6) | 36,000 | — | — | — | 7,500 | 43,500 | ||||||||||||
| Name and Address of Beneficial Owner | Amount and Nature of Beneficial Ownership (#)(1) | Options/SARs exercisable within 60 days (#)(2) | Total Beneficial Ownership (#) | Percentage of Shares Beneficially Owned(3) | |
| Non-Executive Directors | |||||
| Donald D. Byun | 477,728 | 53,789 | 531,517 | 0.39% | |
| Steven J. Didion | 60,548 | 41,469 | 102,017 | 0.08% | |
| Jinho Doo | 5,000 | 13,333 | 18,333 | 0.01% | |
| Daisy Y. Ha | 446,669 | 45,873 | 490,542 | 0.36% | |
Jin Chul Jhung(4) | 214,193 | 1,333 | 227,526 | 0.17% | |
| Steven S. Koh | 3,889,977 | 131,677 | 4,114,244 | 3.04% | |
| Chung Hyun Lee | 238,119 | 6,667 | 244,786 | 0.18% | |
| William J. Lewis | 5,000 | 13,333 | 18,333 | 0.01% | |
| John R. Taylor | 38,710 | 13,333 | 52,043 | 0.04% | |
Scott Yoon-Suk Whang(5) | 68,602 | 13,333 | 81,935 | 0.06% | |
| Dale S. Zuehls | 5,000 | 13,333 | 18,333 | 0.01% | |
| Executive Directors and Named Executive Officers | |||||
| Kevin S. Kim | 540,356 | 200,000 | 740,356 | 0.52% | |
| Alex Ko | 15,749 | 4,000 | 19,749 | 0.01% | |
| David P. Malone | 7,345 | 13,333 | 20,678 | 0.02% | |
| Kyu S. Kim | 13,700 | 6,000 | 19,700 | 0.01% | |
| Johann (Min) You | 1,102 | 6,000 | 7,102 | —% | |
| Douglas J. Goddard | — | — | — | —% | |
| All Directors and Executive Officers as a Group (25 Individuals) | 5.06% | ||||
2005)
| 2016 | 2017 | ||
| Audit fees | $3,085,741 | $253,680 | |
| Audit-related fees | — | — | |
| Tax fees | — | — | |
| All other fees | — | — | |
| Total fees | $3,085,741 | $253,680 | |
| Number | Description | |
| Number | Description | |
| 101.INS | XBRL Instance Document* | |
| 101.SCH | XBRL Taxonomy Extension Schema Document* | |
| 101.CAL | XBRL Taxonomy Extension Calculation Linkbase Document* | |
| 101.DEF | XBRL Taxonomy Extension Definition Linkbase Document* | |
| 101.LAB | XBRL Taxonomy Extension Label Linkbase Document* | |
| 101.PRE | XBRL Taxonomy Extension Presentation Linkbase Document* | |
________________
* Management contract or compensatory plan or arrangement
Item 16. FORM 10-K SUMMARY
None
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) 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.
Date: May 4, 2018March 1, 2019
| HOPE BANCORP, INC. | |
| By: | /s/ KEVIN S. KIM |
| Kevin S. Kim | |
| President and Chief Executive Officer | |
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant in the capacities and on the dates indicated.
| Signature/Name | Title | Date | |||
| By: | /s/ KEVIN S. KIM | President and Chief Executive Officer | March 1, 2019 | ||
| Kevin S. Kim | (Principal Executive Officer) | ||||
| By: | /s/ ALEX KO | Executive Vice President & Chief Financial Officer | March 1, 2019 | ||
| Alex Ko | (Principal Financial and Accounting Officer) | ||||
| By: | /s/ SCOTT YOON-SUK WHANG | Chairman | March 1, 2019 | ||
| Scott Yoon-Suk Whang | |||||
| By: | /s/ STEVEN S. KOH | Director | March 1, 2019 | ||
| Steven S. Koh | |||||
| By: | /s/ DONALD D. BYUN | Director | March 1, 2019 | ||
| Donald D. Byun | |||||
| By: | /s/ STEVEN J. DIDION | Director | March 1, 2019 | ||
| Steven J. Didion | |||||
| By: | /s/ JINHO DOO | Director | March 1, 2019 | ||
| Jinho Doo | |||||
| By: | /s/ DAISY HA | Director | March 1, 2019 | ||
| Daisy Ha | |||||
| By: | /s/ JIN CHUL JHUNG | Director | March 1, 2019 | ||
| Jin Chul Jhung | |||||
| By: | /s/ CHUNG HYUN LEE | Director | March 1, 2019 | ||
| Chung Hyun Lee | |||||
| By: | /s/ WILLIAM J. LEWIS | Director | March 1, 2019 | ||
| William J. Lewis | |||||
| By: | /s/ DAVID P. MALONE | Director | March 1, 2019 | ||
| David P. Malone | |||||
| By: | /s/ JOHN R. TAYLOR | Director | March 1, 2019 | ||
| John R. Taylor | |||||
| By: | /s/ DALE S. ZUEHLS | Director | March 1, 2019 | ||
| Dale S. Zuehls | |||||
Report of Independent Registered Public Accounting Firm
Stockholders and the Board of Directors of Hope Bancorp, Inc.
Los Angeles, California
Opinions on the Financial Statements and Internal Control over Financial Reporting
We have audited the accompanying consolidated statements of financial condition of Hope Bancorp, Inc. and subsidiaries (the "Company") as of December 31, 2018 and 2017, the related consolidated statements of income, comprehensive income, changes in stockholders’ equity, and cash flows for the years then ended, and the related notes (collectively referred to as the "financial statements"). We also have audited the Company’s internal control over financial reporting as of December 31, 2018, based on criteria established in Internal Control - Integrated Framework: (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO).
In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of the Company as of December 31, 2018 and 2017, and the results of its operations and its cash flows for the years then ended in conformity with accounting principles generally accepted in the United States of America. Also in our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of December 31, 2018, based on criteria established in Internal Control - Integrated Framework: (2013) issued by COSO.
Basis for Opinions
The Company’s management is responsible for these financial statements, for maintaining effective internal control over financial reporting, and for its assessment of the effectiveness of internal control over financial reporting, included in the accompanying Management’s Annual Report on Internal Control over Financial Reporting. Our responsibility is to express an opinion on the Company’s financial statements and an opinion on the Company’s internal control over financial reporting based on our audits. We are a public accounting firm registered with the Public Company Accounting Oversight Board (United States) ("PCAOB") and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud, and whether effective internal control over financial reporting was maintained in all material respects.
Our audits of the financial statements included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements. Our audit of internal control over financial reporting included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control based on the assessed risk. Our audits also included performing such other procedures as we considered necessary in the circumstances. We believe that our audits provide a reasonable basis for our opinions.
Definition and Limitations of Internal Control Over Financial Reporting
A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
| /s/ Crowe LLP |
| Crowe LLP |
We have served as the Company's auditor since 2017.
Los Angeles, California
March 1, 2019
Report of Independent Registered Public Accounting Firm
Board of Directors and Stockholders Hope
Hope Bancorp, Inc.
Los Angeles, California
We have audited the accompanying consolidated statements of income, comprehensive income, stockholders’ equity, and cash flows of Hope Bancorp, Inc. and subsidiaries for the year ended December 31, 2016. These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audits.
We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audit provides a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the results of the operations and the cash flows of Hope Bancorp, Inc. and subsidiaries for the year ended December 31, 2016, in conformity with accounting principles generally accepted in the United States of America.
/s/ BDO USA, LLP
Los Angeles, California
May 17, 2017
HOPE BANCORP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
DECEMBER 31, 2018 AND 2017
| December 31, | |||||||
| 2018 | 2017 | ||||||
| (Dollars in thousands, except share data) | |||||||
| ASSETS | |||||||
| Cash and cash equivalents: | |||||||
| Cash and due from banks | $ | 219,366 | $ | 185,527 | |||
| Interest-bearing cash in other banks | 240,240 | 306,473 | |||||
| Total cash and cash equivalents | 459,606 | 492,000 | |||||
| Interest-bearing deposits in other financial institutions and other investments | 29,409 | 53,366 | |||||
| Securities available for sale, at fair value | 1,846,265 | 1,720,257 | |||||
| Equity investments | 49,835 | — | |||||
| Loans held for sale, at the lower of cost or fair value | 25,128 | 29,661 | |||||
Loans receivable, net of allowance for loan losses of $92,557 and $84,541 at December 31, 2018 and December 31, 2017, respectively | 12,005,558 | 11,018,034 | |||||
| Other real estate owned (“OREO”), net | 7,754 | 10,787 | |||||
| Federal Home Loan Bank (“FHLB”) stock, at cost | 25,461 | 29,776 | |||||
| Premises and equipment, net | 53,794 | 56,714 | |||||
| Accrued interest receivable | 32,225 | 29,979 | |||||
| Deferred tax assets, net | 50,913 | 55,203 | |||||
| Customers’ liabilities on acceptances | 2,281 | 1,691 | |||||
| Bank owned life insurance (“BOLI”) | 75,219 | 74,915 | |||||
| Investments in affordable housing partnerships | 92,040 | 81,009 | |||||
| Goodwill | 464,450 | 464,450 | |||||
| Core deposit intangible assets, net | 14,061 | 16,523 | |||||
| Servicing assets, net | 23,132 | 24,710 | |||||
| Other assets | 48,821 | 47,642 | |||||
| Total assets | $ | 15,305,952 | $ | 14,206,717 | |||
See accompanying notes to consolidated financial statements.
HOPE BANCORP, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION (continued) DECEMBER 31, 2018 AND 2017 | |||||||
| December 31, | |||||||
| 2018 | 2017 | ||||||
| (Dollars in thousands, except share data) | |||||||
| LIABILITIES AND STOCKHOLDERS’ EQUITY | |||||||
| LIABILITIES: | |||||||
| Deposits: | |||||||
| Noninterest bearing | $ | 3,022,633 | $ | 2,998,734 | |||
| Interest bearing: | |||||||
| Money market and NOW accounts | 3,036,653 | 3,332,703 | |||||
| Savings deposits | 225,746 | 240,509 | |||||
| Time deposits | 5,870,624 | 4,274,663 | |||||
| Total deposits | 12,155,656 | 10,846,609 | |||||
| FHLB advances | 821,280 | 1,157,693 | |||||
| Federal funds purchased | — | 69,900 | |||||
| Convertible notes, net | 194,543 | — | |||||
| Subordinated debentures | 101,929 | 100,853 | |||||
| Accrued interest payable | 31,374 | 15,961 | |||||
| Acceptances outstanding | 2,281 | 1,691 | |||||
| Commitments to fund investments in affordable housing partnerships | 46,507 | 38,467 | |||||
| Other liabilities | 49,171 | 47,288 | |||||
| Total liabilities | 13,402,741 | 12,278,462 | |||||
| STOCKHOLDERS’ EQUITY: | |||||||
| Common stock, $0.001 par value; authorized 150,000,000 shares at December 31, 2018 and December 31, 2017; issued and outstanding 135,642,365 and 126,639,912 shares, respectively at December 31, 2018, and issued and outstanding 135,511,891 shares at December 31, 2017 | 136 | 136 | |||||
| Additional paid-in capital | 1,423,405 | 1,405,014 | |||||
| Retained earnings | 662,375 | 544,886 | |||||
Treasury stock, at cost; 9,002,453 and 0 shares at December 31, 2018 and December 31, 2017, respectively | (150,000 | ) | — | ||||
| Accumulated other comprehensive loss, net | (32,705 | ) | (21,781 | ) | |||
| Total stockholders’ equity | 1,903,211 | 1,928,255 | |||||
| Total liabilities and stockholders’ equity | $ | 15,305,952 | $ | 14,206,717 | |||
See accompanying notes to consolidated financial statements.
HOPE BANCORP, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF INCOME YEARS ENDED DECEMBER 31, 2018, 2017, AND 2016 | |||||||||||
| Year Ended December 31, | |||||||||||
| 2018 | 2017 | 2016 | |||||||||
| (Dollars in thousands, except per share data) | |||||||||||
| INTEREST INCOME: | |||||||||||
| Interest and fees on loans | $ | 594,103 | $ | 529,760 | $ | 392,127 | |||||
| Interest on securities | 45,342 | 36,917 | 25,442 | ||||||||
| Interest on federal funds sold and other investments | 10,727 | 5,427 | 4,365 | ||||||||
| Total interest income | 650,172 | 572,104 | 421,934 | ||||||||
| INTEREST EXPENSE: | |||||||||||
| Interest on deposits | 134,958 | 74,902 | 48,091 | ||||||||
| Interest on FHLB advances and federal funds purchased | 15,127 | 10,706 | 7,560 | ||||||||
| Interest on other borrowings and convertible notes | 12,160 | 5,116 | 2,928 | ||||||||
| Total interest expense | 162,245 | 90,724 | 58,579 | ||||||||
| NET INTEREST INCOME BEFORE PROVISION FOR LOAN LOSSES | 487,927 | 481,380 | 363,355 | ||||||||
| PROVISION FOR LOAN LOSSES | 14,900 | 17,360 | 9,000 | ||||||||
| NET INTEREST INCOME AFTER PROVISION FOR LOAN LOSSES | 473,027 | 464,020 | 354,355 | ||||||||
| NONINTEREST INCOME: | |||||||||||
| Service fees on deposit accounts | 18,551 | 20,619 | 15,964 | ||||||||
| International service fees | 4,371 | 4,494 | 3,693 | ||||||||
| Loan servicing fees, net | 4,696 | 5,433 | 3,519 | ||||||||
| Wire transfer fees | 4,934 | 5,057 | 4,326 | ||||||||
| Net gains on sales of SBA loans | 9,708 | 12,774 | 8,750 | ||||||||
| Net gains on sales of other loans | 2,485 | 2,927 | 2,920 | ||||||||
| Net gains on sales or called securities available for sale | — | 301 | 950 | ||||||||
| Other income and fees | 15,435 | 14,810 | 11,697 | ||||||||
| Total noninterest income | 60,180 | 66,415 | 51,819 | ||||||||
| NONINTEREST EXPENSE: | |||||||||||
| Salaries and employee benefits | 153,523 | 144,669 | 107,944 | ||||||||
| Occupancy | 30,371 | 28,587 | 24,574 | ||||||||
| Furniture and equipment | 14,902 | 14,643 | 11,726 | ||||||||
| Advertising and marketing | 9,414 | 10,281 | 7,320 | ||||||||
| Data processing and communication | 14,232 | 12,179 | 11,403 | ||||||||
| Professional fees | 16,286 | 14,954 | 6,556 | ||||||||
| Investments in affordable housing partnerships expenses | 12,066 | 13,862 | 4,100 | ||||||||
| FDIC assessments | 6,572 | 5,173 | 4,165 | ||||||||
| Credit related expenses | 2,863 | 582 | 2,954 | ||||||||
| OREO expense, net | 187 | 3,100 | 2,492 | ||||||||
| Branch restructuring costs | 1,674 | — | — | ||||||||
| Merger and integration expense | (7 | ) | 1,781 | 16,914 | |||||||
| Other | 15,643 | 16,790 | 14,827 | ||||||||
| Total noninterest expense | 277,726 | 266,601 | 214,975 | ||||||||
| INCOME BEFORE INCOME TAX PROVISION | 255,481 | 263,834 | 191,199 | ||||||||
| INCOME TAX PROVISION | 65,892 | 124,389 | 77,452 | ||||||||
| NET INCOME | $ | 189,589 | $ | 139,445 | $ | 113,747 | |||||
| EARNINGS PER COMMON SHARE: | |||||||||||
| Basic | $ | 1.44 | $ | 1.03 | $ | 1.10 | |||||
| Diluted | $ | 1.44 | $ | 1.03 | $ | 1.10 | |||||
See accompanying notes to consolidated financial statements.
HOPE BANCORP, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME YEARS ENDED DECEMBER 31, 2018, 2017, AND 2016 | |||||||||||
| For Year Ended December 31, | |||||||||||
| 2018 | 2017 | 2016 | |||||||||
| (Dollars in thousands) | |||||||||||
| Net income | $ | 189,589 | $ | 139,445 | $ | 113,747 | |||||
| Other comprehensive loss: | |||||||||||
| Change in unrealized net holding losses on securities | (16,201 | ) | (5,796 | ) | (21,273 | ) | |||||
| Reclassification adjustments for gains realized in net income | — | (301 | ) | (950 | ) | ||||||
| Tax effect | 4,996 | 2,570 | 9,398 | ||||||||
| Other comprehensive loss, net of tax | (11,205 | ) | (3,527 | ) | (12,825 | ) | |||||
| Total comprehensive income | $ | 178,384 | $ | 135,918 | $ | 100,922 | |||||
See accompanying notes to consolidated financial statements.
HOPE BANCORP, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY YEARS ENDED DECEMBER 31, 2018, 2017, AND 2016 | |||||||||||||||||||||||||||
| Common stock | Additional paid-in capital | Retained earnings | Treasury stock | Accumulated other comprehensive loss, net | Total stockholders’ equity | ||||||||||||||||||||||
| Shares | Amount | ||||||||||||||||||||||||||
| (Dollars in thousands, except share data) | |||||||||||||||||||||||||||
| BALANCE, JANUARY 1, 2016 | 79,566,356 | $ | 80 | $ | 541,596 | $ | 398,251 | $ | — | $ | (1,832 | ) | $ | 938,095 | |||||||||||||
| Issuance of shares pursuant to various stock plans | 179,997 | 1,171 | 1,171 | ||||||||||||||||||||||||
| Tax effects of stock plans | 79 | 79 | |||||||||||||||||||||||||
| Stock-based compensation | 1,391 | 1,391 | |||||||||||||||||||||||||
| Issuance of Hope stock options in exchange for Wilshire stock options | 3,370 | 3,370 | |||||||||||||||||||||||||
Issuance of share in exchange of Wilshire common stock | 55,493,726 | 55 | 852,883 | 852,938 | |||||||||||||||||||||||
| Cash dividends declared on common stock ($0.45 per share) | (42,493 | ) | (42,493 | ) | |||||||||||||||||||||||
| Comprehensive income: | |||||||||||||||||||||||||||
| Net income | 113,747 | 113,747 | |||||||||||||||||||||||||
| Other comprehensive loss | (12,825 | ) | (12,825 | ) | |||||||||||||||||||||||
| BALANCE, DECEMBER 31, 2016 | 135,240,079 | $ | 135 | $ | 1,400,490 | $ | 469,505 | $ | — | $ | (14,657 | ) | $ | 1,855,473 | |||||||||||||
| Issuance of shares pursuant to various stock plans | 271,812 | 1 | 1,864 | 1,865 | |||||||||||||||||||||||
| Stock-based compensation | 2,660 | 2,660 | |||||||||||||||||||||||||
| Cash dividends declared on common stock ($0.50 per share) | (67,661 | ) | (67,661 | ) | |||||||||||||||||||||||
Reclassification of stranded tax effects to retained earnings - ASU 2018-02 | 3,597 | (3,597 | ) | — | |||||||||||||||||||||||
| Comprehensive income: | |||||||||||||||||||||||||||
| Net income | 139,445 | 139,445 | |||||||||||||||||||||||||
| Other comprehensive loss | (3,527 | ) | (3,527 | ) | |||||||||||||||||||||||
| BALANCE, DECEMBER 31, 2017 | 135,511,891 | $ | 136 | $ | 1,405,014 | $ | 544,886 | $ | — | $ | (21,781 | ) | $ | 1,928,255 | |||||||||||||
| Reclassification of unrealized losses on equity investments to retained earnings - ASU 2016-01 | (469 | ) | 281 | (188 | ) | ||||||||||||||||||||||
| Issuance of shares pursuant to various stock plans | 130,474 | 469 | 469 | ||||||||||||||||||||||||
| Stock-based compensation | 2,877 | 2,877 | |||||||||||||||||||||||||
| Cash dividends declared on common stock ($0.54 per share) | (71,631 | ) | (71,631 | ) | |||||||||||||||||||||||
| Comprehensive income: | |||||||||||||||||||||||||||
| Net income | 189,589 | 189,589 | |||||||||||||||||||||||||
| Other comprehensive loss | (11,205 | ) | (11,205 | ) | |||||||||||||||||||||||
| Repurchase of treasury stock | (9,002,453 | ) | (150,000 | ) | (150,000 | ) | |||||||||||||||||||||
Equity component of convertible notes, net of taxes | 15,045 | 15,045 | |||||||||||||||||||||||||
| BALANCE, DECEMBER 31, 2018 | 126,639,912 | $ | 136 | $ | 1,423,405 | $ | 662,375 | $ | (150,000 | ) | $ | (32,705 | ) | $ | 1,903,211 | ||||||||||||
See accompanying notes to consolidated financial statements.
HOPE BANCORP, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS YEARS ENDED DECEMBER 31, 2018, 2017, AND 2016 | |||||||||||
| Year ended December 31, | |||||||||||
| 2018 | 2017 | 2016 | |||||||||
| (Dollars in thousands, except share data) | |||||||||||
| CASH FLOWS FROM OPERATING ACTIVITIES (net of acquisition) | |||||||||||
| Net income | $ | 189,589 | $ | 139,445 | $ | 113,747 | |||||
| Adjustments to reconcile net income to net cash from operating activities: | |||||||||||
| Discount accretion, net amortization and depreciation | (2,128 | ) | (14,903 | ) | (1,569 | ) | |||||
| Stock-based compensation expense | 3,659 | 3,161 | 2,967 | ||||||||
| Provision for loan losses | 14,900 | 17,360 | 9,000 | ||||||||
| (Credit) provision for unfunded loan commitments | (100 | ) | (2,358 | ) | 179 | ||||||
| Valuation adjustment of premises held for sale | — | 1,084 | — | ||||||||
| Valuation adjustment of OREO | 415 | 2,041 | 2,228 | ||||||||
| Impairment of investments in affordable housing partnership | — | 4,846 | — | ||||||||
| Net gains on sales of SBA and other loans | (12,193 | ) | (15,701 | ) | (11,670 | ) | |||||
| Earnings on BOLI | (304 | ) | (1,219 | ) | (1,438 | ) | |||||
| Net change in fair value of derivatives | 21 | 78 | 443 | ||||||||
| Net (gains) losses on sale and disposal of premises and equipment | 50 | (868 | ) | 176 | |||||||
| Net (gains) losses on sales of OREO | (408 | ) | (79 | ) | 16 | ||||||
| Net gains on sales or called securities available for sale | — | (301 | ) | (950 | ) | ||||||
| Net change in fair value of equity investments with readily determinable fair value | (1,449 | ) | — | — | |||||||
| Losses on investments in affordable housing partnership | 11,728 | 10,266 | 4,100 | ||||||||
| Net change in deferred income taxes | 2,742 | 34,740 | 5,750 | ||||||||
| Proceeds from sales of loans held for sale | 266,115 | 310,345 | 239,203 | ||||||||
| Originations of loans held for sale | (255,545 | ) | (276,537 | ) | (219,779 | ) | |||||
| Origination of servicing assets | (6,157 | ) | (5,492 | ) | (4,472 | ) | |||||
| Change in accrued interest receivable | (2,246 | ) | (3,099 | ) | (2,459 | ) | |||||
| Change in other assets | (6,138 | ) | (1,987 | ) | 16,418 | ||||||
| Change in accrued interest payable | 15,413 | 5,098 | 2,247 | ||||||||
| Change in other liabilities | 1,983 | (1,999 | ) | (23,532 | ) | ||||||
| Net cash provided by operating activities | 219,947 | 203,921 | 130,605 | ||||||||
| CASH FLOWS FROM INVESTING ACTIVITIES (net of acquisition) | |||||||||||
| Net cash received from acquisition - Wilshire Bancorp, Inc. | — | — | 100,127 | ||||||||
| Purchase of interest bearing deposits in other financial institutions and other investments | (10,533 | ) | (30,477 | ) | (2,962 | ) | |||||
| Redemption of interest bearing deposits in other financial institutions and other investments | 16,495 | 21,313 | 13,465 | ||||||||
| Purchase of securities available for sale | (393,584 | ) | (572,528 | ) | (553,336 | ) | |||||
| Proceeds from matured, called, or paid-down securities available for sale | 221,595 | 264,730 | 238,605 | ||||||||
| Proceeds from sales of securities available for sale | — | 128,791 | 217,079 | ||||||||
| Purchase of equity investments | (1,434 | ) | — | — | |||||||
| Proceeds from sales of other loans | 21,716 | 417 | 634 | ||||||||
| Net change in loans receivable | (983,720 | ) | (564,536 | ) | (487,961 | ) | |||||
| Proceeds from sales of OREO | 6,667 | 14,802 | 17,390 | ||||||||
| Purchase of FHLB stock | — | (8,573 | ) | (97 | ) | ||||||
| Redemption of FHLB stock | 4,315 | 761 | 13,636 | ||||||||
| Purchase of premises and equipment | (6,846 | ) | (14,777 | ) | (14,320 | ) | |||||
| Proceeds from sales and disposals of premises and equipment | 45 | 5,084 | — | ||||||||
| Investments in affordable housing partnerships | (22,181 | ) | (12,342 | ) | (5,616 | ) | |||||
| Net cash used in investing activities | (1,147,465 | ) | (767,335 | ) | (463,356 | ) | |||||
| CASH FLOWS FROM FINANCING ACTIVITIES | |||||||||||
| Net change in deposits | 1,309,048 | 209,477 | 494,549 | ||||||||
| Proceeds from FHLB advances | 130,000 | 1,420,000 | 825,000 | ||||||||
| Repayment of FHLB advances and prepayment fees | (465,000 | ) | (1,015,000 | ) | (806,610 | ) | |||||
| Proceeds from federal funds purchased | — | 69,900 | — | ||||||||
| Repayment of federal funds purchased | (69,900 | ) | — | — | |||||||
| Proceeds from convertible notes, net of issuance fees | 212,920 | — | — | ||||||||
| Purchase of treasury stock | (150,000 | ) | — | — | |||||||
| Cash dividends paid on common stock | (71,631 | ) | (67,661 | ) | (42,493 | ) | |||||
| Issuance of additional stock pursuant to various stock plans | 469 | 1,865 | 1,171 | ||||||||
| Tax effects of issuance of shares from various stock plans | — | — | 79 | ||||||||
| Taxes paid in net settlement of restricted stock | (782 | ) | (501 | ) | — | ||||||
| Net cash provided by financing activities | 895,124 | 618,080 | 471,696 | ||||||||
| NET CHANGE IN CASH AND CASH EQUIVALENTS | (32,394 | ) | 54,666 | 138,945 | |||||||
| CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD | 492,000 | 437,334 | 298,389 | ||||||||
| CASH AND CASH EQUIVALENTS, END OF PERIOD | $ | 459,606 | $ | 492,000 | $ | 437,334 | |||||
| SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION | |||||||||||
| Interest paid | $ | 144,128 | $ | 91,081 | $ | 62,624 | |||||
| Income taxes paid | $ | 57,862 | $ | 104,158 | $ | 65,726 | |||||
| SUPPLEMENTAL DISCLOSURES OF NON-CASH ACTIVITIES | |||||||||||
| Transfer of investments available for sale and other investments to equity investments | $ | 46,952 | $ | — | $ | — | |||||
| Transfer from loans receivable to OREO | $ | 3,340 | $ | 7,173 | $ | 5,646 | |||||
| Loans transferred to held for sale from loans receivable | $ | 21,581 | $ | 429 | $ | 11,885 | |||||
| Loans transferred to loans receivable from held for sale | $ | 10,073 | $ | 4,100 | $ | 9,163 | |||||
| Transfer from premises and equipment to premises held for sale | $ | — | $ | 3,300 | $ | — | |||||
| Loans to facilitate sale of premises | $ | — | $ | 1,350 | $ | — | |||||
| Loans to facilitate sale of OREO | $ | — | $ | 2,300 | $ | — | |||||
| New commitments to fund affordable housing partnership investments | $ | 30,097 | $ | 26,400 | $ | 1,327 | |||||
| Equity component of convertible notes, net of tax | $ | 15,045 | $ | — | $ | — | |||||
| Assets acquired from Wilshire | $ | — | $ | — | $ | 4,627,604 | |||||
| Liabilities assumed from Wilshire | $ | — | $ | — | $ | 4,130,342 | |||||
| Common stock issued in consideration for Wilshire (in shares) | — | — | 55,493,726 | ||||||||
See accompanying notes to consolidated financial statements.
HOPE BANCORP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
YEARS ENDED DECEMBER 31, 2018, 2017, AND 2016