Good day and welcome to the Preferred Bank Fourth Quarter 2020 Earnings Conference Call. All participants will be in a listen-only mode. [Operator Instructions] After today's presentation, there will be an opportunity to ask questions. [Operator Instructions] Please note, this event is being recorded.

I would now like to turn the conference over to Jeff Haas of Financial Profiles. Please go ahead..

Thank you, Andrew. Hello everyone, and thank you for joining us to discuss Preferred Bank's financial results for the fourth quarter ended December 31, 2020.

With me today from management are Chairman and CEO, Li Yu; President and Chief Operating Officer, Wellington Chen; Chief Financial Officer, Edward Czajka, and Deputy Chief Operating Officer, Johnny Hsu. Management will provide a brief summary of the results and then we will open up the call to your questions.

During the course of this conference call, statements made by management may include forward-looking statements, within the meaning of the Private Securities Litigation Reform Act of 1995. Such forward-looking statements are based upon specific assumptions that may or may not prove correct.

Forward-looking statements are also subject to known and unknown risks, uncertainties and other factors relating to Preferred Bank's operations, and business environment, all of which are difficult to predict and many of which, are beyond the control of Preferred Bank.

For a detailed description of these risks and uncertainties, please refer to the SEC required documents that the Bank files with the Federal Deposit Insurance Corporation or FDIC.

If any of these uncertainties materialize, or any of these assumptions prove incorrect, Preferred Bank's results could differ materially from its expectations, as set forth in these statements. Preferred Bank assumes no obligation to update such forward-looking statements. At this time, I'd like to turn the call over to Mr. Li Yu, please go ahead..

Thank you very much. Good morning ladies and gentlemen. I'm very pleased to report fourth quarter of 2020. Preferred Bank’s net income was $20.8 million or $1.40 a share. This is a new record of our bank. On the PT, PP a pre-tax pre-provision basis, 2020 is also a record year of Preferred Bank.

This quarter’s net income, net interest income and net interest margin are all enhanced or benefited by two relatively non-recurring items. First of all is the recovery of interest of $473,000. The next one is fees earned now terminated mainstream lending program of $499,000.

Net interest margin came in for the quarter at 3.66%, [4] basis points better than previous quarter. But without these non-recurring items, it would have been 3.58%, 4 basis points better. Again, this quarter, the reduction of interest costs or deposit costs outpaced the moderation of loan yield.

Looking ahead, we shall have continued interest cost saving in the first quarter as roughly $330 million of time certificate of deposits will be repricing for roughly $0.50, or 50 basis points savings. On a quarter net income was negatively affected by a loss on sales security of $660,000.

For the quarter, loan growth is $86 million or 2.2% sequentially, this is very encouraging after a long drought and during the myth of pandemic. We have seen our customers seem to be much more positive on our nation's economy. Fourth quarter loan [pipeline] has really picked up. Deposits however, grew only mildly at $28 million.

And as the liquidity of the bank remain very good. Perhaps the most comforting things to us is the improvement in our credit posture. After nearly years of uncertainty related to the pandemic we finally seen things are getting better. Specifically, deferred loans now reduced to $28 million compared to the peak time of $610 million.

But most of these deferments are partial deferments. We are deferring the principal only and continue to collect interest. Total non-accruals loans now reduced to $20.5 million. 30 to 89 days past due loans which is usually a early signal on the credit situation stands at $4.1 million at the end. There were no 90 days past due loans.

And total classified loans is now $55 million, which includes a $23 million TDR which is performing. At December 31 total reserve is 1.6%. We were and we will always be careful regarding our operating expenses. Efficiency ratio, again, came in 29.9% for the quarter.

With the availability of vaccine, although it is quite a chaotic situation in Los Angeles County, but with its availability and with the likelihood of a stimulus package from Washington, we believe things will be much better. And we believe 2021 will be a good year for Preferred Bank. Thank you. I am ready for your questions..

At this time, we will now begin the question and answer session. [Operator Instructions] At this time, we will pause momentarily to assemble our roster. The first question comes from Nick Cucharale of Piper Sandler. Please go ahead..

Good day, gentlemen. Hope you all are well..

Thank you. We are..

Good, good. So first, a nice rebound in loan growth this quarter specifically in. Cree balances.

What was the production broad based across your geographies, I am just trying to get a sense that the activity was specific to one year’s markets, now given differences in pandemic related impact across the country?.

First it’s cost -- I mean, it's all across all across. Wellington, you want to first give some color on that..

Yes. Hi, Nick. This is Wellington. Production is pretty evenly distributed between in our geographical footprints, of course Southern California and Norco as well as East Coast and New York area. It’s very well balanced..

Great. And then secondly on the margin, I appreciate you calling out the one-time items than the maturity schedule. Even so you posted core NIM expansion.

Do you feel like you still have some room for declining liability cost out run erosion in asset yields for the next couple of quarters or is that going to be challenging to maintain?.

Yes, there will be. Liability costs will be generally on a very positive trend. First of all, is the first quarter, I mean, we have $330 million of PCD maturity, which will be repriced probably 50 basis points or less.

And the second quarter, we may have a little bit of residual effect of the first quarter but I mean, provided the market interest rate doesn't change due to competition, okay. And very highly likelihood with refinancing are sub debt, okay. At the end of the second quarter, the [virtual] result at today's market condition reasonably good savings.

So we are positive regarding our interest costs outlook..

It's great color. An impressive work on driving the modifications down this quarter, no hotel loans and deferral was especially positive to see when it comes to asset quality in the current portfolio.

What is particularly top of mind for you, what are you guys worried about?.

Well, we've obviously we would be worried about the continuous lockdown to extending to a long time mostly that people seeking deferment is many of the people had been taken out of their savings, especially, we forgot one group of people those call them [indiscernible] okay, had their property leads to -- be leads to either to people that lost their job or leads to the business that's closed and so on, they have been handling for quite a period of time, okay.

And in our particular case that were benefited by origination at the low, okay. LTV level, if you look at the table that we are presenting, they are basically in this 50s, okay. And the second law since 95, and 100% of 99% of the loan require a sponsorship or personal guarantee, okay.

And we are very careful about the global cash flow of these personal people. So we have been having some good reduction in cost of all the categories. But the people that still you may have -- they may have been, the poor people has about a one-year of basically no business, okay.

So some -- finally, that needed some help in paying along the way finally from now..

Okay.

And then lastly, for me a big step up in fee income from letters of credit, you expect that line to stay elevated at this level in coming quarters or revert back to where it was earlier last year?.

We think it's going to be relatively stable, but it and then Wellington you too can provide a color on that right..

Nick, I believe that looking at our pipeline about I think it will be relatively stable..

Thank you for taking my questions..

The next question comes from Timothy Coffey of Janney. Please go ahead..

Thank you. Good morning, everybody..

Hi..

Hi, Mr. Yu, we look at capital loan growth this quarter.

Is that a reflection of people getting off the sidelines and getting back to business or was this a bit ahead of expectations?.

Well, some of the people -- I would say that all time if someone’s getting off the sidelines, okay. And basically due to pandemic is very, very difficult to do business with new people. But we had hired and we have seen new requests coming in.

And we obviously we are still in the mode of being highly alert mode, but there are some new requests coming in that represent new activities to us..

Okay.

What is it the loan growth tells about the potential for loan growth next year, as you know, States like California start to reopen?.

Well, it is probably and I wish I would have -- had that crystal ball. It is always difficult to forecast the loan growth especially quarter-by-quarter not anything else. But based on the fourth quarter activities, we have [got] a total of outstanding loan about $300 million new loans in the fourth quarter alone.

And this represents $375 million of note amount which you mean the commitment amount. So we hope the -- in fact will carry over for the first quarter, okay. But again, it has factors about when the lockdown will be lifted or partially lifted, because for us, our people need to really have very close contact with our customers.

So there's some variables with it. And but we are generally feeling positive about going forward..

And the customers you serve and the loans you like to originate, what's the competition level like right now?.

I would let Wellington to answer the first, I have some personal observations, yes..

Hi, Tim, this is Wellington. I think competition is still -- is pretty stiff out there. We have a lot of competitor out there offering very low interest rate. We just don't know how they can sustain that going forward. But again, we all work force. We try to maintain discipline. As Li Yu mentioned earlier, be selective and really just continue.

I mean, it's always been the nature of our business throughout the history. So we just have to continue to work faster, more efficient..

Tim. Tim this is Li Yu, okay. We are now facing whole lot of competition from banks $50 million to $150 million within our territories, okay. That it seems to be the our customer that basically high net worth individuals being thought after. So they can also give other business to -- for them.

For instance, that we find people that giving out refinance our loan below 3% 10-year fixed rate 3%, okay. And that is below net interest margin, okay. While we are obviously admiring their capability of doing that the many loans we decided not to match..

That's very helpful. And that is -- I was curious about.

And then looking at expenses, if the economy starts to reopen, is there going to be the potential for upward pressure on expenses from additional traveling and marketing?.

Hey, Tim, this is Ed. Looking forward in terms of non-interest expense. To the extent profitability improves in 2021 over 2020, you will see the salary and benefits expense increase over the year because our bonus accrual is directly tied to the profitability of the bank.

So that will go up, more specifically to your point about reopening and travel costs and so forth. They are really not terribly significant for us as an entire company simply because our workforce relative to our asset size is still relatively small.

So when you look at the line items, specifically, where we have actually benefited this year, it's in business development and promotion, as well as office supplies and equipment. And you will see those line items actually went down year-over-year. So that's really where the benefit comes in.

But outside of that, there's not a tremendous amount of benefit for us in terms of the lockdown. And then going forward, in terms of increasing non-interest expense with an opening up, we will have some increased expenses, but it won't be material..

Tim, I like to tell you something, okay. That the management team here is in a growth posture again because we feel pretty good about 2021. So likely, so we will step up our efforts in looking for new locations or new branches and new different things, okay.

So likely somewhere along the year, our personnel expenses will be increasing our production personnel. And obviously those usually lead to if we are successful to a larger long-term benefit..

Yes, of course. All right. Well, thank you very much. That's exceptionally helpful..

The next question comes from David Feaster of Raymond James. Please go ahead..

Hi, good morning, everybody..

Hi..

I just wanted to follow up on your last comment about new offices.

And just curious, are there any new markets that you might be interested in organic expansion into and just kind of how are you thinking about that in terms of kind of -- or that organic expansion side?.

Yes, we, first of all, I have always [indiscernible] all organic market comes with -- whether we can lend a team of producers.

We usually whenever we found the able banker, they -- then we run them up with a team of supporting test, then start a business sale that goes along with every branch that we have open even in the neighborhood of Los Angeles area.

And even consider about the California area, we have so many new spots, which are not represented by us, which is represent vibrant business centers. Our hard work really is the locating of people. So whenever we see this opportunity, it will be new organic, new tree has been --.

Okay. Okay. And then, in terms of asset quality, when you guys have continued to improve your defensive posture is proven itself.

We have actually seen reserve ratio continue to grow, I guess, just in light of the improved economic outlook and improved credit quality, how do you think about the opportunity to potentially release reserves and maybe at what point would you think you would be comfortable doing so and then what's kind of like that more normalized reserve ratio? Is it closer to 125, which we saw in the first quarter of ‘20? Is that kind of where we should be looking at?.

Well, I am looking at the trend, okay. So if assets quality remains that I mean not turning to the worst, okay. I can see first of all is the reduction of provision, perhaps very minimum provision and then somewhere along the year, I can see that we may be able to release some of the reserves, okay. But all it depends on how the situation plays out.

And also it has to some extent, with a growth rate we will have, okay. It also affected the situation. But generally speaking is that based on what we are today, at this point of time, I can see the whole year's provisional expense will be very little comparatively speaking..

Okay, that makes sense. And then just, I am just curious historically you guys have been pretty asset sensitive.

And I am just curious how that stands today, just in light of the liquidity and the impact of floors and maybe how your assets entities, asset sensitivity has changed and then just how you are thinking about managing your sensitivity going forward?.

Ed, you and I share this question, how’s that? Okay, you start first..

Okay. Well, the interest rate situation is very interesting right now, simply because we have such a divergence between the long and the short end and the curve seems to be continuing to steepen.

But relative to our own balance sheet, you kind of hit the nail on the head we have a lot of cash, which is very asset sensitive, obviously, on an overnight basis. And then the adjustable rate loans, roughly 80% of the book is floating rate.

And so with approximately 70% floors on those and a number of those large preponderance of those being below their floors, it will take maybe one or two to three, this is very similar to the scenario we had a few years back when we were talking about the same thing, waiting for rates to rise, and we had loans below their floors waiting for them to come up above their floors.

And that we really saw the acceleration of the yields on the asset side once that took place. But in terms of asset sensitivity, right now, from a quantitative standpoint, it's still -- we are still definitely quite asset sensitive..

Okay. Obviously, at this point of time, the 80% of our loans with floors, floating rate loans, okay, many of them are always floors, okay. So we are operating currently [indiscernible] okay. I mean, that's under par the floor is higher than the coupon rate, okay.

So, going forward, I mean, if rates is going to change to the upward I don't know when Fed will do that, okay, maybe perhaps the 21 -- 25 to 50 basis points, we will not see some of our loans rise to the new rate. But on the defensive side, on the offsetting side, we have a large $1.6 billion of TCD portfolio will be gradually pricing, okay.

Along the interest rate -- repricing along the interest rate increase, while the two of them usually offset somewhat to each other, the exact is depend on the timing of things. And we have always been in our history, tried to maintain these aspects very carefully..

Okay, that's all. Thanks, everybody..

The next question comes from Steve Moss of B. Riley. Please go ahead..

Good morning..

Hi..

I just start off with -- I just following up on yields here just kind of curious what were origination yields for the quarter in terms of pricing these days?.

Okay. For the quarter, we are originating the loans, okay. In the pricing, I have it hand it right with me right now, okay. With the average rate is 4.85%, okay. So --.

Okay..

As you in the same quarter you have payoffs..

Okay..

Payoffs little bit higher about 30 basis points higher. That is one of the main reasons you have more moderate huge compression --.

Okay, that's helpful.

And then on the on the CD side, kind of curious as to where you are offering rates there these days?.

Hi Steve, this is Ed. On a one year CD our offering rate is right around 50 basis points. And that that kind of holds through down through the six months and three months probably as well, it's become a market that doesn't terribly a lot about terms in terms of one-year, two-year, six months right now..

Steve, you didn't notice that the first quarter, we had lost some key CDs, okay. And that is because we decided not to match those maturity to CDs. The bank is too liquid, in my opinion at this point in time, and so much cash sitting -- earning 10 basis points from [indiscernible] okay. So those are really more strategic move..

Right. Okay, that's helpful. And then in terms of capital here, building this quarter, seems like it's going to continue to build in 2021.

Just kind of curious as to what your thoughts are on potential for capital deployment?.

Okay. First of all, as we continue to have this kind of a level of earnings, hopefully, there may even be slight improvement in this. Sometime in 2021, we obviously will be thinking about increase the dividend, that's almost a thing that we have dedicated that we will recommend to the board, okay.

Now, the next thing is obviously, as we always wait is the -- again in on loan growth, okay. If we have the organic loans or loans, let's say we are lucky enough to return to two years ago, getting in enough things, okay, then the redeployment capital basically will be largely through the using the loan growth in the area.

If we cannot have original loan growth that we will be looking at situation like a buyback, okay. But all this is studying I am right now studying is that what if we have a buyback immediately, okay? What effect would do to us in our current, capital level, you see our primary capital levels is slightly over 10%.

So that is one area that we are studying, and to see how comfortable we are --.

Okay, great. That's very helpful. Thank you very much..

And this concludes our question and answer session. I would like to turn the conference back over to Li Yu for any closing remarks..

Well, thank you very much that for your attention that and as I said earlier, we had a good quarter. And we hope it continues into next year and hopefully that all of us will be getting out of pandemic soon. And we are back to our normal life get our freedom back, okay, which is probably more important than the performance of the bank anything but.

So with that let's wish for the best for 2021. Thank you..

Thank you. The conference has now concluded. Thank you for attending today's presentation. You may now disconnect..