EDGAR 10-K Filing

Company CIK: 1128361
Filing Year: 2021
Filename: 1128361_10-K_2021_0001128361-21-000007.json

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ITEM 1. BUSINESS
Item 1. BUSINESS
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) is a bank holding company headquartered in Los Angeles, California. The Company was incorporated in Delaware in the year 2000. We offer commercial and retail banking loan and deposit products through our wholly-owned subsidiary, Bank of Hope, a California state-chartered bank (the “Bank” or “Bank of Hope”). The Bank primarily focuses its business in ethnic communities in California, New Jersey and New York City, Chicago, Houston, Dallas, Seattle and Washington, D.C. metropolitan areas. Our headquarters are located at 3200 Wilshire Boulevard, Suite 1400, Los Angeles, California 90010, and our telephone number at that address is (213) 639-1700.
Hope Bancorp exists primarily for the purpose of holding the stock of the Bank and other subsidiaries it may acquire or establish. Bank of Hope’s deposits are insured by the Federal Deposit Insurance Corporation (the “FDIC”), up to applicable limits.
We file reports with the Securities and Exchange 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 well 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 website is www.sec.gov. Our website address is www.bankofhope.com. Electronic copies of our 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 charge 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.
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 58 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, 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 9 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. Our underwriting procedure for this type of credit is the same as for commercial business loans. 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 allows 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 export lines of credit as well as through immediate financing of clean documents presented under export letters of credit.
We also provide warehouse lines of credit to mortgage loan originators. The lines of credit are used by these 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 loan treatment for these types of loans.
We provide commercial equipment lease financing through a relationship with a third-party leasing company. Equipment leasing loans are generally capital leases with maturities up to five years. In addition, we have a portfolio of syndicated loans in which we are one in a group of lenders that collectively provide credit to worthy borrowers.
Real Estate Loans
Real estate loans are extended for the purchase and refinance of 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 real estate loans. It is our general policy to restrict 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 $3.8 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, during the fourth quarter of 2018 we made the decision to retain these loans due to the decline in premiums offered in the secondary market. Therefore, we have been 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.
In 2020, the government established the SBA Paycheck Protection Program (“PPP”) under the Coronavirus Aid, Relief, and Economic Security (“CARES”) Act to assist companies to continue paying workers and staff during the COVID-19 pandemic. Currently we have begun originating a second round of PPP loans starting the first quarter of 2021.
All of our SBA loans are originated through our SBA Loan Departments and certain loan production offices. 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, credit card 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 investments include equity investments and an available for sale investment portfolio which consists of government sponsored agency bonds, mortgage-backed securities, collateralized mortgage obligations (“CMOs”), corporate securities, and municipal securities. For a detailed breakdown of our investments, 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 equity investment or investment 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 and our online banking platform.
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 from 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 99% 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, 2020, we had nine wholly-owned subsidiary grantor trusts (“Trusts”) that have 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 of Hope Bancorp (the “Debentures”). 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 February 15, 2023, the convertible 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 cash at our option. We have the right to call the convertible notes on or after May 20, 2023 and holder of the notes 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.
Market Area and Competition
We currently have 58 banking offices in areas having high concentrations of Korean-Americans, of which 32 are located in the Los Angeles, Orange County, Oakland and Silicon Valley (Santa Clara County) areas of California, 10 are located in the New York City metropolitan area and New Jersey, five are in the Chicago metropolitan area, four are in the Seattle metropolitan area, four are in Texas, two are in Virginia, and one is in Alabama. We also have 11 loan production offices located in Dallas, Seattle, Atlanta, Denver, Portland, Fremont, and Southern California and a representative office in Seoul, South Korea. The banking and financial services industry generally, and in our market areas specifically, is highly competitive. The increasingly competitive environment is a result primarily of strong competition among the banks servicing the Korean-American community, changes in regulations, changes in technology and product delivery systems, and consolidation among financial services companies. In addition, federal legislation may have the effect of further increasing the pace of consolidation within the financial services industry. See “Supervision and Regulation.”
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 depository institutions, depends, among other things, on interest rate differentials. In general, the difference between the interest expense on interest bearing liabilities, such as deposits, borrowings, and debt, and the interest income on our interest earning assets, such as loans we extend to our customers and securities held in our investment portfolio, as well as the level of noninterest bearing deposits, has 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 federal government and the policies of regulatory agencies, particularly the Board of Governors of the Federal Reserve System (the “FRB”). The FRB implements national monetary policies (with objectives such as curbing inflation or preventing recession) through its open-market operations in U.S. government securities, by adjusting the required level of reserves for depository institutions subject to its reserve requirements, and by varying the targeted federal funds and discount rates applicable to borrowings by depository institutions. The actions of the FRB in these areas influence the growth of bank loans, investments, and deposits and also affect interest rates earned on interest earning assets and paid on interest bearing liabilities. The nature and impact on Hope Bancorp, and the Bank, of future changes in monetary and fiscal policies cannot be predicted.
From time to time, legislation and regulations are enacted or adopted which have the effect of increasing the cost of doing business, limiting, or expanding permissible activities, or affecting the competitive balance between banks and other financial services providers. Proposals to change the laws and regulations governing the operations and taxation of banks, bank holding companies, financial holding companies, and other financial institutions and financial services providers are frequently made in the U.S. Congress, in state legislatures, and by various regulatory agencies. These proposals may result in changes in banking statutes and regulations and our operating environment in substantial and unpredictable ways. If enacted, such legislation could increase the cost of doing business, limit permissible activities, or affect the competitive balance among banks, savings associations, credit unions, and other financial institutions. We cannot predict whether any of this potential legislation will be enacted, and if enacted, the effect that it, or any implementing regulations, would have on our financial condition or results of operations. See “Supervision and Regulation.”
Supervision and Regulation
General
Hope Bancorp and the Bank are subject to extensive regulation and supervision under state and federal banking laws. This regulatory framework covers substantially all of the business activities of Hope Bancorp and the Bank. In the exercise of their regulatory and supervisory authority, the bank regulatory agencies have emphasized capital planning and stress testing, liquidity management, enterprise risk management, corporate governance, anti-money laundering compliance, information technology adequacy, cybersecurity preparedness, vendor management, and fair lending and other consumer compliance obligations. The federal and state regulatory systems are intended primarily for the protection of depositors, customers, the FDIC deposit insurance fund (the “DIF”) and the banking system as a whole, rather than for the protection of our stockholders or other investors.
The following summarizes certain laws and regulations that apply to Hope Bancorp and 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 Holding Company Regulation
Hope Bancorp is a registered bank holding company. As a bank holding company under the Bank Holding Company Act, Hope Bancorp is subject to regulation, supervision and regular examination by the FRB and is required to file periodic reports of its operations with the FRB 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 stockholders 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 competition, 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 Company and its subsidiaries are subject to examination by, and may be required to file reports with, the California Department of Financial Protection and Innovation (the “DFPI”). DFPI approvals are also required for bank 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 DFPI and the FDIC. In addition, while the Bank is not a member of the 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 stockholders, 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 Wall Street Reform and Consumer Protection Action (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 many so-called “closely related to banking” or “nonbanking” activities commonly conducted by national banks in operating subsidiaries or by subsidiaries of bank holding companies. Further, California state chartered banks may conduct certain financial activities permitted under GLBA in a “financial subsidiary” to the same extent as a national bank, provided the bank is and remains 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 similar regulatory capital requirements administered by its 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 based on the Basel III Accord (the “Basel III Capital Rules”). The Basel III Capital Rules became effective on January 1, 2015. The Basel III 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. The risk classifications and, therefore, the required capital amounts may be subject to qualitative judgments by regulators about components, risk-weighting, and other factors.
The Basel III 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 deductions from and adjustments to capital compared to prior capital rules. The Basel III Capital Rules differ from earlier capital rules by excluding from Tier 1 capital 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 Basel III 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 minimum Tier 1 leverage ratio of at least 5%.)
The Basel III Capital Rules include an additional “capital conservation buffer” of 2.5% of risk-weighted assets above the regulatory minimum capital ratios. If Hope Bancorp and the Bank do not maintain capital sufficient to satisfy the capital conservation buffer, we would face restrictions in our ability to pay dividends, repurchase shares, and pay discretionary bonuses.
Including the capital conservation buffer of 2.5%, the minimum ratios for a banking organization 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, 2020, Hope Bancorp and the Bank met all requirements under the Basel III Capital Rules applicable to them on a fully phased-in basis, including the capital conservation buffer. At December 31, 2020, the ratios of each of Hope Bancorp and the Bank exceeded the minimum percentage requirements to generally be deemed “well-capitalized” for bank regulatory purposes and satisfied the capital conservation buffer requirement. See “Management’s Discussion and Analysis of Financial Condition and Results of Operations.”
While the Basel III 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 Basel III 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 examinations. See “Consumer Finance Protection Bureau.”
•We are subject to the maximum permissible interchange fee for swipe transactions, equal to no more than 21 cents plus 5 basis points of the 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 “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, 2020 that were subject to the Volcker Rule, we may be subject to the compliance and recording keeping provisions of this rule.
The Dodd-Frank Act requires banking organizations with consolidated assets exceeding $10 billion to establish board-level risk committees and 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 or proposed change, making it difficult to anticipate the overall financial impact on the Company, its customers or the financial industry in general. 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 conform with the Basel III Capital Rules. 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 evaluation 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 regulations, banking institutions must file suspicious activity reports and maintain programs designed to assure 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.
The Anti-Money Laundering Act of 2020 (“AMLA”), which amends the BSA, was enacted in January 2021. The AMLA is intended to be a comprehensive reform and modernization to U.S. bank secrecy and anti-money laundering laws. Among other things, it codifies a risk-based approach to anti-money laundering compliance for financial institutions; requires the development of standards for evaluating technology and internal processes for BSA compliance; expands enforcement- and investigation-related authority, including increasing available sanctions for certain BSA violations and instituting whistleblower incentives and protections.
Loans to One Borrower
Under California law, the Bank’s ability to make aggregate secured and unsecured loans to borrower is limited to 25% and 15%, respectively, of the Bank’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, currently $250 thousand per customer. 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 revocation of the Bank’s charter by the DFPI.
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 redefining 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 its relative risk of default as measured by regulatory capital ratios and other supervisory factors.
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 the FRB, the FDIC or the DFPI should determine that the financial condition, capital resources, asset quality, earnings prospects, management, liquidity, or other aspects of the Company’s or the Bank’s operations are unsatisfactory or that the Company or the Bank or management is violating or has violated any law or regulation, these agencies have the authority to:
•Require affirmative action to correct any conditions resulting from any violation or practice;
•Direct an increase in capital and the maintenance of higher specific minimum capital ratios, which could preclude the Hope Bancorp or the Bank from being deemed well capitalized which, in the case of the Bank, would restrict its ability to accept certain brokered deposits, for example;
•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 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 approval of senior executive officer or director changes; remove officers and directors and assess civil monetary penalties; and
•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 corporation’s surplus (as defined by Delaware law), or (ii) if there is no surplus, out of the corporation’s net profits for the fiscal year 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 if its repurchase or redemption of shares would cause a net reduction 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 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 Basel III Capital Rules, its ability to pay dividends to or repurchase shares from stockholders 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 stockholders 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 stockholders made during such period). Where the above test is not met, cash dividends may still be paid, with the prior approval of the DFPI, 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 Basel III 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 CFPB’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 financial institutions and banks with $10 billion or more in assets are subject to examination by the CFPB. Banks with less than $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.
In 2014, the CFPB adopted revisions to Regulation Z, which implements the Truth in Lending Act, pursuant to the Dodd-Frank Act, and apply to consumer mortgages. The revisions mandate specific underwriting criteria for home loans in order for creditors to make a reasonable, good faith determination of a consumer’s ability to repay and establish certain protections from liability under the requirements for “qualified mortgages” that meet certain specific standards. As required by the Dodd-Frank Act, the CFPB also promulgated TILA-RESPA Integrated Disclosure rules which became effective in 2015 and require new mortgage disclosures.
Human Capital Resources
The Company’s goal is to attract, develop, retain and plan for succession of key talent and executives to achieve the Company’s strategic objectives.
The Company respects, values, and invites diversity in our team members, customers, suppliers, marketplace, and community. We seek to recognize the unique contribution each individual brings to our company, and we are fully committed to supporting a rich culture of diversity as a cornerstone to our success. We provide professional development opportunities to team members and seeks to improve retention, development, and job satisfaction of team members from diverse groups by providing career skills training, mentoring, and tuition fee reimburse to support job related higher education.1
We offer a comprehensive benefits program to our employees and design our compensation programs to attract, retain and motivate employees, as well as to align with Company performance.
As of December 31, 2020, we had 1,408 full-time equivalent employees compared to 1,441 full-time equivalent employees at December 31, 2019. None of our employees are represented by a union or covered by a collective bargaining agreement. Management believes that its relations with its employees are good.
We are committed and focused on the health and safety of our team members, customers, and communities. The COVID-19 pandemic presented challenges to maintain team member and customer safety while continuing to be open for business. Accordingly, as part of the Pandemic Response Plan, a Pandemic Response Team and a Business Continuity Program Team were formed which closely monitor the COVID-19 situation, identifying issues and developing responses to reduce risks related to COVID-19 to our customers, employees, and communities. The teams manage our pandemic response, including providing access to recent safety standards from the Centers for Disease Control and Prevention, the World Health Organization, and other agencies as well as our workplace guidelines for non-customer and customer environments. In addition, current information is shared through regular emails and other digital communications with our team members and customers facing financial hardships due to COVID-19. Additional actions included adjusting our banking center hours, lobby usage, and encouraging team members to work remotely where possible during the pandemic. We continue to monitor our footprint for areas where there is a resurgence or regression of COVID-19 and adjust our banking center availability accordingly.
Our employees actively share their talents in their communities through volunteer activities in education, economic development, human and health services, and Community Reinvestment. Our employees are committed to be good neighbors that foster growth for our customers and communities. As a community based bank, we are committed to being model corporate citizens and through our communities through various forms of investments, contributions, and volunteer work.
Some of the highlights we have taken to be a socially responsible company are:
•One out of two of the Bank’s branches are located in low-to-moderate income areas;
•Our employees had nearly 450 hours of CRA-reportable volunteer hours in 2020;
•We funded approximately $3.08 billion of loan in 2020;
•We had approximately $500.0 million of CRA-reportable small business lending in 2020;
•We had approximately $10.0 million of donations and sponsorships over the last 10 years; and
•We contributed approximately $2.2 million to the Hope Scholarship Foundation since its establishment in 2001.
1 See “Management’s Discussion and Analysis of Financial Condition and Results of Operations - Pandemic Response Plan.”

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ITEM 1A. RISK FACTORS
Item 1A.RISK FACTORS
In the course of conducting our 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 our 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 would likely decline.
Risks Related to our Business
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, and Alabama. 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 are subject to increasing credit risk as a result of the COVID-19 pandemic, which could adversely impact our profitability. Our business depends on our ability to successfully measure and manage credit risk. As a lender, we are exposed to the risk that the principal of, or interest on, a loan will not be paid timely or at all or that the value of any collateral supporting a loan will be insufficient to cover our outstanding exposure. In addition, we are exposed to risks with respect to the risks resulting from changes in economic and industry conditions and risks inherent in dealing with individual loans and borrowers. As the overall economic climate in the U.S., generally, and in our market areas specifically, experiences material disruption due to the COVID-19 pandemic, our borrowers may experience difficulties in repaying their loans and governmental actions may provide payment relief to borrowers affected by COVID-19 and preclude our ability to initiate foreclosure proceedings in certain circumstances and, as a result, the collateral we hold may decrease in value or become illiquid, and the level of our nonperforming loans, charge-offs, and delinquencies could rise and require significant additional provisions for credit losses.
Through the pandemic we have worked to support our borrowers to mitigate the impact of the COVID-19 pandemic on them and on our loan portfolio, including through loan modifications that defer payments for those who experienced a hardship as a result of the COVID-19 pandemic. Although government legislation and regulatory guidance provides that such loan modifications are exempt from the reporting of TDRs and loan delinquencies, we cannot predict whether such loan modifications may ultimately have an adverse impact on our profitability in future periods.
The demand for our products and services has been and likely will continue to be significantly adversely impacted due to COVID-19, which would continue to materially and adversely affect our financial condition and results of operations. Furthermore, the pandemic could result in the recognition of amplified credit losses in our loan portfolios and increases in our allowance for credit losses, particularly as more and more businesses are closed. Similarly, because of changing economic and market conditions, we may be required to recognize impairments on goodwill or impairment on other financial instruments we hold.
Inability to successfully manage the increased credit risk caused by the COVID-19 pandemic could have a material adverse effect on our business, financial condition, and results of operations.
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, 2020, approximately 65% of our loan portfolio consisted of loans secured by various types of commercial real estate (exclude 1-4 family residential loans). A slowdown in the economy is often accompanied by declines in the value of real estate. The recent COVID-19 pandemic has resulted in 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 credit 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 credit losses, which would reduce our profitability and could materially adversely affect our business, financial condition, results of operations and prospects.
As a result of the COVID-19 pandemic, many industries were hit hard with the hospitality sector being one of the hardest hit. Hotel/motel loans make up a large percentage of our loan portfolio at approximately 12% at December 31, 2020. As a result, our estimated allowance for credit losses experienced large increases in 2020 to reflect the current and projected impact of COVID-19 pandemic on our loan portfolio.
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 credit losses may not cover our actual loan losses. If our actual credit losses exceed the amount we have allocated for estimated current expected credit 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 credit 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 credit losses or that regulatory agencies will not require us to increase our allowance thereby impacting our profitability.
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 credit losses.
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 DFPI, 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.
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.
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.
We face risks associated with the replacement of LIBOR. The London Interbank Offered Rate, or LIBOR, is scheduled to be phased out at the end of 2021. LIBOR serves as the benchmark rate worldwide for many financial assets, such as loans, bonds and other securities. While a working group comprised of the Federal Reserve and other market participants have proposed an alternative, the Secured Overnight Financing Rate (“SOFR”), there is no consensus on what rate or rates may become accepted alternatives to LIBOR. The market transition away from LIBOR to an alternative reference rate, such as SOFR, is complex and could have a range of adverse effects on our business, financial condition and results of operations. The transition could, for example:
•Adversely affect the interest rates we pay or receive on, the revenue and expenses associated with or the value of our LIBOR-based assets and liabilities, which include our subordinated debentures, certain variable rate loans and certain other securities and financial arrangements;
•Adversely affect the interest rates paid or received on, the revenue and expenses associated with or the value of other securities or financial arrangements, given LIBOR’s role in determining market interest rates globally;
•Prompt inquiries or other actions from banking regulators regarding our preparation and readiness for the replacement of LIBOR with an alternative reference rate; and
•Result in disputes, litigation or other actions with counterparties, including disputes regarding the interpretation and enforceability of fallback language in LIBOR-based contracts and securities.
The manner and impact of the transition from LIBOR to an alternative reference rate and the effect of these developments on our funding costs, loan and investment and trading securities portfolios, asset-liability management, and business, is uncertain. Accordingly, it is not currently possible for us to determine whether, or to what extent, any such changes would affect us. However, the discontinuation of existing benchmark rates could have a material adverse effect on our business, financial condition, results of operations, prospects and customers.
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.
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.
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.
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, and Alabama. Over time, we may seek to establish offices to serve Korean-American and other ethnic 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.
Legal and Regulatory Risks
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 DFPI, 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.
We face a risk of noncompliance and enforcement action with the Bank Secrecy Act and other anti-money laundering statutes and regulations. The BSA, 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.
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 required 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.
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.
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.
Financial and Market Risks
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 capital resources 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 available for sale on a quarterly basis to determine if there is a requirement to recognize current expected credit losses. The process for determining current expected credit losses 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 sufficient to recover our amortized cost of the security. Because of changing economic and market conditions affecting issuers, we may be required to recognize credit losses 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 stockholders. 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 banking 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 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.
General Risk Factors
Our common stock is equity and therefore is subordinate to 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 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.

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ITEM 1B. UNRESOLVED STAFF COMMENTS
Item 1B. UNRESOLVED STAFF COMMENTS
None.

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ITEM 2. PROPERTIES
Item 2.PROPERTIES
Our principal executive offices are located at 3200 Wilshire Blvd., Suite 1400, Los Angeles, California 90010. As of December 31, 2020, we operated full-service branches at 51 leased and seven owned facilities, and we operated loan production offices at 11 leased facilities. Expiration dates of our leases range from 2021 to 2030. We believe our present facilities are suitable and adequate for our current operating needs.

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ITEM 3. LEGAL PROCEEDINGS
Item 3.LEGAL PROCEEDINGS
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. Loss contingencies for all legal claims totaled approximately $1.3 million at December 31, 2020. 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.

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ITEM 4. MINE SAFETY DISCLOSURE
Item 4.MINE SAFETY DISCLOSURES
Not applicable.
Part II

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ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY
Item 5.MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES
Our common stock is traded on the NASDAQ Global Select Market under the symbol “HOPE.”
The closing price for our common stock on the NASDAQ Global Select Market on February 19, 2021 was $12.45 per share. As of February 19, 2021, there were 1,151 stockholders of record of our common stock.
Stock Performance Graph
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 NASDAQ Composite Index, (ii) the cumulative total return of the S&P Small Cap 600 Index, (iii) a published index comprised of banks and thrifts selected by SNL Financial LLC, and (iv) the cumulative total return of the S&P 500 Index. The graph assumes an initial investment of $100 and reinvestment of dividends. Points on the graph represent the performance as of the last business day of each of the years indicated. The graph is not indicative of future price performance. The graph does not constitute soliciting material and shall not be deemed filed or incorporated by reference into any filing by Hope Bancorp under the Securities Act of 1933, as amended, or the Securities Exchange Act of 1934, as amended, except to the extent that we may specifically incorporate this graph by reference.
ASSUMES $100 INVESTED ON DECEMBER 31, 2015
ASSUMES DIVIDENDS REINVESTED
FISCAL YEAR ENDING DECEMBER 31, 2020
Period Ending
Stock/Index 12/31/2015 12/31/2016 12/31/2017 12/31/2018 12/31/2019 12/31/2020
Hope Bancorp, Inc. $100.00 $130.87 $112.02 $75.22 $98.05 $76.36
NASDAQ Composite $100.00 $108.87 $141.13 $137.12 $187.44 $271.64
S&P 600 Index $100.00 $126.56 $143.30 $131.15 $161.03 $179.20
SNL Bank and Thrift $100.00 $126.25 $148.45 $123.32 $166.67 $144.61
S&P 500 Index $100.00 $111.96 $136.40 $130.42 $171.49 $203.04

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ITEM 6. SELECTED FINANCIAL DATA
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, 2020. 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,
2020 2019 2018 2017 2016
(Dollars in thousands, except share and per share data)
Income Statement Data:
Interest income $ 598,878 $ 684,786 $ 650,172 $ 572,104 $ 421,934
Interest expense 131,380 218,191 162,245 90,724 58,579
Net interest income 467,498 466,595 487,927 481,380 363,355
Provision for credit losses 95,000 7,300 14,900 17,360 9,000
Net interest income after provision for credit losses 372,498 459,295 473,027 464,020 354,355
Noninterest income 53,432 49,683 60,180 66,415 51,819
Noninterest expense 283,639 282,628 277,726 266,601 214,975
Income before income tax provision 142,291 226,350 255,481 263,834 191,199
Income tax provision 30,776 55,310 65,892 124,389 77,452
Net income $ 111,515 $ 171,040 $ 189,589 $ 139,445 $ 113,747
Per Common Share Data:
Earnings - basic $ 0.90 $ 1.35 $ 1.44 $ 1.03 $ 1.10
Earnings - diluted $ 0.90 $ 1.35 $ 1.44 $ 1.03 $ 1.10
Book value (period end) $ 16.66 $ 16.19 $ 15.03 $ 14.23 $ 13.72
Cash dividends declared per common share $ 0.56 $ 0.56 $ 0.54 $ 0.50 $ 0.45
Number of common shares outstanding (period end) 123,264,864 125,756,543 126,639,912 135,511,891 135,240,079
Balance Sheet Data-At Period End:
Assets $ 17,106,664 $ 15,667,440 $ 15,305,952 $ 14,206,717 $ 13,441,422
Securities available for sale $ 2,285,611 $ 1,715,987 $ 1,846,265 $ 1,720,257 $ 1,556,740
Loans receivable, net of unearned loan fees and discounts (excludes loans held for sale) $ 13,563,213 $ 12,276,007 $ 12,098,115 $ 11,102,575 $ 10,543,332
Deposits $ 14,333,912 $ 12,527,364 $ 12,155,656 $ 10,846,609 $ 10,642,035
FHLB advances and federal funds purchased $ 250,000 $ 625,000 $ 821,280 $ 1,227,593 $ 754,290
Subordinated debentures $ 104,178 $ 103,035 $ 101,929 $ 100,853 $ 99,808
Convertible notes, net $ 204,565 $ 199,458 $ 194,543 $ - $ -
Stockholders’ equity $ 2,053,745 $ 2,036,011 $ 1,903,211 $ 1,928,255 $ 1,855,473
Average Balance Sheet Data:
Assets $ 16,515,102 $ 15,214,412 $ 14,749,166 $ 13,648,963 $ 10,342,063
Securities available for sale $ 1,899,948 $ 1,796,412 $ 1,772,080 $ 1,679,468 $ 1,276,068
Gross loans, including loans held for sale $ 12,698,523 $ 11,998,675 $ 11,547,022 $ 10,642,349 $ 8,121,897
Deposits $ 13,560,531 $ 12,066,719 $ 11,628,177 $ 10,751,886 $ 8,232,984
Stockholders’ equity $ 2,032,570 $ 1,981,811 $ 1,910,224 $ 1,907,746 $ 1,342,954
As of or For The Year Ended December 31,
2020 2019 2018 2017 2016
(Dollars in thousands)
Selected Performance Ratios:
Return on average assets(1)
0.68 % 1.12 % 1.29 % 1.02 % 1.10 %
Return on average stockholders’ equity(2)
5.49 % 8.63 % 9.92 % 7.31 % 8.47 %
Average stockholders’ equity to average assets 12.31 % 13.03 % 12.95 % 13.98 % 12.99 %
Dividend payout ratio
(dividends per share/earnings per share) 62.22 % 41.54 % 37.58 % 48.54 % 40.86 %
Net interest spread(3)
2.58 % 2.65 % 3.04 % 3.46 % 3.49 %
Net interest margin(4)
3.00 % 3.27 % 3.53 % 3.80 % 3.75 %
Yield on interest earning assets(5)
3.84 % 4.81 % 4.71 % 4.51 % 4.36 %
Cost of interest bearing liabilities(6)
1.26 % 2.16 % 1.67 % 1.05 % 0.87 %
Efficiency ratio(7)
54.45 % 54.74 % 50.67 % 48.67 % 51.78 %
Regulatory Capital Ratios:
Hope Bancorp:
Common Equity Tier 1
10.94 % 11.76 % 11.44 % 12.30 % 12.10 %
Tier 1 Leverage
10.22 % 11.22 % 10.55 % 11.54 % 11.49 %
Tier 1 risk-based
11.64 % 12.51 % 12.21 % 13.11 % 12.92 %
Total risk-based
12.87 % 13.23 % 12.94 % 13.82 % 13.64 %
Bank of Hope:
Common Equity Tier 1
12.90 % 13.72 % 13.63 % 12.95 % 12.75 %
Tier 1 Leverage
11.33 % 12.29 % 11.76 % 11.40 % 11.33 %
Tier I risk-based
12.90 % 13.72 % 13.63 % 12.95 % 12.75 %
Total risk-based
14.14 % 14.44 % 14.36 % 13.66 % 13.46 %
Asset Quality Data:
Nonaccrual loans $ 85,238 $ 54,785 $ 53,286 $ 46,775 $ 40,074
Loans 90 days or more past due and still accruing (8)
614 7,547 1,529 407 305
Accruing restructured loans 37,354 35,709 50,410 67,250 48,874
Total nonperforming loans
123,206 98,041 105,225 114,432 89,253
Other real estate owned 20,121 24,091 7,754 10,787 21,990
Total nonperforming assets
$ 143,327 $ 122,132 $ 112,979 $ 125,219 $ 111,243
Asset Quality Ratios:
Nonaccrual loans to loans receivable 0.63 % 0.45 % 0.44 % 0.42 % 0.38 %
Nonperforming loans to loans receivable 0.91 % 0.80 % 0.87 % 1.03 % 0.85 %
Nonperforming assets to total assets 0.84 % 0.78 % 0.74 % 0.83 % 0.83 %
Nonperforming assets to loans receivable and
other real estate owned 1.06 % 0.99 % 0.93 % 1.13 % 1.05 %
Allowance for credit losses to loans receivable 1.52 % 0.77 % 0.77 % 0.76 % 0.75 %
Allowance for credit losses to nonaccrual loans 242.55 % 171.84 % 173.70 % 180.74 % 197.99 %
Allowance for credit losses to nonperforming loans 167.80 % 96.03 % 87.96 % 73.88 % 88.90 %
Allowance for credit losses to nonperforming assets 144.24 % 77.08 % 81.92 % 67.51 % 71.32 %
Net charge-offs to average loans receivable 0.07 % 0.04 % 0.06 % 0.11 % 0.07 %
(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 $13.2 million, $14.1 million, $18.1 million, and $19.6 million as of December 31, 2019, 2018, 2017, and 2016, respectively.

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ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS
Item 7.MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion and analysis of our financial condition and results of operations should be read 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 58 banking offices in California, New York/New Jersey, Illinois, Washington, Texas, Virginia, and Alabama. 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, real estate loans, trade finance loans, SBA loans, and consumer loans.
Our principal business involves earning interest on loans and investment securities that are funded primarily by customer deposits, wholesale 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 of the guaranteed portion of SBA loans we originated on the secondary market, but due to the reduced premiums received from the 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 credit 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.
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.
COVID-19 Pandemic
On March 11, 2020, the World Health Organization declared the novel coronavirus (“COVID-19”) a global pandemic. The COVID-19 pandemic has had a material and adverse impact on our business, financial condition, and results of operations and any further impact will depend on future developments that cannot be predicted, including the scope and duration of the pandemic, the economic implications of the same, effectiveness of vaccines being distributed, and the continued actions taken by governmental authorities in response to the pandemic.
The COVID-19 pandemic has substantially and negatively impacted the United States economy, disrupted global supply chains, considerably lowered equity market valuations, created significant volatility and disruption in financial markets, and materially increased unemployment levels. In addition, the pandemic has resulted in permanent and temporary closures of countless businesses and the institution of social distancing and sheltering in place requirements in most states and communities. Although some states and business have reopened, the last wave of COVID-19 cases resulted in further shutdowns and closures. Although COVID-19 vaccines are currently being distributed, it is unknown how long it will take for the vaccines to have a significant positive impact in reducing COVID-19 cases and how effective the vaccine will be for new emerging strains of the COVID-19 virus. The demand for our products and services has been and likely will continue to be significantly adversely impacted, which would continue to materially and adversely affect our financial condition and results of operations. Furthermore, the pandemic could result in the recognition of amplified credit losses in our loan portfolios and increases in our allowance for credit losses, particularly as more and more businesses are closed. Similarly, because of changing economic and market conditions, we may be required to recognize impairments on goodwill or impairment on other financial instruments we hold.
The extent to which the COVID-19 pandemic continues to impact our business, results of operations, and financial condition, as well as our regulatory capital and liquidity ratios, will depend on future developments, that cannot be predicted, including the effectiveness of vaccines, the scope and duration of the pandemic, the economic implications of the same, and actions taken by governmental authorities and other third parties in response to the pandemic.
On March 27, 2020, President Donald Trump signed into law the Coronavirus Aid, Relief, and Economic Security (“CARES”) Act in response to the global pandemic. The CARES Act provided approximately $2.2 trillion in emergency economic relief funds, expanded SBA lending and provides temporary relief of certain modifications from TDR classification. In December 2020, the President signed the Consolidated Appropriations Act of 2021 which included another $900 billion in stimulus relief for the COVID-19 pandemic to provide emergency economic relief funds, further expanded SBA lending with additional funds for SBA PPP, and provides an extension for the relief of certain modifications from TDR classification. In 2020, we assisted many of our customers in availing themselves of certain provisions of the CARES Act by providing loan modifications to borrowers consisting of mostly payment deferrals. We also funded $480.1 million in SBA PPP loans in 2020 (see “COVID-19 Related Loan Modifications” in the Financial Conditions section of the MD&A for more information) and with the approval of a second round of PPP funds, we started originating additional PPP loans in the first quarter of 2021.
At December 31, 2020, all of our regulatory capital ratios for Hope Bancorp and the Bank were in excess of the minimum requirements set by our regulators. While we currently believe that we have sufficient excess capital and liquidity to withstand the economic impact of the COVID-19 pandemic, further economic deterioration or an extended recession could adversely impact our capital and liquidity positions.
Pandemic Response Plan
With the onset of the COVID-19 virus, we activated a Pandemic Response Plan in January 2020, in advance of the declaration of the COVID-19 pandemic. As part of the Pandemic Response Plan, a Pandemic Response Team and a Business Continuity Program Team were formed which closely monitor the COVID-19 situation, identifying issues and developing responses to reduce risks related to COVID-19 to our customers, employees, and communities. As part of our overall efforts to help contain the spread of the virus, we made a number of adjustments in our branch operations:
•Nationwide, we reduced the operating hours;
•For some of our branches with drive-thru service facilities, we limited in-branch services by appointment only;
•We have also temporarily closed a number of branches that are in close proximity to another branch location;
•We implemented social distancing procedures limiting the number of customers in a branch at a given time; requiring the use of face masks and hand sanitizers by all customers entering a branch, and added aisle lines to help guide customers in maintaining a minimum of 6 feet of separation;
•We limited operations to every other teller station as warranted to maintain the minimum 6-feet distance;
•We installed sneeze guards at all teller stations and customer service areas;
•We have provided our branch staff with facial masks, as well as face shields; and
•We implemented enhanced cleaning and disinfecting protocols at all of our branches.
We have also implemented a number of changes to our back-office operations including:
•Enabling the majority of our employees with remote work capabilities and implementing a remote rotation strategy with the general goal of having approximately 50% of the department staff working onsite and the remainder working remotely;
•In-person meetings have been prohibited to the extent possible;
•In line with social distancing guidelines, certain employee workstations have been temporarily modified to allow for a minimum separation of approximately six feet between each employee;
•Common break areas have been closed; and
•We have implemented enhanced cleaning and disinfecting protocols for our non-branch locations.
The goal of the Pandemic Response Plan is to protect the health of our customers, employees, and communities while continuing to meet the needs of our customers. The Pandemic Response Team and Business Continuity Program Team will continue to monitor the COVID-19 situation and take additional actions in an effort to ensure the safe continued operations of the Bank.
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 Report 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 judgements 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. Management has reviewed these critical accounting estimates and related disclosures with our Audit Committee.
Business Combinations
Description - 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. Critical accounting policies related to acquired loans is discussed in more detail below under “Purchase Credit Deteriorated Loans” (“PCD”).
Subjective Estimates and Judgments - Determining the fair value of assets and liabilities acquired often involves estimates based on internal estimate or third-party valuations using a discounted cash flow analysis or other valuation technique that may include the use of estimates. In addition, the determination of the useful lives over which intangible assets will be amortized is subjective in nature.
Impact if Actual Results Differ From Estimates and Judgments - Changes to estimates and judgments used in business combinations could result in a significant difference in the fair value of assets and liabilities acquired which would impact total goodwill recorded. A change in the useful life of intangible assets could impact amortization amounts which could have an impact on our earnings.
Investment Securities
Description - We evaluate securities in unrealized loss position for impairment related to credit losses on at least a quarterly basis. Based on our evaluation, we do not believe that we had any investment securities available for sale with unrealized losses with credit loss impairment as of December 31, 2020. Investment securities are discussed in more detail under “Financial Condition - Investment Security Portfolio”.
Subjective Estimates and Judgments - Significant judgment is involved in determining when a decline in fair value is credit impaired. Securities in unrealized loss positions are first assessed as to whether we intend to sell, or if it is more likely than not that we will be required to sell the security before recovery of its amortized cost basis. If one of the criteria is met, the security’s amortized cost basis is written down to fair value through current earnings. For securities that do not meet these criteria, we evaluate whether the decline in fair value resulted from credit losses or other factors. In evaluating whether a credit loss exists, we set up an initial filter for impairment triggers. Once the quantitative filters have been triggered, the securities are placed on a watch list and an additional assessment is performed to identify whether a credit impairment exists. In making this assessment, management considers the extent to which fair value is less than amortized cost, any changes to the rating of the security by a rating agency, and adverse conditions specifically related to the security and the issuer, among other factors.
Impact if Actual Results Differ From Estimates and Judgments - Changes in management’s assessment of the factors used to determine that an investment security was not credit impaired could lead to additional impairment charges. Additionally, a security that had no apparent risk could be affected by a sudden or acute market condition and necessitate an impairment charge.
Allowance for Credit Losses
Description - The allowance for credit losses is maintained at a level believed adequate by management to absorb expected lifetime losses in the consolidated loan portfolio. The adequacy of the allowance for credit losses is determined by management based upon an evaluation and review of the credit quality of the loan portfolio, consideration of current and projected economic conditions and variables, and historical loss experience, relevant internal and external factors that affect the collection of a loan, and other pertinent factors. The allowance for credit losses is discussed in more detail under “Financial Condition - Allowance for Credit Losses”.
Subjective Estimates and Judgments - We determine the adequacy of the allowance for credit losses by analyzing and estimating lifetime expected losses in the loan portfolio. The allowance for credit losses requires estimates that are not limited to current and projected economic conditions, the adequacy of and value of underlying collateral on real estate loans, the financial strength of the borrower, qualitative assessments, and other relevant factors. Specifically, the provision for credit losses represents the amount charged against current period earnings to achieve an allowance for credit losses that, in our judgment, is adequate to absorb lifetime expected losses in the loan portfolio.
Impact if Actual Results Differ From Estimates and Judgments - Adverse changes in management’s assessment of the assumptions and factors used to determine the allowance for credit losses could lead to additional provision for credit losses. Actual credit losses could differ materially from management’s estimates if actual losses and conditions differ significantly from the assumptions used. These factors and conditions include general economic conditions within our market, industry trends and concentrations, real estate and other collateral values, interest rates, and the financial conditions of our borrowers. While management believes that it has established adequate allowances for lifetime losses on loans, actual results may prove different and the differences could be significant.
Goodwill
Description - Goodwill is generally determined as the excess of the fair value of the consideration transferred over the fair value of the net assets acquired and liabilities assumed as of the acquisition date. Goodwill and intangible assets acquired in a purchase business combination and determined to have an indefinite useful life are not amortized but tested for impairment at least annually. 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. An impairment loss must be recognized for any excess of carrying value over fair value of the goodwill.
Subjective Estimates and Judgments - Before applying the goodwill impairment test, in accordance with ASC 350 “Intangibles - Goodwill and Other”, we perform 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 Step 1 of the impairment analysis. We assess certain qualitative factors to determine whether impairment is likely including: our market capitalization, capital adequacy, continued performance compared to peers, and continued improvement in asset quality trends, among others. This qualitative assessment can be subjective in nature and includes a certain amount of management judgment in determining whether it is more likely than not that a reporting unit’s fair value is less than its carrying amount.
In the event we perform an impairment test, the determination of fair value is based on valuations using management assumptions and estimates including developing cash flow projections, selecting appropriate discount rates, calculation of a terminal growth rate, minimum target capitalization levels, identifying relevant market comparables, incorporating current and projected economic conditions, and selecting an appropriate control premium.
Impact if Actual Results Differ From Estimates and Judgments - Changes in qualitative factors assessed, changes to assumptions used in the impairment test, selection and weighting of the various fair value techniques, and downturns in economic or business conditions, could have a significant adverse impact on the carrying value of goodwill and could result in impairment losses which could have a material impact our financial condition and earnings.
Income Taxes
Description - We use the asset and liability method of accounting for income taxes in which deferred tax assets and liabilities are established for the temporary differences between the financial reporting basis and the tax basis of our asset and liabilities. The realization of the net deferred tax asset generally depends upon future levels of taxable income and the existence of prior years’ taxable income, to which “carry back” refund claims could be made. A valuation allowance is maintained, when necessary, to reduce deferred tax assets that management estimates are more likely than not to be unrealizable based on available evidence at the time the estimate is made. Furthermore, tax positions that could be deemed uncertain are required to be disclosed and reserved for if it is more likely than not that the position would not be sustained upon audit examination. Taxes are discussed in more detail in Note 11 to our Consolidated Financial Statements presented elsewhere in this Report.
Subjective Estimates and Judgments - Significant management judgment is required in determining income tax expense and deferred tax assets and liabilities. Some judgments are subjective and involve estimates and assumptions about matters that are inherently uncertain. In determining the valuation allowance, we use historical and forecasted future operating results. In determining the level of reserve needed for uncertain tax positions, we consider relevant current legislation and court rulings, among other authoritative items, to determine the level of exposure inherent in our tax positions. Management believes that the accounting estimate related to the valuation allowance and uncertain tax positions are a critical accounting estimate because the underlying assumptions can change from period to period.
Impact if Actual Results Differ From Estimates and Judgments - Although management believes that the judgments and estimates used are reasonable, should actual factors and conditions differ materially from those considered by management, the actual realization of the net deferred tax asset and tax positions taken could differ materially from the amounts recorded in the financial statements. If we are not able to realize all or part of our net deferred tax asset in the future or if a tax position is overturned by a taxing authority, an adjustment to the deferred tax asset valuation allowance would be charged to income tax expense in the period such determination was made which could have a material impact on our earnings.
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 or debt 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 and policies.
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 from the credit impairment of our investment securities.
In addition to interest expense, our income is also 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 changes year over year.
Year Ended December 31, 2020 Increase
(Decrease) Year Ended December 31, 2019 Increase
(Decrease) Year Ended December 31, 2018
Amount % Amount %
(Dollars in thousands)
Interest income $ 598,878 $ (85,908) (13) % $ 684,786 $ 34,614 5 % $ 650,172
Interest expense 131,380 (86,811) (40) % 218,191 55,946 34 % 162,245
Net interest income 467,498 903 - % 466,595 (21,332) (4) % 487,927
Provision for credit losses 95,000 87,700 1,201 % 7,300 (7,600) (51) % 14,900
Noninterest income 53,432 3,749 8 % 49,683 (10,497) (17) % 60,180
Noninterest expense 283,639 1,011 - % 282,628 4,902 2 % 277,726
Income before income tax provision 142,291 (84,059) (37) % 226,350 (29,131) (11) % 255,481
Income tax provision 30,776 (24,534) (44) % 55,310 (10,582) (16) % 65,892
Net income $ 111,515 $ (59,525) (35) % $ 171,040 $ (18,549) (10) % $ 189,589
Net Income
Our net income was $111.5 million for 2020 compared to $171.0 million for 2019 and $189.6 million for 2018. Our diluted earnings per common share totaled $0.90, $1.35, and $1.44 for the years 2020, 2019, and 2018, respectively. The return on average assets was 0.68%, 1.12%, and 1.29% and the return on average stockholders’ equity was 5.49%, 8.63%, and 9.92% for the years 2020, 2019, and 2018, respectively. The decrease in net income for 2020 compared to 2019 was due to an increase in provision for credit losses and a decrease in interest income offset partially by a decline in interest expense. 2020 marked an unprecedented year with the COVID-19 pandemic which had a significantly adverse effect on the economy. The potential impact of the COVID-19 pandemic on our loan portfolio combined with the adoption of CECL resulted in a large increase in allowance for credit losses for 2020 compared to 2019.
Impact of Acquisitions
Income before income tax provision for the years ended December 31, 2020, 2019, and 2018 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 were included in net income for the years indicated below:
Year Ended December 31,
2020 2019 2018
(Dollars in thousands)
Accretion of discounts on purchased performing loans $ 2,916 $ 7,956 $ 11,715
Accretion of discounts on purchased credit deteriorated loans 20,143 23,874 21,837
Amortization of premiums on purchased investments in
affordable housing partnerships (283) (303) (338)
Amortization of premiums on assumed FHLB advances - 1,280 1,413
Accretion of discounts on assumed subordinated debt (1,143) (1,107) (1,076)
Amortization of premiums on assumed time deposits and savings - - 1
Amortization of core deposit intangibles (2,125) (2,228) (2,461)
Total acquisition accounting adjustments $ 19,508 $ 29,472 $ 31,091
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 the weighted 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 years indicated:
Year Ended December 31,
2020 2019 2018
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)
$ 12,698,523 $ 554,967 4.37 % $ 11,998,675 $ 627,673 5.23 % $ 11,547,022 $ 594,103 5.15 %
Securities available for sale (3)
1,899,948 39,362 2.07 % 1,796,412 46,295 2.58 % 1,772,080 45,342 2.56 %
FHLB stock and other investments 982,419 4,549 0.46 % 453,452 10,818 2.39 % 487,922 10,727 2.20 %
Total interest earning assets 15,580,890 598,878 3.84 % 14,248,539 684,786 4.81 % 13,807,024 650,172 4.71 %
Total noninterest earning assets 934,212 965,873 942,142
Total assets $ 16,515,102 $ 15,214,412 $ 14,749,166
INTEREST BEARING LIABILITIES:
Deposits:
Demand, interest bearing $ 4,729,438 $ 34,529 0.73 % $ 3,319,556 $ 57,731 1.74 % $ 3,276,815 $ 43,252 1.32 %
Savings 291,655 3,475 1.19 % 241,968 2,596 1.07 % 229,608 1,889 0.82 %
Time deposits 4,698,503 72,365 1.54 % 5,556,983 129,831 2.34 % 5,107,698 89,817 1.76 %
Total interest bearing deposits 9,719,596 110,369 1.14 % 9,118,507 190,158 2.09 % 8,614,121 134,958 1.57 %
FHLB advances 435,836 6,865 1.58 % 688,652 12,031 1.75 % 870,124 15,127 1.74 %
Convertible notes, net 201,859 9,457 4.61 % 196,835 9,264 4.64 % 123,040 5,797 4.65 %
Other borrowings, net 99,682 4,689 4.63 % 98,551 6,738 6.74 % 97,455 6,363 6.44 %
Total interest bearing liabilities 10,456,973 131,380 1.26 % 10,102,545 218,191 2.16 % 9,704,740 162,245 1.67 %
Noninterest bearing liabilities and equity:
Noninterest bearing demand deposits 3,840,935 2,948,212 3,014,056
Other liabilities 184,624 181,844 120,146
Stockholders’ equity 2,032,570 1,981,811 1,910,224
Total liabilities and stockholders’ equity $ 16,515,102 $ 15,214,412 $ 14,749,166
Net interest income $ 467,498 $ 466,595 $ 487,927
Net interest margin 3.00 % 3.27 % 3.53 %
Net interest spread (4)
2.58 % 2.65 % 3.04 %
Cost of funds (5)
0.92 % 1.67 % 1.28 %
Cost of deposits 0.81 % 1.58 % 1.16 %
(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) Cost 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 (Costs) Loan Prepayment Fee Income Interest Reversed for Nonaccrual Loans, Net of Income Recognized Accretion of Discounts on Acquired Loans
(Dollars in thousands)
2020 $ 4,810 $ 3,740 $ (1,128) $ 23,059
2019 $ (945) $ 2,998 $ (1,374) $ 31,830
2018 $ 1,492 $ 2,603 $ (590) $ 33,552
Net Interest Income
Net interest income was $467.5 million for 2020, compared to $466.6 million for 2019 and $487.9 million for 2018. Changes in net interest income are a function of changes in interest rates and volumes 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 years ended December 31,
2020 Compared to 2019 2019 Compared to 2018
Net Increase (Decrease) Change due to Net Increase (Decrease) Change due to
Rate Volume Rate Volume
(Dollars in thousands)
INTEREST INCOME:
Loans, including fees $ (72,706) $ (107,740) $ 35,034 $ 33,570 $ 10,060 $ 23,510
Securities available for sale (6,933) (9,482) 2,549 953 327 626
FHLB stock and other investments (6,269) (12,874) 6,605 91 878 (787)
TOTAL INTEREST INCOME $ (85,908) $ (130,096) $ 44,188 $ 34,614 $ 11,265 $ 23,349
INTEREST EXPENSE:
Demand, interest bearing $ (23,202) $ (41,709) $ 18,507 $ 14,479 $ 13,908 $ 571
Savings 879 308 571 707 601 106
Time deposits (57,466) (39,541) (17,925) 40,014 31,565 8,449
FHLB advances and federal funds purchased (5,166) (1,092) (4,074) (3,096) 74 (3,170)
Convertible notes, net 193 (61) 254 3,467 (6) 3,473
Other borrowings, net (2,049) (2,124) 75 375 303 72
TOTAL INTEREST EXPENSE $ (86,811) $ (84,219) $ (2,592) $ 55,946 $ 46,445 $ 9,501
NET INTEREST INCOME $ 903 $ (45,877) $ 46,780 $ (21,332) $ (35,180) $ 13,848
Net interest income before provision for credit losses increased by $903 thousand, or less than 1%, for 2020 compared to 2019. The increase was primarily due to a decrease in cost of interest bearing deposits which decreased by 95 basis points for 2020 compared to 2019. This decrease in cost of interest bearing deposits resulted in a decrease to interest expense of $86.8 million. The decrease in interest expense was partially offset by a decrease in interest income of $85.9 million due to decrease in interest rates in 2020 compared to the previous year.
Net interest income before provision for credit losses decreased by $21.3 million, or 4%, for 2019 compared to 2018. The decrease was primarily due to an increase in cost of interest bearing deposits which increased by 52 basis points for 2019 compared to 2018. This increase resulted in an increase to interest expense of $46.4 million due to the change in rates. The decrease in net interest income was partially offset by an increase in interest income of $34.6 million due to increase in average interest earning assets of 4% during 2019 compared to the previous year which resulted in an increase in interest income of $23.3 million due to the change in volume.
Interest Income
Interest income was $598.9 million for 2020, compared to $684.8 million for 2019 and $650.2 million for 2018. The yield on average interest earning assets was 3.84% for 2020, compared to 4.81% for 2019 and 4.71% for 2018.
Comparison of 2020 with 2019
The decrease in interest income of $85.9 million, or 13%, for 2020 compared to 2019 was primarily a result of the decline in interest rate in 2020. As a result of the COVID-19 pandemic and its impact to the U.S. economy, the FOMC lowered the target federal funds rate by a total of 1.50% in March 2020 to 0.00%-0.25%. The reduction in interest rates in March 2020, had a large impact on our loan yields and interest income as our variable rate loans repriced to lower interest rates and new loans were originated at lower rates. Average total loans increased by $699.8 million for 2020 compared to 2019. Discount accretion income on acquired loans decreased to $23.1 million for 2020 compared to $31.8 million for 2019
Comparison of 2019 with 2018
The increase in interest income of $34.6 million, or 5%, for 2019 compared to 2018 was primarily a result of the growth in total loans. In addition, the interest rates for 2019 were slightly higher on average compared to 2018 which resulted in an increase in yield on earnings assets. Average total loans increased by $451.7 million in 2019 compared to 2018. Discount accretion income on acquired loans decreased to $31.8 million for 2019 compared to $33.6 million for 2018.
Interest Expense
Deposits
Interest expense on deposits was $110.4 million for 2020 compared to $190.2 million for 2019 and $135.0 million for 2018. The average cost of deposits was 0.81% for 2020, compared to 1.58% for 2019 and 1.16% for 2018. The average cost of interest bearing deposits was 1.14% for 2020, compared to 2.09% for 2019 and 1.57% for 2018.
Comparison of 2020 with 2019
The decrease in interest expense on total deposits of $79.8 million, or 42%, for 2020 compared to 2019 was due to a reduction in rates paid on interest bearing deposits in 2020 compared to 2019. We reduced the rates paid on our various deposits multiple times in 2020. The reduction in deposit rates was both a result of the interest rate cuts in March 2020 and due to a significant increase in liquidity throughout 2020. The increase in liquidity in 2020 resulted in a reduction in loan funding needs which had an impact on the overall rates paid on deposits as we were less eager to compete for additional sources of funds. The average balance of noninterest bearing deposits accounted for 32% of total average deposits at December 31, 2020 compared to 24% at December 31, 2019.
Comparison of 2019 with 2018
The increase in interest expense on total deposits of $55.2 million, or 41%, for 2019 compared to 2018 was due to an increase in interest bearing deposit accounts, particularly an increase in average time deposits accounts, in addition to an overall increase in deposit rates offered in 2019. Although our cost of deposits started experiencing a decline in the second half of 2019, the overall average rate on deposits for 2019 was higher compared to 2018. The average balance of noninterest bearing deposits accounted for 24% of total average deposits at December 31, 2019 compared to 26% at December 31, 2018.
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 were $435.8 million for 2020, compared to $688.7 million in 2019 and $870.1 million in 2018. Interest expense on FHLB advances was $6.9 million for 2020 compared to $12.0 million for 2019 and $15.1 million for 2018. The average cost of FHLB advances was 1.58% for 2020, compared to 1.75% for 2019 and 1.74% for 2018. The average cost of FHLB advances included the amortization of premiums recorded on advances acquired from prior acquisitions. Total amortization of FHLB premiums for 2020 was $0, compared to $1.3 million in 2019 and $1.4 million in 2018. During 2020, we repaid $1.74 billion in FHLB advances with an average rate of 0.69% and borrowed $1.36 billion in advances with an average rate of 0.22%. $300.0 million in FHLB advances prepaid in 2020 were prepaid early before maturity and we paid a prepayment penalty of $3.6 million.
Convertible Notes
In 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 2020 was 4.61% compared to 4.64% for 2019. 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. We adopted ASU 2020-06 on January 1, 2021, and as a result our convertible notes are accounted for a single debt instrument. As a result, the cost of convertible notes beginning in 2021 will be closer to the coupon rate.
Other Borrowings
Other borrowings consist of subordinated debentures which bear interest at the 3-month LIBOR rate plus a designated spread. There were no changes in our balance of subordinated debentures during 2019 or 2020 aside from the increases related to the discount accretion on subordinated debentures acquired from previous acquisitions. The average rate on other borrowing decreased to 4.63% for 2020 compared to 6.74% for 2019 and 6.44% for 2018. The change in cost of other borrowings for 2020 and 2019 compared to prior years was due to changes in the 3-month LIBOR rate.
Provision for Credit Losses
The provision for credit losses reflects our judgment of the current period cost associated with credit risk inherent in our loan portfolio. The provision for credit losses 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, the general economic conditions in our market areas, and future projections of the economy. Specifically, the provision for credit losses represents the amount charged against current period earnings to achieve an allowance for credit losses that, in our judgment, is adequate to absorb probable lifetime losses inherent in our loan portfolio. Periodic fluctuations in the provision for credit losses result from management’s assessment of the adequacy of the allowance for credit losses; however, actual credit losses could potentially vary materially from current estimates. If the allowance for credit losses is inadequate, we may be required to record additional provision for credit losses, which could have a material adverse effect on our business, financial condition, and results of operations.
With the adoption of ASU 2016-13, “Financial Instruments - Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments” (“CECL”) in 2020, our provision for credit losses is more volatile due to changes in the calculation of the allowance for credit losses and especially due to the volatility that arose from the COVID-19 pandemic. CECL requires the measurement of all expected credit losses for financial assets carried at amortized cost based on historical experience, current macroeconomic conditions, and reasonable and supportable forecasts. For additional information regarding the adoption of CECL, refer to “Accounting Pronouncements Adopted” section in Footnote 1 of the Consolidated Financial Statements.
Comparison of 2020 with 2019
The provision for credit losses was $95.0 million for 2020, an increase of $87.7 million, or 1,201%, from $7.3 million for 2019. The increase in provision for credit losses for 2020 compared to 2019 was due to both the adoption of CECL and due to the impact of the COVID-19 pandemic. The COVID-19 pandemic adversely affected many industries with the hospitality sector being one of the hardest hit. Hotel/motel loans make up a large percentage of our loan portfolio at approximately 12% at December 31, 2020. As a result, our estimated allowance for credit losses experienced large increases in 2020 to reflect the current and projected impact of COVID-19 pandemic on our loan portfolio. The allowance for credit losses coverage ratio was 1.52% of total loans at December 31, 2020 compared to 0.77% at December 31, 2019.
Comparison of 2019 with 2018
The provision for loan losses was $7.3 million for 2019, a decrease of $7.6 million, or 51%, from $14.9 million for 2018. The decrease in provision for loan losses for 2019 compared to 2018 was due the reduction in net charge-offs for 2019 compared to 2018 and an improvement in credit quality. The allowance for loan losses requirement remained unchanged at 0.77% of total loans at December 31, 2019 compared to December 31, 2018. The reduction in net charge-offs for 2019 resulted in a reduction in provision for loans losses required to replenish the allowance for loan losses for the year. Net charge offs totaled $4.4 million for 2019 compared to $6.9 million for 2018.
See Note 1 “Significant Accounting Policies” of the Notes to Consolidated Financial Statements for further discussion of our allowance for credit losses methodology for 2020 and for a discussion of our former incurred loss allowance for loan losses methodology, please refer to our Annual Report on Form 10-K for the year ended December 31, 2019.
Noninterest Income
Noninterest income is primarily comprised of service charges on deposit accounts, net gains on sales of other loans and sale of available for sale securities, and other fees and income. Noninterest income was $53.4 million for 2020 compared to $49.7 million for 2019, and $60.2 million for 2018.
A breakdown of noninterest income by category is shown below:
Year Ended December 31, 2020 Increase
(Decrease) Year Ended December 31, 2019 Increase
(Decrease) Year Ended December 31, 2018
Amount % Amount %
(Dollars in thousands)
Service fees on deposit accounts $ 12,443 $ (5,490) (31) % $ 17,933 $ (618) (3) % $ 18,551
International service fees 3,139 (787) (20) % 3,926 (445) (10) % 4,371
Loan servicing fees, net 2,809 493 21 % 2,316 (2,380) (51) % 4,696
Wire transfer fees 3,577 (981) (22) % 4,558 (376) (8) % 4,934
Swap fee income 4,066 702 21 % 3,364 2,780 476 % 584
Net gains on sales of SBA loans - - - % - (9,708) (100) % 9,708
Net gains on sales of other loans 8,004 3,517 78 % 4,487 2,002 81 % 2,485
Net gains on sales or called securities available for sale 7,531 7,249 2,571 % 282 282 100 % -
Other income and fees 11,863 (954) (7) % 12,817 (2,034) (14) % 14,851
Total noninterest income $ 53,432 $ 3,749 8 % $ 49,683 $ (10,497) (17) % $ 60,180
Comparison of 2020 with 2019
The decrease in service fees on deposit accounts for 2020 compared to 2019 was due to a decrease in non-sufficient funds fees collected on deposit accounts and a decline in analysis fees income. As a result of the COVID-19 pandemic and the stay at home orders issued by many states for many months in 2020, deposit activity for 2020 was greatly reduced compared to 2019. As a result, demand deposit account transactions and non-sufficient funds had significant declines in 2020. Analysis fee income declined for 2020 compared to 2019 due to the closing of higher risk deposit accounts during the year. The analysis fees collected on these accounts were on the higher end and the closing of these accounts contributed to the decline in service fee on deposits accounts for 2020 compared to 2019.
International service fees declined for 2020 compared to 2019 due to a decline in fees generated from trade finance loans. International service fees are earned from trade finance loans and as the balance of these loans have declined, the associated fee income earned has also declined. The balance of trade finance loans declined to $102.8 million at December 31, 2020 from $160.9 million at December 31, 2019.
Loan servicing fees, net represents income earned from servicing SBA and residential mortgage loans that were previously sold. We retain servicing on most of the loans that we choose to sell. The increase in loan servicing fees, net for 2020 compared to 2019 was due to a reduction in payoffs of serviced loans. Payoffs of serviced loans were higher during 2019, which resulted in the full amortization of the remaining servicing asset, which is recorded as a reduction to loan servicing fee income.
Wire transfer fees declined for 2020 compared to 2019 due to the COVID-19 pandemic, which resulted in a significant decline in deposit related transactions, including wire transfers.
Swap fee income represents fees earned from back to back swap transactions for our loan customers. Due to the volatility in interest rates we have experienced in the past twelve months, the number of swap transactions increased in 2020 which resulted in an increase in swap fee income for 2020 compared to 2019.
Net gain on sale of other loans increased in 2020 compared to 2019 due to an increase in loans sold and an increase in premiums received. Net gains on sales of other loans represents net gains primarily from the sale of residential mortgage loans. We sold $298.4 million in residential mortgage loans compared to $209.4 million residential mortgage loans sold in 2019. The average weighted premium on residential mortgage loans sold was 2.68% for 2020 compared to 2.06% for 2019.
During 2020, we sold investment securities with a total book value of $160.5 million for a net gain of $7.5 million. This compares to investment securities with a total book value of $115.3 million sold during 2019.
Comparison of 2019 with 2018
The decrease in noninterest income for 2019 over 2018 primarily reflected decreases in loan servicing fees and net gain on sales of SBA loans, partially offset by an increase to net gain on sales of other loans.
Loan servicing fees decreased by $2.4 million, or 51%, to $2.3 million in 2019 compared to $4.7 million in 2018. The decrease in loan servicing fees in 2019 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 $9.7 million, or 100%, in 2019 compared to 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. As a result, there were no SBA loans sold in 2019 compared to $159.8 million of SBA loans sold in 2018.
Net gain on sale of other loans increased by $2.0 million, or 81%, to $4.5 million in 2019 from $2.5 million in 2018. Net gains on sales of other loans represents net gains primarily from the sale of residential mortgage loans. The increase in net gains on sales of other loans was due to the increase in residential mortgage loans sold in 2019 compared to 2018. In 2019, we sold $209.4 million in residential mortgage loans compared to $115.9 million residential mortgage loans sold in 2018.
Noninterest Expense
Noninterest expense is primarily comprised of salaries and employee benefit expense, occupancy expense, furniture and equipment expense, advertising and marketing expenses, data processing and communications expenses, professional fees, investment in affordable housing partnership expenses, and other expenses. Noninterest expense was $283.6 million for 2020, compared to $282.6 million for 2019 and $277.7 million for 2018. The increases in noninterest expenses were $1.0 million, or less than 1%, for 2020 compared to 2019, and $4.9 million, or 2%, for 2019 compared to 2018. Noninterest expense as a percentage of average assets for 2020 was 1.72% compared to 1.86% for 2019 and 1.88% for 2018.
A breakdown of noninterest expense by category is provided below:
Year Ended December 31, 2020 Increase (Decrease) Year Ended December 31, 2019 Increase (Decrease) Year Ended December 31, 2018
(Dollars in thousands) Amount % Amount %
Salaries and employee benefits $ 162,922 $ 1,748 1 % $ 161,174 $ 7,651 5 % $ 153,523
Occupancy 28,917 (1,818) (6) % 30,735 364 1 % 30,371
Furniture and equipment 17,548 1,965 13 % 15,583 681 5 % 14,902
Advertising and marketing 6,284 (2,862) (31) % 9,146 (268) (3) % 9,414
Data processing and communications 9,344 (1,436) (13) % 10,780 (3,452) (24) % 14,232
Professional fees 8,170 (14,358) (64) % 22,528 6,242 38 % 16,286
Investment in affordable housing partnerships expenses 13,146 3,854 41 % 9,292 (2,774) (23) % 12,066
FDIC assessments 5,544 1,662 43 % 3,882 (2,690) (41) % 6,572
Credit related expenses 6,817 1,842 37 % 4,975 2,112 74 % 2,863
OREO expense (income), net 3,865 4,799 N/A (934) (1,121) N/A 187
FHLB prepayment fee 3,584 3,584 100 % - - - % -
Branch restructuring costs 2,367 2,367 100 % - (1,674) (100) % 1,674
Other 15,131 (336) (2) % 15,467 (169) (1) % 15,636
Total noninterest expense $ 283,639 $ 1,011 - % $ 282,628 $ 4,902 2 % $ 277,726
Comparison of 2020 with 2019
The increase in noninterest expense for 2020 over 2019 was due mostly to increases in OREO expenses, investment in affordable housing partnership expenses, FHLB prepayment fee, and branch restructuring expenses, partially offset by significant declines in professional fees, advertising and marketing, occupancy, and data processing expenses.
Salaries and employee benefits expense increased $1.7 million for 2020 compared to 2019. The increase in salaries and employee benefits was due to an increase in salaries paid in 2020 and an increase in stock compensation expenses compared to 2019. These increases were partially offset by declines in payroll related loan origination costs, temporary personnel, bonus provision, and group insurance expenses. Salaries and employee benefits for 2020 included deferred originations costs which were recorded from the origination of $480.1 million in SBA PPP loans during the 2020. SBA PPP loan origination costs of $5.3 million was recorded during the second quarter of 2020 which initially reduced salaries and benefits and going forward is amortized through the life of the loans as a reduction to interest income. The number of full-time equivalent employees decreased from 1,441 at December 31, 2019 to 1,408 at December 31, 2020. During the third quarter of 2020, we implemented a 4% reduction in staff in light of the impact that COVID-19 is having on our operations. The staff reduction is expected to result in approximately $6.4 million in annual savings to salaries and employee benefits.
Occupancy expense declined for 2020 compared to 2019 due to the decline in rent expenses and other occupancy related expenditures. In December 2020, we implemented our previously planned branch consolidation plan in which we closed five branch offices. As a result, we recorded $2.4 million in restructuring costs related to the write-down of related ROU assets, severance payments, and other costs. The branch consolidation is estimated to result in approximately $2.6 million in annual cost savings starting in 2021.
Furniture and equipment expense increased for 2020 compared to 2019 due to additional expenditures made for software subscriptions, licenses, and IT related equipment and services.
Advertising and marketing expense decreased for 2020 compared to 2019 due to the decline in public sponsorship fees. In 2020, we did not sponsor the Ladies Professional Golf Association (“LPGA”) Founders Cup for which sponsorship fees were $1.5 million in 2019. However, we are currently in talks with the LPGA to once again become a sponsor for one of their events starting in 2021.
Data process and communications expense decreased for 2020 compared to 2019 due to an overall decline in core data processing fees as the number of loan and deposit transactions have declined.
Professional fees experienced a large decrease of $14.4 million in 2020 compared to 2019. The decrease in professional fees for 2020 was due to decreases in fees related to the implementation of CECL, IT related professional fees, and internal audit service fees. With the expansion of our internal audit department, we were able to significantly reduce internal audit service fees in 2020 as much more of the work is now performed internally.
Investment in affordable housing partnership expenses increased in 2020 compared to 2019. We make investments in affordable housing partnerships and receive Community Reinvestment Act credits and tax credits, which reduces our overall tax provision rate. Investments in affordable housing partnership expenses are recorded based on benefit schedules of individual investment projects under the equity method of accounting. The benefit schedules show tax loss/deductions investors can take each year. We amortize the initial cost of investments in affordable housing partnership by tax loss/deductions. This amortization expense is more than offset by both tax credits received, which reduces our tax provision expense dollar for dollar and the tax benefits related to any tax losses generated through the affordable housing project’s expenditures. Total tax credits related to our investment in affordable housing partnership investment was approximately $10.5 million for the year ended December 31, 2020. The balance of investments in affordable housing partnerships decreased from $82.6 million at December 31, 2019 to $69.5 million at December 31, 2020.
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 upon our regulatory rating and selected financial measures. The increase in FDIC assessment fees for 2020 compared to the 2019 was largely due to a $1.5 million small bank assessment credit that was received during the third quarter of 2019 which reduced FDIC assessment fees for 2019. There were no recorded credits for 2020 which resulted in an increase in these fees.
Credit related expenses increased in 2020 compared to 2019 due to an increase in credit related provision expenses. In 2020 we set aside $1.0 million in provisions for accrued interest for loans currently on payment deferrals related to COVID-19. We had no such provision in 2019. In addition, provision for unfunded loan commitments which is included in credit related expenses increased by $760 thousand in 2020 compared to 2019.
The increase in OREO expense for 2020 compared to 2019 was due to an increase in valuation expenses for OREO in 2020. The overall value OREO experienced significant declines in 2020 compared to 2019 which resulted in much higher OREO related expense in 2020.
During third quarter of 2020, we utilized a portion of our excess liquidity to payoff $300.0 million in FHLB advances. These advances were paid off before maturity and resulted in a prepayment fee of $3.6 million. There was no FHLB advance prepayment penalty incurred in 2019. The FHLB advances repaid had an average weighted rate of 1.68% and had remaining maturities ranging from 4 months to 2.4 years. The prepayment of these advance resulted in over $1.0 million in interest expense savings for the fourth quarter of 2020.
In December 2020, we recorded branch restructuring costs of $2.4 million related to our branch consolidation plan. The $2.4 million in restructuring costs consisted of $349 thousand in severance payments, $2.0 million in occupancy expense most of which was related to the write-down of ROU assets, and $55 thousand in other various expenditures. There was no branch restructuring cost incurred in 2019.
Comparison of 2019 with 2018
The increase in noninterest expense for 2019 over 2018 was due mostly to increases in salaries and employee benefits, professional fees, and credit related expenses, partially offset by a decline in data processing expenses, investment in affordable housing partnership expenses, FDIC assessment expenses, OREO expenses, and branch restructuring expenses.
Salaries and employee benefits totaled $161.2 million for 2019, an increase of $7.7 million, or 5%, compared to $153.5 million for 2018. The increase in salaries and benefits was mostly due to an increase in salaries, bonus provisions, stock compensation expenses, and insurance related expenses partially offset by a decline in loan commission paid during the year. During the third quarter of 2018, we restructured our incentive compensation plans, which resulted in a reversal of previously accrued bonus provisions. As a result, total bonus provision expense was higher in 2019 compared to the same period of 2018. The restructured incentive plan also resulted in an increase in stock compensation costs in 2019 compared to 2018 as a larger portion of the incentive plan is now paid in stock awards. In 2019, we had a large increase in insurance related costs due to an increase in self-insured insurance claims. This resulted in an increase in insurance related costs in 2019 compared to 2018. We experienced a decline in commissions paid on loans to employees in 2019 compared to 2018 due to the reduction in residential mortgage originations and associated commissions. The number of full-time equivalent employees decreased from 1,494 at December 31, 2018 to 1,441 at December 31, 2019.
Data processing and communications expenses decreased $3.5 million, or 24%, to $10.8 million for 2019 compared to $14.2 million for 2018. Data processing and communication fees for 2019 included credits received for current year data processing fees from our core processing vendor as part of our negotiated contract renewal which begins in 2020. These credits resulted in an overall decline in data processing and communications fees for 2019 compared to 2018.
Professional fees increased $6.2 million, or 38%, to $22.5 million for 2019 compared to $16.3 million for 2018. The increase in professional fees was due to increases in internal audit service fees, third parties consulting fees for assistance with the implementation of the new accounting standard for current expected credit losses (“CECL”), and various other consulting fees. Professional fees related to the implementation of CECL is expected to decline in 2020 following the adoption of the new standard.
Investments in affordable housing partnership expenses decreased $2.8 million, or 23%, to $9.3 million for 2019 compared to $12.1 million for 2018. We make investments in affordable housing partnerships and receive CRA 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 decreased from $92.0 million at December 31, 2018 to $82.6 million at December 31, 2019.
FDIC assessment expenses decreased $2.7 million, or 41%, to $3.9 million for 2019 compared to $6.6 million for 2018. 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 decrease in FDIC assessments for 2019 compared to 2018 was due to a $1.5 million small bank assessment credit received from the FDIC during the third quarter of 2019.
Credit related expenses increased $2.1 million, or 74%, to $5.0 million for 2019 compared to $2.9 million for 2018. Credit related expenses increased in 2019 compared to 2018 largely due to increases to expenses related to loan collections, forced insurance expenses, and other miscellaneous credit related expenses.
OREO (income) expense, net experienced a decline in 2019 compared to 2018 due to a fair value adjustment recorded for a loan that was transferred to OREO during the third quarter of 2019. The fair value of the underlying collateral of the loan (less cost to sell) being transferred to OREO exceeded the carrying balance of the loan and a fair value adjustment was recorded to reflect the difference in value. The fair value adjustment of $1.7 million was partially offset by an increase in OREO related expenses.
In December 2018, we incurred a restructuring charge of $1.7 million, related to our branch rationalization plan which was announced in December 2018 and completed in the second quarter of 2019. 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 2019.
Income Tax Provision
The provision for income taxes for 2020 was $30.8 million, compared to $55.3 million in 2019 and $65.9 million in 2018. The effective income tax rate was 21.63% for 2020 compared to 24.44% for 2019 and 25.79% for 2018. The reduction in effective tax rate for 2020 compared to 2019 was primarily due to CRA investment tax credits which had a larger impact on tax rate for 2020 compared to 2019 due to a decline in pretax income.
Financial Condition
Our total assets were $17.11 billion at December 31, 2020 compared to $15.67 billion at December 31, 2019, an increase of $1.44 billion, or 9.2% year over year. The increase in assets for 2020 compared to 2019 was principally due to the increase in securities available-for-sale and loans receivable. These increases for 2020 were partially offset by a decline in cash and cash equivalents.
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 $2.29 billion at December 31, 2020, compared to $1.72 billion at December 31, 2019. We had no securities that were categorized as held to maturity at December 31, 2020 or 2019. We had securities that were called, matured, or paid down totaling $565.4 million, purchased $1.27 billion, and sold $168.1 million in securities during the year. At December 31, 2020, $376.1 million in securities were pledged to secure public deposits, or for other purposes required or permitted by law, $368.2 million in securities were pledged in the State of California time deposit program, $1.9 million was pledged at the United States Department of Justice, and $1.4 million were pledged for other public deposits.
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% of our total available for sale portfolio as of December 31, 2020 and 2019. At December 31, 2020 and 2019, 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, 2020 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,
2020 2019
Amortized
Cost Estimated
Fair
Value Net
Unrealized Gain (Loss) Amortized
Cost Estimated
Fair
Value Net Unrealized
Gain (Loss)
(Dollars in thousands)
Debt securities:
U.S. Government agency and U.S. Government sponsored enterprises:
CMOs $ 990,679 $ 1,001,317 $ 10,638 $ 735,094 $ 736,655 $ 1,561
MBS:
Residential 672,667 681,013 8,346 353,073 352,897 (176)
Commercial 482,874 507,879 25,005 541,043 552,124 11,081
Corporate securities 7,000 6,134 (866) 5,000 4,200 (800)
Municipal securities 86,213 89,268 3,055 69,631 70,111 480
Total investment securities available for sale $ 2,239,433 $ 2,285,611 $ 46,178 $ 1,703,841 $ 1,715,987 $ 12,146
The following table summarizes the maturity of securities based on carrying value and their related weighted average yield (non-tax equivalent) at December 31, 2020:
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* $ - - % $ 685 1.46 % $ 4,349 1.54 % $ 996,283 1.53 % $ 1,001,317 1.53 %
MBS:
Residential* - - % - - % 3,867 2.02 % 677,146 1.40 % 681,013 1.40 %
Commercial* - - % 5,215 1.86 % 286,338 3.03 % 216,326 2.32 % 507,879 2.72 %
Corporate Securities - - % - - % 2,015 - % 4,119 1.21 % 6,134 1.73 %
Municipal Securities 351 4.56 % - - % 13,640 1.58 % 75,277 3.36 % 89,268 3.09 %
Total $ 351 4.56 % $ 5,900 1.83 % $ 310,209 2.93 % $ 1,969,151 1.64 % $ 2,285,611 1.82 %
* 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, 2020:
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* 22 $ 312,757 $ (844) - $ - $ - 22 $ 312,757 $ (844)
MBS:
Residential* 8 46,094 (114) - - - 8 46,094 (114)
Commercial* 1 10,275 (21) - - - 1 10,275 (21)
Corporate securities - - - 1 4,119 (881) 1 4,119 (881)
Municipal securities 1 997 (3) - - - 1 997 (3)
Total 32 $ 370,123 $ (982) 1 $ 4,119 $ (881) 33 $ 374,242 $ (1,863)
* Investments in U.S. Government agency and U.S. Government sponsored enterprises
We adopted ASU 2016-13 on January 1, 2020 and implemented the CECL methodology for our investment securities available for sale. At the time of adoption, we did not record a day 1 CECL adjustment on our investment securities available for sale as we determined that a credit impairment did not exist. Subsequently, we performed an analysis on our investment portfolio as of December 31, 2020 and concluded that an allowance for credit losses was not required. The majority of our investment portfolio consists of securities issued by U.S. Government agencies or U.S. Government sponsored enterprises which we determined have zero loss expectation. At December 31, 2020, we also had corporate security not issued by U.S. Government agencies or U.S. Government sponsored enterprises that was in an unrealized loss position. Based on our analysis of this investment, we concluded a credit loss did not exist due to the issuer’s financial strength, high bond ratings, and because we still expect full payment of principal and interest.
Equity Investments
As of December 31, 2020, equity investments totaled $59.7 million compared to $49.1 million at December 31, 2019. In 2020, we purchased $10.0 million in equity investments which were comprised of $5.0 in of mutual funds and $5.0 million in CRA investments. For the year ended December 31, 2020, we recorded an increase in equity investments due to change fair value of $488 thousand. Equity investments as of December 31, 2020 included $27.6 million in equity investments with readily determinable fair values and $32.1 million in equity investments without readily determinable fair values.
Equity investments with readily determinable fair values at December 31, 2020 consisted of mutual funds totaling $27.6 million. 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, 2020 included $30.7 million in Community Reinvestment Act (“CRA”) 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 the year ended December 31, 2020.
Loan Portfolio
We offer a variety of products designed to meet the credit needs of our borrowers. Our lending activities primarily consist of real estate loans, commercial business loans, residential mortgage, and consumer loans. Gross loans receivable rose by $1.29 billion to $13.56 billion at December 31, 2020 from $12.28 billion at December 31, 2019.
We experienced an increase in real estate residential, real estate commercial and commercial business loans in 2020 compared to the previous year. All other loan types experienced declines in 2020. The rates of interest charged on variable 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 42% of our total loans were variable rate loans at December 31, 2020 compared to 39% at December 31, 2019. Commercial real estate loans as a percentage to total loans was 65% at December 31, 2020 compared to 71% at December 31, 2019.
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 credit 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, 2020, our lending limit was approximately $381.3 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 credit losses for a total limit of approximately $635.5 million to one borrower as of December 31, 2020. The largest aggregate amount of loans that the Bank had outstanding to any one borrower and related entities was $198.6 million, of which the entire amount was performing and in good standing at December 31, 2020.
The following table shows the composition of our loan portfolio by type of loan on the dates indicated:
December 31,
2020 2019 2018 2017 2016
Amount % Amount % Amount % Amount % Amount %
(Dollars in thousands)
Loan portfolio composition:
Real estate loans:
Residential $ 54,795 - % $ 52,558 - % $ 51,197 - % $ 49,774 - % $ 57,884 1 %
Commercial 8,425,959 63 % 8,316,470 69 % 8,393,551 70 % 8,138,612 73 % 7,839,555 74 %
Construction 291,380 2 % 295,523 2 % 275,076 2 % 316,412 3 % 254,113 2 %
Total real estate loans 8,772,134 65 % 8,664,551 71 % 8,719,824 72 % 8,504,798 76 % 8,151,552 77 %
Commercial business 4,157,787 31 % 2,721,183 22 % 2,325,544 20 % 1,948,056 18 % 1,987,660 19 %
Residential mortgage 582,232 4 % 835,188 7 % 1,002,113 8 % 593,256 5 % 340,866 3 %
Consumer and other 51,060 0 % 55,085 0 % 50,634 0 % 56,465 1 % 63,254 1 %
Total loans outstanding 13,563,213 100 % 12,276,007 100 % 12,098,115 100 % 11,102,575 100 % 10,543,332 100 %
Less: allowance for credit losses (206,741) (94,144) (92,557) (84,541) (79,343)
Loans receivable, net $ 13,356,472 $ 12,181,863 $ 12,005,558 $ 11,018,034 $ 10,463,989
Real Estate Loans
Our 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, decreased $107.6 million or, 1%, to $8.77 billion at December 31, 2020 from $8.66 billion at December 31, 2019. Real estate loans declined slightly in 2020 from 2019 due to a decline in originations and an increase in real estate loan payoffs during the year.
Other Loans
Commercial business loans include term loans to businesses, lines of credit, trade finance facilities, commercial SBA loans, equipment leasing loans, warehouse lines of credit and SBA Paycheck Protection Program (“PPP”) loans. 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 2020, commercial business loans increased $1.44 billion, or 53%, to $4.16 billion at December 31, 2020 from $2.72 billion at December 31, 2019. The increase in commercial business loans was due to an increase in commercial term loans, warehouse lines of credit, and PPP loans funded in 2020.
Residential mortgage loan represented approximately 4% of total loan portfolio. Residential mortgage portfolio declined from $835.2 million in 2019, or 30% to $582.2 million in 2020. Consumer loans comprise approximately less than 1% of the total loan portfolio. Most of our consumer loan portfolio include automobile loans, home equity lines and loans, signature term loans and lines of credit, and credit card loans. Consumer loans decreased $4.0 million, or 7%, to $51.1 million at December 31, 2020 from $55.1 million at December 31, 2019. The decreases in residential mortgage and consumer loans were due primarily to the decrease in loan originations in 2020 as well as an increase in residential mortgage loans sold during the year.
Loan Commitments
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,
2020 2019 2018 2017 2016
(Dollars in thousands)
Commitments to extend credit $ 2,137,178 $ 1,864,947 $ 1,712,032 $ 1,526,981 $ 1,592,221
Standby letters of credit 108,834 113,720 69,763 74,748 63,753
Other commercial letters of credit 40,508 37,627 65,822 74,147 52,125
Total $ 2,286,520 $ 2,016,294 $ 1,847,617 $ 1,675,876 $ 1,708,099
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 $143.3 million at December 31, 2020 compared to $122.1 million at December 31, 2019. Nonperforming assets at December 31, 2020 increased from December 31, 2019 due to the increases in nonaccrual loans and accruing restructured loans, partially offset by decreases in loans past due 90 days or more and still accruing and OREO. The following table illustrates the composition of nonperforming assets and nonperforming loans as of the dates indicated:
December 31,
2020 2019 2018 2017 2016
(Dollars in thousands)
Nonaccrual loans (1)
$ 85,238 $ 54,785 $ 53,286 $ 46,775 $ 40,074
Loans 90 days or more days past due, still accruing (2)
614 7,547 1,529 407 305
Accruing restructured loans 37,354 35,709 50,410 67,250 48,874
Total nonperforming loans 123,206 98,041 105,225 114,432 89,253
OREO 20,121 24,091 7,754 10,787 21,990
Total nonperforming assets $ 143,327 $ 122,132 $ 112,979 $ 125,219 $ 111,243
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(1) Nonaccrual loans exclude the guaranteed portion of delinquent SBA loans that are in liquidation and excludes PCI loans for periods prior to 2020
(2) Excludes PCI loans at reporting years 2016 to 2019
COVID-19 Related Loan Modifications
In 2020, we received a large number of modification requests from borrowers affected by the COVID-19 pandemic. Subsequently many of those requests for modifications were granted during the second quarter of 2020. Many of these modifications had deferral periods that expired during the third quarter of 2020 and some of these loans were granted a second modification. As of June 30, 2020, loans that were modified due to hardship caused by the COVID-19 pandemic totaled $3.12 billion, which represented approximately 24.2% of our total loan portfolio. As of September 30, 2020, COVID-19 related modifications totaled $1.15 billion or approximately 8.8% of our total loan portfolio and COVID-19 related modifications at December 31, 2020 totaled $1.38 billion or approximately 10.2% of our total loan portfolio. The number of modification we are providing has declined significantly as of December 31, 2020 compared to modification at June 30, 2020.
COVID-19 modifications at January 31, 2021 declined to $1.26 billion or 9.3% of the loan portfolio. Based on the expiration schedule of modifications as of December 31, 2020, we expect total modifications to decline to 2-3% of total loans by June 30, 2021, assuming we do not provide any new modifications.
Loans that have been modified under the CARES Act were not categorized as past due, TDR, or nonaccrual as of December 31, 2020 unless the loans were categorized as past due, TDR, or nonaccrual prior to the modification. All COVID-19 modifications are being monitored by management for potential downgrades to classified and nonaccrual status as the CARES Act provides temporary relief of certain modifications from TDR classification, but not from classified or nonaccrual status.
To assist our customers during this difficult time, we provided various types of modifications to fit the needs of each borrower. Of the COVID-19 related modifications as of December 31, 2020, $414.8 million or 30% consisted of full payment deferrals, $430.3 million or 31% consisted of a hybrid of full payment deferral for a period followed by interest only payments, $407.6 million or 30% consisted of interest only payments, and the remaining modifications consisted of maturity extensions. The length of time for the modified loans ranged from 2 to 18 months, but most of the modifications had terms of either 6 or 9 months (modification terms are not stated on a cumulative basis).
The following table presents total COVID-19 related modifications by loan type as of December 31, 2020:
COVID-19 Modifications
December 31, 2020
Modified Loans Loans
Receivable Percentage of Loans Modified Accrued Interest Receivable on Modified Loans
(Dollars in thousands)
Real estate - residential $ 1,099 $ 54,795 2.0 % $ 42
Real estate - commercial
Retail
288,154 2,280,297 12.6 % 5,046
Hotel & motel
720,420 1,615,019 44.6 % 14,200
Gas station & car wash
11,282 889,165 1.3 % 262
Mixed use
77,436 694,227 11.2 % 1,811
Industrial & warehouse
29,842 1,084,840 2.8 % 560
Other
115,428 1,862,411 6.2 % 1,636
Real estate - construction 62,068 291,380 21.3 % 1,146
Commercial business 37,925 4,157,787 0.9 % 154
Residential mortgage 35,744 582,232 6.1 % 466
Consumer and other 763 51,060 1.5 % 41
Total $ 1,380,161 $ 13,563,213 10.2 % $ 25,364
At December 31, 2020 approximately 73% of all of the COVID-19 related modifications were loans secured by hotel/motel and retail properties (includes some construction loans secured by hotel/motel and retail properties) as these industries were hard hit by the pandemic. Our hotel/motel loan portfolio consists mostly of limited services facilities, which were less impacted by the pandemic compared to destination hotel properties. Although occupancy trends have stabilized for many of our hotel/motel operators, approximately half of the hotel/motel borrowers that had a modification at June 30, 2020 required a second round of modifications. The majority of our hotel/motel loans are secured with personal guarantees.
Modified loans secured by retail properties consist mostly of strip mall type properties anchored by grocery markets with tenants of these properties made up of largely service oriented businesses. Commercial real estate loans secured by retail properties represented approximately 21% of all COVID-19 modifications as of December 31, 2020. Many of these businesses are now operating again, although at a limited level due to a social distancing requirement as a result of the pandemic. As a result, only 36% of retail commercial real estate loans modified as of June 30, 2020 were modified at December 31, 2020.
In accordance with the CARES Act and interagency guidance, qualifying modifications provide banks the option to temporarily suspend certain requirements under U.S. GAAP related to TDRs for a limited period of time to account for the effects of COVID-19. This timeframe was extended in December 2020 to the earlier of January 1, 2022 or 60 days after the end of the coronavirus emergency declaration. As of December 31, 2020, loans modified under Section 4013 of the CARES Act and interagency guidance were not included as TDRs.
Maturity of Loans
The following table illustrates the maturity distribution intervals of loans outstanding as of December 31, 2020.
December 31, 2020
Loans Maturing
Within One
Year After One to
Five Years After Five
Years Total Loans
Outstanding
(Dollars in thousands)
Real estate loans:
Residential $ 10,261 $ 27,565 $ 16,969 $ 54,795
Commercial 973,352 4,271,699 3,180,908 8,425,959
Construction 275,580 15,801 - 291,381
Total real estate loans 1,259,193 4,315,065 3,197,877 8,772,135
Commercial business loans 1,945,602 1,723,036 489,149 4,157,787
Residential mortgage - - 582,231 582,231
Consumer loans 33,163 16,544 1,353 51,060
Total loans outstanding $ 3,237,958 $ 6,054,645 $ 4,270,610 $ 13,563,213
Fixed interest rate (1)
$ 740,644 $ 4,099,663 $ 3,002,874 $ 7,843,181
Variable interest rate 2,497,314 1,954,982 1,267,736 5,720,032
Total loans outstanding $ 3,237,958 $ 6,054,645 $ 4,270,610 $ 13,563,213
_________________________
(1) 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, 2020.
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, 2020, loans from California represented 60% of the total loans outstanding and loans from New York and New Jersey represented 16%. The remaining 24% 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 (54%). 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 (19%), hotel/motel (19%), industrial & warehouse (10%), and gas station & car wash (12%). Within our commercial and business loan portfolio, the largest industry concentrations are finance and insurance (34%), wholesalers (14%), retail trade (12%), manufacturing (11%), and services (10%).
Allowance for Credit 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 credit losses, while any recoveries are credited to the allowance.
Allowance for Credit Loss
On January 1, 2020 the Company adopted ASU 2016-13, “Measurement of Credit Losses on Financial Instruments”, or CECL, which significantly changed the credit losses estimation model for loan and investments. On March 27, 2020, President Donald Trump signed into law the CARES Act in response to the global pandemic. The CARES Act includes a provision that temporarily delays the required implementation date of ASU 2016-13. However, we chose not to elect to delay the adoption of ASU 2016-13 and implemented the CECL methodology as of January 1, 2020. On January 1, 2020, we recorded a $26.2 million day 1 CECL adjustment as a result of adopting the new standard.
The allowance for credit losses (“ACL”) was $206.7 million at December 31, 2020 compared to allowance for credit losses of $94.1 million at December 31, 2019. We recorded provisions for credit losses of $95.0 million in 2020 compared to $7.3 million in 2019, and $14.9 million in 2018. During 2020, we charged off $16.0 million in loans outstanding and recovered $7.4 million in loans previously charged off. Charge offs for the 2020 included the charge offs of $4.7 million in specific reserves held against purchased credit-impaired loans that were reclassified under the new CECL methodology. Total criticized loans, or loan rated special mention, substandard, doubtful, or loss at December 31, 2020 totaled $551.5 million compared to $400.7 million at December 31, 2019. The ACL was 1.52% of loans receivable at December 31, 2020 and 0.77% of loans receivable at December 31, 2019. The ACL to loans receivable ratio does not include non-credit related discount on acquired loans. Total discount on acquired loans at December 31, 2020 and 2019 totaled $23.3 million and $45.9 million, respectively. ACL on individually evaluated loans increased to $7.3 million at December 31, 2020 from $3.4 million at December 31, 2019. In addition to allowance for credit losses, we had $1.3 million in allowances for unfunded loan commitments as of December 31, 2020, compared to $636 thousand as of December 31, 2019.
The following table presents total nonaccrual and delinquent loans (loans past due 30+ days) as of the dates indicated:
December 31,
2020 2019 2018 2017 2016
(Dollars in thousands)
Real estate - residential $ - $ - $ - $ - $ 679
Real estate - commercial 64,894 40,460 38,260 33,838 37,649
Real estate - construction 18,723 14,015 - 1,300 2,813
Commercial business 17,304 12,681 23,884 25,546 15,632
Residential mortgage 11,690 13,220 17,431 9,998 378
Consumer and other 1,414 1,100 804 453 1,265
Total nonaccrual and delinquent loans $ 114,025 $ 81,476 $ 80,379 $ 71,135 $ 58,416
Nonaccrual loans included above $ 85,238 $ 54,785 $ 53,286 $ 46,775 $ 40,074
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,
2020 2019 2018 2017 2016
(Dollars in thousands)
Special Mention $ 184,941 $ 141,452 $ 163,089 $ 214,891 $ 243,656
Substandard 366,556 259,278 317,915 353,222 311,106
Doubtful/Loss 1 13 412 362 1,949
Total Criticized Loans $ 551,498 $ 400,743 $ 481,416 $ 568,475 $ 556,711
The following table shows the provision for credit losses, the amount of loans charged off, and recoveries on loans previously charged off together with the balance in the allowance for credit 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,
2020 2019 2018 2017 2016
(Dollars in thousands)
LOANS:
Average loans receivable, including loans held for sale $ 12,698,523 $ 11,998,675 $ 11,547,022 $ 10,642,349 $ 8,121,897
Total loans receivables, excluding loans held for sale 13,563,213 12,276,007 12,098,115 11,102,575 10,543,332
ALLOWANCE:
Balance - beginning of year 94,144 92,557 84,541 79,343 76,408
Loans charged off:
Real estate (8,658) (1,803) (6,726) (3,142) (910)
Commercial business (6,157) (5,086) (2,891) (13,300) (7,293)
Residential mortgage - - - - -
Consumer and other (1,211) (1,220) (1,258) (968) (757)
Total loans charged off (16,026) (8,109) (10,875) (17,410) (8,960)
Less recoveries:
Real estate 1,851 2,104 1,028 212 1,187
Commercial business 5,526 1,596 2,892 4,996 1,614
Residential mortgage - - - 28 -
Consumer and other loans 46 36 71 12 94
Total loan recoveries 7,423 3,736 3,991 5,248 2,895
Net loans (charged off) recovered (8,603) (4,373) (6,884) (12,162) (6,065)
CECL day 1 adoption impact 26,200 - - - -
Provision for credit losses 95,000 7,300 14,900 17,360 9,000
PCI allowance adjustment - (1,340) - - -
Balance - end of year $ 206,741 $ 94,144 $ 92,557 $ 84,541 $ 79,343
RATIOS:
Net loan charge offs to average loans 0.07 % 0.04 % 0.06 % 0.11 % 0.07 %
Allowance for credit losses to total loans receivable 1.52 % 0.77 % 0.77 % 0.76 % 0.75 %
Net loan charge offs to allowance for credit losses 4.16 % 4.65 % 7.44 % 14.39 % 7.64 %
Net loan charge offs to provision for credit losses 9.06 % 59.90 % 46.20 % 70.06 % 67.39 %
Allowance for credit losses to nonperforming loans 167.80 % 96.03 % 87.96 % 73.88 % 88.90 %
The following table reflects our allocation of the allowance for credit losses by loan category and the ratio of each loan category to total loans as of the dates indicated:
December 31,
2020 2019 2018 2017 2016
Amount of allowance for credit losses ACL Coverage Ratio Amount of allowance for loan losses ALLL Coverage Ratio Amount of allowance for loan losses ALLL Coverage Ratio Amount of allowance for loan losses ALLL Coverage Ratio Amount of allowance for loan losses ALLL Coverage Ratio
(Dollars in thousands)
Loan Type
Real estate-residential $ 391 0.71 % $ 204 0.39 % $ 112 0.22 % $ 88 0.18 % $ 209 0.36 %
Real estate-commercial 159,527 1.89 % 51,712 0.62 % 55,890 0.67 % 57,664 0.71 % 49,917 0.64 %
Real estate-construction 2,278 0.78 % 1,677 0.57 % 765 0.28 % 930 0.29 % 1,621 0.64 %
Commercial business 39,155 0.94 % 33,032 1.21 % 28,484 1.22 % 22,471 1.15 % 25,444 1.28 %
Residential mortgage 4,227 0.73 % 5,925 0.71 % 5,207 0.52 % 2,442 0.41 % 1,159 0.34 %
Consumer and other 1,163 2.28 % 1,594 2.89 % 2,099 4.15 % 946 1.68 % 993 1.57 %
Total $ 206,741 1.52 % $ 94,144 0.77 % $ 92,557 0.77 % $ 84,541 0.76 % $ 79,343 0.75 %
The adequacy of the allowance for credit losses is determined upon an evaluation and review of the credit quality of the loan portfolio, taking into consideration economic forecasts, historical loan loss experience, relevant internal and external factors that affect the collection of a loan, and other pertinent factors. We use a combination of a modeled and non-modeled approach that incorporates current and future economic conditions to estimate lifetime expected losses on a collective basis. We incorporate in our modeled approach, Probability of Default (“PD”), Loss Given Default (“LGD”), and Exposure at Default (“EAD”) methodologies. For non-modeled loans, the allowance for credit losses is largely based on historical loss experience. Both approaches are combined with other quantitative factors and qualitative considerations in calculation of the allowance for credit losses for collectively assessed loans with similar risk characteristics.
For loans which do not share similar risk characteristics such as nonaccrual and TDR loans above $500 thousand, we evaluate these loans on an individual basis in accordance with ASC 326. These nonaccrual and TDR loans are considered to have different risk profiles than performing loans and therefore are evaluated separately. We ultimately decided to collectively assess TDRs and nonaccrual loans with balances below $500 thousand along with the performing and accrual loans in order to reduce the operational burden of individually assessing small TDR and nonaccrual loans with immaterial balances. For individually assessed loans, the ACL is measured using either 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 loans, we obtain new appraisals to determine the fair value of collateral. The appraisals are based on an “as-is” valuation. To ensure that appraised values remain current, we either obtains updated appraisals every twelve months from a qualified independent appraiser or an internal evaluation of the collateral is performed by qualified personnel. If the third party market data indicates that the value of the collateral property has declined since the most recent valuation date, management adjusts the value of the property downward to reflect current market conditions. If the fair value of the collateral is less than the amortized balance of the loan, we recognizes an ACL with a corresponding charge to the provision for credit losses.
Individually evaluated loans at December 31, 2020 were $123.2 million, a net increase of $32.6 million from $90.7 million at December 31, 2019. The net increase in individually evaluated loans was due primarily to increase in nonaccrual loans in 2020.
We also maintain a separate ACL for our off-balance sheet unfunded loan commitments. We utilize a funding rate to allocate the allowance to undrawn exposures. This funding rate is used as a credit conversion factor to capture how much undrawn can potentially become drawn at any point. The funding rate is determined based on a lookback period of 8 quarters. Credit loss is not estimated for off-balance sheet credit exposures that are unconditionally cancellable by us at the time of measurement.
OREO
OREO consists of real estate properties acquired through foreclosure or similar means. OREO is recorded at fair value, less estimated selling costs. At December 31, 2020 and 2019, OREO totaled $20.1 million and $24.1 million, respectively. The number of OREO properties held at December 31, 2020 and 2019 was 14 and 18, respectively. For the year ended December 31, 2020, three properties were transferred to OREO totaling of $2.9 million and we sold seven OREO properties totaling $2.6 million. For the year ended December 31, 2019, nine properties were transferred to OREO totaling $19.4 million and we sold nine OREO properties totaling $3.2 million.
The changes in OREO for the years ended December 31, 2020 and 2019 were as follows:
Year ended December 31,
2020 2019
(Dollars in thousands)
Balance at beginning of period $ 24,091 $ 7,754
Additions to OREO 2,928 19,381
OREO sales (2,566) (3,211)
Valuation adjustments, net (4,332) 167
Balance at end of period $ 20,121 $ 24,091
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 $14.33 billion at December 31, 2020 from $12.53 billion at December 31, 2019.
The increase in deposits during 2020 was primarily due to an increase in money market deposits, demand deposits, and savings deposits partially offset by a decline in time deposits. At December 31, 2020, we had $1.14 billion in brokered deposits and $300.0 million in California State Treasurer deposits compared to $1.48 billion in brokered deposits and $300.0 million in California State Treasurer deposits at December 31, 2019. The brokered deposits represented approximately 7.92% of our total deposits as of December 31, 2020 compared to 11.80% as of December 31, 2019. The California State Treasurer deposits have three to six months maturities with a weighted average interest rate of 0.15% and 1.65% at December 31, 2020 and 2019, 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,
2020 2019 2018
Amount Percent Amount Percent Amount Percent
(Dollars in thousands)
Demand, noninterest bearing $ 4,814,254 34 % $ 3,108,687 25 % $ 3,022,633 25 %
Demand, interest bearing 5,232,413 37 % 3,985,556 32 % 3,036,653 25 %
Savings 300,770 2 % 274,151 2 % 225,746 2 %
Time deposit of more than $250,000 1,854,414 13 % 1,856,715 15 % 1,773,430 14 %
Other time deposits 2,132,061 15 % 3,302,255 26 % 4,097,194 34 %
Total Deposits $ 14,333,912 100 % $ 12,527,364 100 % $ 12,155,656 100 %
The following table presents the maturity schedules of our time deposits, as of dates indicated:
December 31,
2020 2019 2018
Amount Percentage Amount Percentage Amount Percentage
(Dollars in thousands)
Three months or less $ 1,612,171 40 % $ 1,897,616 37 % $ 1,626,890 28 %
Over three months through six months 1,095,373 27 % 1,019,735 20 % 1,165,674 20 %
Over six months through twelve months 1,177,552 30 % 2,132,672 41 % 2,390,715 41 %
Over twelve months 101,379 3 % 108,947 2 % 687,345 11 %
Total time deposits $ 3,986,475 100 % $ 5,158,970 100 % $ 5,870,624 100 %
The following table indicates the maturity schedules of our time deposits in amounts of more than $250,000 as of December 31, 2020:
Amount Percentage
(Dollars in thousands)
Three months or less $ 986,633 53 %
Over three months through six months 355,113 19 %
Over six months through twelve months 482,250 26 %
Over twelve months 30,418 2 %
Total $ 1,854,414 100 %
There is 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.
FHLB Advances and Federal Funds Purchased
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 funding and 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, 2020 and 2019.
FHLB Advances
We may borrow from the FHLB on a short term or 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, 2020 and 2019, FHLB advances totaled $250.0 million and $625.0 million, respectively with average remaining maturities of 0.8 years and 1.2 years, respectively. The weighted average rate for FHLB advances was 1.07% at December 31, 2020 compared to 1.84% at December 31, 2019. In third quarter of 2020, we utilized a portion of our excess liquidity to payoff $300.0 million in FHLB advances. These advances were paid off before maturity and resulted in a prepayment fee of $3.6 million. As of December 31, 2020, our remaining available FHLB borrowing capacity was $3.92 billion
Convertible Notes
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 buyers 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 notes. The net carrying balance of convertible notes at December 31, 2020 was $204.6 million, net of a $12.9 million in discounts, which represents the conversion option discount and capitalized issuance costs. At December 31, 2019, the net carrying balance of convertible notes was $199.5 million, net of $18.0 million in discounts and issuance costs. (See footnote 10 “Subordinated Debentures and Convertible Notes” for additional information regarding convertible notes issued)
Subordinated Debentures
At December 31, 2020, our 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 Hope Bancorp’s subordinated debentures (the “Debentures”). 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. Debentures totaled $104.2 million at December 31, 2020 and $103.0 million at December 31, 2019.
As of December 31, 2020 and 2019, 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 $104.2 million, net of $25.7 million in discounts, as of December 31, 2020, 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, 2020:
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 3M LIBOR + 3.15% 3.400% Every 15th of
Mar, Jun, Sep, and Dec
Nara Statutory Trust IV 12/22/2003 5,000 5,155 01/07/2034 3M LIBOR + 2.85% 3.125% Every 7th of
Jan, Apr, Jul and Oct
Nara Statutory Trust V 12/17/2003 10,000 10,310 12/17/2033 3M LIBOR + 2.95% 3.196% Every 17th of
Mar, Jun, Sep and Dec
Nara Statutory Trust VI 03/22/2007 8,000 8,248 06/15/2037 3M LIBOR + 1.65% 1.900% Every 15th of
Mar, Jun, Sep and Dec
Center Capital Trust I 12/30/2003 18,000 14,457 01/07/2034 3M LIBOR + 2.85% 3.125% Every 7th of
Mar, Jun, Sep, and Dec
Wilshire Statutory Trust II 03/17/2005 20,000 15,968 03/17/2035 3M LIBOR + 1.79% 2.036% Every 17th of
Mar, Jun, Sep, and Dec
Wilshire Statutory Trust III 09/15/2005 15,000 11,325 09/15/2035 3M LIBOR + 1.40% 1.650% Every 15th of
Mar, Jun, Sep, and Dec
Wilshire Statutory Trust IV 07/10/2007 25,000 18,332 09/15/2037 3M LIBOR + 1.38% 1.630% Every 15th of
Mar, Jun, Sep, and Dec
Saehan Capital Trust I 03/30/2007 20,000 15,228 06/30/2037 3M LIBOR + 1.62% 1.840% Every 30th of
Mar, Jun, Sep, and Dec
Total Trust $ 126,000 $ 104,178
Capital Resources
Historically, our primary source of capital has been the retention of earnings, net of dividend payments to stockholders and share repurchases. We seek to maintain capital at a level sufficient to assure our stockholders, customers, and regulators that Hope Bancorp and the Bank are financially sound. For this purpose, we perform ongoing assessments of capital related risks, components of capital, as well as projected sources and uses of capital in conjunction with projected increases in assets and levels of risk.
Our total stockholders’ equity increased $17.7 million, or 0.87%, to $2.05 billion at December 31, 2020 from $2.04 billion at December 31, 2019. The increase in our stockholders’ equity at December 31, 2020 compared to December 31, 2019 was largely due to net income earned in 2020 totaling $111.5 million and $23.6 million from the increase in other comprehensive income, and $6.9 million due to stock compensation adjustments. These increases were offset by $36.2 million in share repurchases, $69.2 million in cash dividends paid, and a decrease of $18.9 million due to the Day 1 impact from the adoption of CECL, net of taxes. We elected to defer the $18.9 million Day 1 CECL impact to regulatory capital for two years in accordance with the revised regulatory CECL transition guidance.
At December 31, 2020, our ratio of common equity to total assets was 12.01% compared to 13.00% at December 31, 2019, and our tangible common equity represented 9.50% of tangible assets at December 31, 2020, compared with 10.27% of tangible assets at December 31, 2019. Tangible common equity per share was $12.81 at December 31, 2020, compared with $12.40 at December 31, 2019. 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.
We provide certain non-GAAP financial measures that we believe provide investors with meaningful supplemental information that is useful in understanding our financial performance and position. The methodologies for determining non-GAAP measures may differ among companies. The following tables reconciles non-GAAP financial measures used to the most comparable GAAP performance measures:
At December 31,
2020 2019
(Dollars in thousands, except share and per share data)
Total stockholders’ equity $ 2,053,745 $ 2,036,011
Less: Goodwill and core deposit intangible assets, net (474,158) (476,283)
Tangible common equity $ 1,579,587 $ 1,559,728
Total assets $ 17,106,664 $ 15,667,440
Less: Goodwill and core deposit intangible assets, net (474,158) (476,283)
Tangible assets $ 16,632,506 $ 15,191,157
Common shares outstanding 123,264,864 125,756,543
Tangible common equity ratio
(Tangible common equity / tangible assets) 9.50 % 10.27 %
Common tangible equity per share
(Tangible common equity / common shares outstanding) $ 12.81 $ 12.40
The following tables compare Hope Bancorp’s and the Bank’s capital ratios at December 31, 2020 to those required by our regulatory agencies to generally be deemed “adequately capitalized” for capital adequacy classification purposes:
December 31, 2020
Actual Required Excess
Amount Ratio Amount Ratio Amount Ratio
(Dollars in thousands)
Hope Bancorp
Common equity tier 1 capital
(to risk-weighted assets): $ 1,568,508 10.94 % $ 645,366 4.50 % $ 923,142 6.44 %
Total capital
(to risk-weighted assets) $ 1,846,229 12.87 % $ 1,147,317 8.00 % $ 698,912 4.87 %
Tier 1 capital
(to risk-weighted assets) $ 1,668,786 11.64 % $ 860,487 6.00 % $ 808,299 5.64 %
Tier 1 capital
(to average assets) $ 1,668,786 10.22 % $ 653,163 4.00 % $ 1,015,623 6.22 %
December 31, 2020
Actual Required Excess
Amount Ratio Amount Ratio Amount Ratio
(Dollars in thousands)
Bank of Hope
Common equity tier 1 capital
(to risk-weighted assets): $ 1,850,091 12.90 % $ 645,277 4.50 % $ 1,204,814 8.40 %
Total capital
(to risk-weighted assets) $ 2,027,534 14.14 % $ 1,147,159 8.00 % $ 880,375 6.14 %
Tier 1 capital
(to risk-weighted assets) $ 1,850,091 12.90 % $ 860,369 6.00 % $ 989,722 6.90 %
Tier 1 capital
(to average assets) $ 1,850,091 11.33 % $ 653,241 4.00 % $ 1,196,850 7.33 %
New capital rules require a capital conservation buffer of 2.50% above the three minimum risked-weighted capital ratios. Our capital ratios at December 31, 2020 and 2019 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 could 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, share repurchases, and payment of dividends.
Net cash inflows from operating activities totaled $165.9 million, $183.9 million, and $220.0 million during 2020, 2019 and 2018, respectively. Net cash inflows from operating activities for 2020 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 $1.83 billion, $36.8 million, and $1.15 billion during 2020, 2019 and 2018, respectively. Net cash outflows from investing activities during 2020 were primarily from purchases of securities available for sale, net increase in loans receivable, and purchase of loans receivable. These outflows were offset by proceeds received for securities available for sale that were paid down during the year, proceeds from sales of available for sale securities, and proceeds from sales of other loans.
Net cash inflows from financing activities totaled $1.32 billion, $91.9 million, and $895.1 million during 2020, 2019 and 2018, respectively. Net cash inflows from financing activities for 2020 was primarily attributable to an increase in deposits and proceeds from FHLB borrowings 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, 2020, the maximum amount that we were able to borrow on an overnight basis from the FHLB and the FRB was an aggregate of $4.88 billion, and we had $250.0 million in borrowings from the FHLB 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 $2.23 billion and $1.95 billion at December 31, 2020 and 2019, respectively. Cash and cash equivalents totaled $350.6 million at December 31, 2020 compared to $698.6 million at December 31, 2019.
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 2020, our average gross loans to average deposits ratio was 93% and 99% for both 2019 and 2018.
We believe our liquidity sources to be stable and adequate to meet our day-to-day cash flow requirements. At December 31, 2020, 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, 2020, 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.
The following table summarizes our contractual obligations and commitments to make future payments as of December 31, 2020. 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 $ 3,896,058 $ 101,320 $ 719 $ 403 $ 3,998,500
FHLB advances 152,400 102,285 - - 254,685
Convertible notes 4,350 223,518 - - 227,868
Subordinated debentures (1)
551 - - 104,178 104,729
Commitments to fund investments in affordable housing partnerships 10,678 1,038 670 2,762 15,148
Unused credit extensions 1,661,042 314,054 140,230 21,852 2,137,178
Standby letters of credit 98,421 10,289 124 - 108,834
Other commercial letters of credit 40,357 151 - - 40,508
Total $ 5,863,857 $ 752,655 $ 141,743 $ 129,195 $ 6,887,450
___________________
(1) Interest for variable rate subordinated debentures were calculated using interest rates at December 31, 2020.

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ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Item 7A.QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The objective of our asset and liability management activities is to maximize our earnings while maintaining adequate liquidity and an exposure to interest rate risk deemed by management to be acceptable by adjusting the type and mix of assets and liabilities to seek to effectively address changing conditions and risks. Through overall management of our balance sheet and by seeking to manage various risks, we seek to optimize our financial returns within safe and sound parameters. Our operating strategies for attaining this objective include managing 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 also use various methods to protect against our exposure to interest rate fluctuations with the objective of reducing the effects fluctuations might have on associated cash flows or values. Finally, we perform internal analysis to measure, evaluate, and monitor risk.
Interest Rate Risk
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 and in equal volumes. A key objective of 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 interest rate risk is governed by policies reviewed and approved annually by the Board of Directors. The Board delegates responsibility for interest rate risk management to the ALCO and to 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 interest rate risk, the sensitivity of our assets and liabilities to interest rate changes, the book and market values of our assets and liabilities, and our investment activities. It also directs changes in the composition of our assets and liabilities. 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. Furthermore, interest rates on certain types of assets and liabilities may fluctuate prior to changes in market interest rates, while interest rates on other types of assets and liabilities may lag behind changes in market interest rates. 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, risk participation agreements, 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, 2020:
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 at FRB
$ 94,014 $ - $ - $ - $ 94,014
Interest-bearing deposits in other financial institutions
4,658 23,984 - - 28,642
Securities available for sale
4,119 351 2,015 2,279,126 2,285,611
Equity investments
59,699 - - - 59,699
Loans outstanding(1)
4,741,721 1,595,584 6,013,224 1,230,427 13,580,956
Total rate sensitive assets $ 4,921,461 $ 1,619,919 $ 6,015,239 $ 3,509,553 $ 16,066,172
Rate Sensitive Liabilities:
Money market and NOW
5,232,413 - - - 5,232,413
Savings deposits
174,593 28,195 97,963 19 300,770
Time deposits
1,612,171 2,272,925 100,979 400 3,986,475
FHLB advances
150,000 - 100,000 - 250,000
Convertible notes
- - 204,565 - 204,565
Subordinated debentures
104,178 - - - 104,178
Total rate sensitive liabilities $ 7,273,355 $ 2,301,120 $ 503,507 $ 419 $ 10,078,401
Net Gap Position $ (2,351,894) $ (681,201) $ 5,511,732 $ 3,509,134
Cumulative Gap Position $ (2,351,894) $ (3,033,095) $ 2,478,637 $ 5,987,771
___________________
(1)Includes nonaccrual loans of loans of $85.2 million and held for sale of $17.7 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, 2020, 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, 2020 December 31, 2019
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 4.81 % 5.11 % 1.57 % (1.84) %
+ 100 basis points 2.35 % 3.29 % 0.88 % (0.42) %
- 100 basis points (1.31) % (7.63) % (1.10) % (1.12) %
- 200 basis points (1.41) % 10.80 % (2.68) % (4.43) %
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, 2020.
LIBOR Transition
On July 27, 2017, the Financial Conduct Authority, which regulates the London Interbank Offered Rate (“LIBOR”) announced that it intends to stop persuading or compelling banks to submit LIBOR rates after December 31, 2021. As a result, it is expected that after 2021, LIBOR rates will no longer be available or will no longer be viewed as an acceptable benchmark rate. We have issued and we hold financial instruments that are indexed to LIBOR including investment securities available for sale, loans, derivatives, subordinated debentures, and other financial contracts that mature after December 31, 2021. At this time, we cannot predict the overall effect of the modification or discontinuation of LIBOR but in the coming quarters we will assess the impact and associated risks from this transition and will explore potential alternatives that can be used for its financial instruments that are indexed to LIBOR.

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ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
Item 8.FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The following Consolidated Financial Statements of Hope Bancorp, together with the report of Crowe LLP begin on page of this Report and are incorporated herein by reference:
Report of Independent Registered Public Accounting Firm
Consolidated Statements of Financial Condition as of December 31, 2020 and 2019
Consolidated Statements of Income for the Years Ended December 31, 2020, 2019 and 2018
Consolidated Statements of Comprehensive Income for the Years Ended December 31, 2020, 2019 and 2018
Consolidated Statements of Changes in Stockholders’ Equity for the Years Ended December 31, 2020, 2019 and 2018
Consolidated Statements of Cash Flows for the Years Ended December 31, 2020, 2019 and 2018
Notes to Consolidated Financial Statements for the Years Ended December 31, 2020, 2019 and 2018
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.

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ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS
Item 9.CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
None.

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ITEM 9A. CONTROLS AND PROCEDURES
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 Securities Exchange Act of 1934, as amended (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 Chairman, President, and Chief Executive Officer and our Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosures.
In designing and evaluating disclosure controls and procedures, 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 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 Chairman, 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, 2020. Based upon that evaluation, our Chairman, President, and Chief Executive Officer and our Chief Financial Officer determined that our disclosure controls and procedures were effective as of December 31, 2020.
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 Chairman, 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 Chairman, 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, 2020 using the criteria set forth by COSO. Based on this assessment, our management believes that the Company’s system of internal control over financial reporting was effective as of December 31, 2020.
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, 2020 that have 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 of this report.

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ITEM 9B. OTHER INFORMATION
Item 9B.OTHER INFORMATION
None.
PART III

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ITEM 10. DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE
Item 10.DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE
The information required by this Item with respect to the Company’s directors and executive officers, Delinquent Section 16(a) Reports, 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 2021 Annual Meeting of Stockholders (the “2021 Proxy Statement”), which will be filed with the SEC not later than 120 days after December 31, 2020.

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ITEM 11. EXECUTIVE COMPENSATION
Item 11.EXECUTIVE COMPENSATION
The information required by this Item with respect to director and executive compensation, “Compensation Committee Interlocks and Insider Participation” and “Compensation Committee Report” will be filed in Hope Bancorp’s 2021 Proxy Statement which will be filed with the SEC not later than 120 days after December 31, 2020.

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ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS
Item 12.SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS.
The information required by this Item with respect to security ownership of certain beneficial owners and management will be filed in Hope Bancorp’s 2021 Proxy Statement which will be filed with the SEC not later than 120 days after December 31, 2020.
The following table summarizes our equity compensation plans as of December 31, 2020:
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 851,580 $ 15.25 921,709
Equity compensation plans not approved by security holders - - -
Total 851,580 $ 15.25 921,709

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ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
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 2021 Proxy Statement which will be filed with the SEC not later than 120 days after December 31, 2020.

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ITEM 14. PRINCIPAL ACCOUNTING FEES AND SERVICES
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 2021 Proxy Statement which will be filed with the SEC not later than 120 days after December 31, 2020.
PART IV

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ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES
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.
(a)(2) Financial Statement Schedules: All financial statement schedules have been omitted since the required information is either not applicable or not required, or has been included in the Financial Statements and related notes.
(a)(3) List of Exhibits
Number Description
3.1
Certificate of Incorporation of the Company, filed with the Delaware Secretary of State on June 5, 2000 (incorporated herein by reference to Appendix III to the prospectus included in the Registration Statement on Form S-4 filed with the SEC on November 16, 2000)
3.2
Certificate of Amendment of Certificate of Incorporation of the Company, filed with the Delaware Secretary of State on May 31, 2002 (incorporated herein by reference to the Registration Statement on Form S-8, Exhibit 3.3, filed with the SEC on February 5, 2003)
3.3
Certificate of Amendment of Certificate of Incorporation of the Company, filed with the Delaware Secretary of State on June 1, 2004 (incorporated herein by reference to the Quarterly Report on Form 10-Q, Exhibit 3.1, filed with the SEC on August 9, 2004)
3.4
Certificate of Amendment of Certificate of Incorporation of the Company, filed with the Delaware Secretary of State on November 2, 2005 (incorporated herein by reference to the Quarterly Report on Form 10-Q, Appendix B, filed with the SEC on November 9, 2005)
3.5
Certificate of Amendment of Certificate of Incorporation of the Company, filed with the Delaware Secretary of State on July 20, 2007 (incorporated herein by reference to the Proxy Statement on Schedule 14A, Appendix C, filed with the SEC on April 19, 2007)
3.6
Certificate of Amendment of Certificate of Incorporation of the Company, filed with the Delaware Secretary of State on October 17, 2011 (incorporated herein by reference to the Quarterly Report on Form 10-Q, Exhibit 3.1, filed with the SEC on May 7, 2018)
3.7
Certificate of Amendment of Certificate of Incorporation of the Company, filed with the Delaware Secretary of State on November 30, 2011 (incorporated herein by reference to the Annual Report on Form 10-K, Exhibit 3.6, filed with the SEC on March 1, 2013)
3.8
Amended and Restated Bylaws of BBCN Bancorp, Inc. (incorporated herein by reference to the Current Report on Form 8-K, Exhibit 3.1, filed with the SEC on May 11, 2015)
3.9
Certificate of Amendment of Bylaws of Hope Bancorp, Inc. (incorporated herein by reference to the Current Report on Form 8-K, Exhibit 3.2, filed with the SEC on August 1, 2016)
4.1
Junior Subordinated Indenture, dated June 5, 2003, by and between the Nara Bancorp, Inc. as Issuer and The Bank of New York as Trustee (incorporated herein by reference to the Current Report on Form 8-K/A, Exhibit 99.2, filed with the SEC on May 2, 2008)
4.2
Indenture, dated December 17, 2003, by and between Nara Bancorp, Inc. as Issuer and U.S. Bank National Association as Trustee (incorporated herein by reference to the Current Report on Form 8-K/A, Exhibit 99.5, filed with the SEC on May 2, 2008)
4.3
Indenture, dated December 22, 2003, between Nara Bancorp, Inc. as Issuer and Wells Fargo Bank, National Association as Trustee (incorporated herein by reference to the Current Report on Form 8-K/A, Exhibit 99.8, filed with the SEC on May 2, 2008)
Number Description
4.4
Indenture, dated March 22, 2007, by and between Nara Bancorp, Inc. and Wilmington Trust Company (incorporated herein by reference to the Current Report on Form 8-K, Exhibit 4.2, filed with the SEC on March 29, 2007)
4.5
Indenture, dated as of December 30, 2003, between Center Financial Corporation and Wells Fargo Bank, National Association (incorporated herein by reference to Center Financial’s Annual Report on Form 10-K, Exhibit 10.4, for the year ended December 31, 2003, filed with the SEC on March 30, 2004)
4.6
Indenture, dated as of March 17, 2005, between Wilshire Bancorp, Inc. and Wilmington Trust Company (incorporated herein by reference to Wilshire Bancorp’s Annual Report on Form 10-K, Exhibit 4.6, for the year ended December 31, 2006, filed with the SEC on March 16, 2007)
4.7
Indenture, dated as of September 15, 2005, between Wilshire Bancorp, Inc. and Wilmington Trust Company (incorporated herein by reference to Wilshire Bancorp’s Annual Report on Form 10-K, Exhibit 4.9, for the year ended December 31, 2006, filed with the SEC on March 16, 2007)
4.8
Indenture, dated as of July 10, 2007, between Wilshire Bancorp, Inc. and LaSalle Bank National Association (incorporated herein by reference to Wilshire Bancorp’s Quarterly Report on Form 10-Q, Exhibit 4.12, for the quarter ended September 30, 2007, filed with the SEC on November 9, 2007)
4.9
Indenture, dated as of March 30, 2007 between Saehan Bancorp, Inc. and Wilmington Trust Company (incorporated herein by reference to Wilshire Bancorp’s Annual Report on Form 10-K, Exhibit 4.11, for the year ended December 31, 2013, filed with the SEC on March 14, 2014)
4.10
Indenture dated May 11, 2018, by and between Hope Bancorp, Inc. and U.S. Bank National Association (incorporated herein by reference to the Current Report on Form 8-K, Exhibit 4.1, filed with the SEC on May 11, 2018)
4.11
Description of Securities Registered Under Section 12 of the Exchange Act (incorporated herein by reference to the Annual Report on Form 10-K, Exhibit 4.11, for the year ended December 31, 2019 filed with the SEC on February 26, 2020)
10.1
Second Amended and Restated Employment Agreement, dated April 1, 2017, by and between Hope Bancorp, Inc. and Kevin S. Kim (incorporated herein by reference to the 8-K filed with the SEC on May 3, 2017)*
10.2
Bank of Hope 2017 Employee Stock Purchase Program (incorporated herein by reference to the 10-Q filed with the SEC on November 8, 2017)*
10.3
Hope Bancorp, Inc. 2019 Incentive Compensation Plan (incorporated herein by reference to the Definitive Proxy Statement on Schedule 14A, Annex A, filed with the SEC on April 30, 2019)*
10.4
Affiliate Agreement between Hope Bancorp, Inc. and Bank of Hope (incorporated by reference to the 10-K filed with the SEC on February 26, 2020)*
10.5
Tax Sharing Agreement among Hope Bancorp, Inc and Bank of Hope (incorporated by reference to the 10-K filed with the SEC on February 26, 2020)*
14.1
Director Code of Ethics and Business Conduct (incorporated herein by reference to the 10-K filed with the SEC on March 1, 2018)
14.2
Code of Ethics and Business Conduct (incorporated herein by reference to the 10-K filed with the SEC on March 1, 2018)
21.1
Subsidiaries of the Registrant+
23.1
Consent of Crowe LLP+
31.1
Certification of Chief Executive Officer pursuant to section 302 of Sarbanes-Oxley of 2002+
Number Description
31.2
Certification of Chief Financial Officer pursuant to section 302 of Sarbanes-Oxley of 2002+
32.1
Certification of Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002++
32.2
Certification of Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002++
101.INS Inline XBRL Instance Document - The instance document does not appear in the Interactive Data File because its XBRL tags are embedded within the Inline XBRL document+
101.SCH Inline XBRL Taxonomy Extension Schema Document+
101.CAL Inline XBRL Taxonomy Extension Calculation Linkbase Document+
101.DEF Inline XBRL Taxonomy Extension Definition Linkbase Document+
101.LAB Inline XBRL Taxonomy Extension Label Linkbase Document+
101.PRE Inline XBRL Taxonomy Extension Presentation Linkbase Document+
104 Cover Page Interactive Data File (formatted as Inline XBRL and contained in Exhibit 101)
_______________________
* Management contract, compensatory plan, or arrangement
+ Filed herewith
++ Furnished herewith