Business context and reporting period
Washington Federal, Inc. is a savings and loan holding company whose primary operating subsidiary is Washington Federal Savings. This unaudited Form 10-Q covers the quarter and six months ended March 31, 2011; the comparable periods are the quarter and six months ended March 31, 2010. Balance-sheet comparisons are to September 30, 2010. Amounts below are in U.S. dollars.
Financial and operating highlights
| Metric | Quarter ended March 31, 2011 | Comparable period |
|---|---|---|
| Interest income | $158.5 million | $165.0 million |
| Net interest income | $101.6 million | $97.0 million |
| Provision for loan losses | $30.8 million | $63.4 million |
| Net income | $25.8 million | $82.1 million |
| Diluted earnings per share | $0.23 | $0.73 |
- For the six months, net interest income was $206.3 million versus $194.8 million; net income was $50.4 million versus $90.0 million, and diluted EPS was $0.45 versus $0.80.
- The prior-year quarter and six-month results included a $85.6 million pretax gain from the Horizon FDIC-assisted acquisition and a $38.9 million tax benefit. These items substantially affect the year-over-year earnings comparison.
- Quarterly interest-rate spread was 3.07%, down from 3.09% at September 30, 2010. Management attributed pressure to a higher share of lower-yielding investments and mortgage refinancing at low rates.
- Six-month operating cash flow was $167.9 million, investing cash flow was negative $48.3 million, and financing cash flow was negative $96.3 million. Cash and equivalents ended at $912.0 million.
- Total assets were $13.39 billion, down 0.7% from September 30, 2010. Non-covered loans, net, were $8.01 billion, down from $8.42 billion; covered loans, net, were $453.3 million, down from $534.5 million. Available-for-sale securities increased to $2.91 billion from $2.48 billion.
- Customer accounts were $8.79 billion, slightly below $8.85 billion at September 30, 2010. FHLB advances and other borrowings totaled $2.66 billion, nearly unchanged. Stockholders’ equity was $1.84 billion, or 13.73% of assets.
- Washington Federal Savings reported a 24.24% total risk-based capital ratio, 23.00% Tier 1 risk-based ratio, and 11.68% core capital-to-adjusted-tangible-assets ratio; each exceeded the filing’s applicable “well capitalized” threshold.
Changes, outlook, and risks
- Credit measures improved year over year: non-performing assets were $399.3 million, or 2.98% of assets, versus $538.9 million, or 3.90%; non-accrual loans were $221.7 million versus $334.9 million; and quarterly net charge-offs were $26.4 million versus $59.4 million. Loans 30 days or more delinquent were 3.37%, down from 4.39% a year earlier.
- The allowance for loan losses was $163.6 million. Management cited improvement in several credit indicators but also continuing real-estate value declines and added reserves for single-family troubled debt restructurings. The reserve allocated to those restructurings increased by $11.0 million during the quarter. Management expects provisions to remain elevated until non-performing assets and charge-offs improve measurably.
- Management is reducing exposure to land and construction loans and is not aggressively competing for 30-year fixed-rate mortgages below 4.50%, citing duration risk. It said the loan portfolio could continue to shrink if low mortgage rates persist.
- Interest-rate exposure is material: liabilities repricing within one year exceeded assets repricing within one year by about $2.5 billion, a negative gap of 19% of assets. The filing estimates net interest income would decline $28.5 million (6.4%) under an immediate parallel 200-basis-point rate increase, or $8.9 million (2.0%) under a gradual increase over 12 months. These are model estimates based on stated assumptions, not guidance.
- Management expected an effective tax rate of 36% going forward. No earnings or revenue guidance was provided.
- The Bank remained subject to an Office of Thrift Supervision memorandum of understanding (MOU). Management said many required actions had been completed; failure to comply could lead to additional scrutiny, business constraints, or formal enforcement. Regulatory approval was obtained to consider an acquisition, but the Bank chose not to pursue it.
- Other risks include ongoing elevated problem assets, sensitivity to interest rates, and uncertain costs and effects of Dodd-Frank implementation and the transfer of oversight from the OTS to the Federal Reserve and OCC. The filing states ordinary-course legal proceedings were not expected to materially affect financial position or results.
Important facts for investors to verify
- Whether credit quality continues to improve and whether the allowance is adequate, particularly for single-family restructured loans and portfolios exposed to real estate values.
- How loan runoff, securities growth, deposit trends, and funding costs affect net interest income and the reported 19% negative one-year repricing gap.
- Whether the MOU is modified, suspended, or terminated, and whether regulatory changes materially increase operating costs or constrain business activity.
- The drivers of earnings excluding the prior-year Horizon gain and tax benefit, and the sustainability of current provision levels and management’s 36% tax-rate expectation.
- Interest-rate model assumptions and actual results relative to the filing’s estimated rate-shock impacts.