TFS Financial Corporation — Form 10-Q Summary
Reporting period: Fiscal first quarter ended December 31, 2016; comparative income and cash-flow results are for the three months ended December 31, 2015. Balance-sheet comparisons are to September 30, 2016. The interim statements are unaudited.
Business context and financial performance
TFS Financial is a retail consumer banking company focused principally on residential mortgage lending and deposits, operating through Third Federal Savings and Loan Association of Cleveland. Approximately 80% of its common shares were held by its mutual holding company.
- Net income: $19.6 million, up 9% from $17.9 million; diluted EPS was $0.07 versus $0.06.
- Revenue and margins: Net interest income was $68.2 million, up 1%; non-interest income was $5.4 million, down 11%. Net interest margin fell to 2.16% from 2.25%, and interest-rate spread narrowed to 2.03% from 2.10%. Management attributed margin pressure to asset yields declining faster than funding costs.
- Expenses and credit costs: Non-interest expense fell 5% to $45.3 million, including lower real-estate-owned, compensation and FDIC assessment costs. There was no loan-loss provision, compared with a $1.0 million negative provision (credit) in the prior-year quarter. Net charge-offs were $1.3 million.
- Cash flows: Operating cash flow was $97.2 million versus $69.3 million; investing used $201.8 million versus $28.0 million; financing provided $199.8 million versus using $37.1 million. Cash and equivalents ended at $326.4 million, up $95.2 million from September 30.
- Assets and lending: Total assets rose 2% to $13.19 billion. Net loans held for investment increased 2% to $11.89 billion. First-mortgage originations were $708.1 million, compared with $451.1 million a year earlier.
- Funding and liquidity: Deposits were $8.24 billion, down $95.4 million from September 30; borrowed funds, all from the FHLB of Cincinnati, rose $330.6 million to $3.05 billion. Brokered CDs totaled $539.8 million. The company reported an average quarterly liquidity ratio of 5.66% against its stated 5% minimum and said liquidity was adequate.
- Capital: Association Tier 1 leverage capital was 11.08%, and total risk-based capital was 21.17%; both exceeded the disclosed well-capitalized thresholds. Company Tier 1 leverage capital was 12.82%.
- Credit quality: Non-accrual loans were $87.4 million and non-performing assets $93.0 million; non-performing assets were 0.71% of total assets. The allowance for loan losses was $60.4 million, or 0.51% of recorded loans, down from $61.8 million at September 30.
Material changes versus comparable periods
- Net income improved, supported by higher net interest income and lower operating costs, partly offset by lower non-interest income and the absence of the prior-year loan-loss provision credit.
- Average loans grew, but the average loan yield declined to 3.23% from 3.32%. Borrowing expense increased as average borrowed funds rose 32%; the average borrowing cost eased to 1.13% from 1.20%.
- Net interest margin declined 9 basis points year over year. Annualized return on average assets improved to 0.61% from 0.58%.
- Compared with September 30, total assets increased $283.8 million, loans rose $177.7 million, deposits declined $95.4 million and FHLB borrowings increased $330.6 million.
- Non-performing assets declined from $117.3 million at December 31, 2015; loans 90 days or more past due were 0.2% of net loans, versus 0.3% a year earlier.
Outlook, risks and unusual items
- Outlook: No specific earnings or growth guidance was provided. Management said moderate charge-offs may continue, believed liquidity was adequate, and expected to remain well capitalized. Management cautioned that interim results are not necessarily indicative of full-year results.
- Interest-rate exposure: The company’s modeled economic value of equity declined 21.43% under an instantaneous +200-basis-point shock, compared with a 13.55% decline at September 30. Modeled 12-month earnings at risk declined 5.46% under the same shock; management said this was 0.46% above the Board’s limit. These are model estimates, not forecasts.
- Portfolio concentrations: Lending is concentrated in residential real estate, particularly Ohio and Florida. Home Today loans, a legacy portfolio no longer originated, have higher credit risk and account for a disproportionate share of delinquencies. Home-equity lines may face higher borrower payments as draw periods end.
- Funding sensitivity: CDs totaling $2.80 billion were due within one year. Retention, repricing and replacement funding costs could affect liquidity and margins. Management also noted that rapid or substantial rate increases could adversely affect net interest income over time.
- Unusual items and capital returns: Early adoption of share-based compensation guidance reduced current-quarter tax expense through a $0.9 million excess tax benefit. The Association paid an $81.0 million dividend to the parent, reducing its own capital ratios but not consolidated capital. TFS repurchased 896,000 shares for $17.7 million and paid $6.4 million in common dividends; the mutual holding company waived receipt of its dividend share.
- Other contingencies: Commitments to originate loans were $816.3 million, with $1.34 billion of unfunded commitments reported, including $1.29 billion of home-equity lines. Management did not expect pending legal matters to have a material adverse effect. The filing reported no material change in previously disclosed risk factors.
Most important facts for investors to verify
- Whether margin compression persists as asset yields, deposit pricing and FHLB funding costs change.
- Performance of home-equity borrowers approaching repayment periods, and the credit trends in the legacy Home Today portfolio.
- Whether deposit maturities are retained and the company’s reliance on FHLB advances and brokered CDs.
- Changes in the +200-basis-point EVE and earnings-at-risk measures, including the disclosed breach of the internal earnings-at-risk limit.
- Whether growth, share repurchases and dividends remain consistent with liquidity, capital and regulatory requirements.