Business context and reporting period
BofI Holding, Inc. (now Axos Financial, Inc.) filed this unaudited Form 10-Q for the three months ended September 30, 2017, its fiscal 2018 first quarter. The digital, branchless bank offers consumer and business deposits, residential and commercial lending, and specialty finance products. Unless otherwise noted, financial amounts below are in U.S. dollars.
Key financial metrics
| Metric | Quarter ended September 30, 2017 | Prior-year quarter or comparison |
|---|---|---|
| Total assets | $8.582 billion | $7.855 billion at September 30, 2016 |
| Net loans and leases | $7.513 billion | $6.550 billion at September 30, 2016 |
| Deposits | $7.179 billion | $6.324 billion at September 30, 2016 |
| Net interest income | $80.6 million | $69.8 million |
| Net income | $32.4 million; diluted EPS $0.50 | $28.9 million; diluted EPS $0.45 |
| Net interest margin | 3.87% | 3.78% |
| Efficiency ratio | 40.49% | 38.90% |
| Operating cash flow | $53.1 million | $66.9 million |
Net interest income after provision was $79.6 million. The loan-loss provision was $1.0 million. Non-interest income was $13.3 million and non-interest expense was $38.0 million. The filing does not present a consolidated operating margin as a headline measure; it reports the efficiency ratio instead.
At September 30, 2017, cash and cash equivalents totaled $631.9 million, total liabilities were $7.715 billion, and stockholders’ equity was $866.7 million. Borrowings were $464.5 million, including $400.0 million of FHLB advances. The allowance for loan and lease losses was $42.1 million, or 0.55% of gross loans and leases.
Material changes versus comparable periods
- Compared with the prior-year quarter, net income rose 12.1% and diluted EPS increased from $0.45 to $0.50. Net interest income grew 15.4%, reflecting 12.7% growth in average earning assets and higher loan yields.
- Interest expense increased 29.7% to $23.0 million, as average interest-bearing liabilities and funding costs rose. Net interest margin improved by 9 basis points.
- Non-interest expense increased $5.1 million, led by salaries, data processing, advertising and technology-related costs. The company attributed expense growth to staffing and investment supporting lending, IT infrastructure and compliance. The efficiency ratio worsened 159 basis points.
- Non-interest income declined $1.4 million, primarily because of lower gains on sales of securities and other assets and lower mortgage banking income; higher banking service fees partly offset the declines.
- Compared with June 30, 2017, assets increased $79.9 million and net loans and leases increased $138.5 million. Deposits rose $279.3 million, while FHLB advances fell $240.0 million. Non-performing loans rose from $28.4 million to $32.1 million, or from 0.38% to 0.42% of gross loans.
- Cash declined $11.6 million during the quarter. Investing activities used $91.4 million and financing activities provided $26.7 million.
Outlook, management commentary, risks and unusual items
- Management said liquidity sources were stable and adequate for anticipated needs. The company reported $1.3 billion of immediately available FHLB borrowing capacity, another $156.3 million available with additional collateral, $35.0 million in unused federal funds lines, and $724.3 million available at the Federal Reserve discount window. It also had $1.1 billion in brokered deposits.
- The company and its bank subsidiary met regulatory capital requirements and were classified as well capitalized. At quarter-end, the holding company’s total risk-based capital ratio was 16.82% and the bank’s was 15.44%.
- In July 2017, the bank agreed to be the exclusive provider of interest-free Refund Advance loans to H&R Block customers for the 2018 tax season. H&R Block product activity is seasonal, with peak fees and related expenses generally in the fiscal third quarter.
- Management identified interest-rate changes, economic conditions, competition, credit quality and pending litigation as factors that could cause results to differ from forward-looking statements. Its interest-rate model estimated that a parallel 200-basis-point increase would raise first-12-month net interest income by 9.6%, while a 200-basis-point decrease would reduce it by 12.9%; the filing cautions that these modeled scenarios are assumption-dependent, not forecasts.
- The filing describes securities class actions and shareholder derivative actions relating to alleged nondisclosures and alleged wrongful conduct. The company disputes the allegations and says it is vigorously defending the cases. A motion for judgment on the pleadings in the consolidated class action was pending; the company said the Mandalevy complaint had not yet been served.
- Management identified two loans totaling $1.7 million with significant property damage from recent hurricanes or California wildfires and stated that insurance coverage was expected to prevent a material loss.
- Available-for-sale securities included $66.6 million of non-agency RMBS valued using Level 3 inputs. Their fair values depend on management estimates for defaults, prepayments, loss severity and discount rates. The quarter included a $149,000 other-than-temporary impairment charge on a security.
- The company adopted ASU 2016-09 for share-based compensation and recorded $455,000 of income-tax benefits from excess tax benefits during the quarter; the filing notes the standard may increase effective tax-rate volatility.
- Management reported effective disclosure controls and no material change in internal control over financial reporting during the quarter. It cautioned that controls provide reasonable, not absolute, assurance.
Important facts for investors to verify
- Track whether loan growth continues to translate into net interest income growth as deposit costs and other funding costs rise.
- Review credit quality trends, especially the increase in non-performing loans, delinquency levels, allowance adequacy and exposure to real estate and commercial lending.
- Assess deposit growth and mix, including the scale and cost of brokered deposits and near-term time-deposit maturities.
- Monitor operating expense growth and the efficiency ratio against revenue growth.
- Follow the securities and derivative valuations reliant on Level 3 assumptions, as well as the litigation proceedings and their potential financial effects; the filing does not provide a clear estimate of litigation exposure.
- Confirm performance and economics of the expanded H&R Block Refund Advance arrangement as the 2018 tax season proceeds.