Capitol Federal Financial, Inc. — Q1 FY2021 Form 10-Q
Business context and period: The company is a bank holding company whose principal subsidiary is Capitol Federal Savings Bank. This unaudited quarter ended December 31, 2020; comparisons are primarily with the three months ended December 31, 2019. Its lending is concentrated in one- to four-family residential mortgages, particularly in Kansas and Missouri.
Key financial metrics
| Metric | Quarter ended Dec. 31, 2020 | Comparable period / change |
|---|---|---|
| Interest and dividend income | $68.2 million | Down 14.8% year over year |
| Net interest income | $43.8 million | Down $4.9 million, or 10.0% |
| Net interest margin | 1.92% | 2.18% a year earlier; 2.03% in prior quarter |
| Net income / diluted EPS | $18.9 million / $0.14 | $22.5 million / $0.16 a year earlier; net income down 16.0% |
| Non-interest income / expense | $5.1 million / $27.1 million | Income down 7.9%; expense up 2.1% year over year |
| Efficiency ratio | 55.37% | 48.89% a year earlier |
| Cash flows | Operating +$19.2 million; investing −$140.0 million; financing +$97.9 million | Cash, cash equivalents and restricted cash decreased $22.9 million |
| Assets / loans / deposits | $9.61 billion / $7.00 billion net / $6.41 billion | From Sept. 30, assets up 1.3%, net loans down $198.8 million, deposits up $219.4 million |
| Borrowings / equity | $1.73 billion / $1.28 billion | Borrowings down $55.0 million from Sept. 30; consolidated equity-to-assets ratio 13.3% |
| Credit quality | Non-performing loans $14.1 million; non-performing assets $14.3 million | NPLs were 0.20% of loans, versus 0.10% a year earlier |
Material changes and management commentary
- Earnings declined mainly because lower market rates, loan refinancings and endorsements, and reinvestment of loan cash flows into lower-yielding securities reduced asset yields. Lower deposit and borrowing costs partly offset the pressure.
- Securities increased $352.9 million from September 30 as loan repayments and deposit growth funded purchases; the portfolio yield fell to 1.40% from 1.62%. Management said net interest margin could continue to decline, with additional pressure from prepayments and premium amortization.
- Loan balances contracted amid repayments and payoffs. Management said it was unlikely the total loan portfolio would increase materially in the near term. Deposits grew, including balances from a business relationship that included COVID-19-related payments; management did not expect all of those funds to remain through FY2021.
- The company adopted CECL on October 1, 2020. Adoption reduced retained earnings by $2.3 million net of tax, reduced the loan allowance by $4.8 million, and established a $7.8 million reserve for off-balance-sheet exposures. At quarter end, the loan allowance was $26.1 million and the off-balance-sheet reserve was $6.4 million.
- A negative provision for credit losses of $1.5 million benefited reported earnings: $177,000 from the loan allowance and $1.4 million from the off-balance-sheet reserve. Management cited improved forecast assumptions and lower correspondent mortgage balances, partly offset by commercial credit concerns.
- Commercial special-mention loans rose to $101.9 million from $52.0 million at September 30, mainly because two COVID-affected loans totaling $51.3 million were newly classified. Both had resumed full payments, but management continued to monitor underlying economic conditions.
- The Bank prepaid a $100 million FHLB advance and replaced it with lower-rate, longer-term funding, incurring a $2.3 million penalty to be recognized over the new advance’s life. Subsequent to quarter end, the Bank also prepaid and replaced another $100 million advance.
Outlook, risks and contingencies
- Management estimated an FY2021 effective tax rate of approximately 21%–22%. The filing does not provide earnings or revenue guidance.
- Management intended the Board’s FY2021 payout to remain 100% of company earnings, subject to results, regulatory capital requirements, regulatory limits on Bank distributions, and holding-company cash. A regular $0.085-per-share dividend was announced for February 2021. The previously deferred $0.25-per-share “True Blue” dividend was not given a payment date.
- COVID-19 impacts, economic conditions, unemployment and property values, commercial borrower performance, deposit retention, funding access, and changing interest rates are material risks. A +200-basis-point rate shock modeled a 13.38% decline in market value of portfolio equity; projected four-quarter net interest income increased 2.12% in that scenario. These are model estimates, not management earnings guidance.
- The Bank reported a 12.2% Community Bank Leverage Ratio and the company 13.3%, above applicable minimums. Management said pending litigation was not expected to materially affect results, financial condition or liquidity; no material risk-factor changes were reported.
- Subsequent to quarter end, the Bank sold its Class B VISA shares and expected to recognize an approximately $7 million gain in the March 2021 quarter.
Important facts for investors to verify
- Whether loan yields, prepayments and refinancing activity continue to pressure net interest income and margin.
- Whether the increase in commercial special-mention loans leads to higher delinquencies, charge-offs, or required credit reserves.
- Whether COVID-related business deposits are retained, and how deposit repricing and borrowing maturities affect funding costs and liquidity.
- The assumptions and sensitivity behind CECL reserves, including economic forecasts, qualitative adjustments, and unfunded commitments.
- Regulatory capacity and holding-company liquidity supporting the stated dividend policy, repurchases, and any future True Blue dividend.
- Recognition and amount of the expected VISA-share gain, and the effect of FHLB prepayment penalties on future interest expense.