TFS Financial Corporation — Form 10-Q Summary
Business context and reporting period
The filing covers the quarter and six months ended March 31, 2012, the company’s fiscal second quarter. TFS Financial is a retail consumer banking business focused on residential mortgage lending and deposits. Unless stated otherwise, financial amounts below are in millions of dollars.
Key financial results and position
| Metric | Three months ended March 31, 2012 | Six months ended March 31, 2012 |
|---|---|---|
| Interest income | $104.8 | $210.4 |
| Net interest income | $65.8 | $130.0 |
| Provision for loan losses | $27.0 | $42.0 |
| Net income (loss) | $1.0 | $9.5 |
| Earnings (loss) per share, basic and diluted | $0.00 | $0.03 |
| Net interest margin | 2.42% | 2.41% |
- For the comparable 2011 periods, quarterly net income was $2.2 million and six-month net loss was $5.1 million. Six-month net interest income was $120.6 million and provision for loan losses was $57.0 million.
- At March 31, total assets were $11.29 billion; loans held for investment, net, were $9.87 billion; deposits were $8.82 billion; borrowed funds were $419.1 million; and shareholders’ equity was $1.80 billion.
- Cash and cash equivalents were $342.4 million, up from $294.8 million at September 30, 2011. Six-month operating cash flow was $58.2 million; investing cash outflow was $393.6 million and financing cash inflow was $383.0 million.
- The allowance for loan losses was $101.3 million, or 1.02% of recorded loans, versus $157.0 million, or 1.52%, at September 30, 2011. Non-accrual loans were $180.5 million; non-performing assets were $198.9 million, or 1.76% of assets.
- The Association reported regulatory capital ratios above “well-capitalized” thresholds: total capital to risk-weighted assets 22.58%, core capital to adjusted tangible assets 13.54%, and Tier 1 capital to risk-weighted assets 21.33%.
Material changes versus comparable periods
- Quarterly net income declined 54% year over year, mainly because loan-loss provision rose to $27.0 million from $22.5 million. For the six months, the company returned to profit from the prior-year loss, principally as provision expense fell and net interest income grew.
- Net interest income rose 8% for both the quarter and six-month period. Lower deposit and borrowing costs more than offset weaker yields on interest-earning assets; six-month net interest margin improved to 2.41% from 2.25%.
- Non-interest income fell 22% in the quarter and 20% for six months, reflecting lower servicing fees and lower earnings from certain non-thrift investments and title agency fees. Non-interest expense decreased 1% in both comparisons, with lower deposit insurance and loan-review costs partly offset by higher compensation.
- Reported six-month net charge-offs rose to $97.7 million from $39.5 million. The increase included a one-time $55.5 million charge-off of specific valuation allowances (SVAs) following early adoption of an OCC directive; management said this did not affect the provision for the December 2011 quarter. Non-SVA net charge-offs were $42.2 million, versus $39.5 million a year earlier.
- Non-accrual loans were lower than at September 30, 2011, but the comparison is affected by the SVA charge-off. In March 2012, regulatory guidance also prompted reclassification of $14.6 million of performing home-equity lines with seriously delinquent senior liens to non-accrual.
- Assets grew 4% from September 30, 2011. Deposits increased $107.3 million, while borrowed funds rose $279.2 million, primarily short-term FHLB advances held mainly in cash equivalents to support liquidity.
Outlook, risks, contingencies and unusual items
- No quantified earnings or revenue guidance is provided. Management expects elevated delinquencies and credit losses to persist amid high unemployment and weak housing conditions, particularly in Florida; it expects the Home Today loan portfolio to continue declining unless lending and mortgage-insurance conditions ease.
- Credit risk is concentrated in residential real estate, especially Ohio and Florida. Legacy Home Today loans—2.3% of held-for-investment loans—accounted for 24.2% of 90-days-or-more delinquencies. Home-equity lending remains a significant source of losses; current mean combined loan-to-value for home-equity lines in the draw period was 81%, with 30.4% of related exposure above 100%.
- Management cited interest-rate risk, weak regional economies and real estate markets, competition, regulatory change, and potential changes involving Fannie Mae and Freddie Mac as key uncertainties. Its model estimated that an immediate 200-basis-point rate increase would reduce economic value of equity by 29% and 12-month net interest income by 12.5%; the company cautions that these are model estimates, not forecasts.
- The Association’s home-equity reduction plan targets were met and exceeded. Prior regulatory memoranda of understanding requirements were reported as completed, but regulatory validation was pending; management did not expect results until the quarter ending September 30, 2012. The company does not intend to pay cash dividends or repurchase shares until regulatory concerns are resolved.
- Liquidity: the quarterly average liquidity ratio was 5.82% against a stated minimum target of 5%. Certificates of deposit totaling $2.99 billion, or 33.8% of deposits, were due within one year. Management said liquidity and alternative funding were adequate; it reported additional immediate borrowing capacity of $535.2 million at the FHLB and $265.1 million at the Federal Reserve Discount Window.
- Other items: $245.9 million of fixed-rate mortgages were reclassified as held for sale, and a $50.0 million third-party whole-loan sales commitment was reported. The pension plan’s benefit accruals were frozen effective December 31, 2011. Mortgage-insurance reinsurance exposure had a maximum loss limit of $15.1 million and a recorded remaining liability of $3.8 million. Management said routine legal proceedings were not expected to have a material adverse effect; tax audits covered federal and Ohio returns for 2008–2010.
Important facts for investors to verify
- How much future credit expense reflects underlying loan deterioration versus the one-time SVA charge-off, and whether delinquency and charge-off trends continue to improve.
- Whether the $245.9 million held-for-sale mortgage pool is sold as planned, at what price, and with what liquidity and interest-rate-risk effects.
- Developments in regulatory review, including whether the memoranda of understanding are modified or terminated and when dividend or repurchase restrictions might change.
- Deposit retention and funding costs as $2.99 billion of certificates mature within one year, alongside increased reliance on FHLB borrowing.
- Exposure to Florida housing weakness, legacy Home Today loans, high combined loan-to-value home-equity lines, and mortgage-insurance counterparties, including the status of the PMIC-related coverage.
- The filing reports effective disclosure controls and no material change in internal control over financial reporting during the quarter; investors should review subsequent filings for updates to these matters.