TFS Financial Corporation — FY2010 Form 10-K
Business context and reporting period. This annual report covers the fiscal year ended September 30, 2010; the filing also provides unaudited quarterly data, including the quarter ended September 30, 2010. TFS Financial is a savings and loan holding company whose principal subsidiary, Third Federal Savings and Loan Association, gathers retail deposits and originates residential mortgages and home-equity loans, primarily in Ohio and Florida.
Financial performance and position
| Metric | FY2010 / September 30, 2010 | Prior comparable period |
|---|---|---|
| Total assets | $11.08 billion | $10.60 billion at September 30, 2009 |
| Interest income | $437.9 million | $487.2 million |
| Net interest income | $227.5 million | $230.1 million |
| Net interest margin / interest-rate spread | 2.16% / 1.77% | 2.20% / 1.70% |
| Provision for loan losses | $106.0 million | $115.0 million |
| Net income / diluted EPS | $11.3 million / $0.04 | $14.4 million / $0.05 |
| Operating cash flow | $116.5 million | $272.0 million |
- Interest expense fell 18% to $210.4 million, but interest income declined 10%; net interest income decreased 1%. Non-interest income fell 13% to $58.6 million, while non-interest expense was essentially flat at $161.9 million.
- Return on average assets was 0.10% and return on average equity was 0.65%. The efficiency ratio was 56.59%.
- Cash and cash equivalents rose to $743.7 million. The reported year-end liquidity ratio was 12.51%; the fiscal-year average was 10.63%. Management reported additional borrowing capacity of $910.0 million at the FHLB and $360.3 million at the Federal Reserve; FHLB capacity is subject to collateral and stock requirements.
- Deposits were $8.85 billion, up from $8.57 billion. Borrowings were $70.2 million, unchanged from the prior year. Shareholders’ equity was $1.75 billion, or 15.8% of total assets. The Association reported total risk-based capital of 19.17% and core capital to adjusted tangible assets of 12.14%, and was categorized as well capitalized.
- Loans held for investment, net, were $9.18 billion. The allowance for loan losses was $133.2 million, or 1.42% of total loans; net charge-offs were $68.0 million, compared with $63.5 million.
Material changes versus the prior period
- Net income decreased 21%, chiefly as lower asset yields and reduced loan-sale gains outweighed lower funding costs and a smaller loan-loss provision.
- Asset quality remained pressured: non-accrual loans rose to $287.4 million from $255.7 million, and non-performing assets increased to $303.3 million from $273.4 million, or 2.74% of assets. Loans delinquent 90 days or more were $255.0 million, slightly below $255.7 million a year earlier.
- Troubled debt restructurings increased to $135.3 million from $44.6 million. Management noted that experience with many modified loans was too recent to draw broad conclusions about restructuring effectiveness.
- Cash increased substantially while investment securities rose to $671.6 million. Operating cash flow was lower than in 2009; the company attributed part of the change to a $51.9 million FDIC assessment prepayment, of which $39.5 million remained prepaid at year-end.
- Fannie Mae eligibility changes effective July 1, 2010 restricted the company’s traditional sales of newly originated fixed-rate mortgages. Loan sales were $1.03 billion, down from $2.22 billion. The company began marketing a new adjustable-rate mortgage product in response.
Outlook, risks, contingencies and unusual items
- Credit and housing risks: Management expected elevated delinquencies and charge-offs to continue, citing unemployment, weak home values and housing inventory, particularly in Florida. Home Today loans outstanding were $280.5 million; 34.6% were at least 30 days delinquent, versus 2.5% of non-Home Today loans. The company ceased most new home-equity lending on June 28, 2010; outstanding home-equity loans and lines were $2.85 billion, with $2.12 billion of unused commitments.
- Regulatory oversight: The OTS raised concerns about the home-equity portfolio and credit administration. An August 2010 memorandum of understanding required portfolio assessments, concentration-reduction and risk-management plans, and an updated business plan. Management said submissions had been made, but the OTS was still reviewing the concentration plan and had not approved or rejected it. The OTS also required 45 days’ prior written notice of cash dividends and stock repurchases. The company said it did not intend to resume dividends or repurchases until the OTS concerns were resolved.
- Interest-rate exposure: The OTS model estimated a 14% decline in net portfolio value under an immediate 200-basis-point rate increase; the company’s internal model estimated a 30% decline. Management’s model also projected a 9.9% decrease in net interest income over the following 12 months under that rate shock. The filing cautions that these models depend on assumptions and that the OTS questioned assumptions and model reliability; potential revisions were not quantified.
- Funding and regulation: Certificates of deposit totaling $2.80 billion were due within one year. Management considered liquidity adequate but noted that reduced mortgage-sale access could constrain a funding and interest-rate-risk-management channel. The Dodd-Frank Act and implementing rules were expected to increase operating and compliance costs; the precise impact remained uncertain.
- Dividends and unusual quarterly result: No dividend was declared for the September 2010 quarter, following the regulatory restrictions. The unaudited September quarter reported a net loss of $10.7 million, including a $35.0 million loan-loss provision; the prior-year quarter reported a $12.9 million net loss.
- Management stated that routine legal proceedings were not expected to have a material adverse effect. The filing reports unqualified audit opinions on the consolidated financial statements and internal control over financial reporting.
Important facts for investors to verify
- Progress and OTS acceptance of required corrective actions, and any resulting limits on dividends, share repurchases, growth or operations.
- Trends in delinquencies, non-accrual loans, charge-offs, foreclosures, troubled debt restructurings and the adequacy of the $133.2 million allowance.
- Home-equity exposure, including the $2.12 billion in unused lines, collateral values and portfolio concentration in Florida.
- Whether mortgage-loan sale eligibility is restored or alternative channels develop, and the effect on liquidity, interest-rate risk and earnings.
- Deposit retention and funding costs as $2.80 billion of certificates mature within one year, alongside the availability and conditions of contingent borrowing capacity.
- Reconcile the filing’s differing presentations of allowance coverage of non-accrual/non-performing loans before relying on a coverage ratio; the text does not provide a consistently clear value.