WSFS FINANCIAL CORP annual report, FY2018

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WSFS Financial Corporation — 2018 Form 10-K

Reporting period: Fiscal year ended December 31, 2018; comparisons are primarily with fiscal 2017. WSFS is a Delaware-based banking and financial-services holding company operating through WSFS Bank, Cash Connect and Wealth Management. The filing was signed February 28, 2019.

Business context

At year-end, WSFS reported $7.25 billion in assets and $19.0 billion in wealth assets under management and administration. Its core business is commercial banking funded mainly by customer deposits, alongside nationwide ATM cash-logistics services and wealth and trust management.

Financial results and condition

  • Earnings: Net income was $134.7 million, or $4.19 diluted EPS, versus $50.2 million, or $1.56, in 2017. Return on average assets was 1.92% (1.63% on management’s non-GAAP core basis); return on average equity was 17.63%.
  • Revenue and margins: Net interest income rose 11% to $246.5 million; net interest margin increased to 4.09% from 3.95%. Noninterest income rose 30% to $162.5 million. Total interest and noninterest income was $455.5 million.
  • Expenses and credit costs: Noninterest expense was $225.0 million, down slightly from $226.5 million. Provision for loan losses increased to $13.2 million from $11.0 million, reflecting loan growth and deterioration in three large relationships.
  • Loans and credit quality: Gross loans were $4.91 billion and net loans were $4.86 billion. Commercial loans were 82.5% of the reported loan portfolio. Nonperforming assets fell to $47.7 million, or 0.66% of assets, from $59.0 million, or 0.84%. Allowance for loan losses was $39.5 million, 0.81% of gross loans; net charge-offs were $14.2 million.
  • Deposits, liquidity and funding: Deposits increased 7% to $5.64 billion; customer deposits excluding CDs grew $380.5 million, or 9%. Cash and cash equivalents were $620.8 million. The company reported a 90% loan-to-total-customer-funding ratio. FHLB advances declined to $328.5 million from $710.0 million, while federal funds purchased rose to $158.0 million from $28.0 million.
  • Debt and capital: Year-end borrowings included $67.0 million of trust-preferred borrowings and $98.4 million of senior debt. WSFS Bank’s CET1 ratio was 12.69%, total risk-based capital ratio 13.37%, and leverage ratio 10.82%; all exceeded well-capitalized thresholds. Company stockholders’ equity was $820.9 million.
  • Cash flow: Operating activities provided $135.6 million; investing activities used $359.9 million; financing activities provided $121.2 million. Cash and cash equivalents decreased $103.1 million during the year.

Material changes versus 2017

  • Net income increased substantially, but comparability is affected by significant items in both years. In 2018, noninterest income included a $20.7 million unrealized gain and a $3.8 million realized gain on Visa Class B shares; WSFS also recovered $7.9 million of costs related to a legal settlement. Corporate development expense rose to $6.5 million, mainly for the planned Beneficial transaction.
  • 2017 results included a $14.5 million deferred-tax remeasurement charge following tax reform, an $8.0 million tax charge associated with surrendering bank-owned life insurance policies, a $12.0 million legal-settlement expense, and a $1.5 million foundation contribution. Management’s non-GAAP adjusted noninterest income grew 12.5% in 2018, while adjusted noninterest expense increased 9%.
  • Interest expense increased to $46.5 million from $33.5 million, largely as deposit and borrowing costs rose with market rates. Net interest income nevertheless benefited from higher yields, pricing and balance-sheet management.
  • Total assets rose 4% to $7.25 billion. Deposits grew, while FHLB advances declined; investment securities available for sale increased, partly reflecting reinvestment of proceeds from the BOLI surrender.
  • Quarterly net income for the fourth quarter of 2018 was $29.7 million, compared with a $9.8 million net loss in fourth-quarter 2017, when the tax and other charges affected results.

Outlook, risks and contingencies

  • Beneficial merger: Shareholders of both companies approved the transaction in December 2018. Under its terms, Beneficial shareholders were to receive 0.3013 WSFS shares and $2.93 cash per share. Closing was expected March 1, 2019, subject to customary conditions. WSFS expected pro forma assets of approximately $12.8 billion.
  • Integration and regulation: Management anticipated expanded Philadelphia-area reach and merger synergies, but identified execution, customer and employee retention, integration costs and management distraction as risks. Exceeding $10 billion in assets would bring additional regulatory requirements, including debit interchange restrictions and CFPB supervision; WSFS expected Durbin Amendment restrictions to begin July 1, 2020, if the merger closed in 2019.
  • Strategy: WSFS planned a 2019–2021 delivery transformation, optimizing branches and investing in digital and other technology. It also stated plans to continue commercial lending and deposit growth and to grow fee-based Wealth Management and Cash Connect businesses. The filing provides no quantified earnings or revenue guidance.
  • Credit and market risks: The loan portfolio is concentrated in commercial, commercial real estate, construction and land-development lending, primarily in Delaware and southeastern Pennsylvania. Management cited borrower deterioration, local economic and property-market conditions, rising funding costs, interest-rate sensitivity and securities valuation as risks.
  • Accounting and operational risks: WSFS planned to adopt CECL in 2020 and said implementation could materially increase the loan-loss allowance and reduce capital, though the impact was uncertain. Other disclosed risks include cybersecurity, Cash Connect cash controls and fraud exposure, model risk, and the LIBOR transition after 2021.
  • Legal matters: WSFS recovered $7.9 million from insurers in the Universitas settlement matter and filed suit seeking further recovery under an acquisition indemnity. A separate trust-related case alleged failure to provide timely notice concerning two life-settlement policies; WSFS denied liability and said trial was expected in fourth-quarter 2019. Management reported no material changes to other significant proceedings beyond routine matters.
  • Audit and controls: KPMG issued an unqualified opinion on the financial statements and internal controls over financial reporting; management also concluded disclosure controls and financial-reporting controls were effective.

Investor verification checklist

  • Reconcile reported earnings with Visa investment gains, the legal insurance recovery, merger costs and prior-year tax and settlement charges; assess the sustainability of underlying earnings.
  • Review merger completion, integration progress, realized cost savings and the effects of crossing the $10 billion regulatory threshold.
  • Monitor deposit pricing and mix, funding costs, liquidity, and interest-rate sensitivity as rates and customer behavior change.
  • Track commercial credit migration, the three large relationships cited by management, charge-offs, nonperforming assets and allowance adequacy.
  • Assess CECL implementation estimates and the potential impact on reserves, retained earnings and regulatory capital.
  • Follow the Universitas recovery action and the Nature’s Healing Trust litigation, along with Cash Connect operational-control and cybersecurity disclosures.