TFS Financial Corporation — Form 10-Q Summary
Reporting period: Fiscal second quarter and six months ended March 31, 2018; filed May 8, 2018. Financial statements are unaudited. TFS primarily conducts retail consumer banking through Third Federal Savings and Loan Association, with a focus on residential mortgage lending and deposits.
Financial results and position
| Metric | Three months ended March 31, 2018 | Six months ended March 31, 2018 |
|---|---|---|
| Interest and dividend income | $110.2 million | $217.4 million |
| Net interest income | $71.7 million | $141.7 million |
| Provision (credit) for loan losses | $(4.0) million | $(7.0) million |
| Non-interest income | $4.6 million | $9.5 million |
| Non-interest expense | $49.7 million | $95.5 million |
| Net income | $23.3 million | $42.9 million |
| Diluted earnings per share | $0.08 | $0.15 |
| Net interest margin | 2.13% | 2.11% |
For the quarter, net income was down 1% from $23.5 million a year earlier; six-month net income was also slightly lower than the prior-year $43.1 million. Net interest income rose 2% in both comparisons, but higher funding costs and operating expenses offset growth. Quarterly interest-rate spread was 1.98%, down 8 basis points year over year; six-month spread was 1.97%, also down 8 basis points. Six-month return on average assets was 0.62%, versus 0.66%.
At March 31, total assets were $13.96 billion, up 2% from September 30, 2017. Net loans held for investment were $12.68 billion, deposits $8.35 billion, FHLB borrowings $3.72 billion, and shareholders’ equity $1.73 billion. Cash and cash equivalents totaled $271.1 million. The allowance for loan losses was $43.1 million, or 0.34% of recorded loans, compared with $48.9 million, or 0.39%, at September 30, 2017.
Six-month operating cash flow was $95.1 million, compared with $64.2 million in the prior-year period. Investing activities used $289.6 million and financing activities provided $197.4 million; cash and cash equivalents increased $2.9 million to $271.1 million. The company reported a 5.66% average liquidity ratio for the quarter and stated liquidity was adequate. The Association had $132.1 million of immediate additional FHLB borrowing capacity and $63.5 million from the FRB-Cleveland Discount Window.
Changes and operating trends
- Interest income increased 9% year over year for both the quarter and six-month period, principally from loan growth and higher yields. Average loan yields rose to 3.34% for the quarter and 3.31% for six months.
- Interest expense rose 25% in both comparisons. Higher average FHLB borrowings and rates were the principal factors; six-month average borrowing cost increased to 1.58% from 1.16%. CD expense also rose.
- Loan balances grew $263.6 million from September 30. Home equity loans and lines of credit increased $138.4 million, reflecting renewed origination activity. First-mortgage production for six months was $1.00 billion, versus $1.49 billion a year earlier.
- Credit metrics improved overall: non-performing assets declined to $81.9 million from $89.2 million a year earlier, and loans 90 days or more past due were 0.2% of net loans. Non-accrual home-equity balances nevertheless increased year over year to $20.8 million.
- Net recoveries were $1.2 million for six months, versus $1.0 million in the prior year. Management attributed the loan-loss credit to recoveries, low charge-offs, and reduced exposure to home-equity lines nearing the end of their draw periods.
Outlook, risks and notable items
- No specific earnings or revenue guidance is provided. Management expects a moderate level of charge-offs to continue as delinquent loans are resolved and losses are identified.
- Management identifies interest-rate risk, credit quality, liquidity and expense control as key priorities. A 200-basis-point instantaneous rate increase was estimated to reduce Economic Value of Equity by 21.33%; the 12-month Earnings at Risk estimate was a 2.56% decrease under a gradual, ramped 200-basis-point increase, or a 6.21% decrease under an instantaneous increase. These are model-based estimates, not forecasts.
- Residential lending is concentrated in Ohio and Florida. Home Today loans, a legacy program no longer originating new loans, carry greater credit risk than the core portfolio. Home-equity lines can face payment increases when draw periods end; $306.5 million of certain lines were approaching the end of their draw period through fiscal 2020.
- The Tax Cuts and Jobs Act reduced the federal corporate tax rate to 21%. Revaluation of deferred tax assets resulted in approximately $4.6 million of additional tax expense in the six-month period; management said estimates may be refined in future periods.
- On May 4, 2018, after quarter-end, the Association agreed to sell approximately $276 million of long-term fixed-rate Residential Core mortgage loans, retaining servicing. Closing was expected in May 2018.
- Management said ordinary-course legal actions were not expected to have a material adverse effect. The filing reported effective disclosure controls and no material change in internal control over financial reporting during the quarter.
Important facts for investors to verify
- Whether loan and deposit repricing keeps pace with rising market rates, given the decline in net interest margin and higher borrowing and CD costs.
- Whether the decline in the allowance and continued loan-loss credits remain appropriate as home-equity lending grows and non-accrual home-equity balances rise.
- Performance of the legacy Home Today portfolio, geographically concentrated residential lending, and home-equity lines approaching repayment periods.
- Execution and financial effect of the planned $276 million mortgage-loan sale, including retained-servicing implications.
- Capital and liquidity figures, including the Association’s borrowing capacity, deposit maturities, and the effect of dividends and share repurchases on capital.
- Potential future tax adjustments related to the Tax Cuts and Jobs Act and the eventual impact of the expected credit-loss accounting standard, which management was still evaluating.