TFS Financial Corporation — Form 10-Q Summary
Reporting period: Fiscal third quarter and nine months ended June 30, 2017; filed August 7, 2017. The interim financial statements are unaudited. TFS Financial is a retail consumer banking company focused primarily on residential mortgage lending and deposits; its mutual holding company owned approximately 81% of its common shares.
Financial performance and position
| Metric | Three months ended June 30 | Nine months ended June 30 |
|---|---|---|
| Interest and dividend income | $103.7 million, versus $97.0 million | $303.0 million, versus $290.6 million |
| Net interest income | $70.3 million, versus $67.4 million | $208.8 million, versus $202.8 million |
| Provision (credit) for loan losses | $(4.0) million, versus $(3.0) million | $(10.0) million, versus $(5.0) million |
| Net income | $22.8 million, versus $20.6 million | $65.9 million, versus $57.7 million |
| Diluted EPS | $0.08, versus $0.07 | $0.23, versus $0.20 |
| Net interest margin | 2.16%, versus 2.22% | 2.17%, versus 2.24% |
For the quarter, net income rose about 11%; for the nine-month period, it increased about 14%. Growth in net interest income and loan-loss credits supported earnings, while lower loan-sale gains partially offset improvement. Non-interest income fell 21% in the quarter and 22% year to date; non-interest expense declined 1% and 3%, respectively.
- Balance sheet at June 30: Total assets were $13.53 billion, up 5% from September 30, 2016. Net loans held for investment were $12.26 billion, up 5%; cash and cash equivalents were $264.9 million.
- Funding and debt: Deposits totaled $8.18 billion, down $155.5 million from September 30. Borrowed funds, all from the Federal Home Loan Bank of Cincinnati, rose $824.0 million to $3.54 billion. The company cited loan growth, deposit outflows, repurchases, dividends, and liquidity management as funding needs.
- Cash flow, nine months: Operating activities provided $81.4 million; investing activities used $590.0 million; financing activities provided $542.3 million. Cash increased $33.7 million to $264.9 million.
- Capital and liquidity: The Association’s Tier 1 leverage ratio was 11.08%, above the 5% well-capitalized threshold; its total risk-based capital ratio was 21.34%. The company reported an average liquidity ratio of 5.59% for the quarter and stated that liquidity was adequate.
- Credit quality: The allowance for loan losses was $54.9 million, or 0.45% of recorded loans, down from $61.8 million, or 0.56%, at September 30, 2016. Nine-month net recoveries were $3.1 million, compared with net charge-offs of $1.8 million in the prior-year period. Non-accrual loans were $81.1 million; non-performing assets were $86.7 million, or 0.64% of assets.
Material changes and management commentary
- Average loans grew, lifting loan interest income, but loan yields declined: 3.26% in the quarter versus 3.30% a year earlier, and 3.24% year to date versus 3.31%. Net interest margin narrowed six basis points in both comparisons as asset yields eased while funding costs were broadly steady.
- Average borrowed funds increased substantially year over year. Management described the use of short-term FHLB advances paired with interest-rate swaps to extend effective funding duration. At June 30, swaps had $1.30 billion notional value and a 1.59% weighted-average fixed-pay rate.
- Mortgage originations totaled $2.11 billion for the nine months, versus $1.71 billion a year earlier. Adjustable-rate Smart Rate loans represented 50.8% of first-mortgage production, up from 44.4%; fixed-rate production accounted for the balance.
- Credit performance improved overall, but management highlighted elevated risks in home equity lending and the legacy Home Today portfolio. Home equity lines can face higher payments as draw periods end; $649.2 million of lines were scheduled to reach the end of their draw period in fiscal 2017–2019. Home Today loans were no longer originated and had a higher delinquency profile than the core portfolio.
- Interest-rate sensitivity remains material. A modeled instantaneous +200-basis-point shock reduced economic value of equity by 19.43%, compared with 13.55% at September 30, 2016. Under the newly adopted ramped-rate assumption, modeled 12-month earnings at risk declined 2.01% for a +200-basis-point increase; the instantaneous-shock estimate was a 6.66% decline. Management said results were within board limits, while cautioning that model assumptions limit predictive precision.
- No specific earnings or revenue guidance was provided. Management expected moderate charge-offs to continue as delinquent loans are resolved, and said it expected to remain well capitalized. It identified competition, interest-rate changes, economic and housing conditions, regulation, funding costs, and concentration in Ohio and Florida among relevant risks.
Contingencies and unusual items
- Management said ordinary-course legal matters were not expected to have a material adverse effect.
- On July 19, 2017, the mutual holding company’s members approved a proposed waiver of up to $0.68 per share of dividends over the following 12 months. The Federal Reserve Bank of Cleveland’s non-objection and its timing were unknown when the report was filed.
- The company repurchased $44.0 million of common stock during the nine months and paid $19.2 million in dividends. It had begun an eighth authorization to repurchase up to 10 million shares.
- The company was assessing the future impact of new accounting standards, including expected-credit-loss accounting; management had not yet determined the impact of that standard.
Most important facts for investors to verify
- Whether deposit outflows continue and how much they increase reliance on FHLB borrowings, including the resulting funding cost and interest margin.
- Whether the declining allowance remains adequate as the loan book grows, with attention to home equity draw-period transitions, legacy Home Today loans, geographic concentrations, and mortgage-insurance recoveries.
- How interest-rate changes affect net interest margin, economic value of equity, and the realized effectiveness and cost of swaps; model estimates are scenario-based, not forecasts.
- Whether the Federal Reserve provides non-objection to the mutual holding company’s proposed dividend waiver and how capital is allocated between repurchases and dividends.
- Whether reported operating cash generation, liquidity access, and regulatory capital remain sufficient as commitments are funded and deposits mature; $2.22 billion of CDs were due within one year of June 30.