TFS Financial's CEO Discusses F3Q 2012 Results - Earnings Call Transcript

| About: TFS Financial (TFSL)

TFS Financial Corporation (NASDAQ:TFSL)

F3Q 2012 Earnings Call

July 31, 2012 10:00 am ET

Executives

Marc A. Stefanski – Chairman, President and Chief Executive Officer

Paul J. Huml – Chief Operating Officer and Chief Accounting Officer

David S. Huffman – Chief Financial Officer

Meredith S. Weil – Chief Operating Officer

Analysts

Mike Shafir – Sterne, Agee & Leach, Inc.

William C. Waller – M3 Funds LLC

Operator

Welcome to TFS Financial Corporation’s Third Fiscal Quarter Earnings Conference Call and Webcast. Hosting the call today from TFS Financial is Mr. Marc Stefanski, Chief Executive Officer. He is joined by Mr. Dave Huffman, Chief Financial Officer; Ms. Meredith Weil, Chief Operating Officer of Third Federal Savings; and Mr. Paul Huml, Chief Accounting Officer.

Today’s call is being recorded and will be available for replay beginning at 2.00 P.M. Eastern Standard Time. The dial-in number for the replay is 800-723-0549. At this time, all participants have been placed in a listen-only mode, and the floor will be open for your questions following the presentation. (Operator Instructions) In the interest of time and to get as many questions as possible, we ask that you please limit yourself to one question and one follow-up. (Operator Instructions)

Some of the information provided during the conference call may contain statements of future expectations and other forward-looking statements. These expectations are based on the management's current views and assumptions and involve known and unknown risks and uncertainties.

It is possible that the Company’s actual results and financial condition may differ, possibly materially, from the anticipated results and financial condition indicated in these forward-looking statements.

For a discussion of some of the risks and important factors that could affect the firm's future results, see Risk Factors in the Company’s latest Annual Report on www.thirdfederal.com. TFS Financial Corporation assumes no obligation to update any forward-looking information provided during the conference call.

It is now my pleasure to turn the floor over to Mr. Marc Stefanski. Sir, you may begin.

Marc A. Stefanski

Good morning, everyone. At this time, I like to turn the floor over to Paul Huml, who will go over the report and the deck that most of you should have in front of you. Paul?

Paul J. Huml

All right. Thank you Marc, and thank you for joining our call. Since the third quarter of our fiscal year ended June 30, I think our results continue around the same path. We’re jumping to page 3 on the slides. Really, assets have continued to grow and our deposits are up, and continue to have a strong equity position.

And moving next slide, really continuation of what our strategy to focus on the ARM production for loans, again 57% of our current fiscal year-to-date loan production is in our adjustable rate mortgage, and that’s been a big shift since 2010, as we focused on interest rate risk management.

And again, you see some of credit scores and the average LTVs, just reinforce a strong credit underwriting that we’re focusing on as we’re originating these new loans. Again, our markets from operation on page 5, no change from where we’ve been between Ohio and Florida.

Page 6 sort of goes over the financial highlights, and you’ll see again that the loan growth is continuing from where we were last year, where we were at fiscal year end, and where we were at previous quarter end. Our net interest income has stayed consistent. And I think as we’ve seen all along, our provision is really what’s driving our earnings. Unfortunately this quarter, it’s a little higher than what we had hoped for, and it’s a little higher than what we had last quarter, and last year as well. I think one of the main reasons for that is, while some of our delinquencies in non-performing assets, and those ratios are improving, it’s really the severity that we’re seeing in some of the loans as they go through a foreclosure process, bankruptcy when they’re going out, the problem is that homes are just not selling for values that we need.

So that’s really the severity of the loss since what’s been boosting our provision to help us cover in future losses. Other than that, we try to keep ourselves aligned with same approach, our deposits as I mentioned before by continued increase and help fund the loan growth.

In the next page, looking at capital position again, very strong we’ve always tried to focus on our capital, and that’s a good buffer for us as we move forward.

The next page is a new chart if you’ve followed along from previous quarters, just try to give you a little bit of an overview of our deposit base and what it’s done over the last few years and what it’s done over the last quarter, few quarters and really staying consistent in our deposit levels and growing them to a certain extent even while the cost to funds, our average cost on those deposits have been decreasing over time, and that’s really what’s helping to support our net interest income number is being able to repay some of these deposits, and maintaining those deposits as they do re-price.

So, that’s a key component as we move forward. And again the other half of the equation is on the next page, is the adjustable rate loan production. Again, we are very – continue the strong growth we have in there, not a whole lot from a purchase market, but a lot from a refinance standpoint. And again the level that’s in our ARMs is now a production of 57% of what we are producing are the ARM products and the average credit scores and LTVs have stayed very strong.

Next page on the adjustable rate growth, we continue to move from an interest rate risk protection is to get more of our assets in adjustable products. So 46% of all of our loans, which includes the equity lines of credits and all these Smart Rate ARMs that we’ve originated, 46% of all loans, are now adjustable rate. And a lot of that growth is as a result of what we are looking at in some of the other states. As you may recall, we’ve started going out in May 2011 into 10 new states and we are increasing the volume in those states and that’s helping the loan growth.

And just looking at first mortgages, our adjustable rate product is a third of all of our first mortgages at June. So we continue to move that percentage, the chart at the bottom of the page sort of shows where we’ve been over time and how we’ve been able to move that number to help us from an interest rate risk standpoint.

Next page goes over the loan delinquencies and charge-offs. And the delinquencies continue to decrease and we’ve increased our loan balances. The charge-offs that have gone up from prior quarter and from prior year as we – I think a lot of the impact from the severity losses has impacted these charge-off numbers and we hope to get in front of some of these through the provision that we’ve setup. So again, it’s a quarter-to-quarter experience, with the economy what it is, we continue to focus on this, but that’s a number that continues to be outside of what we are hoping it to be.

The loan portfolio trends on the next page just sort of go through graphically where some of the ratios are going. And you can see all of these have continued to either level off or decline over time, performing troubled debt restructuring and non-performing assets and the delinquencies got a boost in the December quarter from our specific evaluation charge-off, but if they continue to go down as we work through. So our delinquencies are down and a lot of that is hopeful as we start moving forward.

Next page is probably the most difficult to write about because we’ve got that fine balance between the regulators who don’t want us to discuss anything to do with what they’re doing from an exam standpoint. And as we try to balance and making sure that we’re keeping the shareholders informed and what they need to know.

So we try to keep a good balance, we’re trying to keep everyone informed, as we’ve gone through the regulatory process when MOU was first put in place, it’s always certainly up to them as to when the MOU is removed. And we continue to get regulatory review of us, there is noting final that we’ve received from our regulators. We have had indication that a number of the issues that are out there are getting cleaned up. I think the issues going forward revolve around interest rate risk and our modeling of that and analysis and being to a saving to loan where we have a lot of long-term loans and shorter-term deposits, interest rate risk is always going to be an issue that we deal with.

So we are always watching it as we keen through the new regulators. The OTS got rid of the model that they used to use to model interest risk and analyze their various companies and we have a new model in place that is going to need time to be back tested and validated and all of the various buzzwords that we need to do from a regulatory standpoint. So that’s going to be an ongoing thing and that’s really the main focus from a regulation standpoint of what they want us to focus on.

I think some of the key things are obviously the MOU backed from when it started revolved around the equity lines of credit, we’ve stopped originating equity lines of credit back in 2010, we have now begun to originate equity lines of credit particularly or just for our existing customers at this point. We are looking at some point to hopefully roll that out to new customers. So that we considered that a positive step that we’re able to trying to get back to a normalized approach for what we do as business.

One of the things that’s very important is keeping the shareholders – what we’re doing and the buyback program is a key component of that. It’s something that we are consistently trying to work on with the regulators and hope to get back and to be able to do that. But unfortunately, we haven’t now set the timeframe for when that’s going to happen, again, we have nothing final from the regulators as to what they do and what they have looked at and what their feedback is, we’ve some verbal things, but – and we are going to have to continue to stay patient with the whole process and understand that we are very focused on trying to get back into activities that will help our shareholders in the long run.

From a dividends, we’ve had no indication from the FED on the MHC dividend waiver issues, we got commenced that went back to October and there has been no further work from them at this point as to what will happen there. So, that’s from a mutual holding company standpoint that lack of the dividend waiver is going to have a huge impact on dividends for any mutual holding companies. So we will continue to keep an eye on that and hope for the best from that standpoint.

So that, again, really just summarizers where we were in the quarter. Again, our fiscal year end its coming up in September and there will be more details at that point, but just a brief update of where we are at the June 30 quarter.

So we are going to turn it over for questions from the audience.

Question-and-Answer Session

Operator

(Operator Instructions) And our first question comes from the side of Mike Shafir, Sterne Agee. Please go ahead. Your line is open.

Mike Shafir – Sterne, Agee & Leach, Inc.

Yeah. Good morning, guys.

David S. Huffman

Good morning.

Paul J. Huml

Good morning.

Marc A. Stefanski

Good morning.

Mike Shafir – Sterne, Agee & Leach, Inc.

Certainly, you had some positive trends in the quarter, just wondering on the salaries and benefits line, you guys had a pretty substantial decline versus last quarter. I was wondering if may be you could just give us a little bit of detail on that?

Marc A. Stefanski

Good morning, Mike. Thanks for listening in and thanks for your question. You might have noticed that the earnings weren’t as robust as we might have hoped and we have some compensation it’s linked to our performance and we made adjustments to some of the accruals there.

Mike Shafir – Sterne, Agee & Leach, Inc.

Okay. So as we think about moving forward, should we – are we going to see a raise in the that comp and benefits line next quarter?

Marc A. Stefanski

We are hoping that you do because you are going to see a rise in earnings.

Mike Shafir – Sterne, Agee & Leach, Inc.

Okay. I guess, I am just trying to figure out if there is more – is there a more of a one-time type of scenario were accruals are down in this quarter and then you should start to see those get to more normalized levels, I mean historically, that comp and benefits line has been around somewhere in that $20 million to $21 million range?

Marc A. Stefanski

Yeah, I would say, in comparing the March quarter to the June quarter, you are going to have kind of a doubling effect. In the March quarter, we continue to provide protocols. And in the June quarter then we weren’t and we were kind of adjusting the full level. So we had kind of a normalization in the June quarter that would magnify the difference versus March.

Mike Shafir – Sterne, Agee & Leach, Inc.

Okay, thanks for that detail.

Marc A. Stefanski

And Mike, the incentive compensation is company wide, it’s throughout our workforce.

Mike Shafir – Sterne, Agee & Leach, Inc.

Okay. And then just also on the net interest margin, I was wondering how much do you have in the way of CDs that are going to be maturing in this current September quarter. And maybe you could give us a little bit of detail on kind of what new money, what new deposit costs are coming in at versus what’s maturing?

Meredith S. Weil

Hi, Mike this is Meredith. We have just under $1 billion that will be maturing over the next six months. I think the challenge that we face is actually recapturing those dollars, and so right now the average interest that we are paying is around 1.7%. And so really those dollars are definitely going to re-price at a lower amount as long as we recapture those balances.

Mike Shafir – Sterne, Agee & Leach, Inc.

I am sorry, the $1 billion that is going to be maturing over the next six months, what’s kind of the average weight of rate of that, those CDs that are going to be maturing?

Meredith S. Weil

They range anywhere above 2%, I would say. So there is a wide range in balances. Those dollars will go down, I think that really the charts that we show and the graph here in the presentation here try to represent that our cost to fund is going down. I think the challenge that we are also funding loans at a lower amount and so really how that will affect our margin going forward. It really depends on where overall rates are going. Unfortunately, the mortgage rates continue to be driven down. And so we face that ongoing challenge of trying to bring in longer-term deposits, which we pay more for. You will see our margin has improved slightly, but really how that’s going to continue, it really depends on how we retain the dollars. We want to retain dollars long-term because we are trying to match with our 5/1 ARM to really balance our interest rate risk. And so it really depends on how we bring those money in.

Mike Shafir – Sterne, Agee & Leach, Inc.

And then also just the 5/1 ARM product, where is the bulk of that coming on in the balance sheet, and at what rate?

Meredith S. Weil

It’s just over 3% is our average rate that we’re bringing on. So that’s average with the fixed rate volume that we’re doing.

Mike Shafir – Sterne, Agee & Leach, Inc.

All right guys, thank you very much for all that detail. I appreciate it.

Marc A. Stefanski

You’re welcome.

Operator

(Operator Instructions) And we will next go to the site of Will Waller with M3 Funds. Please go ahead, your line is open.

William C. Waller – M3 Funds LLC

In the press release you noted that there were 10.5 million of charge-offs related to the equity lines in that line of credit portfolio. How much in specifically were reserves do you have on that portfolio as of June 30?

Marc A. Stefanski

It is under regulatory standpoint, there are no more specific reserves as it relates to that. I mean all we have our general evaluations that are allocated between different categories. But there is no specific reserve that’s attached to the equity line of credit.

William C. Waller – M3 Funds LLC

Okay, I think as of your March 31 10-Q there was I think about 49 million or so that was about 101 million of reserves that you had that were allocated to those portfolios, it’s not in our array?

Marc A. Stefanski

Yes, I mean I think that we show way portion that gets related to each category. It’s not specific to that. I mean the allowance can be used for any losses no matter what category it is in. We try to allocate them by category and those numbers will show up in the 10-Q.

William C. Waller – M3 Funds LLC

Okay, and then how much of that home equity line of credit portfolio is greater than 100% loan to value based on current valuations of the underlying real-estate?

Marc A. Stefanski

I don’t have that information at this point.

William C. Waller – M3 Funds LLC

Okay, thanks.

Operator

(Operator Instructions) As there are no further questions, I will now like to turn over to Mr. Marc Stefanski for any closing remarks.

Marc A. Stefanski

Thanks very much. Again the unemployment factors of the economy in general and home values obviously are an unstable factor in our business. And right now it seems like that with all the indicators, we are heading in the right direction. We appreciate the patience that our shareholders have shown and support of management team. And we will continue to slug it out in this very tough economy and tough business environment. And there is no further questions or comments from the team. Well, thank you very much for your time, and we’ll see you next quarter.

Operator

Thank you. This does conclude today’s teleconference. As a reminder the dialing number for the replay is 800-723-0549. Please disconnect your lines at this time. And have a wonderful day.

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