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WAFD > SEC Filings for WAFD > Form 10-Q on 8-Aug-2013All Recent SEC Filings

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Form 10-Q for WASHINGTON FEDERAL INC


8-Aug-2013

Quarterly Report


Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations

FORWARD LOOKING STATEMENTS
In addition to historical information, this Quarterly Report on Form 10-Q includes certain "forward-looking statements," as defined in the Securities Act of 1933 and the Securities Exchange Act of 1934, based on current management expectations. Actual results could differ materially from those management expectations. Such forward-looking statements include statements regarding the Company's intentions, beliefs or current expectations as well as the assumptions on which such statements are based. Stockholders and potential stockholders are cautioned that any such forward-looking statements are not guarantees of future performance and involve risks and uncertainties, and that actual results may differ materially from those contemplated by such forward-looking statements. Factors that could cause future results to vary from current management expectations include, but are not limited to: general economic conditions; legislative and regulatory changes, including without limitation the potential effect of the Dodd-Frank Wall Street Reform and Consumer Protection Act and regulations being promulgated thereunder; monetary fiscal policies of the federal government; changes in tax policies; rates and regulations of federal, state and local tax authorities; changes in interest rates; deposit flows; cost of funds; demand for loan products; demand for financial services; competition; changes in the quality or composition of the Company's loan and investment portfolios; changes in accounting principles; policies or guidelines and other economic, competitive, governmental and technological factors affecting the Company's operations, markets, products, services and fees. The Company undertakes no obligation to update or revise any forward-looking statements to reflect changed assumptions, the occurrence of unanticipated events or changes to future operating results over time.
GENERAL
As of June 30, 2013, Washington Federal, Inc. ("Company") was a savings and loan holding company. The Company's primary operating subsidiary is Washington Federal. Effective July 17, 2013, Washington Federal completed its conversion to a national bank charter with the Office of the Comptroller of the Currency and is now a national bank. The Company also completed its conversion to a bank holding company with the Federal Reserve.
The results discussed below were impacted by the acquisition on close of business on October 31, 2012, of South Valley Bank and Trust, headquartered in Klamath Falls, Oregon ("South Valley"). The acquisition provided $383 million of net loans, $107 million of net covered loans, $735 million of deposit accounts, including $533 million in transaction deposit accounts and 24 branch locations in Central and Southern Oregon. Total consideration paid at closing was $44 million, including $34 million of Washington Federal, Inc. stock and $10 million of cash resulting from the collection of certain earn-out assets.

The operating results of the Company include the operating results produced by the acquired assets and assumed liabilities for the period from November 1, 2012 to June 30, 2013.

INTEREST RATE RISK
Historically, the Company accepted a higher level of interest rate risk as a result of its significant holdings of fixed-rate single-family home loans that are longer in term than the characteristics of its primary liabilities of customer accounts and borrowings. Based on Management's assessment of the current interest rate environment, the Company has taken steps, including growing shorter-term business loans, transaction deposit accounts and extending the maturity on borrowings, to reduce its interest rate risk profile compared to its historical norms. The Company has also been purchasing more variable rate investments. The composition of the investment portfolio is now 50% variable and 50% fixed rate. In addition, $1.6 billion of its purchased 30-year fixed rate mortgage-backed securities have been designated as held-to-maturity. With rising interest rates, these securities may be subject to unrealized losses. As of June 30, 2013, the unrealized losses on these securities were $70 million.

The Company relies on various measures of interest rate risk, including an asset/liability maturity gap analysis, modeling of changes in forecasted net interest income under various rate change scenarios, and the impact of interest rate changes on the net portfolio value ("NPV") the Company. At June 30, 2013, the Company had approximately $2.077 billion more in liabilities subject to repricing in the next year than assets, which amounted to a negative one-year maturity gap of 15.96% of total assets. This was an increase from the 10.1% negative gap as of September 30, 2012.


Table of Contents
WASHINGTON FEDERAL, INC. AND SUBSIDIARIES
PART I - Financial Information
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations

A negative maturity gap implies that funding costs will change more rapidly than interest income on earning assets with movement in interest rates. A negative maturity gap typically results in higher margins when interest rates decline and lower margins when interest rates rise. Gap analysis provides management with a high-level indication of interest rate risk, but is considered less reliable than more detailed modeling.
The potential impact of rising interest rates on net interest income in the future is estimated using a model that is based on account level detail for loans and deposits. In the event of an immediate and parallel increase of 200 basis points in both short and long-term interest rates, the model estimates that net interest income will decrease by 2.59% in year one. In the event of a gradual increase from current rates by 200 basis points over a twelve-month period, the model forecasts an decrease in net interest income of 1.95% in year one. This analysis assumes zero balance sheet growth and a constant percentage composition of assets and liabilities. It also assumes that loan and deposit prices respond in full to the increase in market rates. Actual results will differ from the assumptions used in this model, as Management monitors and adjusts loan and deposit pricing and the size and composition of the balance sheet to respond to changing interest rates.

The NPV estimates the market of value of shareholder's equity based upon forecasted interest rate scenarios. It is derived by calculating the difference between the present value of expected cash flows from interest-earning assets and the present value of expected cash flows from interest-paying liabilities and off-balance-sheet contracts. The sensitivity of the NPV to changes in interest rates is another measure of interest rate risk. This approach provides a longer term view of interest rate risk as it incorporates all future expected cash flows. In the event of an immediate and parallel increase of 200 basis points in interest rates, the NPV is estimated to decline by $347 million and the NPV to total assets ratio to decline to 16.40%. As of September 30, 2012 the estimated decrease in NPV in the event of a 200 basis point increase in rates was estimated to decline by $296 million and the NPV to total assets ratio to decline to 15.00%.
The interest rate spread decreased to 2.65% at June 30, 2013 from 2.80% at September 30, 2012. The spread decreased due to a decline in the average rate on loans and investment securities. As of June 30, 2013, the weighted average rate on customer deposit accounts and borrowings decreased by 16 basis points compared to September 30, 2012, while the weighted average rates on earning assets decreased by 31 basis points over the same period.
As of June 30, 2013, the Company had increased total assets by $539,539,000 from $12,472,944,000 at September 30, 2012. For the quarter ended June 30, 2013, compared to September 30, 2012, loans (both non-covered and covered) decreased $39,490,000, or .51%. To help offset the reduced income from loans, investment securities increased $674,731,000, or 22.69%. Cash and cash equivalents of $646,857,000 and stockholders' equity of $1,922,892,000 provides management with flexibility in managing interest rate risk going forward.

LIQUIDITY AND CAPITAL RESOURCES
The Company's net worth at June 30, 2013 was $1,922,892,000, or 14.78% of total assets. This was an increase of $23,140,000 from September 30, 2012 when net worth was $1,899,752,000, or 15.23% of total assets. The Company's net worth was impacted in the nine months ended June 30, 2013 by net income of $108,598,000, the payment of $26,650,000 in cash dividends, treasury stock purchases that totaled $87,037,000, as well as a decrease in other comprehensive income of $8,175,000.
Management believes this strong net worth position will help the Company manage its inherent risks and resultant profitability and provide the capital support needed for controlled growth in a regulated environment. To be categorized as well capitalized, Washington Federal must maintain minimum total risk-based, Tier 1 risk-based and Tier 1 leverage ratios as set forth in the following table.


Table of Contents
                   WASHINGTON FEDERAL, INC. AND SUBSIDIARIES
PART I - Financial Information
Item 2.    Management's Discussion and Analysis of Financial Condition and
Results of Operations



                                                                                                     Categorized as
                                                                                                 Well Capitalized Under
                                                                      Capital                       Prompt Corrective
                                         Actual                 Adequacy Guidelines                 Action Provisions
                                   Capital       Ratio           Capital          Ratio            Capital            Ratio
                                                                       (In thousands)
June 30, 2013
Total capital to risk-weighted
assets                          $ 1,700,116      26.59 %   $     511,521           8.00 %   $      639,401            10.00 %
Tier I capital to risk-weighted
assets                            1,619,714      25.33 %              NA             NA            383,641             6.00 %
Core capital to adjusted
tangible assets                   1,619,714      12.70 %              NA             NA            637,435             5.00 %
Core capital to total assets      1,619,714      12.70 %         382,461           3.00 %               NA               NA
Tangible capital to tangible
assets                            1,619,714      12.70 %         191,230           1.50 %               NA               NA

September 30, 2012
Total capital to risk-weighted
assets                            1,653,760      27.29 %         484,822           8.00 %          606,028            10.00 %
Tier I capital to risk-weighted
assets                            1,577,280      26.03 %             N/A            N/A            363,617             6.00 %
Core capital to adjusted
tangible assets                   1,577,280      12.92 %             N/A            N/A            610,556             5.00 %
Core capital to total assets      1,577,280      12.92 %         366,334           3.00 %              N/A              N/A
Tangible capital to tangible
assets                            1,577,280      12.92 %         183,167           1.50 %              N/A              N/A

CHANGES IN FINANCIAL CONDITION
Available-for-sale and held-to-maturity securities: Available-for-sale securities increased $276,439,000, or 15.5%, during the nine months ended June 30, 2013, which included the purchase of $506,966,000 of available-for-sale securities. There were $43,198,000 of available-for-sale securities sold during the nine months ended June 30, 2013, resulting in no gain or loss. During the same period, there were $821,215,000 of held-to-maturity securities purchased and no sales of held-to-maturity securities. As of June 30, 2013, the Company had net unrealized gains on available-for-sale securities of $5,131,000, net of tax, which were recorded as part of stockholders' equity. The Company increased its available-for-sale and held-to-maturity investment portfolios to help offset some of the lost interest income on maturing and prepaying loans and mortgage-backed securities.
Loans receivable: During the nine months ended June 30, 2013, the balance of loans receivable decreased slightly to $7,390,506,000 compared to $7,451,998,000 at September 30, 2012. This net decrease is a result of the acquisition of $361 million in loans from South Valley offset by declining balances consistent with management's strategy to reduce the Company's exposure to land and construction loans and not aggressively compete for 30 year fixed-rate loans at rates below 4%, due to the duration risk associated with such low mortgage rates. Additionally, during the nine month period, $72,762,000 of loans were transferred to REO. The following table shows the loan portfolio by category for the last three quarters.

Loan Portfolio by
Category *                   June 30, 2013                March 31, 2013              September 30, 2012
Non-Acquired loans                                         (In thousands)
Single-family
residential            $ 5,253,604         67.6 %   $ 5,374,977         68.6 %   $    5,778,922         73.5 %
Construction -
speculative                116,363          1.5         120,617          1.5            129,637          1.6
Construction - custom      237,952          3.1         217,036          2.8            211,690          2.7
Land - acquisition &
development                 85,248          1.1          93,496          1.2            124,677          1.6
Land - consumer lot
loans                      128,745          1.7         130,056          1.7            141,844          1.8
Multi-family               741,870          9.5         725,322          9.3            710,140          9.0
Commercial real estate     398,130          5.1         385,587          4.9            319,210          4.1
Commercial &
industrial                 239,469          3.1         190,598          2.4            162,823          2.1
HELOC                      111,418          1.4         111,622          1.4            112,902          1.4
Consumer                    51,515          0.7          53,956          0.7             63,374          0.8


Table of Contents
                   WASHINGTON FEDERAL, INC. AND SUBSIDIARIES
PART I - Financial Information
Item 2.    Management's Discussion and Analysis of Financial Condition and
Results of Operations



Total non-acquired
loans                    7,364,314         94.8       7,403,267         94.5       7,755,219         98.6
Acquired loans
Single-family
residential                 15,354          0.2          15,428          0.2               -            -
Construction -
speculative                      -            -             177            -               -            -
Construction - custom            -            -             313            -               -            -
Land - acquisition &
development                  3,720            -           3,436            -               -            -
Land - consumer lot
loans                        3,615          0.1           3,819          0.1               -            -
Multi-family                 7,383          0.1           7,714          0.2               -            -
Commercial real estate     162,724          2.1         177,101          2.1               -            -
Commercial &
industrial                  88,768          1.1          96,255          1.3               -            -
HELOC                       11,466          0.1          13,094          0.2               -            -
Consumer                     9,035          0.1          10,046          0.1               -            -
Total acquired loans       302,065          3.8         327,383          4.2               -            -
Credit-impaired
acquired loans
Single-family
residential                    335            -             338            -             342            -
Construction -
speculative                      -            -           1,750            -           1,889            -
Land - acquisition &
development                  2,484            -           2,577            -           3,702          0.1
Multi-family                     -            -               -            -             601            -
Commercial real estate      78,519          1.1          79,868          1.1          87,154          1.1
Commercial &
industrial                   8,606          0.1           2,091            -           3,292            -
HELOC                       12,015          0.2          12,757          0.2          14,040          0.2
Consumer                        79            -              81            -              97            -
Total credit-impaired
acquired loans             102,038          1.4          99,462          1.3         111,117          1.4
Total loans
  Single-family
residential              5,269,293         67.8       5,390,743         68.8       5,779,264         73.5
  Construction -
speculative                116,363          1.5         122,544          1.5         131,526          1.6
  Construction -
custom                     237,952          3.1         217,349          2.8         211,690          2.7
  Land - acquisition &
development                 91,452          1.1          99,509          1.2         128,379          1.7
  Land - consumer lot
loans                      132,360          1.8         133,875          1.8         141,844          1.8
  Multi-family             749,253          9.6         733,036          9.5         710,741          9.0
  Commercial real
estate                     639,373          8.3         642,556          8.1         406,364          5.2
  Commercial &
industrial                 336,843          4.3         288,944          3.7         166,115          2.1
  HELOC                    134,899          1.7         137,473          1.8         126,942          1.6
  Consumer                  60,629          0.8          64,083          0.8          63,471          0.8
Total loans              7,768,417          100 %     7,830,112          100 %     7,866,336          100 %
Less:
Allowance for probable
losses                     118,104                      122,884                      133,147
Loans in process           189,677                      189,336                      213,286
Discount on acquired
loans                       37,568                       40,346                       33,484
Deferred net
origination fees            32,562                       33,330                       34,421
                           377,911                      385,896                      414,338
                       $ 7,390,506                  $ 7,444,216                  $ 7,451,998


 ____________________


* Excludes covered loans


Table of Contents
WASHINGTON FEDERAL, INC. AND SUBSIDIARIES
PART I - Financial Information
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations

Covered loans: As of June 30, 2013, covered loans increased 7.6%, or $2,002,000 to $310,378,000, compared to September 30, 2012, due to acquisition of FDIC covered loans as part of the South Valley acquisition described in Note B. Non-performing assets: Non-performing assets, which excludes discounted acquired assets, decreased during the quarter ended June 30, 2013 to $233,403,000 from $272,905,000 at September 30, 2012, a 14.5% decrease. The continued elevated level of NPAs is a result of the significant decline in housing values in the western United States and the national recession which began in 2007. Non-performing assets as a percentage of total assets was 1.79% at June 30, 2013 compared to 2.19% at September 30, 2012. This level of NPAs remains significantly higher than the 0.96% average in the Company's 28+ year history as a public company.
The following table sets forth information regarding restructured and non-accrual loans and REO held by the Company at the dates indicated.


Table of Contents
                   WASHINGTON FEDERAL, INC. AND SUBSIDIARIES
PART I - Financial Information
Item 2.    Management's Discussion and Analysis of Financial Condition and
Results of Operations



                                         June 30,                      September 30,
                                           2013                             2012
                                                      (In thousands)
Restructured loans:
Single-family residential     $    362,753            87.4 %   $    361,640            83.4 %
Construction - speculative          11,136             2.7           15,907             3.7
Construction - custom                1,196             0.3            1,196             0.3
Land - acquisition &
development                          7,367             1.8           14,985             3.5
Land - consumer lot loans           13,241             3.2           13,782             3.2
Multi - family                       8,480             2.0           17,507             4.0
Commercial real estate               9,684             2.3            7,377             1.7
Commercial & industrial                  -               -                -               -
HELOC                                1,089             0.3              884             0.2
Consumer                                11               -                -               -
Total restructured loans (1)       414,957             100 %        433,278             100 %

Non-accrual loans:
Single-family residential          104,252            70.1 %        131,193            75.7 %
Construction - speculative           3,776             2.5           10,634             6.1
Construction - custom                    -               -              539             0.3
Land - acquisition &
development                          9,586             6.4           13,477             7.8
Land - consumer lot loans            3,712             2.5            5,149             3.0
Multi-family                         6,653             4.5            4,185             2.4
Commercial real estate              14,348             9.7            7,653             4.4
Commercial & industrial              5,072             3.4               16               -
HELOC                                  871             0.6              198             0.1
Consumer                               385             0.3              383             0.2
Total non-accrual loans (2)        148,655             100 %        173,427             100 %
Total REO (3)                       73,084                           80,800
Total REHI (3)                      11,664                           18,678
Total non-performing assets   $    233,403                     $    272,905
Total non-performing assets
and performing restructured
loans as a percentage of
total assets                          4.80 %                           5.42 %
(1)  Restructured loans were
as follows:
Performing                    $    391,754            94.4 %   $    403,238            93.1 %
Non-accrual *                       23,203             5.6           30,040             6.9
                              $    414,957             100 %   $    433,278             100 %

* Included in "Total non-accrual loans" above

(2) The Company recognized interest income on nonaccrual loans of approximately $2,215,000 in the nine months ended June 30, 2013. Had these loans performed according to their original contract terms, the Company would have recognized interest income of approximately $6,201,000 for the nine months ended June 30, 2013.

In addition to the nonaccrual loans reflected in the above table, at June 30, 2013, the Company had $120,733,000 of loans that were less than 90 days delinquent but which it had classified as substandard for one or more reasons. If these loans were deemed non-performing, the Company's ratio of total NPAs and performing restructured loans as a percent of total assets would have increased to 5.73% at June 30, 2013.


Table of Contents
WASHINGTON FEDERAL, INC. AND SUBSIDIARIES
PART I - Financial Information
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations

(3) Total REO and REHI (included in real estate held for sale on the Statement of Financial Condition) includes real estate held for sale acquired in settlement of loans or acquired from purchased institutions in settlement of loans. Excludes covered REO.

Restructured single-family residential loans are reserved for under the Company's general reserve methodology. If any individual loan is significant in balance, the Company may establish a specific reserve as warranted.

Most restructured loans are accruing and performing loans where the borrower has proactively approached the Company about modifications due to temporary financial difficulties. Each request is individually evaluated for merit and likelihood of success. Single-family residential loans comprised 87.4% of restructured loans as of June 30, 2013. The concession for these loans is typically a payment reduction through a rate reduction of from 100 to 200 bps for a specific term, usually six to twelve months. Interest-only payments may also be approved during the modification period.
For commercial loans, six consecutive payments on newly restructured loan terms are required prior to returning the loan to accrual status. In some instances after the required six consecutive payments are made, a management assessment will conclude that collection of the entire principal balance is still in doubt. In those instances, the loan will remain on non-accrual. Homogeneous loans may or may not be on accrual status at the time of restructuring, but all are placed on accrual status upon the restructuring of the loan. Homogeneous loans are restructured only if the borrower can demonstrate the ability to meet the restructured payment terms; otherwise, collection is pursued and the loan remains on non-accrual status until liquidated. If the homogeneous restructured loan does not perform it will be placed in non-accrual status when it is 90 days delinquent.
A loan that defaults and is subsequently modified would impact the Company's delinquency trend, which is part of the qualitative risk factors component of the general reserve calculation. Any modified loan that re-defaults and is charged-off would impact the historical loss factors component of our general reserve calculation.
Allocation of the allowance for loan losses: The following table shows the allocation of the Company's allowance for loan losses at the dates indicated.

                                     June 30, 2013                                      September 30, 2012
. . .
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