Oscar Gutierrez Zozulia
Investment Thesis
TFS Financial Corporation (NASDAQ:TFSL) is a retail consumer banking business that deals in deposit gathering, mortgage lending, and other financial services. It has managed to sustain its solid performance despite the macroeconomic headwinds which is reflected through its financial result. The company’s operational efficiency & resilient portfolio can further help it to increase its profit margins and sustain its high dividend payout.
About TFSL
TFSL deals in retail consumer banking, mainly comprising deposit gathering, mortgage lending, and other financial services. It serves its customers mainly through two subsidiaries: Third Capital Inc, and Third Federal Savings & Loan Association of Cleveland. TFSL owns assets of $15.8 billion. Its operations are widely spread across geographic regions of Ohio, Florida, and California. The company’s primary lending activity includes Residential Real Estate Mortgage loans which further comprise both fixed and adjustable-rate mortgage loans up to $1 million. It also deals in offering Home Equity Loans & Home Equity Lines of Credit. The Residential Loan represents 80.4% of the company’s total loan portfolio. These loans are mainly backed by a second mortgage on residences. Home Equity Loans totaled $26.1 million and represent 18.4% of the company’s total loan portfolio. It lends Construction Loans to individuals for constructing a personal single-family residence. Construction loans totaled $121.8 million and represent 0.8% of the company’s total loan portfolio. The firm provides a wide range of retail deposit accounts with different terms and interest rates. Its retail deposit accounts include money market accounts, savings accounts, checking accounts, individual retirement accounts, CDs, and other qualified plan accounts.
Financials
TFSL recently reported its quarterly results. It reported interest & dividend income of $156.7 million which is growth of 52.4% compared to $102.8 million in last year’s same period. It reported net income of $17.6 million which is rise of 2.65% compared to $17.1 million in Q3FY22. A significant decrease in the non-interest expenses also led to a sequential increase in the net income by 10.65% compared to Q2FY23. Non-interest expenses stood at $52.9 million. TFSL reported a diluted EPS of $0.06 for Q3FY23. The firm managed to add residential mortgage loans of $490 million with an average yield of 5.69% and total assets stood at $16.59 billion. Net interest income dropped by 3.53% YoY from $71.30 million to $68.77 million. Balances and yields on interest-earning assets expanded throughout the quarter, however, this was more than offset by a rise in funding costs. It also declined by 2.11% QoQ as the interest rate spread declined from 1.56% to 1.50% compared to the previous quarter. Total deposits for the quarter stood at $9.07 billion. TFSL reported $436.2 million in liquidity in Q3FY22.
The industry was affected severely due to the macroeconomic pressures however, the company has managed to perform well despite the headwinds. Although interest rates are rising as a result of the Fed’s action to fight inflation, the company’s net income was not affected much. It was observed that the company has decent growth in its loan portfolio and has also managed to increase its deposit levels. This growth was mainly induced by a significant reduction in non-interest expenses and the company’s operational efficiency. Its diverse portfolio covering 25 states and D.C. has also contributed to the stabilized results. Recently, the demand for mortgages has been positive due to an increase in the sales of new homes which I believe can help the company to deliver strong results in the future by addressing the market demand. I think, as inflation falls slowly, it can reduce interest rates and help the company to expand its profit margins by originating additional mortgage loans. Its strong liquidity positions and resilient portfolio makes it well-positioned in the competitive market and help it to capture additional market share despite the uncertainty in the economy. Once inflation pressures are reduced, interest rate hikes may slow, and it may also help to reduce delinquencies and loan defaults. As the company grows it can also increase its cash flow which can ultimately help it to increase its dividend payout.
Loan Balance by Product Type (Investor Presentation: Slide No:9)
Dividend Yield
TFSL has a long and remarkable record of dividend payouts. The company has paid dividends to its shareholder for the last 7 consecutive years which shows the consistency of dividend payment. In FY2022, the firm paid cash dividend of $0.2825 in each of the four quarters. This dividend payout totaled $1.13 per share annually resulting in a dividend yield of 7.66% (share price: $14.75). As it managed to maintain its growth in FY2023, it paid a $0.02825 per share dividend in first three quarters. Observing the company’s strong cash positions, positive demand for mortgage loans, and dividend history, I believe it can maintain its quarterly dividend of $0.2825 in the last quarter as well. The quarterly dividend payment of $0.2825 is equivalent to annual dividend payment of $1.13 or forward dividend yield of 7.66% compared to current share price. The company’s 4-year average dividend yield is 6.94% which is 114.79% higher than 4-year average sector median dividend yield of 3.39%. TFSL’s forward dividend yield is 11.52% higher than its 5-year average dividend yield. This appealing dividend yield makes the firm an attractive stock to hold in the portfolio to mitigate the recessionary impacts.
What is the Main Risk Faced by TFSL?
The company’s performance highly relies on changes in economic conditions which can result in reduced demand for its products and services. Negative changes in the national or regional economic conditions can lead to weak local economies and can further cause defaults of mortgage loans due to changes in borrowers’ ability to repay the loan. These scenarios can affect the company’s cash flows and increase its level of non-performing loans by contracting its profit margins.
Conclusion
The company has managed to deliver strong financial results despite the rising interest rates. This growth was mainly fueled by a high reduction in non-interest expenses and its increased operational efficiency. However, it is exposed to the risk of changes in economic conditions which can contract its profit margins to some extent resulting from delinquencies. As per my analysis, the company’s resiliency and diversified portfolio can help it to grow rapidly once the inflationary pressures are reduced and interest rates decline. Further, this growth can help the company to sustain its high dividend payout which makes it attractive stock to hold in portfolio to earn fixed regular income along with capital appreciation. Considering all these factors, I assign a buy rating to TFSL.
