WaFd, Inc. (WAFD) Earnings Call Transcript

Good day, and welcome to WaFd, Inc.'s Third Quarter Fiscal 2026 Results Conference Call. Please be advised that today's conference is being recorded. I would now like to hand the call over to Brad Goode, Chief Marketing Officer and Investor Relations Manager. Please go ahead.

Thank you, Michelle. Good morning, everybody. Thanks for joining us. Let's dive into our 2026 third quarter earnings report. You can find our earnings press release along with the detailed fact sheet and on our website at wbank.com. During today's call, we'll make forward-looking statements, which are subject to risks and uncertainties that are intended to be covered by the safe harbor provisions of federal securities law. Information on risk factors that could cause actual results to differ are available from the earnings press release that was released yesterday and the Form 10-K for the fiscal year ended September 30, 2025. Forward-looking statements are effective only as they are made, and WileFed assumes no obligation to update information concerning its expectations. We will also reference non-GAAP financial measures, and I encourage you to review the non-GAAP reconciliations provided in our earnings materials. With us this morning are President, Brent Beardall; Chief Financial Officer, Kelli Holz; and Chief Credit Officer, Ryan Mauer. I'd now like to hand the call over to Mr. Brent.

Thanks, Mr. Goode. Good morning, and thank you for joining us this morning. I am pleased to report on our third quarter results. I see that the market has started to reward our shareholders with a significant uptick in our stock price over the last few months. This morning, we will cover 4 areas. First, Kelli Holz, our CFO, will provide you with a detailed review of our balance sheet and income statement and all of the fluctuations. Second, Ryan Mauer, our Chief Credit Officer, will provide comments on the current status of our loan portfolio and credit quality trends. Then I will provide my insight on the quarter, potential for growth, capital management strategies and regulatory developments. Finally, we will be happy to answer any questions you have. Kelli, please walk us through the third quarter results we published yesterday.

Thank you, Brent. As announced, Waet Inc. reported net income available to common shareholders of $62.5 million or $0.84 per diluted share for the quarter ended June 30, 2026. This compares to net income to common shareholders of $0.73 per share for the third quarter of fiscal 2025 and $0.82 per share for the March 2026 quarter. The $0.02 increase in earnings per share for the quarter was a result of a modest increase in net interest income and noninterest income as well as controlled expenses, offset by an increased loan loss provision. For the balance sheet, loans receivable increased $51 million during the quarter, primarily due to an increase in our active loan types. which are commercial real estate, multifamily, construction and C&I and consumer, which combined increased by $315 million. Loan originations and advances in the quarter outpaced repayments and payoffs in our active loan types with originations of $1.5 billion and repayments and payoffs of $1 billion. For the inactive loan type, advances were $23 million with repayments and maturities of $299 million. The weighted average rate on originations for the quarter, and the weighted average rate on repayments and payoffs was 6.06%. Please see the table on our fact sheet that provide a breakdown between active and inactive loan types. Total investments in mortgage-backed securities decreased $50 million during the quarter, a result of shifting our strategy of replacing single-family loan runoff from mortgage-backed securities to funding our higher-yielding loan origination pipeline. Also during the quarter, we sold $77 million of securities from our available-for-sale portfolio at a net gain of $110,000. The gains realized on the close-to-roll legacy ARMs were offset partially by losses on low coupon CMOs. The proceeds were reinvested into current coupon ARMs and mortgage-backed securities at a similar mix with limited impact on portfolio duration and will result in a go-forward pickup in yield on the trade of 1.75% or $1.3 million annually. Total deposits decreased by $192 million during the quarter with noninterest-bearing deposits increasing $69 million or 2.7%. Interest-bearing deposits decreased slightly by $70 million or just under 1% and time deposits decreased $191 million or 2.3%. Deposit outflows in the second calendar quarter are an expected result of tax-related and public fund municipal deposit dynamics. Core deposits ended the quarter at 80.6% compared to the March quarter at 80.4% of total deposits and up from December 2025 at 77.9%. Noninterest-bearing deposits ended the quarter at 12.6% of total deposits. The loan-to-deposit ratio ended the quarter at 95.6% WasFed's capital profile remains strong. We estimate our CET1 ratio at quarter end to be 11.4% and our total risk-based capital ratio to be 14.4%, in line with the prior quarter ratios. In March 2026, federal banking regulators reproposed revisions to the Basel III end-game capital framework, which remains subject to finalization following the close of the industry commentary in June of 2026. Based on management's review and analysis using our March 31, 2026 data, we estimate the revised framework finalized could reduce risk-weighted assets by approximately 1.5%, representing an estimated $300 million of total risk-based capital relief. We will continue to evaluate this opportunity as the rule is finalized. Our understanding is that implementation could be the end of this calendar year. should benefit more peer banks with this proposed capital rule change of our large concentration of single-family loans. Liquidity is strong with $4.8 billion of on-balance sheet liquidity, a robust core funding base and significant off-balance sheet borrowing capacity. For the income statement, net interest income increased $3.8 million from the prior quarter, the effect of a basis point improvement in both the interest paid on liabilities and interest earned on assets. As a result, the net interest margin held steady at 2.81%, no change from the March 31 quarter. On a linked quarter comparison, -- we realized a 4 basis improvement with deposit rates, 3 basis point improvement with loan rates, a 2 basis point decrease with borrowing rates and a 3 basis point decrease for the day count quarter-over-quarter, 91 days this quarter compared to 90 days in March. A reminder, about 50% of our loans and 75% of our securities are on a 360. For swap rate as of the June quarter end, the yield on interest-earning assets was 5.12%, while the cost of interest-bearing liabilities was 2.77% and the margin at 0.82%. Absent any changes in interest rates, we expect our margin to be relatively flat for the next quarter, acknowledging day count as well as the funding of loan growth and deposit activity. As of June 30, the balance of the deferred income on the interest rate mark for the Luher portfolio was $160 million. Currently, this is being accreted into income at a rate of $6 million per quarter. We expect this to accelerate as the to repay. For the adjustable rate hybrid loans portfolio, which represent 85% of the outstanding balance and 66% of the remaining discount, the reset is just under 11%. Total noninterest income increased $4.4 million compared to the prior quarter to $24.2 million. Contributing to noninterest income was $3.2 million gain on sale of a branch property, net gains of $48,000 for certain equity method investments in the quarter compared to losses of $1.1 million realized in the prior quarter for these investments. Total noninterest expense was stable at $110 million compared to the March quarter. The company's efficiency ratio for the June quarter was 53.7% compared to 55.7% in the prior quarter. Income tax expense totaled $18.2 million for the June quarter compared to $18.3 million for the linked March quarter. The effective tax rate for the June quarter was 21.6% compared to 21.8% for the quarter ended March 31. During the quarter, we purchased $9.2 million of federal energy tax credits and have committed to a 4-year investment in similar tax credits, which reduces our tax expense and effective tax rate. We expect our effective tax rate to be approximately 21.8% for fiscal year 2026. I will now turn the call over to Ryan to share his comments on WaFd's credit quality.

Thank you, Kelly, and good morning, everyone. As reflected in our earnings release, we had a solid quarter of new loan production along multiple business lines. As Kelly indicated, total production in our active portfolio was $1.5 billion for the June quarter. This loan production was centered in commercial and industrial of 49%, commercial real estate of 10% and construction of 27%. We were able to achieve this level of production utilizing a consistent approach to underwriting and managing to a moderate risk profile. Adversely classified loans increased nominally during the quarter and now represents 2.59% of net loans compared to 2.6% as of the March 2026 quarter and 3.54% as of June 2025. Total criticized loans increased by $139 million to 4.9% of net loans compared to 4.2% as of the March quarter and 4.1% as of June 2025. The increase in criticized loans is not concentrated in any one business line in our industry and the economic environment where elevated interest rates and economic uncertainty impact both commercial and consumer borrowers. In addition, criticized does not imply that loss exposure exists. Rather, it is a representation that the borrower is experiencing some level of financial stress that needs to be addressed. Nonperforming assets increased slightly to $136 million or 0.49% of total assets from $132 million or 0.48% at March 31, 2026. The change is the result of increased nonaccrual loans, largely in the C&I segment. Delinquent loans decreased to 0.75% of total loans at June 30, 2026, compared to 0.78% at March 31, 2026, and increased from 0.36% at June 30, 2025. While criticized assets are elevated in comparison to periods, the overall credit metrics remain modest Waed's loan loss reserve and capital position and are indicative of our culture of early and proactive portfolio management. It is important to note here that delinquencies and nonperforming assets remain impacted by a large commercial and industrial relationship over 90 days past due. Outstanding balances for this relationship amounts to $54 million. This relationship remains on nonaccrual per policy. There has been no charge-off taken at this time, but the relationship has been downgraded to doubtful with anticipated sale of the business to occur prior to quarter ending September 30, 2026. If nonperforming assets and delinquencies were adjusted for this relationship, NPAs would be 0.3% of total assets compared to 0.6% at September 30, 2025, and delinquencies would be 0.48% of total loans compared to 0.6% at September 2025. The net provision for credit losses in the quarter was $11 million. The provision was a result in growth in the active loan portfolio, specifically C&I and construction loans in addition to concerns related to possible losses on adversely classified loans. $1.6 million of net charge-offs were paid during the quarter. Net loan charge-offs for the June 2026 quarter represented a nominal 3 basis points annualized. The allowance for credit losses, including the reserve for unfunded commitments, provides coverage of 1.08% of gross loans at June 30, 2026, compared to 1.03% in June 2025. For the commercial loan portion of the portfolio, the allowance represents 1.41% of net loans compared to 1.26% as of June 2025. Overall, while still elevated from prior quarters, credit metrics at June quarter remain at moderate levels overall and continue to be impacted by 2 primary drivers. First, the elevated interest rate environment has impacted borrowers expense structures. Second, the economic uncertainty driven by tariffs and inflation with further impact by war in the Middle East and energy supply shocks will continue to impact borrowers' top line revenue as well as increased operating costs. Looking forward, these factors remain headwinds for credit quality. With that, I will turn the call over to Brent for his comments.

Thank you, Ryan. For years, we have said that we try not to pay too much attention to the stock price, knowing we cannot control the market, but we instead focus on what we can control, our profitability and the resultant increase in book value per share. That being said, the stock price is the most visible indicator for employees and customers to look at and see how is the bank doing. We were pleased to see the stock provide a 23% total shareholder return for the quarter. It is important to note that we still believe the stock is trading at a relative discount to peers. We are trading at 11.7x estimated forward earnings and 1.25x tangible book value. By comparison, the S&P Regional Bank Index is at 11 or 12x earnings and 1.7x tangible book value. Having not only survived but thrived in the banking business for 109 years now, we tend to focus on the long term. It is amazing to see the power of consistency and compounding. WaFed went public on November 9, 1982. And since that time, the total shareholder return, if dividends were reinvested in the stock along the way, has been over 39,000%. To put it another way, a $10,000 investment in 1982 is now worth $3.9 million, not bad for a bank that simply works every day to be there for our clients, believing it is not mutually exclusive to add value for our clients and to deliver a reasonable return for our shareholders. Now looking at the fundamentals of this last quarter. The headline news for this quarter is again loan growth. After over a year of seeing our loan portfolio contract, these past 2 quarters saw a growth in the overall loan portfolio. More impressive, in my opinion, we saw 10% net linked quarter growth in the active loan portfolio, which followed 12% growth in the March quarter. If you include yet to be funded loans, gross active loans outstanding increased by 14% on a linked-quarter basis. I am to report that the biggest contributor to that growth from a percentage standpoint is C&I lending. This quarter, C&I originations were $741 million or 49% of total originations for the quarter. Bottom line results for the quarter, as Kelly mentioned, improved with EPS growth of 2.4% on a linked quarter basis and a very nice 15% year-over-year growth in EPS. We work hard to originate good, high-quality loans, but we recognize that C&I loans, commercial and industrial loans carries with them more credit risk than our traditional single-family residential lending. So we set aside more in our allowance for credit losses this quarter, taking our overall coverage ratio from 105 basis points to 108 basis points. Big picture, we are hearing from our clients that most projects still are not penciling given the current cost and projected cash flows. We applaud this kind of discipline, and we think it speaks to our client selection. As you can see, we are growing our construction loans with loans in process increasing 12% on a linked-quarter basis, but it is still just a fraction, only 38% of the LIP we had just 4 years ago. Our strategic plan called Build 2030 is designed to fully shift our focus to where we can add the most value to our clients and shareholders, serving the banking needs of businesses. This shift takes time, discipline and effort and comes with specific goals. The most important goal is increasing our noninterest-bearing deposits to total deposits from 11% last year up to 20% by 2030, and we are sitting here today at 12.6%. It is an ambitious goal, but it is what we need to do that will also drive increased loan demand and branch utilization. The way our peers have achieved their lower cost of funds is focused on serving small businesses, which is exactly what we are doing. As for deposits, we are swimming into a current. We have 2 macro trends that are moving against us. First, the amount of noninterest-bearing deposits in the market overall are decreasing. For the FDIC, after peaking at just over 30% of all U.S. commercial banking deposits in 2021, as rates increased, the percentage of noninterest-bearing deposits in the market has decreased to 22%. So it decreased from 30% down to 22% in overall noninterest-bearing deposits. In my opinion, this is reflective of the intense competition and pervasive technology that makes it easier for customers to move their deposits to higher-yielding alternatives. Additionally, with the incredible run the U.S. equity market has had over the last few years, more and more customers are willing to take equity risk. Second, aggregate deposits in the U.S. are growing for the largest 25 banks and are flat to down for all other banks. For the Federal Reserve's H8 data, which was just released, year-to-date, the 25 largest banks net deposit growth now stands at 5.5%, while all other bank deposits have posted a 0.78% contraction. This is the most concerning trend from my perspective and the level playing field in the United States as it comes to the perception of safety. Our regulatory complex has failed to rid our system of too big to fail. And in fact, it has only gotten worse over the last 20 years post the GFC. Now too big to fail is seen by some as a badge of honor for deposits that have large balances in excess of FDIC coverages. This is a problem for all banks in my opinion, and I applaud the members of Congress that are attempting to address this law. If we want a broad and diverse banking system, some needs to change. If not, the consequences will be large-scale consolidation in the banking industry. None of that is an excuse. It is just our current reality. We can and will do hard things. We believe pursuing a strategy of attracting low-cost deposits is the right thing for shareholders and our clients. The key from my perspective is growth in direct C&I loans, specifically from small businesses supported by growth in CRE loans and large corporate loans while running bank. I'm very pleased to see our efficiency ratio improved nicely this quarter to 53.7% from 55.6% last quarter and 56% in the same quarter last year. This comes as a result of controlled investments in our operating expenses and growth in our net interest income. Our objective is to deliver the efficiency ratio in the 50% to 55% range. We believe that this allows us to continue to make the necessary investments in our products and our teams to deliver for our clients while striking the balance needed to deliver a reasonable return to our shareholders. Looking forward, our lending pipeline continues to be robust, building on a very strong third quarter of $1.5 billion of originations. Looking at our pipeline, we're lending -- our business banking segment is up 9.3% from the prior quarter to $280 million. Our Commercial Real Estate segment is down 9.6% and down to $2.4 billion in limit pipeline, and our corporate banking is down 19% to $314 million, given the large fundings they had at the end of last quarter. Overall, our lending pipeline is strong at $2.9 billion, which is down 9%. On the deposit side, our deposit pipeline is actually up 250% with a deposit pipeline of $103 million for the Business Banking segment. The Commercial Real Estate Banking segment has new deposits in the pipeline of $22.3 million and the quarter has $131 million in our deposit pipeline. Likewise, we see strong fees coming with fee income and our pipeline of new loans at 11.1%, up 29%. We believe that we have the products and the teams in place to continue to grow our active loan portfolio by 8%, 12% going forward. Now looking at the margin. As Kelly mentioned, based on the current interest rate environment, we would expect our margin to be fairly stable for the next couple of quarters, but we have clearly seen a change in terms of market expectation for interest rates over the last couple of months. Whether that is attributable to the high inflation, geopolitical risk or the new Fed share, there's not a clear. There is now a clear market bias toward higher rates and that is reflected in increased long-term rates we are seeing. What does that mean for moped margin going forward? As you know, we endeavor to run a neutral interest rate risk position in our balance sheet, but we are asset sensitive over the short run as our assets contractually reprice faster than our liabilities. So all else being equal, I would expect increasing short-term interest rates to be a positive for the margin over the short term. Turning to capital with a nice uptick in our stock price over the last quarter, we paused our stock repurchases. This is a recognition of the significant amount of repurchases completed earlier in the year. For the fiscal year, we've repurchased 4.7 million shares at a price of $3.99 and or 101% of tangible book value with the stock trading today in the $38 to $39 range. This has proven to be an excellent investment. We will continue to be opportunistic with our share repurchases and known we have plenty of capital for both share repurchases and organic growth. Turning to M&A. Within the last week, we saw the purchase of a $10 billion asset, West Coast Bank and what I would describe as a full price for a high-quality franchise. It's sold at almost 2x tangible book value. I think there will be an increasing amount of M&A over the next 2 years, which is in recognition of the benefits of scale and also the difficult operating environment I described earlier. We are always looking at opportunities. and we will be proactive and protective of our shareholders, not wanting to overly dilute existing shareholders just to do a deal. We would prefer not to do any deal rather than overpay relative to our own currency. Big picture, I'm very pleased with the progress our team is making in growing loans and changing the mix of our deposits while becoming more efficient and delivering 11% return on tangible common equity. Not knowing about the future holds, I am pleased with how WaFd is positioned to capitalize on the opportunities going forward. We have had a strong track record and our job is to continue to deliver for all our commitments. Finally, I want to acknowledge and thank all of the incredible bankers that call WaFd home and make these results possible. Our most valuable asset is our team. We have bankers that care and want to serve our clients. With that, we are happy to answer your questions.

[Operator Instructions] Our first question comes from Jeff Rulis with D.A. Davidson.

I appreciate the comments on the growth outlook. Just wanted to kind of narrowing on the maybe net growth expectations through fiscal '27. I guess if you think about the active portfolio in the 10% growth area range and then inactive continues at the pace of attrition. I guess on net is a low single-digit growth for the I guess, the near term? Is that a fair assumption?

Yes. Jeff, thanks for joining us. I think that's a fair assumption, but as I've talked about before, we kind of think about our single-family portfolio almost like on portfolio. So you almost have to take into account what's happened with the securities in that. So if you just look at themselves, all in net single digits would be reasonable. We can augment that with mortgage-backed purchases if you would use to reiterate is inclined to do that.

Got it. And then on the margin, you got the outlook of stable. I wondered, is the bank accretion included in that? And then also, does that incorporate maybe some of the tailwinds. I think Kelly walked through some of the securities routes. But I just want to see if that accretion in the securities, maybe the tailwinds there, if that's all inclusive in that stable margin outlook.

Yes. It is all oppositive in that stable margin outlook that is not imposed if we have a pickup in the repayments on the rent portfolio, right now, of the $160 million that we have sitting on the balance sheet, we're only taking in, I think, $6 million to $7 million per quarter. So those picked up, that would be the positive side on our margin.

And Brent, sounds like if rate hikes that's also an added positive should that play out?

I think that's correct. Our stable margin is not making a position on ways. Clearly market seems to be calling for rates we're not smart enough to be able to what is going to happen with interest rates.

Our next question comes from Matthew Clark from Piper Sandler.

I wanted to start on the large C&I nonperformer that's been on the books and expected to sell this coming quarter. Do you have any reserves set aside on that current relationship. Was any of the reserve build quarter assigned to that? And if not, you adding reserves to, I guess, within the it looked like the reserve went up about 15 bps there was any of that specific.

Good question, and I'll let Ryan kick off on that. Go ahead, Ryan.

Yes, Matt, good question on this. We do not have any specific reserves assigned to that relationship. Generally speaking, we do not apply specific reserves. What we do have in this is general reserves and the increase in our general reserve was in part because of this the loan itself. Obviously, it will be resolved by the end of the quarter through a sale. And yes so at this point, that's driving the increase in orders.

Yes. And also associated with that, we have moved the loan from standard to doubtful. So it's on our minds and yes, that was a portion of the reserve build and see no question about it. But overall, we believe we are reserved for us over $203 million of allowance for loan loss today.

Okay. Great. And then on the C&I production this quarter, the $741 million, can you give us the average size of that production and where your club and SNC outstanding stood at the end of June, I think there were $725 million at the end of March.

Yes. I don't know if we have that -- they were happy to follow up with you on that. But Kelly, if you have the average size of our production today, it's fairly good because of the for small business loans we're originating. But if we don't have what we call Kelly, do you have that today?

I don't have a specific number, but it hasn't changed materially since what we provided for the March quarter. I could follow up with the update for you.