Axos Financial(AX) - 2022 Q4 - Annual Report

Business Overview Axos Financial, Inc. is a diversified financial services holding company with over $17.4 billion in assets, focused on technology-driven growth and strong financial targets Company Profile and Strategy Axos Financial, Inc. is a diversified financial services holding company with over $17.4 billion in assets, focused on technology-driven growth and strong financial targets - As of June 30, 2022, Axos Financial had total assets of $17.4 billion, loans of $14.1 billion, and deposits of $13.9 billion[10] - The company's long-term business objectives include maintaining an annualized return on average common stockholders' equity of 17.0% or better, increasing average interest-earning assets by 12% or more annually, and maintaining an annualized efficiency ratio at the Bank of 40% or lower[12] Business Segments The company operates through its Banking Business, offering diverse digital services, and its Securities Business, providing clearing, custody, and advisory services Banking Business The Banking Business offers a wide range of online and concierge banking, lending, and specialized deposit products, primarily through digital channels - The Banking Business provides a wide range of services including online and concierge banking, mortgage, vehicle, and unsecured lending, focusing on deposit products for specific industry verticals and commercial lending[14] - The bank utilizes diverse distribution channels, including a national online brand, affinity groups, a commercial banking division, a remote lending sales force, and specialized fiduciary services to generate loans and deposits[19] Securities Business The Securities Business, through Axos Clearing and Axos Invest, provides clearing, custody, and digital advisory services to financial organizations and retail customers - The Securities Business, through Axos Clearing, offers fully disclosed clearing services to 275 financial organizations, including broker-dealers and RIAs, as of June 30, 2022[72] - Through Axos Invest, the company provides both self-directed trading and digital advisory services to retail customers, integrated into its universal digital banking platform[75] Loan Portfolio The company's diverse loan portfolio, concentrated in Commercial Real Estate and California, shows strong commercial growth with a conservative 56% weighted average LTV Loan Portfolio Composition (in thousands) | Loan Type | 2022 Amount (in thousands) | 2022 Percent | 2021 Amount (in thousands) | 2021 Percent | 2020 Amount (in thousands) | 2020 Percent | | :--- | :--- | :--- | :--- | :--- | :--- | :--- | | Single Family - Mortgage & Warehouse | $3,988,462 | 28.0% | $4,359,472 | 37.8% | $4,722,304 | 44.2% | | Multifamily and Commercial Mortgage | $2,877,680 | 20.2% | $2,470,454 | 21.4% | $2,263,054 | 21.1% | | Commercial Real Estate | $4,781,044 | 33.5% | $3,180,453 | 27.5% | $2,297,920 | 21.5% | | Commercial & Industrial - Non-RE | $2,028,128 | 14.2% | $1,123,869 | 9.7% | $885,320 | 8.3% | | Auto & Consumer | $567,228 | 4.0% | $362,180 | 3.1% | $341,365 | 3.1% | | Other | $11,134 | 0.1% | $58,316 | 0.5% | $193,479 | 1.8% | | Total loans held for investment | $14,253,676 | 100.0% | $11,554,744 | 100.0% | $10,703,442 | 100.0% | - The real estate mortgage loan portfolio is heavily concentrated in California, which accounts for 45.4% of the total portfolio (35.2% in Southern California and 10.2% in Northern California), with New York as the next largest concentration at 26.0%[39] Loan-to-Value (LTV) Ratios by Portfolio at June 30, 2022 | | Total Real Estate Mortgage Loans | Single Family - Mortgage & Warehouse | Multifamily and Commercial Mortgage | Commercial Real Estate | | :--- | :--- | :--- | :--- | :--- | | Weighted Average LTV | 56% | 57% | 53% | 58% | | Median LTV | 54% | 56% | 50% | 26% | - The bank's lending limit to a single borrower was $258.8 million as of June 30, 2022, with the largest outstanding loan balance being $190.0 million[45] Deposit Portfolio Total deposits reached $13.9 billion as of June 30, 2022, driven by strong growth in non-interest-bearing deposits, with the average rate paid on interest-bearing deposits decreasing Total Deposits by Type (in thousands) | Deposit Type | June 30, 2022 (in thousands) | June 30, 2021 (in thousands) | June 30, 2020 (in thousands) | | :--- | :--- | :--- | :--- | | Non-interest-bearing | $5,033,970 | $2,474,424 | $1,936,661 | | Interest-bearing demand | $3,611,889 | $3,369,845 | $3,456,127 | | Savings | $4,245,555 | $3,458,687 | $3,697,188 | | Time deposits | $1,055,008 | $1,512,841 | $2,246,718 | | Total deposits | $13,946,422 | $10,815,797 | $11,336,694 | - The average rate paid on total interest-bearing deposits decreased to 0.42% in fiscal year 2022, compared to 0.67% in 2021 and 1.73% in 2020[66] - At June 30, 2022, consumer and business deposits represented 53.7% and 46.3% of total deposits, respectively[60] Funding and Borrowings Axos utilizes FHLB advances, lines of credit, and subordinated notes for funding, with significant borrowing capacity and recent subordinated note issuances - As of June 30, 2022, the bank had $117.5 million in FHLB advances outstanding, with an additional $2.0 billion immediately available and a further $3.9 billion available with additional collateral[77] - The bank has access to the Federal Reserve Bank discount window with a total borrowing capacity of approximately $2.8 billion as of June 30, 2022, none of which was outstanding[78] - In February 2022, the company issued $150.0 million of 4.0% Fixed-to-Floating Rate Subordinated Notes due 2032, following a $175.0 million issuance of notes due 2030 in September 2020[85][83] Mergers and Acquisitions Axos Clearing, LLC acquired ETRADE Advisor Services (EAS) for $54.8 million in cash, rebranding it as AAS to enhance fee income and deposits - Axos Clearing, LLC acquired ETRADE Advisor Services (EAS) on August 2, 2021, for a cash purchase price of $54.8 million, rebranding the business as Axos Advisor Services (AAS)[87] Supervision and Regulation Axos Financial, Inc. operates under extensive regulation by the Federal Reserve, OCC, FDIC, SEC, and FINRA, adhering to stringent capital and consumer protection rules - Axos Financial, Inc. is a financial holding company regulated by the Federal Reserve, while Axos Bank is a federal savings bank regulated by the OCC and FDIC[98][100] - The company and the bank are subject to Basel III capital rules, requiring minimum CET1, Tier 1, and Total risk-based capital ratios, plus a capital conservation buffer, exceeding 'well-capitalized' thresholds as of June 30, 2022[101][103][106] - With over $10 billion in assets, the Bank is subject to direct supervision by the Consumer Financial Protection Bureau (CFPB) and is impacted by the Durbin Amendment, which reduces debit card interchange fees[133][134] - The company's broker-dealer subsidiaries are subject to extensive regulation, including the SEC's Net Capital Rule (Rule 15c3-1) and Customer Protection Rule (Rule 15c3-3)[143][147][150] Risk Factors The company faces diverse risks including macroeconomic shifts, regulatory changes, operational challenges, and technology vulnerabilities inherent in its financial services business Macroeconomic and Market Risks The company's performance is highly sensitive to macroeconomic conditions, especially interest rate changes and economic downturns, with significant exposure to LIBOR transition risk - Changes in interest rates directly affect net interest income, with the Federal Reserve's rate increases in 2022 to combat inflation being a key factor[155] - As of June 30, 2022, approximately $9.1 billion, or 64% of the total loan portfolio, was indexed to LIBOR, which is set to be discontinued after June 30, 2023, creating transition risk[164] - The business is susceptible to economic downturns, with a high concentration of loans (45.4%) secured by real estate in California, making it vulnerable to that state's economy[158][179] Regulatory and Legal Risks Operating in a highly regulated industry exposes Axos to risks from changing laws, regulations, and enforcement activities by multiple agencies, potentially leading to increased costs or litigation - The company is subject to extensive oversight from multiple federal and state regulators, and changes in regulations could increase costs or restrict growth[170][171] - The broker-dealer and investment advisory businesses are subject to risks of censure, fines, or suspension from the SEC and FINRA for violations of securities laws[175] - The company is subject to shareholder lawsuits, including class actions and derivative actions, which can be costly and time-consuming to defend[240] Business and Operational Risks The company faces operational risks from accounting estimates like ACL, the growing C&I loan portfolio, broker-dealer market and credit risks, and challenges in managing rapid growth - The allowance for credit losses (ACL) is a critical accounting estimate, and an insufficient allowance, especially for the growing C&I portfolio, could materially harm earnings and capital[190][191] - The broker-dealer business is subject to market risk from equity price movements, credit risk from counterparty failures, and increased litigation risk, as evidenced by a $15.3 million bad debt expense in March 2019 from a correspondent default[198] - The company's planned digital asset subsidiary (Axos Digital Assets LLC) will face risks from cryptocurrency price volatility, cybersecurity vulnerabilities, and evolving regulations[201] - The company's ability to manage its substantial growth in assets and deposits is critical; failure to deploy new deposits into profitable assets could decrease profitability[206][207] Technology and Security Risks As a primarily online bank, Axos is heavily reliant on technology, facing significant risks from third-party provider dependence and cybersecurity threats - The company relies on third-party service providers for core banking and securities transaction technology, and any interruption could materially impair services[222][223] - Cybersecurity attacks (e.g., hacking, ransomware) pose a significant risk of data breaches, which could lead to financial loss, litigation, and loss of customer confidence[229][230][231] - Failure to effectively implement new technology initiatives or anticipate future technology demands could adversely affect business and financial results[232][233] Management's Discussion and Analysis (MD&A) This section provides a comprehensive analysis of Axos Financial's financial condition and results of operations, highlighting key performance drivers and balance sheet changes Financial Highlights and Overview Axos reported $240.7 million net income in FY2022, an 11.6% increase, driven by higher net interest income, strong asset and deposit growth, and the AAS acquisition Key Financial Performance | Metric | FY 2022 | FY 2021 | FY 2020 | | :--- | :--- | :--- | :--- | | Net Income (in millions) | $240.7 | $215.7 | $183.4 | | Diluted EPS | $3.97 | $3.56 | $2.98 | | Total Assets (in billions) | $17.4 | $14.3 | $13.9 | | Net Interest Income (in millions) | $607.2 | $538.7 | $477.6 | | Return on Average Assets | 1.57% | 1.52% | 1.53% | | Return on Average Common Equity | 15.61% | 16.51% | 15.65% | - Total assets grew by $3.1 billion (22.0%) in fiscal 2022, primarily due to strong loan originations in commercial real estate and C&I lending[265] - The acquisition of ETRADE Advisor Services (AAS) on August 2, 2021, was a key event, contributing to higher advisory fee income[263][266] Results of Operations Profitability improved in FY2022 with net interest income rising to $607.2 million, driven by loan growth and lower funding costs, alongside increased non-interest income from AAS Comparison of Fiscal Years 2022 and 2021 FY2022 saw net interest income increase by $68.4 million to $607.2 million, driven by asset growth and lower funding costs, with non-interest income rising due to AAS - Net interest income increased by $68.4 million (12.7%) to $607.2 million in FY2022. This was driven by a $937.4 million increase in average interest-earning assets, while interest expense decreased by $26.6 million due to a lower cost of funds and a $1.7 billion increase in non-interest bearing deposits[261][285][286] - Provision for credit losses decreased to $18.5 million from $23.8 million, reflecting favorable changes in economic conditions post-COVID-19, partially offset by loan growth[288] Non-Interest Income Breakdown (in thousands) | Category | FY 2022 (in thousands) | FY 2021 (in thousands) | | :--- | :--- | :--- | | Prepayment penalty fee income | $13,303 | $7,166 | | Mortgage banking income | $19,033 | $42,150 | | Advisory fee income | $29,230 | $— | | Broker-dealer fee income | $22,880 | $26,317 | | Banking and service fees | $28,752 | $29,137 | | Total non-interest income | $113,363 | $105,261 | - Non-interest expense increased by $47.6 million (15.1%) to $362.1 million, driven by the AAS acquisition, a 14.6% increase in full-time staff, higher data processing costs, and a one-time $11.0 million charge for a contractual claim[292][294] Comparison of Fiscal Years 2021 and 2020 FY2021 saw net interest income increase by $61.1 million to $538.7 million, primarily due to a sharp decrease in interest expense, with provision for credit losses declining - Net interest income increased by $61.1 million (12.8%) to $538.7 million in FY2021, as a $66.1 million decrease in interest expense more than offset a $5.0 million decline in interest income, with the average rate paid on interest-bearing liabilities falling sharply from 1.72% to 0.79%[314][317][318] - Provision for credit losses decreased to $23.8 million from $42.2 million, primarily due to non-recurring provisions for Refund Advance loans in FY2020[319] - Non-interest income increased slightly to $105.3 million, with a $21.5 million increase in mortgage banking income largely offset by a $17.1 million decrease in banking service fees due to the termination of the H&R Block partnership[322] Segment Performance Analysis The Banking Business remains the primary profit driver, with $366.1 million pre-tax income in FY2022, while the Securities Business reported a wider pre-tax loss Segment Pre-Tax Income (Loss) (in thousands) | Segment | FY 2022 (in thousands) | FY 2021 (in thousands) | | :--- | :--- | :--- | | Banking Business | $366,135 | $328,564 | | Securities Business | $(2,365) | $(1,722) | | Corporate/Eliminations | $(23,811) | $(21,099) | | Total Income Before Taxes | $339,959 | $305,743 | Banking Business Segment The Banking segment's pre-tax income grew 11.4% to $366.1 million in FY2022, driven by a 13.3% increase in net interest income, with an improved efficiency ratio - The Banking segment's pre-tax income grew 11.4% to $366.1 million in FY2022, driven by a 13.3% increase in net interest income to $597.8 million[299][306] Banking Segment Key Performance Ratios | Ratio | June 30, 2022 | June 30, 2021 | | :--- | :--- | :--- | | Efficiency ratio | 41.61% | 41.95% | | Return on average assets | 1.64% | 1.76% | | Net interest margin | 4.36% | 4.11% | Securities Business Segment The Securities segment's non-interest income more than doubled to $64.1 million in FY2022 due to the AAS acquisition, despite a 74.6% increase in non-interest expense - The Securities segment's non-interest income more than doubled to $64.1 million in FY2022 from $27.6 million in FY2021, primarily due to $28.3 million in new custody and mutual fund fees from the AAS acquisition[310][311] - Non-interest expense for the segment increased by 74.6% to $84.0 million, largely due to higher salaries and other costs associated with the integration of AAS[312] Axos Clearing Key Metrics | Metric | FY 2022 (in thousands) | FY 2021 (in thousands) | | :--- | :--- | :--- | | FDIC insured program balances (end of period) | $3,452,358 | $730,248 | | Customer margin balances (end of period) | $285,894 | $327,148 | | Total tickets | 1,236,292 | 2,053,362 | Analysis of Financial Condition The balance sheet expanded significantly in FY2022, with total assets growing 22.0% to $17.4 billion, primarily funded by increased deposits and retained earnings - Total assets increased by $3.1 billion to $17.4 billion at June 30, 2022, from $14.3 billion at June 30, 2021[349] - Total liabilities increased by $2.9 billion, driven by a $3.1 billion growth in deposits, while FHLB advances decreased by $0.2 billion[349] - Stockholders' equity increased by $242.0 million to $1.6 billion, primarily due to $240.7 million in net income[349][350] Asset Quality and Allowance for Credit Losses Asset quality improved in FY2022, with total non-performing assets decreasing to $119.0 million, and the ACL increasing to $148.6 million (1.04% of total loans) Non-Performing Assets (in thousands) | Category | June 30, 2022 (in thousands) | June 30, 2021 (in thousands) | June 30, 2020 (in thousands) | | :--- | :--- | :--- | :--- | | Total non-performing loans | $118,194 | $145,195 | $87,941 | | Foreclosed real estate & repossessed vehicles | $798 | $6,782 | $6,408 | | Total non-performing assets | $118,992 | $151,977 | $94,349 | | NPA as % of Total Assets | 0.68% | 1.10% | 0.68% | Allowance for Credit Losses (ACL) Roll-Forward (in thousands) | | FY 2022 (in thousands) | FY 2021 (in thousands) | | :--- | :--- | :--- | | Beginning Balance | $132,958 | $75,807 | | Effect of ASC 326 Adoption | — | $47,300 | | Provision for credit losses | $18,500 | $23,750 | | Charge-offs | $(4,428) | $(16,558) | | Recoveries | $1,587 | $2,659 | | Ending Balance | $148,617 | $132,958 | - The ACL as a percentage of total loans held for investment was 1.04% at June 30, 2022, compared to 1.15% at June 30, 2021[363] Liquidity and Capital Resources The company maintains a strong liquidity and capital position, with significant borrowing capacity and both the holding company and bank exceeding 'well-capitalized' thresholds Regulatory Capital Ratios (Company) at June 30, 2022 | Ratio | Actual | Minimum Requirement | Minimum to be Well Capitalized | | :--- | :--- | :--- | :--- | | Tier 1 leverage ratio | 9.25% | 4.00% | N/A | | Common equity tier 1 capital ratio | 9.86% | 7.00% | N/A | | Tier 1 risk-based capital ratio | 9.86% | 8.50%* | N/A | | Total risk-based capital ratio | 12.73% | 10.50%* | N/A | Includes capital conservation buffer. Regulatory Capital Ratios (Bank) at June 30, 2022 | Ratio | Actual | Minimum Requirement | Minimum to be Well Capitalized | | :--- | :--- | :--- | :--- | | Tier 1 leverage ratio | 10.65% | 4.00% | 5.00% | | Common equity tier 1 capital ratio | 11.24% | 7.00% | 6.50% | | Tier 1 risk-based capital ratio | 11.24% | 8.50%* | 8.00% | | Total risk-based capital ratio | 12.01% | 10.50%* | 10.00% | Includes capital conservation buffer. - Axos Clearing maintained excess net capital of $32.7 million above its requirement as of June 30, 2022[387] Market Risk Analysis The company's primary market risk is interest rate risk, actively monitored through NII and MVE sensitivity analyses, indicating an asset-sensitive position Net Interest Income (NII) Sensitivity at June 30, 2022 | Rate Shock | NII Change (First 12 Months) | NII Change (Next 12 Months) | | :--- | :--- | :--- | | Up 200 bps | +9.2% | +10.2% | | Down 100 bps | -5.0% | -5.8% | Market Value of Equity (MVE) Sensitivity at June 30, 2022 | Rate Shock | MVE Change from Base | MVE as % of Assets | | :--- | :--- | :--- | | Up 300 bps | -8.8% | 11.2% | | Up 200 bps | -4.6% | 11.5% | | Up 100 bps | -1.3% | 11.8% | | Down 100 bps | -2.0% | 11.5% | Non-GAAP Financial Measures The company uses non-GAAP measures like adjusted earnings and tangible book value to provide alternative performance views, with FY2022 adjusted earnings at $256.5 million Reconciliation of Net Income to Adjusted Earnings (Non-GAAP) (in thousands) | | FY 2022 (in thousands) | FY 2021 (in thousands) | FY 2020 (in thousands) | | :--- | :--- | :--- | :--- | | Net income | $240,716 | $215,707 | $183,438 | | Acquisition-related costs | $11,355 | $9,826 | $10,108 | | Other costs | $10,975 | $— | $— | | Tax effect of adjustments | $(6,519) | $(2,894) | $(3,048) | | Adjusted earnings (Non-GAAP) | $256,527 | $222,639 | $190,498 | Reconciliation to Tangible Book Value per Share (Non-GAAP) | (in thousands, except per share) | June 30, 2022 (in thousands) | June 30, 2021 (in thousands) | June 30, 2020 (in thousands) | | :--- | :--- | :--- | :--- | | Total stockholders' equity | $1,642,973 | $1,400,936 | $1,230,846 | | Less: Goodwill and intangibles, MSRs, etc. | $(181,618) | $(133,883) | $(141,064) | | Tangible common stockholders' equity | $1,461,355 | $1,267,053 | $1,089,719 | | Common shares outstanding | 59,777,949 | 59,317,944 | 59,612,635 | | Tangible book value per common share | $24.45 | $21.36 | $18.28 | Shareholder and Other Information This section covers common equity market information, legal proceedings, and the company's internal controls and procedures for financial reporting Market for Common Equity and Shareholder Matters Axos common stock trades on the NYSE, with the company retaining earnings for growth and a $52.8 million stock repurchase program remaining - The company has a stock repurchase program with $52.8 million remaining under its authorization as of June 30, 2022, with no shares repurchased in the fourth quarter of fiscal 2022[248][252] - The company does not pay cash dividends on its common stock and intends to retain earnings to finance growth[246] - During fiscal year 2022, 330,396 restricted stock unit award shares were retained by the company to fund grantees' income tax obligations[249] Legal Proceedings The company is involved in several legal proceedings, including class action and shareholder derivative lawsuits, with settlement agreements reached in two class action cases - The company has reached settlement agreements in two putative class action lawsuits (the Golden Case and the Mandalevy Case), which are pending final court approval, with the settlement amounts not material[680][682] - Several shareholder derivative actions filed against the company and certain officers/directors have been consolidated, stayed, or dismissed, with some aspects remaining on appeal or remand[684][685][686] Controls and Procedures Management concluded that the company's disclosure controls and internal control over financial reporting (ICFR) were effective as of June 30, 2022 - Management and the independent auditor, BDO USA, LLP, concluded that the company's internal control over financial reporting was effective as of June 30, 2022[416][417] - The assessment of internal controls excluded the recently acquired ETRADE Advisor Services (AAS) business, acquired on August 2, 2021, which is permissible for one year post-acquisition[416][424]