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WAFD INC - Quarter Report: 2018 December (Form 10-Q)

Table of Contents

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
x
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended December 31, 2018
or
o
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from              to             
Commission file number 001-34654
WASHINGTON FEDERAL, INC.
(Exact name of registrant as specified in its charter)
 
Washington
 
91-1661606
(State or other jurisdiction of
incorporation or organization)
 
(I.R.S. Employer
Identification No.)
 
425 Pike Street Seattle, Washington 98101
(Address of principal executive offices and zip code)
(206) 624-7930
(Registrant’s telephone number, including area code)
 
(Former name, former address and former fiscal year, if changed since last report.)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 ("Exchange Act") during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  x    No  o
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  x    No  o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company or an emerging growth company. See definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company” and "emerging growth company" in Rule 12b-2 of the Exchange Act.
 
Large accelerated filer
x
Accelerated filer
o
Non-accelerated filer
o
Smaller reporting company
o
Emerging growth company
o
 
 
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. o
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  o    No  x
APPLICABLE ONLY TO CORPORATE ISSUERS
Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.
Title of class:
January 24, 2019
Common stock, $1.00 par value
81,112,469

Table of Contents

WASHINGTON FEDERAL, INC. AND SUBSIDIARIES
 
 
 
 
  
The Consolidated Financial Statements of Washington Federal, Inc. and Subsidiaries filed as a part of the report are as follows:
 
 
  
 
 
  
 
 
 
 
 
 
 
 
 
 
 
 
 
 
  
 
 
  
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 


2
Table of Contents
WASHINGTON FEDERAL, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
(UNAUDITED)





 
December 31, 2018
 
September 30, 2018
 
(In thousands, except share data)
ASSETS
 
 
 
Cash and cash equivalents
$
283,375

 
$
268,650

Available-for-sale securities, at fair value
1,451,340

 
1,314,957

Held-to-maturity securities, at amortized cost
1,586,815

 
1,625,420

Loans receivable, net of allowance for loan losses of $131,165 and $129,257
11,700,239

 
11,477,081

Interest receivable
48,207

 
47,295

Premises and equipment, net
276,683

 
267,995

Real estate owned
8,171

 
11,298

FHLB and FRB stock
135,590

 
127,190

Bank owned life insurance
217,751

 
216,254

Intangible assets, including goodwill of $301,368 and $301,368
310,776

 
311,286

Federal and state income tax assets, net
—

 
1,804

Other assets
169,179

 
196,494

 
$
16,188,126

 
$
15,865,724

LIABILITIES AND STOCKHOLDERS’ EQUITY
 
 
 
Liabilities
 
 
 
Customer accounts
 
 
 
Transaction deposit accounts
$
6,744,346

 
$
6,582,343

Time deposit accounts
4,817,346

 
4,804,803

 
11,561,692

 
11,387,146

FHLB advances
2,540,000

 
2,330,000

Advance payments by borrowers for taxes and insurance
21,165

 
57,417

Federal and state income tax assets, net
7,388

 
—

Accrued expenses and other liabilities
74,792

 
94,253

 
14,205,037

 
13,868,816

Stockholders’ equity
 
 
 
Common stock, $1.00 par value, 300,000,000 shares authorized; 135,496,280 and 135,343,417 shares issued; 81,123,582 and 82,710,911 shares outstanding
135,496

 
135,343

Additional paid-in capital
1,668,666

 
1,666,609

Accumulated other comprehensive income (loss), net of taxes
2,891

 
8,294

Treasury stock, at cost; 54,372,698 and 52,632,506 shares
(1,051,239
)
 
(1,002,309
)
Retained earnings
1,227,275

 
1,188,971

 
1,983,089

 
1,996,908

 
$
16,188,126

 
$
15,865,724




SEE NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
3

Table of Contents
WASHINGTON FEDERAL, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)

 
Three Months Ended December 31,
 
2018
 
2017
 
(In thousands, except share data)
INTEREST INCOME
 
 
 
Loans receivable
$
137,065

 
$
124,511

Mortgage-backed securities
19,192

 
16,899

Investment securities and cash equivalents
6,365

 
4,370

 
162,622

 
145,780

INTEREST EXPENSE
 
 
 
Customer accounts
26,579

 
14,638

FHLB advances
16,891

 
15,407

 
43,470

 
30,045

Net interest income
119,152

 
115,735

Provision (release) for loan losses
(500
)
 
—

Net interest income after provision (release) for loan losses
119,652

 
115,735

 
 
 
 
OTHER INCOME
 
 
 
Gain (loss) on sale of investment securities
(9
)
 
—

FDIC loss share valuation adjustments
—

 
(8,550
)
Loan fee income
970

 
1,035

Deposit fee income
6,243

 
6,686

Other income
11,805

 
7,624

 
19,009

 
6,795

 
 
 
 
OTHER EXPENSE
 
 
 
Compensation and benefits
33,883

 
29,619

Occupancy
9,268

 
8,671

FDIC insurance premiums
2,862

 
2,820

Product delivery
4,021

 
3,956

Information technology
9,040

 
7,929

Other expense
12,598

 
8,946

 
71,672

 
61,941

Gain (loss) on real estate owned, net
320

 
46

Income before income taxes
67,309

 
60,635

Income tax expense
14,367

 
8,965

NET INCOME
$
52,942

 
$
51,670

 

 


PER SHARE DATA
 
 
 
Basic earnings per share
$
0.65

 
$
0.59

Diluted earnings per share
0.65

 
0.59

Dividends paid on common stock per share
0.18

 
0.15

Basic weighted average number of shares outstanding
81,791,852

 
86,938,095

Diluted weighted average number of shares outstanding
81,831,478

 
87,082,499


SEE NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
4

Table of Contents

WASHINGTON FEDERAL, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(UNAUDITED)

 
Three Months Ended December 31,
 
2018
 
2017
 
(In thousands)
Net income
$
52,942

 
$
51,670

 
 
 
 
Other comprehensive income (loss) net of tax:
 
 
 
Net unrealized gain (loss) on available-for-sale investment securities
3,515

 
(1,964
)
Reclassification adjustment of net gain (loss) from sale of available-for-sale securities included in net income
(9
)
 
—

Related tax benefit (expense)
(799
)
 
722

 
2,707

 
(1,242
)
 
 
 
 
Net unrealized gain (loss) on cash flow hedges of borrowings
(10,499
)
 
6,690

Related tax benefit (expense)
2,389

 
(2,459
)
 
(8,110
)
 
4,231

 
 
 
 
Other comprehensive income (loss) net of tax
(5,403
)
 
2,989

Comprehensive income
$
47,539

 
$
54,659





SEE NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
5

Table of Contents

WASHINGTON FEDERAL, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
(UNAUDITED) 
(in thousands)
Common Stock
Additional Paid-in Capital
Retained Earnings
Accumulated Other Comprehensive Income (Loss)
Treasury Stock
Total
Balance at October 1, 2018
$
135,343

$
1,666,609

$
1,188,971

$
8,294

$
(1,002,309
)
$
1,996,908

Net income
—

—

52,942

—

—

52,942

Other comprehensive income (loss)
—

—

—

(5,403
)
—

(5,403
)
Dividends on common stock
—

—

(14,638
)
—

—

(14,638
)
Proceeds from stock-based awards
17

442

—

—

—

459

Stock-based compensation expense
97

1,654

—

—

—

1,751

Exercise of stock warrants
39

(39
)
 
 
 
—

Treasury stock acquired
—

—

—

—

(48,930
)
(48,930
)
Balance at December 31, 2018
$
135,496

$
1,668,666

$
1,227,275

$
2,891

$
(1,051,239
)
$
1,983,089

 
 
 
 
 
 
 
(in thousands)
Common Stock
Additional Paid-in Capital
Retained Earnings
Accumulated Other Comprehensive Income (Loss)
Treasury Stock
Total
Balance at October 1, 2017
$
134,958

$
1,660,885

$
1,042,890

$
5,015

$
(838,060
)
$
2,005,688

Net income
—

—

51,670

—

—

51,670

Other comprehensive income (loss)
—

—

—

2,989

—

2,989

Dividends on common stock
—

—

(13,043
)
—

—

(13,043
)
Proceeds from stock-based awards
14

272

—

—

—

286

Stock-based compensation expense
194

818

—

—

—

1,012

Exercise of stock warrants
109

(109
)
—

—

—

—

Treasury stock acquired
—

—

—

—

(38,984
)
(38,984
)
Balance at December 31, 2017
$
135,275

$
1,661,866

$
1,081,517

$
8,004

$
(877,044
)
$
2,009,618




SEE NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
6

Table of Contents

WASHINGTON FEDERAL, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED) 
 
Three Months Ended December 31,
 
2018
 
2017
 
(In thousands)
CASH FLOWS FROM OPERATING ACTIVITIES
 
Net income
$
52,942

 
$
51,670

Adjustments to reconcile net income to net cash provided by operating activities:
 
 
 
Depreciation, amortization, and accretion expense, net
7,388

 
15,273

Stock-based compensation expense
1,751

 
1,012

Provision (release) for loan losses
(500
)
 
—

Loss (gain) on sale of investment securities
9

 
—

Decrease (increase) in accrued interest receivable
(912
)
 
(503
)
Decrease (increase) in federal and state income tax receivable
1,804

 
—

Decrease (increase) in cash surrender value of bank owned life insurance
(1,497
)
 
(1,571
)
Gain on bank owned life insurance
—

 
(2,416
)
Net realized (gain) loss on sales of premises, equipment, and real estate owned
(7,054
)
 
(241
)
Decrease (increase) in other assets
16,816

 
(7,715
)
Increase (decrease) in accrued expenses and other liabilities
(10,482
)
 
2,595

Net cash provided by (used in) operating activities
60,265

 
58,104

CASH FLOWS FROM INVESTING ACTIVITIES
 
 
 
Origination of loans and principal repayments, net
(222,257
)
 
(80,089
)
Loans purchased
—

 
(143,605
)
FHLB & FRB stock purchased
(164,200
)
 
(123,600
)
FHLB & FRB stock redeemed
155,800

 
116,000

Available-for-sale securities purchased
(172,076
)
 
(40,884
)
Principal payments and maturities of available-for-sale securities
38,118

 
58,261

Proceeds from sales of available-for-sale securities
491

 
—

Held-to-maturity securities purchased
—

 
(170,836
)
Principal payments and maturities of held-to-maturity securities
37,736

 
50,653

Proceeds from sales of real estate owned
3,915

 
3,440

Proceeds from settlement of bank owned life insurance
—

 
3,484

Proceeds from sales of premises and equipment
10,233

 
1

Premises and equipment purchased and REO improvements
(18,562
)
 
(6,485
)
Net cash provided by (used in) investing activities
(330,802
)
 
(333,660
)
CASH FLOWS FROM FINANCING ACTIVITIES
 
 
 
Net increase (decrease) in customer accounts
174,623

 
166,647

Proceeds from borrowings
4,105,000

 
3,090,000

Repayments of borrowings
(3,895,000
)
 
(2,900,000
)
Proceeds from stock-based awards
459

 
286

Dividends paid on common stock
(14,638
)
 
(13,043
)
Treasury stock purchased
(48,930
)
 
(38,984
)
Increase (decrease) in borrower advances related to taxes and insurance, net
(36,252
)
 
(32,707
)
Net cash provided by (used in) financing activities
285,262

 
272,199

Increase (decrease) in cash and cash equivalents
14,725

 
(3,357
)
Cash, cash equivalents and restricted cash at beginning of period
268,650

 
313,070

Cash, cash equivalents and restricted cash at end of period
$
283,375

 
$
309,713

(CONTINUED)

SEE NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
7

Table of Contents

WASHINGTON FEDERAL, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
 
Three Months Ended December 31,
 
2018
 
2017
 
(In thousands)
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION
 
Non-cash investing activities
 
 
 
Real estate acquired through foreclosure
$
116

 
$
773

Non-cash financing activities
 
 
 
Stock issued upon exercise of warrants
1,082

 
3,761

Cash paid during the period for
 
 
 
Interest
44,177

 
29,986

Income taxes
—

 
5,225




SEE NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
8

Table of Contents

WASHINGTON FEDERAL, INC. AND SUBSIDIARIES
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)

NOTE A – Summary of Significant Accounting Policies

Nature of Operations - Washington Federal, Inc. (the "Company") is a Washington corporation headquartered in Seattle, Washington. The Company is a bank holding company that conducts its operations through its national bank subsidiary, Washington Federal, National Association (the "Bank"). The Bank is principally engaged in the business of attracting deposits from businesses and the general public and investing these funds, together with borrowings and other funds, in commercial and consumer loans. As used throughout this document, the terms "Washington Federal" or the "Company" refer to Washington Federal, Inc. and its consolidated subsidiaries and the term "Bank" refers to the operating subsidiary Washington Federal, National Association.

Basis of Presentation - The Company has prepared the consolidated unaudited interim financial statements included in this report. All intercompany transactions and accounts have been eliminated in consolidation. The preparation of financial statements, in conformity with accounting principles generally accepted in the United States of America (“GAAP”), requires management to make estimates and assumptions that affect amounts reported in the financial statements. Actual results could differ from these estimates. In the opinion of management, all adjustments (consisting only of normal recurring adjustments) necessary for a fair presentation are reflected in the interim financial statements. Certain amounts in the financial statements from prior periods have been reclassified to conform to the current financial statement presentation.

The information included in this Form 10-Q should be read in conjunction with the financial statements and related notes in the Company's 2018 Annual Report on Form 10-K (“2018 Annual Financial Statements”). Interim results are not necessarily indicative of results for a full year.

Summary of Significant Accounting Policies - The significant accounting policies used in preparation of the Company's consolidated financial statements are disclosed in its 2018 Annual Financial Statements. There have not been any material changes in the Company's significant accounting policies compared to those contained in its 2018 Annual Financial Statements for the year ended September 30, 2018.

Restricted Cash Balances - Based on the level of daily average deposits, the Company is currently not required to maintain cash reserve balances with the Federal Reserve Bank. As of December 31, 2018 and September 30, 2018, the Company pledged cash collateral related to derivative contracts of $18,000,000 and $18,000,000, respectively.

Off-Balance-Sheet Credit Exposures - The only material off-balance-sheet credit exposures are loans in process and unused lines of credit, which had a combined balance of $2,116,196,000 and $2,180,162,000 at December 31, 2018 and September 30, 2018, respectively. The Company estimates losses on off-balance-sheet credit exposures by allocating a loss percentage derived from historical loss factors for each asset class.

NOTE B – New Accounting Pronouncements

In August 2018, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2018-15, Customer’s Accounting for Implementation Costs Incurred in a Cloud Computing Arrangement That is a Service Contract. The amendments in this ASU align the requirements for capitalizing implementation costs incurred in a hosting arrangement that is a service contract with the requirements for capitalizing implementation costs incurred to develop or obtain internal-use software. The amendments also require the entity to expense the capitalized implementation costs of a hosting arrangement that is a service contract over the term of the hosting arrangement, including reasonably certain renewal periods. The amendments in the ASU are effective for fiscal years beginning after December 15, 2019 and interim periods within those fiscal years. Early adoption is permitted, including adoption in any interim period. The Company is assessing the impact that this guidance will have on its consolidated financial statements.

In August 2018, the FASB issued ASU No.2018-13, Fair Value Measurement (Topic 820): Disclosure Framework - Changes to the Disclosure Requirements for Fair Value Measurement. This ASU adds, eliminates, and modifies certain disclosure requirements for fair value measurements. Among the changes, entities will no longer be required to disclose the amount of and reasons for transfers between Level 1 and Level 2 of the fair value hierarchy, but will be required to disclose the range and weighted average used to develop significant unobservable inputs for Level 3 fair value measurements. The ASU is effective for interim and annual reporting periods beginning after December 15, 2019; early adoption is permitted. Entities are also allowed to elect early adoption of the eliminated or modified disclosure requirements and delay adoption of the added disclosure requirements until their effective

9
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WASHINGTON FEDERAL, INC. AND SUBSIDIARIES
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)


date. As the ASU only revises disclosure requirements, this guidance will not have a material impact on the Company's consolidated financial statements.

In July 2018, the FASB issued ASU No. 2018-11, Leases (Topic 842) - Targeted Improvements to provide entities with relief from the costs of implementing certain aspects of the new leasing standard, ASU No. 2016-02. Specifically, under the amendments in ASU 2018-11: (1) entities may elect not to recast the comparative periods presented when transitioning to the new leasing standard, and (2) lessors may elect to not separate non-lease components from leases when certain conditions are met. The amendments have the same effective date as ASU 2016-02 (October 1, 2019 for the Company). The Company expects to elect both transition options. ASU 2018-11 is not expected to have a material impact on the Company's consolidated financial statements.

In August 2017, the FASB issued ASU 2017-12, Derivatives and Hedging (Topic 815): Targeted Improvements to Accounting for Hedging Activities. The ASU expands and refines hedge accounting for both financial and non-financial risk components, aligns the recognition and presentation of the effects of hedging instruments and hedge items in the financial statements, and includes certain targeted improvements to ease the application of current guidance related to the assessment of hedge effectiveness. The effective date of the new standard for public companies is for fiscal years beginning after December 15, 2018, and interim periods within those fiscal years. Early adoption is permitted. The new standard must be adopted using a modified retrospective transition with a cumulative effect adjustment recorded to opening retained earnings as of the initial adoption date. The Company early adopted this ASU beginning October 1, 2018. The adoption did not result in a cumulative effect adjustment to the opening balance of retained earnings and accumulated other comprehensive income. See Note G Derivatives and Hedging Activities for additional information.

In March 2017, the FASB issued ASU 2017-08, Receivables - Nonrefundable Fees and Other Costs (Subtopic 310-20), Premium Amortization on Purchased Callable Debt Securities. The ASU shortens the amortization period for certain callable debt securities held at a premium. Specifically, the amendments require the premium to be amortized to the earliest call date. The amendments do not require an accounting change for securities held at a discount; the discount continues to be amortized to maturity. The ASU is effective for public business entities for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2018. Early adoption is permitted, including adoption in an interim period. If an entity early adopts in an interim period, any adjustments should be reflected as of the beginning of the fiscal year that includes that interim period. The amendments should be applied on a modified retrospective basis, with a cumulative-effect adjustment directly to retained earnings as of the beginning of the period of adoption. Effective October 1, 2018, the Company early adopted this ASU and it did not have a material impact on its consolidated financial statements.

In February 2017, the FASB issued ASU 2017-05, Other Income - Gains and Losses from the Derecognition of Nonfinancial Assets (Subtopic 610-20): Clarifying the Scope of Asset Derecognition Guidance and Accounting for Partial Sales of Nonfinancial Assets. The ASU clarifies that a financial asset is within the scope of Subtopic 610-20 if it meets the definition of an in substance nonfinancial asset. The amendments also define the term in substance nonfinancial asset. The amendments clarify that nonfinancial assets within the scope of Subtopic 610-20 may include nonfinancial assets transferred within a legal entity to a counterparty. A contract that includes the transfer of ownership interests in one or more consolidated subsidiaries is within the scope of Subtopic 610-20 if substantially all of the fair value of the assets that are promised to the counterparty in a contract is concentrated in nonfinancial assets. The amendments clarify that an entity should identify each distinct nonfinancial asset or in substance nonfinancial asset promised to a counterparty and derecognize each asset when a counterparty obtains control of it. The ASU is effective for public business entities for annual periods beginning after December 15, 2017, and interim periods therein. Entities may use either a full or modified retrospective approach to adopt the ASU. Effective October 1, 2018, the Company adopted this ASU and it did not have a material impact on its consolidated financial statements.

In November 2016, the FASB issued ASU 2016-18, Statement of Cash Flows (Topic 230): Restricted Cash: a Consensus of the FASB Emerging Issues Task Force. This ASU requires a company’s cash flow statement to explain the changes during a reporting period of the totals for cash, cash equivalents, restricted cash, and restricted cash equivalents. Additionally, amounts for restricted cash and restricted cash equivalents are to be included with cash and cash equivalents if the cash flow statement includes a reconciliation of the total cash balances for a reporting period. This ASU is effective for public business entities for annual periods, including interim periods within those annual periods, beginning after December 15, 2017, with early application permitted. Effective October 1, 2018, the Company adopted this ASU and applied the retrospective transition method to each period presented. The Company does not present restricted cash as a separate line item in the statement of financial position, therefore, there was no change to the presentation of cash on the statement of cash flows. The nature and amount of restricted cash is shown in Note A, Summary of Significant Accounting Policies.

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WASHINGTON FEDERAL, INC. AND SUBSIDIARIES
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)



In August 2016, the FASB issued ASU 2016-15, Classification of Certain Cash Receipts and Cash Payments. The amendments in this ASU address eight specific cash flow issues with the objective of reducing diversity in practice. The specific issues identified include: debt prepayments or extinguishment costs; contingent consideration payments made after a business combination; proceeds from the settlement of insurance claims; proceeds from the settlement of corporate-owned life insurance policies (including bank-owned life insurance policies ("BOLI")); distributions received from equity method investees; beneficial interests in securitization transactions; and separately identifiable cash flows and application of the predominance principle. This ASU is effective for fiscal years beginning after December 15, 2017, including interim periods within that reporting period; however, early adoption is permitted. Effective October 1, 2018, the Company adopted this ASU and applied the retrospective transition method to each period presented. The Company previously classified proceeds from the settlement of BOLI policies in the manner required by the ASU so there was no change to the consolidated financial statements.

In June 2016, the FASB issued ASU 2016-13, Financial Instruments - Credit Losses. The amendments in this ASU were issued to provide financial statement users with more decision-useful information about the expected credit losses on financial instruments that are not accounted for at fair value through net income, including loans held for investment, held-to-maturity debt securities, trade and other receivables, net investments in leases and other commitments to extend credit held by a reporting entity at each reporting date. The amendments require that financial assets measured at amortized cost be presented at the net amount expected to be collected, through an allowance for credit losses that is deducted from the amortized cost basis. The ASU eliminates the current framework of recognizing probable incurred losses and instead requires an entity to use its current estimate of all expected credit losses over the contractual life. The measurement of expected credit losses is based upon historical experience, current conditions, and reasonable and supportable forecasts that affect the collectability of the financial assets.

For purchased financial assets with a more-than-insignificant amount of credit deterioration since origination (“PCD assets”) that are measured at amortized cost, an allowance for expected credit losses is recorded as an adjustment to the cost basis of the asset. Subsequent changes in estimated cash flows would be recorded as an adjustment to the allowance and through the statement of income.

Credit losses relating to available-for-sale debt securities will be recorded through an allowance for credit losses rather than as a direct write-down to the security's cost basis.

The amendments in this ASU are effective for fiscal years beginning after December 15, 2019, including interim periods within those fiscal years. For most debt securities, the transition approach requires a cumulative-effect adjustment to the statement of financial position as of the beginning of the first reporting period the guidance is effective. For other-than-temporarily impaired debt securities and PCD assets, the guidance will be applied prospectively. While the Company is currently in the process of evaluating the impact of the amended guidance on its consolidated financial statements, it currently expects the ALLL to increase upon adoption given that the allowance will be required to cover the full remaining expected life of the portfolio upon adoption, rather than the incurred loss model under current U.S. GAAP. The extent of this increase is still being evaluated and will depend on economic conditions and the composition of the Company’s loan and lease portfolio at the time of adoption.

In February 2016, the FASB issued ASU 2016-02, Leases. The amendments require lessees to recognize a lease liability, which is a lessee's obligation to make lease payments arising from a lease, and a right-of-use asset, which is an asset that represents the lessee's right to use, or control the use of, a specified asset for the lease term. The guidance also simplifies the accounting for sale and leaseback transactions. The amendments are effective for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. Early application is permitted upon issuance. Lessees (for capital and operating leases) and lessors (for sales-type, direct financing, and operating leases) must apply a modified retrospective transition approach for leases existing at, or entered into after, the beginning of the earliest comparative period presented in the financial statements. The modified retrospective approach would not require any transition accounting for leases that expired before the earliest comparative period presented. Lessees and lessors may not apply a full retrospective transition approach. The Company is currently in the process of accumulating the lease data necessary to apply the amended guidance. The Company is continuing to evaluate the impact of the amended guidance on its consolidated financial statements, but the effects of recognizing most operating leases is not expected to be material. The Company expects to recognize right-of-use assets and lease liabilities for substantially all of its operating lease commitments based on the present value of unpaid lease payments as of the date of adoption.

In January 2016, the FASB issued ASU 2016-01, Recognition and Measurement of Financial Assets and Financial Liabilities. The amendments in this ASU require a number of changes including the following: (1) requires equity investments to be measured

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WASHINGTON FEDERAL, INC. AND SUBSIDIARIES
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)


at fair value with changes in fair value recognized in net income; (2) allows equity investments without readily determinable fair values to be measured at cost less impairment, if any, plus or minus changes in observable prices (referred to as the "measurement alternative"); and (3) changes certain presentation and disclosure requirements for financial instruments, including using the exit price notion when measuring the fair value of financial instruments. This ASU is effective for fiscal years beginning after December 15, 2017, including interim periods within that reporting period. Effective October 1, 2018, the Company adopted this ASU and it did not have a material impact on its consolidated financial statements.

In May 2014, the FASB issued ASU 2014-09, Revenue from Contracts with Customers (ASC 606). As amended, the guidance in this update supersedes the revenue recognition requirements in ASC Topic 605, Revenue Recognition, and most industry-specific guidance throughout the industry topics of the codification.

Effective October 1, 2018, the Company adopted this ASU and its related amendments using the modified retrospective method for all contracts that have not been completed (i.e. open contracts). As such, any comparative information has not been adjusted and continues to be reported under Topic 605. There was no cumulative effect adjustment as of October 1, 2018. The Company evaluated the guidance and concluded that substantially all of its revenue streams are outside of the scope of ASC 606. As such, the guidance did not have a material impact on its consolidated financial statements or result in a material change to its disclosures. See more information in Note H, Revenue from Contracts with Customers.

NOTE C – Dividends and Share Repurchases

On November 23, 2018, the Company paid a regular dividend on common stock of $0.18 per share, which represented the 143rd consecutive quarterly cash dividend. Dividends per share were $0.18 and $0.15 for the quarters ended December 31, 2018 and 2017, respectively. On January 16, 2019, the Company declared a regular dividend on common stock of $0.20 per share, which represents its 144th consecutive quarterly cash dividend. This dividend will be paid on February 22, 2019 to common shareholders of record on February 8, 2019.

For the three months ended December 31, 2018, the Company repurchased 1,740,192 shares at an average price of $28.12. As of December 31, 2018, there are 292,406 remaining shares authorized to be repurchased under the current Board approved share repurchase program. On January 16, 2019 the Board authorized an additional 10,000,000 shares for repurchase under the program.

NOTE D – Loans Receivable

The following table is a summary of loans receivable.

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WASHINGTON FEDERAL, INC. AND SUBSIDIARIES
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)


 
December 31, 2018
 
September 30, 2018
 
(In thousands)
 
(In thousands)
Gross loans by category
 
 
 
 
 
   Single-family residential
$
5,844,963

44.9
%
 
$
5,798,966

45.1
%
   Construction
1,841,674

14.1

 
1,890,668

14.7

   Construction - custom
607,071

4.7

 
624,479

4.9

   Land - acquisition & development
181,323

1.4

 
155,204

1.2

   Land - consumer lot loans
100,563

0.8

 
102,036

0.8

   Multi-family
1,405,172

10.8

 
1,385,125

10.8

   Commercial real estate
1,526,887

11.7

 
1,452,168

11.3

   Commercial & industrial
1,213,738

9.3

 
1,140,874

8.9

   HELOC
136,856

1.1

 
130,852

1.0

   Consumer
162,221

1.2

 
173,306

1.3

Total gross loans
13,020,468

100
%
 
12,853,678

100
%
   Less:
 
 
 
 
 
      Allowance for loan losses
131,165

 
 
129,257

 
      Loans in process
1,138,308

 
 
1,195,506

 
      Net deferred fees, costs and discounts
50,756

 
 
51,834

 
Total loan contra accounts
1,320,229

 
 
1,376,597

 
Net loans
$
11,700,239

 
 
$
11,477,081

 

The following table sets forth information regarding non-accrual loans.
 
 
December 31, 2018
 
September 30, 2018
 
(In thousands, except ratio data)
Non-accrual loans:
 
 
 
 
 
 
 
Single-family residential
$
24,748

 
48.1
%
 
$
27,643

 
49.6
%
Construction
1,380

 
2.7

 
2,427

 
4.4

Land - acquisition & development
438

 
0.9

 
920

 
1.7

Land - consumer lot loans
785

 
1.5

 
787

 
1.4

Commercial real estate
9,478

 
18.4

 
8,971

 
16.1

Commercial & industrial
13,995

 
27.2

 
14,394

 
25.8

HELOC
599

 
1.2

 
523

 
0.9

Consumer
27

 
0.1

 
21

 
—

Total non-accrual loans
$
51,450

 
100
%
 
$
55,686

 
100
%
% of total net loans
0.44
%
 
 
 
0.49
%
 
 

The Company recognized interest income on non-accrual loans of approximately $843,000 in the three months ended December 31, 2018. Had these loans been on accrual status and performed according to their original contract terms, the Company would have recognized interest income of approximately $587,000 for the three months ended December 31, 2018. Recognized interest income for the three months ended December 31, 2018 was higher than what otherwise would have been collected in the period due to the collection of past due amounts. Interest cash flows collected on non-accrual loans vary from period to period as those loans are brought current or are paid off.

The following tables provide details regarding delinquent loans.

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WASHINGTON FEDERAL, INC. AND SUBSIDIARIES
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)


 
December 31, 2018
Loans Receivable
 
Days Delinquent Based on $ Amount of Loans
 
% based
on $
Type of Loan
Net of Loans In Process
 
Current
 
30
 
60
 
90
 
Total Delinquent
 
 
(In thousands, except ratio data)
 
 
Single-family residential
$
5,844,383

 
$
5,817,233

 
$
5,857

 
$
5,019

 
$
16,274

 
$
27,150

 
0.46
%
Construction
1,047,229

 
1,045,849

 
—

 
—

 
1,380

 
1,380

 
0.13

Construction - custom
299,622

 
299,622

 
—

 
—

 
—

 
—

 
—

Land - acquisition & development
145,635

 
145,443

 
—

 
—

 
192

 
192

 
0.13

Land - consumer lot loans
100,440

 
99,957

 
—

 
—

 
483

 
483

 
0.48

Multi-family
1,405,149

 
1,403,524

 
974

 
651

 
—

 
1,625

 
0.12

Commercial real estate
1,526,887

 
1,520,083

 
1,757

 
2,942

 
2,105

 
6,804

 
0.45

Commercial & industrial
1,213,738

 
1,203,436

 
283

 
234

 
9,785

 
10,302

 
0.85

HELOC
136,856

 
135,488

 
411

 
569

 
388

 
1,368

 
1.00

Consumer
162,221

 
161,946

 
121

 
125

 
29

 
275

 
0.17

Total Loans
$
11,882,160

 
$
11,832,581

 
$
9,403

 
$
9,540

 
$
30,636

 
$
49,579

 
0.42
%
Delinquency %
 
 
99.58%
 
0.08%
 
0.08%
 
0.26%
 
0.42%
 
 


September 30, 2018
Loans Receivable
 
Days Delinquent Based on $ Amount of Loans
 
% based
on $
Type of Loan
Net of Loans In Process
 
Current
 
30
 
60
 
90
 
Total Delinquent
 
 
(In thousands, except ratio data)
 
 
Single-family residential
$
5,798,353

 
$
5,768,253

 
$
7,983

 
$
3,562

 
$
18,555

 
$
30,100

 
0.52
%
Construction
1,062,855

 
1,060,428

 
—

 
—

 
2,427

 
2,427

 
0.23

Construction - custom
289,192

 
289,192

 
—

 
—

 
—

 
—

 
—

Land - acquisition & development
123,560

 
122,620

 
—

 
270

 
670

 
940

 
0.76

Land - consumer lot loans
101,908

 
101,294

 
144

 
117

 
353

 
614

 
0.60

Multi-family
1,385,103

 
1,385,103

 
—

 
—

 
—

 
—

 
—

Commercial real estate
1,452,169

 
1,448,946

 
316

 
1,767

 
1,140

 
3,223

 
0.22

Commercial & industrial
1,140,874

 
1,130,836

 
—

 
—

 
10,038

 
10,038

 
0.88

HELOC
130,852

 
129,510

 
567

 
469

 
306

 
1,342

 
1.03

Consumer
173,306

 
172,777

 
172

 
328

 
29

 
529

 
0.31

Total Loans
$
11,658,172

 
$
11,608,959

 
$
9,182

 
$
6,513

 
$
33,518

 
$
49,213

 
0.42
%
Delinquency %
 
 
99.58%
 
0.08%
 
0.06%
 
0.29%
 
0.42%
 
 

The percentage of total delinquent loans was 0.42% as of December 31, 2018 and 0.42% as of September 30, 2018. There are no loans greater than 90 days delinquent and still accruing interest as of either date.


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WASHINGTON FEDERAL, INC. AND SUBSIDIARIES
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)


The following table provides information related to loans restructured in a troubled debt restructuring ("TDR") during the periods presented:

 
Three Months Ended December 31,
 
2018
 
2017
 
 
 
Pre-Modification
 
Post-Modification
 
 
 
Pre-Modification
 
Post-Modification
 
 
 
Outstanding
 
Outstanding
 
 
 
Outstanding
 
Outstanding
 
Number of
 
Recorded
 
Recorded
 
Number of
 
Recorded
 
Recorded
 
Contracts
 
Investment
 
Investment
 
Contracts
 
Investment
 
Investment
 
 
 
($ in thousands)
 
 
 
($ in thousands)
Troubled Debt Restructurings:
 
 
 
 
 
 
 
 
 
 
 
   Single-family residential
1

 
$
283

 
$
283

 
8

 
$
2,012

 
$
2,012

   Commercial & Industrial
—

 
—

 
—

 
3

 
7,256

 
7,256

 
1

 
$
283

 
$
283

 
11

 
$
9,268

 
$
9,268


The following table provides information on payment defaults occurring during the periods presented where the loan had been modified in a TDR within 12 months of the payment default.

 
Three Months Ended December 31,
 
2018
 
2017
 
Number of
 
Recorded
 
Number of
 
Recorded
 
Contracts
 
Investment
 
Contracts
 
Investment
 
($ in thousands)
 
($ in thousands)
Trouble Debt Restructurings That Subsequently Defaulted:
 
 
 
 
 
 
 
   Single-family residential
1

 
$
543

 
1

 
$
44

 
1

 
$
543

 
1

 
$
44



Most loans restructured in TDRs are accruing and performing loans where the borrower has proactively approached the Company about modification due to temporary financial difficulties. As of December 31, 2018, 96.0% of the Company's $149,693,000 in TDRs were classified as performing. Each request for modification is individually evaluated for merit and likelihood of success. The concession granted in a loan modification is typically a payment reduction through a rate reduction of between 100 to 200 basis points for a specific term, usually six to twenty four months. Interest-only payments may also be approved during the modification period. Principal forgiveness is not an available option for restructured loans. As of December 31, 2018, single-family residential loans comprised 89.4% of TDRs.

The Company reserves for restructured loans within its allowance for loan loss methodology by taking into account the following performance indicators: 1) time since modification, 2) current payment status and 3) geographic area.





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WASHINGTON FEDERAL, INC. AND SUBSIDIARIES
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)


NOTE E – Allowance for Losses on Loans
The following tables summarize the activity in the allowance for loan losses. 

Three Months Ended December 31, 2018
Beginning
Allowance
 
Charge-offs
 
Recoveries
 
Provision &
Transfers
 
Ending
Allowance
 
(In thousands)
Single-family residential
$
33,033

 
$
(25
)
 
$
230

 
$
(1,754
)
 
$
31,484

Construction
31,317

 
—

 
—

 
146

 
31,463

Construction - custom
1,842

 
—

 
—

 
84

 
1,926

Land - acquisition & development
7,978

 
—

 
1,782

 
(604
)
 
9,156

Land - consumer lot loans
2,164

 
(72
)
 
265

 
(213
)
 
2,144

Multi-family
8,329

 
—

 
—

 
(445
)
 
7,884

Commercial real estate
11,852

 
(339
)
 
525

 
673

 
12,711

Commercial & industrial
28,702

 
(179
)
 
33

 
1,723

 
30,279

HELOC
781

 
(886
)
 
1

 
1,168

 
1,064

Consumer
3,259

 
(140
)
 
213

 
(278
)
 
3,054

 
$
129,257

 
$
(1,641
)
 
$
3,049

 
$
500

 
$
131,165

Three Months Ended December 31, 2017
Beginning
Allowance
 
Charge-offs
 
Recoveries
 
Provision &
Transfers
 
Ending
Allowance
 
(In thousands)
Single-family residential
$
36,892

 
$
(461
)
 
$
121

 
$
(624
)
 
$
35,928

Construction
24,556

 
—

 
—

 
658

 
25,214

Construction - custom
1,944

 
(50
)
 
—

 
158

 
2,052

Land - acquisition & development
6,829

 
—

 
3,372

 
(2,846
)
 
7,355

Land - consumer lot loans
2,649

 
(47
)
 
—

 
304

 
2,906

Multi-family
7,862

 
—

 
—

 
42

 
7,904

Commercial real estate
11,818

 
—

 
—

 
(193
)
 
11,625

Commercial & industrial
28,524

 
(116
)
 
55

 
805

 
29,268

HELOC
855

 
—

 
—

 
(47
)
 
808

Consumer
1,144

 
(78
)
 
286

 
2,743

 
4,095

 
$
123,073

 
$
(752
)
 
$
3,834

 
$
1,000

 
$
127,155



The Company recorded a release of loan loss allowance of $500,000 for the three months ended December 31, 2018, compared with no provision for loan losses for the three months ended December 31, 2017. Reserving for new loan originations as the loan portfolio grows has been largely offset by recoveries of previously charged-off loans. Recoveries, net of charge-offs, totaled $1,408,000 for the three months ended December 31, 2018, compared to net recoveries of $3,082,000 during the three months ended December 31, 2017.

Non-performing assets were $62,730,000, or 0.39%, of total assets at December 31, 2018, compared to $70,093,000, or 0.44%, of total assets at September 30, 2018. Non-accrual loans were $51,450,000 at December 31, 2018, compared to $55,686,000 at September 30, 2018. Delinquencies, as a percent of total loans, were 0.42% at December 31, 2018, compared to 0.42% at September 30, 2018.

The reserve for unfunded commitments was $6,250,000 as of December 31, 2018, which is a decrease from $7,250,000 at September 30, 2018.


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WASHINGTON FEDERAL, INC. AND SUBSIDIARIES
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)


Management believes the allowance for loan losses plus the reserve for unfunded commitments, totaling $137,415,000, or 1.06% of gross loans as of December 31, 2018, is sufficient to absorb estimated losses inherent in the portfolio of loans and unfunded commitments.

The following tables show loans collectively and individually evaluated for impairment and the related allocation of general and specific reserves.
 
December 31, 2018
Loans Collectively Evaluated for Impairment
 
Loans Individually Evaluated for Impairment
 
Allowance Allocation
 
Recorded Investment of Loans
 
Ratio
 
Allowance Allocation
 
Recorded Investment of Loans
 
Ratio
 
(In thousands, except ratio data)
 
(In thousands, except ratio data)
Single-family residential
$
31,484

 
$
5,833,667

 
0.5
%
 
$
—

 
$
16,259

 
—
%
Construction
31,463

 
1,045,849

 
3.0

 
—

 
1,380

 
—

Construction - custom
1,926

 
299,622

 
0.6

 
—

 
—

 
—

Land - acquisition & development
9,147

 
145,197

 
6.3

 
9

 
438

 
2.1

Land - consumer lot loans
2,144

 
95,628

 
2.2

 
—

 
303

 
—

Multi-family
7,880

 
1,404,714

 
0.6

 
4

 
435

 
0.9

Commercial real estate
12,569

 
1,512,064

 
0.8

 
142

 
14,823

 
1.0

Commercial & industrial
29,934

 
1,199,565

 
2.5

 
345

 
14,206

 
2.4

HELOC
1,064

 
135,369

 
0.8

 
—

 
519

 
—

Consumer
3,054

 
161,958

 
1.9

 
—

 
162

 
—

 
$
130,665

 
$
11,833,633

 
1.1
%
 
$
500

 
$
48,525

 
1.0
%

September 30, 2018
Loans Collectively Evaluated for Impairment
 
Loans Individually Evaluated for Impairment
 
Allowance Allocation
 
Recorded Investment of Loans
 
Ratio
 
Allowance Allocation
 
Recorded Investment of Loans
 
Ratio
 
(In thousands, except ratio data)
 
(In thousands, except ratio data)
Single-family residential
$
33,033

 
$
5,782,870

 
0.6
%
 
$
—

 
$
21,345

 
—
%
Construction
31,317

 
1,060,428

 
3.0

 
—

 
2,427

 
—

Construction - custom
1,842

 
289,192

 
0.6

 
—

 
—

 
—

Land - acquisition & development
7,969

 
122,639

 
6.5

 
9

 
920

 
1.0

Land - consumer lot loans
2,164

 
96,583

 
2.2

 
—

 
507

 
—

Multi-family
8,325

 
1,384,655

 
0.6

 
4

 
448

 
1.0

Commercial real estate
11,702

 
1,432,791

 
0.8

 
150

 
19,378

 
0.8

Commercial & industrial
28,348

 
1,126,438

 
2.5

 
354

 
14,437

 
2.5

HELOC
781

 
128,715

 
0.6

 
—

 
1,162

 
—

Consumer
3,259

 
173,181

 
1.9

 
—

 
56

 
—

 
$
128,740

 
$
11,597,492

 
1.1
%
 
$
517

 
$
60,680

 
0.9
%

As of December 31, 2018, $130,665,000 of the allowance was calculated under the Company's general allowance methodology and the remaining $500,000 was specific reserves on loans deemed to be individually impaired. As of September 30, 2018, $128,740,000 of the allowance was calculated under the Company's general allowance methodology and the remaining $517,000 was specific reserves on loans deemed to be individually impaired.


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WASHINGTON FEDERAL, INC. AND SUBSIDIARIES
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)


The Company has an asset quality review function that analyzes its loan portfolio and reports the results of the review to its Board of Directors on a quarterly basis. The single-family residential, HELOC and consumer portfolios are evaluated based on their performance as a pool of loans, since no single loan is individually significant or judged by its risk rating, size or potential risk of loss. The construction, land, multi-family, commercial real estate and commercial and industrial loans are risk rated on a loan by loan basis to determine the relative risk inherent in specific borrowers or loans. Based on that risk rating, the loans are assigned a grade and classified as follows:

•
Pass – the credit does not meet one of the definitions below.

•
Special mention – A special mention credit is considered to be currently protected from loss but is potentially weak. No loss of principal or interest is foreseen; however, proper supervision and management attention is required to deter further deterioration in the credit. Assets in this category constitute some undue and unwarranted credit risk but not to the point of justifying a risk rating of substandard. The credit risk may be relatively minor yet constitutes an unwarranted risk in light of the circumstances surrounding a specific asset.

•
Substandard – A substandard credit is an unacceptable credit. Additionally, repayment in the normal course is in jeopardy due to the existence of one or more well defined weaknesses. In these situations, loss of principal is likely if the weakness is not corrected. A substandard asset is inadequately protected by the current sound worth and paying capacity of the borrower or of the collateral pledged, if any. Assets so classified will have a well-defined weakness or weaknesses that jeopardize the collection or liquidation of the debt. Loss potential, while existing in the aggregate amount of substandard assets, does not have to exist in individual assets risk rated substandard.

•
Doubtful – A credit classified doubtful has all the weaknesses inherent in one classified substandard with the added characteristic that the weakness makes collection or liquidation in full, on the basis of currently existing facts, conditions and values, highly questionable and improbable. The probability of loss is high, but because of certain important and reasonably specific pending factors that may work to the advantage and strengthening of the asset, its classification as an estimated loss is deferred until its more exact status may be determined. Pending factors include proposed merger, acquisition, or liquidation procedures, capital injection, perfecting liens on additional collateral, and refinancing plans.

•
Loss – Credits classified loss are considered uncollectible and of such little value that their continuance as a bankable asset is not warranted. This classification does not mean that the asset has absolutely no recovery or salvage value, but rather it is not practical or desirable to defer writing off this asset even though partial recovery may be affected in the future. Losses should be taken in the period in which they are identified as uncollectible. Partial charge-off versus full charge-off may be taken if the collateral offers some identifiable protection.


18
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WASHINGTON FEDERAL, INC. AND SUBSIDIARIES
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)


The following tables provide information on loans based on risk rating categories as defined above.
December 31, 2018
Internally Assigned Grade
 
 
 
Pass
 
Special mention
 
Substandard
 
Doubtful
 
Loss
 
Total Gross Loans
 
(In thousands, except ratio data)
Loan type
 
 
 
 
 
 
 
 
 
 
 
  Single-family residential
$
5,815,029

 
$
—

 
$
29,934

 
$
—

 
$
—

 
$
5,844,963

  Construction
1,832,326

 
7,968

 
1,380

 
—

 
—

 
1,841,674

  Construction - custom
607,071

 
—

 
—

 
—

 
—

 
607,071

  Land - acquisition & development
179,602

 
—

 
1,721

 
—

 
—

 
181,323

  Land - consumer lot loans
99,778

 
—

 
785

 
—

 
—

 
100,563

  Multi-family
1,397,920

 
3,254

 
3,998

 
—

 
—

 
1,405,172

  Commercial real estate
1,484,559

 
19,810

 
22,518

 
—

 
—

 
1,526,887

  Commercial & industrial
1,169,981

 
9,790

 
33,967

 
—

 
—

 
1,213,738

  HELOC
136,256

 
—

 
600

 
—

 
—

 
136,856

  Consumer
162,191

 
—

 
30

 
—

 
—

 
162,221

Total gross loans
$
12,884,713

 
$
40,822

 
$
94,933

 
$
—

 
$
—

 
$
13,020,468

 
 
 
 
 
 
 
 
 
 
 
 
Total grade as a % of total gross loans
99.0
%
 
0.3
%
 
0.7
%
 
—
%
 
—
%
 
 

September 30, 2018
Internally Assigned Grade
 
 
 
Pass
 
Special mention
 
Substandard
 
Doubtful
 
Loss
 
Total Gross Loans
 
(In thousands, except ratio data)
Loan type
 
 
 
 
 
 
 
 
 
 
 
 Single-family residential
$
5,766,096

 
$
—

 
$
32,870

 
$
—

 
$
—

 
$
5,798,966

 Construction
1,886,304

 
1,937

 
2,427

 
—

 
—

 
1,890,668

 Construction - custom
624,479

 
—

 
—

 
—

 
—

 
624,479

 Land - acquisition & development
152,984

 
—

 
2,220

 
—

 
—

 
155,204

 Land - consumer lot loans
101,249

 
—

 
787

 
—

 
—

 
102,036

 Multi-family
1,378,803

 
1,633

 
4,689

 
—

 
—

 
1,385,125

 Commercial real estate
1,421,602

 
7,114

 
23,452

 
—

 
—

 
1,452,168

 Commercial & industrial
1,093,405

 
16,513

 
30,956

 
—

 
—

 
1,140,874

 HELOC
130,330

 
—

 
522

 
—

 
—

 
130,852

 Consumer
173,285

 
—

 
21

 
—

 
—

 
173,306

Total gross loans
$
12,728,537

 
$
27,197

 
$
97,944

 
$
—

 
$
—

 
$
12,853,678

 
 
 
 
 
 
 
 
 
 
 
 
Total grade as a % of total gross loans
99.0
%
 
0.2
%
 
0.8
%
 
—
%
 
—
%
 
 




19
Table of Contents
WASHINGTON FEDERAL, INC. AND SUBSIDIARIES
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)


The following tables provide information on gross loans based on borrower payment activity.

December 31, 2018
Performing Loans
 
Non-Performing Loans
 
Amount
 
% of Total
Gross  Loans
 
Amount
 
% of Total
Gross  Loans
 
(In thousands, except ratio data)
Single-family residential
$
5,820,215

 
99.6
%
 
$
24,748

 
0.4
%
Construction
1,840,294

 
99.9

 
1,380

 
0.1

Construction - custom
607,071

 
100.0

 
—

 
—

Land - acquisition & development
180,885

 
99.8

 
438

 
0.2

Land - consumer lot loans
99,778

 
99.2

 
785

 
0.8

Multi-family
1,405,172

 
100.0

 
—

 
—

Commercial real estate
1,517,409

 
99.4

 
9,478

 
0.6

Commercial & industrial
1,199,743

 
98.8

 
13,995

 
1.2

HELOC
136,257

 
99.6

 
599

 
0.4

Consumer
162,194

 
100.0

 
27

 
—

 
$
12,969,018

 
99.6
%
 
$
51,450

 
0.4
%
September 30, 2018
Performing Loans
 
Non-Performing Loans
 
Amount
 
% of Total
Gross  Loans
 
Amount
 
% of Total
Gross  Loans
 
(In thousands, except ratio data)
Single-family residential
$
5,771,323

 
99.5
%
 
$
27,643

 
0.5
%
Construction
1,888,241

 
99.9

 
2,427

 
0.1

Construction - custom
624,479

 
100.0

 
—

 
—

Land - acquisition & development
154,284

 
99.4

 
920

 
0.6

Land - consumer lot loans
101,249

 
99.2

 
787

 
0.8

Multi-family
1,385,125

 
100.0

 
—

 
—

Commercial real estate
1,443,197

 
99.4

 
8,971

 
0.6

Commercial & industrial
1,126,480

 
98.7

 
14,394

 
1.3

HELOC
130,329

 
99.6

 
523

 
0.4

Consumer
173,285

 
100.0

 
21

 
—

 
$
12,797,992

 
99.6
%
 
$
55,686

 
0.4
%

20
Table of Contents
WASHINGTON FEDERAL, INC. AND SUBSIDIARIES
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)


The following tables provide information on impaired loan balances and the related allowances by loan types. 
December 31, 2018
Recorded
Investment
 
Unpaid
Principal
Balance
 
Related
Allowance
 
Average Recorded Investment
(Year-To-Date)
 
(In thousands)
Impaired loans with no related allowance recorded:
 
 
 
 
 
 
 
Single-family residential
$
15,438

 
$
16,633

 
$
—

 
$
17,155

Construction
1,630

 
1,750

 
—

 
2,164

Land - acquisition & development
335

 
335

 
—

 
575

Land - consumer lot loans
181

 
281

 
—

 
246

Commercial real estate
9,945

 
15,035

 
—

 
9,685

Commercial & industrial
9,868

 
10,055

 
—

 
10,003

HELOC
519

 
612

 
—

 
465

Consumer
25

 
230

 
—

 
23

 
37,941

 
44,931

 
—

 
40,316

Impaired loans with an allowance recorded:
 
 
 
 
 
 
 
Single-family residential
133,808

 
136,876

 
2,498

 
136,802

Land - acquisition & development
103

 
156

 
—

 
105

Land - consumer lot loans
4,601

 
4,930

 
9

 
4,759

Multi-family
435

 
435

 
4

 
442

Commercial real estate
5,552

 
6,625

 
142

 
5,903

Commercial & industrial
4,159

 
7,502

 
345

 
4,225

HELOC
968

 
978

 
—

 
972

Consumer
67

 
67

 
—

 
69

 
149,693

 
157,569

 
2,998

(1)
153,277

Total impaired loans:
 
 
 
 
 
 
 
Single-family residential
149,246

 
153,509

 
2,498

 
153,957

Construction
1,630

 
1,750

 
—

 
2,164

Land - acquisition & development
438

 
491

 
—

 
680

Land - consumer lot loans
4,782

 
5,211

 
9

 
5,005

Multi-family
435

 
435

 
4

 
442

Commercial real estate
15,497

 
21,660

 
142

 
15,588

Commercial & industrial
14,027

 
17,557

 
345

 
14,228

HELOC
1,487

 
1,590

 
—

 
1,437

Consumer
92

 
297

 
—

 
92

 
$
187,634

 
$
202,500

 
$
2,998

(1)
$
193,593


(1)
Includes $500,000 of specific reserves and $2,498,000 included in the general reserves.



21
Table of Contents
WASHINGTON FEDERAL, INC. AND SUBSIDIARIES
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)


September 30, 2018
Recorded
Investment
 
Unpaid
Principal
Balance
 
Related
Allowance
 
Average Recorded Investment
(Year-To-Date)
 
(In thousands)
Impaired loans with no related allowance recorded:
 
 
 
 
 
 
 
Single-family residential
$
18,872

 
$
20,050

 
$
—

 
$
20,097

Construction
2,698

 
2,818

 
—

 
1,349

Construction - custom
—

 
—

 
—

 
74

Land - acquisition & development
814

 
814

 
—

 
572

Land - consumer lot loans
311

 
336

 
—

 
260

Multi-family
—

 
—

 
—

 
70

Commercial real estate
9,425

 
14,035

 
—

 
11,158

Commercial & industrial
10,137

 
10,146

 
—

 
9,208

HELOC
410

 
1,170

 
—

 
450

Consumer
20

 
56

 
—

 
54

 
42,687

 
49,425

 
—

 
43,292

Impaired loans with an allowance recorded:
 
 
 
 
 
 
 
Single-family residential
139,796

 
143,099

 
2,871

 
161,729

Land - acquisition & development
107

 
157

 
—

 
39

Land - consumer lot loans
4,916

 
5,290

 
9

 
6,449

Multi-family
448

 
448

 
4

 
471

Commercial real estate
6,254

 
7,733

 
150

 
10,445

Commercial & industrial
4,291

 
7,506

 
354

 
4,495

HELOC
976

 
984

 
—

 
1,395

Consumer
70

 
70

 
—

 
83

 
156,858

 
165,287

 
3,388

(1)
185,106

Total impaired loans:
 
 
 
 
 
 
 
Single-family residential
158,668

 
163,149

 
2,871

 
181,826

Construction
2,698

 
2,818

 
—

 
1,349

Construction - custom
—

 
—

 
—

 
74

Land - acquisition & development
921

 
971

 
—

 
611

Land - consumer lot loans
5,227

 
5,626

 
9

 
6,709

Multi-family
448

 
448

 
4

 
541

Commercial real estate
15,679

 
21,768

 
150

 
21,603

Commercial & industrial
14,428

 
17,652

 
354

 
13,703

HELOC
1,386

 
2,154

 
—

 
1,845

Consumer
90

 
126

 
—

 
137

 
$
199,545

 
$
214,712

 
$
3,388

(1)
$
228,398


(1)
Includes $517,000 of specific reserves and $2,871,000 included in the general reserves.


22
Table of Contents
WASHINGTON FEDERAL, INC. AND SUBSIDIARIES
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)


NOTE F – Fair Value Measurements
FASB ASC 820 defines fair value as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. ASC 820 also establishes a fair value hierarchy that requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. The standard describes three levels of inputs that may be used to measure fair value:
Level 1: Quoted prices (unadjusted) for identical assets or liabilities in active exchange markets that the entity has the ability to access as of the measurement date.
Level 2: Significant other observable inputs other than Level 1 prices, such as quoted prices for similar assets or liabilities, quoted prices in markets that are not active and other inputs that are observable or can be corroborated by observable market data.
Level 3: Significant unobservable inputs that reflect a company’s own assumptions about the assumptions that market participants would use in pricing an asset or liability.
The Company has established and documented the process for determining the fair values of its assets and liabilities, where applicable. Fair value is based on quoted market prices, when available, for identical or similar assets or liabilities. In the absence of quoted market prices, fair value is determined using valuation models or third-party appraisals. The following is a description of the valuation methodologies used to measure and report the fair value of financial assets and liabilities on a recurring or nonrecurring basis.
Measured on a Recurring Basis
Available-for-Sale Securities and Derivative Contracts
Securities available for sale are recorded at fair value on a recurring basis. The fair value of debt securities are priced using model pricing based on the securities' relationship to other benchmark quoted prices as provided by an independent third party, and under GAAP are considered a Level 2 input method. Securities that are traded on active exchanges, including the Company's equity securities, are measured using the closing price in an active market and are considered a Level 1 input method.
The Company offers interest rate swaps to its variable rate borrowers who want to manage their interest rate risk. At the same time, the Company enters into the opposite trade with a counter party to offset its interest rate risk. The Company has also entered into commercial loan hedges as well as borrowings hedges using interest rate swaps. The fair value of these interest rate swaps are estimated by a third party pricing service using a discounted cash flow technique. These are considered a Level 2 input method.
 

23
Table of Contents
WASHINGTON FEDERAL, INC. AND SUBSIDIARIES
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)


The following tables present the balance of assets and liabilities measured at fair value on a recurring basis.
 
December 31, 2018
 
Level 1
 
Level 2
 
Level 3
 
Total
 
(In thousands)
Financial Assets
 
 
 
 
 
 
 
Available-for-sale securities:
 
 
 
 
 
 
 
U.S. government and agency securities
$
—

 
$
200,704

 
$
—

 
$
200,704

Municipal bonds
—

 
23,058

 
—

 
23,058

Corporate debt securities
—

 
222,541

 
—

 
222,541

Mortgage-backed securities
 
 
 
 
 
 
 
Agency pass-through certificates
—

 
1,005,037

 
—

 
1,005,037

Commercial MBS
—

 
—

 
—

 
—

Total available-for-sale securities
—

 
1,451,340

 
—

 
1,451,340

Interest rate contracts
—

 
3,341

 
—

 
3,341

Commercial loan hedges
—

 
1,506

 
—

 
1,506

Borrowings hedges
—

 
11,751

 
—

 
11,751

Total financial assets
$
—

 
$
1,467,938

 
$
—

 
$
1,467,938

 
 
 
 
 
 
 
 
Financial Liabilities
 
 
 
 
 
 
 
Interest rate contracts
$
—

 
$
3,341

 
$
—

 
$
3,341

Total financial liabilities
$
—

 
$
3,341

 
$
—

 
$
3,341

There were no transfers between, into and/or out of Levels 1, 2 or 3 during the three months ended December 31, 2018.

24
Table of Contents
WASHINGTON FEDERAL, INC. AND SUBSIDIARIES
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)


 
September 30, 2018
 
Level 1
 
Level 2
 
Level 3
 
Total
 
(In thousands)
Financial Assets
 
 
 
 
 
 
 
Available-for-sale securities:
 
 
 
 
 
 
 
Equity securities
$
488

 
$
—

 
$
—

 
$
488

U.S. government and agency securities
—

 
207,293

 
—

 
207,293

Municipal bonds
—

 
22,978

 
—

 
22,978

Corporate debt securities
—

 
184,695

 
—

 
184,695

Mortgage-backed securities
 
 
 
 
 
 
 
Agency pass-through certificates
—

 
896,041

 
—

 
896,041

Commercial MBS
—

 
3,462

 
—

 
3,462

Total available-for-sale securities
488

 
1,314,469

 
—

 
1,314,957

Interest rate contracts
—

 
12,731

 
—

 
12,731

Commercial loan hedges
—

 
3,857

 
—

 
3,857

Borrowings hedges
—

 
22,250

 
—

 
22,250

Total financial assets
$
488

 
$
1,353,307

 
$
—

 
$
1,353,795

 
 
 
 
 
 
 
 
Financial Liabilities
 
 
 
 
 
 
 
Interest rate contracts
$
—

 
$
12,731

 
$
—

 
$
12,731

Total financial liabilities
$
—

 
$
12,731

 
$
—

 
$
12,731

There were no transfers between, into and/or out of Levels 1, 2 or 3 during the fiscal year ended September 30, 2018.


25
Table of Contents
WASHINGTON FEDERAL, INC. AND SUBSIDIARIES
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)


Measured on a Nonrecurring Basis

Impaired Loans & Real Estate Owned

Real estate owned ("REO") consists principally of properties acquired through foreclosure. From time to time, and on a nonrecurring basis, adjustments using fair value measurements are recorded to reflect increases or decreases based on the discounted cash flows, the current appraisal or estimated value of the collateral, but only up to the fair value of the real estate owned as of the initial transfer date less selling costs.

When management determines that the fair value of the collateral or the real estate owned requires additional adjustments, either as a result of an updated appraised value or when there is no observable market price, the Company classifies the impaired loan or real estate owned as Level 3. Level 3 assets recorded at fair value on a nonrecurring basis at December 31, 2018 included loans for which a specific reserve allowance was established or a partial charge-off was recorded based on the fair value of collateral, as well as real estate owned where the fair value of the property was less than the cost basis.

The following tables present the aggregated balance of assets that were measured at fair value on a nonrecurring basis at December 31, 2018 and December 31, 2017, and the total gains (losses) resulting from those fair value adjustments for the three months ended December 31, 2018 and December 31, 2017. The estimated fair value measurements are shown gross of estimated selling costs.
 
 
December 31, 2018
 
Three Months Ended December 31, 2018
 
Level 1
 
Level  2
 
Level  3
 
Total
 
Total Gains (Losses)
 
(In thousands)
 
(In thousands)
Impaired loans (1)
$
—

 
$
—

 
$
1,970

 
$
1,970

 
$
(726
)
Real estate owned (2)
—

 
—

 
520

 
520

 
(32
)
Balance at end of period
$
—

 
$
—

 
$
2,490

 
$
2,490

 
$
(758
)

(1)
The gains (losses) represent remeasurements of collateral-dependent loans.
(2)
The gains (losses) represent aggregate writedowns and charge-offs on REO.

 
December 31, 2017
 
Three Months Ended December 31, 2017
 
Level 1
 
Level  2
 
Level  3
 
Total
 
Total Gains (Losses)
 
(In thousands)
 
(In thousands)
Impaired loans (1)
$
—

 
$
—

 
$
688

 
$
688

 
$
(507
)
Real estate owned (2)
—

 
—

 
2,055

 
2,055

 
(180
)
Balance at end of period
$
—

 
$
—

 
$
2,743

 
$
2,743

 
$
(687
)

(1)
The gains (losses) represent remeasurements of collateral-dependent loans.
(2)
The gains (losses) represent aggregate writedowns and charge-offs on REO.
Impaired loans - The Company adjusts the carrying amount of impaired loans when there is evidence of probable loss and the expected fair value of the loan is less than its contractual amount. The amount of the impairment may be determined based on the estimated present value of future cash flows or the fair value of the underlying collateral. Impaired loans with a specific reserve allowance based on cash flow analysis or the value of the underlying collateral are classified as Level 3 assets.
The evaluations for impairment are prepared by the Company's Problem Loan Review Committee, which is chaired by the Chief Credit Officer and includes the Loan Review manager and Special Credits manager, as well as senior credit officers, division managers and group executives, as applicable. These evaluations are performed in conjunction with the quarterly allowance for loan loss process.

26
Table of Contents
WASHINGTON FEDERAL, INC. AND SUBSIDIARIES
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)


Applicable loans included in the previous quarter's review are reevaluated and if their values are materially different from the prior quarter evaluation, the underlying information (loan balance and collateral value) are compared. Material differences are evaluated for reasonableness and discussions are held between the relationship manager and their division manager to understand the difference and determine if any adjustment is necessary.
The inputs are developed and substantiated on a quarterly basis, based on current borrower developments, market conditions and collateral values. The following methods are used to value impaired loans:
•
The fair value of the collateral, which may take the form of real estate or personal property, is based on internal estimates, field observations, assessments provided by third-party appraisers and other valuation models. The Company performs or reaffirms valuations of collateral-dependent impaired loans at least annually. Adjustments are made if management believes that more recent information is available and relevant with respect to the fair value of the collateral.
•
The present value of the expected future cash flows of the loans is used for measurement of non-collateral-dependent loans to test for impairment.
Real estate owned - When a loan is reclassified from loan status to real estate owned due to the Company taking possession of the collateral, a special credits officer, along with the special credits manager, obtains a valuation, which may include appraisals or third-party price opinions, which is used to establish the fair value of the underlying collateral. The determined fair value, less selling costs, becomes the carrying value of the REO asset.
The fair value of REO assets is re-evaluated quarterly and the REO asset is adjusted to reflect the fair value as necessary. After foreclosure, the valuations are updated periodically and current market conditions may require the assets to be written down further or up to the cost basis established on the date of transfer. The carrying balance of REO assets are also written down once a bona fide offer is contractually accepted, through execution of a purchase and sale agreement, where the accepted price is lower than the cost established on the transfer date.
Fair Values of Financial Instruments
FASB ASC 825 requires disclosure of fair value information about financial instruments, whether or not recognized on the statement of financial condition, for which it is practicable to estimate those values. Certain financial instruments and all non-financial instruments are excluded from the disclosure requirements. Accordingly, the aggregate fair value estimates presented do not reflect the underlying fair value of the Company. Although management is not aware of any factors that would materially affect the estimated fair value amounts presented below, such amounts have not been comprehensively revalued for purposes of these financial statements since the dates shown, and therefore, estimates of fair value subsequent to those dates may differ significantly from the amounts presented below. 

27
Table of Contents
WASHINGTON FEDERAL, INC. AND SUBSIDIARIES
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)


 
 
 
 
December 31, 2018
 
September 30, 2018
 
 
Level in Fair Value Hierarchy
 
Carrying
Amount
 
Estimated
Fair Value
 
Carrying
Amount
 
Estimated
Fair Value
 
 
 
 
($ in thousands)
Financial assets
 
 
 
 
 
 
 
 
 
 
Cash and cash equivalents
 
1
 
$
283,375

 
$
283,375

 
$
268,650

 
$
268,650

Available-for-sale securities
 
 
 
 
 
 
 
 
 
 
Equity securities
 
1
 
—

 
—

 
488

 
488

U.S. government and agency securities
 
2
 
200,704

 
200,704

 
207,293

 
207,293

Municipal bonds
 
2
 
23,058

 
23,058

 
22,978

 
22,978

Corporate debt securities
 
2
 
222,541

 
222,541

 
184,695

 
184,695

Mortgage-backed securities
 
 
 
 
 
 
 
 
 
 
Agency pass-through certificates
 
2
 
1,005,037

 
1,005,037

 
896,041

 
896,041

Commercial MBS
 
2
 
—

 
—

 
3,462

 
3,462

Total available-for-sale securities
 
 
 
1,451,340

 
1,451,340

 
1,314,957

 
1,314,957

Held-to-maturity securities
 
 
 
 
 
 
 
 
 
 
Mortgage-backed securities
 
 
 
 
 
 
 
 
 
 
Agency pass-through certificates
 
2
 
1,571,815

 
1,522,571

 
1,610,420

 
1,533,742

                           Commercial MBS
 
2
 
15,000

 
14,925

 
15,000

 
15,028

Total held-to-maturity securities
 
 
 
1,586,815

 
1,537,496

 
1,625,420

 
1,548,770

 
 
 
 
 
 
 
 
 
 
 
Loans receivable
 
3
 
11,700,239

 
12,020,772

 
11,477,081

 
11,556,326

FHLB and FRB stock
 
2
 
135,590

 
135,590

 
127,190

 
127,190

        Other assets - interest rate contracts
 
2
 
3,341

 
3,341

 
12,731

 
12,731

        Other assets - commercial loan hedges
 
2
 
1,506

 
1,506

 
3,857

 
3,857

        Other assets - borrowings hedges
 
2
 
11,751

 
11,751

 
22,250

 
22,250

 
 
 
 
 
 
 
 
 
 
 
Financial liabilities
 
 
 
 
 
 
 
 
 
 
Time deposit accounts
 
2
 
4,817,346

 
4,822,783

 
4,804,803

 
4,779,040

FHLB advances
 
2
 
2,540,000

 
2,537,375

 
2,330,000

 
2,316,964

        Other liabilities - interest rate contracts
 
2
 
3,341

 
3,341

 
12,731

 
12,731

The following methods and assumptions were used to estimate the fair value of financial instruments:
Cash and cash equivalents – The carrying amount of these items is a reasonable estimate of their fair value. 
Available-for-sale securities and held-to-maturity securities – Securities at fair value are primarily priced using model pricing based on the securities' relationship to other benchmark quoted prices as provided by an independent third party, and are considered a Level 2 input method. Equity securities that are exchange traded are considered a Level 1 input method.
Loans receivable – Fair values are estimated first by stratifying the portfolios of loans with similar financial characteristics. Loans are segregated by type such as multi-family real estate, residential mortgage, construction, commercial, consumer and land loans. Each loan category is further segmented into fixed- and adjustable-rate interest terms. For residential mortgages and multi-family loans, the bank determined that its best exit price was by securitization. MBS benchmark prices are used as a base price, with further loan level pricing adjustments made based on individual loan characteristics such as Fico score, LTV, Property Type and occupancy. For all other loan categories an estimate of fair value is then calculated based on discounted cash flows using as a discount rate the current rate offered and observed in the market on similar products, plus an adjustment for liquidity to reflect the non-homogeneous nature of the loans, as well as, a annual loss rate based on historical losses to arrive at an estimated exit price fair value. Fair value for impaired loans is also based on recent appraisals or estimated cash flows discounted using rates commensurate with risk associated with the estimated cash flows. Assumptions regarding credit risk, cash flows and discount rates are judgmentally determined using available market information and specific borrower information.

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WASHINGTON FEDERAL, INC. AND SUBSIDIARIES
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)


FHLB and FRB stock – The fair value is based upon the par value of the stock that equates to its carrying value.
Customer accounts – The fair value of demand deposits, savings accounts, and money market accounts is the amount payable on demand at the reporting date. The fair value of fixed-maturity certificates of deposit is estimated by discounting the estimated future cash flows using the rates currently offered for deposits with similar remaining maturities.
FHLB advances – The fair value of FHLB advances and other borrowings is estimated by discounting the estimated future cash flows using rates currently available to the Company for debt with similar remaining maturities.
Interest rate contracts – The Company offers interest rate swaps to its variable rate borrowers who want to manage their interest rate risk. At the same time, the Company enters into the opposite trade with a counterparty to offset its interest rate risk. The fair value of these interest rate swaps is estimated by a third party pricing service using a discounted cash flow technique.
Commercial loan hedges – The fair value of the interest rate swaps is estimated by a third party pricing service using a discounted cash flow technique.
Borrowings hedges – The fair value of the interest rate swaps is estimated by a third party pricing service using a discounted cash flow technique.
The following tables provide a reconciliation of amortized cost to fair value of available-for-sale and held-to-maturity securities.
 
December 31, 2018
 
Amortized
Cost
 
Gross Unrealized
 
Fair
Value
 
Yield
 
Gains
 
Losses
 
 
($ in thousands)
Available-for-sale securities

 
 
 
 
 
 
 
 
U.S. government and agency securities due
 
 
 
 
 
 
 
 
 
5 to 10 years
$
59,408

 
$
—

 
$
(1,386
)
 
$
58,022

 
2.72
%
Over 10 years
143,209

 
19

 
(546
)
 
142,682

 
3.30

Corporate debt securities due
 
 
 
 
 
 
 
 
 
1 to 5 years
113,798

 
1,068

 
(1,605
)
 
113,261

 
3.93

5 to 10 years
112,587

 
—

 
(3,307
)
 
109,280

 
3.35

Municipal bonds due
 
 
 
 
 
 
 
 
 
1 to 5 years
1,406

 
—

 
(8
)
 
1,398

 
2.05

Over 10 years
20,318

 
1,342

 
—

 
21,660

 
6.45

Mortgage-backed securities
 
 
 
 
 
 
 
 
 
Agency pass-through certificates
1,008,622

 
4,888

 
(8,473
)
 
1,005,037

 
3.36

 
1,459,348

 
7,317

 
(15,325
)
 
1,451,340

 
3.42

Held-to-maturity securities
 
 
 
 
 
 
 
 
 
Mortgage-backed securities
 
 
 
 
 
 
 
 
 
Agency pass-through certificates
1,571,815

 
870

 
(50,114
)
 
1,522,571

 
3.16

Commercial MBS
15,000

 
—

 
(75
)
 
14,925

 
3.33

 
1,586,815

 
870

 
(50,189
)
 
1,537,496

 
3.16

 
$
3,046,163

 
$
8,187

 
$
(65,514
)
 
$
2,988,836

 
3.29
%
 

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WASHINGTON FEDERAL, INC. AND SUBSIDIARIES
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)


 
September 30, 2018
 
Amortized
Cost
 
Gross Unrealized
 
Fair
Value
 
Yield
 
Gains
Losses
 
 
($ in thousands)
Available-for-sale securities
 
 
 
 
 
 
 
 
 
U.S. government and agency securities due
 
 
 
 
 
 
 
 
 
5 to 10 years
$
60,872

 
$
—

 
$
(1,473
)
 
$
59,399

 
2.55
%
Over 10 years
148,099

 
109

 
(314
)
 
147,894

 
3.05

Equity securities
 
 
 
 
 
 
 
 
 
1 to 5 years
500

 
—

 
(12
)
 
488

 
1.80

Corporate bonds due
 
 
 
 
 
 
 
 
 
1 to 5 years
113,762

 
1,875

 
(13
)
 
115,624

 
3.59

5 to 10 years
69,965

 
35

 
(929
)
 
69,071

 
3.23

Municipal bonds due
 
 
 
 
 
 
 
 
 
1 to 5 years
1,398

 
—

 
(24
)
 
1,374

 
2.05

Over 10 years
20,323

 
1,281

 
—

 
21,604

 
6.45

Mortgage-backed securities
 
 
 
 
 
 
 
 
 
Agency pass-through certificates
908,092

 
1,383

 
(13,434
)
 
896,041

 
3.29

Commercial MBS
3,460

 
2

 
—

 
3,462

 
4.36

 
1,326,471

 
4,685

 
(16,199
)
 
1,314,957

 
3.30

Held-to-maturity securities
 
 
 
 
 
 
 
 
 
Mortgage-backed securities
 
 
 
 
 
 
 
 
 
Agency pass-through certificates
1,610,420

 
305

 
(76,983
)
 
1,533,742

 
3.16

Other Commercial MBS
15,000

 
28

 
—

 
15,028

 
3.03

 
1,625,420

 
333

 
(76,983
)
 
1,548,770

 
3.16

 
$
2,951,891

 
$
5,018

 
$
(93,182
)
 
$
2,863,727

 
3.22
%

For available-for-sale investment securities, there were sales totaling $491,000 during the three months ended December 31, 2018 and no sales during the three months ended December 31, 2017. There were purchases of $172,076,000 of available-for-sale investment securities during the three months ended December 31, 2018 and purchases of $40,884 during the three months ended December 31, 2017. For held-to-maturity investment securities, there were no purchases during the three months ended December 31, 2018 and purchases of $170,836,000 during the three months ended December 31, 2017. There were no sales of held-to-maturity investment securities during either period. Substantially all of the agency mortgage-backed securities have contractual due dates that exceed 10 years.
The following tables show the unrealized gross losses and fair value of securities as of December 31, 2018 and September 30, 2018, by length of time that individual securities in each category have been in a continuous loss position. The decline in fair value since purchase is attributable to changes in interest rates. Because the Company does not intend to sell these securities and does not consider it more likely than not that it will be required to sell these securities before the recovery of amortized cost basis, which may be upon maturity, the Company does not consider these investments to be other than temporarily impaired.

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WASHINGTON FEDERAL, INC. AND SUBSIDIARIES
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)


 
December 31, 2018
Less than 12 months
 
12 months or more
 
Total
 
Unrealized
Gross Losses
 
Fair
Value
 
Unrealized
Gross Losses
 
Fair
Value
 
Unrealized
Gross Losses
 
Fair
Value
 
(In thousands)
 
 
Corporate debt securities
$
(1,172
)
 
$
61,415

 
$
(3,740
)
 
$
96,261

 
$
(4,912
)
 
157,676

Municipal bonds
(8
)
 
1,398

 
—

 
—

 
(8
)
 
1,398

U.S. government and agency securities
(286
)
 
69,152

 
(1,646
)
 
74,212

 
(1,932
)
 
143,364

Mortgage-backed securities
(14,860
)
 
869,583

 
(43,802
)
 
1,077,341

 
(58,662
)
 
1,946,924

 
$
(16,326
)
 
$
1,001,548

 
$
(49,188
)
 
$
1,247,814

 
$
(65,514
)
 
$
2,249,362


September 30, 2018
Less than 12 months
 
12 months or more
 
Total
 
Unrealized
Gross Losses
 
Fair
Value
 
Unrealized
Gross Losses
 
Fair
Value
 
Unrealized
Gross Losses
 
Fair
Value
 
(In thousands)
 
 
Corporate debt securities
$
(929
)
 
$
49,072

 
$
(14
)
 
$
24,988

 
$
(943
)
 
$
74,060

Municipal bonds due
(24
)
 
1,374

 
—

 
—

 
(24
)
 
1,374

U.S. government and agency securities
(141
)
 
37,565

 
(1,645
)
 
76,499

 
(1,786
)
 
114,064

Equity securities
(12
)
 
488

 
—

 
—

 
(12
)
 
488

Mortgage-backed securities
(28,748
)
 
1,035,754

 
(61,669
)
 
1,183,017

 
(90,417
)
 
2,218,771

 
$
(29,854
)
 
$
1,124,253

 
$
(63,328
)
 
$
1,284,504

 
$
(93,182
)
 
$
2,408,757



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WASHINGTON FEDERAL, INC. AND SUBSIDIARIES
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)


NOTE G – Derivatives and Hedging Activities

On October 1, 2018, the Company early adopted ASU 2017-12, Targeted Improvements to Accounting for Hedge Activities. This standard primarily impacts the accounting for derivatives designated as fair value and cash flow accounting hedges.

The following tables present the fair value, notional amount and balance sheet classification of derivative assets and liabilities at December 31, 2018 and September 30, 2018:

December 31, 2018
Derivatives Assets
 
Derivative Liabilities
 
Balance Sheet Location
Notional
Fair Value
 
Balance Sheet Location
Notional
Fair Value
 
(In thousands)
 
(In thousands)
Client swap program
Other assets
$
385,302

$
3,341

 
Other liabilities
$
385,302

$
3,341

Commercial loan fair value hedges
Other assets
95,645

1,506

 
Other liabilities
—

—

Borrowings cash flow hedges
Other assets
700,000

11,751

 
Other liabilities
—

—

 
 
$
1,180,947

$
16,598

 
 
$
385,302

$
3,341


September 30, 2018
Derivatives Assets
 
Derivative Liabilities
Interest rate contract purpose
Balance Sheet Location
Notional
Fair Value
 
Balance Sheet Location
Notional
Fair Value
 
(In thousands)
 
(In thousands)
Client swap program
Other assets
$
395,396

$
12,731

 
Other liabilities
$
395,396

$
12,731

Commercial loan fair value hedges
Other assets
97,927

3,857

 
Other liabilities
—

—

Borrowings cash flow hedges
Other assets
700,000

22,250

 
Other liabilities
—

—

 
 
$
1,193,323

$
38,838

 
 
$
395,396

$
12,731


The Company enters into interest rate swaps to hedge the interest rate risk of individual fixed rate commercial loans and these relationships qualify as fair value hedges under ASC 815, which provides for offsetting of the recognition of gains and losses of the respective interest rate swap and the hedged item. Gains and losses on the interest rate swaps designated in these hedge relationships, along with the offsetting gains and losses on the hedged items attributable to the hedged risk, are recognized in current earnings within the same income statement line item.

Upon electing to apply ASC 815 fair value hedge accounting, the carrying value of the hedged item is adjusted to reflect the cumulative impact of changes in fair value attributable to the hedged risk. The hedge basis adjustment remains with the hedged item until the hedged item is de-recognized from the balance sheet. The following table presents the impact of fair value hedge accounting on the carrying value of the hedged items (fixed rate commercial loans) at December 31, 2018:
(In thousands)
December 31, 2018
Balance sheet line item in which hedged item is recorded
Carrying value of hedged items
Cumulative fair value hedge adjustment included in carrying amount of hedged items
Loans receivable
$
97,377

$
1,506

 
$
97,377

$
1,506



The Company has entered into interest rate swaps to convert certain short-term borrowings to fixed rate payments. The primary purpose of these hedges is to mitigate the risk of changes in future cash flows resulting from increasing interest rates. For qualifying cash flow hedges under ASC 815, gains and losses on the interest rate swaps are recorded in accumulated other comprehensive income ("AOCI") and then reclassified into earnings in the same period the hedged cash flows affect earnings and within the same

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WASHINGTON FEDERAL, INC. AND SUBSIDIARIES
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)


income statement line item as the hedged cash flows. As of December 31, 2018, the maturities for hedges of adjustable rate borrowings ranged from two to eight years, with the weighted average being 3.4 years.

The following table presents the impact of derivative instruments (cash flow hedges on borrowings) on AOCI for the periods presented:

(In thousands)
Three Months Ended December 31,
Amount of gain/(loss) recognized in AOCI on derivatives in cash flow hedging relationships
2018
Interest rate contracts:
 
Pay fixed/receive floating swaps on cash flow hedges of borrowings
$
(10,499
)
Total pre-tax gain/(loss) recognized in AOCI
$
(10,499
)

The following table presents the gains/(losses) on derivative instruments in fair value and cash flow accounting hedging relationships under ASC 815 for the period presented:

Three Months Ended December 31, 2018
Interest income on loans receivable
Interest expense on FHLB advances
 
(In thousands)
Interest income/expense, including the effects of fair value and cash flow hedges
$
137,065

$
16,891

 
 
 
Gain/(loss) on fair value hedging relationships:
 
 
Interest rate contracts
 
 
Amounts related to interest settlements on derivatives
$
19

 
Recognized on derivatives
(2,317
)
 
Recognized on hedged items
2,279

 
Net income/(expense) recognized on fair value hedges
$
(19
)
 
 
 
 
Gain/(loss) on cash flow hedging relationships:
 
 
Interest rate contracts
 
 
Amounts related to interest settlements on derivatives
 
$
(551
)
Amount of derivative gain/(loss) reclassified from AOCI into interest income/expense
 
—

Net income/(expense) recognized on cash flow hedges
 
$
(551
)

The Company periodically enters into certain interest rate swap agreements in order to provide commercial loan customers the ability to convert from variable to fixed interest rate payments, while the Company retains a variable rate loan. Under these agreements, the Company enters into a variable rate loan agreement and a swap agreement with the client. The swap agreement effectively converts the client’s variable rate loan into a fixed rate. The Company enters into a corresponding swap agreement with a third party in order to offset its exposure on the variable and fixed components of the client's swap agreement. The interest rate swaps are derivatives under FASB ASC 815, Derivatives and Hedging, with changes in fair value recorded in earnings. There was no net impact to the statement of operations for the three months ended December 31, 2018 and 2017 as the changes in fair value of the receive fixed swap and pay fixed swap offset each other.

The following table presents the impact of derivative instruments (client swap program) that are not designated in accounting hedges under ASC 815 for the periods presented:


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WASHINGTON FEDERAL, INC. AND SUBSIDIARIES
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)


(In thousands)
 
Three Months Ended December 31,
Derivative instruments
Classification of gain/(loss) recognized in income on derivative instrument
2018
Interest rate contracts:
 
 
Pay fixed/receive floating swap
Other noninterest income
$
(9,390
)
Receive fixed/pay floating swap
Other noninterest income
9,390

 
 
$
—



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WASHINGTON FEDERAL, INC. AND SUBSIDIARIES
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)


NOTE H – Revenue from Contracts with Customers

On October 1, 2018, the Company adopted ASU No. 2014-09, Revenue from Contracts with Customers ("ASC 606"). Since net interest income on financial assets and liabilities is excluded from this guidance, a significant majority of our revenues are not subject to the new guidance.

Revenue streams that are within the scope of the new guidance are presented within noninterest income and are, in general, recognized as revenue at the same time the Company's obligation to the customer is satisfied. Most of the Company's customer contracts that are within the scope of the new guidance are cancelable by either party without penalty and are short-term in nature. These sources of revenue include depositor and other consumer and business banking fees, commission income, as well as debit and credit card interchange fees. For the three months ended December 31, 2018, in scope revenue streams represented approximately 4.9% of our total revenues. As this standard is immaterial to our consolidated financial statements, the Company has omitted certain disclosures in ASC 606, including the disaggregation of revenue table. Sources of noninterest income within the scope of the new guidance include the following:

Deposit related and other service charges (recognized in Deposit Fee Income): The Company's deposit accounts are governed by standardized contracts customary in the industry. Revenues are earned at a point in time or over time (monthly) from account maintenance fees and charges for specific transactions such as wire transfers, stop payment orders, overdrafts, debit card replacements, check orders and cashier’s checks. The Company’s performance obligation related to each of these fees is generally satisfied, and the related revenue recognized, at the time the service is provided (point in time or monthly). The Company is principal in each of these contracts.

Debit and Credit Card Interchange Fees (recognized in Deposit Fee Income): The Company receives interchange fees from the debit card or credit card payment network based on transactions involving debit or credit cards issued by the Company, generally measured as a percentage of the underlying transaction. Interchange fees from debit and credit card transactions are recognized as the transaction processing services are provided by the network. The Company acts as an agent in the card payment network arrangement so the interchange fees are recorded net of any expenses paid to the principal (the card network in this case).

Insurance Agency Commissions (recognized in Other Income): WAFD Insurance Group, Inc. is a wholly-owned subsidiary of Washington Federal, N.A. that operates as an insurance agency, selling and marketing property and casualty insurance policies for a small number of high-quality insurance carriers. WAFD Insurance Group, Inc. earns revenue in the form of commissions paid by the insurance carriers for policies that have been sold. In addition to the origination commission, WAFD Insurance Group, Inc. may also receive contingent incentive fees based on the volume of business generated for the insurance carrier and based on policy renewal rates.



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WASHINGTON FEDERAL, INC. AND SUBSIDIARIES

PART I – Financial Information
Item 2.        Management’s Discussion and Analysis of Financial Condition and Results of Operations

FORWARD LOOKING STATEMENTS

Washington Federal, Inc. (the "Company" or "Washington Federal") makes statements in this Quarterly Report on Form 10-Q that constitute forward-looking statements. Words such as “expects,” “anticipates,” “believes,” “estimates,” “intends,” “forecasts,” “projects” and other similar expressions or future or conditional verbs such as “will,” “should,” “would” and “could” are intended to help identify such forward-looking statements. These statements are not historical facts, but instead represent current expectations, plans or forecasts of the Company and are based on the beliefs and assumptions of the management of the Company and the information available to management at the time that these disclosures were prepared. The Company intends for all such forward-looking statements to be covered by the safe harbor provisions for forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995 and the provisions of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. These statements are not guarantees of future results or performance and involve certain risks, uncertainties and assumptions that are difficult to predict and often are beyond the Company's control. Actual outcomes and results may differ materially from those expressed in, or implied by, the Company's forward-looking statements.
You should not place undue reliance on any forward-looking statement and should consider the following uncertainties and risks, as well as the risks and uncertainties discussed elsewhere in this report, including under Item 1A. “Risk Factors,” and in any of the Company's other subsequent Securities and Exchange Commission ("SEC") filings, which could cause the Company's future results to differ materially from the plans, objectives, goals, estimates, intentions and expectations expressed in forward-looking statements:
•
a deterioration in economic conditions, including declines in the real estate market and home sale volumes and financial stress on borrowers (consumers and businesses) as a result of the uncertain economic environment;
•
the effects of a severe economic downturn, including high unemployment rates and declines in housing prices and property values, in the Company's primary market areas;
•
the effects of and changes in monetary and fiscal policies of the Board of Governors of the Federal Reserve System and the U.S. Government;
•
fluctuations in interest rate risk and changes in market interest rates;
•
the Company's ability to make accurate assumptions and judgments about the collectability of its loan portfolio, including the creditworthiness of its borrowers and the value of the assets securing these loans;
•
the Company's ability to successfully complete merger and acquisition activities and realize expected strategic and operating efficiencies associated with such activities;
•
legislative and regulatory limitations, including those arising under the Dodd-Frank Act and potential limitations
in the manner in which the Company conducts its business and undertake new investments and activities;
•
the ability of the Company to obtain external financing to fund its operations or obtain this financing on favorable terms;
•
changes in other economic, competitive, governmental, regulatory and technological factors affecting the Company's markets, operations, pricing, products, services and fees;
•
the success of the Company at managing the risks involved in the remediation efforts associated with its Bank Secrecy Act program, costs of enhancements to the Bank’s BSA program are greater than anticipated; and governmental authorities undertake enforcement actions or legal proceedings with respect to the Bank’s BSA program beyond those contemplated by the Consent Order, and the potential impact of such matters on the success, timing and ability to pursue the Company’s growth or other business initiatives;
•
the success of the Company at managing the risks involved in the foregoing and managing its business; and
•
the timing and occurrence or non-occurrence of events that may be subject to circumstances beyond the Company's control.

All forward-looking statements speak only as of the date on which such statements are made, and the Company undertakes no obligation to update or revise any forward-looking statements to reflect changed assumptions, the occurrence of unanticipated events, changes to future operating results over time, or the impact of circumstances arising after the date the forward-looking statement was made.
GENERAL & BUSINESS DESCRIPTION
Washington Federal, Inc. is a bank holding company headquartered in Seattle, Washington that conducts its operations through Washington Federal, National Association (“Bank”), a federally chartered national bank subsidiary. Washington Federal, Inc. and

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WASHINGTON FEDERAL, INC. AND SUBSIDIARIES

its consolidated subsidiaries are engaged primarily in providing lending, depository, insurance and other banking services to consumers, mid-sized to large businesses, and owners and developers of commercial real estate.

The Company's fiscal year end is September 30th. All references to 2018 represent balances as of September 30, 2018 or activity for the fiscal year then ended.

INTEREST RATE RISK
Based on management's assessment of the current interest rate environment, the Company has taken steps, including growing shorter-term loans and transaction deposit accounts, to reduce its interest rate risk profile. The mix of transaction and savings accounts is 58% of total deposits as of December 31, 2018 while the composition of the investment securities portfolio is 24% variable and 76% fixed rate. When interest rates rise, the fair value of the investment securities with fixed rates will decrease and vice versa when interest rates decline. The Company has $1,586,815,000 of mortgage-backed securities that it has designated as held-to-maturity and are carried at amortized cost. As of December 31, 2018, the net unrealized loss on these securities was $49,319,000. The Company has $1,451,340,000 of available-for-sale securities that are carried at fair value. As of December 31, 2018, the net unrealized loss on these securities was $8,008,000. The Company has executed interest rate swaps to hedge interest rate risk on certain FHLB borrowings. The unrealized gain on these interest rate swaps as of December 31, 2018 was $11,751,000. All of the above are pre-tax net unrealized gains or losses.

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”) of the Company.
Net Interest Income Sensitivity. The Company estimates the sensitivity of its net interest income to changes in market interest rates using an interest rate simulation model that includes assumptions related to the level of balance sheet growth, deposit repricing characteristics and the rate of prepayments for multiple interest rate change scenarios. Interest rate sensitivity depends on certain repricing characteristics in the Company's interest-earnings assets and interest-bearing liabilities, including the maturity structure of assets and liabilities and their repricing characteristics during the periods of changes in market interest rates. The analysis assumes a constant balance sheet. Actual results would 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.

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 would decrease by 2.6% in the next year. This compares to an estimated decrease of 2.3% as of the September 30, 2018 analysis. The change is primarily due to higher interest rates, lower expected prepayment speeds and shifts in the mix of fixed versus adjustable rate assets, partially offset by a decrease in the estimated deposit betas used for transaction deposits in the Company's asset liability management model. Management estimates that a gradual increase of 300 basis points in short term rates and 100 basis points in long term rates over two years would result in a net interest income decrease of 1.3% in the first year and decrease of 6.5% in the second year assuming a constant balance sheet and no management intervention.

NPV Sensitivity. NPV is an estimate of the market value of shareholders' equity. NPV is calculated as 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 NPV to changes in interest rates provides a view of interest rate risk as it incorporates all future expected cash flows. As of December 31, 2018, in the event of an immediate and parallel increase of 200 basis points in interest rates, the NPV is estimated to decline by $456,791,000 or 22.5% and the NPV to total assets ratio to decline to 10.6% from a base of 12.7%. As of September 30, 2018, the NPV in the event of a 200 basis point increase in rates was estimated to decline by $452,713,000 or 20.5% and the NPV to total assets ratio to decline to 12.1% from a base of 14.2%. The change in NPV sensitivity and lower base NPV ratio is due primarily to higher interest rates that have resulted in lower asset prices as well as greater asset price sensitivity due to lower expected prepayment speeds on fixed rate loans and mortgage-backed securities as of December 31, 2018.
Interest Rate Spread. The interest rate spread is measured as the difference between the rate on total loans and investments and the rate on costing liabilities at the end of each period. The interest rate spread decreased to 2.86% at December 31, 2018 from 2.90% at September 30, 2018. The spread decrease of 4 basis points is primarily due to the rise in short-term interest rates, which resulted in a higher rate being paid on interest-bearing deposits and short-term FHLB borrowings partially offset by a higher rate being earned on cash and adjustable rate loans and investment securities. As of December 31, 2018, the weighted average rate on earning assets increased by 10 basis points to 4.17% compared to September 30, 2018, while the weighted average cost of funds increased by 14 basis points to 1.31%. The interest rate spread decreased to 2.86% at December 31, 2018 from 2.92% at December 31, 2017 due to the same factors described above.

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WASHINGTON FEDERAL, INC. AND SUBSIDIARIES

Net Interest Margin. Net interest margin is measured as net interest income divided by average earning assets for the period. Net interest margin decreased to 3.21% for the quarter ended December 31, 2018 from 3.26% for the quarter ended December 31, 2017. The yield on earning assets increased 27 basis points to 4.35% and the cost of interest bearing liabilities increased 33 basis point to 1.24% over that same period. The higher yield on earning assets is the result of the rise in short-term interest rates, which resulted in a higher rate being earned on cash and adjustable rate loans and investment securities, as well as the shift in mix from investment securities into a higher proportion of loans receivable that carry higher yields on average. The higher rate in interest bearing liabilities was primarily due to the increase in rates on interest-bearing deposit accounts and short-term FHLB advances partially offset by the maturity of certain long-term FHLB advances with higher rates.
The following table sets forth the information explaining the changes in the net interest margin for the period indicated compared to the same period one year ago.
 
Three Months Ended December 31, 2018
 
Three Months Ended December 31, 2017
 
Average Balance
 
Interest
 
Average Rate
 
Average Balance
 
Interest
 
Average Rate
 
($ in thousands)
 
($ in thousands)
Assets
 
 
 
 
 
 
 
 
 
 
 
Loans receivable
$
11,542,621

 
$
137,065

 
4.71
%
 
$
10,984,886

 
$
124,511

 
4.50
%
Mortgaged-backed securities
2,592,535

 
19,192

 
2.94

 
2,521,407

 
16,899

 
2.66

Cash & Investments
579,580

 
4,752

 
3.25

 
559,370

 
3,273

 
2.32

FHLB & FRB stock
132,305

 
1,613

 
4.84

 
126,229

 
1,097

 
3.45

 
 
 
 
 
 
 
 
 
 
 
 
 Total interest-earning assets
14,847,041

 
162,622

 
4.35
%
 
14,191,892

 
145,780

 
4.08
%
Other assets
1,167,575

 
 
 
 
 
1,149,607

 
 
 
 
Total assets
$
16,014,616

 
 
 
 
 
$
15,341,499

 
 
 

 
 
 
 
 
 
 
 
 
 
 
 
Liabilities and Equity
 
 
 
 
 
 
 
 
 
 
 
Customer accounts
$
11,436,685

 
$
26,579

 
0.92
%
 
$
10,850,742

 
$
14,638

 
0.54
%
FHLB advances
2,457,880

 
16,891

 
2.73

 
2,305,978

 
15,407

 
2.65

 
 
 
 
 
 
 
 
 
 
 
 
Total interest-bearing liabilities
13,894,565

 
43,470

 
1.24
%
 
13,156,720

 
30,045

 
0.91
%
Other liabilities
129,396

 
 
 
 
 
168,382

 
 
 
 
               Total liabilities
14,023,961

 
 
 
 
 
13,325,102

 
 
 
 
Stockholders' equity
1,990,655

 
 
 
 
 
2,016,397

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Total liabilities and equity
$
16,014,616

 
 
 
 
 
$
15,341,499

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Net interest income
 
 
$
119,152

 
 
 
 
 
$
115,735

 
 
 
 
 
 
 
 
 
 
 
 
 
 
Net interest margin
 
 
 
 
3.21
%
 
 
 
 
 
3.26
%
As of December 31, 2018, total assets had increased by $322,402,000 to $16,188,126,000 from $15,865,724,000 at September 30, 2018. During the three months ended December 31, 2018, cash and cash equivalents increased by $14,725,000, loans receivable increased $223,158,000, and investment securities increased by $97,778,000.
Cash and cash equivalents of $283,375,000 and stockholders’ equity of $1,983,089,000 as of December 31, 2018 provide management with flexibility in managing interest rate risk going forward.

LIQUIDITY AND CAPITAL RESOURCES

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The principal sources of funds for the Company's activities are loan repayments (including prepayments), net deposit inflows, repayments and sales of investments and borrowings and retained earnings, if applicable. The Company's principal sources of revenue are interest on loans and interest and dividends on investments.
The Bank has a credit line with the Federal Home Loan Bank of Des Moines ("FHLB") up to 45% of total assets depending on specific collateral eligibility. This line provides a substantial source of additional liquidity if needed.
The Bank has entered into borrowing agreements with the FHLB to borrow funds under a short-term floating rate cash management advance program and fixed-rate term loan agreements. All borrowings are secured by stock of the FHLB, deposits with the FHLB, and a blanket pledge of qualifying loans receivable as provided in the agreements with the FHLB. The Bank is also eligible to borrow under the Federal Reserve Bank's primary credit program.
The Company's cash and cash equivalents totaled $283,375,000 at December 31, 2018, an increase from $268,650,000 at September 30, 2018. These amounts include the Bank's operating cash.
The Company’s net worth at December 31, 2018 was $1,983,089,000, or 12.25% of total assets. This is a decrease of $13,819,000 from September 30, 2018 when net worth was $1,996,908,000, or 12.59% of total assets. The Company’s net worth was impacted in the three months ended December 31, 2018 by net income of $52,942,000, the payment of $14,638,000 in cash dividends, treasury stock purchases of $48,930,000, as well as an other comprehensive loss of $5,403,000. The ratio of tangible capital to tangible assets at December 31, 2018 was 10.53%. Management believes the Company's strong net worth position allows it to manage balance sheet risk and provide the capital support needed for controlled growth in a regulated environment.
Washington Federal, Inc. and its banking subsidiary are subject to various regulatory capital requirements administered by the federal banking agencies. Failure to meet minimum capital requirements can initiate certain mandatory and possibly discretionary actions by regulators that, if undertaken, could have a direct material effect on the Company's financial statements.
Federal banking agencies establish regulatory capital rules that require minimum capital ratios and establish criteria for calculating regulatory capital. Minimum capital ratios for four measures are used for assessing capital adequacy. The standards are indicated in the table below. The common equity tier 1 capital ratio recognizes common equity as the highest form of capital. The denominator for all except the leverage ratio is risk weighted assets. The rules set forth a “capital conservation buffer” of up to 2.5%. In the event that a bank’s capital levels fall below the minimum ratios plus these buffers, the bank's regulators may place restrictions on it. These restrictions include reducing dividend payments, share buy-backs, and staff bonus payments. The purpose of these buffers is to require banks to build up capital outside of periods of stress that can be drawn down during periods of stress. As a result, even during periods where losses are incurred, the minimum capital ratios can still be met. The capital rules that became effective in January 2015 include a phase-in period for certain minimum ratios and the capital buffers, before the full minimum ratios take effect in 2019. Management continues to monitor the financial position of the Company and its capital ratios as the rules phase in.

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WASHINGTON FEDERAL, INC. AND SUBSIDIARIES

There are also standards for Adequate and Well Capitalized criteria that are used for “Prompt Corrective Action” purposes. To remain categorized as well capitalized, the Bank and the Company must maintain minimum common equity risk-based, tier 1 risk-based, total risk-based and tier 1 leverage ratios as set forth in the following table.
 
Actual
 
Minimum Capital
Adequacy Guidelines
 
Minimum Well-Capitalized Guidelines
($ in thousands)
Capital
 
Ratio
 
Ratio
 
Ratio
 
 
December 31, 2018
 
 
 
 
 
 
 
Common Equity Tier I risk-based capital ratio:
 
 
 
 
 
 
 
      The Company
$
1,670,577

 
14.44
%
 
4.50
%
 
NA

      The Bank
1,663,692

 
14.38
%
 
4.50
%
 
6.50
%
Tier I risk-based capital ratio:
 
 
 
 
 
 
 
      The Company
1,670,577

 
14.44
%
 
6.00
%
 
NA

      The Bank
1,663,692

 
14.38
%
 
6.00
%
 
8.00
%
Total risk-based capital ratio:
 
 
 
 
 
 
 
      The Company
1,807,992

 
15.63
%
 
8.00
%
 
NA

      The Bank
1,801,107

 
15.56
%
 
8.00
%
 
10.00
%
Tier 1 Leverage ratio:
 
 
 
 
 
 
 
      The Company
1,670,577

 
10.63
%
 
4.00
%
 
NA

      The Bank
1,663,692

 
10.58
%
 
4.00
%
 
5.00
%
 
 
 
 
 
 
 
 
September 30, 2018
 
 
 
 
 
 
 
Common Equity Tier 1 risk-based capital ratio:
 
 
 
 
 
 
 
      The Company
$
1,678,475

 
14.71
%
 
4.50
%
 
NA

      The Bank
1,661,628

 
14.55
%
 
4.50
%
 
6.50
%
Tier I risk-based capital ratio:
 
 
 
 
 
 
 
      The Company
1,678,475

 
14.71
%
 
6.00
%
 
NA

      The Bank
1,661,628

 
14.55
%
 
6.00
%
 
8.00
%
Total risk-based capital ratio:
 
 
 
 
 
 
 
      The Company
1,814,981

 
15.91
%
 
8.00
%
 
NA

      The Bank
1,798,135

 
15.75
%
 
8.00
%
 
10.00
%
Tier 1 Leverage ratio:
 
 
 
 
 
 
 
      The Company
1,678,475

 
10.85
%
 
4.00
%
 
NA

      The Bank
1,661,628

 
10.74
%
 
4.00
%
 
5.00
%

CHANGES IN FINANCIAL CONDITION
Cash and cash equivalents: Cash and cash equivalents are $283,375,000 at December 31, 2018, an increase of $14,725,000, or 5.5%, since September 30, 2018.

Available-for-sale and held-to-maturity investment securities: Available-for-sale securities increased $136,383,000, or 10.4%, during the three months ended December 31, 2018, mostly due to purchases of $172,076,000 and a decrease in the net unrealized loss of $3,515,000, partially offset by principal repayments and maturities of $38,118,000. During the same period, the balance of held-to-maturity securities decreased by $38,605,000 primarily due to principal pay-downs and maturities of $37,736,000. As of December 31, 2018, the Company had a net unrealized loss on available-for-sale securities of $8,008,000, which is included on a net of tax basis in accumulated other comprehensive income (loss).


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WASHINGTON FEDERAL, INC. AND SUBSIDIARIES

Loans receivable: Loans receivable, net of related contra accounts, increased by $223,158,000 to $11,700,239,000 at December 31, 2018, compared to $11,477,081,000 at September 30, 2018. The increase resulted primarily from originations of $1,044,766,000 partially offset by loan principal repayments of $871,794,000. Commercial loan originations accounted for 73% of total originations and consumer loan originations were 27% during the period. The increase in the loan portfolio is consistent with management's strategy during low rate environments to produce more multifamily, commercial real estate, and commercial and industrial loans that generally have adjustable interest rates or a shorter duration.
The following table shows the loan portfolio by category and the change.

 
December 31, 2018
 
September 30, 2018
 
Change
 
($ in thousands)
 
($ in thousands)
 
$
%
Gross loans by category
 
 
 
 
 
 
 
 
   Single-family residential
$
5,844,963

44.9
%
 
$
5,798,966

45.1
%
 
$
45,997

0.8
 %
   Construction
1,841,674

14.1

 
1,890,668

14.7

 
(48,994
)
(2.6
)
   Construction - custom
607,071

4.7

 
624,479

4.9

 
(17,408
)
(2.8
)
   Land - acquisition & development
181,323

1.4

 
155,204

1.2

 
26,119

16.8

   Land - consumer lot loans
100,563

0.8

 
102,036

0.8

 
(1,473
)
(1.4
)
   Multi-family
1,405,172

10.8

 
1,385,125

10.8

 
20,047

1.4

   Commercial real estate
1,526,887

11.7

 
1,452,168

11.3

 
74,719

5.1

   Commercial & industrial
1,213,738

9.3

 
1,140,874

8.9

 
72,864

6.4

   HELOC
136,856

1.1

 
130,852

1.0

 
6,004

4.6

   Consumer
162,221

1.2

 
173,306

1.3

 
(11,085
)
(6.4
)
Total gross loans
13,020,468

100
%
 
12,853,678

100
%
 
166,790

1.3
 %
   Less:
 
 
 
 
 
 
 
 
      Allowance for loan losses
131,165

 
 
129,257

 
 
1,908

1.5
 %
      Loans in process
1,138,308

 
 
1,195,506

 
 
(57,198
)
(4.8
)
      Net deferred fees, costs and discounts
50,756

 
 
51,834

 
 
(1,078
)
(2.1
)
Total loan contra accounts
1,320,229

 
 
1,376,597

 
 
(56,368
)
(4.1
)
Net Loans
$
11,700,239

 
 
$
11,477,081

 
 
$
223,158

1.9
 %
 
Non-performing assets: Non-performing assets decreased $7,363,000 during the three months ended December 31, 2018 to $62,730,000 from $70,093,000 at September 30, 2018. The change is due to a $4,236,000 decrease in non-accrual loans and $3,127,000 decline in real estate owned ("REO"). Non-performing assets as a percentage of total assets was 0.39% at December 31, 2018 compared to 0.44% at September 30, 2018.




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The following table sets forth information regarding restructured loans and non-performing assets.
 
December 31,
2018
 
September 30,
2018
 
($ in thousands)
Restructured loans:
 
 
 
 
 
 
 
Single-family residential
$
133,808

 
89.4
%
 
$
139,797

 
89.1
%
Land - acquisition & development
103

 
0.1

 
107

 
0.1

Land - consumer lot loans
4,601

 
3.1

 
4,916

 
3.1

Multi - family
435

 
0.3

 
448

 
0.3

Commercial real estate
5,552

 
3.7

 
6,254

 
4.0

Commercial & industrial
4,159

 
2.8

 
4,290

 
2.7

HELOC
968

 
0.6

 
976

 
0.6

Consumer
67

 
—

 
70

 
—

Total restructured loans (1)
$
149,693

 
100
%
 
$
156,858

 
100
%
Non-accrual loans:
 
 
 
 
 
 
 
Single-family residential
$
24,748

 
48.1
%
 
$
27,643

 
49.6
%
Construction
1,380

 
2.7

 
2,427

 
4.4

Construction - custom
—

 
—

 
—

 
—

Land - acquisition & development
438

 
0.9

 
920

 
1.7

Land - consumer lot loans
785

 
1.5

 
787

 
1.4

Multi-family
—

 
—

 
—

 
—

Commercial real estate
9,478

 
18.4

 
8,971

 
16.1

Commercial & industrial
13,995

 
27.2

 
14,394

 
25.8

HELOC
599

 
1.2

 
523

 
0.9

Consumer
27

 
0.1

 
21

 
—

Total non-accrual loans
51,450

 
100
%
 
55,686

 
100
%
Real estate owned
8,171

 
 
 
11,298

 
 
Other property owned
3,109

 
 
 
3,109

 
 
Total non-performing assets
$
62,730

 
 
 
$
70,093

 
 
Total non-performing assets and performing restructured loans as a percentage of total assets
1.28
%
 
 
 
1.39
%
 
 
Total Assets
 
 
 
 
 
 
 
(1)    Restructured loans were as follows:
 
 
 
 
 
 
 
Performing
$
143,768

 
96.0
%
 
$
150,667

 
96.1
%
Non-performing (included in non-accrual loans above)
5,925

 
4.0

 
6,191

 
3.9

 
$
149,693

 
100
%
 
$
156,858

 
100
%

For the three months ended December 31, 2018, the Company recognized $843,000 in interest income on cash payments received from borrowers on non-accrual loans. The Company would have recognized interest income of $587,000 for the same period had these loans performed according to their original contract terms. Recognized interest income for the three months ended December 31, 2018 was higher than what otherwise would have been collected in the period due to the collection of past due amounts. In addition to the non-accrual loans reflected in the above table, the Company had $43,479,000 of loans that were less than 90 days delinquent at December 31, 2018 but were 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 1.54% at December 31, 2018.
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.
 

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WASHINGTON FEDERAL, INC. AND SUBSIDIARIES

Most restructured loans are accruing and performing loans where the borrower has proactively approached the Bank about modifications due to temporary financial difficulties. Each request is individually evaluated for merit and likelihood of success. Single-family residential loans comprised 89.4% of restructured loans as of December 31, 2018. The concession for these loans is typically a payment reduction through a rate reduction of 100 to 200 bps for a specific term, usually six to twenty-four months. Interest-only payments may also be approved during the modification period.
For commercial loans, six consecutive payments on newly restructured loan terms are generally 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 the Company's general reserve calculation.
Allowance for loan losses: The following table shows the Company’s allowance for loan losses by loan category.
December 31, 2018
Loans Collectively Evaluated for Impairment
 
Loans Individually Evaluated for Impairment
 
Allowance Allocation
 
Recorded Investment of Loans
 
Ratio
 
Allowance Allocation
 
Recorded Investment of Loans
 
Ratio
 
($ in thousands)
 
($ in thousands)
Single-family residential
$
31,484

 
$
5,833,667

 
0.5
%
 
$
—

 
$
16,259

 
—
%
Construction
31,463

 
1,045,849

 
3.0

 
—

 
1,380

 
—

Construction - custom
1,926

 
299,622

 
0.6

 
—

 
—

 
—

Land - acquisition & development
9,147

 
145,197

 
6.3

 
9

 
438

 
2.1

Land - consumer lot loans
2,144

 
95,628

 
2.2

 
—

 
303

 
—

Multi-family
7,880

 
1,404,714

 
0.6

 
4

 
435

 
0.9

Commercial real estate
12,569

 
1,512,064

 
0.8

 
142

 
14,823

 
1.0

Commercial & industrial
29,934

 
1,199,565

 
2.5

 
345

 
14,206

 
2.4

HELOC
1,064

 
135,369

 
0.8

 
—

 
519

 
—

Consumer
3,054

 
161,958

 
1.9

 
—

 
162

 
—

 
$
130,665

 
$
11,833,633

 
1.1
%
 
$
500

 
$
48,525

 
1.0
%



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WASHINGTON FEDERAL, INC. AND SUBSIDIARIES

September 30, 2018
Loans Collectively Evaluated for Impairment
 
Loans Individually Evaluated for Impairment
 
Allowance Allocation
 
Recorded Investment of Loans
 
Ratio
 
Allowance Allocation
 
Recorded Investment of Loans
 
Ratio
 
($ in thousands)
 
($ in thousands)
Single-family residential
$
33,033

 
$
5,782,870

 
0.6
%
 
$
—

 
$
21,345

 
—
%
Construction
31,317

 
1,060,428

 
3.0

 
—

 
2,427

 
—

Construction - custom
1,842

 
289,192

 
0.6

 
—

 
—

 
—

Land - acquisition & development
7,969

 
122,639

 
6.5

 
9

 
920

 
1.0

Land - consumer lot loans
2,164

 
96,583

 
2.2

 
—

 
507

 
—

Multi-family
8,325

 
1,384,655

 
0.6

 
4

 
448

 
1.0

Commercial real estate
11,702

 
1,432,791

 
0.8

 
150

 
19,378

 
0.8

Commercial & industrial
28,348

 
1,126,438

 
2.5

 
354

 
14,437

 
2.5

HELOC
781

 
128,715

 
0.6

 
—

 
1,162

 
—

Consumer
3,259

 
173,181

 
1.9

 
—

 
56

 
—

 
$
128,740

 
$
11,597,492

 
1.1
%
 
$
517

 
$
60,680

 
0.9
%

Reserve for losses on unfunded commitments: Unfunded commitments tend to vary depending on the Company's loan mix and the proportionate share of commercial loans. The balance of unfunded commitments was $2,116,196,000 and $2,180,162,000 at December 31, 2018 and September 30, 2018, respectively. The Company estimates losses on off-balance-sheet credit exposures by allocating a loss percentage derived from historical loss factors for each asset class. The reserve for unfunded commitments was $6,250,000 as of December 31, 2018, which is a decrease from $7,250,000 at September 30, 2018.
Management believes the allowance for loan losses plus the reserve for unfunded commitments, totaling $137,415,000, or 1.06% of gross loans, is sufficient to absorb estimated losses inherent in the portfolio of loans and unfunded commitments. See Note E for further discussion and analysis of the allowance for loan losses as of and for the period ended December 31, 2018.

Real estate owned: REO decreased during the three months ended December 31, 2018 by $3,127,000 to $8,171,000, primarily due to sales of REO properties during the period.

Intangible assets: Intangible assets decreased to $310,776,000 as of December 31, 2018 from $311,286,000 as of September 30, 2018. The decrease was due to amortization of finite-lived intangible assets.



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Customer accounts: Customer accounts increased $174,546,000, or 1.5%, to $11,561,692,000 at December 31, 2018 compared with $11,387,146,000 at September 30, 2018.

The following table shows the composition of the Bank’s customer accounts by deposit type.
  
December 31, 2018
 
September 30, 2018
 
Deposit Account Balance
 
As a % of Total Deposits
 
Wtd. Avg.
Rate
 
Deposit Account Balance
 
As a % of Total Deposits
 
Wtd. Avg.
Rate
($ in thousands)
 
 
 
 
 
 
 
 
 
 
 
Non-interest checking
$
1,409,236

 
12.2
%
 
—
%
 
$
1,401,226

 
12.3
%
 
—
%
Interest checking
1,881,740

 
16.3

 
0.64

 
1,778,520

 
15.6

 
0.50

Savings (passbook/statement)
807,608

 
7.0

 
0.11

 
836,501

 
7.3

 
0.11

Money market
2,645,762

 
22.9

 
0.76

 
2,566,096

 
22.5

 
0.65

Time deposits
4,817,346

 
41.7

 
1.69

 
4,804,803

 
42.2

 
1.50

Total
$
11,561,692

 
100
%
 
0.99
%
 
$
11,387,146

 
100
%
 
0.87
%

FHLB advances and other borrowings: Total borrowings increased to $2,540,000,000 as of December 31, 2018 from $2,330,000,000 as of September 30, 2018. The weighted average rate for FHLB borrowings was 2.75% as of December 31, 2018 and 2.66% at September 30, 2018. The increase was due to higher rates on short-term FHLB advances.

Stockholders' equity: The Company’s total stockholders' equity at December 31, 2018 was $1,983,089,000, or 12.25% of total assets. This was a decrease of $13,819,000 from the September 30, 2018 total of $1,996,908,000, or 12.59% of total assets. The Company’s equity was impacted in the three months ended December 31, 2018 by net income of $52,942,000, the payment of $14,638,000 in cash dividends, treasury stock purchases of $48,930,000, as well as an other comprehensive loss of $5,403,000.

RESULTS OF OPERATIONS
Net Income: The Company recorded net income of $52,942,000 for the three months ended December 31, 2018 compared to $51,670,000 for the prior year quarter.

Net Interest Income: For the three months ended December 31, 2018, net interest income was $119,152,000, which is $3,417,000 higher than the same quarter of the prior year. Net interest margin was 3.21% for the quarter ended December 31, 2018 compared to 3.26% for the quarter ended December 31, 2017. The increase in net interest income was primarily due to the average balance of earning assets increasing by $655,149,000 and the yield on earning assets increasing to 4.35% from 4.08%, partially offset by a higher average rate paid on interest-bearing liabilities, which was 1.24% for the three months ended December 31, 2018 compared to 0.91% for the same quarter one year ago. The higher yield on earning assets is the result of the rise in short-term interest rates, which resulted in a higher rate being earned on cash and adjustable rate loans and investment securities, as well as the shift in mix from investment securities into a higher proportion of loans receivable that carry higher yields on average. The higher rate on interest-bearing liabilities was primarily due to the increase in rates on interest-bearing deposit accounts and short-term FHLB advances, partially offset by the maturity of certain long-term FHLB advances with higher rates.

The following table sets forth certain information explaining changes in interest income and interest expense for the period indicated compared to the same period one year ago. For each category of interest-earning asset and interest-bearing liability, information is provided on changes attributable to (1) changes in volume (changes in volume multiplied by old rate) and (2) changes in rate (changes in rate multiplied by old volume). The change in interest income and interest expense attributable to changes in both volume and rate has been allocated proportionately to the change due to volume and the change due to rate.

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Rate / Volume Analysis:
 
Comparison of Three Months Ended
12/31/18 and 12/31/17
($ in thousands)
Volume
 
Rate
 
Total
Interest income:
 
 
 
 
 
Loans receivable
$
6,539

 
$
6,015

 
$
12,554

Mortgaged-backed securities
485

 
1,808

 
2,293

Investments (1)
173

 
1,822

 
1,995

All interest-earning assets
7,197

 
9,645

 
16,842

Interest expense:
 
 
 
 
 
Customer accounts
850

 
11,091

 
11,941

FHLB advances and other borrowings
1,018

 
466

 
1,484

All interest-bearing liabilities
1,868

 
11,557

 
13,425

Change in net interest income
$
5,329

 
$
(1,912
)
 
$
3,417

___________________ 
(1)
Includes interest on cash equivalents and dividends on FHLB & FRB stock.
Provision (Release) for Loan Losses: The Company recorded a release of loan loss allowance of $500,000 for the three months ended December 31, 2018, compared with no provision for loan losses for the three months ended December 31, 2017. Reserving for new loan originations as the loan portfolio grows has been largely offset by recoveries of previously charged-off loans. Recoveries, net of charge-offs, totaled $1,408,000 for the three months ended December 31, 2018, compared to net recoveries of $3,082,000 during the three months ended December 31, 2017.

Other Income: The three months ended December 31, 2018 results include total other income of $19,009,000 compared to $6,795,000 for the same period one year ago, a $12,214,000 increase. The increase is primarily due to a net gain of $6,400,000 recognized this quarter from the sale and valuation adjustments of fixed assets as well as $8,550,000 of expense from FDIC loss share valuation adjustments in the three months ended December 31, 2017.

Other Expense: The three months ended December 31, 2018 results include total other expense of $71,672,000 compared to $61,941,000 for the same period one year ago, a $9,731,000 or 15.7% increase. The Company recognized $3,600,000 of non-recurring expense during the three months ended December 31, 2018 related to enhancements of its Bank Secrecy Act ("BSA") program and estimates that it will incur an additional $2,000,000 of non-recurring BSA related costs spread over the next two quarters. The Company has taken the opportunity allotted by the change in the tax law to make several strategic investments that have resulted in a higher level of operating expenses year over year. Those investments included a 5% salary increase for all employees earning less than $100,000; the establishment of a second technology team located in Boise, Idaho; the creation of an internal training team; and several new platform and system enhancements. Compensation and benefits costs increased $4,264,000 primarily due to headcount increases, the aforementioned salary increases and cost of living adjustments since last year. The number of staff, including part-time employees on a full-time equivalent basis, was 1,910 and 1,829 at December 31, 2018 and 2017, respectively. Information technology costs increased by $1,111,000 and other expenses increased by $3,652,000 for the three months ended December 31, 2018 as both were elevated primarily due to the aforementioned Bank Secrecy Act program enhancements and other technology platform initiatives. Total other expense for the three months ended December 31, 2018 and December 31, 2017 equaled 1.79% and 1.62%, respectively, of average assets.

Gain (Loss) on Real Estate Owned: Results for the three months ended December 31, 2018 include a net gain on real estate owned of $320,000, compared to a gain of $46,000 for the same period one year ago.

Income Tax Expense: Income tax expense totaled $14,367,000 for the three months ended December 31, 2018, compared to $8,965,000 for the same period one year ago. The effective tax rate for the three months ended December 31, 2018 was 21.35% compared to 14.79% for the three months ended December 31, 2017 and 20.76% for the full fiscal year ended September 30, 2018. The effective tax rate for the three months ended December 31, 2017 was lower due to discrete tax benefits of $3,743,000 recognized related to the revaluation of deferred tax assets and liabilities stemming from tax reform as well as tax benefits of $2,205,000 related to items such as the excess deduction for stock-based compensation.


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Item 3.        Quantitative and Qualitative Disclosures About Market Risk
Management believes that there have been no material changes in the Company’s quantitative and qualitative information about market risk since September 30, 2018. For a complete discussion of the Company’s quantitative and qualitative market risk, see “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in the Company’s 2018 Form 10-K.

Item 4.        Controls and Procedures

(a) Evaluation of Disclosure Controls and Procedures. The Company maintains a set of disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act) that are designed to ensure that information required to be disclosed by the Company in the reports it files or submits under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission's rules and forms, and that such information is accumulated and communicated to the Company's management, including the Company’s Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure. Management has evaluated, with the participation of the Company’s Chief Executive Officer and Chief Financial Officer, the effectiveness of the Company’s disclosure controls and procedures as of the end of the period covered by this quarterly report (the "Evaluation Date"). Based on the evaluation, the Company’s Chief Executive Officer and Chief Financial Officer have concluded that, as of the Evaluation Date, the Company's disclosure controls and procedures are effective.

(b) Changes in Internal Control over Financial Reporting. During the period to which this report relates, there have not been any changes in the Company's internal control over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) that have materially affected, or that are reasonably likely to materially affect, such controls.

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PART II – Other Information
Item 1. Legal Proceedings
From time to time, the Company and its subsidiaries are engaged in legal proceedings in the ordinary course of business, none of which are considered to have a material impact on the Company’s consolidated financial statements.

Item 1A. Risk Factors

In addition to the other information set forth below and in this report, you should carefully consider the factors discussed under "Part I--Item 1A--Risk Factors" in the 2018 Form 10-K for the year ended September 30, 2018. These factors could materially and adversely affect the Company's business, financial condition, liquidity, results of operations and capital position, and could cause its actual results to differ materially from its historical results or the results contemplated by the forward-looking statements contained in this report.

Item 2.        Unregistered Sales of Equity Securities and Use of Proceeds
The following table provides information with respect to purchases made by or on behalf of the Company of the Company’s common stock during the three months ended December 31, 2018. 
Period
Total Number of
Shares Purchased
 
Average Price
Paid Per Share
 
Total Number of
Shares Purchased
as Part of  Publicly
Announced Plan (1)
 
Maximum
Number of Shares
That May Yet Be
Purchased Under
the Plan at the
End of the Period
October 1, 2018 to October 31, 2018
1,074,875

 
$
28.97

 
1,074,875

 
957,723

November 1, 2018 to November 30, 2018
156,336

 
27.60

 
156,336

 
801,387

December 1, 2018 to December 31, 2018
508,981

 
26.48

 
508,981

 
292,406

Total
1,740,192

  
$
28.12

  
1,740,192

 
292,406

 ___________________
(1)
The Company's stock repurchase program was publicly announced by its Board of Directors on February 3, 1995 and has no expiration date. Under this ongoing program, a total of 56,956,264 shares were authorized for repurchase. This does not include the 10,000,000 additional shares authorized by the Board of Directors on January 16, 2019.

Item 3.        Defaults Upon Senior Securities
Not applicable

Item 4.        Mine Safety Disclosures
Not applicable

Item 5.        Other Information
Not applicable


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Item 6.        Exhibits
(a)
 
Exhibits
 
 
 
31.1
 
 
 
31.2
 
 
 
32
 
 
 
101
 
Financial Statements from the Company’s Form 10-Q for the three months ended December 31, 2018 formatted in XBRL

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WASHINGTON FEDERAL, INC. AND SUBSIDIARIES
SIGNATURES
Pursuant to the requirements of the Exchange Act, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
 
January 25, 2019
/S/    BRENT J. BEARDALL        
 
BRENT J. BEARDALL
President & Chief Executive Officer
 
 
January 25, 2019
/S/    VINCENT L. BEATTY       
 
VINCENT L. BEATTY
Executive Vice President and Chief Financial Officer
 
 
January 25, 2019
/S/    CORY D. STEWART      
 
CORY D. STEWART
Senior Vice President and Principal Accounting Officer

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