PATHWARD FINANCIAL, INC. 10-Q

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations. META FINANCIAL GROUP, INC.® AND SUBSIDIARIES FORWARD-LOOKING STATEMENTS Meta Financial Group, Inc.® ("Meta" or the "Company" or "us") and its wholly-owned subsidiary, MetaBank®, National Association ("MetaBank" or "the Bank") may from time to time make written or oral “forward-looking statements,” including statements contained in this Quarterly Report on Form 10-Q, the Company’s other filings with the Securities and Exchange Commission (the "SEC"), the Company’s reports to stockholders, and other communications by the Company and MetaBank, which are made in good faith by the Company pursuant to the “safe harbor” provisions of the Private Securities Litigation Reform Act of 1995. You can identify forward-looking statements by words such as “may,” “hope,” “will,” “should,” “expect,” “plan,” “anticipate,” “intend,” “believe,” “estimate,” “predict,” “potential,” “continue,” “could,” “future,” or the negative of those terms, or other words of similar meaning or similar expressions. You should carefully read statements that contain these words because they discuss our future expectations or state other “forward-looking” information. These forward-looking statements are based on information currently available to us and assumptions about future events, and include statements with respect to the Company’s beliefs, expectations, estimates, and intentions, which are subject to significant risks and uncertainties, and are subject to change based on various factors, some of which are beyond the Company’s control. Such risks, uncertainties and other factors may cause our actual growth, results of operations, financial condition, cash flows, performance and business prospects and opportunities to differ materially from those expressed in, or implied by, these forward-looking statements. Such statements address, among others, the following subjects: future operating results; our ability to remediate the material weakness in our internal controls over financial reporting and otherwise maintain effective internal controls over financial reporting; the expected impact of the ongoing COVID-19 pandemic and related governmental actions on our business, industry, and the capital markets; customer retention; expectations regarding the Company's and the Bank's ability to meet minimum capital ratios and capital conservation buffers; loan and other product demand; expectations concerning acquisitions and divestitures; new products and services; credit quality; the level of net charge-offs and the adequacy of the allowance for credit losses; technology; and management and other employees. The following factors, among others, could cause the Company's financial performance and results of operations to differ materially from the expectations, estimates, and intentions expressed in such forward-looking statements: successfully transitioning and maintaining our executive management team; expected growth opportunities may not be realized or may take longer to realize than expected; the potential adverse effects of the ongoing COVID-19 pandemic and any governmental or societal responses thereto including the efficacy of the COVID-19 vaccines, or other unusual and infrequently occurring events; successfully completing our announced rebranding and our ability to achieve brand recognition equal to or greater than we currently enjoy; changes in tax laws; the strength of the United States' economy, and the local economies in which the Company operates; changes in trade, monetary, and fiscal policies and laws, including actual changes in interest rates and the Fed funds rate; inflation, market, and monetary fluctuations; the timely and efficient development of new products and services offered by the Company or its strategic partners, as well as risks (including reputational and litigation) attendant thereto, and the perceived overall value and acceptance of these products and services by users; the Bank's ability to maintain its Durbin Amendment exemption; the risks of dealing with or utilizing third parties, including, in connection with the Company’s tax refund advance business; the risk of reduced volume of refund advance loans as a result of reduced customer demand for or usage of Meta’s strategic partners’ refund advance products; our relationship with, and any actions which may be initiated by our regulators; changes in financial services laws and regulations, including laws and regulations relating to the tax refund industry and the insurance premium finance industry and recent and potential changes in response to the ongoing COVID-19 pandemic; technological changes, including, but not limited to, the security of our electronic systems and information; the impact of acquisitions and divestitures; litigation risk; the growth of the Company’s business, as well as expenses related thereto; continued maintenance by MetaBank of its status as a well-capitalized institution; changes in consumer spending and saving habits; losses from fraudulent or illegal activity; technological risks and developments, and cyber threats, attacks or events; and the success of the Company at maintaining its high quality asset level and managing and collecting assets of borrowers in default should problem assets increase. The foregoing list of factors is not exclusive. We caution you not to place undue reliance on these forward-looking statements. The forward-looking statements included in this Quarterly Report on Form 10-Q speak only as of the date hereof, and the Company does not undertake any obligation to update, revise, or clarify these forward-looking statements whether as a result of new information, future events or otherwise. All subsequent written and oral forward-looking statements attributable to us or any person acting on our behalf are expressly qualified in its entirety by the cautionary statements contained or referred to in this section. Additional discussions of factors affecting the Company’s business and prospects are reflected under the caption “Risk Factors” and in other sections of the Company’s Annual Report on Form 10-K for the Company’s fiscal year ended September 30, 2021, and in other filings made with the SEC. The Company expressly disclaims any intent or obligation to update any forward-looking statements, whether written or oral, that may be made from time to time by or on behalf of the Company or its subsidiaries, whether as a result of new information, changed circumstances, or future events or for any other reason. 34 Table of Contents GENERAL The Company, a registered bank holding company, is a Delaware corporation, the principal assets of which are all the issued and outstanding shares of the Bank, a national bank. Unless the context otherwise requires, references herein to the Company include Meta and the Bank, and all direct or indirect subsidiaries of Meta on a consolidated basis. The Company’s common stock trades on the NASDAQ Global Select Market under the symbol “CASH.” The following discussion focuses on the consolidated financial condition of the Company at December 31, 2021, compared to September 30, 2021, and the consolidated results of operations for the three months ended December 31, 2021 and 2020. This discussion should be read in conjunction with the Company’s consolidated financial statements, and notes thereto, for the year ended September 30, 2021 and the related management's discussion and analysis of financial condition and results of operations contained in the Company's Annual Report on Form 10-K for the fiscal year ended September 30, 2021. EXECUTIVE SUMMARY Business Development Highlights for the 2022 Fiscal First Quarter • Entered into an agreement with Beige Key LLC to sell the Meta names and trademarks for $60 million, of which $50 million was recognized as noninterest income in the first fiscal quarter. The Company plans to use a portion of the proceeds to implement its new corporate name and brand, which is expected to be completed by the end of 2022, and estimates its rebranding expenses will range between $15.0 million to $20.0 million. The remainder of the proceeds will be used for general corporate purposes including tax-efficient capital allocation. • Sold all remaining $192.5 million of community banking loans, reducing this portfolio to zero and generating a favorable pre-tax impact of approximat ely $3.9 million after netting the recovery of provision expense from the portfolio's $12.3 million allowance and the loss on sale of loans of $8.4 million . • Extended the agreement with Emerald Financial Services, LLC, a wholly-owned, indirect subsidiary of H&R Block, through June 30, 2025. The agreement adds valuable new financial product offerings and capabilities for customers, including Spruce Accounts, a spending account with an attached debit card, and a connected savings account. These innovative products, designed to help a consumer better manage their financial resources, are powered by MetaBank. • Originated $21.2 million in aggregate principal of renewable energy loan financing for the first quarter of fiscal 2022, resulting in $5.7 million in total net investment tax credits. • Repurchased 1,711,501 shares, at an average price of $58.97, in the first fiscal quarter. The company purchased an additional 230,000 shares through February 3, 2022 at an average share price of $59.85 and has 5,374,375 shares available for repurchase under the common stock share repurchase program announced during the fourth quarter of fiscal year 2021. Financial Highlights for the 2022 Fiscal First Quarter Total revenue for the first quarter was $158.2 million, an increase of $46.7 million, or 42%, compared to the same quarter in fiscal 2021, primarily driven by the gain on sale of Meta names and trademarks. Net interest income for the first quarter was $71.6 million, an increase of $5.6 million compared to $66.0 million in the first quarter last year. Net interest margin ("NIM") was essentially unchanged, declining to 4.59% for the first quarter from 4.65% during the same period of last year. The increase in higher-yielding loans and leases was offset by an increase in lower-yielding investment securities balances and the continued low interest rate environment. 35 Table of Contents Total gross loans and leases at December 31, 2021 increased $243.0 million, to $3.68 billion, or 7%, compared to December 31, 2020 and increased $74.8 million, or 2%, when compared to September 30, 2021. The increase was driven by growth across our loan portfolios, partially offset by the sale of all remaining community banking loans during the quarter. FINANCIAL CONDITION At December 31, 2021, the Company’s total assets increased by $919.0 million to $7.61 billion compared to September 30, 2021, primarily due to an increase of $916.1 million in cash and cash equivalents. Total cash and cash equivalents was $1.23 billion at December 31, 2021, increasing from $314.0 million at September 30, 2021, primarily resulting from an increase in noninterest-bearing deposits of $808.2 million and the net cash proceeds from the sale of our remaining legacy community bank loans of $147.1 million. Otherwise, the Company maintains its cash investments primarily in interest-bearing overnight deposits with the FHLB of Des Moines and the FRB. At December 31, 2021, the Company did not have any federal funds sold. The total investment portfolio decreased $87.8 million, or 5%, to $1.83 billion at December 31, 2021, compared to $1.92 billion at September 30, 2021, as maturities and principal pay downs exceeded purchases. The Company’s portfolio of securities customarily consists primarily of MBS, which have expected lives much shorter than the stated final maturity, non-bank qualified obligations of states and political subdivisions, which mature in approximately 15 years or less, and other tax exempt municipal mortgage related pass through securities which have average lives much shorter than their stated final maturities. All MBS held by the Company at December 31, 2021 were issued by a U.S. Government agency or instrumentality. During the three months ended December 31, 2021, the Company purchased $20.9 million of investment securities. Loans held for sale at December 31, 2021 totaled $36.2 million, decreasing from $56.2 million at September 30, 2021. This decrease was primarily driven by a reduction in SBA/USDA loans held for sale during the three months ended December 31, 2021. The Company’s total loans and leases increased $74.8 million, or 2%, to $3.68 billion at December 31, 2021, from $3.61 billion at September 30, 2021. The increase was primarily driven by growth in the commercial finance and warehouse finance portfolios, partially offset by the sales of the remaining community banking loans. See Note 5 to the “Notes to Condensed Consolidated Financial Statements” of this Quarterly Report on Form 10-Q. Tax services loans increased $89.9 million, commercial finance loans increased $72.3 million, consumer finance increased $64.9 million, and warehouse finance increased $46.9 million at December 31, 2021 compared to September 30, 2021. The increase in commercial finance loan balances was largely driven by the term lending category. The seasonality of the Company's tax services business led to the increase in tax services loans at December 31, 2021 compared to September 30, 2021. Community banking loans decreased $199.1 million, or 100%, at December 31, 2021 compared to September 30, 2021, attributable to the sales of the remaining community banking loans. Through the Bank, the Company owns stock in the FHLB due to the Bank’s membership and participation in this banking system as well as stock in the Federal Reserve Bank. The FHLB requires a level of stock investment based on a pre-determined formula. The Company’s investment in these stocks remained unchanged from $28.4 million at September 30, 2021 to December 31, 2021. Total end-of-period deposits increased 18% to $6.53 billion at December 31, 2021, compared to September 30, 2021, primarily driven by an increase in noninterest-bearing deposits of $1.25 billion partially offset by a decrease in interest-bearing checking of $254.3 million. The increase in noninterest-bearing deposits was driven by government stimulus-related dollars loaded on various partner cards. As of December 31, 2021, EIP program card balances outstanding totaled $1.38 billion, of which only $28.1 million was on Meta's balance sheet with the remainder being held by other banks. The Company's total borrowings decreased $0.6 million, or 1%, from $92.8 million at September 30, 2021 to $92.3 million at December 31, 2021. 36 Table of Contents At December 31, 2021, the Company’s stockholders’ equity totaled $826.2 million, a decrease of $45.7 million, from $871.9 million at September 30, 2021. The decrease was primarily attributable to a reduction in retained earnings related to activity from the Company's share repurchase programs. The Company and Bank remained above the federal regulatory minimum capital requirements at December 31, 2021, continued to be classified as well-capitalized, and in good standing with the regulatory agencies. See “Liquidity and Capital Resources” for further information. Payments Noninterest-bearing Checking Deposits The Company may hold negative balances associated with cardholder programs in the payments division that are included within noninterest-bearing deposits on the Company's Condensed Consolidated Statements of Financial Condition. Negative balances can relate to any of the following payments functions: – Prefundings: The Company deploys funds to cards prior to receiving cash (typically 2-3 days) where the prefunding balance is netted at a pooled partner level utilizing ASC 210-20. – Discount fundings: The Company funds cards in an amount that is estimated to be less than final breakage values on card programs. Consumers may spend more than is estimated. These discounts are netted at a pooled partner level using ASC 210-20. The majority of these discount fundings relate to one partner. – Demand Deposit Account ("DDA") overdrafts: Certain programs offered allow cardholders traditional DDA overdraft protection services whereby cardholders can spend a limited amount in excess of their available card balance. When overdrawn, these accounts are re-classed as loans on the balance sheet within the Consumer Finance category. The Company meets the Right of Set off criteria in ASC 210-20, Balance Sheet - Offsetting, for all payments negative deposit balances with the exception of DDA overdrafts. The following table summarizes the Company's negative deposit balances within the payments division: (Dollars in Thousands) December 31, 2021 September 30, 2021 Noninterest-bearing deposits $ 6,625,632 $ 5,492,646 Prefunding (314,896) (436,111) Discount funding (29,515) (26,440) DDA overdrafts (11,585) (11,862) Noninterest-bearing checking, net $ 6,269,636 $ 5,018,233 RESULTS OF OPERATIONS General The Company recorded net income of $61.3 million, or $2.00 per diluted share, for the three months ended December 31, 2021, compared to net income of $28.0 million, or $0.84 per diluted share, for the three months ended December 31, 2020. Total revenue for the fiscal 2022 first quarter was $158.2 million, compared to $111.5 million for the same quarter in fiscal 2021. The increase in net income was primarily driven by the gain on sale of the Meta names and trademarks. Net Interest Income Net interest income for the fiscal 2022 first quarter was $71.6 million, an increase of 9%, from the same quarter in fiscal 2021. The increase was mainly attributable to an improved earning asset and liability mix, along with increased loan balances. The first quarter average outstanding balance of loans and leases increased $211.3 million compared to the same quarter of the prior year, primarily due to increases in our core loan and lease portfolios, partially offset by the sale of the remaining community bank portfolio. The Company’s average interest-earning assets for the first quarter increased by $547.2 million to $6.18 billion compared with the same quarter in fiscal 2021, primarily due to growth in total investments and total loans and leases. 37 Table of Contents Fiscal 2022 first quarter NIM decreased to 4.59% from 4.65% in the first quarter of last year. The overall reported tax equivalent yield (“TEY”) on average earning assets decreased by 13 basis points to 4.69% compared to the prior year quarter, primarily driven by an increase in lower-yielding investment securities balances of $561.4 million. The TEY on the securities portfolio was 1.58% compared to 1.79% for the comparable period last year. The Company's cost of funds for all deposits and borrowings averaged 0.08% during the fiscal 2022 first quarter, compared to 0.15% during the prior year quarter, primarily driven by a reduction in wholesale deposit balances along with an increase in noninterest-bearing deposits. The Company's overall cost of deposits was 0.01% in the fiscal 2022 first quarter, compared to 0.06% in the same quarter last year. The following tables present, for the periods indicated, the Company’s total dollar amount of interest income from average interest-earning assets and the resulting yields, as well as the interest expense on average interest-bearing liabilities, expressed both in dollars and rates. Tax-equivalent adjustments have been made in yield on interest-bearing assets and net interest margin. Nonaccruing loans and leases have been included in the table as loans carrying a zero yield. 38 Table of Contents Three Months Ended December 31, 2021 2020 (Dollars in thousands) Average Outstanding Balance Interest Earned / Paid Yield / Rate (1) Average Outstanding Balance Interest Earned / Paid Yield / Rate (1) Interest-earning assets: Cash and fed funds sold $ 594,614 $ 560 0.37 % $ 820,108 $ 842 0.41 % Mortgage-backed securities 1,007,030 3,864 1.52 % 438,610 2,123 1.92 % Tax exempt investment securities 207,621 820 1.98 % 333,729 1,215 1.83 % Asset-backed securities 387,567 1,152 1.18 % 326,315 1,200 1.46 % Other investment securities 279,839 1,460 2.07 % 221,986 1,111 1.98 % Total investments 1,882,057 7,296 1.58 % 1,320,640 5,649 1.79 % Commercial finance 2,775,394 49,021 7.01 % 2,417,691 45,630 7.49 % Consumer finance 316,573 6,114 7.66 % 239,618 4,748 7.86 % Tax services 33,604 1,474 17.40 % 25,104 8 0.13 % Warehouse finance 443,506 6,901 6.17 % 284,199 4,933 6.89 % Community banking 137,898 1,525 4.39 % 529,085 6,336 4.75 % Total loans and leases 3,706,975 65,035 6.96 % 3,495,697 61,655 7.00 % Total interest-earning assets 6,183,646 $ 72,891 4.69 % 5,636,445 $ 68,146 4.82 % Noninterest-earning assets 839,854 845,378 Total assets $ 7,023,500 $ 6,481,823 Interest-bearing liabilities: Interest-bearing checking (2) $ 389 $ — 0.32 % $ 162,748 $ — — % Savings 80,765 5 0.03 % 52,198 2 0.01 % Money markets 75,664 52 0.27 % 52,620 39 0.30 % Time deposits 8,619 15 0.67 % 17,390 57 1.30 % Wholesale deposits 67,384 69 0.41 % 261,136 699 1.06 % Total interest-bearing deposits 232,821 141 0.24 % 546,092 797 0.58 % Overnight fed funds purchased 327 — 0.31 % 11 — 0.25 % Subordinated debentures 73,995 986 5.28 % 73,822 1,147 6.16 % Other borrowings 18,636 151 3.22 % 23,870 203 3.37 % Total borrowings 92,958 1,137 4.85 % 97,703 1,350 5.48 % Total interest-bearing liabilities 325,779 1,278 1.56 % 643,795 2,147 1.32 % Noninterest-bearing deposits 5,688,563 — — % 4,880,352 — — % Total deposits and interest-bearing liabilities 6,014,342 $ 1,278 0.08 % 5,524,147 $ 2,147 0.15 % Other noninterest-bearing liabilities 182,916 151,528 Total liabilities 6,197,258 5,675,675 Shareholders' equity 826,242 806,148 Total liabilities and shareholders' equity $ 7,023,500 $ 6,481,823 Net interest income and net interest rate spread including noninterest-bearing deposits $ 71,613 4.61 % $ 65,999 4.67 % Net interest margin 4.59 % 4.65 % Tax equivalent effect 0.02 % 0.02 % Net interest margin, tax-equivalent (3) 4.61 % 4.67 % (1) Tax rate used to arrive at the TEY for the three months ended December 31, 2021 and 2020 was 21%. (2) At December 31, 2020, $162.5 million of the total balance were interest-bearing deposits where interest expense was paid by a third party and not by the Company. On October 1, 2021, the Company reclassified the balances related to that program to noninterest bearing checking due to the product moving to noninterest bearing. (3) Net interest margin expressed on a fully-taxable-equivalent basis ("net interest margin, tax-equivalent") is a non-GAAP financial measure. The tax-equivalent adjustment to net interest income recognizes the estimated income tax savings when comparing taxable and tax-exempt assets and adjusting for federal and state exemption of interest income. The Company believes that it is a standard practice in the banking industry to present net interest margin expressed on a fully taxable equivalent basis and, accordingly, believes the presentation of this non-GAAP financial measure may be useful for peer comparison purposes. Provision for Credit Losses The Company recognized provision for credit losses of $0.2 million for the three months ended December 31, 2021, as compared to $6.1 million for the comparable period in the prior fiscal year. Net charge-offs were $1.1 million for the quarter ended December 31, 2021, compared to $2.8 million for the quarter ended December 31, 2020. The majority of the net charge-offs for the quarter were attributable to the commercial finance portfolio . 39 Table of Contents Noninterest Income Fiscal 2022 first quarter noninterest income increased to $86.6 million from $45.5 million for the same period of the prior year. The significant increase was driven by the $50 million gain on sale of the Meta names and trademarks and to a lesser extent an increase in payments fee income and rental income. The Company also recognized a loss on sale of other during the quarter of $3.5 million , a $6.3 million decrease from the prior year period, primarily consisting of a $8.4 million loss attributable to the sale of the remaining community bank loans and a $3.4 million gain on sale of SBA loans. Also partially offsetting the increase in noninterest income during the quarter was a decrease in other income, which includes a net unrealized loss of $3.3 million on a prior investment in MoneyLion Inc. This loss partially offsets a net unrealized gain o f $4.1 million recognized by the Company during the fourth quarter of fiscal 2021 following the completion of MoneyLion's de-SPAC process and listing on the New York Stock Exchange on September 22, 2021. Noninterest Expense Noninterest expense increased 14% to $82.4 million for the fiscal 2022 first quarter, from $72.6 million for the same quarter last year. The increase in expense was primarily driven by an increase in compensation expense, other expense, occupancy and equipment expense, and card processing expense. When comparing the fiscal 2022 first quarter to the fourth quarter of 2021, non-interest expense decreased by $11.2 million. Income Tax Expense The Company recorded an income tax expense of $14.3 million, representing an effective tax rate of 18.9%, for the fiscal 2022 first quarter, compared to $3.5 million, representing an effective tax rate of 10.8%, for the first quarter last year. The increase in income tax expense was primarily due to increased earnings. The Company originated $21.2 million in solar leases during the fiscal 2022 first quarter, compared to $38.5 million during last year's first quarter. Investment tax credits related to solar leases are recognized ratably based on income throughout each fiscal year. The timing and impact of future solar tax credits are expected to vary from period to period, and Meta intends to undertake only those tax credit opportunities that meet the Company's underwriting and return criteria. Asset Quality Generally, when a loan or lease becomes delinquent 90 days or more or when the collection of principal or interest becomes doubtful, the Company will place the loan or lease on a nonaccrual status and, as a result, previously accrued interest income on the loan or lease is reversed against current income. The loan or lease will generally remain on a non-accrual status until six months of good payment history has been established or management believes the financial status of the borrower has been significantly restored. Certain relationships in the table below are over 90 days past due and still accruing. The Company considers these relationships as being in the process of collection. Insurance premium finance loans, consumer finance and tax services loans are generally not placed on non-accrual status, but are instead written off when the collection of principal and interest become doubtful. Loans and leases, or portions thereof, are charged-off when collection of principal becomes doubtful. Generally, this is associated with a delay or shortfall in payments of greater than 210 days for insurance premium finance, 180 days for tax and other specialty lending loans, 120 days for consumer credit products and 90 days for other loans. Action is taken to charge off ERO loans if such loans have not been collected by the end of June and taxpayer advance loans if such loans have not been collected by the end of the calendar year. Non-accrual loans and troubled debt restructurings are generally considered impaired. The Company believes that the level of allowance for credit losses at December 31, 2021 was appropriate and reflected probable losses related to these loans and leases; however, there can be no assurance that all loans and leases will be fully collectible or that the present level of the allowance will be adequate in the future. See the section below titled “Allowance for Credit Losses” for further information. 40 Table of Contents The table below sets forth the amounts and categories of the Company's nonperforming assets. (Dollars in thousands) December 31, 2021 September 30, 2021 Nonperforming Loans and Leases Nonaccruing loans and leases: Commercial finance $ 37,760 $ 19,330 Community banking — 14,915 Total nonaccruing loans and leases 37,760 34,245 Accruing loans and leases delinquent 90 days or more: Commercial finance 3,896 12,489 Consumer finance 1,534 1,236 Tax services (1) — 7,962 Total accruing loans and leases delinquent 90 days or more 5,430 21,687 Total nonperforming loans and leases 43,190 55,932 Other Assets Nonperforming operating leases 850 3,824 Foreclosed and repossessed assets: Commercial finance 298 2,077 Total foreclosed and repossessed assets 298 2,077 Total other assets 1,148 5,901 Total nonperforming assets $ 44,338 $ 61,833 Total as a percentage of total assets 0.58 % 0.92 % (1) Certain tax services loans do not bear interest. At December 31, 2021, nonperforming loans and leases totaled $43.2 million, representing 1.2% of total loans and leases, compared to $55.9 million, or 1.52% of total loans and leases at September 30, 2021. Classified Assets . Federal regulations provide for the classification of certain loans, leases, and other assets such as debt and equity securities considered by the Bank's primary regulator, the OCC, to be of lesser quality as “substandard,” “doubtful” or “loss,” with each such classification dependent on the facts and circumstances surrounding the assets in question. An asset is considered “substandard” if it is inadequately protected by the current net worth and paying capacity of the obligor or of the collateral pledged, if any. “Substandard” assets include those characterized by the “distinct possibility” that the Bank will sustain “some loss” if the deficiencies are not corrected. Assets classified as “doubtful” have all of the weaknesses inherent in those classified “substandard,” with the added characteristic that the weaknesses present make “collection or liquidation in full,” on the basis of currently existing facts, conditions and values, “highly questionable and improbable.” Assets classified as “loss” are those considered “uncollectible” and of such minimal value that their continuance as assets without the establishment of a specific loss reserve is not warranted. General allowances represent loss allowances which have been established to recognize the inherent risk associated with lending activities, but which, unlike specific allowances, have not been allocated to particular problem assets. When assets are classified as “loss,” the Bank is required either to establish a specific allowance for losses equal to 100% of that portion of the asset so classified or to charge off such amount. The Bank’s determinations as to the classification of its assets and the amount of its valuation allowances are subject to review by its regulatory authorities, which may order the establishment of additional general or specific loss allowances. On the basis of management’s review of its loans, leases, and other assets, at December 31, 2021, the Company had classified loans and leases of $176.3 million as substandard, $19.9 million as doubtful and none as loss. At September 30, 2021, the Company classified loans and leases of $264.2 million as substandard, $12.1 million as doubtful and none as loss. 41 Table of Contents Allowance for Credit Losses . Effective October 1, 2020, the Company adopted ASU 2016-13, Financial Instruments – Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments, and subsequent related ASUs (collectively “Topic 326”), which measures credit loss for most financial assets, including trade and other receivables, debt securities held to maturity, loans, net investments in leases, purchased financial assets with credit deterioration, and off-balance sheet credit exposures. ASU 2016-13 requires the use of a current expected credit losses ("CECL") methodology to determine the allowance for credit losses ("ACL") for loans and debt securities held to maturity. CECL requires loss estimates for the remaining estimated life of the assets to be measured using historical loss data, adjustments for current conditions, and adjustments for reasonable and supportable forecasts of future economic conditions. The ACL represents management’s estimate of expected credit losses over the life of each financial asset as of the balance sheet date. The Company individually evaluates loans and leases that do not share similar risk characteristics with other financial assets for credit loss, generally this means loans and leases identified as troubled debt restructurings or loans and leases on nonaccrual status. All other loans and leases are evaluated collectively for credit loss. A reserve for unfunded credit commitments such as letters of credit and binding unfunded loan commitments is recorded in other liabilities on the Condensed Consolidated Statements of Financial Condition. Individually evaluated loans and leases are a key component of the ACL. Generally, the Company measures credit loss on individually evaluated loans based on the fair value of the collateral less estimated selling costs, as the Company considers these financial assets to be collateral dependent. If an individually evaluated loan or lease is not collateral dependent, credit loss is measured at the present value of expected future cash flows discounted at the loan or lease initial effective interest rate. The Company's ACL totaled $67.6 million at December 31, 2021, a decrease compared to $68.3 million at September 30, 2021. The reduction in the ACL at December 31, 2021 was primarily due to a $12.3 million decrease attributable to the community banking portfolio, as all loans have now been sold. This decrease was partially offset by increases within commercial finance of $8.7 million, tax services of $1.6 million, and consumer finance of $1.2 million. The following table presents the Company's ACL as a percentage of its total loans and leases. As of the Period Ended December 31, 2021 September 30, 2021 June 30, 2021 March 31, 2021 December 31, 2020 Commercial finance 2.04 % 1.77 % 1.73 % 1.77 % 1.88 % Consumer finance 2.70 % 2.91 % 3.80 % 4.70 % 4.39 % Tax services 1.60 % 0.02 % 58.99 % 12.90 % 1.53 % Warehouse finance 0.10 % 0.10 % 0.10 % 0.10 % 0.10 % Community banking — % 6.16 % 4.36 % 4.03 % 4.01 % Total loans and leases 1.84 % 1.89 % 2.61 % 2.71 % 2.10 % Management closely monitors economic developments and considers these factors when assessing the appropriateness of its ACL. The Company's ACL as a percentage of total loans and leases decreased to 1.84% at December 31, 2021 from 1.89% at September 30, 2021. The decrease in the total loans and leases coverage ratio reflected the release of the community banking portfolio allowance. The coverage ratio for the commercial finance portfolio increased compared to September 30, 2021 quarter due to specific reserves on two individually evaluated loan relationships. The consumer finance coverage decreased primarily due to an improved overall macroeconomic outlook. The Company expects to continue to diligently monitor the ACL and adjust as necessary in future periods to maintain an appropriate and supportable level. Management believes that, based on a detailed review of the loan and lease portfolio, historic loan and lease losses, current economic conditions, the size of the loan and lease portfolio and other factors, the level of the ACL at December 31, 2021 reflected an appropriate allowance against expected credit losses from the lending portfolio. Although the Company maintains its ACL at a level it considers to be appropriate, investors and others are cautioned that there can be no assurance that future losses will not exceed estimated amounts, or that additional provisions for credit losses will not be required in future periods. 42 Table of Contents CRITICAL ACCOUNTING POLICIES AND ESTIMATES The Company’s financial statements are prepared in accordance with GAAP. The financial information contained within these financial statements is, to a significant extent, based on approximate measures of the financial effects of transactions and events that have already occurred. Management has identified its critical accounting policies, which are those policies that, in management's view, are most important in the portrayal of our financial condition and results of operations, and include those for the ACL, goodwill and identifiable intangible assets. These policies involve complex and subjective decisions and assessments. Some of these estimates may be uncertain at the time they are made, could change from period to period, and could have a material impact on the financial statements. A discussion of the Company’s critical accounting policies and estimates can be found in the Company's Annual Report on Form 10-K for the year ended September 30, 2021. There were no significant changes to these critical accounting policies and estimates during the first three months of fiscal 2022. LIQUIDITY AND CAPITAL RESOURCES The Company’s primary sources of funds are deposits, derived principally through its payments division, borrowings, principal and interest payments on loans and leases and mortgage-backed securities, and maturing investment securities. In addition, the Company utilizes wholesale deposit sources to provide temporary funding when necessary or when favorable terms are available. While scheduled loan repayments and maturing investments are relatively predictable, deposit flows and early loan repayments are influenced by the level of interest rates, general economic conditions and competition. The Company uses its capital resources principally to meet ongoing commitments to fund maturing certificates of deposits and loan commitments, to maintain liquidity, and to meet operating expenses. At December 31, 2021, the Company had unfunded loan and lease commitments of $1.36 billion. Management believes that loan repayment and other sources of funds will be adequate to meet its foreseeable short- and long-term liquidity needs. As U.S. banking organizations, the Company and the Bank are required to comply with the regulatory capital rules adopted by the Federal Reserve and the OCC (the "Capital Rules") that became effective on January 1, 2015, subject to phase-in periods for certain requirements and other provisions of the Capital Rules. Under the Capital Rules and the regulatory framework for prompt corrective action, the Company and Bank must meet specific capital guidelines that involve quantitative measures of the Company’s and Bank’s assets, liabilities and certain off-balance-sheet items as calculated under regulatory accounting practices. The Company’s and Bank’s capital amounts and classifications are also subject to qualitative judgments by regulators about components, risk weightings and other factors. The Capital Rules require the Company and the Bank to maintain minimum ratios (set forth in the table below) of total risk-based capital and Tier 1 capital (as defined in the regulations) to risk-weighted assets (as defined), and a leverage ratio consisting of Tier 1 capital (as defined) to average assets (as defined). At December 31, 2021, both the Company and the Bank exceeded federal regulatory minimum capital requirements to be classified as well-capitalized under the prompt corrective action requirements. The Company and the Bank took the accumulated other comprehensive income (“AOCI”) opt-out election; under the rule, non-advanced approach banking organizations were given a one-time option to exclude certain AOCI components. The tables below include certain non-GAAP financial measures that are used by investors, analysts and bank regulatory agencies to assess the capital position of financial services companies. Management reviews these measures along with other measures of capital as part of its financial analyses and has included this non-GAAP financial information, and corresponding reconciliation to total equity. At December 31, 2021 Company Bank Minimum to be Adequately Capitalized Under Prompt Corrective Action Provisions Minimum to be Well Capitalized Under Prompt Corrective Action Provisions Tier 1 leverage capital ratio 7.39 % 8.52 % 4.00 % 5.00 % Common equity Tier 1 capital ratio 10.88 12.90 4.50 6.50 Tier 1 capital ratio 11.20 12.91 6.00 8.00 Total capital ratio 13.80 14.16 8.00 10.00 43 Table of Contents The following table provides a reconciliation of the amounts included in the table above for the Company. (Dollars in thousands) Standardized Approach (1) December 31, 2021 Total stockholders' equity $ 826,157 Adjustments: LESS: Goodwill, net of associated deferred tax liabilities 300,382 LESS: Certain other intangible assets 32,294 LESS: Net deferred tax assets from operating loss and tax credit carry-forwards 19,855 LESS: Net unrealized gains (losses) on available for sale securities 403 LESS: Noncontrolling interest 642 ADD: Adoption of Accounting Standards Update 2016-13 6,527 Common Equity Tier 1 (1) 479,108 Long-term borrowings and other instruments qualifying as Tier 1 13,661 Tier 1 minority interest not included in common equity Tier 1 capital 444 Total Tier 1 capital 493,213 Allowance for credit losses 55,125 Subordinated debentures (net of issuance costs) 59,220 Total capital $ 607,558 (1) Capital ratios were determined using the Basel III capital rules that became effective on January 1, 2015. Basel III revised the definition of capital, increased minimum capital ratios, and introduced a minimum common equity tier 1 capital ratio; those changes are being fully phased in through the end of 2021. The following table provides a reconciliation of tangible common equity and tangible common equity excluding AOCI, each of which is used in calculating tangible book value data, to total stockholders' equity. Each of tangible common equity and tangible common equity excluding AOCI is a non-GAAP financial measure that is commonly used within the banking industry. (Dollars in thousands) At December 31, 2021 Total stockholders' equity $ 826,157 LESS: Goodwill 309,505 LESS: Intangible assets 31,661 Tangible common equity 484,991 LESS: AOCI 724 Tangible common equity excluding AOCI $ 484,267 Since January 1, 2016, the Company and the Bank have been required to maintain a capital conservation buffer above the minimum risk-based capital requirements in order to avoid certain limitations on capital distributions, stock repurchases and discretionary bonus payments to executive officers. The capital conservation buffer is exclusively composed of Common Equity Tier 1 capital, and it applies to each of the three risk-based capital ratios but not the leverage ratio. The required Common Equity Tier 1 risk-based, Tier 1 risk-based and total risk-based capital ratios with the buffer are currently 7.0%, 8.5% and 10.5%, respectively. Based on current and expected continued profitability and subject to continued access to capital markets, we believe that the Company and the Bank will continue to meet the capital conservation buffer of 2.5% in addition to required minimum capital ratios. CONTRACTUAL OBLIGATIONS See "Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations-Contractual Obligations " in the Company’s Annual Report on Form 10-K for its fiscal year ended September 30, 2021 for a summary of our contractual obligations as of September 30, 2021. There were no material changes outside the ordinary course of our business in contractual obligations from September 30, 2021 through December 31, 2021. 44 Table of Contents OFF-BALANCE SHEET FINANCING ARRANGEMENTS See Note 19. Commitments and Contingencies in "Item 8. Financial Statements and Supplementary Data" in the Company's Annual Report on Form 10-K for its fiscal year ended September 30, 2021 for discussion of the Company’s off-balance sheet financing arrangements as of September 30, 2021. There were no material changes from September 30, 2021 through December 31, 2021.