Shares of Axos Financial (NYSE:AX) were down 8.3% at 12:23 p.m. EDT on May 1, after opening trading with a sharp 12% decline. This followed the release of the company's third-quarter results after market close yesterday.
Axos reported a 9% increase in total assets to nearly $11 billion, but a 24% decline in net income seems to be driving investors to sell today.
Axos' earnings weren't expected to reach last year's levels this past quarter, but the sharp decline the company reported was much bigger than expected. Reported earnings per share came in at $0.63, down from $0.80 last year.
There was a pretty clear explanation why earnings fell: much higher expenses. Axos reported non-interest expense (bank-speak for operating expenses) of $81.8 million in the quarter, 80% higher than the year-ago quarter. Some of this increase was expected, as Axos has made several acquisitions over the past year, as well as adding expenses to grow its existing lending and financial service offerings.
However, a substantial portion of this quarter's higher expenses was related to one recent acquisition, and not in a good way. Axos completed the transaction of COR Clearing -- since rebranded Axos Clearing -- during the quarter, and this business has already resulted in a big potential loss. On the earnings call, CEO Greg Garrabrants said the company took a $15.3 million loss provision related to a single clearing client from a small broker-dealer (which has since discontinued trading activity).
Between the expenses related to that event, and other nonrecurring items related to acquisitions closed in the quarter, Axos' net income was reduced $12.7 million, or $0.21 per share.
On one hand, it's a pretty bad look when a business you just acquired immediately slaps you with a potential $15 million loss right out of the gate. On the other, Axos' track record on these kinds of deals has generally been quite good. And management says it has used this event both to prevent this sort of event from occurring again, and to improve its internal risk systems.
Moreover, Axos' overall business continues to deliver strong results. Net interest and non-interest income increased 10.7% and 10.9% respectively, while net interest margin improved to 4.82%, and a strong 4.94% in the banking business. Lastly, book value increased 15.2% to $16.88 per share. Put it all together, and Axos' banking business continues to deliver solid growth and earnings potential.
Investors shouldn't ignore the impact of one-time expenses -- particularly the potential losses related to the clearing business -- or dismiss them completely out of hand. But I think it's fair to give Garrabrants and his team time to address the reason, recover whatever they can from the individual and broker responsible, and to implement better risk systems in the clearing business.
Is today's sell-off an overreaction? I think it's probably a little overdone, and the quality of Axos' banking business and history of execution point to this as being a nice opportunity to buy shares.
The stock has been trading at less than 1.8 times book value, and about 12 times trailing earnings. Compared to what the market has been willing to pay in the past, that's solid value.