UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

FORM 10-Q

(Mark One)

For the quarterly period ended September 30, 2004

OR

For the transition period                     to                    

Commission file number 33-93068

WFS Financial Inc

23 Pasteur, Irvine, California 92618-3816

(949) 727-1002

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 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 þ No o

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Securities Exchange Act of 1934). Yes þ No o

As of October 29, 2004, the registrant had 41,038,003 shares outstanding of common stock, no par value. The shares of common stock represent the only class of common stock of the registrant.

The total number of sequentially numbered pages is 26.

WFS FINANCIAL INC AND SUBSIDIARIES

FORM 10-Q

September 30, 2004

TABLE OF CONTENTS

Forward-Looking Statements

This Form 10-Q includes and incorporates by reference forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act, as amended, also known as the Exchange Act. Forward-looking statements relate to analyses and other information that are based on forecasts of future results and estimates of amounts not yet determinable. These statements also relate to our future prospects, developments and business strategies. These statements are subject to uncertainties and factors relating to our operations and business environment, all of which are difficult to predict and many of which are beyond our control, that could cause actual results to differ materially from those expressed in or implied by these forward-looking statements.

These forward-looking statements are identified by use of terms and phrases such as “anticipate,” “believe,” “could,” “estimate,” “expect,” “intend,” “may,” “plan,” “predict,” “project,” “will,” and similar terms and phrases, including references to assumptions. These statements are contained in the section entitled “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and other sections of this Form 10-Q.

The following factors are among those that may cause actual results to differ materially from the forward-looking statements:

	•		changes in general economic and business conditions;
	•		interest rate fluctuations, including hedging activities;
	•		our financial condition and liquidity, as well as future cash flows and earnings;
	•		competition;
	•		our level of operating expenses;
	•		the effect, interpretation, or application of new or existing laws, regulations and court decisions;
	•		the availability of sources of funding;
	•		the level of chargeoffs on the automobile contracts that we originate; and
	•		significant litigation.

If one or more of these risks or uncertainties materialize, or if underlying assumptions prove incorrect, our actual results may vary materially from those expected, estimated or projected.

We do not undertake to update our forward-looking statements or risk factors to reflect future events or circumstances.

Available Information

We provide access to all our filings with the Securities and Exchange Commission on our Web site at http:\\www.wfsfinancial.com free of charge on the same day as these reports are electronically filed with the Commission. The information contained in our Web site does not constitute part of this filing.

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PART I. FINANCIAL INFORMATION

Item 1. Financial Statements

WFS FINANCIAL INC AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION

See accompanying notes to consolidated financial statements.

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WFS FINANCIAL INC AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(Unaudited)

See accompanying notes to consolidated financial statements.

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WFS FINANCIAL INC AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY
(Unaudited)

See accompanying notes to consolidated financial statements.

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WFS FINANCIAL INC AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)

See accompanying notes to consolidated financial statements.

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WFS FINANCIAL INC AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

Note 1 — Basis of Presentation

The accompanying unaudited consolidated financial statements include our accounts and the accounts of our subsidiaries. All significant intercompany transactions and accounts have been eliminated in consolidation. Certain prior year amounts have been reclassified to conform to the current year’s presentation. We are a majority owned subsidiary of Western Financial Bank, also known as the Bank, which is a wholly owned subsidiary of Westcorp, our ultimate parent company.

The unaudited consolidated financial statements included herein have been prepared in accordance with generally accepted accounting principles for interim financial information and with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by generally accepted accounting principles, also known as GAAP, for complete financial statements.

In the opinion of management, all adjustments (including normal recurring accruals) considered necessary for a fair presentation have been included. Operating results for the nine months ended September 30, 2004 are not necessarily indicative of the results that may be expected for the year ending December 31, 2004. These unaudited consolidated financial statements should be read in conjunction with the audited consolidated financial statements and footnotes thereto for the year ended December 31, 2003 included in our Form 10-K.

Note 2 — Net Contracts Receivable

Our contract portfolio consists of contracts purchased from automobile dealers on a nonrecourse basis and contracts financed directly with the consumer. If pre-computed finance charges are added to a contract, they are added to the contract balance and carried as an offset against the contract balance as unearned discounts. Amounts paid to dealers are capitalized as dealer participation and amortized over the life of the contract.

Net contracts receivable consisted of the following:

Contracts managed by us, excluding dealer participation and deferred contract fees, totaled $11.4 billion and $10.6 billion at September 30, 2004 and December 31, 2003, respectively. Of the $11.4 billion contracts managed at September 30, 2004, $9.0 billion were owned by us and $2.4 billion were owned by Westcorp, our ultimate parent. Of the $10.6 billion contracts managed at December 31, 2003, $8.6 billion were owned by us and $2.0 billion were owned by Westcorp. Nonperforming loans, or loans on which we have discontinued the accrual of interest income, included in net loans receivable was $40.6 million at both September 30, 2004 and December 31, 2003. Repossessed assets were $5.1 million and $8.7 million at September 30, 2004 and December 31, 2003, respectively, and are included in other assets on our Consolidated Statements of Financial Condition.

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Note 3 — Allowance for Credit Losses

The following table sets forth the activity in the allowance for credit losses:

Note 4 — Whole Loan Sales

For the nine months ended September 30, 2004 and 2003, we sold $1.5 billion and $1.7 billion of automobile contracts to Westcorp, our parent company, in whole loan sales at a price of 103.2% and 103.0%, respectively. These receivables were subsequently securitized by Westcorp and continue to be managed by us under the terms of the securitizations. As a result of selling contracts in whole loan sales rather than securitizing them in secured financing transactions, we recorded a cash gain on sale of $13.8 million and $18.7 million for the nine months ended September 30, 2004 and 2003, respectively. Included in these gains were $2.2 million of losses and $3.7 million of gains for the nine months ended September 30, 2004 and 2003, respectively, from accumulated other comprehensive loss related to hedges of future interest payments on the forecasted secured financing. The hedge loss or gain was included in the gain on sale on the Consolidated Statements of Income.

Note 5 — Notes Payable on Automobile Secured Financing

In connection with our public asset-backed securitization activities, we issued $1.6 billion and $3.0 billion of notes secured by contracts for the three and nine months ended September 30, 2004, respectively, compared with no amounts and $2.8 billion for the same respective periods in 2003. There were $7.9 billion of notes payable on automobile secured financing outstanding at September 30, 2004 compared with $8.2 billion at December 31, 2003.

Interest payments are due either monthly or quarterly, in arrears. Interest expense on all notes payable on automobile secured financing, including interest payments under interest rate swap agreements, totaled $68.6 million and $204 million for the three and nine months ended September 30, 2004, respectively, compared with $85.8 million and $273 million for the same respective periods in 2003.

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Note 6 — Notes Payable — Parent

We borrowed $450 million from the Bank under the terms of a $300 million note and a $150 million note with rates of 10.25% and 8.875% per annum, respectively. We had amounts outstanding on the notes of $300 million at September 30, 2004 compared with $401 million at December 31, 2003. The $150 million note was paid off in the third quarter of 2004. Interest payments on the notes totaled $8.3 million and $28.1 million for the three and nine months ended September 30, 2004, respectively, compared with $9.9 million and $30.0 million for the same respective periods in 2003.

Note 7 — Accumulated Other Comprehensive Loss, Net of Tax

The following table summarizes the components of accumulated other comprehensive loss, net of tax:

Note 8 — Comprehensive Income

The following table presents the components of comprehensive income, net of related tax, for the periods indicated:

Note 9 — Commitments and Contingencies

We or our subsidiaries are involved as a party to certain legal proceedings incidental to our business, including Lee, et al. v. WFS Financial Inc, United States District Court, Middle District of Tennessee at Nashville, No. 3-02-0570 filed June 17, 2002 (a putative class action raising claims under the Equal Credit Opportunity Act) and Thompson, et al. v. WFS Financial Inc, California Superior Court, County of Alameda Civil Action No, RG03088926, appeal pending in the Court of Appeal of the State of California, First Appellate District, Division One, No. A104967 (a putative class action raising claims under California’s Unfair Competition Law and related claims). WFS has reached a settlement in Lee, et al. v. WFS Financial Inc and Thompson, et al. v. WFS Financial Inc cases. The settlements will be final after court approval of the settlement in Lee, et al. v. WFS Financial Inc. We do not believe that the outcome of these proceedings will have a material effect upon our financial condition, results of operations and cash flows.

Beginning on May 24, 2004 and continuing thereafter, a total of four separate purported class action lawsuits relating to the announcement by Westcorp and WFS that Westcorp was commencing an exchange offer for the outstanding public shares of WFS were filed in the Orange County, California Superior Court against Westcorp, WFS, and individual board members of Westcorp and WFS. On June 24, 2004, the actions were consolidated under the caption In re WFS Financial

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Shareholder Litigation, Case No. 04CC00559. On July 16, 2004, the court granted a motion by plaintiff Alaska Hotel & Restaurant Employees Pension Trust Fund, in Case No.04CC00573, to amend the consolidation order to designate it the lead plaintiff in the litigation. Lead plaintiff filed a consolidated amended complaint on August 9, 2004, and then filed the present “corrected” consolidated amended complaint on September 15, 2004. All of the defendants have filed demurrers challenging the legal sufficiency of the pending complaint, which are scheduled for hearing. All of the shareholder-related actions allege, among other things, that the defendants breached their respective fiduciary duties and seek to enjoin or rescind the transaction and obtain an unspecified sum in damages and costs, including attorneys’ fees and expenses. We are vigorously defending this action and do not believe that the outcome of this proceeding will have a material effect upon our financial condition, results of operations and cash flows.

Note 10 — Proposed Merger

On May 23, 2004, we entered into a definitive agreement pursuant to which our parent company, Westcorp, will acquire our outstanding 16% common stock minority interest. The acquisition is structured as a merger of us with and into the Bank. The public holders of our shares will receive 1.11 shares of Westcorp common stock for each share of our common stock held by them in a tax-free exchange. Based on the $42.60 closing price of Westcorp common stock on May 21, 2004, the last business day prior to the execution of the agreement, the transaction has an indicated value of $47.29 per share of our common stock. In connection with the merger, the Bank has filed an application with the California Department of Financial Institutions to convert its federal thrift charter to a California state bank charter. The merger agreement is conditioned upon the conversion of the charter. The transaction is subject to, among other closing conditions, the receipt of regulatory approvals and the approval of a majority of our shareholders, other than shares controlled by Westcorp.

The California Department of Financial Institutions and the Office of Thrift Supervision have approved the Bank’s application to convert from a federal savings bank to a California state commercial bank subject to receipt of all other required regulatory approvals. The Federal Deposit Insurance Corporation approved the application to merge us into the Bank as part of its acquisition of our minority interest. The conversion is still contingent upon the approval of Westcorp’s application to become a bank holding company by the Board of Governors of the Federal Reserve. After the conversion, the Bank will be subject to the laws, regulation and oversight of the California Department of Financial Institutions, the Federal Deposit Insurance Corporation and the Federal Reserve. The merger is also subject to approval by the majority of our minority shareholders.

We anticipate our merger with and into the Bank and the conversion of the Bank to a California state commercial bank will be completed sometime in the first quarter of 2005. We believe the combined company will provide greater flexibility in responding to market factors and will enable us to utilize, to a greater extent, the Bank’s low cost customer deposits to finance our activities.

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Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

Overview

We are one of the nation’s largest independent automobile finance companies with 31 years of experience in the automobile finance industry. We believe that the automobile finance industry is the second largest consumer finance industry in the United States with over $684 billion of loan originations during 2003. We originate, service and securitize new and pre-owned automobile installment contracts, which are generated through our relationships with approximately 8,100 franchised and independent automobile dealers in 45 states. We originated $1.8 billion and $5.1 billion of automobile contracts during the three and nine months ended September 30, 2004, respectively, compared with $1.7 billion and $4.6 billion for the same respective periods in 2003. We managed a portfolio of $11.4 billion at September 30, 2004 compared with $10.6 billion at December 31, 2003.

Our primary sources of revenue are net interest income and servicing income. Net interest income is the difference between the income earned on interest earning assets and the interest paid on interest bearing liabilities. The primary components of servicing income include late charges and other collection related fee income on managed contracts and contractually specified servicing income on contracts sold in whole loan sales which we continue to service. The primary components of operating expenses are salaries, credit and collection expenses and data processing costs.

Selected Financial Data

The following table presents summary unaudited financial data for the three and nine months ended September 30, 2004 and 2003. Since this table is only a summary and does not provide all of the information contained in our financial statements, including the related notes, you should read our Consolidated Financial Statements contained elsewhere herein. Certain amounts from the prior years’ Consolidated Financial Statements have been reclassified to conform to the current year presentation.

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Critical Accounting Policies

Management believes critical accounting policies are important to the portrayal of our financial condition and results of operations. Critical accounting policies require difficult and complex judgments because they rely on estimates about the effect of matters that are inherently uncertain due to the impact of changing market conditions. The following is a summary of accounting policies we consider critical.

Securitization Transactions and Whole Loan Sales

Automobile contracts sold by us to our special purpose entity subsidiaries in connection with securitization transactions are treated as having been sold for bankruptcy purposes. The subsequent transfer of such automobile contracts to the securitization trust is treated as a secured financing under generally accepted accounting principles, also known as GAAP. For GAAP purposes, the contracts are retained on the balance sheet with the securities issued to finance the automobile contracts recorded as notes payable on automobile secured financing. We record interest income on the securitized automobile contracts and interest expense on the notes issued through the securitization transactions.

We occasionally sell automobile contracts to Westcorp in whole loan sales. We recognize a cash gain on a whole loan sale equal to the cash premium received adjusted for the write-off of dealer participation balances and the effect of hedging activities.

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As servicer of these contracts, we hold and remit funds collected from the borrowers on behalf of the trustee pursuant to reinvestment contracts that we have entered into or we may deliver funds to the relevant trustee to be held until the distribution dates, depending on the terms of our securitizations. For loans sold to Westcorp that we continue to service, funds collected from the borrowers on behalf of the trustee pursuant to reinvestment contracts are reported as amounts held on behalf of trustee on our Consolidated Statements of Financial Condition.

Allowance for Credit Losses

Management determines the amount of the allowance for credit losses based on a review of various analyses. These analyses include trends in chargeoffs by credit tier over various time periods and at various statistical midpoints and high points, the severity of depreciated values of repossessions, trends in the number of days repossessions are held in inventory, trends in the number of contract modifications, trends in delinquency roll rates, trends in deficiency balance collections both internally and from collection agencies, trends in custom credit scores and the effectiveness of our custom credit scores, and trends in the economy generally or in specific geographic locations. Despite these analyses, we recognize that establishing allowance for credit losses is not an exact science and can be highly judgmental in nature.

The analysis of the adequacy of the allowance for credit losses is not only dependent upon effective quantitative and qualitative analyses, but also effective contract review and asset classification. We classify our assets in accordance with regulatory guidance into five categories: Pass, Special Mention, Substandard, Doubtful and Loss. Based upon our asset classifications, we establish general and specific valuation allowances.

General valuation allowances are determined by applying various factors to loan balances that are classified as Pass, Special Mention, Substandard or Doubtful. Specific valuation allowances represent contracts that are classified as Loss. Some assets may be split into more than one asset classification due to fair value or net realizable value calculations.

All contracts that are 60 to 89 days delinquent are automatically classified as Special Mention. Any contract that is 90 or more days delinquent is automatically classified as Substandard. Any contract where the borrower has filed for bankruptcy or the vehicle has been repossessed by us and is subject to a redemption period is classified as Substandard, with the difference between the wholesale book value and contract balance classified as Loss.

The allowance for credit losses is increased by charging the provision for credit losses and decreased by actual losses on the loans, or by reversing the allowance for credit losses through the provision for credit losses when the amount of loans held on balance sheet is reduced through whole loans sales, or based on credit trends or economic conditions.

Derivatives and Hedging Activities

The contracts originated and held by us are fixed rate and, accordingly, we have exposure to changes in interest rates. To protect against potential changes in interest rates affecting interest payments on future securitization transactions, we may enter into various hedge agreements prior to closing the transaction. The market value of these hedge agreements is designed to respond inversely to changes in interest rates. Because of this inverse relationship, we can effectively lock in a gross interest rate spread at the time of entering into the hedge transaction. Gains and losses on these agreements are recorded in accumulated other comprehensive income (loss), net of tax, on our Consolidated Statements of Financial Condition. Any ineffective portion is recognized in interest expense during the period if the hedge is greater than 100% effective. Following the closing date of the securitization transaction, the gains or losses are recognized in full as an adjustment to the gain or loss on the sale of the contracts if the transaction is treated as a sale or amortized on a level yield basis over the duration of the notes issued if the transaction is treated as a secured financing.

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If we issue variable rate notes payable in connection with our securitization activities, we may also enter into interest rate swap agreements in order to hedge our variable interest rate exposure on future interest payments. See “Quantitative and Qualitative Disclosure About Market Risk.” The fair value of the interest rate swap agreements is included in notes payable on automobile secured financing, and any change in the fair value is reported as accumulated other comprehensive income (loss), net of tax, on our Consolidated Statements of Financial Condition. Any ineffective portion is recorded in interest expense during that period if the hedge is greater than 100% effective. Related interest income or expense is settled on a monthly or quarterly basis and recognized as an adjustment to interest expense in our Consolidated Statements of Income.

We may also enter into interest rate swap agreements or other derivatives that we choose not to designate as hedges or that do not qualify for hedge accounting under Statement of Financial Accounting Standards No. 133, Accounting for Derivative Instruments and Hedging Activities, as amended, also known as SFAS No. 133. These derivatives pertain to variable rate notes issued in conjunction with the securitization of our contracts. Any change in the market value of such derivatives and income or expense recognized on such derivatives is recorded to noninterest income.

Proposed Acquisition and Merger

On May 23, 2004, we entered into a definitive agreement pursuant to which our parent company, Westcorp, will acquire our outstanding 16% common stock minority interest. The acquisition is structured as a merger of us with and into the Bank. The public holders of our shares will receive 1.11 shares of Westcorp common stock for each share of our common stock held by them in a tax-free exchange. Based on the $42.60 closing price of Westcorp common stock on May 21, 2004, the last business day prior to the execution of the agreement, the transaction has an indicated value of $47.29 per share of our common stock. In connection with the merger, the Bank has filed an application with the California Department of Financial Institutions to convert its federal thrift charter to a California state bank charter. The merger agreement is conditioned upon the conversion of the charter. The transaction is subject to, among other closing conditions, the receipt of regulatory approvals and the approval of a majority of our shareholders, other than shares controlled by Westcorp.

The California Department of Financial Institutions and the Office of Thrift Supervision have approved the Bank’s application to convert from a federal savings bank to a California state commercial bank subject to receipt of all other required regulatory approvals. The Federal Deposit Insurance Corporation approved the application to merge us into the Bank as part of its acquisition of our minority interest. The conversion is still contingent upon the approval of Westcorp’s application to become a bank holding company by the Board of Governors of the Federal Reserve. After the conversion, the Bank will be subject to the laws, regulation and oversight of the California Department of Financial Institutions, the Federal Deposit Insurance Corporation and the Federal Reserve. The merger is also subject to approval by the majority of our minority shareholders.

We anticipate our merger with and into the Bank and the conversion of the Bank to a California state commercial bank will be completed sometime in the first quarter of 2005. We believe the combined company will provide greater flexibility in responding to market factors and will enable us to utilize, to a greater extent, the Bank’s low cost customer deposits to finance our activities.

Results of Operations

Net Interest Income

Net interest income is affected by our interest rate spread, which is the difference between the rate earned on our interest earning assets and the rate paid on our interest bearing liabilities, and the relative amounts of our interest earning assets and interest bearing liabilities. Net interest income totaled $149 million and $425 million for the three and nine months ended September 30, 2004, respectively, compared with $157 million and $454 million for the same respective periods in 2003. The decrease in net interest income was the result of us holding fewer contracts on the balance sheet and a decrease in the net interest margins for the nine months ended September 30, 2004.

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The following table presents information relative to the average balances and interest rates on an owned basis for the periods indicated:

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The total interest rate spread decreased 15 basis points for the three months ended September 30, 2004 compared with the three months ended September 30, 2003 due to a decrease of 87 basis points in the yield on interest earning assets combined with a 72 basis point decrease in the cost of funds. The total interest rate spread decreased 15 basis points for the nine months ended September 30, 2004 compared with the nine months ended September 30, 2003 due to a decrease of 88 basis points in the yield on interest earning assets combined with a 73 basis point decrease in the cost of funds. The decrease in the yield on interest earning assets and in the cost of funds in 2004 was primarily due a lower interest rate environment.

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The following table sets forth the changes in net interest income attributable to changes in volume (change in average portfolio volume multiplied by prior period average rate) and changes in rates (change in weighted average interest rate multiplied by prior period average portfolio balance):

Provision for Credit Losses

We maintain an allowance for credit losses to cover probable losses that can be reasonably estimated for contracts held on balance sheet. The level of the allowance is based principally on the outstanding balance of contracts held on balance sheet and historical loss trends. We believe that the allowance for credit losses is currently adequate to absorb probable losses in our owned portfolio that can be reasonably estimated. The provision for credit losses was $60.0 million and $133 million for the three and nine months ended September 30, 2004, respectively, compared with $24.6 million and $164 million for the same respective periods in 2003. The increase in the provision for credit losses for the three months ended September 30, 2004 was a result of reversing the allowance for credit losses commensurate with the $1.7 billion of automobile contracts sold to our parent during the three months ended September 30, 2003. The decrease in the provision for credit losses for the nine months ended September 30, 2004 was the result of improving credit trends.

Contract Sales and Securitizations

Contract sales and securitizations totaled $1.6 billion and $4.5 billion for the three and nine months ended September 30, 2004, respectively, compared with $1.7 billion and $4.5 billion for the same respective periods in 2003. The following table lists each of the securitizations we manage. We receive servicing fees and other ancillary income on loans sold to Westcorp that we continue to manage. All securitizations prior to 2000-D were paid in full on or before their contractual maturity dates and none of the remaining securitizations have yet reached their contractual maturity dates.

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Securitizations