CITIGROUP INC quarterly report, Q3 FY2012

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Citigroup Inc. — Q3 2012 Form 10-Q

Business context and reporting period. Citigroup is a global financial services holding company operating through Citicorp, its core consumer and institutional businesses, and Citi Holdings, a portfolio of businesses and assets being wound down. This unaudited quarterly report covers the three and nine months ended September 30, 2012; comparisons are generally with the corresponding 2011 periods.

Financial performance and condition

  • Q3 earnings: Net income was $468 million, or $0.15 per diluted share, down 88% from $3.771 billion, or $1.23 per diluted share, a year earlier. The quarter included a $4.7 billion pretax ($2.9 billion after-tax) MSSB sale and impairment loss, negative $776 million pretax of CVA/DVA, and a $582 million tax benefit from resolution of tax audit items. Excluding those specified items, Citi reported earnings of $3.3 billion, or $1.06 per diluted share; this is an adjusted, non-GAAP presentation.
  • Revenue: Net revenues were $13.951 billion, down 33% year over year. Excluding the MSSB loss and CVA/DVA, revenues were $19.4 billion, up 3%. Net interest revenue was $11.913 billion, down 2%; net interest margin was 2.86%, up 3 basis points year over year. Management attributed pressure to low rates, spread compression and lower Citi Holdings loan balances.
  • Expenses and credit: Operating expenses declined 2% to $12.220 billion, including $528 million of legal and related costs and $95 million of repositioning charges. Credit-loss and benefits provisions fell 20% to $2.695 billion. Net credit losses were $3.979 billion, down 12%; the quarter included about $635 million of incremental mortgage charge-offs under new OCC guidance, substantially offset by an approximately $600 million reserve release.
  • Nine-month results: Net income was $6.345 billion, down 37%; net revenues were $51.999 billion, down 15%; operating expenses were $36.673 billion, down 3%; and provisions were $8.520 billion, down 14%. Operating cash flow from continuing operations was $7.564 billion, compared with $30.820 billion in the first nine months of 2011; investing cash flow was negative $18.063 billion and financing cash flow was positive $15.452 billion. Cash and due from banks rose $5.101 billion during the period.
  • Balance sheet and funding: Total assets were $1.931 trillion. Deposits were $944.6 billion, up 11% year over year; long-term debt was $271.9 billion, down 19%. Common stockholders’ equity was $186.5 billion, and book value per common share was $63.59. Aggregate liquidity resources were $404.2 billion at quarter-end.
  • Capital and credit reserves: Tier 1 Common and Tier 1 Capital ratios under current regulatory guidelines were 12.73% and 13.92%, respectively; total capital was 17.12%. Citi’s estimated Basel III Tier 1 Common ratio was 8.6%, a non-GAAP estimate subject to regulatory rulemaking. The allowance for loan losses was $25.9 billion, or 4.0% of loans. Non-accrual assets totaled $12.7 billion.

Material changes versus the prior comparable period

  • The MSSB transaction drove the sharp reported earnings and revenue declines: Citi sold a 14% interest for $1.89 billion and agreed to sell its remaining 35% interest to Morgan Stanley by June 1, 2015 for $4.725 billion, subject to regulatory approval.
  • Citicorp’s net income declined 18% to $4.1 billion, largely reflecting negative CVA/DVA versus a positive prior-year contribution. Excluding CVA/DVA, Citicorp net income increased 20%; its revenues rose 5% on that basis.
  • Citi Holdings reported a $3.6 billion net loss, versus a $1.2 billion loss, primarily due to the MSSB charge. Holdings assets fell 31% year over year to $171 billion, reflecting sales, runoff and the MSSB transaction.
  • Credit trends improved in several core card and corporate portfolios, while reported consumer non-accrual loans increased partly because OCC guidance added $1.5 billion of loans to non-accrual status, approximately $1.3 billion of which were current.

Outlook, commentary and risks

  • Management expected fourth-quarter legal and related expenses and repositioning costs to remain elevated. It expected net interest margin could decline slightly from Q3’s 2.86%, absent significant items, as low rates continued to pressure yields.
  • Citi expected mortgage refinancing activity to remain high into 2013, but noted cards revenue could face pressure from higher customer payment rates, deleveraging and a shift toward higher-credit-quality borrowers. It expected additional Korea repositioning charges in Q4.
  • Management’s stated strategy remained to strengthen Citi’s global core franchises, improve efficiency and wind down Citi Holdings as soon as practicable in an economically rational manner. CEO Vikram Pandit and President/COO John Havens resigned effective October 15; Michael Corbat was appointed CEO. The company said the changes were not expected to alter overall strategy.
  • Hurricane Sandy struck the New York City region and New Jersey on October 29–30. At filing, Citi was assessing the potential fourth-quarter impact on facilities, customers and results.
  • Material uncertainties include mortgage repurchase claims and litigation, payment-protection-insurance claims in the UK, the Eurozone debt crisis and possible redenomination, regulatory and capital changes, and realization of $53.3 billion in net deferred tax assets. Management estimated reasonably possible whole-loan representation-and-warranty losses up to $0.6 billion above accrued amounts. Citi’s aggregate estimated litigation and regulatory loss range remained approximately $4 billion above accruals, with significant uncertainty.
  • Subsequent to quarter-end, Citi issued $1.5 billion of non-cumulative preferred stock on October 29, 2012, with a 5.95% dividend rate. Citi also stated its estimated liquidity coverage ratio was 116% at quarter-end and expected it to remain above the proposed 100% minimum, while noting the estimate depends on proposed rules.

Important facts for investors to verify

  • Reconcile reported Q3 net income and EPS with management’s adjusted $3.3 billion and $1.06 per diluted share, including the precise MSSB, CVA/DVA and tax adjustments.
  • Review the MSSB sale terms, regulatory approval condition, purchase-price cap on the remaining stake, and the anticipated transfer of deposits to Morgan Stanley.
  • Assess credit quality and reserve adequacy, especially the effect of OCC Chapter 7 guidance, mortgage non-accrual classifications, reserve releases and future charge-offs.
  • Track Citi Holdings runoff and the remaining mortgage, repurchase-reserve, PPI and other legal exposures; compare subsequent claims and settlements with the disclosed reserves and loss estimates.
  • Confirm capital and liquidity ratios under finalized Basel rules, the treatment and realization of deferred tax assets, and the effects of debt maturities and deposit changes.
  • Monitor Q4 effects from Hurricane Sandy, elevated legal and repositioning costs, mortgage refinancing volumes and continued spread compression.