KeyCorp (KEY) — Q2 2023 Form 10-Q
Business context and reporting period: Unaudited quarterly results for the three and six months ended June 30, 2023, compared primarily with the corresponding 2022 periods. KeyCorp operates Consumer and Commercial banking businesses; the filing also presents discontinued education lending operations separately. The independent accountant performed an interim review, not an audit.
Financial performance and condition
| Metric | Q2 2023 | Comparable period / change |
|---|---|---|
| Net interest income (GAAP) | $978 million | $1.097 billion in Q2 2022 |
| Net interest income (taxable-equivalent); net interest margin | $986 million; 2.12% | Down $118 million and 49 basis points year over year |
| Noninterest income | $609 million | $688 million in Q2 2022 |
| Noninterest expense | $1.076 billion | $1.078 billion in Q2 2022 |
| Provision for credit losses | $167 million | $45 million in Q2 2022 |
| Net income attributable to Key; diluted EPS | $287 million; $0.27 | $533 million; $0.54 in Q2 2022 |
| Continuing-operations income attributable to common shareholders | $250 million | $504 million in Q2 2022 |
- Six-month results: Net interest income (GAAP) was $2.077 billion versus $2.111 billion; noninterest income was $1.217 billion versus $1.364 billion; provision for credit losses was $306 million versus $128 million; and net income was $599 million versus $981 million.
- Profitability and efficiency: Q2 return on average tangible common equity was 11.0%, compared with 20.9% a year earlier. The non-GAAP cash efficiency ratio was 66.8%, versus 59.5%.
- Loans and deposits: Average Q2 loans were $120.7 billion, up $11.5 billion year over year; average deposits were $142.9 billion, down $4.6 billion. At June 30, total loans were $119.0 billion and deposits were $145.1 billion.
- Credit: The allowance for loan and lease losses was $1.480 billion, up $143 million from year-end 2022; allowance for credit losses, including off-balance-sheet exposures, was $1.771 billion. Q2 net charge-offs were $52 million, or 0.17% of average loans. Nonperforming loans were $431 million, up from $387 million at year-end.
- Capital and liquidity: Estimated CET1 ratio was 9.3%; total risk-based capital ratio was 13.1%. KeyBank met the regulatory definition of “well capitalized.” Available contingent liquidity was $80.0 billion; the loan-to-deposit ratio was 83%. KeyCorp held $2.7 billion in cash.
- Funding, debt and securities: Wholesale funds totaled $30.7 billion, including $22.1 billion of long-term debt. Total securities were $47.1 billion. Available-for-sale securities had $6.228 billion of gross unrealized losses; management attributed declines largely to interest rates and said it did not intend, and was not expected, to have to sell before recovery.
- Cash flow, six months: Operating activities provided $1.300 billion, investing activities used $5.415 billion, and financing activities provided $3.986 billion. Cash and due from banks declined $129 million to $758 million.
Material changes versus prior periods
- Q2 earnings fell as higher deposit and borrowing costs compressed net interest income and margin, while provision expense rose substantially with changes in the economic outlook and portfolio activity.
- Noninterest income declined year over year, notably from lower investment banking and debt placement fees, deposit service charges, and trust and investment services income. Reduced overdraft and NSF fees reflect Key’s client-friendly fee changes.
- Q2 expenses were nearly flat year over year, although first-half expenses increased to $2.252 billion from $2.148 billion, primarily reflecting personnel and technology costs.
- Uninsured deposits declined to $61.6 billion, or 42% of total deposits, from $71.6 billion, or 49%, a year earlier. Approximately $13.6 billion of uninsured deposits were collateralized by government-backed securities.
- Commercial real estate loans were $18.7 billion; office exposure was 5% of that portfolio and was 85% occupied. C&I loans represented 51% of total loans and were approximately 87% variable rate.
- Q2 common dividend was $0.205 per share. No open-market share repurchases were completed in the quarter.
Outlook, commentary and risks
- 2023 expectations versus 2022: Average loans up 6%–9%; average deposits flat to down 2%; taxable-equivalent net interest income down 12%–14%; noninterest income down 7%–9%; noninterest expense relatively stable; net charge-offs to average loans 25–30 basis points; effective tax rate 18%–19%.
- Quarterly expectations: For Q3 versus Q2, average loans down 1%–3%, deposits relatively stable, NII down 4%–6%, noninterest income up 2%–4%, and expenses relatively stable. For Q4 versus Q3, loans down 1%–3%, deposits relatively stable, NII flat to down 2%, noninterest income up 4%–6%, and expenses relatively stable. Expected charge-offs were 20–25 basis points in Q3 and 25–35 basis points in Q4. Expense outlook excludes the proposed FDIC special assessment.
- Management cited elevated economic uncertainty, inflation and interest rates, moderating job growth, and pressure on commercial real estate values, particularly office. Its credit-loss baseline forecast anticipated modest U.S. GDP growth and declines in national home and commercial real estate prices.
- The FDIC’s proposed special assessment related to protection of uninsured depositors at failed banks was estimated to cost Key approximately $176 million; the amount and timing depend on the final rule. A separate proposed capital-rule overhaul could affect Key and KeyBank if adopted. Both are prospective regulatory matters, not reported Q2 charges.
- Rating agencies affirmed ratings during Q2 but changed KeyCorp and KeyBank outlooks or trends to negative; Fitch’s outlook remained stable. Risks include deposit behavior and funding costs, credit deterioration (including CRE), interest-rate exposure, regulatory changes, cybersecurity and third-party operations, and litigation. Key disclosed an SEC record-keeping inquiry involving communications on unapproved platforms and said it is cooperating. Management did not expect pending litigation, based on information then available, to materially adversely affect financial condition.
Important facts for investors to verify
- Whether deposit retention, funding mix and deposit pricing meet management’s outlook, and how these affect NII and margin.
- Quarterly credit migration, charge-offs, criticized and nonperforming loans, and reserve adequacy—especially CRE office performance and collateral values.
- The final FDIC assessment, its amount and recognition period, and the effect of proposed capital and liquidity rules on required capital.
- Liquidity resources, uninsured deposit trends, and the impact of market or rating changes on funding access and cost.
- Progress against the 2023 loan, deposit, NII, fee-income and expense outlook; note that cash efficiency and tangible-equity returns are non-GAAP measures.
- Potential outcomes of the SEC record-keeping inquiry, litigation, guarantees and other contingencies; the filing states that ultimate legal outcomes remain uncertain.