PNC Financial Services Group, Inc. — 2017 Form 10-K
Business context and reporting period. PNC is a diversified U.S. financial services company with retail banking, corporate and institutional banking, asset management, and an equity-method investment in BlackRock. This filing covers the fiscal year ended December 31, 2017; comparisons below are principally to 2016. PNC realigned its reportable segments in 2017 and recast prior-period segment results for comparability.
Financial performance and position
| Metric | 2017 | 2016 | Change |
|---|---|---|---|
| Total revenue | $16.329 billion | $15.162 billion | +8% |
| Net interest income | $9.108 billion | $8.391 billion | +9% |
| Net interest margin | 2.87% | 2.73% | +14 basis points |
| Noninterest income | $7.221 billion | $6.771 billion | +7% |
| Provision for credit losses | $441 million | $433 million | +2% |
| Noninterest expense | $10.398 billion | $9.476 billion | +10% |
| Net income | $5.388 billion | $3.985 billion | +35% |
| Net income attributable to common shareholders | $5.076 billion | $3.688 billion | +38% |
| Diluted earnings per common share | $10.36 | $7.30 | +42% |
| Effective tax rate | 1.9% | 24.1% | Lower, chiefly due to tax reform |
- Margins and costs: The efficiency ratio rose to 64% from 62%, as expense growth exceeded revenue growth. Revenue growth reflected higher loan and securities balances and yields, improved net interest margin, and stronger asset management and corporate services income.
- Balance sheet at year-end: Assets were $380.8 billion, up 4%; loans were $220.5 billion, up 5%; deposits were $265.1 billion, up 3%; borrowed funds were $59.1 billion, up 12%; and shareholders’ equity was $47.5 billion, up 4%.
- Credit quality: Nonperforming assets declined 14% to $2.035 billion; net charge-offs fell to $457 million from $543 million. The allowance for loan and lease losses was $2.611 billion, or 1.18% of loans, versus 1.23% a year earlier.
- Cash flow: The consolidated cash flow statement reported $5.699 billion provided by operating activities, $15.015 billion used in investing activities, and $9.686 billion provided by financing activities. Cash and due from banks rose $370 million to $5.249 billion. These figures reflect bank balance-sheet activity; they should not be read as conventional industrial-company free cash flow.
- Liquidity and capital: PNC reported $90.6 billion of liquid assets, $5.7 billion of available parent-company liquidity, and an LCR above the fully phased-in 100% minimum. The transitional Basel III CET1 ratio was 10.4% (10.6% in 2016); estimated fully phased-in CET1 was 9.8% (10.0%). PNC and PNC Bank were described as well capitalized.
- Capital returns: PNC returned $3.6 billion to shareholders in 2017: $2.3 billion of common-share repurchases and $1.3 billion of common dividends. The annual common dividend declared was $2.60 per share, up from $2.12.
Material changes versus 2016
- Growth in commercial lending drove much of the balance-sheet expansion: period-end commercial lending increased 7% to $147.4 billion. Consumer lending was essentially flat, with growth in residential mortgages, auto and credit cards offset by declining home equity and education balances.
- Net interest income increased $717 million, supported by loan growth and higher yields, while funding costs also rose. Average loan yield increased to 3.86% from 3.61%; average interest-bearing deposit cost increased to 0.35% from 0.25%.
- Asset management income rose 28% to $1.942 billion, including a $254 million tax-reform-related flow-through benefit from BlackRock and stronger equity markets. BlackRock segment earnings were $1.764 billion versus $532 million, including a $972 million tax benefit from revaluing deferred tax liabilities.
- Residential mortgage income fell 38% to $350 million, reflecting lower originations and sale margins and weaker servicing-rights valuation. Other noninterest income included a $280 million negative Visa-related derivative fair-value adjustment.
- Noninterest expense increased $922 million, including higher technology and business investment and significant fourth-quarter items. The realignment of segments and revised internal funds-transfer-pricing methodology also affect segment comparisons; PNC recast prior periods.
Outlook, commentary, risks and unusual items
- 2018 outlook: On an adjusted basis excluding the 2017 tax-law effects and specified significant items, management expected full-year loan growth and revenue growth in the mid-single digits, expense growth in the low-single digits, and an effective tax rate of approximately 17%. For first-quarter 2018 versus adjusted fourth-quarter 2017, it expected modest loan growth, stable net interest income, fee income down low-to-mid-single digits, other noninterest income of $250–$300 million, provision of $100–$150 million, and expenses down low-single digits.
- Economic and rate assumptions: Management expected somewhat faster U.S. growth in 2018 and forecast three Federal Reserve rate increases, with the federal funds rate reaching 2.00%–2.25% by year-end. It anticipated a flatter, but not inverted, yield curve. These are forward-looking assumptions, not guarantees.
- Tax reform: The 2017 results included a $1.2 billion fourth-quarter tax benefit, primarily from remeasurement of deferred tax liabilities following the enacted reduction in the corporate tax rate to 21%. Certain tax amounts were provisional and subject to review through December 2018. PNC also cited negative effects from limits on deductions, including FDIC insurance premiums and some executive compensation.
- Other notable items: Fourth-quarter expense included a $200 million contribution of BlackRock shares to the PNC Foundation, $197 million of real-estate disposition and exit charges, and $105 million of employee cash payments and pension credits. A $71 million negative residential mortgage servicing-rights assumption adjustment was also recorded. PNC achieved its $350 million 2017 continuous-improvement savings goal and set a $250 million goal for 2018.
- Legal and regulatory exposure: PNC estimated reasonably possible losses above accrued liabilities of up to approximately $100 million for disclosed matters it could estimate, but stated this excludes some matters and is not a maximum exposure estimate. Visa interchange litigation remains unresolved and affects Visa-related derivative valuations. A separate pre-need funeral trust judgment was partly reversed on appeal and returned to the district court. In January 2018, the Federal Reserve terminated PNC’s mortgage-servicing consent orders and assessed a $3.5 million civil penalty.
- Principal risks: Credit deterioration and real-estate concentrations; interest-rate, yield-curve and deposit-pricing movements; market and fair-value estimation risk; cyber, technology, operational and third-party failures; changing regulation and capital or liquidity requirements; competition; legal proceedings; and the transition away from LIBOR. Tax-law effects on customer behavior and the business remain uncertain.
Important facts for investors to verify
- How much of 2017 earnings growth is recurring operating performance versus the one-time tax benefit and other unusual items; review adjusted-to-GAAP reconciliations.
- Whether 2018 loan, revenue, expense and tax-rate guidance is being achieved, and whether rising deposit costs offset benefits from higher rates.
- Credit trends by portfolio, especially commercial exposures, auto and credit-card charge-offs, home-equity second liens, and the adequacy of the $2.611 billion loan-loss allowance.
- The quality and sustainability of BlackRock-related earnings and valuation, including PNC’s ownership, tax effects and concentration in the investment.
- Developments in Visa interchange litigation and other legal matters, including any updates to potential losses, accruals or Visa derivative valuations.
- Capital and liquidity headroom under fully phased-in rules, regulatory stress testing, and the capacity to sustain dividends and repurchases.