Fifth Third Bancorp — Q1 2018 Form 10-Q
Reporting period: Three months ended March 31, 2018; balance-sheet figures are as of March 31, 2018 unless noted. Fifth Third is a Cincinnati-based diversified financial services company with $141.5 billion in assets and four reported segments: Commercial Banking, Branch Banking, Consumer Lending, and Wealth and Asset Management.
Key financial results
| Metric | Q1 2018 | Q1 2017 / comparison |
|---|---|---|
| Net interest income, GAAP | $996 million | $933 million; up 7% |
| Net interest income, FTE | $999 million | $939 million; up 6% |
| Noninterest income | $909 million | $523 million; up 74% |
| Total revenue, FTE basis | $1.908 billion | $1.462 billion; up 31% |
| Provision for loan and lease losses | $23 million | $74 million |
| Noninterest expense | $1.046 billion | $986 million; up 6% |
| Net income attributable to Bancorp | $704 million | $305 million |
| Net income available to common shareholders | $689 million; diluted EPS $0.97 | $290 million; diluted EPS $0.38 |
| Net interest margin, FTE | 3.18% | 3.02% |
| Efficiency ratio, FTE | 54.8% | 67.4% |
| Net charge-offs / average portfolio loans | 0.36% | 0.40% |
FTE (fully taxable equivalent) figures and related ratios are non-GAAP measures. The company’s reported earnings increase was substantially affected by a $414 million gain tied to Vantiv’s acquisition of Worldpay, rather than solely by recurring operating growth.
Balance sheet, liquidity and capital
- Total assets were $141.5 billion, down from $142.2 billion at year-end 2017. Portfolio loans and leases were $92.0 billion, essentially unchanged from year-end; average loans were $92.9 billion, nearly unchanged year over year.
- Deposits were $105.5 billion, up from $103.2 billion at year-end. Core deposits were $103.3 billion. Total borrowings were $16.3 billion, down from $19.1 billion, mainly due to lower FHLB advances and other short-term borrowings. Long-term debt was $14.8 billion.
- Cash and due from banks were $2.0 billion. Modified LCR was 113%. Fifth Third reported approximately $43.1 billion of available secured borrowing capacity and $17.3 billion available under the Bank’s global bank note program.
- Regulatory capital ratios: CET1 10.82%, Tier 1 risk-based 11.95%, total risk-based 15.25%, and Tier 1 leverage 10.11%. Management said the ratios exceeded well-capitalized guidelines.
- Operating cash flow was $265 million, investing cash flow was $163 million, and financing cash flow was an outflow of $904 million. Cash and due from banks declined $476 million during the quarter.
- Available-for-sale securities had net unrealized losses of $411 million at quarter-end, versus net unrealized gains of $174 million at December 31, 2017. AOCI fell to a loss of $389 million, including a $460 million after-tax quarterly OCI loss, primarily from securities valuation changes.
Material changes and notable items
- Noninterest income rose by $386 million year over year, principally because of the $414 million Vantiv/Worldpay-related gain. The transaction reduced Fifth Third’s ownership interest in Vantiv Holding to approximately 4.9%; the remaining investment had a carrying value of $632 million.
- Net interest income benefited from higher loan yields and securities balances and recent Federal Reserve rate increases. These gains were partly offset by rising funding costs: interest-bearing core deposit rates and long-term debt costs each increased 21 basis points year over year, while other short-term borrowing rates increased 79 basis points.
- The effective tax rate declined to 15.8% from 22.9%, primarily reflecting the lower federal corporate tax rate under the Tax Cuts and Jobs Act, partly offset by related changes to previously deductible items.
- Credit costs improved: provision expense fell to $23 million, and net charge-offs declined to $81 million from $89 million. However, nonperforming assets increased to $528 million from $495 million at year-end, and the nonperforming portfolio asset ratio rose to 0.55% from 0.53%.
- Common dividends declared were $0.16 per share, up from $0.14. The Bancorp repurchased shares through accelerated repurchase transactions; $318 million was associated with the February 2018 transaction. It also issued $650 million of 3.95% senior notes due 2028.
Outlook, risks and contingencies
- The filing provides no specific company earnings or revenue guidance. Management discussed a positive economic outlook, Federal Reserve rate increases, and the Federal Reserve’s 2.7% median real GDP growth forecast; these are economic context, not Fifth Third guidance.
- Interest-rate models estimated that a gradual 200-basis-point increase would raise FTE net interest income 2.43% over 12 months and 7.62% over months 13–24; a 75-basis-point decrease would reduce it 4.74% and 9.23%, respectively. Results depend on assumptions, including a modeled 70% deposit beta in rising-rate scenarios.
- Management highlighted selective commercial real estate credit markets and potential retail-sector pressure from changing distribution patterns and online purchasing. It also monitors automobile lending amid industry-wide loosening in credit standards; the company said it had adjusted its standards to focus on risk-adjusted returns.
- The company expects adoption of the expected-credit-loss standard (ASU 2016-13) on January 1, 2020 to increase the allowance, but the amount was not yet determined. It expected the January 1, 2019 lease standard to materially increase balance-sheet assets and liabilities, with no material expense-recognition impact expected.
- Legal proceedings remain uncertain. The company estimated reasonably possible losses of up to approximately $22 million above accrued amounts for matters where a range could be estimated; it also said no loss was possible in those matters. Other matters may have losses that cannot be estimated. The filing identifies ongoing card-interchange litigation, among other proceedings, and says governmental inquiries or investigations could have adverse financial or reputational consequences.
- Mortgage representation-and-warranty losses were estimated as reasonably possible up to approximately $9 million above the $8 million reserve. The Visa-related total-return-swap liability was $165 million; its valuation depends on uncertain litigation timing and outcomes.
Important facts for investors to verify
- How much of the reported earnings improvement is sustainable after excluding the $414 million Vantiv/Worldpay gain and other valuation-related items?
- Whether deposit costs continue to rise faster than asset yields, and how actual deposit betas compare with the 70% modeled assumption.
- Whether credit quality stabilizes, particularly nonperforming assets, commercial exposures, consumer card and other unsecured lending, and automobile loans.
- The market and capital impact of the securities portfolio’s unrealized losses and the effect of interest-rate changes on AOCI, liquidity, and capital.
- Future share repurchases, dividend capacity, and capital requirements, including the possible effects of proposed stress-capital-buffer rules and CECL adoption.
- Developments in the Visa swap and litigation, interchange litigation, mortgage representation-and-warranty claims, and other regulatory or legal matters.