Ally Financial Inc. quarterly report, Q1 FY2017

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Ally Financial Inc. — Q1 2017 Form 10-Q

Reporting period: Three months ended March 31, 2017; comparisons are with Q1 2016 unless stated otherwise. Figures are in U.S. dollars; financial statement amounts are in millions unless noted. Ally is a digital financial services company focused on automotive finance and insurance, with mortgage, corporate finance, banking, brokerage and wealth management businesses. The interim financial statements are unaudited.

Financial performance and condition

  • Revenue and earnings: Total net revenue rose 4% to $1.375 billion. Net income from continuing operations fell 14% to $213 million; net income was $214 million versus $250 million. Diluted EPS was $0.46 versus $0.49. Pretax income from continuing operations declined 18% to $326 million.
  • Financing income and margins: Net financing revenue increased 3% to $979 million. Net interest spread was 2.47% versus 2.48%; net yield on interest-earning assets was 2.60% versus 2.59%. Interest expense increased 5% to $682 million.
  • Credit costs: Provision for loan losses increased 23% to $271 million. Net charge-offs were $253 million versus $179 million; the annualized total net charge-off ratio rose to 0.9% from 0.6%. Consumer automotive net charge-offs rose to $251 million from $173 million. The allowance for loan losses was $1.155 billion, about 1.0% of loans.
  • Expenses: Noninterest expense increased 10% to $778 million, including $88 million of insurance losses and adjustment expenses versus $73 million. Compensation expense was $285 million and other operating expense was $405 million.
  • Cash flow: Operating activities provided $1.175 billion, compared with $1.202 billion. Investing activities used $663 million versus providing $651 million; financing activities used $2.144 billion versus $3.234 billion. Cash and cash equivalents declined $1.632 billion during the quarter to $4.302 billion.
  • Balance sheet and funding: Total assets were $162.1 billion, down from $163.7 billion at year-end 2016. Net finance receivables and loans were $117.8 billion. Deposits grew to $84.5 billion from $79.0 billion; short-term borrowings were $8.4 billion and long-term debt was $51.1 billion. Total equity was $13.4 billion.
  • Liquidity and capital: Available liquidity was $17.9 billion, including $13.1 billion of unencumbered U.S. government and agency securities, $3.8 billion of liquid cash and equivalents, and $1.0 billion of unused committed facility capacity. Ally reported liquidity sufficient for more than 36 months under its stated long-term capital-markets stress assumptions. Ally Financial’s Common Equity Tier 1 ratio was 9.40%; Ally Bank’s was 17.74%. Both were reported as well-capitalized and meeting applicable requirements.
  • Returns and share count: Return on average assets was 0.54% versus 0.64%; return on average equity was 6.46% versus 7.38%. Ally paid a $0.08-per-share quarterly dividend and repurchased $169 million of common stock during the quarter.

Material changes and management commentary

  • Management attributed lower earnings mainly to higher loan-loss provision, higher noninterest expense—including severe hail-related insurance losses—and weaker lease economics. These pressures were partly offset by stronger consumer and commercial financing revenue, higher insurance premiums, gains on automotive loan sales and lower income tax expense.
  • Operating lease revenue fell as the GM lease portfolio ran off; net operating lease revenue was $154 million versus $259 million. Remarketing results shifted to a $3 million loss from a $55 million gain, reflecting lower used-vehicle prices. Management expected used-vehicle values to continue declining in the near term.
  • Ally continued to favor risk-adjusted returns over origination volume. Retail auto originations were $7.9 billion versus $8.2 billion; the average buy rate rose 32 basis points year over year. Management noted weaker-than-expected performance in lower credit tiers and seasoning of recent loan vintages.
  • Insurance’s combined ratio increased to 98.1% from 94.0%. Weather losses were $16 million higher year over year and described as the worst first-quarter weather-loss experience in more than 20 years. A one-year reinsurance agreement began in April 2017; management also cited planned premium increases in the most affected states.
  • Management reported continued expansion of digital offerings, including the Clearlane online auto finance platform, Ally Home mortgage products and TradeKing/Ally Invest. Corporate Finance pretax income rose to $25 million from $11 million, including an $11 million equity-investment sale gain; Mortgage Finance pretax income was $9 million versus $2 million.

Outlook, risks and contingencies

  • The filing provides no consolidated earnings or revenue guidance. Management’s stated outlook includes continued pressure on used-vehicle values and expectations that reinsurance and pricing actions will reduce insurance-result volatility.
  • Ally was moderately liability-sensitive in upward interest-rate shock scenarios. Its modeled 12-month pretax net financing revenue impact was negative $52 million under an instantaneous +100-basis-point shock and negative $171 million under +200 basis points. Results depend significantly on assumptions about deposit repricing.
  • Principal risks include consumer auto credit deterioration, used-car residual values, interest rates and funding costs, liquidity and capital requirements, regulatory oversight, and the ability to grow and integrate digital businesses. Deposits increased, but borrowing costs rose with higher LIBOR rates and funding levels.
  • Pending matters include three purported shareholder class actions alleging IPO-related misstatements and SEC, DOJ and New York regulatory information requests concerning subprime auto finance and securitizations. Ally said it intended to defend the class actions; it stated that potential excess losses on the described matters could not be reasonably estimated. The company also reported approximately $240 million of cumulative expenses related to 2013 CFPB/DOJ consent orders, which were scheduled to terminate in 2017.
  • Capital distributions remain subject to regulatory review. Ally submitted its 2017 capital plan on April 5 and expected a Federal Reserve response by June 30. Its existing authorization allowed up to $700 million of repurchases through Q2 2017; $495 million had been repurchased since program inception at quarter-end.
  • Ally said the new expected-credit-loss accounting standard, planned for adoption in 2020, would likely materially increase its credit-loss allowance and reduce retained earnings. It also expected equity-investment fair-value changes under another new standard to increase earnings volatility.

Most important facts for investors to verify

  • Whether consumer auto delinquencies, charge-offs and allowance coverage continue to rise, particularly in recent and lower-credit-tier vintages.
  • How used-vehicle prices and lease remarketing proceeds affect depreciation expense and residual risk as the lease portfolio runs off.
  • Whether insurance pricing and reinsurance offset weather-related claims and improve the combined ratio.
  • Whether deposit growth and funding diversification can contain interest expense, and how sensitive earnings are to deposit betas and rate changes.
  • The Federal Reserve’s response to the 2017 capital plan and the resulting capacity for dividends and share repurchases.
  • Developments in the shareholder litigation, subprime auto inquiries and consent-order obligations; also confirm subsequent-period financial results and share-count changes.