Citigroup Inc. — Q3 2014 Form 10-Q
Business context and reporting period. This quarterly report covers the three and nine months ended September 30, 2014. Citi is a global financial services holding company operating through Citicorp, its core consumer and institutional businesses, and Citi Holdings, a portfolio of non-core businesses and assets. Unless noted, comparisons are with the corresponding 2013 period. The reported results incorporate a $600 million increase in Q3 legal expenses disclosed October 30, 2014, after Citi’s initial earnings announcement.
Financial performance
| Metric | Q3 2014 | Q3 2013 | Change |
|---|---|---|---|
| Net revenues | $19.6 billion | $17.9 billion | +9% |
| Net interest revenue | $12.2 billion | $11.5 billion | +6% |
| Operating expenses | $13.0 billion | $11.7 billion | +11% |
| Credit-loss and benefits provisions | $1.75 billion | $1.96 billion | -11% |
| Income before tax | $4.90 billion | $4.27 billion | +15% |
| Net income attributable to Citigroup | $2.84 billion | $3.23 billion | -12% |
| Diluted EPS | $0.88 | $1.00 | -12% |
| Net interest margin | 2.91% | 2.81% | +10 bps |
| Efficiency ratio | 66% | 65% | +1 percentage point |
Q3 net income was $2.84 billion, or $0.88 per diluted share. Excluding CVA/DVA in both periods and the prior-year tax benefit, Citi reported adjusted net income of $3.1 billion ($0.95 per share), versus $3.3 billion ($1.02 per share) a year earlier. These are company-presented, non-GAAP comparisons. Q3 included negative $371 million of CVA/DVA, including a one-time $474 million pretax charge for adopting funding valuation adjustments (FVA). The effective tax rate was 41%.
For the first nine months, revenue was $59.1 billion (+1%); operating expenses were $40.6 billion (+12%); provisions were $5.45 billion (-15%); and net income was $6.96 billion (-38%). Results included a $3.8 billion pretax mortgage-settlement charge in Citi Holdings in Q2 2014.
Cash flow, balance sheet and capital
- For the first nine months, operating cash flow from continuing operations was $18.1 billion, versus $59.3 billion in 2013; investing cash flow was positive $2.0 billion, versus negative $78.6 billion; financing cash flow was negative $12.7 billion, versus positive $17.1 billion. These large movements reflect the balance-sheet and funding flows of a financial institution.
- At September 30, total assets were $1.883 trillion; deposits, $942.7 billion; long-term debt, $223.8 billion; and total stockholders’ equity, $212.3 billion. Year over year, assets and deposits each declined about 1%, while common stockholders’ equity increased 4%.
- Fully implemented Basel III Common Equity Tier 1 and Tier 1 capital ratios were 10.66% and 11.43%, respectively; the estimated supplementary leverage ratio was 5.99%. The latter exceeded Citi’s anticipated 5% minimum under enhanced standards, but future rules and implementation remain relevant.
- Estimated high-quality liquid assets were $416.4 billion. Under the final U.S. liquidity coverage ratio rules, estimated LCR was 111%, with $42.0 billion of HQLA above estimated net outflows.
Material changes and business performance
- Citicorp: Q3 revenue increased 8% to $18.0 billion, while net income declined 22% to $2.6 billion, primarily due to higher legal expenses, taxes and FVA effects. GCB revenue rose 4% to $9.6 billion; ICG revenue rose 14% to $8.4 billion. ICG benefited from stronger investment banking, markets and securities-services activity.
- Citi Holdings: Q3 net income was $238 million versus a $115 million loss; revenue rose 26% and expenses fell 36%. Gains on sales, including Greece and Spain, and lower credit losses helped. Assets declined 16% year over year to $103 billion. Nine-month net loss was $3.5 billion, including the Q2 mortgage-settlement charge.
- Credit: Net credit losses were $2.1 billion, down 14% year over year. Citi recorded a $552 million net reserve release. The allowance for loan losses was $16.9 billion, or 2.60% of loans, compared with $20.6 billion, or 3.16%, a year earlier. Non-accrual assets declined 19% to $8.0 billion.
- Funding and loans: Average funding costs fell, supporting higher net interest revenue and margin. Loans were $654 billion at quarter end, down 1% year over year as reported; excluding foreign-exchange effects, loans increased 1%, with Citicorp growth offset by Citi Holdings runoff.
Outlook, risks and unusual items
- On October 14, 2014, Citi announced plans to exit consumer businesses in 11 markets and its consumer finance business in Korea, aiming for substantial completion by the end of 2015. The businesses represented approximately $29 billion of assets, $7 billion of consumer loans and $26 billion of deposits at quarter end; they were to move to Citi Holdings reporting in Q1 2015.
- Management cited a challenging and volatile macroeconomic environment, including geopolitical tensions, slower growth in some markets and uncertainty about the timing of interest-rate increases. It expected legal expenses to remain elevated and episodic, regulatory and compliance costs to continue, and Q4 repositioning charges to be approximately at Q3 levels. Citi expected NIM to decline slightly in Q4 following the Greece and Spain consumer-business sales.
- Legal and related costs were $1.6 billion in Q3 versus $677 million a year earlier; $1.4 billion of Q3 Citicorp legal costs was recorded in Corporate/Other. Citi estimated reasonably possible litigation and regulatory losses in excess of accruals at approximately $5 billion, materially unchanged from year-end 2013; actual losses could differ substantially.
- Home-equity line resets are a material consumer-credit risk: Citi estimated average monthly payments on loans resetting in 2015–2017 could rise by about $360, or 165%; approximately 11% of that resetting balance had combined loan-to-value above 100%. Rising rates, slower economic growth, regulatory changes, and emerging-market and country risks could also affect results.
- Other unusual items included the $474 million FVA implementation charge, the $600 million legal-expense adjustment, gains from the Greece and Spain disposals, and the prior-quarter $3.8 billion mortgage-settlement charge. Citi’s net deferred tax assets were $49.9 billion; realization depends on future taxable income and other assumptions.
Important facts for investors to verify
- Reconcile the final reported Q3 figures with the October 30 adjustment and assess how recurring legal costs may affect earnings.
- Review the nature, timing and potential cash impact of litigation and regulatory exposures, including the approximately $5 billion reasonably possible loss estimate above accrued amounts.
- Track execution, costs and accounting treatment of the planned consumer-market exits and the associated runoff or transfer into Citi Holdings.
- Assess capital and liquidity under applicable regulatory measures, including the 5.99% estimated supplementary leverage ratio and 111% U.S.-rule LCR.
- Monitor credit quality and allowance adequacy, especially Mexico, Russia and Ukraine exposures, legacy mortgages, and HELOC payment resets.
- Consider the sensitivity of earnings and capital to interest rates, foreign exchange, deferred-tax-asset realization and changes in market conditions.