KeyCorp Q1 2013 Form 10-Q Summary
Business context and reporting period
KeyCorp, a bank holding company headquartered in Cleveland, Ohio, reported unaudited results for the three months ended March 31, 2013. Unless otherwise noted, financial amounts below are in millions of dollars. Key’s principal segments are Key Community Bank and Key Corporate Bank. The filing presents results from continuing operations separately from discontinued education lending, Austin, and Victory businesses.
Key financial metrics
| Metric | Q1 2013 | Comparable period / reference |
|---|---|---|
| Taxable-equivalent revenue | $1,014 | $1,001 in Q1 2012; up 1.3% |
| Net interest income (GAAP) | $583 | $553 in Q1 2012 |
| Net interest margin (taxable-equivalent) | 3.24% | 3.16% in Q1 2012; 3.37% in Q4 2012 |
| Noninterest income / expense | $425 / $681 | $442 / $679 in Q1 2012 |
| Continuing income before taxes / continuing net income | $272 / $202 | $274 / $201 in Q1 2012 |
| Net income attributable to Key / common shareholders | $204 / $199 | $200 / $194 in Q1 2012 |
| Diluted EPS attributable to Key common shareholders | $0.21 | $0.20 in Q1 2012 |
| Net loan charge-offs | $49; 0.38% of average loans | $101; 0.82% in Q1 2012 |
| Average loans | $52.6 billion | Up $3.2 billion, or 6.5%, year over year |
Balance sheet and capital at March 31: Total assets were $89.2 billion; loans were $52.6 billion, net loans $51.7 billion, deposits $64.7 billion, long-term debt $7.8 billion, and total equity $10.4 billion. The allowance for loan and lease losses was $893 million, or 1.70% of loans. Nonperforming loans were $650 million; nonperforming assets were $705 million. Regulatory capital ratios were 11.40% Tier 1 common equity, 12.19% Tier 1 risk-based capital, 15.02% total risk-based capital, and 11.36% leverage.
Cash flow and liquidity: Operating cash flow was $(1.073) billion, investing cash flow was $1.148 billion, and financing cash flow was $(38) million. Cash and due from banks increased $37 million to $621 million. Management reported an $8.5 billion liquid-asset portfolio and unused secured borrowing capacity of $15.2 billion at the Federal Reserve Bank of Cleveland and $5.0 billion at the Federal Home Loan Bank of Cincinnati. These cash-flow figures reflect bank balance-sheet activity and should be read in that context.
Material changes versus the prior comparable period
- Net interest income rose $30 million, supported by growth in average earning assets and lower funding costs. Net interest margin increased year over year but fell 13 basis points from Q4 2012.
- Noninterest income declined $17 million year over year. Lower operating lease income and other leasing gains, including the absence of a $20 million prior-year leveraged-lease termination gain, and lower principal-investing gains were partly offset by stronger investment-banking fees, card income, and other income.
- Noninterest expense was nearly flat, up $2 million. Personnel costs increased $19 million, including higher technology contract labor, incentive compensation, and severance; nonpersonnel expenses declined.
- Provision for loan losses increased to $55 million from $42 million, even as net charge-offs fell to $49 million from $101 million. Management attributed the generally improving credit metrics to improved economic and housing conditions and continued runoff of exit portfolios.
- Year-end-to-quarter-end loans declined $248 million, while loans were up substantially year over year. Deposits fell $1.3 billion from December 31, 2012; average deposits were up about $4 billion year over year.
- Q1 continuing net income attributable to Key was $201 million, compared with $201 million in Q1 2012; continuing income attributable to common shareholders was $196 million versus $195 million.
Outlook, management commentary, risks and unusual items
- Management expected net interest margin to decline about 4–7 basis points in Q2 2013, with further modest pressure of 1–3 basis points per quarter in the second half, assuming little change in interest rates.
- Management projected 2013 average loan growth of 4%–6%, led by commercial lending, and average earning assets of $74–$76 billion for the balance of the year. The filing notes that interim results are not necessarily indicative of full-year results.
- The efficiency initiative had delivered $105 million of annualized expense savings toward a $200 million target by year-end 2013. Further actions included branch consolidation and efforts to make the cost base more variable. The Q1 cash efficiency ratio was 66.0%, above the long-term 60%–65% target.
- Key agreed to sell Victory for $246 million—$201 million in cash and a $45 million seller note, subject to adjustment—with an expected Q3 2013 closing. Management estimated an after-tax gain of $145–$155 million, subject to final terms and closing. Victory’s Q1 results were reported in discontinued operations.
- The Federal Reserve did not object to Key’s 2013 capital plan. The board authorized up to $426 million of additional share repurchases through Q1 2014. Q1 repurchases were $65 million; the proposed increase in the quarterly common dividend from $0.05 to $0.055 remained subject to board review.
- Risks identified include a slow or weakening economic recovery, interest-rate and credit-quality changes, real-estate values, market liquidity, funding access, regulatory changes including Basel III and Dodd-Frank, operational and cybersecurity risks, and legal proceedings.
- Legal matters include remaining Austin/Madoff-related claims. A Department of Labor settlement totaled $47.8 million; Key stated that insurance coverage was expected to apply, subject to a $25 million self-insurance deductible and policy terms. The filing says remaining claims’ material effect could not be determined. Other litigation outcomes could exceed reserves.
- Key’s estimated Basel III ratios were above proposed fully phased-in minimums, but the rules were proposed and implementation timing and final requirements remained uncertain. Key also noted that trust preferred securities would phase out of Tier 1 capital treatment.
Important facts for investors to verify
- Track whether margin pressure, deposit pricing, and funding mix develop as management expected, and whether loan growth reaches the 4%–6% outlook.
- Assess credit trends by portfolio, especially commercial real estate and home-equity loans; compare charge-offs, nonperforming loans, and the allowance as balances change.
- Confirm the Victory sale’s closing, final consideration and gain, and whether proceeds are used for the authorized repurchases.
- Monitor execution and costs of the efficiency plan, including whether savings reach the $200 million target and bring the cash efficiency ratio into its target range.
- Review capital and liquidity under final Basel III rules, including the effect of trust preferred securities phase-out and the company’s capacity to fund dividends and repurchases.
- Follow developments in the Austin/Madoff and other legal matters, including insurance recoveries, reserves, and potential exposure beyond recorded amounts.
The independent accountant performed an interim review, not an audit, and reported no material modifications it believed were needed for GAAP conformity. Management concluded disclosure controls were effective at quarter-end and reported no material change in internal control over financial reporting during the quarter.