CAPITAL ONE FINANCIAL CORP annual report, FY2017

Capital One Financial Corporation — 2017 Form 10-K

Reporting period: Fiscal year ended December 31, 2017. This is an annual report, not a standalone fourth-quarter filing; quarterly figures below are selected data included in the 10-K. Capital One is a diversified financial services company with Credit Card, Consumer Banking and Commercial Banking segments.

Financial performance and position

Metric	2017	2016
Total net revenue	$27.2 billion	$25.5 billion
Net interest income	$22.5 billion	$20.9 billion
Net interest margin	6.97%	6.78%
Provision for credit losses	$7.6 billion	$6.5 billion
Income from continuing operations	$2.1 billion	$3.8 billion
Net income	$2.0 billion	$3.8 billion
Diluted EPS	$3.49	$6.89
Net charge-off rate	2.67%	2.17%
Efficiency ratio	52.11%	53.17%

Fourth quarter: Net loss was $971 million, including a $2.17 billion income-tax provision; the quarter’s loss from continuing operations was $862 million. The tax charge primarily reflected the Tax Act.
Cash flows: Operating activities provided $14.2 billion; investing activities used $15.5 billion; financing activities provided $3.2 billion. Ending cash, cash equivalents and restricted cash were $14.4 billion.
Balance sheet: Total assets were $365.7 billion; loans held for investment were $254.5 billion, up 4%; deposits were $243.7 billion, up 3%; and total debt was approximately $60.3 billion. Allowance for loan losses was $7.5 billion, or 2.95% of loans.
Liquidity and capital: Liquidity reserves were $84.3 billion, up from $74.1 billion. The company’s Basel III standardized common equity Tier 1 ratio was 10.3%, versus 10.1% a year earlier; the company and both banks exceeded applicable minimum capital requirements.
Segments: Credit Card earned $1.9 billion, down from $2.2 billion; Consumer Banking earned $1.1 billion, up from $870 million; Commercial Banking earned $676 million, up from $575 million. The Other category recorded a $1.6 billion loss, largely reflecting Tax Act charges.

Material changes versus 2016

Revenue rose 7%, led by loan growth and higher interest income; net interest margin increased 19 basis points.
Net income fell 47%, chiefly because of $1.8 billion in estimated Tax Act charges, higher credit-loss provision and increased operating costs. The reported effective tax rate rose to 61.5% from 31.3%; excluding discrete tax items, management reported a 29.9% effective rate for 2017.
Provision for credit losses increased 17%, and the net charge-off rate rose 50 basis points. Management attributed the increase primarily to growth and seasoning in domestic credit card lending, with auto losses also higher.
Loans held for investment increased $8.9 billion. The September acquisition of Cabela’s credit card assets added approximately $5.7 billion of loans at acquisition; auto loans also grew, while the acquired home-loan portfolio ran off.
The 30+ day delinquency rate increased to 3.48% from 3.27%. The allowance coverage ratio rose to 2.95% from 2.65%.

Outlook, risks and unusual items

Management expected 2018 EPS growth to accelerate, excluding adjusting items and assuming no substantial change in broader economic or credit cycles. It expected most Tax Act benefits near term, an approximately 19% 2018 effective tax rate, and higher marketing expense than in 2017.
Management expected the fully phased-in CET1 ratio to trend toward the mid-10% range by the end of 2018. It expected credit-card loss pressure from portfolio seasoning to moderate, while auto charge-offs were expected to rise gradually and auto growth to moderate.
The Tax Act’s estimated effects were provisional and subject to adjustment through December 2018. The $1.8 billion charge included $1.6 billion from deferred-tax-asset revaluation, $125 million for deemed repatriation of foreign earnings and $76 million related to affordable-housing investments.
Capital One ceased new residential mortgage and home-equity originations in November 2017 but continued servicing its existing portfolio. It also recorded $184 million in restructuring charges during 2017.
Credit risks include rising card and auto losses, consumer and commercial economic conditions, and exposure to subprime borrowers. Other key risks include interest-rate and funding pressures, regulatory changes, competition, cybersecurity and reliance on technology providers.
The OCC’s 2015 consent order concerning anti-money-laundering controls remained open; the company said it was making progress, with heightened oversight expected to continue. The New York District Attorney, Department of Justice and FinCEN were investigating aspects of the AML program.
U.K. PPI reserves were $249 million at year-end, with approximately $150 million of reasonably possible losses beyond the reserve. Management estimated approximately $550 million of reasonably possible future litigation losses beyond reserves across matters where an estimate was possible; it cautioned actual losses could exceed that range. The U.S. Bank mortgage representation-and-warranty settlement was $540 million and generated a $169 million fourth-quarter charge above prior reserves.
The Federal Reserve did not object to the 2017 capital plan but required a revised plan addressing weaknesses in capital planning. The company reduced authorized repurchases for the remaining CCAR period to up to $1.0 billion, subject to regulatory action.

Most important facts for investors to verify

How much of the year-over-year earnings decline is attributable to the provisional Tax Act charge versus underlying credit costs and operating trends.
Whether credit-card and auto delinquencies, charge-offs and allowance coverage stabilize as recent loan vintages season.
The final Tax Act accounting adjustments, including deferred tax assets and the expected 2018 tax rate.
Progress on the AML consent order and investigations, and updated estimates for PPI, mortgage representation-and-warranty and other litigation exposures.
Regulatory approval and execution of planned capital distributions, alongside capital and liquidity requirements.