JPMORGAN CHASE & CO quarterly report, Q1 FY2011

JPMorgan Chase & Co. — Form 10-Q Summary

Business context and reporting period

JPMorgan Chase & Co. is a diversified global financial-services firm operating in investment banking, consumer and small-business finance, commercial banking, transaction processing, asset management and private equity. The filing covers the unaudited three months ended March 31, 2011, compared primarily with the three months ended March 31, 2010. The Firm reported approximately $2.2 trillion of assets, $180.6 billion of stockholders’ equity and operations in more than 60 countries at quarter-end.

Financial performance and condition

Metric	1Q11	1Q10	Change
Total net revenue	$25.2 billion	$27.7 billion	Down 9%
Net income	$5.6 billion	$3.3 billion	Up 67%
Diluted EPS	$1.28	$0.74	Up 73%
Pre-provision profit	$9.2 billion	$11.5 billion	Down 20%
Provision for credit losses	$1.2 billion	$7.0 billion	Down 83%
Noninterest expense	$16.0 billion	$16.1 billion	Down 1%
Effective tax rate	31.1%	26.7%	Higher

Profitability improved materially despite lower revenue: ROE was 13%, ROTCE was 18%, ROA was 1.07% and the firmwide overhead ratio was 63%.
Net interest income declined 13% to $11.9 billion. Average interest-earning assets were approximately $1.7 trillion and the fully taxable-equivalent net yield declined 43 basis points to 2.89%.
Noninterest revenue declined 5% to $13.3 billion. Investment banking fees increased 23% to $1.8 billion, while mortgage fees and related income fell to a $487 million loss and securities gains declined 83% to $102 million.
Net charge-offs were $3.7 billion, down from $7.9 billion, and the net charge-off rate improved to 2.22% from 4.46%. Nonperforming assets declined to $15.0 billion from $19.0 billion at the prior-year quarter-end.
The allowance for credit losses was $30.4 billion at March 31, 2011, down from $33.0 billion at December 31, 2010. Management concluded that the allowance was appropriate.
Total assets were $2.198 trillion and total loans were $686.0 billion at March 31, 2011. Deposits increased to $995.8 billion from $930.4 billion at December 31, 2010; the deposits-to-loans ratio was 145%.
Long-term debt was $269.6 billion, down modestly from $270.7 billion at December 31, 2010. The Firm issued $13.0 billion of long-term debt and had $18.1 billion mature or redeemed during the quarter.
Cash and due from banks ended at $23.5 billion, down from $27.6 billion at December 31, 2010. Operating cash flow was negative $6.0 billion, investing cash flow was negative $65.8 billion and financing cash flow was positive $67.3 billion, primarily reflecting deposit inflows and financing activity.
Management described liquidity as strong. The estimated Global Liquidity Reserve was approximately $316 billion, and the Firm stated that funding capacity was sufficient for on- and off-balance-sheet obligations.
Regulatory capital remained strong: Tier 1 capital ratio was 12.3%, total capital ratio was 15.6%, Tier 1 leverage ratio was 7.2% and Tier 1 common ratio was 10.0%. Management estimated a Basel III Tier 1 common ratio of 7.3%, subject to evolving rules.

Material changes versus the prior comparable period

The 67% increase in net income was driven primarily by the sharp reduction in credit-loss provisioning, including a $2.0 billion pretax reduction in the credit-card allowance. The benefit was partly offset by lower revenue and mortgage-related costs.
Retail Financial Services reported a $208 million net loss versus a $131 million loss, as revenue fell 19% and expenses increased 24%. Mortgage-related issues more than offset improved credit performance.
Card Services returned to profitability, reporting $1.3 billion of net income versus a $303 million loss. The provision declined 94% to $226 million, while loans declined 14% to $128.8 billion.
Investment Bank net income declined 4% to $2.4 billion despite record debt-underwriting fees. Higher compensation expense and lower trading and credit-portfolio revenue offset stronger investment-banking fees.
Commercial Banking net income rose 40% to $546 million, Treasury & Securities Services rose 13% to $316 million, and Asset Management rose 19% to $466 million.
Corporate/Private Equity net income increased to $722 million from $228 million, aided by higher private-equity gains and substantially lower litigation expense.
Mortgage Banking, Auto & Other Consumer Lending reported a $937 million loss versus $257 million of income. Mortgage fees and related income included a $1.1 billion decrease in the MSR asset’s fair value associated with higher projected servicing costs and a $650 million foreclosure-related expense.
Common stock dividends increased from $0.05 to $0.25 per quarter. The Board authorized a new $15 billion multiyear repurchase program, with up to $8 billion approved for 2011; $95 million was spent on repurchases during the quarter.
Effective January 1, 2011, the Commercial Card business transferred from Treasury & Securities Services to Card Services, and certain Federal Home Loan Bank advances were reclassified to long-term debt.

Guidance, outlook, risks and unusual items

Management expected mortgage production and margins to weaken if mortgage rates remained at or rose above current levels. Realized mortgage repurchase losses were estimated at approximately $1.2 billion on an annualized basis for the remainder of 2011.
Mortgage-servicing expenses were expected to remain elevated, excluding the $650 million foreclosure-related charge, because of enhanced servicing, modification and foreclosure procedures and compliance with regulatory Consent Orders. Additional fines, penalties and settlement costs were possible.
Management estimated quarterly net charge-offs in the Real Estate Portfolios business could be approximately $1.2 billion for the remainder of 2011. The residential real estate portfolio was expected to decline approximately 10% to 15% annually, reducing 2011 net interest income by approximately $700 million versus 2010.
For Card Services, management expected Chase portfolio outstandings to stabilize in the second half of 2011 at approximately $120 billion, although elevated repayments could result in a lower balance. The CARD Act and portfolio runoff were expected to reduce 2011 net interest income by approximately $1.4 billion versus 2010.
Management expected the Chase credit-card net charge-off rate to improve to approximately 5.5% in the second quarter of 2011 and potentially approach 4.5% by mid-2012 if delinquency trends continued to improve.
Key macroeconomic risks included high unemployment, weak housing prices, moderate economic growth, higher oil and commodity prices, inflation concerns, geopolitical events and the Japan earthquake and tsunami.
The Firm had more than 10,000 legal proceedings. Litigation expense was $1.1 billion in the quarter, and management estimated reasonably possible legal losses in excess of recorded reserves of up to approximately $4.5 billion.
The mortgage repurchase liability was $3.5 billion, with reasonably possible additional losses estimated at up to approximately $1.8 billion. Repurchase demands, mortgage-insurer rescissions, loss severity, cure rates and third-party recoveries remain uncertain.
Regulatory Consent Orders require substantial changes to mortgage servicing, foreclosure and loss-mitigation activities, including independent review and remediation of certain foreclosure actions. Goodwill in RFS and Card Services was not impaired but remained at elevated risk of future impairment.
Beginning April 1, 2011, changes to FDIC deposit-insurance assessments were expected to increase the Firm’s bank-subsidiary assessments by approximately $500 million annually.
The filing states that controls and procedures were effective as of March 31, 2011. The independent registered public accounting firm performed a review of the interim financial statements and reported no material modifications needed for conformity with U.S. GAAP.

Most important facts for investors to verify

Whether the sharp credit-cost improvement and $2.0 billion credit-card allowance release are sustainable or primarily reflect reserve normalization.
Actual mortgage repurchase demands, foreclosure remediation costs, MSR valuation changes, Consent Order expenses, fines and penalties.
Changes in housing prices, unemployment, delinquency rates and net charge-offs, particularly in residential real estate, home equity and credit cards.
Progress toward the stated mortgage, card and real-estate portfolio runoff assumptions and related effects on net interest income.
Use of the $15 billion share-repurchase authorization and the ability to sustain the increased dividend while maintaining capital targets.
Developments in litigation, MBS claims, Madoff, Lehman, Washington Mutual and other matters that could exceed recorded reserves.
Liquidity and funding trends, including the sustainability of the quarter-end deposit inflows, short-term funding levels and the estimated $316 billion Global Liquidity Reserve.
Future Basel III rules, FDIC assessment changes and other regulatory developments that could affect capital, expenses, business mix and returns.