Business context and reporting period
Synchrony Financial’s unaudited Form 10-Q covers the three months ended March 31, 2019, compared primarily with the same 2018 quarter. It operates a U.S.-focused consumer finance business through Retail Card, Payment Solutions and CareCredit, alongside FDIC-insured deposit products. During the quarter, it financed $32.5 billion of purchase volume and had 77.1 million average active accounts.
Financial performance and condition
| Metric | Q1 2019 | Q1 2018 / comparison |
|---|---|---|
| Net earnings | $1.107 billion | $640 million; up 73.0% |
| Diluted earnings per share | $1.56 | $0.83 |
| Net interest income | $4.226 billion | $3.842 billion; up 10.0% |
| Net interest margin | 16.08% | 16.05% |
| Provision for loan losses | $859 million | $1.362 billion; down $503 million |
| Retailer share arrangements | $954 million | $720 million |
| Other expense | $1.043 billion | $988 million |
| Operating cash flow | $2.289 billion | $1.915 billion |
Net earnings benefited substantially from a $522 million reserve release associated with moving the Walmart portfolio to held-for-sale classification; the release was a major contributor to the lower loan-loss provision. Interest income increased 12.8%, while interest expense rose 39.3% to $560 million as funding costs and balances increased. Cost of funds was 2.64%, versus 2.10% a year earlier. Return on assets was 4.3% (2.7%); return on equity was 30.4% (18.2%); and the efficiency ratio was 31.0% (30.9%).
At March 31, loan receivables held for investment were $80.405 billion, with a $5.942 billion allowance; a separate $8.052 billion Walmart portfolio was classified as held for sale. Period-end receivables were up 3.3% year over year, but down 13.7% from December 31, 2018, reflecting seasonality and the Walmart reclassification. Over-30-day delinquencies were 4.92%, versus 4.52% a year earlier; 90-day delinquencies were 2.51%, versus 2.28%. The quarterly net charge-off rate improved to 6.06% from 6.14%. Allowance coverage was 7.39%, compared with 7.37% a year earlier and 6.90% at year-end.
Cash and equivalents were $12.963 billion; total deposits were $64.060 billion and represented 75% of total funding. The liquidity portfolio was $17.4 billion, supplemented by $5.6 billion of undrawn securitization capacity, $0.5 billion under an unsecured revolver, and more than $25 billion of unencumbered Bank assets. Total borrowings were $21.891 billion, including $12.091 billion of securitization borrowings and $9.800 billion of senior unsecured notes. Total equity was $14.709 billion. Company and Bank capital ratios met well-capitalized requirements; Company total risk-based capital was 15.8% and Bank total risk-based capital was 16.1%.
Cash from investing activities was $3.810 billion, including a net decrease in loan receivables and securities transactions; financing activities used $3.182 billion, including $967 million of treasury-stock purchases, $150 million of dividends and net securitization repayments. Cash and equivalents, including restricted amounts, increased $2.917 billion during the quarter.
Material changes, outlook and risks
- Walmart portfolio: An agreement to sell the portfolio led to $8.1 billion of receivables being classified as held for sale and the $522 million reserve release. Closing, subject to customary conditions, was expected in late Q3 or early Q4 2019.
- Business growth and costs: Average receivables increased 13.7%, partly from the PayPal Credit acquisition; purchase volume rose 9.7% and average active accounts rose 8.1%. Other expense growth was driven in part by professional fees and interim servicing of acquired portfolios.
- Capital returns and transactions: Synchrony repurchased $966 million of stock, completing the remaining authorization under its 2018 program, and paid a $0.21-per-share dividend. It said no further repurchases would occur until a new plan was approved. It announced the acquisition of Pets Best and entry into pet health insurance as a managing general agent.
- Outlook: The filing gives no specific earnings or financial guidance. Management describes seasonal receivable and credit patterns; Q1 allowance and delinquency comparisons are affected by seasonality and Walmart’s reclassification.
- Accounting and contingencies: Synchrony planned to adopt CECL on January 1, 2020, and expected a material increase in the allowance and a decrease in regulatory capital; the impact estimate was still being developed. The company reported ongoing legal and regulatory matters, including a CFPB information demand concerning deferred-interest promotions, bankruptcy-related credit-reporting litigation, TCPA class actions, and securities and derivative litigation. Management estimated reasonably possible losses that could be estimated as immaterial, while noting outcomes remain uncertain.
- Principal risks: Consumer credit deterioration, partner concentration and retention, funding costs and access, interest-rate mismatches, deposit growth, securitization triggers, regulatory and legal actions, cybersecurity and operational disruptions, and capital or dividend restrictions. A 100-basis-point immediate rate increase was estimated to increase next-12-month net interest income by approximately $75 million.
Most important facts for investors to verify
- Whether and when the Walmart portfolio sale closed, its final economics, and the effect of removing that portfolio from reported credit and earnings metrics.
- How much of Q1’s earnings increase is recurring versus attributable to the $522 million reserve release, and how credit costs trend in later quarters.
- Whether rising delinquencies, seasonal patterns and the 7.39% allowance coverage indicate a change in underlying credit quality.
- Whether deposit funding costs continue to rise and how they affect net interest income, liquidity and funding mix.
- The eventual CECL allowance and regulatory-capital impact, and any material developments in disclosed legal or regulatory matters.