Northern Trust Corporation — Q1 2016 Form 10-Q
Business context and reporting period
Quarter ended March 31, 2016. Northern Trust provides asset servicing, fund administration, asset management, fiduciary and banking services. Its reporting segments are Corporate & Institutional Services (C&IS), Wealth Management, and Treasury and Other. Financial statements are unaudited.
Financial performance and position
| Metric | Q1 2016 | Prior comparable period / change |
|---|---|---|
| Revenue (GAAP net interest income plus noninterest income) | $1,190.0 million | $1,134.5 million; up 5% |
| Net income | $241.8 million | $230.7 million; up 5% |
| Diluted earnings per common share | $1.01 | $0.94; up 7% |
| Net interest income | $307.8 million | $260.6 million; up 18% |
| Net interest margin | 1.21% FTE; 1.18% GAAP | 1.10% FTE; 1.07% GAAP |
| Noninterest income | $882.2 million | $873.9 million; up 1% |
| Noninterest expense | $828.8 million | $789.0 million; up 5% |
| Provision for credit losses | $2.0 million expense | $4.5 million credit |
| Effective tax rate | 32.7% | 34.1% |
| Return on average common equity / assets | 11.43% / 0.86% | 11.28% / 0.87% |
At March 31, 2016, total assets were $117.8 billion, deposits $97.7 billion, loans and leases $34.1 billion, and stockholders’ equity $8.8 billion. Period-end assets and deposits each increased about 1% from December 31, 2015. Total reported liabilities were $109.0 billion; they included $97.7 billion of deposits, $4.0 billion of other borrowings, $1.5 billion of senior notes, $1.4 billion of long-term debt, and $277.3 million of floating-rate capital debt.
Regulatory capital remained above requirements for “well capitalized” classification. Corporation Common Equity Tier 1 was 11.6% under the Advanced Approach and 10.6% under the Standardized Approach; total capital ratios were 13.6% and 12.8%, respectively. Tier 1 leverage was 7.4% under both approaches.
Operating cash flow was negative $299.1 million, versus positive $490.8 million a year earlier. Investing activities provided $653.2 million, compared with $2.8 billion; financing activities provided $3.4 million, versus $2.2 billion used. Cash and due from banks increased $560.4 million during the quarter to $7.0 billion. The filing attributes operating cash use mainly to incentive payments, lower accounts payable and higher net collateral deposited with counterparties.
Client assets at quarter-end included $7.93 trillion of assets under custody/administration, $6.21 trillion under custody, and $900.0 billion under management. AUC/A rose 2% from year-end; assets under management rose 3% from year-end but were down 6% year over year.
Material changes and management commentary
- Revenue growth primarily reflected higher net interest income and servicing fees, partly offset by lower foreign exchange trading income. Net interest income benefited from 6% growth in average earning assets and a higher margin.
- Trust, investment and other servicing fees increased 3% to $748.2 million. Foreign exchange trading income declined 15% to $60.5 million, which management linked generally to lower client volumes.
- Expense growth was driven mainly by compensation, up 7%, and outside services, up 11%; the latter included higher consulting expense associated with regulatory-related spending. Average full-time-equivalent staff increased 5% year over year to approximately 16,300.
- C&IS net income rose 10% to $134.8 million; Wealth Management net income was broadly flat at $107.6 million. Treasury and Other reported a $0.6 million net loss.
- Nonperforming assets declined to $174.4 million from $228.1 million a year earlier. The allowance for credit losses was $232.6 million, and net charge-offs were $2.7 million.
- The quarter included a $2.3 million net gain from the decision to exit part of a non-strategic loan and lease portfolio. Management also changed its methodology for estimating inherent credit losses at year-end 2015; the updated method was used for this quarter.
Outlook, risks and contingencies
The filing provides no specific numerical earnings or revenue guidance. Management identifies market levels and volatility, interest rates, foreign exchange client activity, client asset flows, expense control, technology and regulatory spending, credit quality, and the ability to attract and retain clients and staff as factors that could affect results. Interest-rate simulations estimated a $19 million increase in next-12-month pretax earnings under a 100-basis-point rate increase and a $1 million decrease under a 200-basis-point increase; estimated economic value of equity declined $15 million and $260 million, respectively. Management cautions that these simulations rely on assumptions and do not include potential management actions.
Pending legal and regulatory matters include securities-lending litigation and an SEC investigation, and criminal proceedings in France involving a subsidiary’s administration of two trusts. Management stated that pending matters were not expected to materially affect consolidated financial position or liquidity, though they could materially affect results in a particular period. No material accruals were recorded; for a limited number of matters, the estimated upper end of reasonably possible losses was approximately $140 million in aggregate, excluding matters for which a range could not be reasonably estimated. Northern Trust also continued to hold approximately 5.2 million Visa Class B shares subject to selling restrictions and uncertainty over conversion timing and value.
Other exposures include $37.4 billion of legally binding credit commitments and $4.3 billion of standby letters of credit; these amounts are not equivalent to expected funding needs. Securities-lending indemnifications covered $97.2 billion of client securities loaned, with collateral requirements and borrower controls described by the company. The filing identifies operational, cybersecurity, counterparty, liquidity, market, regulatory, litigation and reputational risks. Disclosure controls were assessed as effective, with no material quarterly change in internal control over financial reporting identified.
Important facts for investors to verify
- Reconcile the filing’s reported GAAP revenue of $1,190.0 million with its FTE segment revenue presentation of $1,196.2 million; FTE is a non-GAAP measure.
- Track whether higher net interest income and margin persist, and whether lower FX trading income or market-sensitive servicing fees offset that growth.
- Monitor compensation and regulatory/technology-related expenses, credit quality, nonperforming residential real estate loans, and allowance adequacy.
- Review capital and liquidity trends alongside deposits, collateral movements and the company’s contingent credit commitments.
- Follow developments in securities-lending litigation and the SEC investigation, the French proceedings, and the Visa Class B share restrictions; the possible-loss estimate excludes matters that cannot be reasonably estimated.
- Reconcile share repurchase disclosures: the filing reports 1,925,013 first-quarter shares under the publicly announced plan, while another disclosure reports 2,310,617 shares repurchased including shares withheld for share-based compensation.