Citizens Financial Group, Inc. — 2018 Q2 Form 10-Q Summary
Business context and reporting period
Citizens Financial Group is a bank holding company headquartered in Providence, Rhode Island, operating through Consumer Banking and Commercial Banking. It serves retail customers, small businesses, middle-market companies, corporations and institutions across New England, the Mid-Atlantic and the Midwest. The filing covers the three and six months ended June 30, 2018; financial statements are unaudited. Total assets were $155.4 billion at June 30, 2018.
Financial performance and condition
| Metric | Q2 2018 | Q2 2017 | H1 2018 | H1 2017 |
|---|---|---|---|---|
| Net interest income | $1.121 billion | $1.026 billion | $2.212 billion | $2.031 billion |
| Noninterest income | $388 million | $370 million | $759 million | $749 million |
| Total revenue | $1.509 billion | $1.396 billion | $2.971 billion | $2.780 billion |
| Provision for credit losses | $85 million | $70 million | $163 million | $166 million |
| Noninterest expense | $875 million | $864 million | $1.758 billion | $1.718 billion |
| Net income | $425 million | $318 million | $813 million | $638 million |
| Diluted EPS | $0.88 | $0.63 | $1.65 | $1.24 |
| Net interest margin | 3.18% | 2.97% | 3.17% | 2.97% |
| Efficiency ratio | 57.95% | 61.94% | 59.17% | 61.81% |
- Q2 net income increased 34%, while first-half net income increased 27%. Net income available to common stockholders was $425 million in Q2 and $806 million in the first half.
- Revenue growth was driven primarily by higher net interest income, reflecting 3% average loan growth and expansion of net interest margin. Average loans and leases were $112.9 billion in Q2, and average deposits were $115.1 billion.
- Tax expense benefited from the December 2017 tax legislation. The effective tax rate declined to 22.6% in both Q2 and the first half, from 31.1% and 28.8%, respectively.
- Return on average tangible common equity improved to 12.9% in Q2 and 12.3% in the first half, versus 9.6% in the comparable 2017 periods.
- At June 30, loans and leases totaled $113.4 billion, up 3% from December 31, 2017. Commercial loans and leases increased 5% to $54.9 billion, while retail loans were broadly stable at $58.5 billion.
- Total deposits increased 2% from year-end to $117.1 billion. Long-term borrowed funds increased to $13.6 billion from $11.8 billion, while short-term borrowed funds declined to $1.8 billion from $2.7 billion.
- Cash provided by operating activities was $1.4 billion in the first half. Investing activities used $3.4 billion, primarily for loan growth and purchases of available-for-sale debt securities. Financing activities provided $2.8 billion. Cash and cash equivalents ended at $3.9 billion.
- Capital remained strong: CET1 was 11.2%, tier 1 capital was 11.6%, total capital was 13.8% and the tier 1 leverage ratio was 10.2% at June 30.
Material changes versus prior comparable periods
- Q2 net interest income increased 9%, and first-half net interest income increased 9%. The margin expansion reflected higher asset yields and a shift toward higher-return loan categories, partly offset by rising deposit and funding costs.
- Q2 noninterest income increased 5%; first-half noninterest income increased 1%. Foreign exchange and interest rate products and trust and investment services fees improved, while capital markets and mortgage banking fees were weaker.
- Q2 noninterest expense increased 1% and first-half expense increased 2%. Excluding prior-year aircraft lease impairments, underlying expense increased 3% in both periods, primarily due to salaries, employee benefits and outside services related to growth initiatives.
- Q2 provision expense increased 21% because of loan growth and a $9 million reserve build, compared with a $5 million reserve release in Q2 2017. First-half provision expense decreased 2%, supported by lower net charge-offs.
- Net charge-offs were $76 million in Q2 and $146 million in the first half, compared with $75 million and $162 million, respectively, in the prior-year periods.
- The allowance for loan and lease losses was $1.253 billion, or 1.10% of loans, compared with 1.12% at year-end 2017. Nonperforming loans and leases declined to $845 million from $871 million.
- Commercial criticized loans increased 17% to $3.3 billion, largely due to restaurant exposures moved to special mention for heightened monitoring. Management stated that reserves were adequate and loss content was not high.
- There were no notable items in 2018. The 2017 comparable periods included $26 million of aircraft lease impairments and a $23 million benefit from settlement of certain state tax matters.
Guidance, outlook, commentary, risks and unusual items
- Management emphasized continued loan and deposit growth, investment in strategic initiatives and expense discipline. The filing does not provide a formal earnings or revenue forecast.
- The Federal Reserve did not object to the 2018 capital plan. Planned actions included increasing the quarterly common dividend from $0.22 to $0.27 per share in Q3 2018, potential increases to $0.32 beginning in 2019, and up to $1.02 billion of common share repurchases through Q2 2019. Future distributions remain subject to capital, earnings, liquidity, regulatory and market conditions.
- Citizens received regulatory approval to consolidate Citizens Bank of Pennsylvania into Citizens Bank, National Association, with the merger intended for January 2019 to streamline governance and improve operating efficiency.
- The company completed the acquisition of certain net assets of Franklin American Mortgage Company on August 1, 2018, after the reporting period.
- Management describes the balance sheet as asset-sensitive: a gradual 200-basis-point increase in rates was estimated to increase next-12-month net interest income by 4.6%, while a 100-basis-point decline was estimated to reduce it by 2.1%.
- Liquidity remained substantial, with $29.0 billion of contingent liquidity, including $19.1 billion of unencumbered high-quality liquid assets, $7.0 billion of unused FHLB capacity and $2.9 billion of cash at the Federal Reserve. The company remained compliant with the LCR.
- Key risks include economic deterioration, credit losses, interest-rate and deposit-cost pressure, regulatory and supervisory requirements, litigation and investigations, capital and liquidity constraints, cybersecurity and operational failures, and changes in housing prices and employment.
- The company disclosed $67.6 billion of off-balance-sheet arrangements, including $65.4 billion of undrawn credit commitments and $2.2 billion of letters of credit. It also had a remaining maximum education-loan purchase commitment of $375 million.
- The company expects adoption of the current expected credit loss standard in 2020 to result in earlier recognition of credit losses and a higher allowance, but the quantitative impact could not yet be estimated. Lease accounting adoption in 2019 was expected to add approximately $550 million to $700 million of right-of-use assets and lease liabilities.
- Management stated that pending and existing legal and regulatory matters were not expected to have a material adverse effect, although outcomes and losses for some matters cannot be predicted with certainty.
Most important facts for investors to verify
- Whether loan growth and higher asset yields continue to offset rising deposit and wholesale funding costs.
- Trends in commercial criticized loans, especially restaurant exposures, and the adequacy of reserves before CECL adoption.
- Execution and regulatory effects of the planned January 2019 bank subsidiary consolidation.
- Actual timing and amount of planned dividends and share repurchases relative to the capital plan.
- Liquidity and funding conditions, including reliance on FHLB advances and the effect of changing credit ratings or regulatory liquidity rules.
- Post-period financial and strategic effects of the Franklin American Mortgage Company asset acquisition.
- Potential exposure from litigation, regulatory matters, $65.4 billion of undrawn commitments and other off-balance-sheet arrangements.