Capital One Financial Corporation — 2014 Form 10-K
Reporting period: Fiscal year ended December 31, 2014; filed February 24, 2015. Capital One is a diversified financial services company with Credit Card, Consumer Banking and Commercial Banking segments. The figures below are in U.S. dollars; unless otherwise noted, amounts are in billions.
Financial performance and condition
| Metric | 2014 | 2013 | Change |
|---|---|---|---|
| Total net revenue | $22.290 | $22.384 | Approximately flat |
| Net interest income | $17.818 | $18.106 | Down 2% |
| Non-interest income | $4.472 | $4.278 | Up 5% |
| Provision for credit losses | $3.541 | $3.453 | Up 3% |
| Net income | $4.428 | $4.121 | Up 7% |
| Diluted EPS | $7.59 | $6.89 | Up 10% |
| Net interest margin | 6.67% | 6.80% | Down 13 bps |
| Efficiency ratio | 54.64% | 55.19% | Improved 55 bps |
| Return on average assets | 1.48% | 1.46% | Up 2 bps |
For fourth-quarter 2014, net income was $999 million and diluted EPS was $1.73, versus $852 million and $1.43 in fourth-quarter 2013. Fourth-quarter provision for credit losses was $1.109 billion.
- Cash flow: Operating activities provided $9.304 billion; investing activities used $15.991 billion; financing activities provided $7.638 billion. Cash and cash equivalents increased $951 million to $7.242 billion.
- Loans and credit: Loans held for investment rose 6% to $208.3 billion. Net charge-offs were $3.414 billion, or 1.72% of average loans, down from $3.934 billion and 2.04%. The 30+ day delinquency rate was 2.91%, versus 2.96%. The allowance for loan and lease losses was $4.383 billion, or 2.10% of loans, compared with $4.315 billion, or 2.19%.
- Funding and liquidity: Deposits were $205.5 billion; short-term borrowings and long-term debt totaled $48.5 billion. Reported liquidity reserves were $71.6 billion, including cash, securities and available borrowing capacity.
- Capital: The Basel III Standardized Approach common equity Tier 1 ratio was 12.46% at year-end, and the Tier 1 leverage ratio was 10.77%. Capital ratios use a different methodology from 2013, so direct comparison with the prior-year Tier 1 common ratio is not appropriate. The Banks exceeded applicable well-capitalized requirements.
Material changes and segment performance
- Higher net income reflected lower funding costs, reduced non-interest expense and a substantially improved mortgage representation-and-warranty result. These benefits were partly offset by lower net interest income associated with the 2013 Best Buy portfolio sale and increased marketing.
- Credit Card generated $2.479 billion of net income, down from $2.615 billion. Year-end card loans increased 6% to $85.9 billion; purchase volume rose 12% to $224.8 billion. The card net charge-off rate improved to 3.46% from 4.15%.
- Consumer Banking net income fell to $1.195 billion from $1.451 billion, reflecting deposit-spread and auto-margin pressure and runoff of acquired home loans. Auto originations grew 20% to $20.9 billion; year-end auto loans rose 19% to $37.8 billion.
- Commercial Banking net income declined to $659 million from $731 million. Loans grew 13% to $50.9 billion, but provision expense rose from a prior-year benefit to $93 million as the segment built its allowance. Commercial loan yields faced competitive pressure.
- Other income improved to $90 million from a $443 million loss, primarily due to lower funding costs and the absence of a prior-year charge associated with redemption of trust preferred securities.
Outlook, risks and unusual items
- 2015 outlook: Management expected full-year revenue growth, driven by average loan growth, and higher marketing and operating expenses. The expected efficiency ratio was 53.5%–54.5%, excluding non-recurring items. Management expected quarterly efficiency to vary with timing and business activity.
- Credit and business outlook: Domestic Card quarterly charge-off rates were expected in the mid-to-high 3% range, with seasonality and newer loan growth likely to raise losses and allowance needs. Management was cautious about auto underwriting, pricing and used-vehicle values; it expected low rates to continue pressuring retail banking returns. Commercial loan growth was expected to slow amid intense competition.
- Capital returns: Capital One repurchased approximately $2.0 billion of common stock in 2014 under a $2.5 billion program and expected to complete the program in first-quarter 2015. The quarterly common dividend was $0.30 per share. Future distributions remain subject to regulatory approval, capital conditions and board discretion.
- Mortgage claims: The representation-and-warranty reserve fell to $731 million from $1.172 billion after $408 million of realized losses and settlements. Management estimated approximately $2.1 billion of reasonably possible future losses beyond the reserve; actual losses could exceed both the reserve and estimate. The estimate is highly uncertain and depends on claims, litigation, loan performance, recoveries and economic conditions.
- Other contingencies: Management estimated reasonably possible future losses of approximately $250 million for certain litigation matters, excluding specified mortgage-related cases. The U.K. cross-sell/PPI reserve was $116 million. The filing also describes government inquiries concerning anti-money-laundering controls and subprime auto lending, among other litigation and regulatory matters.
- Regulatory and operating risks: New capital, liquidity, stress-testing and conduct requirements could increase costs or constrain distributions and lending. The company entered Basel III Advanced Approaches parallel run in January 2015 and was subject to the phased-in U.S. liquidity coverage ratio. Risks also include credit deterioration, low or changing interest rates, competitive pressures, cybersecurity and service-provider disruptions. Capital One reported prior denial-of-service incidents that temporarily affected online services.
- Unusual accounting and comparability: The Best Buy card portfolio sale was completed in 2013; no significant acquisition or disposition occurred in 2014. The company adopted proportional amortization accounting for qualified affordable-housing investments retrospectively, recasting prior periods. The filing states that this reduced 2013 net income by $38 million and 2012 net income by $25 million.
Ernst & Young issued unqualified opinions on the consolidated financial statements and internal control over financial reporting; management reported no material weakness in internal control.
Important facts for investors to verify
- Review the drivers and sustainability of earnings growth, particularly card purchase-volume growth, funding costs, marketing investment and the decline in net interest margin.
- Assess whether improving card credit metrics persist as loan growth seasons, and monitor auto charge-offs, commercial allowance builds and the effect of acquired-loan accounting on reported credit measures.
- Evaluate the mortgage representation-and-warranty reserve and the $2.1 billion estimate of possible additional losses, including developments in the identified lawsuits and claims pipeline.
- Track progress against 2015 revenue, expense and efficiency-ratio expectations, as well as completion of the share-repurchase program and regulatory capital distribution approvals.
- Confirm liquidity and capital under changing regulatory requirements, and monitor the effects of rate movements, deposit competition and operational or cybersecurity incidents.