Fifth Third Bancorp — 2016 Third-Quarter Form 10-Q
Business context and period. This unaudited filing covers the quarter and nine months ended September 30, 2016, compared primarily with the same periods in 2015. Fifth Third is a diversified U.S. bank holding company headquartered in Cincinnati, with four reportable segments: Commercial Banking, Branch Banking, Consumer Lending, and Wealth and Asset Management. It reported $143.3 billion of assets and operated 1,191 banking centers at quarter-end.
Financial performance and position
| Metric | Third quarter 2016 | Prior comparable period / change |
|---|---|---|
| Revenue (FTE basis; non-GAAP) | $1.753 billion | Up 8% from Q3 2015 |
| Net interest income (GAAP) | $907 million | $901 million; up 1% |
| Net interest income (FTE; non-GAAP) | $913 million; net interest margin 2.88% | $906 million and 2.89% |
| Noninterest income | $840 million | $713 million; up 18% |
| Provision for loan and lease losses | $80 million | $156 million |
| Noninterest expense | $973 million | $943 million; up 3% |
| Net income attributable to Bancorp | $516 million | $381 million; up 35% |
| Net income available to common shareholders / diluted EPS | $501 million / $0.65 | $366 million / $0.45 |
| Efficiency ratio (FTE; non-GAAP) | 55.5% | 58.2% |
| Return on average assets / common equity | 1.44% / 12.8% | 1.07% / 10.0% |
For the first nine months, net income attributable to the Bancorp was $1.175 billion versus $1.056 billion in 2015; common earnings were $1.123 billion, or $1.45 diluted EPS, versus $1.004 billion, or $1.22. FTE net interest income was $2.730 billion, noninterest income $2.075 billion, provision expense $289 million, and noninterest expense $2.942 billion. The nine-month efficiency ratio was 61.2%, compared with 61.8%.
Balance sheet and funding at September 30, 2016: Total assets were $143.279 billion; portfolio loans and leases were $93.151 billion; deposits were $101.271 billion; and total borrowings were $20.510 billion, including $16.890 billion of long-term debt. Deposits declined about $1.9 billion from December 2015, while borrowings increased about $3.0 billion. Bancorp shareholders’ equity was $16.776 billion. Basel III transitional CET1, Tier 1 risk-based, total risk-based, and Tier 1 leverage ratios were 10.17%, 11.27%, 14.88%, and 9.80%, respectively; management said capital exceeded well-capitalized guidelines.
Cash flow and liquidity: For the nine months, operating cash flow was $1.200 billion, investing cash flow was negative $2.207 billion, and financing cash flow was $631 million; cash and due from banks decreased $376 million to $2.164 billion. The modified Liquidity Coverage Ratio was 115%. The company reported approximately $37.0 billion of secured borrowing capacity and $15.3 billion available under the Bank’s global bank note program.
Material changes and notable items
- Q3 noninterest income included a $280 million pretax Vantiv tax receivable agreement gain: $116 million from a cash settlement and $164 million associated with options to settle remaining cash flows. This materially boosted reported revenue and earnings.
- Other Q3 items included an $11 million gain on an office-complex sale-leaseback, $28 million of premises and equipment impairment charges, and $9 million of other-than-temporary impairment on private equity investments. The year-over-year comparison also reflects a $130 million positive Vantiv warrant valuation adjustment in Q3 2015.
- Credit costs improved year over year: Q3 net charge-offs were $107 million, or 0.45% of average portfolio loans, versus $188 million, or 0.80%. However, nonperforming assets increased to $798 million from $659 million at December 31, 2015; nonperforming portfolio assets were 0.75% of portfolio loans and leases plus OREO, versus 0.70% at year-end. Energy-related commercial exposures contributed to higher commercial nonaccruals.
- Portfolio loans and leases rose $726 million from year-end. Commercial loans and leases increased $1.4 billion, while consumer loans and leases declined $653 million, including lower auto and home-equity balances.
- Cash dividends remained $0.13 per common share for Q3. The Federal Reserve did not object to potential capital actions through June 30, 2017, including a possible $0.14 quarterly dividend beginning Q4 2016 and up to $660 million of common-share repurchases, subject to stated conditions.
Outlook, commentary, and risks
- No specific earnings guidance was provided in the supplied filing text. Management described modest U.S. economic growth but cited weak qualified loan growth, low interest rates, slow global growth, commodity-price softness, and Brexit-related uncertainty as potential constraints on growth and profitability.
- The branch consolidation and property-sale program covered 72 branch locations and 37 undeveloped parcels intended for consolidation or sale at quarter-end, including properties in a September 2016 expansion of the plan. Management expected approximately $72 million in annual operating expense savings upon completion; the timing and realization remain uncertain.
- The FDIC assessment changes were estimated to raise Fifth Third’s insurance expense by approximately $23 million annually. The bank had become subject to the surcharge effective July 1, 2016.
- Interest-rate exposure is significant: the company’s model estimated 12-month FTE net interest income would rise 1.89% under a +100-basis-point ramp and decline 5.21% under an immediate -50-basis-point shock. These are model estimates dependent on assumptions, including deposit repricing.
- Visa/Mastercard interchange litigation remains uncertain after an appellate court overturned approval of a class settlement. Fifth Third reported a $103 million Visa total-return-swap liability and estimated up to $41 million of reasonably possible losses from legal and regulatory proceedings in excess of accruals, while noting that some matters could not be estimated.
- The Bank’s Community Reinvestment Act rating was “Needs to Improve,” with potential restrictions on certain activities, including new activities and acquisitions. A further examination was expected to commence in Q4 2016.
- Fifth Third disclosed that its disclosure controls and procedures were not effective because of deficiencies in registration and prospectus delivery for certain employee benefit plan securities. It expected to file required registration statements and make a voluntary rescission offer in Q4 2016; management did not expect the matter to materially affect results, financial condition, or liquidity.
- Other identified risks include credit deterioration, interest-rate and funding conditions, regulatory and litigation outcomes, cybersecurity and operational risks, and volatile valuations of Vantiv-related instruments.
Most important facts for investors to verify
- How much of Q3 earnings growth is sustainable after excluding the $280 million Vantiv TRA gain and other unusual gains, impairments, and valuation movements.
- Trends in commercial energy credit quality, nonperforming assets, charge-offs, and allowance adequacy; the filing notes a $15 million post-quarter identification adjustment to commercial nonaccrual loans.
- Whether planned branch actions deliver the expected $72 million annual savings, and the timing and costs of completing the program.
- Actual capital distributions, including the proposed dividend increase and repurchases, and the effect of additional debt and funding costs on margins and liquidity.
- Developments in Visa litigation, the CRA examination, legal contingencies, and the employee-plan registration/prospectus remediation, including any rescission claims or financial impact.