Business context and reporting period
Capital One Financial Corporation filed this unaudited Form 10-Q for the quarter ended September 30, 2022. The diversified financial services company operates Credit Card, Consumer Banking and Commercial Banking businesses. On October 1, 2022, its banking subsidiaries COBNA and CONA merged, with CONA surviving.
Financial results and condition
| Metric | Q3 2022 | Change vs. Q3 2021 |
|---|---|---|
| Net interest income | $7.0 billion | Up 14% |
| Non-interest income | $1.8 billion | Up 8% |
| Total net revenue | $8.8 billion | Up 12% |
| Provision for credit losses | $1.7 billion | Was a $342 million benefit |
| Non-interest expense | $4.9 billion | Up 18% |
| Net income | $1.7 billion | Down 45% |
| Diluted EPS | $4.20 | Down from $6.78 |
| Net interest margin | 6.80% | Up 45 basis points |
For the first nine months of 2022, net income was $6.1 billion, down 39% year over year; net revenue was $25.2 billion, up 13%. Net interest margin was 6.61%, up 53 basis points.
- Credit and lending: Period-end loans held for investment were $303.9 billion, up 10% from December 31, 2021. Net charge-offs were $931 million in Q3; the annualized net charge-off rate was 1.24%, up 57 basis points year over year. The 30+ day delinquency rate was 2.78%, up from 2.41% at year-end 2021.
- Credit reserves: The allowance for credit losses was $12.2 billion, up $779 million from year-end; allowance coverage was 4.02%, versus 4.12%.
- Balance sheet and funding: Total assets were $444.2 billion, deposits $317.2 billion and total stockholders’ equity $50.9 billion. Period-end debt, including securitized debt obligations and other debt, totaled $54.6 billion. Deposits funded 85% of reported funding sources; brokered deposits were $18.4 billion, up from $8.6 billion at year-end.
- Liquidity: Liquidity reserves were $92.8 billion, down $23.4 billion from year-end, mainly due to lower investment securities and higher FHLB advances. Average Q3 liquidity coverage ratio was 139%, above the 100% requirement; the company and banks exceeded the net stable funding ratio requirement.
- Cash flow: For the first nine months, operating activities provided $5.7 billion, investing activities used $18.3 billion and financing activities provided $15.9 billion. Cash, cash equivalents and restricted cash ended at $25.3 billion.
- Capital and returns: CET1 was 12.2% at September 30, down from 13.1% at year-end, and 11.8% excluding the remaining CECL transition benefit. The company repurchased $4.7 billion of common shares in the first nine months and paid $1.80 per common share in dividends.
Material changes versus the prior comparable period
- Revenue grew, driven primarily by loan growth, higher card purchase volume and increased interchange income. Q3 purchase volume rose 9% to $149.5 billion.
- Earnings fell despite higher revenue: the main factors were the shift from prior-year credit-loss reserve releases to allowance builds, increased credit losses, and higher marketing and operating expenses.
- Investment securities available for sale declined in fair value by $20.0 billion to $75.3 billion from year-end, primarily reflecting higher interest rates and credit spreads, as well as portfolio sales and reduced reinvestment. Nine-month after-tax unrealized losses on available-for-sale securities were $8.5 billion; total other comprehensive loss was $11.1 billion.
- Stockholders’ equity fell $10.2 billion from year-end, reflecting securities-related AOCI losses and share repurchases, partly offset by net income.
- Credit indicators showed gradual normalization: Q3 net charge-off rates rose in card and auto lending; total 30+ day delinquencies increased. Commercial Banking’s nonperforming loan rate improved to 0.57% from 0.82% at year-end.
Outlook, commentary, risks and contingencies
- Management expected the 2022 annual operating efficiency ratio, net of adjustments, to be approximately flat versus 2021, with a modest decline in 2023. It also expected the increase in operating expense from Q3 to Q4 2022 to be less than the average increase over the prior five years.
- Management attributed higher credit-loss provision to loan growth and allowance builds across segments, compared with allowance releases in 2021, and noted continued gradual credit normalization. Higher interest rates raised funding costs; management’s sensitivity analysis projected higher 12-month net interest income in rising-rate scenarios, while economic value of equity declined in higher-rate scenarios.
- Principal risks identified include economic deterioration and higher credit losses, interest-rate and funding-cost changes, deposit growth and pricing, regulatory and compliance requirements, cybersecurity and operational disruption, litigation, competition, and the LIBOR transition. The filing states no material change to the risk factors in the 2021 Form 10-K.
- For certain disclosed litigation matters, management estimated reasonably possible future losses beyond reserves of approximately $200 million as of September 30, 2022, while cautioning actual losses could exceed that estimate. The U.S. consumer class-action settlement concerning the 2019 cybersecurity incident was court-approved in September 2022 and was within existing reserves; a Canadian class-certification decision was on appeal. The OCC lifted its cybersecurity-related consent order on August 31, 2022; Capital One had paid an $80 million penalty.
- Unfunded lending commitments totaled $412.3 billion, primarily credit-card lines and other lending commitments; contractual amounts do not represent expected funding needs. Affordable-housing investment commitments were $1.7 billion and were largely expected to be paid from 2022 through 2025.
- The FDIC’s finalized 2-basis-point increase to base deposit-insurance assessment rates was scheduled to take effect January 1, 2023. New debit-network routing requirements were scheduled to take effect July 1, 2023.
Important facts for investors to verify
- Whether credit normalization, delinquencies and net charge-offs continue to rise, especially in credit-card and auto portfolios, and whether allowance levels remain adequate.
- Whether revenue growth can offset higher deposit and wholesale funding costs, marketing, technology investment and regulatory expenses.
- How interest-rate movements affect net interest income, securities values, AOCI and regulatory capital; review the rate-sensitivity assumptions and CECL transition impact.
- Whether liquidity and funding remain resilient as reserves declined and brokered deposits and FHLB borrowing increased.
- Developments in the cybersecurity-related proceedings, interchange litigation and other contingencies, including potential losses beyond recorded reserves.
- Progress and remaining exposure in the LIBOR transition, including $12.4 billion of commitments maturing after June 30, 2023 without fallback language at quarter-end.