Business context and reporting period
PNC Financial Services Group, Inc. filed this Form 10-K for the fiscal year ended December 31, 2011. PNC is a diversified U.S. financial services company spanning retail banking, corporate and institutional banking, asset management, residential mortgage banking, and an equity investment in BlackRock. At year-end, it reported $271.2 billion in assets, $188.0 billion in deposits, and $34.1 billion in shareholders’ equity. The filing also reports fourth-quarter results; this is an annual report, not a standalone quarterly filing.
Key financial metrics
| Metric | 2011 | 2010 |
|---|---|---|
| Total revenue | $14.326 billion | $15.176 billion |
| Net interest income | $8.700 billion | $9.230 billion |
| Noninterest income | $5.626 billion | $5.946 billion |
| Provision for credit losses | $1.152 billion | $2.502 billion |
| Noninterest expense | $9.105 billion | $8.613 billion |
| Income from continuing operations before tax and noncontrolling interests | $4.069 billion | $4.061 billion |
| Net income | $3.071 billion | $3.397 billion |
| Net income attributable to common shareholders | $2.998 billion | $3.011 billion |
| Diluted EPS from continuing operations | $5.64 | $5.02 |
| Net interest margin | 3.92% | 4.14% |
| Return on average assets / common equity | 1.16% / 9.56% | 1.28% / 10.88% |
| Efficiency ratio | 64% | 57% |
At December 31, 2011, loans were $159.0 billion, up 6%; deposits were $188.0 billion, up 2%; borrowed funds were $36.7 billion, down from $39.5 billion; and total shareholders’ equity was $34.1 billion. The loan-to-deposit ratio was 85%. The allowance for loan and lease losses was $4.3 billion, or 2.73% of loans and 122% of nonperforming loans.
Operating cash flow was $6.0 billion; investing cash flow was negative $6.5 billion; and financing cash flow was positive $1.3 billion. Cash and due from banks increased $808 million to $4.1 billion. PNC reported $54.5 billion in liquid assets, of which $20.1 billion was pledged as collateral, plus unused secured borrowing capacity of $10.6 billion with the FHLB and $26.9 billion with the Federal Reserve Bank.
Capital ratios improved: Tier 1 common was 10.3% versus 9.8%, Tier 1 risk-based was 12.6% versus 12.1%, and total risk-based was 15.8% versus 15.6%. PNC Bank, N.A. met regulatory “well capitalized” standards.
Material changes versus the prior comparable period
- Net income fell 10% year over year, while income from continuing operations was slightly higher. The 2010 comparison included $373 million of discontinued-operations income, including the GIS sale gain.
- Revenue declined 6%, and net interest income fell 6%; margin contracted 22 basis points, reflecting lower purchase-accounting accretion, lower average loan balances, and the low-rate environment, partly offset by lower funding costs.
- Provision for credit losses fell 54% as credit quality improved. Net charge-offs declined to $1.6 billion from $2.9 billion; nonperforming assets fell 19% to $4.2 billion.
- Expense increased 6%, chiefly reflecting higher mortgage foreclosure-related costs and a trust-preferred redemption charge. The efficiency ratio worsened to 64% from 57%.
- Loans grew $8.4 billion, led by commercial, auto, and education lending; deposits increased $4.6 billion, including growth in transaction deposits and a reduction in higher-cost retail certificates of deposit.
- Other notable balance-sheet movements included investment securities declining $3.6 billion to $60.6 billion and shareholders’ equity increasing $3.8 billion. PNC transferred $6.3 billion of securities from available-for-sale to held-to-maturity.
Outlook, management commentary, risks and unusual items
Management expected 2012 net interest income, including RBC Bank (USA) after closing, to rise at a mid-to-high-single-digit percentage rate; noninterest income to grow at a mid-single-digit rate; and provision for credit losses to remain broadly stable, assuming economic conditions similar to 2011. Excluding specified unusual charges and contingencies, management expected noninterest expense to increase at a mid-single-digit rate, including about $600 million of RBC operating expenses for ten months, and anticipated about $170 million of RBC merger and integration costs in first-quarter 2012. These are forward-looking estimates, not guarantees.
The pending $3.45 billion RBC Bank (USA) acquisition was expected to close in March 2012, subject to customary conditions. PNC expected the transaction to add approximately $18 billion of deposits and $16 billion of loans. The Federal Reserve and OCC had approved the acquisition and merger, but integration, credit losses, deposit attrition, and costs remained risks.
2011 included $324 million of residential mortgage foreclosure-related expenses and a $198 million noncash charge for redeeming $750 million of trust preferred securities. Fourth-quarter 2011 included $240 million of foreclosure-related expense and the $198 million redemption charge. The 2010 comparison included a $328 million after-tax GIS sale gain, $387 million of integration costs, and a $250 million noncash reduction in common earnings related to the TARP preferred redemption. PNC raised its quarterly common dividend from $0.10 to $0.35 in April 2011; future capital actions were subject to the Federal Reserve’s 2012 CCAR review.
Key risks include economic or market deterioration, persistently low interest rates, credit-loss estimation uncertainty, mortgage servicing and foreclosure litigation, repurchase and indemnification demands, and implementation of Dodd-Frank and Basel III requirements. PNC disclosed 2011 mortgage foreclosure consent orders with the Federal Reserve and OCC. For disclosed legal matters where it could estimate possible losses, PNC estimated aggregate reasonably possible losses of up to approximately $550 million; this excluded matters it could not estimate and was not a maximum exposure estimate. Separately, it reported a $130 million mortgage loan repurchase and indemnification liability and estimated possible additional losses of up to $85 million above that liability.
Management described PNC’s overall risk profile as moderate. Direct and indirect European exposure totaled $2.1 billion; direct exposure was $1.6 billion, or 0.59% of assets. PNC noted that Dodd-Frank implementation, including consumer protection, interchange fees, derivatives, capital and liquidity rules, could raise costs or reduce revenue. Its Basel III Tier 1 common ratio estimate was approximately 8.0%–8.5% during 2013, based on then-current assumptions and subject to regulatory change.
The independent auditor issued an unqualified opinion on the consolidated financial statements and concluded that internal control over financial reporting was effective as of December 31, 2011.
Most important facts for investors to verify
- Whether loan-loss provisions can remain near 2011 levels as credit quality, delinquencies, troubled debt restructurings, and home-equity performance evolve.
- How much of earnings depends on purchase-accounting accretion, and whether core net interest income can deliver the stated 2012 growth outlook amid low rates.
- The final acquisition price, closing and integration costs, acquired asset quality, deposit retention, and realized benefits from RBC Bank (USA).
- The eventual costs of mortgage consent orders, foreclosure reviews, litigation, investor repurchase claims, and other legal matters not included in PNC’s estimated aggregate loss range.
- The Federal Reserve’s CCAR decision and the effect of evolving capital rules on dividends, repurchases, acquisition capacity, and regulatory capital ratios.
- Liquidity available after pledged collateral and the timing of 2012 debt and time-deposit maturities, particularly alongside the RBC acquisition funding needs.