Capital One’s Q4 Results Only A Minor Hiccup To Its Growth Story

by Trefis Team
Capital One
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Capital One (NYSE:COF) reported worse-than-expected results for the last quarter of 2013 on Thursday, January 16, with a marked reduction in net interest income dragging down top line figures for the period. [1] Revenues for the credit card lender of $5.5 billion were the lowest since it consolidated the big-ticket acquisitions of ING Direct and HSBC’s (NYSE:HBC) U.S. card operations in Q2 2012. Although the impact of this decline on earnings were mitigated by lower loan provisions compared to the same period last year, investors weren’t too happy with the results and they promptly sent the bank’s shares 5.3% lower over trading that day.

Things, however, don’t appear to be so bad if you consider the fact that Capital One was able to buck the industry trend of declining interest revenues by keeping its net interest income figure around $4.56 billion for each of the first three quarters of the year, and it was only a matter of time before the pressure on interest margins hit its revenues. Going forward, this should be less of a problem as the Fed’s tapering plans will help interest margins beginning as early as this quarter.

Something that lends more support to our view that the Q4 2013 revenue figures are a one-time aberration is the positive growth trend across all of Capital One’s loan categories.

We maintain our $79 price estimate for Capital One’s stock, which is roughly 10% ahead of current market prices.

See our full analysis for Capital One

Loan Portfolio Demonstrated All-round Growth

Capital One allowed its credit card portfolio to run off over the first three quarters of the year to ensure that acquired loans not meeting its risk-return criteria are eliminated from its balance sheet. The bank also sold several chunks of these loans over the period, with the biggest deal being the sale of its Best Buy card portfolio to Citigroup(NYSE:C) to get rid of the strategically redundant loans (see Citi Snaps Up Capital One’s Best Buy Credit Card Portfolio). Because of this, Capital One’s domestic card loan portfolio shrank from $83 billion at the end of Q4 2012 to under $70 billion at the end of Q3 2013. But the trend showed a reversal in the last quarter, with these loans growing to $73 billion by the end of the year.

Capital One also originated $4.3 billion in auto loans this quarter, increasing the size of auto loans outstanding to just under $32 billion from $27 at the end of 2012. The reducing focus on mortgage lending and other retail lending is demonstrated by the sequential decline in loans outstanding for both these categories.

On the commercial banking front, growth remains strong with total commercial loans crossing $44 billion at the end of Q4 2013 compared to $41 billion at the end of previous quarter. Growth was registered by the bank’s commercial real estate as well as commercial & industrial loan portfolios.

Credit Card Charge Offs Also Appear To Be Normalizing

One of the unwanted side-effects of Capital One’s acquisition of HSBC’s U.S. card business was a notable increase in charge off rates for the bank’s credit card business. This is because credit card loans by the erstwhile HSBC unit were not given out on similarly stringent terms that Capital One employs. This was the inherent trade-off in the deal – while the acquisition boosted the credit card portfolio and also brought in cost synergies, the overall charge-off rate on loans (and hence the corresponding provisions) will remain higher than their historical levels. To put things in perspective, Capital One’s charge off figure shot up from 3.22% in Q3 2012 to 4.32% in Q4 2012, although the credit conditions in the country were fairly constant between these quarters.

Q1 2011 Q2 2011 Q3 2011 Q4 2011 Q1 2012 Q2 2012 Q3 2012 Q4 2012 Q1 2013 Q2 2013 Q3 2013 Q4 2013
6.13% 5.06% 4.23% 4.30% 4.14% 3.13% 3.22% 4.32% 4.45% 4.36% 3.78% 3.98%

Since then, the charge off rates fell to a low of 3.78% in Q3 2013 before correcting to 3.98% in Q4. As a result, provisions for the card division increased from a post-acquisition low of $762 million in Q2 2013 to $957 million in Q4 2013. The figures should remain around this level for the future – something we capture in the chart below.

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  1. Q4 2013 Earnings Press Release, Capital One Press Releases, Jan 16 2014 []
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