01—Abstract
Summary
Summary of the 10-K filed February 29, 2012. Cited figures are marked; the original filing is the authoritative source.
Capital One's 2011 10-K reports net income of $3.1 billiona ($6.80 per diluted share), up from $2.7 billion in 2010, driven mainly by a sharp decline in credit costs.
The provision for loan and lease losses fell to $2.4 billionb from $3.9 billion, and the net charge-off rate improved 224 basis points to 2.94%. Non-interest expense rose 18% to $9.3 billion on higher marketing, legal and operating costs tied to the Kohl's, HBC and Sony portfolio integrations. Capital strengthened: the Tier 1 common equity ratio reached 9.7% and the Tier 1 risk-based ratio 12.0%, both up year over year.
The filing is dominated by transformative pending transactions. The ING Direct acquisition (about $83.0 billionc in deposits and $92.2 billion in assets) closed on February 17, 2012, after the balance sheet date, and makes Capital One the sixth-largest U.S. depository. The $9.2 billion-plus HSBC U.S. credit card acquisition is expected to close in Q2 2012.
Management explicitly warned of a significant negative impact on 2012 EPS from integration costs, purchase accounting, reserve builds and share dilution, with benefits expected in 2013 and beyond. Investors should weigh the improved credit trends and capital position against the 2012 earnings headwinds and execution risk of two large acquisitions. Ongoing mortgage representation and warranty exposure is also notable: the reserve stands at $943 milliond, and management sees a reasonably possible additional loss of up to $1.5 billion.
02—Key points
Key Highlights
- Net income rose 15% to $3.1 billion ($6.80 diluted EPS) in 2011, from $2.7 billion ($6.01) in 2010.
- Provision for loan and lease losses fell 40% to $2.4 billion; net charge-off rate improved to 2.94% from 5.18%.
- Non-interest expense rose 18% to $9.3 billion, driven by marketing ($1.3 billion vs. $958 million) and integration of acquired card portfolios.
- Loans held for investment reached $135.9 billion and deposits $128.2 billion at year-end 2011; the ING Direct deposits of about $83.0 billion were added after year-end.
- Tier 1 common equity ratio rose to 9.7% (from 8.8%) and Tier 1 risk-based capital ratio to 12.0%; book value per share increased to $64.51.
- Management expects a significant negative 2012 EPS impact from the ING Direct and HSBC integrations, with benefits projected for 2013 and beyond.
- Mortgage representation and warranty reserve totals $943 million, with management citing up to $1.5 billion of reasonably possible additional losses.
03—One dollar
04—Financials
Financial Highlights
Figures from 10-KFY2011filed February 29, 2012Financial Statements
FY2011 against FY2010
| Line item | FY2011FY2010 | Change |
|---|---|---|
| Revenue | $16.28B$16.17B | +0.7% |
| Operating Income | $3.25B$3.05B | +6.7% |
| Interest Expense | $2.25B$2.90B | −22.4% |
| Net Income | $3.15B$2.74B | +14.7% |
| EPS (Basic) | $6.85$6.07 | +12.9% |
| EPS (Diluted) | $6.80$6.01 | +13.1% |
| Shares Outstanding (Basic) | 455.50M452.00M | +0.8% |
| Shares Outstanding (Diluted) | 459.10M456.00M | +0.7% |
05—Questions
Frequently Asked Questions
What drove the increase in Capital One's 2011 earnings?
Earnings rose mainly because credit costs fell sharply. The provision for loan and lease losses dropped 40% to $2.4 billion as credit quality improved across the Credit Card, Consumer Banking and Commercial Banking segments. This was partly offset by higher operating expenses from marketing and acquisition integration, and by a $277 million mark-to-market loss on interest-rate swaps hedging ING Direct.
Why does management expect 2012 earnings per share to decline?
Management expects significant integration and direct operating costs from the ING Direct and HSBC acquisitions, purchase accounting impacts such as intangible amortization, and provisions to build allowance on acquired revolving accounts. Share count will also rise from the settlement of 40 million forward-sale shares (about $1.9 billion), 54 million shares issued to ING, and a planned equity issuance of roughly $1.25 billion tied to the HSBC deal.
How significant is the ING Direct acquisition?
It is transformative. Closed February 17, 2012, it added about $83.0 billion in deposits and $92.2 billion in assets (fair value), and makes Capital One the sixth-largest U.S. depository and the leading direct bank. The consideration was 54,028,086 common shares plus about $6.3 billion in cash, and purchase accounting was not complete when the 10-K was filed.
What are the main remaining risks in the mortgage business?
Legacy mortgage subsidiaries (GreenPoint, Capital One Home Loans and Chevy Chase Bank) face repurchase and indemnification claims on about $111 billion of 2005–2008 originations. The representation and warranty reserve is $943 million, open repurchase requests total about $2.1 billion original principal, and management estimates reasonably possible losses beyond accruals of up to $1.5 billion. Ongoing litigation, including the U.S. Bank and DBSP cases, adds uncertainty.
Is Capital One's capital position sufficient for the pending acquisitions and new rules?
At year-end 2011 the company exceeded all Basel I minimums and was well capitalized: Tier 1 risk-based capital was 12.0%, total risk-based capital 14.9%, and the Tier 1 common equity ratio 9.7%. However, management expects higher future capital requirements from Basel III, Dodd-Frank enhanced standards and the Basel II risk-weighted asset increase, and it notes that the Collins Amendment and the phase-out of trust preferred Tier 1 treatment could further pressure capital ratios.
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