Citizens Financial Group, Inc. (CFG) Earnings Call Transcript & Summary

Good morning, everybody. Welcome to Day 2 of Bank of America's Future Financials Conference. I'm super excited [ to have today ] in large cap banks with our next guest. Joining us from Citizens are Eric Schuppenhauer. He is the President of Consumer Lending and National Banking, and he was named to that role this October. And also, we have with us John Woods, who all of you know is the CFO of the company. Gentlemen, welcome to the conference, and Eric, let me set the stage over to you.

All right. I'm actually going to...

Yes. No, actually, I'll go ahead and kick things off here, Erika. Thanks for that. So good morning, everyone. Eric's remarks will take the lion's share of our time, but I'll make some broader comments to just kick things off. So on Page 3, in your materials here, we'll make a few observations. So some signs of life in the rates market, and it was nice to see yesterday. But still [ reserves ] here and it's part of our reality, at least for a while going into the future. So really, our diversified business model since the IPO is necessary to help us absorb the impact observed. And as I -- as some of you may have saw that I mentioned last week, NIM for us is stabilizing, and it's projected to bottom in 2022 in the 270 to 280 basis points range. So that's important for us. And it's been driven, in part, not just on the NIM line, but also profitability in general has been driven by our self-help orientation. And those initiatives have been key to our trajectory going forward. And I've listed a couple of them on the page here. We've made significant investments in fee generation, notably in the Wealth and Capital Markets space, but also in mortgage banking, and you'll hear more about that from Eric a little later, where we expect that mortgage banking will continue to contribute even as rates rise. Second area, balance sheet optimization is also important to the ongoing trajectory of profitability. And it's -- a couple of items have been contributing to that over time. The strength of our deposit franchise is now on display, where our interest-bearing deposit costs are down to 35 basis points. And we've been -- and we expect to see that get to the mid-teens by the end of 2021, which is a huge change from where the company has been in the past. Also on the asset side, we have a number of capital efficiency trades that we're starting to execute against. We just completed one of those in the student space, which allowed us to improve capital efficiency while still maintaining customer relationships. And then the last of the self-help initiatives that I'll mention is TOP 6, which has recently been upsized and is essential to how we self-fund strategic investments going forward. So also on the page, I touched on the fact that there are 3 key strategic priorities in Consumer Banking. I'll cover that in a minute in a bit more detail. We have an opportunity to be -- to really kind of build on the success of our distinctive national Consumer Lending businesses. You'll hear from Eric on that a little later. But I think the key takeaway for us is that we're investing through this crisis, and we expect that to contribute to positive momentum going forward. So let's move over to Page 4. We've made significant progress in financial performance, notwithstanding the pandemic and related lockdowns. If you look on the upper left part of this slide, our underlying PPNR performance has increased 44% since 2015, and this is really on a 9-quarter DFAST basis where we've illustrated the 2.7% rising to 3.9% in year-to-date 2020. This is attributable to our diversified and increasingly diversified business model, where we've made multiple multiyear investments across the board in order to drive this outcome. As I mentioned before, the annual TOP and balance sheet optimization programs have contributed to this as well. So with all of this PPNR strength, in the lower left part of the slide you can see that our underlying ROTCE since 2015 has almost doubled when you get to 2019. And then, of course, we have the unique circumstances in 2020, where the 2020 ROTCE of 5.7% actually includes 7.7 percentage points impact from reserve builds year-to-date. If I take us over to Page 5. Just a few comments on consumer banking strategic priorities. These are the key drivers and levers that we're going to pull to drive future growth. And this, of course, will be led by Brendan Coughlin, our Head of Consumer Banking. But the first 3 points on the page here on Page 5 will really have a strategic orientation. So when you think about end-to-end digital transformation, this is a front-to-back digital experience that we're trying to create, where we're scaling data analytics and marketing and really investing in self-serve capabilities. In national expansion, we're looking to integrate our existing national footprint to drive a really unique product offering. And the foundation of this is the investments that we made in Citizens Access and our reinvention, essentially a payment experience at the point-of-sale. Eric will touch on this later as well. And then the last of the 3 is our focus on deepening relationships where we expect to increase primacy and share of wallet and focus on converting your single product thin relationships to multi-product thick relationships. And then the bottom part of the slide where we talk about business optimization, this is really creating the resources to invest in these first 3 priorities on the page where we're looking to drive efficiencies and balance sheet optimization, while still remaining open to M&A to drive growth forward in the fee space. So with that, I'll -- that concludes my opening remarks. And I'll go ahead and turn it over to Eric.

All right. Thanks, John, and great to be with you guys today. I want to tell you about Consumer Lending, both how we're delivering today and how we're developing for the future. If you look at out Consumer Lending business, you'll notice that we're very well positioned to achieve high quality growth in both building customer relationships for the bank as well as profitability on an overall basis, even amid an ever-changing landscape. We actually look at this, saying, what are some of the trends we're observing today. First, there's an acceleration of digital adoption due to COVID-19. It was something we were witnessing pre-COVID-19, and now the pace is exponential. And it's in all categories of human life, including in banking. In addition, we're seeing a rising expectation for the customer experience on an overall basis. People -- our consumers are expecting the same design, the same level of immediacy that they receive from digital-forward companies, like Apple and Amazon. And that's from banking. We're also seeing a rapidly increasing innovation in data and analytics. And just like the pace of digital adoption, this is moving so quickly today and it allows us to anticipate customer needs, serve them better and run our operations and underwriting smarter to get to a faster speed of decision. And then we have the growing importance of scalability and efficiency. This has always been true, but it's particularly true today because it affects our competitiveness. We've been very nimble at Citizens as evidenced by what we've done in education lending, what we've done in point-of-sale finance and all the different innovations, such as Citizens Access that we'll now build upon for a national expansion strategy. We've also leveraged tech in way that is very smart to allow for rapid innovation, enabling us to punch above our weight. And so with that kind of landscape view and what we're doing from a consumer bank strategy standpoint, we have 4 strategic priorities in Consumer Lending that I'll touch upon in this presentation. Further enhance the customer experience and improve efficiencies via digitization; maintain solid credit discipline and operational excellence while innovating every single day; grow fee income combined with our optimization of our originate-to-distribute model; and leverage distinctive consumer lending capabilities that we've already developed for our national expansion strategy. So let me take you to Page 7, and give you a snapshot of our national reach, scale, diversification of our Consumer Lending businesses. First, even with the credit tightening actions that we took at the beginning of the year, we were still able to grow the portfolio year-over-year with double digit growth in 2 of our distinctive categories, education lending and point-of-sale, which I'm going to touch upon in a little bit. In auto, we still see strength in auto. As a matter of fact, after an initial dip as COVID-19 occurred in March, we started to see unbelievable demand in both used and new auto sales that actually increased the demand for lending. We do business with over 5,000 dealers nationally and they continue to see very strong demand going into the end of the year. In home equity, while some backed away pretty substantially from home equity, we made some tightening but stayed very committed to the product. By virtue of that, we continued to originate over $3.1 billion of new exposure in home equity lines of credit. And we rank #5 or in the top 5 in each of our respective markets -- regional markets. And then 2 major areas of growth that I've already touched upon but we'll go deeper in this presentation are education lending and point-of-sale finance. These have been great sources of customer acquisition, including in markets outside of our footprint and will serve as a source of high-quality customer and lending growth in the years ahead. It's important to note that we've maintained a focus on prime to super prime customers all throughout our lending businesses, and it served us extremely well in COVID-19. We've included a slide in the appendix to give you more insight into just exactly how credit is performing at this point in time with some updated disclosures. Our book has performed well. That's the bottom line across all of our portfolios, including education lending and point-of-sale. And rounding out our Consumer Lending business is mortgage. We've made some really good strategic investments here. Those have positioned us well. And by virtue of that, we're a top 10 bank originator in the U.S., and we're able to capitalize in the short term while building a great business for the long term. So let me take you to Page 8 and double-click a little bit further on mortgage banking. As I said, we made some strategic investments, both in terms of digital enablement, digital development as well as the acquisition of Franklin American Mortgage Company back in 2018. That's yielded substantial fee income in 2019 and 2020, and it's expected to be a solid source of fee income in the years ahead. We operate in 3 main origination channels, originating up to -- originating $30 billion of volume on a year-to-date basis through September. So we have 3 channels: retail, wholesale and correspondent. And you can see the relative percentage of each in terms of origination volume. That makes us the number seventh largest originator in the U.S. We maintain a 35% to 40% refi share -- or purchase share to refi share. So we haven't over-indexed on refi like some have in this marketplace, keeping our purchase muscle very strong. 80% of the volume is conforming salable product and from a portfolio standpoint, maintains a very high-quality with an average FICO of 785 and an average LTV -- weighted average LTV of 63%. And we continue to enhance digital and grow distribution in each of our respective origination channels. In retail, we continue to add loan officers in market as well as build out our virtual sales channels. We continue to innovate in the digital app. In wholesale, we continue to add to our broker base. And in correspondent, we continue to add correspondent sellers. But in addition to that, we have a very strong servicing book. $103 billion of servicing, inclusive of our owned portfolio, makes us the #9 servicer in the country from -- bank-owned service in the country. But what's more important is we have over 0.5 million customers that we maintain a relationship with, 55% of which are outside of our regional footprint market. And throughout the time from the acquisition of Franklin American, we've maintained positive growth quarter after quarter in our servicing book. And if we think about the customer side, we have been able to add customers to book each quarter. And then 80% of the retail customers in footprint, we've been able to deepen with another bank product such as checking. And so while we've been able to deepen in our in-footprint markets, we actually have so much potential to deepen our out-of-footprint markets as we go forward. Let me take you to Page 9 and just to highlight a couple of areas where we're positioned for significant opportunities ahead. First, in digital. We are building on solid momentum in digitizing the retail customer experience, and we'll continue to invest digitally in each of the respective channels. In wholesale, for instance, we're building a digital gateway for our brokers to be able to serve their customers better and faster. We are also investing in end-to-end digital transformation, as John alluded to, and focusing on not just the digital, but the process improvements, the talent and the technology to deliver mortgage in a better way for our customers. Combined with digital, though, we're building distribution, as I alluded to on the previous slide, because it's critical to gaining share. We're going to leverage bank strengths to introduce additional product capabilities. We're going to selectively add loan officers in retail footprint markets. We're going to further enable our virtual sales channel. We're growing wholesale and correspondent relationships at a rapid clip, and we're enhancing our loyalty programs and product set to reach more of our wholesale and correspondent community. And we'll leverage the bank and wealth capabilities, the strength of being part of a bank, to drive origination growth and deepen customer relationships. As you can see from the slide, we're clearly building this for the long term. And by virtue of that, we've been able to capitalize in the short-term period. Go on Page 10, just to double-click a little bit further on digital. We continue to invest in digital, from home search to digital application to digital servicing. But digital doesn't just stop with that layer. It goes deeper. We're taking our digital transformation into ops and underwriting, which we talked about in TOP 6. It actually eliminates cost. But more than that, it makes a frictionless experience for our customers as well as our colleagues serving our customers. And what's a really important note here is we're using modern tech architecture principles, including APIs, microservices, the use of strategic fintechs, 5 in total right now in mortgage alone, to move faster than we've ever moved before, allowing a seamless integration into our core bank as well as into our national bank. And on Page 11, we believe there is absolutely room to run with this refi boom at these historically low rates. And while we've seen some increase over the last day in rates, they're still both as measured by historical perspective, enabling a number of customers to refinance. So 2020 was the largest origination market, mortgage origination market ever, probably topping $4 trillion based on market estimates. And most market estimates are now actually looking at a $3 trillion market for next year. And we're ready to deliver upon another banner origination market in 2021. But based on our growth agenda that I just talked about, digital and distribution, including the national expansion, we expect to gain share from our current levels even in a purchase dominated market. Let me take you to Page 12 and switch gears just a little bit and go into education lending. We are a leader in the space. We are now the third largest in private student lending in the U.S. We've enjoyed good growth, 20% increase in portfolio year-over-year, as we achieved solid education refinance volumes with these low rates. And we're in this business -- I think it's important to point out, we're targeting an emerging mass affluent customer that this -- that meaningful savings and in education refinance, in particular, and a powerful means of building a lasting customer relationship with the bank. It's a super prime focus. You can see we have a 785 FICO in this book. Ed refi borrowers actually have about 6 years of employment history. 60% of them have advanced degrees. In our in-school book, 90% is co-signed by a parent. And portfolio is just demonstrating incredible credit quality right now, stable delinquency trends with 99.6% current even during this COVID period. 4.2% are in forbearance at 10/31, a significant drop even from the September 30 time period that we talked to you about. And accounts that have exited forbearance are performing extremely well with 98% still current. We're committed to investing in this business, launching new digital capabilities also in digitizing on a back-to-back -- back to -- front-to-back basis. And we're developing the originate-to-distribute capability that John talked about to make sure we have flexibility to either take to the balance sheet or go to the capital markets, depending on which execution might be best. And on Page 13, I want to switch over to one of our most distinctive and innovative businesses in Consumer Lending, which is our point-of-sale finance. This is a well-established business, it's provided high-quality growth and we expect to provide even more substantial growth in the years ahead, given the evolving consumer trends. Let me hit on that real quickly. Millennials and Gen Z actually have a very strong preference to buy in a different way. They prefer fixed monthly payments with clear payment terms, and they prefer not to open more credit cards. They don't want to take out more debt per se to just get that next large purchase. So integrating at the point-of-sale is becoming a very meaningful part of the landscape. And by the way, we believe that while we've surveyed and did research on millennial and Gen Z, I think it actually transcends those 2 groups. And that sentiment is held by many more people. By virtue of this, point-of-sale finance is expected to grow at 22% relative to cards that are going to grow at 4% to 6%. And we already have a foothold in this business. Starting in 2015, we struck a partnership with Apple to be -- to partner with them on their upgrade program known as [ AUP ], still a program that is really doing well today. And since those early days, we've launched new point-of-sale partnerships with a variety of merchants, including Microsoft, Vivint and other partners, 5 of which we expect to launch in the next couple of months. And this book is also high quality. Credit card-like returns with strong credit performance and loss sharing with many of our partners provides an additional layer of resiliency. Just to give you some perspective, this book had the lowest forbearance rates of any of our Consumer Lending portfolios and the delinquency rates continue to stay low at 99% of the book still current. We've enjoyed solid growth since those early days with Apple in 2015, now up to $2.5 billion of book. And what's more important is it represents 2.8 million customers, 75% of which exist outside of our regional footprint. Given our capabilities and market trends, we expect our point-of-sale balances to grow with strong high-teen plus rates for the years to come. And just to take you to 14 and highlight a few more key points about this distinctive lending business. We built this platform like a fintech, focused on installments, upgrades, complete flexibility, so it provides competitive advantage versus typical issuers that are more tied to legacy card programs and platforms. In addition, like a fintech, we've acted with speed and agility to adapt to the marketplace. Combined with our bank balance sheet, our credit risk and control processes of the bank, we developed 100% digital end-to-end capability, omnichannel solutions and a highly scalable and flexible platform that enables onboarding merchants quickly with low incremental cost. Essentially, plug-and-play for a merchant in days to be up and running. We also provide flexibility to our merchants to create strategic programs and build unique experiences to improve their sales and not just be a checkout option. We've created customer loyalty with line-of-credit offering to enable repeat purchases at our merchants. Now we focused on building leadership in core verticals, consumer electronics, retail, home, but we're also launching programs in new verticals, telecom, auto parts and services and health. And we believe our focus on these set verticals enables us to deliver our expertise to our point-of-sale partners to increase their sales and their profitability. These verticals also represent the majority of the estimated point-of-sale growth in the years to come. So on Page 15, we believe we have a solid head start on our competition in this market-based on the capabilities we've built. Constant innovation, though, is necessary to further accelerate our growth. Based on day-to-day work with our point-of-sale lenders, we've created altogether new experiences. We've innovated with customer analytics, getting the real-time fraud and credit analytics to the point-of-sale, creating a frictionless buying experience and instant credit decisioning. And we're expanding into new opportunities. It doesn't just stop there. We're thinking about consumer direct experiences, tied with our national strategy, to make merchant-agnostic installment programs available as we go forward. So if I take you to Page 16 and wrap up here, I want to reiterate that we are extremely bullish about growth in our Consumer Lending business as part of our overall consumer bank's growth plan, both in our regional footprint and as part of our national platform and expansion. We can deepen with 2.4 million-plus customers within the regional footprint in a digitally focused way. And we can further leverage our over 5 million lending customers across all 50 states as we build on Citizens' access to expand nationally through a bold and innovative value proposition. So thank you for your time today. We look forward to updating you on our execution and growth in the years ahead. And Erika, I'll turn it over to you for any questions you might have of John and me.

Thank you, Eric. Thank you, John. [Operator Instructions] So I'm going to follow-up with you first, Eric. Interestingly, we actually, BofA Securities, put out a report this morning that estimated the transaction value for point-of-sale at [ $650 billion ] to $1 trillion by 2025. So the question here is, as we think about the future of Consumer Lending, how do you think consumer loan products evolve over the next 5 years?

Yes. Great question, Erika, and love the fact that you guys published that report. Because we believe it's a very substantial total addressable market, and we think we have a very good head start in this market. We actually see this becoming a bigger component of financing purchases in the future. People want to have financing right -- available right at their point-of-sale. They want their -- whether they're interacting digitally or physically with a merchant. And we also are seeing that merchants are viewing this. We're dealing with merchants throughout all the verticals that I talked about as a way to increase their sales and create customer loyalty and affinity. So we're poised and ready to serve that customer base. We've been signing and developing a pipeline of new partnerships. We have a pipeline report that's mile's long, as you can expect, and we anticipate being able to grow with this market. We -- if you look at the compounded annual growth rate, 20% over the next few years, total addressable market getting to the size you're talking about. And there will be a major shift. I also will tell you, though, there's going to be major competition. And I would not -- it's not for the faint of heart to come into this business. We've done it in a high quality way. The fraud and risk tools that need to be available at the point-of-sale, the technology enablement, it's not something you can just go build on your legacy. And quite frankly, I think we've got some advantages over the fintechs. I mean you take our bank balance sheet and what we're able to do with our bank balance sheet, but also just that discipline of control that exists within a bank. I think that's going to be powerful as we look at managing this part of our business going forward.

Maybe I could jump in, Erika, and just add for maybe you to elaborate on a little bit, Eric, is not only our focus. Our lead began in the merchant finance space and the merchant finance partnerships, but our orientation towards developing this to direct-to-consumer is also going to be pretty powerful.

It is. It is. And that's part of our national expansion and how we're thinking about this is we are trying to create a capability, and we actually are underway in creating the capability to provide that merchant-agnostic line of credit for our customers to be able to buy. And we believe that, that's a way to deepen back into the overall bank relationship, which is you've hit on in a couple of your analyst reports. That's what it's all about, quite frankly, is creating those deep, lasting relationships with the bank that continue to add value.

Interestingly, we conducted a survey of consumers, and something like 57% said they prefer that product to manage their budgets. And I think less than 10% said it was because they didn't have a credit card. So interesting stuff from that report. We'll send that over. Like John mentioned, this really began with your merchant finance partnerships. The whole Street knows about your partnership with Apple. But could you remind the audience about your other major partnerships? And maybe give us a little bit of sense of consumer demand and the products that your partners are selling?

Yes. Another great question. So we've been in partnership with Apple since 2015, continue to see great volumes coming out of that program. Microsoft, we launched with the XBox Live All Access program, seeing good volume come out of that program as well. We've been in a relationship with Vivint in around security system sales for a number of years. We also have a relationship with ADT in that same vertical. We continue to sign new capabilities, such as Horizon Fitness as well as Sole Fitness, so looking at the fitness segment in our health vertical. And we expect to announce 2 to 3 significant partnerships over the next couple of months as part of our overall pipeline.

Got it. And maybe the final question for you, Eric, before I turn it over to John. Auto balances have been quite flat for some time now. I mean we actually had a regional bank announce recently that they would exit this lending vertical. I think about your post-pandemic Consumer Lending strategy, is your foot on the accelerator or the brake in auto?

Yes. We are committed to auto. So sometimes, we're a little bit neutral. Sometimes we're in overdrive. And that's kind of the way we think about this business is it's actually a great business. We do it in a high quality way, again, prime to super prime. We're seeing great credit performance, as you can see in the appendix. We had intentionally capped our concentration in this business for a period of time. And that was really so we didn't see significant growth. I think people that seek significant outsized growth tend to get hurt in auto. And we've selected not to do that. You either don't get the returns or you get some kind of adverse results that you don't like. We continue to see strong demand. And we're there to serve our customers. We're there to serve our dealers. And this has led to some good volume this year. So I would say this. If we can answer your question, yes, we're on the gas and the brake. We're that person in the lane that you don't like to follow per se. But we think this is a great asset for the bank on an overall basis. Yes. And an ability to deepen, again, the customer relationships throughout our footprint really provides strong value to the bank.

Yes. I'll go and add to that, Erika, which is we -- it's a diversifying portfolio for us. It creates net interest income. It creates resources that we use, frankly, to invest in strategic -- our strategic priorities and initiatives. But that said, I think that this -- auto is at the center of a lot of our balance sheet optimization opportunities. There are capital efficiency trades that we're going to be pursuing in the auto space, possibly in credit linked notes, for example, which would increase the returns of that business. And to the extent that there are opportunities to deepen in other asset classes in Consumer Lending, auto would be that shock absorber as it relates to whether we would pull back a bit and/or move forward a bit. More recently, spreads have been quite attractive in auto. And so just giving us another lever in this incredibly diversified Consumer Lending business that we have, and it served us pretty well.