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

Great. If everyone could take their seats, moving right along, very pleased to have Citizens Financial from us. From the company, please have Bruce Van Saun, Chairman and CEO. Bruce has been a long-standing supporter of this conference, Bank of New York to RBS to now Citizens for the last several years. I think every year since they went public 2014 or so. So welcome, Bruce.

And maybe that's the best place to start. It's been a long time since the IPO. You've, obviously, made some significant investments, some acquisitions since. Maybe for those less familiar with the story, take us through kind of the changes you're most proud of, where you kind of want to see more progress and just how -- maybe more looking forward, how you intend to differentiate Citizens from the other banks?

Sure. It's been quite an interesting journey going back to a year before the IPO when I first arrived. But I think what I'm proud of, Jason, is that we didn't cut any corners. So we actually set out to build a really strong foundation so that we could have a great journey, and that starts with building out a great Board and the leadership team, investing in risk management, investing in technology, investing in our business model. We didn't have a full suite of products and services to really delight consumer customers or to move up and serve more complex corporate customers. So it's kind of brick by brick. We put all that in place and continue to evolve. We didn't do our first acquisition until 5 years after we -- after I arrived because we wanted to make sure that foundation was in place. We really emphasized leadership, culture, attracting talent to the organization, and you basically win with that. So that was critically important. And I would say, in culture, one of the things where we stand out is really being kind of a customer-focused culture, where we stay -- we want to be the trusted adviser to an individual on their life journey or we want to be the trusted adviser to a company as it navigates its business objectives. And I think that really has stood out. So today, you look at where we are. But on the corporate side, we're very, very strong. We were #5 in the middle market league tables. We're #3 in leverage lending league tables. We're winning competitive business against JPM and BofA, and we're the lead left on deals. So huge progress. We cover private equity sponsors as well, and the market has been moving towards more private ownership in the corporate side. We've had some great innovation on the consumer side with Citizens Pay and things like that. So really feel like the company has dramatically been turned around and transformed, and is positioned well to, I think, outgrow our peers on a consistent basis with some of the initiatives we're investing in. And we've, I think, demonstrated and will continue to demonstrate that we've chopped off the tail risk that I think we can show that we can make it through cycles without significant tail risk in terms of credit losses. We're managing the balance sheet well through this tricky interest rate cycle. So there's still more to prove. You say where would I like to have made more progress. Probably the one thing that stands out is in the wealth business. So we have a huge customer base. I think our penetration of the wealth customers is probably around 6% of the consumer customers with having a deep wealth relationship. Best-in-class is probably double that, 12% or 13%. So we're continuing to up our game there and grow the capabilities that we have still on the lookout for some acquisitions. But that's probably the thing that we didn't make as much progress on. We've made some progress, but I hope we can continue to make more.

The bunch in that I want to kind of unpack, but could we just go to the first ARS question. I remember we were asking us through all the companies, and we're ranking at the end of the day. Right. Not bad. And maybe go to the second one for all those that are not involved for everyone. What do you think is the biggest overhang on Citizens valuation? Looks like -- interesting. Credit quality higher than we thought. So we're going to make sure we touch on that. And maybe we could talk about the franchise on the consumer front and on the commercial front. On the consumer side, you do have a more diverse consumer lending franchise. You also have a kind of a good Northeast deposit franchise, kind of national digital capabilities. Maybe just talk to kind of what kind of customers you're focused on and kind of as you look across the retail landscape, kind of where you see the biggest opportunity is.

Yes. So I think where we've really honed in is that we have a significant opportunity with mass affluent and affluent customers, given the geography that we serve. And so over time, we put together a very compelling value propositions to serve that segment of the customer base. And we're growing households there nicely above where our peers are growing. We're gaining primacy. So you can see the amount that's in our demand accounts is increasing. And so the nature of the deposit base, given this focus continues to improve, which is very, very important and attractive in terms of our overall franchise value. So I think that's been a real positive. We've focused on going digital, digital-first business model, end-to-end digitization to make us simple and easy to deal with. Our NPS scores as a result are at the all-time highs for Citizens. So we're kind of cracking the top 10 for being bottom quartile, which is terrific. And I'd say the other thing is that we've had a culture of innovation. So we pioneered student loan refinancing. We pioneered point-of-sale finance and morphed that into Citizens Pay. So most recently, we've focused on home equity line of credit and trying to make that an easier origination process and the average origination time for a HELOC is 45 days. We now have -- 1/3 of our customers are getting originated and closed in under 20 days. And so we're the #1 HELOC originator in the country, partly because of that kind of constant effort to look at how we do things and try to enhance how we do things. We also have our kind of national expansion. We have Citizens Access, which gives us the platform. We're already in all 50 states. That's principally been a focus on raising deposits but we're now porting our value proposition on to the digital platform so we can go after many of the customers around the country who we already have a lending relationship with or a deposit relationship with to try to deepen that relationship and ultimately be the trusted adviser to people, not just in our footprint. So some really big upside opportunities here if we can execute well, but I think we're well positioned.

I guess maybe turning to the commercial side of the business. It's striking how that's transformed from when we first kind of -- first company first went public to today, but maybe there are 2 -- talk to kind of what clients you're targeting after a bunch of kind of organic and acquisition kind of expansion capabilities. Do you have everything you need and just kind of where you see this business headed up?

So what's interesting is back -- pre-IPO, we were largely focused on middle market customers in our footprint. And middle market generally are companies with up to $500 million in revenues. The next leg up in the customer segment is mid-corporate customers, which is $500 to $3 billion. So when I arrived, we probably had 2,000 middle market and 400 mid-corporate customers. Today, we're probably 3,300 middle market and over 1,200 mid-corporate. So in order to bank those bigger customers who have more complex needs and take more services from folks, we need to build out the full product set. We needed to go hire coverage bankers who had deep expertise in various industries, and we had to expand our geography. So over time, we've kind of bootstrapped that all up together. We've hired more coverage bankers. We planted flags around the Southeast, Texas, California, in new markets. We now have -- with the New York Metro place with HSBC and investors, we can have a bigger flag in the New York market, which is a very important market. But then we've also gone out and hired industry expertise, which -- we just acquired JMP, which is a investment banking boutique, if you will, that has really deep expertise in technology and health care. So now we're better positioned to serve some of the high-growth sectors in the country, including being better represented with a big team out in California. So a lot of exciting things there. I'd say what's happening now is that we're able to represent customers, the middle market customers when they want to sell or raise capital. We can handle those M&A assignments very capably. We can often bring them to our sponsors who are always looking for ways to put their money to work. And then we can make a fee on the sell side, we can do the financing on the buy side. And then the trifecta is we acquired Clarfeld, which is a high-end wealth manager, and we can take those proceeds from the seller and manage those assets for them. So kind of what -- at the time of the IPO, the company would sell themselves, we don't have M&A, we can't do anything, you lose the client relationship. Now we're making basically 3 fees on that, and it's likely the PE firm will sell that business again, and we'll get another bite at the apple. So we've been very thoughtful about kind of where the middle market dynamic is heading. And I think we've got all the pieces on the chess board. Probably, there's very few peers who are where we are today. There's a lot of catching up for them to do. So we feel really good about that.

Okay. And I guess, here, let's talk about a possible recession, rates are going higher, regulatory backdrop never seems to get any easier. I guess what gives you confidence that you have the right risk appetite balance sheet strength to kind of manage these risks over the medium term? Maybe within that, just talk about kind of your best opportunities to grow loans. And I think an area that's got more important of late is just how you're kind of funding those loans and maybe your outlook for deposits.

Yes. Sure. So one of the things we had parallel paths going in terms of enterprise initiatives over time, one was at the top. So, tapping our potential, focused on how we're running the bank, efficiencies, more deep revenue opportunities with customers, but then the companion to that was BSO, balance sheet optimization. So we spent a lot of time trying to figure out are we allocating capital in the best possible ways? Are we putting our capital behind customer needs and deepening relationships with customers? And so we've continued to evolve that and make more progress on that, Jason. And so I feel really good that we've taken some steps to invest in loan activities that offer attractive risk-adjusted returns, things like Citizens Pay or the student lending area, the HELOCs. And we've started to pivot away a little bit from noncustomer mortgage or from indirect auto. And so on the consumer side, I think we're very targeted now in terms of where we want to deploy capital. And then on the corporate side, we look at total relationship returns. So is -- are we building relationships where we either go in as the left lead or have a chance to be the left lead relationship, the most important bank to a customer, which is really where you can then open up the cross-sell and make higher returns. And so feel really good there. We've got into some new activities, subscription line finance for the PE firms, some asset securitization. But the kind of tried and true lending there is around the middle market customers and mid-corporate customers. Deposits, I think, is a great story because we really in the olden days were more like a thrift who led with rates. So we had to move away from that very aggressively in the consumer franchise. And this relationship-based approach focusing on mass affluent and affluent. I think you can see the deposit franchise on the consumer side is dramatically improved. And you can see that in the projections we're making around our betas, et cetera. Same thing in commercial. We just didn't have a full suite of capabilities. We didn't have a strong enough cash management platform to go toe to toe with the big guys and demand the operating accounts. And that's all changed. Now we have a full product set, and we feel very confident in our ability to get the deposits out of those important relationships. I would say our loan-to-deposit ratio has come down quite a bit from where we ran it pre-pandemic. And I think we can sustain it there in spite of QT. There's still opportunities and things that we're investing in to bring deposits across the line. So I think we gave guidance in the second quarter that deposits should be stable to slightly up in Q3 and could continue to be up over the balance of the second half, and we're still sticking to that forecast.

Great. We'll come back to that. I just want to get another question. And we keep on reading about this possible recession. July, you made the comment if there is a recession, it should be shallow and short-lived. Kind of love to get your kind of updated view what are you hearing from your commercial clients. And then particularly given there's some concerns about -- or at least not concerns but credit quality weighing on your valuation evidenced by the earlier question to the audience. Maybe just talk to any signs of strategy you're seeing on the consumer and the commercial front. And just maybe more color in terms of what gives you confidence that your book may be better than people seem to think.

Well, I'd say the credit situation at Citizens right now is so pristine that it's hard to see how -- even if the Fed is raising rates and it slows down the economy that we could go into a deep funk, like a very significant recession. When we look at consumers, there's huge liquidity still in their deposit accounts, either for savings through the pandemic or government transfer payments, built up the balances, employment market is strong. So people are working, gainfully employed, cash is coming in. So when we look at consumers, we're seeing very, very slow migration back to kind of pre-pandemic levels of delinquencies and NPAs and charge-offs. Every time we think it's going to start to come back, the good times keep extending out. So I think that's still in great shape. I think it's a head scratcher that people worry about our credit to some extent because we try to be very granular in our disclosures about we're playing largely in super prime and high prime in terms of our risk appetite. And so if there's a slowdown, it's affecting kind of more of the bottom run customers where we don't have a significant amount of exposure. And then on the corporate side, most companies that made it through the pandemic were able to do some things to position themselves well for the future. So they lean their expense base, they move their business models more digital, they improved their funding structure and locked in lower term financing and extended it. And so I think they've come through the pandemic and are now having kind of record years, '21 and so far and '22 record years. They have a lot of headaches. It's not easy. So they're managing inflation, they're managing labor tightness, they're managing supply chains. And they're all a little grumpy, but it's like, why are you grumpy? And they're like, "Well, it should be better. I mean we're having a record year, but it could be even better if all these things -- I didn't have to contend with all this stuff. But again, we don't see like anybody who was kind of one foot on the banana appeal kind of washed out in the pandemic and companies that are still here, I think we feel very confident about the credit quality we have.

So you open the door to guidance, talking about the deposit.

I didn't really. Just talked about deposit.

You did. Well, now we're going to broaden it. On the third quarter call, you as usual, kind of gave us a good outlook for several line items for the third quarter and even for the full year. How things progressing against those?

Yes. Well, I typically don't like to offer any detail in terms of in-quarter guidance. But just broadly speaking, I feel really good about how 3Q is shaping up 4Q and the momentum we'll have going into '23. So clearly, having higher rates, we're still asset sensitive. We're benefiting from that. So the outlook for NIM, I think, is very strong this quarter, fourth quarter into next year and probably better than where we pegged it at the time of guidance. Our loan -- I mentioned loans and deposits are behaving about where we expected. So feel confident about the volume side of that. So you've got the rate side of it and the volume side of it, which leads to a positive outlook on NII. I'd say fees are holding in reasonably well. We had thought that capital markets could have some upside this quarter, if there was a less volatile market backdrop, that's not happening. So it's unfortunate because the pipelines are still chock full and people are busy and there's deals to get done, but we need to see more stability in the markets. Hopefully, in Q4 as we head into next year, the calendar will print ultimately, when things calm down. But yes. And then I guess people are concerned about mortgage. My view on mortgage is we're kind of still washed out levels that there's not a huge amount of downside from kind of where we are at this point. So -- anyway, so I think fees less upside than we had hoped but still hanging in. And obviously, we always do a great job on expenses and on credit. So feel like got a very solid outlook for the second half of the year and as we head into next year.

On a net-net, maybe NII touched better then you talked to, fee income maybe a touch worse, expenses in line. So kind of PPR outlook kind of unchanged?

No, I didn't say that. No. So I said I thought fees were hanging in. So you can take that for whatever you want to write, Jason.

Got you. Maybe we'll delve deeper into NII. You, obviously, had some meaningful benefit from higher rates in the second quarter. You talked about the benefits of asset sensitivity looking out. Maybe just talk to how should we think about NII. You have a hedging program that you've been doing or what you're doing there to kind of lock it in and just maybe talk to -- just in that context, with the more we see on the deposit front, whether it's mix or betas.

Yes. It's really fascinating time to be kind of managing the balance sheet and the interest rate sensitivity on the balance sheet. I think we've done a nice job of bringing down that sensitivity as it's appropriate to do so. But I think we started out in a position to really capture some of the early moves. Our deposit betas have been exactly where we projected, actually slightly better so far. So feel very positive about that. I think one of the things you want to start doing is locking in the higher level of NIM and net interest income. So the markets had projected the Fed was going to go up, cause a slowdown and then have to come down pretty abruptly. And so how do you lock it in without taking away too much your upside because there's still is the view that, you know what, the Fed may have to hold it up, go a little higher than originally thought and then stay up there for a longer period than originally thought to break the back of inflation. So I think we've straddled that really, really well. So I feel good that we've locked in a good level of protection if rates fall back down. Some of that is staged out over time. So we have forward starting swaps to help accommodate that. But the level of asset sensitivity is still there. It kind of naturally increases over time. So as the Fed now is moving a little more aggressively than anticipated, we can benefit. So we're benefiting here in the short term. And meanwhile, I think we have good protection if rates turn and fall back down. So that protects NIM, that protects ROTCE. Those are really important performance metrics that we want to kind of put a floor underneath.

Helpful. Why don't we go to the next ARS question? I had a different one. Is there one before this? Or one after this? All right.

Well, I want to read it out and ask for a show of hands.

Well, we'll table this question for now, then I thought there was a different one listed. It was on NIM. But I guess, before I shift gears to fee income -- where things are holding in. But maybe just share your perspective on the education refi business. Obviously, administration's recent announcement on student loan forgiveness. Just -- it's a business that you guys are in. Just what does that mean for Citizens? I know it's not direct implications, but there seems to be confusion on the indirect implications.

Right. There's no direct implications because it's the federal who has 93% of the student loan market that -- where you'll see some benefits to borrowers. I'd say, overall, when we look at the folks that we refinance for our refinance business, it's probably 30% come from federal -- have federal loans. They tend to be folks that are higher on the current income continuum. So they'd be less exposed to forgiveness. They probably wouldn't be forgiven. So I don't think it has a material impact on the education refinance business. And in some ways, since the moratorium was extended for the better part of 3 years, stopping that, folks have sat on the sideline. If they have to start paying again that may actually be a slight positive for the education refinance business. And then the in-school student loans, they're still going to be folks who are better off coming through a private lender as opposed to borrowing under the federal program, which basically does no underwriting and charges high rate to cover the expected default. So there's folks with kind of higher credit scores or the parents who have higher credit scores who would still avail themselves of the private market. So we're still -- we still think it's a great market for us, and it has the advantage of bringing younger customers into the bank, which is important.

I guess on the fee income side, you talked about some pressures in mortgage as rates have backed up. Capital markets, we see pipelines elongating. I know you're integrating JMP, so there's some synergies there. Just maybe talk about your positioning in those 2 businesses going forward. And then are there other areas within fee income that maybe have stepped up in this environment that are kind of helping you hold in?

Right. So I'd say with mortgage, we have good scale in the business. What we're trying to do now is really refocus it on lending to our current customers as opposed to we had some contiguous footprint areas where they weren't big customers. And so it's like, well, why are we putting out this capital where you don't want to be just in the mortgage business for the sake of being in the mortgage business. So we're refining that strategy. We're moving the business to be more digital to offer better customer experience. I think where we are, we're near the bottom of where revenues are going to be. And you're starting to see people give up the ghost. Folks are start -- some of the big banks, Wells Fargo, big cutbacks, people are saying there's too much capacity and we start to have layoffs. The big hope is even at lower origination levels, you can have margins go back up once capacity comes back out because margins today are lower than they've been by a long shot historically. So that could cause a little bit of a snapback when we think about '24. But we're going to kind of hone that business and make sure it's really tied to the consumer bank and not be something that's kind of operating on its own in a silo. And then cap markets, as I said, I think there's a huge upside. I mean, we had $184 million in revenues in the fourth quarter of last year. Prior to that, the best quarter we ever had was $95 million. And this year, we're printing around $95 million to $100 million. So we're kind of back to strong quarters, but nowhere near where we thought the new run rate could be. So I think there's some serious upside once the market starts moving again. And then the other fee areas, wealth continues to chug along. If you look at the quarterly numbers for our revenues in wealth every quarter for the last 12 quarters, we're continuing to move higher as we build out that business. The card business, we continue to add some attractive features to the card. We put it into value propositions for affluent, mass affluent customers. So we're gaining slow and steady market share on card and people are starting to spend again post pandemic. So card could also be positive. And then the last thing I would highlight is just our kind of global risk management, global markets business, where we do FX, interest rate and commodities hedging. That's been -- when you have more volatility, it hurts your capital markets revenues, it boosts your hedging revenues. So we're really seeing a gangbuster year. We had a record quarter in the first quarter. So the addition of commodities hedging was also helpful because we have energy industry companies who need to hedge the volatility. So that's been a real plus.

Maybe on the expense front, right? There's definitely inflation that we talked about earlier, some pressures in mortgage and capital markets. You have top 7, kind of your seventh iteration of that program that appears to be providing benefits, top 8. How are we thinking about expenses? And is there another program? And is there more to add?

Yes. I mean it's interesting when we first did top 1 or 2, people like you, surely you can't have a top program every year. We pretty much had one every year since the IPO. It's hard work. But if you kind of have this mindset of continuous improvement in the company and the notion that you have to self-fund the new things that you want to invest and you want to play offense, you want to go have $10 million to go invest in this technology or these people, how are you going to self-fund that? Like work with your people, work with outside consultants, embrace some of the new ways of working through digitization, through AI. So yes, the fruit is higher in the tree. These are harder things to effect. They involve more technology support than some of the early things that we did but they're still there. So we will come forth with the top 8. We're kind of working on the bones of that, putting it together. Probably around January call, I think we'd be in a position to announce that. And again, if you think about the positive operating leverage that we've been able to deliver, year in and year out pretty much except for the pandemic period, the top programs knocking maybe 1.5% of our expense growth rate every year. So since the IPO, put some of the pandemic noise out of it, I think revenue growth, 6% or 7%, expense growth has been 3%, 3.5%, 4%. That positive operating leverage is what's driven our return on equity from 5% up into the mid- to high teens at this point.

Got you. And then maybe talk to just the integration of ISBC. Any surprises? How are deal costs and expense savings kind of tracking relative to expectations? And I'd be curious to hear kind of your thoughts in terms of what do you think success in New York will look like.

Yes. So the good news is that we put some really good people on -- from both investors and our team together to work on the integration. No surprises. So we're tracking to all our numbers. We said we'd hit 30% of their expense base, $130 million by the end of '23, and we have about 3/4 of that in the tank at the end of this year, pretty much right there. The onetime expense is behaving slightly better actually than what we thought and adjusting the people from, I know, the more community bank approach into the way we do business and taking advantage of our fuller product set is going reasonably well. So feel really positive about the momentum we have there. And I think to me, success means if we can get New York operating like Boston or Philly or Pittsburgh or some of our bigger markets, where, yes, there's a lot of competition, but Citizens grows and has a very strong franchise that's delivering on the consumer side for small businesses and for middle market companies, there's huge upside, Jason, beyond kind of the numbers that we put in originally when we just focused on expense and funding synergies. That's what went into the deal model, getting the revenue side of this right could unlock some meaningful additional revenues.

Great. And let's go maybe go to the next ARS question. This is the one we wanted earlier.

There you go. There you go. Still do it.

We'll get a quick -- all right. We'll go. Now Bruce, you're a former CFO, so I expect you to answer this as well. All right. And then I'm not going to ask you for the answer. And then the next question.

Directionally quite a bit higher, which I would agree with.

In your opinion, what is the best incremental use of capital for Citizens? Share buyback, followed by nonbank acquisitions. We're going to hold those. We have 3 questions left in 4 minutes, Bruce. So lightning round. All right. Can you maybe just talk about acquisitions. Can you do bank acquisitions? Do you want to do bank acquisitions while you're integrating ISBC? And can -- do you want to do fee income acquisitions? I know you talked about wealth. Your thoughts around that.

Yes. I think our plate is full, bringing ISBC and HSBC to a good result. So that, combined with, I think, the regulatory posture towards doing bank deals is pretty dim at the moment. I don't see us focusing on that for quite some time. And then wealth-oriented deals are interesting and things kind of in the payments, working capital management, there could be some interesting things there. But I'd say fee-based bolt-ons is where we would stay focused for the foreseeable future.

And then I may mention buyback, your capital target. I think 9.75% CET1 is still above peers. Is there ability to kind of bring that down? And I know you announced $1 billion share buyback earlier this year. How do we think about the timing pace of that?

Look, I think in an environment that's uncertain to kind of keep your capital ratios a little fuller is a good strategy. So that's -- job one is to protect the bank and make sure we're operating and navigating through challenging environments. So I don't think now would be the time for that. I think over time, there's clearly the opportunity to bring -- glide that down a little more, but I don't think now is the time.

Got it. And then in that vein, quick math. I think you'll be above your 14% to 16% ROTCE kind of targeted range. In the third quarter, it looks like you'll be for the year within your medium-term target. At some point, do you kind of think about increasing that target? Maybe what do you need to see to lift that? And what do you think could drive kind of continued outperformance kind of looking out? You've mentioned, for years you were 5% not that long ago, we're now mid-teens. Maybe talk about the next steps.

Yes. Well, I'm excited. I think we're going to have really good prints in Q3 and Q4. As we said in the guidance that we're going to be above that 14% to 16% range. There's a little tailwind from the AOCI effect. But nonetheless, it's certainly nice to see where we are. And that now includes a more normalized provision. You're starting to get provisions up to kind of more normalized levels, and you're still up there. And part of that is just the end of financial repression. So if you get to a higher rate environment, even if the curve has inverted slightly, the value in your deposit franchise and your demand accounts being able to invest them at a higher rate, it's letting the natural return numbers start to manifest themselves and come through. So that feels really good. And then as we've done in the past, it's just continuing to grow revenues faster than expenses. I think with the initiatives that we have teed up and the long-standing commitment to expense discipline, I think we can continue to do that. So don't be surprised if we take up that medium-term target in the not-too-distant future.

So in January, top 8, higher ROTCE guide, good quarters 3Q, 4Q, and we roll from there.

Sounds like a plan, Jason.

Awesome. On that note, please join me in thanking Bruce for his time today.