DBRS Comments on Capital One’s Q3 Results, Senior unchanged at BBB (high), Trend Negative

DBRS has today commented that the ratings for Capital One Financial Corporation and its principal subsidiaries, including Capital One Bank, (collectively, Capital One or the Company) are unchanged following the Company’s announcement of its Q3 2009 financial results. DBRS currently rates Capital One Financial Corporation BBB (high). The trend on all ratings is Negative.

Today’s comment follows Capital One’s Q3 2009 earnings release, which indicated a net income from continuing operations of $469 million. Profitability was supported by improving margins, which resulted in an 11.6% increase in total managed revenue, on a linked quarter basis, to $4.6 billion. Continuing management focus on costs resulted in a 6% decrease in non-interest expense. Increasing asset yields and improving cost of funds drove a significant improvement in net interest margin to 7.01% from 6.17%, in the prior quarter. Importantly, income before provisions and taxes (IBPT), a key metric for DBRS, improved 27% quarter on quarter to $2.8 billion. Given the challenging operating environment, DBRS considers the Company’s results, especially the recovery in the Domestic Credit Card segment and Consumer Banking segment, as solid, further illustrating the strength of the Company’s franchise.

Asset quality remained under pressure, as the U.S. unemployment rate continued to increase and household disposable income remained constrained. Total company-wide net charge-offs, at September 30, 2009, were $2.1 billion or 6.0% of managed receivables, while company-wide 30-day delinquency increased to 4.55%. Managed net charge-offs in the Company’s $63.3 billion domestic card book increased to 9.64%, partially reflecting the impact of the reduced loan book, OCC minimum payment policy, and typical seasonal effects. Nevertheless, this segment remains solidly profitable. Non-performing assets in the Commercial Banking book were 2.83% of the total book and charge-offs increased to 1.42% from 0.89% a quarter ago. The continuing deterioration in the Commercial Banking loan portfolio and declining property values resulted in a sizeable reserve build of $256 million, causing a loss in this segment. Provision expense, on a managed basis, increased to $2.2 billion largely attributable to the aforementioned reserve build. At September 30, 2009, Capital One’s loan loss reserve remained sound at 5.1% of reported loans, up from 3.6% a year ago.

DBRS acknowledges Capital One’s improved financial performance and solid capital position; however, asset quality remains under pressure owed to the stressed U.S. economy. Accordingly, DBRS maintains the Negative trend on the ratings. The Negative trend also reflects DBRS’s cautious view of the state of the U.S. consumer at this point in the credit cycle. The Negative trend also considers the potential income impact of additional losses in the Company’s other loan books, including the commercial loan book and its residential loan portfolio. DBRS believes that Capital One’s improved financial performance remains at risk should unemployment continue to increase beyond current forecasts, which could ultimately result in further weakened asset quality measures and pressured earnings. That said, should the economic recovery in the U.S. hold and Capital One continue to illustrate solid financial performance while improving asset quality metrics, DBRS could revise the trend to Stable. DBRS will look for sustained improvement in quarterly performance to substantiate its views on the progress the Company is making.

Notes:
All figures are in U.S. dollars unless otherwise noted.

The applicable methodology is Rating Finance Companies in the United States, which can be found on our website under Methodologies.

This is a Corporate (Financial Institutions) rating.