DBRS Comments on CIT Group Inc.’s 3Q11 Earnings; Ratings Unchanged – Senior at B (high), Positive

DBRS Inc. (DBRS) has today commented that the ratings of CIT Group Inc. (CIT or the Company)., including its Issuer Rating of B (high), remain unchanged following the Company’s 3Q11 financial results. The trend on all long-term ratings is Positive.

DBRS views CIT’s results as further evidencing the continued progress the Company has made in growing business volumes, reducing funding costs, and broadening the funding profile, while expanding the role of CIT Bank (the Bank). Although DBRS considers these actions as essential to positioning CIT for a return to long-term, sustainable profitability, the progress has come at a cost which adversely impacts short-term results. To this end, 3Q11 GAAP results were negatively affected by the $169 million of fees associated with the prepayment of first and second lien debt as well as reduced fresh start accounting (FSA) benefits. As a result, for the quarter, CIT reported pretax income of $14.2 million compared to a pretax loss of $21.8 million in the prior quarter and pre-tax income of $235.6 million in the comparable period a year ago.

In order to properly assess the results, DBRS looks at earnings on an underlying basis, which removes the impact of FSA and the debt prepayment fees. In this view, CIT generated pre-tax income of $88.6 million, which is a notable improvement from the pre-tax profit of $17.2 million in the prior quarter and the pre-tax loss of $15.9 million in 3Q10. When stripping out the aforementioned items, results indicate the positive impact of lower overall funding costs and the continuing downward trajectory in credit costs. Furthermore, margins are improving. Excluding FSA and prepayment penalties on debt, finance margin was 1.60% in 3Q11, a 15 basis point improvement from the prior quarter and 65 basis points higher than a year ago. DBRS sees the improved margins as demonstrating the positive impact of the reduction in the quantum of debt as well as the lower funding costs. Given the strength of the franchise, which is evident in the recent results, as well as management’s efforts to improve the balance sheet and funding profile, DBRS expects further improvement in underlying earnings; this expectation is reflected in the Positive trend.

Company-wide funded volumes increased 8% on a linked quarter basis and 75% year-on-year to $1.9 billion, while committed new business volume increased 12% sequentially and more than doubled year-on-year to $2.3 billion. Notably, new business volumes increased in all commercial business segments quarter-on-quarter. Demonstrating the advancement of the Company’s strategy of becoming more “bank centric” by expanding the role of CIT Bank, 80% of U.S. funded volume in the quarter was funded within the Bank compared to 70% in the prior quarter and 50% a year ago. Given the uneven economic recovery and weak consumer and business sentiment, DBRS considers the positive direction in new business volumes as illustrating the strength of CIT’s franchise.

Credit performance continued its favorable trajectory of the most recent quarters. On a pre-FSA basis, gross charge-offs declined 12% on a linked quarter basis to $85.5 million, or 1.47% of average finance receivables. Importantly, gross charge-offs and non-accrual loans declined sequentially across all commercial business segments with the exception of Trade Finance, which experienced an increase in non-accruals to 3.68% of the book from 2.89% in the prior quarter. Non-accrual loans, excluding FSA accounting, decreased 16% quarter-on-quarter to $1.1 billion. As a result of the positive trajectory in credit metrics, provision for loan losses declined 44% (quarter-on-quarter) to $47.8 million. Given the continued difficult operating environment in both the U.S. and Europe, DBRS views the positive credit trends as a testimony of the Company’s sound underwriting and servicing abilities, as well as the continued progress in removing risk from the balance sheet. Nevertheless, DBRS remains cautious given the uncertainties as to the sustainability of the global economic recovery.

CIT’s liquidity remains well-managed and the Company continues to make good progress in reducing the presence of high cost debt in the funding stack while strengthening its funding profile. To this end, during the quarter, CIT repaid and extinguished its $3.0 billion first lien term loan, redeemed $1.0 billion of second lien debt and repurchased approximately $460 million of second lien debt at a discount. Further, subsequent to quarter end, CIT repurchased the remaining $460 million of second lien debt due in 2014, at a discount. Also during 3Q11, CIT put in place a new $2.0 billion first lien revolving credit facility with less restrictive covenants and at a lower cost than the repaid first lien term loan. Regarding capital, CIT continues to maintain a sound capital position, with a preliminary Tier 1 capital ratio of 19.0% and a Total Capital ratio of 19.9%, both well in excess of regulatory minimums.

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

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

The sources of information used for this rating include the issuer. DBRS considers the information available to it for the purposes of providing this rating was of satisfactory quality.

Lead Analyst: Steve Picarillo
Approver: Alan G. Reid
Initial Rating Date: 17 May 2010
Most Recent Rating Update: 26 August 2011