DBRS Comments on Northern Trust Corporation’s 2Q13 Earnings – Senior at AA (low)

DBRS, Inc. (DBRS) has today commented on the 2Q13 earnings of Northern Trust Corporation (Northern Trust or the Company). DBRS rates the Company’s Issuer & Senior Debt at AA (low) with a Stable trend. The Company reported net income of $191.1 million in 2Q13, up from $164.0 million in 1Q13, and from $179.6 million a year ago.

Northern Trust was able to deliver positive operating leverage with broad based revenue growth and well controlled expenses. Moreover, the Company reported a return on equity of 10%, which met the lower end of its target range for the first time since 2Q10. Northern Trust’s ‘Driving Performance’ initiatives have already achieved the Company’s stated target of a $250 million pre-tax benefit in 2013 given the $65 million in pre-tax income benefits achieved in 2Q13. These initiatives have played an important role in improving profitability and generating earnings to invest back into the business.

Despite net new business wins and higher equity market valuations, both assets under custody (AUC) and assets under management (AUM) declined 1% sequentially to $5.0 trillion and $803.0 billion, respectively. Asset levels were hurt by lower fixed income valuations and a stronger U.S. dollar. Notable net new business wins included ATP, the largest pension fund in Denmark, where Northern Trust will provide custody and related services for approximately $106 billion of assets.

Consolidated revenue increased 5% sequentially to $1.02 billion with noninterest income growth of 7% more than offsetting a 2% decline net interest income (FTE). Specifically, noninterest income increased $50.1 million to $800.4 million reflecting broad-based growth particularly in foreign exchange trading income. The largest component of fees, trust, investment & other servicing fees, increased 4% sequentially to $657.3 million bolstered by favorable equity markets, as well as net new business. Meanwhile, net interest income declined by $5.7 million to $228.0 million driven by a five basis point compression in the Company’s net interest margin to 1.10%. Money market fee waivers remain a headwind totaling $22.7 million in the quarter, up modestly from $22.2 million in 1Q13. Positively, the Company noted that wealth management clients are building confidence and institutional clients are increasing activity.

Expenses remained relatively flat at $729.7 million, as higher compensation and outside services expenses were offset by lower business promotion and other expenses following the completion of the Northern Trust Open in 1Q13. The Company noted that higher outside services expense reflecting such items as CCAR, resolution planning, and other initiatives are expected to continue in 2H13.

Despite a $19 million increase in nonperforming assets to $281.2 million, or 0.98% of loans and leases and OREO, credit quality remains sound. Meanwhile, net charge-offs were down modestly to $8.1 million, or 0.11% of average loans and leases. The provision for credit losses remained stable at $5 million and the allowance for credit losses covers all nonperforming assets.

Capital remains a strength and supports the rating. Based on a preliminary interpretation of the final Basel III rules published in July, the Company’s Tier 1 common capital ratio would be 12.8% on a fully phased-in basis, which already exceeds the fully phased-in requirement. Northern Trust also noted that its estimated supplementary leverage ratio was approximately 5.5% at the holding company and 5% at the Bank. Although Northern Trust is not subject to the supplementary leverage rule, management noted that it prefers to have capital metrics that compare favorably to its larger trust bank competitors. DBRS notes that the Company only repurchased $15 million of common stock during 2Q13 leaving $385 million of capacity to repurchase shares through 1Q14.

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

[Amended on May the 23rd, 2014 to remove unnecessary disclosures.]