DBRS Confirms Capital One Financial Corp. Issuer Rating at BBB (high), Revises Trend to Positive

DBRS, Inc. (DBRS) has today confirmed the ratings of Capital One Financial Corporation (Capital One, the Company) and its principal subsidiaries, including the Company’s Issuer & Senior Debt rating of BBB (high). Additionally, the trend on long-term ratings and some short-term ratings (see the rating chart at the end of this release) has been revised to Positive from Stable. The rating action follows a detailed review of the Company’s operating results, financial fundamentals and future prospects.

The confirmation of the ratings reflects the strength of the Capital One franchise, its solid risk management capabilities and overall, strong balance sheet. The Capital One franchise is underpinned by the substantial scale of its national credit card lending platform. Based on outstanding balances, at year-end 2013, Capital One was the fourth largest issuer of Visa and MasterCard in the United States. From DBRS’s perspective, Capital One’s franchise is further enhanced by the Company’s growing regional banking operations. Currently the seventh largest depository institution in the U.S., Capital One’s regional banking franchise complements the credit card operations by offering other consumer and commercial banking products and services including its ability to attract ample deposit funding.

However, Capital One continues to face certain challenges, which include managing its significant exposure to the U.S. consumer in an improved but still challenging environment, regulatory changes and heightened scrutiny, and the highly competitive banking landscape.

The Positive trend incorporates DBRS’s view of the favorable underlying fundamentals of the business, and that the franchise has been strengthened following the 2012 acquisitions of ING Direct USA (ING) and HSBC’s U.S. card and retail services business. Positively, the benefits of these acquisitions are beginning to be reflected in the Company’s improved earnings performance. Further, Capital One continues to make progress shifting the loan book from lower-yielding mortgage loans to higher-yielding auto and commercial assets benefiting earnings. For a positive rating action, DBRS will look for a sustained revenue expansion and positive operating leverage, along with the maintenance of an acceptable risk profile, and further evidence of executing on the 2012 acquisitions. Conversely, while DBRS has tolerance for a normalization in credit from cyclical lows, an increased risk profile or deterioration of performance metrics beyond DBRS’s expectations could curtail positive rating momentum.

Capital One’s underlying earnings generation remains solid and resilient. For 2013, net revenues increased 4.6% on a year-on-year basis to $22.4 billion. Capital One’s earnings benefit from a strong net interest margin and a well-managed expense base, which provides significant earnings capacity to absorb credit losses, while still providing for investment in the franchise. The Company reported top tier levels of profitability in 2013 with a return on assets of 1.40% improved from 1.23% in 2012.

Demonstrating Capital One’s sound underwriting and servicing capabilities, credit performance continues to be favorable. Specifically, net charge-offs (NCOs) and early stage delinquencies remain very manageable across all asset classes. To this end, within the Domestic Card book, NCOs are below pre-recession levels and could potentially be reaching cyclical lows. At YE13, loan loss reserves were $4.3 billion, representing 2.19% of total loans held for investment, DBRS sees reserve coverage ratios as acceptable, especially given the Company’s strong ability to generate capital through earnings.

Capital One’s balance sheet strength reflects ample liquidity and deposit funding, as well as a solid capital position, all of which help support the rating. Over the past several years, Capital One has leveraged its growing regional bank franchise and most recently, the ING acquisition (which added $84.4 billion of deposits), to transform its funding profile to a primarily deposit funded model. However, DBRS notes that Capital One’s ability to retain the former ING deposit base has not yet been tested in a rising rate environment. Liquidity is further enhanced by the Company’s sizable cash and securities position representing about one quarter of assets at YE13. Meanwhile, capital remains sound. Specifically, at YE13, Capital One’s Tier 1 common ratio was 12.23%, a 127 basis point improvement from YE12, reflecting both earnings retention and balance sheet shrinkage. DBRS notes that the Company’s capital plan was just approved following another round of regulatory stress testing and a $2.5 billion common stock buyback plan was recently announced.

Headquartered in McLean, Virginia, Capital One reported $297.0 billion in assets at YE13.

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

The principal applicable methodology is: the Global Methodology for Rating Banks and Banking Organisations. Other methodologies used include the DBRS Criteria: Support Assessment for Banks and Banking Organisations and DBRS Criteria: Rating Bank Capital Securities – Subordinated, Hybrid, Preferred & Contingent Capital Securities. All DBRS methodologies and criteria can be found on DBRS website under Methodologies.

The sources of information used for this rating include company documents and SNL Financial. DBRS considers the information available to it for the purposes of providing this rating was of satisfactory quality.

This is an unsolicited rating. This credit rating was not initiated at the request of the issuer and did not include participation by the issuer or any related third party.

This rating is endorsed by DBRS Ratings Limited for use in the European Union.

Lead Analyst: John Mackerey
Rating Committee Chair: William Schwartz
Initial Rating Date: 17 November 2005
Most Recent Rating Update: 12 September 2012

For additional information on this rating, please refer to the linking document under Related Research.