CFG - by Khoa (Cole) Le

Citizen Financial Group:

Overview:

Citizen Financial Group (CFG) is the 13^th largest bank in the US, with a history date back to 1988. It was a subsidiary of Royal Bank of Scotia, before getting spun off in 2014. The bank operates 1150 branches in 11 states across New England, Mid-Atlantic and Midwest regions.

Business segments:

The company reports 2 segments in its operation: the consumer banking segment and the commercial banking segment. The consumer banking segment serves retail customer and business with less than 2.5 millions in revenue. Product offerings in this segment includes deposit products, mortgage and home equity lending, credit cards, business loans, wealth management, investment services.

Commercial banking serves business with 2.5 millions to 2.5 billions in revenue. The product offerings include lending and leasing, deposit and treasury management services, foreign exchange and interest rate risk management solutions, as well as corporate finance, merger and acquisition, and debt and equity capital markets capabilities.

Balance sheet analysis:  

Year	2017		2016		2015		2014		2013
Assets	152336	100%	149520	100%	138208	100%	132857	100%	122154	100%
Net loan	109381	72%	106433	71%	97826	71%	92215	69%	84638	69%
Goodwill	6887	5%	6876	5%	6876	5%	6876	5%	6876	6%
Liabilities	132066	87%	129773	87%	118562	86%	113589	85%	102958	84%
Deposit	115089	76%	109804	73%	102539	74%	95707	72%	86903	71%
Common equity	20270	13%	19747	13%	19646	14%	19268	15%	19196	16%
Tangible common equity	13383	9%	12871	9%	12770	9%	12392	9%	12320	10%

         Given the high percentage of net loans as a percentage of assets, CFG is a typical traditional bank that raise deposit and make loans.  In terms of capitalization, the company’s equity/assets ratio is 13%, which is above the industry’s median of 11%. However, because CFG’s goodwill item is quite large relative to other banks, the tangible common equity / assets is only 9%, which is relatively low compares to the overall industry.

Assets:

Year	2017		2016
Assets	152336	100%	149520	100%
Securities	24842	16%	24572	16%
Net loan	109381	72%	106433	71%
Goodwill	6887	5%	6876	5%

The table above shows the largest items on the bank’s balance sheet.

Securities:

Total Securities

25716

25597

24114

The securities portfolio is composed mostly of mortgage-backed securities issued by Federal agencies and U.S. government sponsored entities. The whole securities portfolio represents only a small portion of the bank’s assets.

Loans and leases portfolio:

Year	2017	2016	2015	2014	2013
Commercial loans and leases	52031	51651	46214	43226	39395
YOY growth	0.7%	11.8%	6.9%	9.7%
Retail loans	58586	56018	52828	50184	46464
YOY growth	4.6%	6.0%	5.3%	8.0%
Total loans and leases	110617	107669	99042	93410	85859
YOY growth	2.7%	8.7%	6.0%	8.8%

As of December 2017, 47% of the loans and leases portfolio is made up of commercial loan and leases, while the remaining balance goes to retail/consumer loans. The bank has followed this loan portfolio structure of 46-47% commercial loans vs 53-54% consumer loans since 2013 (the oldest reported figure), and show no signed of deviating from this structure. CFG’s loan portfolio is typical in comparison with the big 4 (BOA, WF, Citi, JP Morgan), and does not raise any concerns. Also, growth of the loans and leases portfolio slowed down in 2017.

Consumer portfolio:

Year	2017	2016	2015	2014	2013
Residential mortgage	17045	15115	13318	11832	9726
Home equity line of credit	13483	14100	14674	15423	15667
Automobile	13204	13938	13828	12706	9397
Education	8134	6610	4359	2256	2208
Total consumer loans and leases	58586	56018	52828	50184	46464

*The sum of the listed segment is not equals to the total due to some smaller segments have been left out.

The table above presents the largest categories of the bank’s consumer loans and leases. There are two notable trends. Firstly, the company has been reducing its home equity line of credit segment, although it is still representing a large portion of the total portfolio. Secondly, the company has been aggressively growing its education loans, which has over the past 5 years have grown from an insignificant portion of the portfolio into one of the larger categories.

	Allowance/Non-accrual	Allowance/Impaired loans
BOA - Consumer	104%	30%
WF - Consumer	99%	36%
Citi - Consumer excluding credit card	313%	150%
JP Morgan Chase - Consumer excluding credit card	103%	59%
CFG - Retail/Consumer segment	91%	72%
BOA - Consumer real estate	34%	10%
CFG - Consumer residential mortgage	34%	29%
CFG - Home equity line of credit	37%	44%
CFG - Automobile	199%	604%
CFG - Education	316%	69%

The table above presents the allowance for loans and leases loss to non-accrual loans ratios and the allowance for loans and leases loss to impaired loans ratios of CFG’s consumer segment and the big four banks. CFG’s allowance/non-accrual ratio of the whole consumer segment is lower than each of the big four, which shows that it is less conservative in its allowance recording. Furthermore, the ratio is less than one, which is also not ideal. On the other hand, CFG’s allowance/impaired ratio is the second highest of the five. However, a closer look reveals that the each bank have different policies for classifying impaired loans, thus making the allowance/impaired loans ratio less reliable. Overall, CFG’s allowance policy is slightly less conservative than the big four.

Due to the lack of categorization in the report of the big four, the only available ratios are of the consumer real-estate segment of the Bank of America. The comparison shows similar allowance/non-accrual ratio between CFG and the Bank of America, which is a reassuring sign since this is the largest category in CFG’s consumer loans and leases portfolio. Automobile and Education both have a significantly higher allowance/non-accrual ratio, which is expected as these loans are not backed by any collateral, which deem them more risky.

Commercial portfolio:

Year	2017	2016	2015	2014	2013
Commercial loans	37562	37274	33264	31431	28667
Commercial real-estate	11308	10624	8971	7809	6948
Total commercial loans and leases	52031	51651	46214	43226	39395

            The table above presents the two categories within CFG’s commercial loans and leases portfolio. Overall, commercial loans has been constituting approximately 72% of the total portfolio over the year. Commercial real-estate has been growing faster than the total portfolio. As of 2017, the commercial real-estate category make up 21.7% of the portfolio, up from 17.6% in 2013.

	Allowance/Non-accrual	Allowance/Impaired loans
BOA - Commercial	444%	240%
WF - Commercial	251%	167%
Citi - Commercial	128%	N/A
JP Morgan Chase - Commercial	239%	296%
CFG - Commercial	292%	209%

*Citi does not report impaired loans for the commercial segment

The table above presents the allowance for loans and leases loss to non-accrual loans ratios and the allowance for loans and leases loss to impaired loans ratios of CFG’s commercial segment and the big four banks. The allowance covers the non-accrual loans almost 3 times, which is a reassuring sign that the bank is being conservative in their allowance recording. In comparison, CFG’s is higher than 3 of the big four banks, which shows that they are relatively more conservative in recording allowance for their commercial loans.

Summary:

               Overall, the loans and leases portfolio of the bank has a typical structure. Growth slowed down in 2017, compares to the previous 4 years. The bank’s allowance recording policy is slightly less conservative for the consumer portfolio, while being slightly more conservative for the commercial portfolio. There is no major concerns about the health of CFG’s loans and leases portfolio.

Liability Side:

Deposit:

	2017	2016	2015	2014	2013
Deposits	115089	109804	102539	95707	86903
YOY growth	0.048131	0.070851	0.071385	0.101308	-0.08665

Deposits growth slowed down slightly in 2017, due to a decrease in money market accounts.

Income Statement Analysis:

Year ended Dec 31		2017	2016	2015	2014	2013
Net interest income		4173	3758	3402	3301	3058
	Provision for credit loss	321	369	302	319	479
Non-interest income		1534	1497	1422	1678	1632
Non-interest expense		3474	3352	3259	3392	3279
Income befor income tax		1912	1534	1263	1268	932
	Efficiency ratio	60.87%	63.80%	67.56%	68.12%
Net income		1652	1045	840	865	674
	ROA	1.10%	0.73%	0.62%	0.68%
	ROE	8.35%	5.23%	4.30%	4.46%
	ROTCE	12.35%	7.74%	6.45%	6.71%
Net income assuming 21% effective income tax		1510.48	1211.86	997.77	1001.72	736.28
	ROA	1.00%	0.84%	0.74%	0.79%	0.59%
	ROE	7.55%	6.15%	5.13%	5.21%	3.40%
	ROTCE	11.51%	9.45%	7.93%	8.11%	5.86%

Before the spin-off in 2014, the bank was in shamble after the 2008 crisis. ROA and ROE in the four years leading up to the spin-off were only half of the whole industry. A high efficiency ratio in the high 60s and an above average provision for credit loss left the bank with a below average net margin. Since the spin-off, management has been pushing to turnover the bank’s financial performance. CFG raises deposits, drove up its loan and leases portfolio while keeping non-interest expense tight. By 2017, a combination of lower efficiency ratio and improved credit quality has brought ROA and ROE back to the average level of the industry. However, their result is only average within the US banking industry.

Interest Earning Power:

		CFG		BOA		WF
		% of assets	Yield	% of assets	Yield	% of assets	Yield
Assets
	Total investment securities	17%	2.43%	41%	2.05%	41%	2.24%
	Total loans and leases	73%	3.87%	40%	3.97%	49%	4.35%
	Total interest earning assets	92%	3.56%	85%	3.04%	92%	3.40%
	Total non-interest earning assets	8%	0.00%	15%	0.00%	8%
Total assets		100%		100%		100%
Liabilities
	Total interest-bearing deposits	56%	0.53%	37%	0.23%	49%	0.32%
	Total borrowed funds	10%	1.96%	24%	2.01%	19%	1.73%
	Total interest-bearing liabilities	66%	0.75%	61%	0.94%	68%	0.72%
	Demand deposits	19%	0.00%	19%	0.00%	19%
Total Liabilities		87%		88%		89%
Net interest spread			2.81%		2.10%		2.87%
Return on average assets			1.10%		0.80%		1.15%
Return on average equity			8.35%		6.72%		11.35%
Return on average tangible equity			12.35%		9.41%		13.55%

The table above presents the average balance of assets and liabilities accounts as a percentage of total assets and their respective yield. Most of CFG’s interest earning assets are allocated to its loans and leases portfolio, which accounts for 73% of total assets. Due to a high concentration of its assets in the loans and leases portfolio, the bank’s yield on average interest earning assets is the highest among the three banks. In contrast, the Bank of America allocate a significant of their interest earning assets into investment securities. 16% of its assets are allocated to safe investments such as deposits at the Federal Reserves and other banks, Federal Fund resell agreements. Another 19% of BOA assets are allocated to debt securities, majorly in agency mortgage-backed securities. Due to a large allocation of assets into safer investments, BOA’s yield on average interest earning assets is the lowest of the three banks. Similar to BOA, Wells Fargo allocates a significant of their interest earning assets into investment securities. 14% of its assets are allocated to safe investments such as deposits at the Federal Reserves and other banks, Federal Fund resell agreements. Another 21% of its assets are allocated to debt securities, majorly agency mortgage-backed securities. However, due to a higher allocation into higher yield securities and loans and leases portfolio, as well as an overall higher yield on investment, WF is able to maintain a high yield on average interest earning assets.

Most of CFG’s interest bearing liabilities comes from interest-bearing deposits. However, it bear a higher yield compares to BOA and Wells Fargo, which can be attribute to the superior brand name and reputation of BOA and Wells Fargo. Of the three banks, CFG raised the least capital from borrowed funds, with 10% of average assets raised from borrowed fund. On the other hand, BOA raised the most capital from borrowed funds, at 24%. It also bear the highest yield on its debt. The three banks all have 19% of average assets raised from demand deposits. Overall, CFG has the second lowest yield on its interest bearing liabilities. This is due to the bank raising fund mostly from the interest earning deposit. BOA raised the most debt out of the three bank, which results in the highest yield on interest bearing liabilities. Wells Fargo enjoys the lowest yield on interest bearing liabilities, due to the bank’s raising a large proportion of funds from interest bearing deposits as well as the lowest yield on borrowed fund.

Overall, CFG and Wells Fargo allocation of assets are more risky compares to BOA, which allow them to earns higher ROA and ROE. However, CFG’s higher concentration of assets to its loans and leases portfolio deem it riskier than Wells Fargo’s assets, which means that Wells Fargo earns a higher risk-adjusted return compares to CFG.

Glassdoor reviews:

	CFG	BOA	WF
Overall rating	3.2	3.6	3.5
Approval of CEO	74%	84%	76%
Positive business outlook	50%	58%	52%

The table above represents the scores of the three banks on Glassdoor. Overall, CFG received lower rating in all aspect compares to the other two banks. Reading through the first 10 pages of reviews, the following concerns are raised:

1. The bank is sales driven.
2. The bank has a political environment.
3. Layoff and employee shortage is  an apparent problem.
4. The bank is using very outdated technology, which sometimes hinder employee’s performance and customer services.
5. A bias HR department, which is somewhat confirmed by the fact that HR only replies to positive reviews or to reviews that address illegal sales practices.
6. A few complaints about illegal sales practice.

The conclusion to be drawn is that CFG as an organization is rather mediocre. The outdated technology raised question about the bank’s statement in its annual report regarding “modernizing its technology and developing enhanced data analytic capabilities”.

Valuation and market sentiment:

Price/Book:

	CFG	BOA	WF
Price/Book	0.95	1.28	1.56
Price/Tangible Book	1.46	1.81	1.85

The table above represents the price/book and price/tangible book of the three banks on the 14^th of August 2018. CFG is valued lower compared to BOA and WF, which is expected, as the other two banks enjoy higher reputation and operation. I decided to look into the bank when seeing a price/book value of less than 1. However, due to a large goodwill account on its balance sheet, the price/tangible book value comes in at 1.46, which is not cheap in any sense.

DCF:

               Given that the stock does not look cheap when looking at P/B, I decided to quickly value it using a DCF model (earning-based). The following are the assumptions and the reasonings:

1.        Earnings will rise at 5% for 10 years, then 3% for the next 10 years: CFG is a very mediocre bank. It operates under the traditional branch model, which means that there is little room to cut cost and improve the efficiency ratio. The company’s operations is full of problems: political culture, outdated technology, poor HR department. It’s brand name does not yield it any advantage in pricing, which is evident by its high yield on interest-bearing deposits. Loans and deposits have slowed down in the most recent year. The company has a poor track record during and in the aftermath of the 2008 Recession. As a result, there is no reason to believe that the bank will be able to put out any spectacular growth in the future. Therefore, I assigned a 5% growth rate in the first 10 years, and 3% (roughly inflation) for the next 10 years. 
2.       Projecting out 20 years: due to the bank’s long history, large size and operating in a fairly stable, I decided to take into account the cash flow of the next 20 years.
3.       Cost of capital of 9%: the long-term return of the stock market.

The result is a P/E ratio of 13.3, which is roughly the same as the current P/E ratio of the stock. This shows that the stock is fairly valued, and there is little upside potential as well as margin of safety.

             

Market Sentiment:

The market seems to be bullish on CFG. In the past year and a half, there has been 5 analysts’ upgrades on the stock, and only 1 analysts’ downgrade. Short float sits at a modest 2.61%, while the stock has already doubled in the last 2 years and a half. Overall, there is no pessimisms in the market to bet against.

Conclusion:

CFG is an large in size, but average in operation bank that in recent years has improve its operation and financial result after its spin-off in 2014. Analysis of the bank’s balance sheet shows a healthy loans and leases portfolio with healthy credit quality. The bank’s strategy focus on allocating assets to loans and leases, deeming it more risky compares to other large banks such as BOA and WF. ROA, ROE, ROTCE and efficiency ratio sit at industry average. Growth in deposit and loans and leases has and continued to slow down in 2018. Efficiency ratio has improved in recent years, but given its branch-focus operation, it does not seem likely for the company to significantly drive down that figure. There are a few concerns regarding its operation, including a political work environment, outdated technology, weakness in its HR department, and a few complaints about illegal sales practices. As for the stock, a 1.46 Price/Tangible book ratio is not cheap in any sense, and the DCF model shows that the stock is fairly valued. Furthermore, looking at analyst recommendations, there is no pessimisms in the market to bet against. In conclusion, the stock has little upside potential and does not offer and margin for error, and thus I recommend a ‘hold/sell’ for the stock.