Citigroup, Inc. (C)
Q3 2008 Earnings Call Transcript
October 16, 2008 10:00 a.m. ET

Executives

Scott Freidenrich - Director of Investor Relations
Gary L. Crittenden - Chief Financial Officer

Analysts

John McDonald – Sanford Bernstein
Glenn Schorr - UBS
Guy Moszkowski - Merrill Lynch
Michael Mayo - Deutsche Bank Securities
Meredith Whitney - Oppenheimer & Co
Betsy Graseck – Morgan Stanley

Presentation

Operator

Welcome to Citi’s third quarter 2008 earnings review featuring Citi Chief Financial Officer Gary Crittenden. (Operator Instructions) Today’s call will be hosted by Scott Freidenrich, Director of Investor Relations. We ask that you hold all questions until the completion of the formal remarks at which time you’ll be given instructions for the questions answer session. Also as a reminder, this conference is being recorded. If you have any objections please disconnect at this time. Mr. Freidenrich, you may begin.

Scott Freidenrich – Director of Investor Relations

Thank you operator, good morning. Thank you all for joining us. Welcome to our third quarter 2008 earnings review. The presentation we will be going through is available on our website at www.citigroup.com. You may want to download the presentation if you have not already done so. The financial supplement is also available on the website. Our Chief Financial Officer, Gary Crittenden, will take you through the presentation. We will then be happy to take any questions you may have. Before we get started I would like to remind you that today’s presentation may contain forward-looking statements. Citi’s financial results may differ materially from these statements so please refer to our SEC filings for a description of the factors that could cause our actual results to differ from expectations.

With that said, let me turn it over to Gary.

Gary L. Crittenden – Chief Financial Officer

Thank you, Scott and good morning to everyone. Thanks very much for joining with us. We have slides that are available to you on the website, and as usual I’m going to walk through the slides here, so I will start with Slide 1. Slide 1 shows you our consolidated results for the quarter. There were three factors that drove this quarter’s results, higher consumer credit costs, continued losses related to the disruption in the fixed income markets, and the general economic slowdown. To summarize our third quarter results, our net revenues declined 23% year-over-year and 8% sequentially. Expenses were up 2% year-over-year. Excluding however, the impact of acquisitions, divestitures, and the press-release disclosed items from both quarters, expenses were down 2% versus last year. Sequentially expenses were down by $1.2 billion. The cost of credit was up by $4.0 billion over the last year, primarily due to higher net credit losses of $2.5 billion and a $1.7 billion incremental net charge to increased loan loss reserves. The majority of the increases were in our North America Real Estate and Cards businesses. These factors drove a loss of $2.8 billion for the quarter, or a loss of $0.60 per share. This EPS is based on a basing share count of 5.3 billion. On a continuing operations basis we had a net loss of $3.4 billion, or a loss per share of $0.71.

Slide 2 highlights the major P&L items this quarter and I will go into each one of these in more detail. First, consumer net credit losses were $4.6 billion and we recorded $3.2 billion in charges to increase our loan loss reserves in the Consumer Banking and Cards businesses, both in North America and in certain countries internationally. Second, $4.4 billion in marks in the Securities and Banking business, details of which I will discuss further and are outlined in your deck on Slide 26. Third, a $1.4 billion downward adjustment in the valuation of the interest-only strip in our North American Cards business, driven primarily by higher expected losses flowing through the securitization trust. Fourth, write-downs and expenses on auction rate securities of $712.0 million, split equally between fixed income markets and Global Wealth Management. Of this amount, $612.0 million against revenue is related to the legal settlement announced in August. Additionally, we paid $100.0 million fines, recorded as expenses, also related to the settlement. Fifth, repositioning charges of $459.0 million related to our ongoing re-engineering efforts, and finally is a $347.0 million revenue gain on the sale of CitiStreet, which we announced in May.

Slide 3 shows some of our key revenue drivers. In some cases we have chosen to curtail some of these key drivers and in other cases we have seen a slowdown due to weakening market conditions. For example, as the environment for consumer credit continues to deteriorate, we have taken many actions, such as tightening underwriting criteria and reducing credit lines, which has slowed loan growth in most regions. Turning to deposits, in North America end-of-period retail and corporate deposits were up 6% over last quarter, driven primarily by higher deposits in Transaction Services. As the slide shows, deposits in EMEA declined 6%, primarily driven by price competition and customer rebalancing for deposit insurance coverage, especially in the UK. In Latin America and Asia, excluding the impact of foreign exchange, deposits were up 1% and 4% respectively. Overall, consumer deposits outside the U.S. are essentially flat, excluding the impact of foreign exchange. In Transaction Services, total average deposits were up 7% versus last year and virtually flat sequentially. End-of-period deposits, however, were up by $30.0 billion versus last quarter. In the second half of September, which marked extreme uncertainty and unprecedented events in the markets, our GTS business had deposit inflows of approximately $55.0 billion. The inflow of deposits in the last two weeks of September is particularly indicative of the flight to quality that occurred.

Card purchase sales in North American, however, have declined as we have seen higher spending on consumer necessities such as gas and food offset by a decline in discretionary spending. The decline in investment assets under management is a result of weaker equity markets globally, which has resulted in declining asset values.

The graph on Slide 4 shows the nine-quarter sequential trend of net interest margin for the company. Net interest margin for the quarter is 3.13%. Last quarter we reported a net interest margin of 3.18%. However, when adjusted for the sale of our retail banking operations in Germany, last quarter’s net interest margin would have been 3.14%, as is shown on the slide. Benefiting net interest margin this quarter was a decrease in overall funding rates versus the prior quarter, which reflected the Fed’s rate cuts which occurred during the second quarter. Offsetting these benefits were decreases in yields on our trading portfolio, only partially offset by increases in yields in Transaction Services and on our corporate loans. GAAP assets were down another $50.0 billion versus last quarter, making the total reduction now $308.0 billion, versus our peak in the third quarter of last year. Average interest-earning assets were down approximately $81.0 billion, driven by a decrease in trading account assets and loans.

Slide 5 shows the component of our year-over-year decline in revenues. The blue bars on the left and the right show our reported revenues, while the areas within the dotted lines represent the marks that we have taken in our Securities and Banking business. Adjusted for these marks, revenues for the quarter showed a $3.5 billion decline versus last year. One could classify this revenue decline into two categories. The first is the market-sensitive category where the quarter’s results are not necessarily indicative of the future revenue potential. In other words, if market conditions improve, then trading and transaction volumes, client activity, and therefore, overall results could all resume at higher levels. The businesses most affected by this are Securities and Banking business and our Global Wealth Management businesses, where revenues were down $1.2 billion and $355.0 million respectively. The second category is the impact on revenue from credit losses in our securitization trust. I will take you into more detail on this in our outlook, but as I’ve said before, credit card losses may continue to rise well into 2009. This means that revenues in that business may continue to be adversely affected in that time frame in the form of reduced servicing fee revenue due to increased credit losses in the trust and the continued downward adjustments in the valuation of the interest-only strip, which has a remaining value of approximately $1.0 billion.

This quarter $2.5 billion of the total decline was related to securitization activities in the North American card business. We also recognized a $729.0 million gain in the prior-year period related to the sale of ReadyCARD shares. Offsetting these negative results were higher revenues in Consumer Banking and record revenues in Transaction Services. Consumer banking revenues were driven by 6% growth in North America, primarily due to higher net interest revenues. Transaction Services revenues were a record for the 20th consecutive quarter on new clients wins and the higher end-of-period liability balances.

We will turn now to Slide 6. This shows the trend in our expense growth. Expenses in the quarter grew 2% versus last year. This quarter there are three components contributing to expense growth. First, 3% from $459.0 million in repositioning charges related to a number of activities, such as headcount reductions. We will continue this process as we make progress on our re-engineering program. Second, there is 1% from acquisitions and divestitures, and third, there is a 1% contribution from the $100.0 million fine related to the auction rate securities settlement that was recorded in the current quarter. In the prior period there were two components which offset each other. They include first, a $150.0 million write-down of customer intangibles and fixed assets in the Japanese Consumer Finance business, which lowered expense growth by 1%. Second, there was a downward adjustment in the incentive compensation as the full-year outlook for the business changed substantially in that quarter last year. The difference in this quarter’s incentive compensation accrual versus that of the prior period accounted for 1% of expense growth. Combining all of the above factors, expenses on a business-as-usual basis were actually down 3% in a year-over-year comparison as the benefits of our re-engineering efforts are becoming apparent. Foreign exchange contributed 1% and is reflected across all of the categories that I just mentioned. Sequentially, expenses declined for the third quarter in a row and were down 8%, or $1.2 billion. Over half is due to lower incentive compensation in the current quarter and the remainder is largely attributable to the benefits from our re-engineering efforts.