Overview
KeyCorp, organized in 1958 under the laws of the State of Ohio, is headquartered in Cleveland, Ohio. Key Bank is a BHC under the BHCA and one of the nation’s largest bank-based financial services companies, with consolidated total assets of approximately $137.7 billion at December 31, 2017. KeyCorp is the parent holding company for KeyBank National Association (“KeyBank”), its principal subsidiary, through which most of their banking services are provided. Through KeyBank and certain other subsidiaries, Key Bank provide a wide range of retail and commercial banking, commercial leasing, investment management, consumer finance, commercial mortgage servicing and special servicing, and investment banking products and services to individual, corporate, and institutional clients through two major business segments: Key Community Bank and Key Corporate Bank. As of December 31, 2017, these services Key Bank re provided across the country through KeyBank’s 1,197 full-service retail banking branches and a network of 1,572 ATMs in 15 states, online and mobile banking capabilities, and a telephone banking call center. KeyCorp and its subsidiaries had an average of 18,415 full-time equivalent employees for 2017. In addition to the customary banking services of accepting deposits and making loans, their bank and its trust company subsidiary offer personal and institutional trust custody services, securities lending, personal financial and planning services, access to mutual funds, treasury services, personal property and casualty insurance, and international banking services. Through the bank, trust company, and registered investment adviser subsidiaries, Key Bank provide investment management services to clients that include large corporate and public retirement plans, foundations and endowments, high-net-worth individuals, and multi-employer trust funds established for providing pension or other benefits to employees. Key Community Bank also purchases retail auto sales contracts via a network of auto dealerships. The auto dealerships finance the sale of automobiles as the initial lender and then assign the contracts to Key pursuant to dealer agreements.
Liquidity
KeyCorp is subject to regulatory liquidity requirements based on international liquidity standards established by the Basel Committee in 2010, and subsequently revised betKeyen 2013 and 2014 (as revised, the “Basel III liquidity framework”). The Basel III liquidity framework establishes quantitative standards designed to ensure that a banking organization is appropriately positioned, from a balance sheet perspective, to satisfy its short- and long-term funding needs.
Under the Liquidity Coverage Rules, KeyCorp must calculate a Modified LCR on a monthly basis, and is required to satisfy a minimum Modified LCR requirement of 100%. At December 31, 2017, KeyCorp’s Modified LCR was above 100%. In the future, KeyCorp may change the composition of their investment portfolio, increase the size of the overall investment portfolio, and modify product offerings to enhance or optimize their liquidity position
Earnings
TE net interest income for 2017 was $3.8 billion, and the net interest margin was 3.17%, compared to TE net interest income of $3.0 billion and a net interest margin of 2.92% for the prior year. 2017 reflects the full year benefit from the First Niagara acquisition, including purchase accounting accretion, higher interest rates, low deposit betas, and growth in their core earning asset balances. TE net interest income for 2016 increased $577 million from 2015 and the net interest margin increase by 4 basis points, reflecting the benefit from the First Niagara acquisition and growth in their core earning asset balances and yields. In 2018, Key expects net interest income to be in the range of $3.9 billion to $4.0 billion, with their outlook assuming one additional rate increase in June 2018.
Average loans totaled $86.4 billion for 2017, compared to $71.1 billion in 2016. This increase reflected the impact of the First Niagara acquisition and growth in commercial and industrial loans. For 2018, anticipate average loans to be in the range of $88.5 billion to $89.5 billion. Average earning assets totaled $120.8 billion for 2017, compared to $101.3 billion in 2016, reflecting the full year impact of the First Niagara acquisition, as Key as growth in commercial and industrial loans. At December 31, 2017, the remaining fair value discount on the First Niagara acquired loan portfolio was $266 million. Average deposits totaled $102.9 billion for 2017, an increase of $16.6 billion compared to 2017, primarily reflecting the full year impact of the First Niagara acquisition. In addition, KB realized core deposit growth in 2017 driven by the strength of their retail banking franchise and from commercial clients, partly offset by the managed exit of higher cost corporate and public sector deposits. For 2018, anticipate average deposits to be in the range of $104.5 billion to $105.5 billion.
Noninterest income
Noninterest income for 2017 was $2.5 billion, compared to $2.1 billion during 2016, and $1.9 billion during 2015. Noninterest income represented 39% of total revenue for 2017, 41% of total revenue for 2016, and 44% of total revenue for 2015. In 2018, expect noninterest income to be in the range of $2.5 billion to $2.6 billion.
Noninterest expense
Noninterest expense for 2017 was $4.1 billion, compared to $3.8 billion for 2016, and $2.8 billion for 2015. Key recognized $217 million of merger-related charges in 2017 compared to $483 million of merger- and pension related charges in 2016 and $61 million of merger-, pension-, and efficiency-related charges in 2015. Graphs below show a breakdown of major categories of noninterest expense as a percentage of total noninterest expense for the tKeylve months ended December 31, 2017. In 2018, expect noninterest expense to be in the range of $3.85 billion to $3.95 billion
Income taxes
Key recorded a tax provision from continuing operations of $637 million for 2017, compared to $179 million for 2016, and $303 million for 2015. The increase in tax provision from 2016 to 2017 was driven by the TCJ Act. The effective tax rate, which is the provision for income taxes as a percentage of income from continuing operations before income taxes, was 33.0% for 2017, compared to 18.5% for 2016, and 24.8% for 2015. In 2018, expect Key GAAP tax rate to be in the range of 18% to 19%.
Loans and loans held for sale
*At December 31, 2017, total loans outstanding from continuing operations Keyre $86.4 billion, compared to $86.0 billion at the end of 2016.
Commercial and industrial
Commercial and industrial loans are the largest component of Key’s loan portfolio, representing 48% of their total loan portfolio at December 31, 2017, and 46% at December 31, 2016. This portfolio is approximately 83% variable rate and consists of loans originated in both Key Corporate and Community Bank to large corporate, middle market, and small business clients. Commercial and industrial loans totaled $41.9 billion at December 31, 2017, an increase of $2.1 billion compared to December 31, 2016, driven by increases in the business products, commercial real estate, consumer services, and transportation industries, which combined, accounted for approximately 28% of the total portfolio mix at December 31, 2017.
Efficiency
As Key have Key has reached its existing long-term goals in 2017, beginning in 2018, Key revised their long-term financial targets as follows:
• Generate positive operating leverage and a cash efficiency ratio in the range of 54% to 56%;
• Maintain a moderate risk profile by targeting a net loan charge-offs to average loans ratio in the range of .40% to .60%; and
• A return on tangible common equity ratio in the range of 15% to 18%.
Asset Quality
The prevalent risk characteristic for both commercial and consumer loans is the risk of loss arising from an obligor’s inability or failure to meet contractual payment or performance terms. Evaluation of this risk is stratified and monitored by the loan risk rating grades assigned for the commercial loan portfolios and the regulatory risk ratings assigned for the consumer loan portfolios. Most extensions of credit are subject to loan grading or scoring. Loan grades are assigned at the time of origination, verified by credit risk management, and periodically re-evaluated thereafter. This risk rating methodology blends their judgment with quantitative modeling. Commercial loans generally are assigned two internal risk ratings. The first rating reflects the probability that the borroKeyr will default on an obligation; the second rating reflects expected recovery rates on the credit facility. Default probability is determined based on, among other factors, the financial strength of the borroKeyr, an assessment of the borroKeyr’s management, the borroKeyr’s competitive position within its industry sector, and their view of industry risk in the context of the general economic outlook. Types of exposure, transaction structure, and collateral, including credit risk mitigants, affect the expected recovery assessment.
Risk Factors
Credit Risk
Key has concentrated credit exposure in commercial and industrial loans, commercial real estate loans, and commercial leases. As of December 31, 2017, approximately 73% of their loan portfolio consisted of commercial and industrial loans, commercial real estate loans, including commercial mortgage and construction loans, and commercial leases. These types of loans are typically larger than residential real estate loans and consumer loans, and have a different risk profile. The deterioration of a larger loan or a group of these loans could cause a significant increase in nonperforming loans, which could result in net loss of earnings from these loans, an increase in the provision for loan and lease losses, and an increase in loan charge-offs.
Compliance Risk
Key is subject to extensive government regulation and supervision. As a financial services institution, they are subject to extensive federal and state regulation and supervision, which previously increased in recent years due to the implementation of the Dodd-Frank Act and other financial reform initiatives. Banking regulations are primarily intended to protect depositors’ funds, the DIF, consumers, taxpayers, and the banking system as a whole, not their debtholders or shareholders. These regulations increase their costs and affect their lending practices, capital structure, investment practices, dividend policy, ability to repurchase their common shares, and growth, among other things.
KeyBank has faced scrutiny from their bank supervisors in the examination process and aggressive enforcement of regulations at the federal and state levels, particularly due to KeyBank’s and KeyCorp’s status as covered institutions under the Dodd-Frank Act’s heightened prudential standards and regulations, including its provisions designed to protect consumers from financial abuse. Although many parts of the Dodd-Frank Act are now in effect, other parts continue to be implemented, as Keyll as other significant regulations which have been enacted with upcoming effective dates. As a result, some uncertainty remains as to the aggregate impact upon Key of the Dodd-Frank Act and other significant regulations.
Changes to existing statutes, regulations or regulatory policies or their interpretation or implementation could affect Key in substantial and unpredictable ways. These changes may subject them to additional costs and increase their litigation risk should they fail to appropriately comply. Such changes may also limit the types of financial services and products they may offer, affect the investments they make, and change the manner in which they operate.
Additionally, federal banking law grants substantial enforcement poKeyrs to federal banking regulators. This enforcement authority includes, among other things, the ability to assess civil money penalties, to issue cease and desist or removal orders and to initiate injunctive actions against banking organizations and affiliated parties. These enforcement actions may be initiated for violations of laws and regulations, for practices determined to be unsafe or unsound, or for practices or acts that are determined to be unfair, deceptive, or abusive.