Banks and credit card companies are giving investors this quarter a peek at the effects of the biggest change to bank accounting in decades—and the sightings are all over the map.
Some financial institutions are bracing to raise their loan loss reserves by as much as 65 percent under the rule change; others a fraction of that. And for many, the number will remain a mystery, at least until third quarter earnings season arrives.
How banks will handle the new current expected credit losses (CECL) accounting standard depends on the credit quality of a bank’s customers and the economic climate once the new rules go live.
On the higher end of the spectrum: Synchrony Financial told analysts July 19 that if it were to adopt the major accounting change this quarter, it would have to boost reserves that it sets aside to cover loan losses by 50% to 60%. The bank, which issues credit cards for retailers like Amazon.com Inc. and J.C. Penney Company Inc., said its estimate was subject to change, however.
Portfolio Quality Crucial
“The ultimate impact will depend upon the composition and asset quality of the portfolio, the economic conditions and forecasts upon adoption,” CFO Brian Wenzel said.
Synchrony’s projected increase is significant; when a bank has to boost reserves, it means it ties up more of its money in the capital it must hold to meet regulatory requirements. That means less money to lend to customers or to invest. It also ultimately could affect the bank’s earnings.
Synchrony’s projection is in line with other companies that primarily deal with credit card customers, including Discover Financial Corp. It told investors on July 23 that if it followed the new accounting rules this year, its reserves would shoot up by 55% to 65%. The company gave a similar estimate in its first quarter earnings call.
American Express Co.’s estimate of CECL’s impact is slightly lower, which also aligns with what analysts expected. The company issues credit cards mostly to customers with good credit, which means lower odds of them missing payments and racking up big losses.
The company told analysts July 19 that its total reserves of $2.9 billion would increase by 25% to 40%. American Express CFO Jeffrey Campbell warned, however, that the accounting change is just that—an accounting change, and said that given it’s “strong balance sheet,” the hit on capital would be “very manageable.”
“There is no change to the underlying economics, our view of the risk of the portfolio, or the ultimate expected losses in our portfolios,” Campbell said.
Published by the Financial Accounting Standards Board in 2016, the new accounting rule requires banks and other businesses to look to the future, consider current conditions, and make estimates about expected losses and set aside reserves to cover them on loans they hold. It’s considered the standard-setter’s chief response to the 2008 financial crisis, when bank balance sheets looked robust even as the market was imploding.
Regionals Weigh In
The Securities and Exchange Commission requires businesses to disclose the impact of accounting changes in their financial statements ahead of when the new rules go live. The disclosure varies in quality depending on the significance of the accounting change and the appetite investors have for detail.
As the clock ticks toward the loan loss standard’s 2020 effective date for most publicly traded banks, investors are growing hungrier for more information.
Most of the largest U.S. banks, including Citigroup Inc., JP Morgan Chase & Co., and Wells Fargo & Co., gave early estimates in the first quarter of 2019.
Now, the regional banks are weighing in.
PNC Financial Services Group Inc. said on July 17 that if it adopted t the new rules as of June 30, its loan loss allowance would increase 15% to 25%.
“The majority of the increase is expected to be driven by the consumer loan portfolio as longer duration assets require more reserves under the CECL methodology,” PNC CFO Rob Reilly said.
U.S. Bancorp on July 17 said it would give a more concrete estimate in the third quarter but was expecting to increase reserves between 20% and 40%.
Regions Financial Co. in its July 19 earnings call told analysts to stay tuned. The bank said it would disclose an impact in its second quarter financial statement, which as of July 26 had not been filed. The bank’s CFO told analysts to expect an increase in reserves.
Wells Fargo Revisions
Wells Fargo surprised analysts during its first quarter earnings call in April when it announced that, unlike many banks, it expected to reduce its loan loss reserves under the new accounting rules. It estimated that the reduction could be by as much as $2.5 billion because CECL allows banks to consider recoveries from loans banks previously thought were never going to get collected.
The bank revisited the estimate on July 16, saying it now expects a $1.5 billion reduction.
“The change from the estimate we provided last quarter primarily reflects a reduction in our expected recoveries on loans previously written down,” CFO John Shrewsberry said.
Punt to Third Quarter
Many banks have told analysts that they do not plan to offer details on CECL’s impact until later this year.
These include Fifth Third Bancorp, Capital One Financial Corp., BOK Financial Corp., CenterState Bank, Valley National Bancorp, Synovus Financial Corp., and Atlantic Union Bankshares Corp.
A few of those who told investors to wait, however, gave hints, including BankUnited Inc.
“I’m not prepared at this point to say by how much, but it’s fair to say that I do expect the reserve to increase,” CFO Leslie Lunak said July 25, attributing the boost to having to consider losses over a longer time period.