Citizens Financial Group Inc (CFG) 2015 Q4 法說會逐字稿

Good morning everyone, and welcome to the Citizens Financial Group fourth-quarter and full-year 2015 earnings conference call. My name is Brad and I will be your operator today.

(Operator Instructions)

As reminder, this event is being recorded. Now I'll turn the call over to Ellen Taylor, Head of Investor Relations. Ellen, you may begin.

Thanks, Brad. Good morning everybody. Thanks so much for being with us today. We are going to start the morning off with our Chairman and CEO, Bruce Van Saun; and our CFO, Eric Aboaf, reviewing our fourth-quarter and full-year results. And then we're going to open up the call for questions.

With us today are also Brad Conner, our Head of Consumer Banking, and Don McCree, our Head of Commercial Banking. I would like to remind you all that in addition to the press release, we have also provided a presentation and financial supplement. And you can find all of those materials on our website at investor.citizensbank.com.

Of course, I need to remind you that during the call we may make some forward-looking statements which are subject to risks and uncertainties. The factors that may cause our actual results to differ materially from expectations are detailed in our SEC filings, including the Form 8-K filed containing our earnings release and [quarterly] supplemental.

Additionally, any information about any non-GAAP financial measures, including reconciliation of those measures to GAAP measures, may be found at our SEC filings, in the earnings release and in the quarterly supplement available on our website. With that, I'm going to it over to our CEO, Bruce Van Saun.

Thanks, and good morning everyone. I appreciate you dialing in. 2015 was a year of significant progress for Citizens. We completed our separation from RBS, becoming fully independent in late October.

Our financial progress was in line with expectations and guidance, in spite of a lower rate environment than anticipated. We achieved good loan and deposit growth. We delivered positive operating leverage, as savings from our efficiency initiative kept expenses flat notwithstanding significant investments in growth areas and in technology.

We made strides in improving our product offerings and service quality, and customer satisfaction's trending upwards. We hired some great talent, including Eric and Don right here with me. And we have some great new initiatives on the colleague front, like leadership development and career mapping.

Our risk management capabilities continue to strengthen. We had a good result on CCAR. And we're working hard to achieve the regulators' heightened standards. We continue to deliver enhanced technology capabilities, including a new backup data center, a new mortgage platform and expanded online and mobile capabilities.

All in all, solid performance on all dimensions tracking well against our turnaround plan. We ended the year with a good fourth quarter and we feel good about our trajectory as we head into 2016. In Q4 we achieved good loan growth, as well as good NII and fee growth.

We had expected to do even better, but the leverage credit markets became challenged during Q4, disrupting some of our capital markets pipeline. Hopefully that market will come back later in Q1.

Expenses increased modestly, given technology-related spend and $6 million of costs largely associated with our growth and efficiency initiatives. Additionally our credit provision grew by $15 million versus Q3 due to a reserve built. Earlier this year we had seen back-book improvements offset our reserve build tied to loan growth, but the back book is now so clean that we don't expect to see much of that continue.

The balance sheet remains robust with excellent capital from liquidity and funding position, and strong ratios and metrics. For the full year, highlights include 13% adjusted EPS growth, positive operating leverage of 3%, 8% average loan growth and tangible book value per share growth of 5%, all of which I might add compare very favorably with peers. Now I would like to turn it over to Eric to give a little more color on the financials. Eric?

Thanks Bruce, and good morning everyone. Since Bruce hit some of the highlights, let me direct you to a few pages in our slide deck for some color on Q4.

On slide 6, on an adjusted basis we grew EPS by 5% in the quarter and 8% from the fourth quarter of 2014. This included good operating leverage, with revenues up 4% and expenses up [but] 2%. We improved the efficiency ratio 135 basis points year over year.

On slide 9 you can see our NIM was up 1 basis points in the quarter. We've done a good job in growing our loan yields by adjusting our mix and risk appetite, and being disciplined on prices. We were also able to bring interest-bearing deposits costs down by 1 basis point this quarter. This is a real progress, as we sharpened our offerings and pricing strategies. We did lose 1 basis point given higher cash balances tied to some of the long-term funding we raised in the quarter and the effect of those borrowing costs.

Now on slide 10. Non-interest income was up $9 million in the quarter with momentum in both consumer and commercial service charges and fees, driven by progress in our treasury solutions initiatives and some seasonality. Capital markets fees were lower than expected, given the fixed income market disruption during the quarter. Securities gains ticked up a bit to offset this, along with lower other income. Recall that the third quarter included an $8 million branch sale gain.

Now on slide 11. As expected, our adjusted expenses were up linked quarter, given an increase in technology expense. This was driven by the impacted of our new backup data center coming online, along with the implementation of various technology and operations initiatives to improve offerings and drive future revenue growth. Outside of this growth, we held salaries and benefits costs flat.

We achieved good loan growth in both consumer and commercial during the fourth quarter, which you can see on pages 13 and 14. In consumer, growth was [paced] by continued expansion in mortgage and student. We also grew the other resale categories, which includes our unsecured iPhone finance product which generated $220 million in balances by year end. We continue to do a nice job of repointing our growth to higher return categories, and the yield in consumer expanded accordingly 4 basis points in the quarter.

We also saw nice growth in commercial. We grew commercial real estate loans, as client relationships added earlier in the year past their lines. We also continue to execute well to meet corporate, franchise finance and corporate finance, which help to mitigate some of the reductions in middle-market as borrowers there continue to reduce line utilization. In all our balance sheet measures on the next couple of pages we had strong than projected results, which you can see.

Next, I would like to take you to slide 18. Here we show how Citizens performed against guidance we gave back in January 2015. Overall, the results were largely in line. Balance sheet growth targets were achieved. And while revenue growth was a bit lower than expected, largely due to first half NIM compression, we were able to offset that with additional efforts on expenses and favorable credit.

On slide 19 we show our progress against our strategic initiatives. Most of this is tracking well. But let me call out a few of the challenges and tell you what we are doing bit about them.

In mortgage, our new Head, Chris Nard, has a clear plan focused on regaining operational excellence following our introduction of a new RESPA-TILA and [Klein] origination platform in Q4 last year, which caused a slowdown in our throughput and impacted net recruiting. We believe execution of this plan will position us for stronger 2016 in hiring, retention and productivity.

In wealth, under the new leadership of John Bahnken, we had a strong rebound in recruiting this quarter. And we see good hiring momentum as we enter 2016. We will continue to migrate towards a more fee-based model.

In asset finance, we are positioned -- we are repositioning this as a cross-sell product to our corporate customers in the wake of the lost of the RBS customer referrals. We saw some good progress in Q4.

All in all, we posted solid results again this quarter and for the year, and we continue to make good progress against our strategic initiatives, efficiency efforts and balance sheet repositioning. We are positioned well as we move into 2016. Back to you, Bruce.

Thanks, Eric. I would like to elevate a little, starting on slide 20, to focus on our goals in turning around Citizens. We aspire to be a top performing bank that delivers well for its stakeholders, with serving customers well at the heart of our culture.

On slide 21 we show some of the objectives we have within our plan. We made good progress in 2015, pretty much across the board, although there is still more to do. We are a work in progress.

On slide 22 you can see the financial targets that we laid out and the steady progress we're making in improving our results. With that as a backdrop, let's shift to our outlook on 2016, slide 23. The markets are off to a rough start so far, but our planning assumption is still for steady US GDP growth, solid loan demands and, say, one to two more rate hikes coming in July and possibly December.

To deliver strong performance, we have a few key objectives. We need to sustain robust loan growth and we need to keep NIM stable to trending up on an underlying basis. Rate hikes, if they come, will deliver additional benefit.

We need to drive our fee initiatives and we need to deliver better fee growth. And we will need to keep finding ways to constrain expense growth, given our planned and necessary investment in growth initiatives. If we do that well we will again deliver meaningful positive operating leverage that will cover a normalization of provision and it will drive good growth in earnings.

Of course, we want to continue to work down our capital surplus through loan growth, a higher dividend and share repurchases. Let's move on now to slide 25 and our guidance. Eric, back to you.

Here you can see fairly detailed ranges laid out for all key balance sheet and income statement growth measures. A few key items I'd call out. Loan growth of 6% to 8%. NII growth of 7% to 10%, with NIM improvement of 6 to 12 bps. The forward curve assumes rate hikes in July and December, which would help us get to the higher end of this range if they occur.

Fee growth up 5% to 7%. Expense growth of 2.5% to 3.5%, as our efficiency initiatives provided a greater offset to investment spending in 2015 than they will in 2016. Provision normalization in the $375 million to $425 million range. And a [SET] 1 ratio of 11.2% to 11.5%.

As an overall comment, we expect that we can achieve a better level of revenue growth in 2016 than 2015 due to better performance on NIM and on fees. This will cover a slightly higher expense growth and a modest bump from 4Q provision levels. We've laid out some useful details behind these growth rates on slides 38 to 40 in the appendix 2. Please take a look at your leisure.

On slide 39 for example, we detailed the impact to NII of the December 2015 rate hike, which is worth $40 million to $50 million, and the potential impact of two more in 2016 per the forward curve that we used at the time when we concluded our plan, which would be worth $30 million to $40 million. The bulk of this additional benefit is from the July 2016 hike, as there is minimal impact from a December 2016 hike in the forthcoming year. If we don't get any more hikes, we will have to pull harder on other NII levers and review expenses to find offsets. Also note that the cut on dividends on the Fed stock decreases NII by $17 million and costs us $0.02 a share.

We should also highlight that on slide 41 there is an accounting change per cards rewards that we made prospectively in 2016 which you will need to factor into your models. Our outlook for Q1 is shown on slide 26. Fairly straightforward overall, with some typical seasonal impacts to consider.

Let me turn it back to Bruce to wrap up.

Thanks, Eric. Citizens has a good plan to improve its performance. We are building things the right way to be sustainable for the long term while being mindful of our need to show improvement in our financials in the near term. We consider 2015 to have been successful year on all fronts. We will continue to stay focused on execution in 2016 in order to deliver another successful year.

With that, let's open it up for some questions. Brad?

Thank you, Mister Van Saun.

(Operator Instructions)

Ken Zerbe, Morgan Stanley.

Perfect. Thank you. Good morning, everyone.

Just starting off, because energy is such an important topic. I know your energy portfolio is very small, but can you comment on any potential weakness or anything that you've seen in that portfolio or any reserve builds that you had last quarter?

I would say the portfolios that would be most impacted by change in price levels would be two, the reserve-based lending portfolio and the oilfield services portfolio. The combined level of outstandings in those portfolios is about $700 million. So it's not very big in a book that is over $100 billion.

I would say we have relatively good diversification, so there is good granularity in terms of size of those credits. There is a little bit of migration going into classified, but it's nothing that we're seeing increased in NPAs or in anything that we have to really boost our reserve levels meaningfully at this point.

Okay, perfect. Another question on expenses.

The expense guidance, obviously, this quarter had higher outside services fees and tax spending. Is that the same main driver of expense growth going forward, or does that come down in other areas, kind of increase a little bit? Just wanted to understand the drivers.

There's a few moving parts there. And I will it Eric augment my comments. One of the things that we are doing is we are engaging in an outsourcing effort for our infrastructure support with IBM. And so you are seeing that line go up a bit. You'll see other expenses with an offset in salary and benefits as an offset. Until that is fully migrated, which should be complete by the end of the first quarter, there will be a little geography there.

In the long run that is designed to save us money. That is part of our top initiative. And I think that the migration is going reasonably well. There is also a little bit of seasonality there in outside services, so trying to get some projects across the line. We had a little bit of spike there. I'd say that was really the driver, Ken. Eric, I don't know if you want to add anything else?

I would just add that the equipment expense is partly the result of some of the spending that we've done to drive some of revenue growth that you've seen, whether it's on mobile, whether it's on some of the other functionality in treasury solutions and cash management, as well as some of the infrastructure. So you've got data center expenses coming through. Those are going to run at this level, maybe up little more. And that is part of why we need to keep finding offsets over time and why we have been very focused, for example, on headcount, which is actually down this quarter, and salaries and benefits generally.

All right, great. Thank you very much.

Matt O'Connor, Deutsche Bank.

Good morning. Can you give us an update on maybe your near- and longer-term ROE targets?

Sure. We are still putting that goalpost out there that the medium-term target is 10%. I think we will continue to make progress towards that in 2016. We've given you fairly comprehensive guidance, and you can work through that and see that there will be progress. The exit rate tends to be about 1% higher than the full-year rate, as the earlier analysis that we had shown you. And I think that still holds. We will make meaningful progress in 2016 and we will wait and see how 2017 plays out before we give any firmer guidance on that.

Just separately. What's the appetite for acquisitions, as you think maybe the near term? And then if there is not interest in the near term, what might be of interest longer term and what are you waiting for?

Sure. I think right now we are still a work in progress, as I said. There is plenty of opportunity for us to run the bank better and capitalize on areas where we see good revenue growth potential organically. That is what we're really focused on. I think it would be a mistake to get distracted and start running off and to do deals. I would not see us looking hard at things in 2016.

I think once the bank is running better and we've achieve some of that potential organically, then we can start to look at the possibility of some things. I think you would likely want to dip your toe in the water gradually before you went out did anything big. So maybe some bolt-ons in some of our fee-based activities, or maybe some little fill-ins in terms of smaller banks where they would fit nicely into our overall franchise. I think that is still a ways out, Matt.

Okay. That makes sense. Thank you.

Jill Shea, Credit Suisse.

Good morning.

Thanks for all the detailed guidance. I had a quick question related to the revenue guidance. Your NIM expectations for 2016 are up 6 to 12 basis points, assuming two more rate hikes. Can you talk about your revenue expectations and NII guidance if rates don't go higher from here?

What you should do is look back to page 39 in the slide deck, because it's laid out pretty explicitly there. Eric, I will turn it over to you. But I would just say that we're not that reliant on rate hikes in 2016. So when we finished the plan, we had used the forward curve, which had one in July and one in December. The one in December does not really help 2016. It's going to help 2017.

If the one in July happens, it's good for us. If it doesn't happen, we have a range there, that we were counting on $30 million to $40 million of benefit. And if that -- that is a manageable number. We will have to pull the levers harder on either earning assets growth or you can see right there, or loan mix on yields, or go back and look at expenses. Anyway, it would be a tailwind if it happens. It puts us closer to the higher end of the range, makes it easier, maybe gives us 1% if it happens. We'll have to make up that 1% somewhere else. Eric?

What I'd add is the plan just envisions the continuation of what you really saw last year with regard to loan growth and average earning asset growth, and then the stability we saw in NIM in the second half of the year. You actually saw that tic off a couple basis points from 2Q to 3Q, another basis point from 3Q to 4Q. The plan is pretty straightforward. We continue to grow loans, we grow average earning assets, and we hold NIM flattish to up a bit as we leg into some of that mix shift that you see us doing in particular on consumer.

And then what I would say is this past December hike, the one that was just a short while ago, literally a month ago, actually gives us a boost of 3 to 5 basis points. Why? Because LIBOR's pulled it up, commercial loans have started to reprice already. And that gives us a little bit of a tailwind. We have confidence that while there's good work to do, real work to do to continue on the pricing efforts, the mix and management efforts and the discipline, that the loan growth coupled with the NIM guardrails that we are on, plus a little bit of tailwind from that December hike, we should be able to continue to deliver good progress on NII growth in the coming year.

And you can see also, Jill, on the prior page we lay out how we -- what our growth rates were in 2015 compared to 2014 and then what we are assuming in 2016 compared to 2015. Really, there is no real stretches in there. I think we have demonstrated that we have been able to grow our earnings assets, as Eric said. We have, in the second half of the year, started to expand the NIM. And so we think that those are things that we can continue.

We had, when you strip out all of the noise in Chicago, we had maybe 4% fee growth, and we're thinking that we should be able to move that up, bump that up to 5% to 7%, given the investments that we've been making in the product, quality and service in our commercial offerings. For example, cash management and capital markets and global markets. And over in consumer, the additional sales force that we have been hiring in mortgage and wealth in particular. Anyway, there is no moon shots here. This is just really continuing to drive the execution that we have been so good at in 2015.

Okay, great. And then perhaps just turning to credit quality. Can you just talk about the increase in the commercial non-performer this quarter? And then perhaps more broadly, can you just talk about what you're seeing in terms of credit quality on both the commercial and the retail side? I realize you're starting from very low levels here, but could you just talk about your expectations about reserve builds from here, particularly given your strong loan growth expectation?

Let me start and then I will go first to Don to talk about the commercial matter and then Eric can chime in, as well. Our guidance range of $375 million to $425 million, if you consider that we were at $91 million in Q4, that would annualize to roughly $365 million. What happened in Q4 is that we continued with a steady level of NCOs around 31 bps. And then we started to build the provision tied to loan growth. Earlier in the year we had back-book clean up. So we were effectively having credits come through to offset that need to build the reserve. And so it was less pronounced earlier in the year.

We think that's pretty much run its course. So now what you would expect to see is very, very modest migration on the NCOs, but the need to keep building the reserve because we're going to have a decent level of loan growth that we're calling out here. So that's really what's driving that overall range. We don't see anything dramatic shifting in the consumer portfolios, maybe a little higher because our risk appetite has shifted.

In commercial we are keeping our eye, as we said, on energy. But nothing that's rattling us at this point. Nothing really broadly across the portfolio is migrating. So again, we feel quite good about this range that we are offering. Don, do you want to talk about (multiple speakers).

I would echo everything that Bruce said. I think as I look the entire portfolio, we continue to feel very good about it and it's highly diversified. We've got our eyes on oil and gas. And then described that. The slight tick in non-performers in the fourth quarter was one real estate situation which we have had our eyes on for several years. It just slipped into a non-performing status. It's been something we've been aware of. It's been reserved, and really has no overall impact on the credit quality of the broad book.

Yes, good. Eric, anything?

Just overall, NTLs were relatively steady in a range, $1.6 billion quarter, up from $1.35. So just up $25 million and within the range what we've seen. So clearly a place for us to be watchful and careful, but been in line with our expectations.

Okay. Thank you.

Thank you.

Scott Siefers, Sandler O'Neill.

Good morning. I think a follow-up on the prior question about levers to pull if the rate outlook becomes perhaps more flattish. I think specifically what I would be looking at is the following slide, slide 40, where you've got the 1% to 1.5% efficiency or variable. Eric, if you can just talk about what is already baked in there? I imagine that's top two related stuff in that 1% to 1.5%. And then should the rate outlook not pan out as the forward curve had suggested, where are maybe some places that you'd have additional leverage on the cost side that you would be thinking about, at least initially?

There's always opportunity. Just to share the big picture, we are continuing to invest in a disciplined way on expenses, on headcount at the front-end sale. We continue to need to spend some on technology. And you see that coming through. This past year we had that real effect of the top one program and part of the top two program coming through. And that showed you on page 40 a real sizable efficiency save.

I think as you look through next year, what we're starting to see is the continuation of the top two savings. I think we mapped that out in quite a bit of detail this past summer. There is at least 1 percentage point of savings that will come from that incremental to 2015. And so we have high confidence there.

I think beyond that, we are obviously disciplined as we go. So besides transforming operations and working on procurement, there's always the long list of opportunities that we focus on. We have done delayering in the past, but that doesn't mean that we don't go back and make sure that our headcount expansion is very disciplined on the front-end sale and continue to look at some of the middle office and back office personnel.

We're going to have to do that. And I think the easy part of that downdraft over and above top two is that if revenues don't come in certain areas, were it to be mortgages, for example, then you are not paying out commission. So that naturally falls to the bottom line. Beyond that, though, we're going to have to work hard and find areas to address. You can imagine. We don't put a budget like this together without having a list of three, four, five, six items that we are already working on and contingencies that we can pull if we don't see the economic activity that we would have anticipated.

I would just add -- Scott, it's Bruce, that top two was a little different in its composition than the first top program. We said that maybe 60% of the benefit was going to come from revenues and 40% on expenses. One of the reasons that we feel confident in our higher revenue outlook is that things like our checkup program and pricing initiatives and the like are giving us some momentum on the revenue front. You are going to see that, and that's a little bit of a difference.

We do have a commitment to continuous improvement. And so if there was a top one and there was a top two, you can speculate that there might be a top three coming down the road. That's the way we want to operate this place, is to constantly look to make sure we are running the bank better and that we are maximizing the utility of every expense and investment dollar that we have.

The last thing I would say is that if the rate hikes don't happen, it's not just an expense lever that we look to, as I said in the answer to Jill. There is also the other things back on page 39 in terms of can we drive a little more asset growth? Can we focus a little more on the mix to try to get the yield up? So, I think there's some embedded offsets potentially right in NII to compensate for that.

But yes, you are right. Expenses would clearly, if the stock market is saying, what are they saying? We don't know. It's not always a great leading indicator. But if revenue growth was a little hard to come by, you'd certainly have to go back and look at your expenses again.

Okay. That's terrific color. Thank you very much.

Sure.

Kevin Barker, Piper Jaffray.

Good morning. Thanks for taking my questions.

Within your guidance you have 6% to 8% loan growth next year. Could you speak to the drivers of that loan growth between whether it's portfolio purchases or organic growth? And then what mix of assets you expect to drive most of that growth?

I will start. In 2015 I think we were roughly 80% own originated and maybe 20% or so was purchased. That is really on the consumer side. It started out being more purchase of auto, and as we've ramped up our own capabilities in prime auto origination we have scaled back the auto purchases. We would still like the student space and we struck a relationship with SoFi. And so we now are purchasing some student loans and fewer auto loans.

I would expect to broadly see that, and over time we will just be opportunistic on purchases. As we keep playing offense and putting more originators out there we'll be able to fully whet our appetite on own originations. But for now we think we are getting some very high quality assets that really fit the profile of what we can do on our own and augment the growth rate a little bit.

Brad, maybe I could -- and I'd say the other thing is that we are pretty balanced in terms of the growth coming between consumer and commercial. You can see that in Q4. There's good balance between the opportunities in commercial and consumer. So we are growing on both sides. Maybe I'll flip it to Brad and then Don to quickly offer where they see the opportunities in their respective books.

Yes, Bruce. I think you did a very nice job of laying it out. I think one of the areas that we've seen a lot of growth in 2015 is in the student arena. And we're still very optimistic about that. There's good momentum in student. And we think that will be a driver of organic growth for us. You talked about it. We have slowed down the purchase of those [Sleusa] assets, so that is really more of a maintenance mode as opposed to growing, but we like the relationship with SoFi which will supplement the loan growth in student.

We expect to see some continued growth in mortgage. We have actually been in a position where our home equity portfolio has been going down a little bit in 2015. We are reaching that point of that is going to move back into the growth mode. So we had a very, very strong application and closing quarter in the fourth quarter in home equity, and we'll probably see -- it will be modest, I think, but we'll probably see some growth in home equity. The nice thing about those asset classes that we're talking about fueling the growth is they are contributing to our improving yields and [non-improving] margins.

Yes, exactly. And not to mention the Apple Lite which has very attractive earnings. Don?

On the commercial side we were very pleased with what we saw last year in our growth areas, which were real estate, industry verticals, mid-corporate and franchise finance. We saw solid double digit growth in all of those verticals while also keeping a good pricing discipline and a good credit discipline, which I think is the balancing act that we will continue to focus on in 2016.

In 2016 we expect to see some more growth in the middle market. We did quite a lot of hiring across our middle-market teams last year, and it's taken a little while for those new bankers to begin to ramp and begin to get traction. We expect to continue to see good growth where we saw it in 2015 and get a little bit of incremental growth out of our mid-market channels.

Overall we're expecting to grow slightly lower than 10% in terms of loan and interest growth. And the other thing we think we will see in 2016 is even more acceleration in the fee lines as we begin to take advantage of some of the investments that we've made around capital markets and treasury services in particular.

Great. Eric, anything to add?

No, that wraps it.

You mentioned the Apple program driving some growth. Could you speak to where you expect that to go over the next couple of quarters, given that you had $220 million on your balance sheet as of the fourth quarter? Then what your expectations are for a mix of yield compared to your other portfolio off of that program?

This is Brad.

As I think Eric mentioned in his comments, we ended the year at $220 million in balances, and you would expect to continue to see that to grow. I would tell you it's a little hard to pin down exactly where we see it going for a couple of reasons. We are actually somewhat limited in the scope of that initiative today in that it's available only in the Apple Store and it's only available for the current model. So there will be a few drivers that will dictate where that program goes. Do you expand that beyond just the Apple Store? Do you -- do they launch new products? Do you extend the program beyond just the current model phone and so forth?

I guess the way I would sum that up is, you would certainly expect to see volume, or one quarter of growth. We're one quarter in and we generated $220 million. So you're certainly going to see growth. There is some question as to how fast that growth will be, given some of those parameters. We're very pleased with the program. We think we provided a very good customer experience. Can't speak for Apple, but I think they would say the same, that they're very pleased with how the program is going so far. We are optimistic. It is a nice program and they're a nice asset for us in terms of yields and margins. So very attractive return for us.

To summarize that, I think the wildcards are when do they open the online offering beyond just the stores, which we're working through with them. And then when do they launch their new phones, which you would have to ask them.

Right, exactly.

(Laughter) Those are the things that could really spur an uptick. And then the thing we like about this too is that these loans generally have relatively high yields, and so not too dissimilar from credit card balances. And they don't have the same acquisition cost to us as credit card balances and growing a credit card book. It's a relatively efficient way for us to increase a nice higher yielding asset class.

At what point do you (multiple speakers) all right. Thank you.

John Pancari, Evercore.

Morning. Wanted to just dig in a little bit more into the commercial real estate portfolio. You put up some pretty good growth in the fourth quarter. Wanted to see if you could give us a little bit around your thoughts on your ability to continue to grow that? I know that is still a notably undersized portfolio for you at Citizens. And also I know the spreads in that business are getting incredibly thin. So where do you see the opportunities within commercial real estate to grow?

I will have Don answer that one.

We have had a portfolio historically which has been largely the REIT portfolio, which has generally been lower margins than our overall real estate book right now. A couple of years ago we began to move into the construction lending business, which is higher margins. So we have seen our margins in real estate on a blended basis go up, and we expect to continue to see that. As I think Eric mentioned, we've done a lot of business over the last two or three years with very targeted sponsors and very targeted NSAs on the construction side. And we've only just started the fund a lot of that.

There some embedded growth in the book that we expect to see just as projects mature and we begin to fund up commitments that we have made already. We think we can grow the construction business at between a little over 10% as we move into 2016. We're seeing good flows. I expect the REIT business to stay roughly flattish, and that is the lower margin business. I think you'll see blended growth of slightly under 10% and margin uptick as we roll through 2016.

I think as you mentioned margin, we are cognizant of where we might be in the real estate cycle. It's been a very, very strong market for the last several years. We are not saying that the positive dynamics are changing. We don't really see the terms changing, but we're keeping an eye on that as we go into 2016 and we will be disciplined based on what we see the marketplace doing.

Okay, that's helpful. And on that same general point, can you help us with and give us the average new loan yield that you're seeing on new production in some of your main portfolios, including commercial real estate, but as well as in your other loan portfolios in commercial and consumer?

Let me give you that directionally. But it's a -- the loan yields on new production actually move around quite a bit quarter by quarter. Let me give you some directional information. If you think about some of the core portfolios that we have, I think we said previously, and I will reemphasize that as we've grown in industry verticals, middle-market and franchise finance, we tend to put yields on that are higher than the portfolio to the tune of 30 to 40 basis points. It moves around quite a bit by quarter, but you get good benefit there that actually average up your yields. And that's actually been part of the reason why we've been able to held yields steady in commercial. You also get a bit of an uptick in asset finance. That's worth 10 basis points over the average portfolio.

And then the areas where you get a less, commercial real estate you get a little less, 10 basis points. But I think we -- for the right risk return we feel like there's good economics there. And something like mid-corporate, which we've not emphasized as much because it tends to be higher grade clients, you get a demerit of 30 to 40 basis points in your loan origination, but more cross-sell. A bigger wallet into which to cross-sell.

So there's kind of a mix of facts, and that's in a way the texture that we use as the management team we guide, where do we want to emphasize, how much do we want to invest in these different areas. Don mentioned some of the hiring in middle-market, an obvious place for us to hire and to continue to strengthen because of that 30 to 40 basis point lift that we get and the cross-sell that comes with that, whether it's the positives or cash management. That is kind of part of the toolset and the specificity at which we are carefully driving growth, margin, and getting the NIM to where we'd like it to be.

And Brad, just on the consumer side, the rough gross yield's roughly 5% on student? Want to run through the -- couple of those relationships?

Yes, you bet. We're in about a 50/50 mix on student between fixed and variables. Our variable yields on student would be somewhere in the 4% to 5% range. Of course, it's risk-based price. On the fixed side would be somewhere in the 6% to 8% range. It's a little higher on the in-school program as opposed to the refi program, because that's a little bit higher quality asset. So more like 6% on refi, more like 8% on the in-school program. So that's what contributing to yield improvement for us as we grow the student business. We would be in the mid-3% on auto. And it's a variable rate product, obviously. The HELOC's would be in the low 30%s in terms of gross yield.

Okay, great. Thank you for all the detail.

Vivek Juneja, JPMorgan.

I have a couple of questions. First for Eric. Number one, a couple of shorter-term, near-term ones. It sounds like the consumer agreement on auto loans, are you still buying loans from them or just reduced sharply, and where does that stand? Any color on that?

I will start, and Brad, if you want to add color. We are buying at a rate of around 750 million would be our target for 2016. We would -- and that yield runs a little bit into the first half of 2017. That's what -- where we are at.

That's right. We did $200 million in purchases in the --

Fourth quarter.

Down from the third quarter, and that's probably the range that we'll be in. Maybe a little less.

Certainly with the near term, just the progress [puffs] given the December rate hikes, have you seen any change in the rates that you're paying or your competitors or -- and flows?

Vivek, it's Eric. Let me take that. As expected, the first hike has not resulted in a lot of movement in rates. That was the speculation everyone had, which is the Fed moves and there is all sorts of shift. Let me decompose for you. On the retail side there's literally been no movement. There's actually been a few downticks in a few geographies, and obviously we look at everything. We look at every geography, every city. We are looking at the online players and we are looking at the community banks.

It's actually been very, very quiet there. That gives us some confidence that the betas that we've been talking about are sound. And as you recall, the betas are kind of over-the-cycle betas. So the beta on retail is going to be quite low for the first rate hike for the first couple of quarters. That, I think, bodes well for us.

On the commercial side there's always the jawboning, because commercial clients have their loans repricing on LIBOR and some of them come back on deposits. Obviously that's the business we are in. I think there wasn't much change in December with what you saw. A little bit in January. I think as you see the months play through February and March we will have some amount of uptick. It could be a little bit, but you are talking a handful of basis points on that side.

As we look at it, we actually have some confidence we will deliver good deposit pricing in the first quarter with some nice corresponding uptick on loan yield because those on the commercial side (multiple speakers) LIBOR --

That's a big driver for the 5 basis points higher NIM guide in the first quarter.

Okay, great. Terrific. I have a longer-term question looking at your guidance. Your non-interest income guidance, I wanted to clarify the rates that you've given, the 5% to 7%. Firstly, does it -- is it based on reported loan interest income which includes security gains? And secondly, you had a very strong quarter on non-interest income in the fourth quarter. Given that, only 5% to 7% growth. Are you assuming still soft capital markets? Is that's what's keeping it low? Could you talk it, give a little bit more color on that, on those two?

First off, in the base I think there is an element of securities gains, which I think will continue. I think we will from time to time be making repositioning decisions in the portfolio. And if we cough up $5 million or $10 million here and there, that's, I think, ongoing income that we would expect to see. So yes. The non-interest in guidance covers the whole category.

When we strip out some of those one-timers like the impact of Chicago, we think we grew about 4% last year and the 5%, 7% growth guidance is really, where do you get the uptick? I think you look for the uptick with a rebound in capital markets. Hopefully that market stabilizes and the leverage credit markets, and that won't be a drag the way it was in Q4.

We are building out our product capabilities. As we have moved away from RBS, we've had to add our own capabilities and we were sharing some of those dollars with RBS, and now those dollars go 100% to us. When we get our broker/dealers set up and when we move off onto our own FX and derivatives platform there is additional revenue opportunities that come from that. We've invested in the cash management business and are doing a better job of cross-selling. We've gone out and hired more sales resources to get better penetration of our whole products set. We see some good upside on the commercial side.

Similarly on consumer, if we can get the mortgage business going, and I would say we took a little pause here in the fourth quarter as we had to move and focus on our system and the RESPA TILA compliance, I think that bodes well and will provide some lift. And then wealth: we are very under-penetrated in wealth. And I think we had a great recruiting quarter in Q4. We brought in 12 FCs, best quarter we have had in a long, long time. Coincidentally or not, we have a new Head of Wealth who we have high hopes for. So in both mortgage and wealth we have new leadership. I think both have hit the ground running.

I think it's a bit across the board. Yes, you're right. It would be great if we could exceed 5% to 7%, but I think fees in general in the industry have been a little sluggish in the environment. And so I think we are just being measured, and hopefully that is a range that we can step up from 4% and get into that 5% to 7%. Eric, you want to add anything?

I'd just add that the anchor on fees is the first line. Service charges and fees, which is cash management. It follows service charges on deposits, overdrafts and card fees and so forth. It's the core of what we do. That service charge and fee line is over 40% of our total fees. That was up 2% full year, but up 8% year over year this quarter.

Why? Because some of those fee increases that we talked about as part of top two are starting to play through. And so I think we have some confidence that can anchor the fee growth of 5% to 7%. Then given that's 40% of the fee line, and then some of the other areas that Bruce covered, I think are the areas where we are really driving hard on and we will update you as we go during the year.

Thank you.

David Eads, UBS.

Hi. Good morning. On that last point on the service fees, can you talk -- obviously you're pretty good progress there. Can you talk about how much of that was related to commercial fees versus retail? And then what inning you think you are and how much more opportunity there is from the repricing and resetting up the contracts on the commercial deposit side?

Let me start there, and for some texture Don might weigh in. I think the way to look at that is that there is probably order of magnitude around $5 million, $6 million of increase that we saw there from the fee repricing in cash management. And that covered cash management on the commercial side, as well as some of what we do on cash management on the consumer side, followed by a just little bit of uptick in seasonality 3Q to 4Q. That is the kind of the anchor point, that $5 million to $6 million off.

Now, that wasn't there in the first three quarters of this year, but it should flow three through consistently for four quarters next year. That is the basis. Is there little more in that fee increase besides the $5 million to $6 million? There's probably a little more, but I think we've seen the bulk of it. Now we are back at parity levels with fees. We're not trying to exceed, we are just trying to catch up for not having repriced in four or five years. We feel like we are at a good point with our clients and with the value that we offer.

Eric, the only thing I would add, this is Don, is we're seeing with some of the sales hires that we made, particularly on the transaction banking side, good momentum and actually incremental business away from price increases. The challenge there is it's long lead times in terms of clients moving their business from one bank to another due to the technology. And then it's a question of rate of ramp of actual utilization.

I would say our momentum on winning business is ahead of the revenue progression. That will be incremental for 2016. We're just unsure as to exactly the speed of it.

I think commercial is a real opportunity. As we've said, we are under-penetrated in terms of the product set and extent of cross-sell that we have. I guess, Brad, in your world, we are trying to grow households. And so that's going to create a little bit of tailwind. And then also better penetration in business banking, I guess would be the other area.

We do get some of the benefit of the price increases in business banking as well. And you're right, we're driving some of the growth to improve households, which are up about 2%.

Great. Thanks for all of that color. And then maybe Eric, if you could touch a little bit more on the deposit environment, and what is in the effort you guys have done and where you think the opportunities are to grow deposits? And also with an eye to keeping pricing as flat as possible.

Let me describe deposits this way, because there's work we do on the retail side, work we do the commercial side, and then there's kind of in-depth in each one. I think in retail -- let me actually do this. The top of the house. The top of the house, we have actually had a focus on increasing over the last couple of months and quarters, leading with non-price-driven offers. Really focusing on that core DDA and what we call checking with interest, which is really checking with a low amount of interest. We've been doing that on the commercial side, on the consumer side, whether that's the cash management product which is a low ECR. And that's actually been growing nicely.

If you look at the statistics for DDA and checking with interest on the balance sheet, those are up 2% quarter on quarter, 6% year on year. You can actually go back and you can see DDA's been up for the last three quarters in a row. Checking with interest, the last four quarters in a row. So we're seeing the kind of engagement with clients in a non-price-driven way that we like. Now, we need to keep doing that and that needs to be an ongoing focus, and part of what you've heard about the cash management investments, the functionality, part of what we continue to do on consumer rollout revise and improve value propositions to really draw clients in. That's what I would call the heart of what we do on deposits.

I think the other part of the deposit question, there's always a little bit of price-oriented deposits out there. We, like any bank, take those. Why? Because they're from our clients. Our clients are already funding with us. The issue is, how do you do that in a disciplined way? In commercial, with Don arriving, we have gone back to some of the large pools of deposits we put on post the Chicago divestiture a year ago. Those were effectively promotional deposits. And back in September after the Fed didn't go. Remember in December the Fed didn't go. That was a natural time for us to take this off of those old promotional rates. Then obviously we managed through a little bit of attrition, but then we reset and can grow off of a comfortable level. That's what we've really done in commercial. Then emphasized the work that the sales force needs to do on a cross-sell basis in that segment in a myriad of ways that probably are too long to describe here.

On the retail side, we do something similar. We're quite disciplined region by region. And with Brad's team, we are there thinking about where are there opportunities to continue what we do on money market? As you can see, we pulled back on CDs, much like the rest of the industry does and has been doing. And I think that's been fruitful. All told, I think the real nice performance across the funds on interest-bearing deposits' down a bit, was great to see. We'd obviously will keep pushing on that front.

Brad, do you want to add some color?

Just one point I was going to add, which is I think one of the biggest opportunities we have on the consumer side is in the wealth space. We talk a lot about our investment in wealth and that growing our fee business, which it well. If we look at our opportunities on the deposit side, probably our biggest opportunity is penetration of low interest or non-interest-bearing deposits with our wealth customers. And we're working on a new value proposition in the deposit checking product for our wealth customers that we will be rolling out midyear. And we think that's a very big opportunity for us.

Great.

Just out of curiosity, do you have meaningful wealth management deposits at this point, or is that a new opportunity?

I would say we do have -- obviously we have wealth deposits. But I would say against our peers we're under-penetrated and it is an opportunity that we can capitalize on.

Great. Thank you.

Erika Najarian, Bank of America.

Just one follow-up question. I understand that we don't have the CCAR parameters yet, but given where your stock is trading relative to tangible book, Bruce, what is your appetite in terms of maximizing your ask relative to what you think your earnings power is going to be over the next year or two?

We will go through the process, and I think our guidance of an 11.2% to 11.5% says that we are still going to be, I'd say, moderate in our appetite as opposed to all-out aggressive. Part of that reason is having a capital surplus that we are using to fund loan growth that is not -- our ROE today is not high enough to fund that level of loan growth.

I want to make sure that we're taking full advantage of the opportunities to add customers and grow the franchise. And it's good have a little bit of cushion there in the overall capital ratios while -- until -- and that helps feed our ROE. It's kind of a circle. If we get our ROE up, then we don't need as much of a surplus.

I would say over time we are clearly looking to get back to the pack. So if our peers are running at 10% or 10.5%, there's no reason we shouldn't run where the peers are running. Once we are fully operating the way we want operate and our returns are where we want them to be, I think we do look at the opportunity to buy back stock and where it's trading, and it is attractive here, we think. And so that will be factored into our thinking. I wanted to give you the guardrails are we are coming down on a gradual glide path, and it's somewhat also dictated by how fast we can get the ROE up and generate more capital, and then we don't need that cushion.

Got it. Thank you.

David Darst, Guggenheim Securities.

Good morning. I think you've covered most everything, but what would be some of the areas of concern that you could have this year and where you would pull back and leave you at the low end of your loan growth guidance?

At this point we still see I think good demand in housing. There will be a little less refi than last year, but the purchase market seems pretty firm. Auto seems still to be going very strong, and there's certainly a need for student debt refinancing. I think the drivers on the consumer side look pretty solid to us.

The one wild-card is what happens with the Apple iPhone upgrade. We could get a wildcard there that hopefully is a positive surprise, because I think we are being moderate in terms of how we are looking at that.

On a commercial side, really there would be more cyclicality would be the concern as if the stock market is presaging concern over a slowdown and therefore corporate CEOs and CFOs decide to pull back a little bit on investing or on line utilization. Then that could have an impact. But maybe Don, you want to add (multiple speakers).

I think that's right. I think for me the loan growth, it's all about the economy. We still continue to think the US economy looks pretty good. Jobs look good. So are anticipating a decent year in terms of growth. And I think it really comes down to loan demand based on commodity levels and economic activities. I don't think that there will be any other variable that would cause us to say we would pull back.

I think the one thing, if you look at that NII walk, obviously we don't know if the two rate hikes happen, and it's not a huge impact. I feel quite good about our ability to deliver at the earning asset growth, unless somehow the economy really falls out of bed. But so far that is not our view. We don't think that's going to happen. That column feels very solid.

The thing that's been our challenge, and we spent a lot of time on this call talking about it, is how can we make sure that we are improving our asset yields and then growing deposits cost effectively? I think it took us a little while to really establish a rhythm on that. The good news is, if you look at the second half of last year, in 2015 we actually moved the NIM up by five basis points.

I think we are doing a better job at that. Some of that I will give credit to the guy on my right here, Eric, for really driving that and spear-heading that. That's the thing that we really have to focus on. We can't have any leakage. So last year if we grew loans at 7% and we grew NII at 4%, we have to -- if we grow loans at 7% I want to grow NII 7%-plus. If we can do that, I think that is really powerful in terms of the operating leverage that will deliver.

Great, okay. Thank you.

Matt Burnell, Wells Fargo Securities

Good morning. Thanks for taking my questions. Just a couple of very quick follow-ups. You've mentioned your exposure to energy, or at least specific the higher risk areas of energy. I just want to confirm, as you've said in the past, the total energy portfolio remains below 1% of your loan book?

The total energy portfolio, I think it's about $1.6 billion in terms of outstanding. So it's below 2%.

Okay, thank you. And then just following up on the last set of the questions, you mentioned that corporate confidence is really the big risk in your outlook for commercial lending. It also sounds as if you've not heard that from your conversations with your borrowers at this point. So that the downturn in the markets over the past couple of weeks really hasn't filtered through to your borrowers' sense of confidence at this point, correct?

I think that's correct. Obviously anybody who's dependent upon on a high yield market or the institutional loan market is on the sidelines right now, because they are effectively closed. One of the things we have heard, and we just published our fifth annual M&A survey for mid-market companies, is an expectation across our client base that M&A activity could be quite interesting in this year and the next year, just as people struggle a little bit with top-line growth and look to supplement their businesses. There is a desire to grow and a desire to transact out there. We are hearing a solid message of expansion among our clients. That could either be through combination or it could be through organic growth.

And just combining those two questions. How much of the capital markets' revenue activity is energy-related? I guess the question is, is there potential for further headwind in the capital markets business coming from $25 oil rather than what it averaged over 2015?

We have very, very little in our historic or our pipeline around energy. Most of our energy activity is in regular way lending, asset-based lending, and the like.

Great. Thanks for taking my questions.

Geoffrey Elliott, Autonomous Research.

Thank you for taking the question. Maybe one that it makes sense for Don to take. When you've been through commercial credit cycles in the past, what are the earlier indicators that you have seen which have started to kind of flash red before the broader portfolios start to deteriorate, and how are those performing this time around?

I think the way I'd answer that is we go through a -- in my past, and certainly now, we go through a rigorous review of our portfolios on a continuous basis with our portfolio management teams and rerate those credits based on financial performance, covenant compliance and a whole variety of different things. We obviously did that through 2015 and have seen very modest deterioration in credit grade. That is usually your early signal they you start to see, people missing covenants and people having financial deterioration.

The other thing in my past has been, what really tends to hurt institutions is concentrations. We do have a very rigorous concentration management system. And I think one of the interesting things that I see at Citizens is the just core diversification in the portfolio, given that's a mid-market lending activity predominantly is very, very great, both on a geographic basis, on an industry basis and on an individual credit basis. I think there's a little bit of hedge in the overall portfolio also. We would look for credit deterioration, the terms of credit grades. We would look at any concentrations in the industries that are troubled as things that would flash early to us. And we're not seeing them to any extent at this moment.

Brad, I think given the time here, we probably have time for one more question.

Ken Usdin, Jefferies.

Thanks. Good morning, everyone. Two quick ones. First of all, on the expense guide for the year, does the growth contemplate the [DIF] assessment, and if it does, can you just help us understand how much that is as a part of it?

On the what assessment? I'm sorry, Ken.

The deposit insurance assessment.

We have a base case in our forecast and we haven't -- I don't think it's settled out yet as to what the amount the big banks will pay and the timing on that. Yes, we are working off the base case.

It's in the base case. You have it in your expense outlook?

We are operating on a continuum of where we have been historically without an increase at this point because it's not certain the timing and the amount of that increase.

If it were to get formalized, you would then have to add that to your forecast?

That's correct.

Okay, understood. Second question. Eric, you had done some good work with restructuring some of the long-term debt. And I just wanted to ask you, what opportunities do you continue to have there? And also in the original debt-for-stock swap, preferred-for-stock swap, what are your plans this year as you look ahead to that original $250 million? So in aggregate, what opportunities do you still have to lower the wholesale funding cost side?

I think on wholesale funding, we have done some substantive adjustments actually over the last 1.5 years, 2 years really, when it comes to swap portfolio debt. I think what you've seen in the announcement was the sub-debt repurchase, which is anticipated in this summer, obviously predicated on the CCAR [ask] the $500 million of the old RBS-owned sub-debt would be retired and that would obviously help with our funding cost.

I think that's actually the rest of the program. We obviously need to leg into a little bit of senior debt, but we can issue a mix of fixed and float and three-year and five-year, plus we -- that would be modest in size. I think the last part of that equation, which is really lent out of our treasury area, is how do you continue to position the firm carefully around rates and take advantage when rates pop up a little bit and manage around the curve. And we will keep doing that

Ken, I'd say the thing that presents an opportunity is we have this right to repurchase $500 million of RBS' sub-debt. And depending on where rates are at the time, if we can refinance that with senior, which there'll be a spread differential, the sub-debt versus the senior. If we can chisel it down, the amount of it that we have in the stack, obviously there is a full coupon saving on that. We are working on that. We are studying that. We have to consider that in our CCAR request. There is, I think, some potential upside there relative to our outlook and our guidance.

Right, okay. That is not contemplated in your guidance either. Okay, got it. Thank you.

Thank you all for dialing in today and for participating in the call. We feel that we finished the year strong and we feel we're well positioned as we look out into 2016. Thank you. And have a good day.

Thank you. That does conclude our conference for today. Thanks for your participation. You may now disconnect.