Document
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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
____________________________________
FORM 10-Q
____________________________________
ý QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the quarterly period ended September 30, 2016
OR
¨ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from              to             
Commission File No. 1-13300
____________________________________
CAPITAL ONE FINANCIAL CORPORATION
(Exact name of registrant as specified in its charter) 
____________________________________
Delaware
 
54-1719854
(State or Other Jurisdiction of Incorporation or Organization)
 
(I.R.S. Employer Identification No.)
1680 Capital One Drive,
McLean, Virginia
 
22102
(Address of Principal Executive Offices)
 
(Zip Code)
Registrant’s telephone number, including area code: (703) 720-1000
(Former name, former address and former fiscal year, if changed since last report)
(Not applicable)
____________________________________
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.   Yes ý  No ¨
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate website, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes ý No ¨
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer
 
ý
  
Accelerated filer
 
¨
Non-accelerated filer
 
¨
  
Smaller reporting company
 
¨
Indicate by check mark whether the registrant is a Shell Company (as defined in Rule 12b-2 of the Exchange Act) Yes ¨ No ý
As of October 31, 2016, there were 482,301,385 shares of the registrant’s Common Stock outstanding.

______________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________________


TABLE OF CONTENTS
 
 
Page
 
 
 
 
 
 
 
Note 1—Summary of Significant Accounting Policies
 
Note 2—Discontinued Operations
 
Note 3—Investment Securities
 
Note 4—Loans
 
Note 5—Allowance for Loan and Lease Losses and Reserve for Unfunded Lending Commitments
 
Note 6—Variable Interest Entities and Securitizations
 
Note 7—Goodwill and Intangible Assets
 
Note 8—Deposits and Borrowings
 
Note 9—Derivative Instruments and Hedging Activities
 
Note 10—Stockholders’ Equity
 
Note 11—Earnings Per Common Share
 
Note 12—Fair Value Measurement
 
Note 13—Business Segments
 
Note 14—Commitments, Contingencies, Guarantees and Others
Item 2.
 
 
Summary of Selected Financial Data
 
Executive Summary and Business Outlook
 
 
 
Consolidated Results of Operations
 
Business Segment Financial Performance
 
Consolidated Balance Sheets Analysis
 
 
Capital Management
 
Risk Management
 
Credit Risk Profile
 
Liquidity Risk Profile
 
Market Risk Profile
 
Supervision and Regulation
 
 
Supplemental Table
 
Glossary and Acronyms

 
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Capital One Financial Corporation (COF)

Item 3.
Item 4.
 
 
 
Item 1.
Item 1A.
Item 2.
Item 3.
Item 4.
Item 5.
Item 6.
 
 
 

 
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Capital One Financial Corporation (COF)

INDEX OF MD&A AND SUPPLEMENTAL TABLES
MD&A Tables:
Page
1
Consolidated Financial Highlights
2
Business Segment Results
3
Average Balances, Net Interest Income and Net Interest Margin
4
Rate/Volume Analysis of Net Interest Income
5
Non-Interest Income
6
Non-Interest Expense
7
Credit Card Business Results
7.1
Domestic Card Business Results
7.2
International Card Business Results
8
Consumer Banking Business Results
9
Commercial Banking Business Results
10
Other Category Results
11
Investment Securities
12
Non-Agency Investment Securities Credit Ratings
13
Loans Held for Investment
14
Changes in Representation and Warranty Reserve
15
Capital Ratios under Basel III
16
Estimated Common Equity Tier 1 Capital Ratio under Fully Phased-In Basel III Standardized Approach
17
Loans Held for Investment Portfolio Composition
18
Commercial Loans by Industry
19
Home Loans—Risk Profile by Lien Priority
20
Sensitivity Analysis—PCI Home Loans
21
Credit Score Distribution
22
30+ Day Delinquencies
23
Aging and Geography of 30+ Day Delinquent Loans
24
90+ Day Delinquent Loans Accruing Interest
25
Nonperforming Loans and Other Nonperforming Assets
26
Net Charge-Offs (Recoveries)
27
Troubled Debt Restructurings
28
Allowance for Loan and Lease Losses and Reserve for Unfunded Lending Commitments Activity
29
Allowance Coverage Ratios
30
Liquidity Reserves
31
Deposit Composition and Average Deposit Rates
32
Contractual Maturity Profile of Outstanding Long-Term Debt
33
Senior Unsecured Long-Term Debt Credit Ratings
34
Interest Rate Sensitivity Analysis
 
 
 
Supplemental Table:
 
A
Reconciliation of Non-GAAP Measures and Calculation of Regulatory Capital Measures

 
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PART I—FINANCIAL INFORMATION
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations (“MD&A”)

This discussion contains forward-looking statements that are based upon management’s current expectations and are subject to significant uncertainties and changes in circumstances. Please review “MD&A—Forward-Looking Statements” for more information on the forward-looking statements in this Quarterly Report on Form 10-Q (“this Report”). Our actual results may differ materially from those included in these forward-looking statements due to a variety of factors including, but not limited to, those described in “Part II—Item 1A. Risk Factors” in this Report and in “Part I—Item 1A. Risk Factors” in our 2015 Annual Report on Form 10-K (“2015 Form 10-K”). Unless otherwise specified, references to notes to our consolidated financial statements refer to the notes to our unaudited consolidated financial statements as of September 30, 2016 included in this Report.
 
Management monitors a variety of key indicators to evaluate our business results and financial condition. The following MD&A is provided as a supplement to, and should be read in conjunction with, our unaudited consolidated financial statements and related notes in this Report and the more detailed information contained in our 2015 Form 10-K.
INTRODUCTION
We are a diversified financial services holding company with banking and non-banking subsidiaries. Capital One Financial Corporation and its subsidiaries (the “Company”) offer a broad array of financial products and services to consumers, small businesses and commercial clients through branches, the internet and other distribution channels. As of September 30, 2016, our principal subsidiaries included:
•
Capital One Bank (USA), National Association (“COBNA”), which offers credit and debit card products, other lending products and deposit products; and
•
Capital One, National Association (“CONA”), which offers a broad spectrum of banking products and financial services to consumers, small businesses and commercial clients.
The Company is hereafter collectively referred to as “we,” “us” or “our.” COBNA and CONA are collectively referred to as the “Banks.” Certain business terms used in this document are defined in the “MD&A—Glossary and Acronyms” and should be read in conjunction with the consolidated financial statements included in this Report.
Our consolidated total net revenues are derived primarily from lending to consumer and commercial customers net of funding costs associated with interest on deposits, short-term borrowings and long-term debt. We also earn non-interest income which primarily consists of interchange income net of rewards expenses and service charges and other customer-related fees. Our expenses primarily consist of the provision for credit losses, operating expenses, marketing expenses and income taxes.
Our principal operations are currently organized for management reporting purposes into three major business segments, which are defined based on the products and services provided or the type of customer served: Credit Card, Consumer Banking and Commercial Banking. The operations of acquired businesses have been integrated into our existing business segments. Certain activities that are not part of a segment, such as management of our corporate investment portfolio and asset/liability management by our centralized Corporate Treasury group, are included in the Other category.
•
Credit Card: Consists of our domestic consumer and small business card lending, national closed-end installment lending and the international card lending businesses in Canada and the United Kingdom (“U.K.”).
•
Consumer Banking: Consists of our branch-based lending and deposit gathering activities for consumers and small businesses, national deposit gathering, auto lending and consumer home loan lending and servicing activities.
•
Commercial Banking: Consists of our lending, deposit gathering and servicing activities provided to commercial real estate and commercial and industrial customers. Our commercial and industrial customers typically include companies with annual revenues between $10 million and $1 billion.

 
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Capital One Financial Corporation (COF)

Table of Contents

Recent Acquisitions and Dispositions
We regularly explore and evaluate opportunities to acquire financial services and financial assets, including credit card and other loan portfolios, and enter into strategic partnerships as part of our growth strategy. We also explore opportunities to acquire digital companies and related assets to improve our information technology infrastructure and to deliver on our digital strategy. We also regularly consider the potential disposition of certain of our assets, branches, partnership agreements or lines of businesses. We may issue equity or debt in connection with acquisitions, including public offerings, to fund such acquisitions.
On October 3, 2016, we announced that we have entered into a 10-year program agreement to become the exclusive issuing partner of co-branded credit cards to Cabela’s customers. In connection with this credit card program, we have entered into a definitive agreement under which we will acquire the credit card operations from Cabela’s, including approximately $5.2 billion in credit card receivables and other assets and approximately $5.0 billion in associated funding liabilities. This transaction is subject to the satisfaction of customary closing conditions, including receipt of various regulatory approvals and the approval of the stockholders of Cabela’s. In determining whether to approve the proposed acquisition, the Office of the Comptroller of the Currency (“OCC”) will consider, among other factors, the convenience and needs of the communities we serve and our effectiveness in combating money laundering, including the acceptability to the OCC of our progress in addressing the requirements of the consent order with the OCC that we previously disclosed in our Quarterly Report on Form 10-Q for the quarterly period ended June 30, 2015. We cannot be certain when or if, or on what terms and conditions, required regulatory approvals will be granted to complete the acquisition.
On December 1, 2015, we completed the acquisition of the Healthcare Financial Services business of General Electric Capital Corporation (“HFS acquisition”). During the second quarter of 2016, we finalized purchase accounting for the HFS acquisition, and recognized approximately $9.2 billion in assets, including $8.2 billion of loans. See “Note 1—Summary of Significant Accounting Policies” of this Report and “Note 2—Business Developments” in our 2015 Form 10-K for additional information.
We had no significant acquisitions or dispositions in the first nine months of 2016.

 
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SUMMARY OF SELECTED FINANCIAL DATA
The following table presents selected consolidated financial data from our results of operations for the third quarter and first nine months of 2016 and 2015 and selected comparative balance sheet data as of September 30, 2016 and December 31, 2015. We also provide selected key metrics we use in evaluating our performance including certain metrics that are computed using non-GAAP measures. We believe these non-GAAP metrics provide useful insight to investors and users of our financial information in assessing the results of the Company.
Table 1: Consolidated Financial Highlights
 
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
(Dollars in millions, except per share data and as noted)
 
2016
 
2015
 
Change
 
2016
 
2015
 
Change
Income statement
 
 
 
 
 
 
 
 
 
 
 
 
Net interest income
 
$
5,277

 
$
4,760

 
11%

 
$
15,426

 
$
13,873

 
11%

Non-interest income
 
1,184

 
1,140

 
4

 
3,509

 
3,346

 
5

Total net revenue
 
6,461

 
5,900

 
10

 
18,935

 
17,219

 
10

Provision for credit losses
 
1,588

 
1,092

 
45

 
4,707

 
3,156

 
49

Non-interest expense:
 
 
 
 
 


 
 
 
 
 


Marketing
 
393

 
418

 
(6
)
 
1,236

 
1,180

 
5

Amortization of intangibles
 
89

 
106

 
(16
)
 
285

 
327

 
(13
)
Operating expenses
 
2,879

 
2,636

 
9

 
8,358

 
8,009

 
4

Total non-interest expense
 
3,361

 
3,160

 
6

 
9,879

 
9,516

 
4

Income from continuing operations before income taxes
 
1,512

 
1,648

 
(8
)
 
4,349

 
4,547

 
(4
)
Income tax provision
 
496

 
530

 
(6
)
 
1,372

 
1,443

 
(5
)
Income from continuing operations, net of tax
 
1,016

 
1,118

 
(9
)
 
2,977

 
3,104

 
(4
)
Income (loss) from discontinued operations, net of tax
 
(11
)
 
(4
)
 
175

 
(17
)
 
26

 
**

Net income
 
1,005

 
1,114

 
(10
)
 
2,960

 
3,130

 
(5
)
Dividends and undistributed earnings allocated to participating securities
 
(6
)
 
(6
)
 
—

 
(18
)
 
(16
)
 
13

Preferred stock dividends
 
(37
)
 
(29
)
 
28

 
(139
)
 
(90
)
 
54

Net income available to common stockholders
 
$
962

 
$
1,079

 
(11
)
 
$
2,803

 
$
3,024

 
(7
)
Common share statistics
 
 

 
 

 
 

 
 
 
 
 
 

Basic earnings per common share:
 
 
 
 
 
 
 
 
 
 
 
 
Net income from continuing operations
 
$
1.94

 
$
2.01

 
(3)%

 
$
5.50

 
$
5.49

 
—

Income (loss) from discontinued operations
 
(0.02
)
 
(0.01
)
 
**

 
(0.03
)
 
0.05

 
**

Net income per basic common share
 
$
1.92

 
$
2.00

 
(4
)
 
$
5.47

 
$
5.54

 
(1)%

Diluted earnings per common share:
 
 
 
 
 


 
 
 
 
 


Net income from continuing operations
 
$
1.92

 
$
1.99

 
(4
)
 
$
5.45

 
$
5.43

 
—

Income (loss) from discontinued operations
 
(0.02
)
 
(0.01
)
 
**

 
(0.03
)
 
0.05

 
**

Net income per diluted common share
 
$
1.90

 
$
1.98

 
(4
)
 
$
5.42

 
$
5.48

 
(1
)
Weighted-average common shares outstanding (in millions):
 
 
 
 
 
 
 
 
 
 
 
 
Basic
 
501.1

 
540.6

 
(7)%

 
512.0

 
545.5

 
(6)%

Diluted
 
505.9

 
546.3

 
(7
)
 
516.8

 
551.9

 
(6
)
Common shares outstanding (period-end, in millions)
 
489.2

 
534.9

 
(9
)
 
489.2

 
534.9

 
(9
)
Dividends paid per common share
 
$
0.40

 
$
0.40

 
—

 
$
1.20

 
$
1.10

 
9

Tangible book value per common share (period-end)(1)
 
59.00

 
54.66

 
8

 
59.00

 
54.66

 
8

Balance sheet (average balances)
 
 
 
 
 
 
 
 
 
 
 
 
Loans held for investment
 
$
235,843

 
$
211,227

 
12%

 
$
231,004

 
$
207,608

 
11%

Interest-earning assets
 
310,987

 
283,082

 
10

 
304,423

 
279,388

 
9

Total assets
 
343,153

 
313,822

 
9

 
336,539

 
310,146

 
9

Interest-bearing deposits
 
196,913

 
185,800

 
6

 
195,565

 
184,258

 
6

Total deposits
 
222,251

 
210,974

 
5

 
220,864

 
209,334

 
6

Borrowings
 
60,708

 
45,070

 
35

 
56,292

 
44,264

 
27

Common equity
 
45,314

 
45,407

 
—

 
45,578

 
44,956

 
1

Total stockholders’ equity
 
49,033

 
48,456

 
1

 
49,015

 
47,376

 
3


 
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Three Months Ended September 30,
 
Nine Months Ended September 30,
(Dollars in millions, except per share data and as noted)
 
2016
 
2015
 
Change
 
2016
 
2015
 
Change
Selected performance metrics
 
 

 
 

 
 

 
 
 
 
 
 

Purchase volume(2)
 
$
78,106

 
$
69,875

 
12%

 
$
224,314

 
$
195,817

 
15%

Total net revenue margin(3)
 
8.31%

 
8.34%

 
(3
)bps
 
8.29%

 
8.22%

 
7
bps
Net interest margin(4)
 
6.79

 
6.73

 
6

 
6.76

 
6.62

 
14

Return on average assets
 
1.18

 
1.43

 
(25
)
 
1.18

 
1.33

 
(15
)
Return on average tangible assets(5)
 
1.24

 
1.50

 
(26
)
 
1.24

 
1.40

 
(16
)
Return on average common equity(6)
 
8.59

 
9.54

 
(95
)
 
8.25

 
8.89

 
(64
)
Return on average tangible common equity (“TCE”)(7)
 
13.06

 
14.33

 
(127
)
 
12.54

 
13.46

 
(92
)
Equity-to-assets ratio(8)
 
14.29

 
15.44

 
(115
)
 
14.56

 
15.28

 
(72
)
Non-interest expense as a percentage of average loans held for investment(9)
 
5.70

 
5.98

 
(28
)
 
5.70

 
6.11

 
(41
)
Efficiency ratio(10)
 
52.02

 
53.56

 
(154
)
 
52.17

 
55.26

 
(309
)
Effective income tax rate from continuing operations
 
32.8

 
32.2

 
60

 
31.5

 
31.7

 
(20
)
Net charge-offs
 
$
1,240

 
$
890

 
39%

 
$
3,573

 
$
2,617

 
37%

Net charge-off rate(11)
 
2.10%

 
1.69%

 
41
bps
 
2.06%

 
1.68%

 
38
bps
(Dollars in millions, except as noted)

September 30,
2016
 
December 31,
2015
 
Change
Balance sheet (period-end)
 
 
 
 
 
 
Loans held for investment
 
$
238,019

 
$
229,851

 
4%

Interest-earning assets
 
313,431

 
302,007

 
4

Total assets
 
345,061

 
334,048

 
3

Interest-bearing deposits
 
200,416

 
191,874

 
4

Total deposits
 
225,981

 
217,721

 
4

Borrowings
 
59,820

 
59,115

 
1

Common equity
 
44,336

 
43,990

 
1

Total stockholders’ equity
 
48,213

 
47,284

 
2

Credit quality metrics
 
 
 
 
 


Allowance for loan and lease losses
 
$
6,258

 
$
5,130

 
22%

Allowance as a percentage of loans held for investment (“allowance coverage ratio”)
 
2.63%

 
2.23%

 
40
bps
30+ day performing delinquency rate
 
2.71

 
2.69

 
2

30+ day delinquency rate
 
3.04

 
3.00

 
4

Capital ratios
 
 

 
 
 


Common equity Tier 1 capital(12)
 
10.6%

 
11.1%

 
(50
)bps
Tier 1 capital(12)
 
12.0

 
12.4

 
(40
)
Total capital(12)
 
14.7

 
14.6

 
10

Tier 1 leverage(12)
 
10.1

 
10.6

 
(50
)
Tangible common equity(13)
 
8.8

 
8.9

 
(10
)
Supplementary leverage(12)
 
8.7

 
9.2

 
(50
)
Other
 
 
 
 
 


Employees (period end, in thousands)
 
46.5

 
45.4

 
2%

__________
(1) 
Tangible book value per common share is a non-GAAP measure calculated based on tangible common equity divided by common shares outstanding. See “MD&A—Table A — Reconciliation of Non-GAAP Measures and Calculation of Regulatory Capital Measures” for additional information on non-GAAP measures.
(2) 
Includes credit card purchase transactions, net of returns, for the period for both loans classified as held for investment and loans classified as held for sale. Excludes cash advance and balance transfer transactions.
(3) 
Calculated based on annualized total net revenue for the period divided by average interest-earning assets for the period.
(4) 
Calculated based on annualized net interest income for the period divided by average interest-earning assets for the period.
(5) 
Return on average tangible assets is a non-GAAP measure calculated based on annualized income from continuing operations, net of tax, for the period divided by average tangible assets for the period. See “MD&A—Table A—Reconciliation of Non-GAAP Measures and Calculation of Regulatory Capital Measures” for additional information on non-GAAP measures.
(6) 
Calculated based on the annualized sum of (i) income from continuing operations, net of tax; (ii) less dividends and undistributed earnings allocated to participating securities; (iii) less preferred stock dividends, for the period, divided by average common equity. Our calculation of return on average common equity may not be comparable to similarly titled measures reported by other companies.

 
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(7) 
Return on average tangible common equity is a non-GAAP measure calculated based on the annualized sum of (i) income from continuing operations, net of tax; (ii) less dividends and undistributed earnings allocated to participating securities; (iii) less preferred stock dividends, for the period, divided by average TCE. Our calculation of return on average TCE may not be comparable to similarly titled measures reported by other companies. See “MD&A—Table A—Reconciliation of Non-GAAP Measures and Calculation of Regulatory Capital Measures” for additional information on non-GAAP measures.
(8) 
Calculated based on average stockholders’ equity for the period divided by average total assets for the period.
(9) 
Calculated based on annualized non-interest expense for the period divided by average loans held for investment for the period.
(10) 
Calculated based on non-interest expense for the period divided by total net revenue for the period.
(11) 
Calculated based on annualized net charge-offs for the period divided by average loans held for investment for the period.
(12) 
Capital ratios are calculated based on the Basel III Standardized Approach framework, subject to applicable transition provision. See “MD&A—Capital Management” for additional information.
(13) 
Tangible common equity ratio is a non-GAAP measure calculated based on TCE divided by tangible assets. See “MD&A—Table A—Reconciliation of Non-GAAP Measures and Calculation of Regulatory Capital Measures” for the calculation of this measure and reconciliation to the comparative U.S. GAAP measure.
**
Change is not meaningful.

 
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EXECUTIVE SUMMARY AND BUSINESS OUTLOOK
We reported net income of $1.0 billion ($1.90 per diluted common share) on total net revenue of $6.5 billion and net income of $3.0 billion ($5.42 per diluted common share) on total net revenue of $18.9 billion for the third quarter and first nine months of 2016, respectively. In comparison, we reported net income of $1.1 billion ($1.98 per diluted common share) on total net revenue of $5.9 billion and net income of $3.1 billion ($5.48 per diluted common share) on total net revenue of $17.2 billion for the third quarter and first nine months of 2015, respectively.
Our common equity Tier 1 capital ratio as calculated under the Basel III Standardized Approach including transition provisions was 10.6% and 11.1% as of September 30, 2016 and December 31, 2015, respectively. See “MD&A—Capital Management” below for additional information.
On June 29, 2016, we announced that our Board of Directors authorized the repurchase of up to $2.5 billion of shares of our common stock (“2016 Stock Repurchase Program”) from the third quarter of 2016 through the end of the second quarter of 2017. Through the end of the third quarter of 2016, we repurchased approximately $1.2 billion of common stock as part of the 2016 Stock Repurchase Program and expect to complete the 2016 Stock Repurchase Program by the end of the second quarter of 2017. See “MD&A—Capital Management” below for additional information.
Below are additional highlights of our performance in the third quarter and first nine months of 2016. These highlights are generally based on a comparison between the results of the third quarter and first nine months of 2016 and 2015, except as otherwise noted. The changes in our financial condition and credit performance are generally based on our financial condition and credit performance as of September 30, 2016 compared to our financial condition and credit performance as of December 31, 2015. We provide a more detailed discussion of our financial performance in the sections following this “Executive Summary and Business Outlook.”
Total Company Performance
•
Earnings: Our net income decreased by $109 million to $1.0 billion in the third quarter of 2016, compared to the third quarter of 2015, and decreased by $170 million to $3.0 billion in the first nine months of 2016, compared to the first nine months of 2015. The decreases were primarily due to (i) higher provision for credit losses driven by higher charge-offs in our credit card, taxi medallion, and oil and gas lending portfolios, as well as a larger allowance build in our credit card loan portfolio; and (ii) higher operating expenses associated with loan growth and continued investments in technology and infrastructure. These higher expenses were partially offset by (i) higher interest income due to growth in our credit card and commercial loan portfolios; and (ii) higher non-interest income attributable to higher net interchange fees driven by higher purchase volume, partially offset by lower service charges and other customer-related fees primarily due to the exit of our legacy payment protection products in our Domestic Card business during the first quarter of 2016.
•
Loans Held for Investment: Loans held for investment increased by $8.2 billion to $238.0 billion as of September 30, 2016 from December 31, 2015 primarily driven by growth in our auto, commercial and credit card loan portfolios, partially offset by the planned run-off of our acquired home loan portfolio and seasonal paydowns in our credit card loan portfolio. Average loans held for investment increased by $24.6 billion to $235.8 billion in the third quarter of 2016 compared to the third quarter of 2015, and increased by $23.4 billion to $231.0 billion in the first nine months of 2016 compared to the first nine months of 2015, primarily driven by continued growth in our commercial, credit card and auto loan portfolios, including loans acquired from the HFS acquisition, partially offset by the planned run-off of our acquired home loan portfolio.
•
Net Charge-Off and Delinquency Metrics: Our net charge-off rate increased by 41 basis points to 2.10% in the third quarter of 2016 compared to the third quarter of 2015, and increased by 38 basis points to 2.06% in the first nine months of 2016 compared to the first nine months of 2015, primarily due to growth and seasoning of recent credit card loan originations and rising losses in our taxi medallion and oil and gas lending portfolios within our Commercial Banking business. Our 30+ day delinquency rate increased by 4 basis points to 3.04% as of September 30, 2016 from December 31, 2015, primarily due to higher delinquencies resulting from recent growth and seasoning of credit card loan originations, partially offset by continued growth in our domestic card and auto loan portfolios. We provide additional information on our credit quality metrics below under “MD&A—Business Segment Financial Performance” and “MD&A —Credit Risk Profile.”

 
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•
Allowance for Loan and Lease Losses: Our allowance for loan and lease losses increased by $1.1 billion to $6.3 billion as of September 30, 2016 from December 31, 2015, and the allowance coverage ratio increased by 40 basis points to 2.63% as of September 30, 2016 from December 31, 2015. The increases were primarily driven by (i) a higher domestic card allowance due to continued portfolio growth, the effects of growth and subprime mix, and slightly higher expected credit losses in 2017 for portions of our credit card portfolio collectively leading to an increased overall loss rate; (ii) continued adverse industry conditions impacting our taxi medallion and oil and gas lending portfolios in our Commercial Banking business; and (iii) continued auto loan growth and the effects of growth leading to an increased overall loss rate.

 
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Business Segment Financial Performance
Table 2 summarizes our business segment results, which we report based on revenue and income from continuing operations, net of tax, for the third quarter and first nine months of 2016 and 2015. We provide information on the allocation methodologies used to derive our business segment results in “Note 20—Business Segments” in our 2015 Form 10-K. We also provide a reconciliation of our total business segment results to our consolidated generally accepted accounting principles in the United States of America (“U.S. GAAP”) results in “Note 13—Business Segments” of this Report.

Table 2: Business Segment Results

 
 
Three Months Ended September 30,
 
 
2016
 
2015
 
 
Total Net
Revenue (Loss)(1)
 
Net Income (Loss)(2)
 
Total Net
Revenue (Loss)(1)
 
Net Income (Loss)(2)
(Dollars in millions)
 
Amount
 
% of
Total
 
Amount
 
% of
Total
 
Amount
 
% of
Total
 
Amount
 
% of
Total
Credit Card
 
$
4,029

 
62%
 
$
555

 
54%
 
$
3,724

 
63%

 
$
670

 
60%
Consumer Banking
 
1,673

 
26
 
244

 
24
 
1,617

 
27

 
273

 
25
Commercial Banking(3)
 
711

 
11
 
191

 
19
 
562

 
10

 
137

 
12
Other(4)
 
48

 
1
 
26

 
3
 
(3
)
 
—

 
38

 
3
Total
 
$
6,461

 
100%
 
$
1,016

 
100%
 
$
5,900

 
100%

 
$
1,118

 
100%

 
 
Nine Months Ended September 30,
 
 
2016
 
2015
 
 
Total Net
Revenue (Loss)(1)
 
Net Income (Loss)(2)
 
Total Net
Revenue (Loss)(1)
 
Net Income (Loss)(2)
(Dollars in millions)
 
Amount
 
% of
Total
 
Amount
 
% of
Total
 
Amount
 
% of
Total
 
Amount
 
% of
Total
Credit Card
 
$
11,813

 
62%
 
$
1,648

 
56%
 
$
10,684

 
62%

 
$
1,801

 
58%
Consumer Banking
 
4,898

 
26
 
750

 
25
 
4,849

 
28

 
830

 
27
Commercial Banking(3)
 
2,054

 
11
 
396

 
13
 
1,726

 
10

 
464

 
15
Other(4)
 
170

 
1
 
183

 
6
 
(40
)
 
—

 
9

 
—
Total
 
$
18,935

 
100%
 
$
2,977

 
100%
 
$
17,219

 
100%

 
$
3,104

 
100%
__________
(1) 
Total net revenue (loss) consists of net interest income and non-interest income.
(2) 
Net income (loss) for our business segments and the Other category is based on income (loss) from continuing operations, net of tax.
(3) 
Some of our tax-related commercial investments generate tax-exempt income or tax credits. Accordingly, we make certain reclassifications within our Commercial Banking business results to present revenues and yields on a taxable-equivalent basis, calculated assuming an effective tax rate approximately equal to our federal statutory tax rate of 35% with offsetting reclassifications to the Other category.
(4) 
Includes the residual impact of the allocation of our centralized Corporate Treasury group activities, unallocated corporate expenses that do not directly support the operations of the business segments and other items as described in “Note 20—Business Segments” in our 2015 Form 10-K.
Credit Card: Our Credit Card business generated net income from continuing operations of $555 million and $1.6 billion in the third quarter and first nine months of 2016, respectively, compared to net income from continuing operations of $670 million and $1.8 billion in the third quarter and first nine months of 2015, respectively. The decreases in net income were primarily due to (i) higher provision for credit losses driven by higher charge-offs due to continued loan growth and portfolio seasoning, and a larger allowance build due to continued portfolio growth, the effects of growth and subprime mix, and slightly higher expected credit losses in 2017 for portions of our credit card portfolio collectively leading to an increased overall loss rate; (ii) higher operating expenses associated with loan growth as well as continuing digital investments; and (iii) lower service charges and other customer-related fees primarily due to the exit of our legacy payment protection products in our Domestic Card business during the first quarter of 2016. These drivers were partially offset by higher net interest income primarily driven by loan growth, and an increase in interchange fees driven by higher purchase volume, net of rewards expense from the continued expansion of our rewards franchise and adjustments to our customer rewards liability. Period-end loans held for investment increased by $3.1 billion to $99.2 billion as of September 30, 2016 from December 31, 2015, primarily due to continued loan growth in our Domestic Card business.

 
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Consumer Banking: Our Consumer Banking business generated net income from continuing operations of $244 million and $750 million in the third quarter and first nine months of 2016, respectively, compared to net income from continuing operations of $273 million and $830 million in the third quarter and first nine months of 2015, respectively. The decreases in net income were primarily attributable to (i) higher provision for credit losses primarily driven by a larger allowance build in our auto loan portfolio due to continued loan growth, as well as higher charge-offs; and (ii) higher operating expenses driven by growth in our auto loan portfolio and increased marketing expenses. These drivers were partially offset by higher revenue primarily attributable to growth in our auto loan portfolio. Period-end loans held for investment increased by $1.9 billion to $72.3 billion as of September 30, 2016 from December 31, 2015, driven by growth in our auto loan portfolio, partially offset by the planned run-off of our acquired home loan portfolio.
Commercial Banking: Our Commercial Banking business generated net income from continuing operations of $191 million and $396 million in the third quarter and first nine months of 2016, respectively, compared to net income from continuing operations of $137 million and $464 million in the third quarter and first nine months of 2015, respectively. The increase in net income in the third quarter of 2016 was primarily attributable to (i) higher revenue driven by loan growth, including loans acquired in the HFS acquisition; and (ii) lower provision for credit losses primarily driven by lower exposure reducing our reserve for unfunded lending commitments, while higher charge-offs in our taxi medallion and oil and gas lending portfolios drove a corresponding allowance reduction. These were partially offset by higher operating expenses due to costs associated with the HFS acquisition and continued growth in our Commercial Banking business. The decrease in net income in the first nine months of 2016 was primarily attributable to (i) higher provision for credit losses due to higher charge-offs and a larger allowance build, both a result of continued adverse industry conditions impacting our taxi medallion and oil and gas lending portfolios; and (ii) higher operating expenses due to costs associated with the HFS acquisition and continued growth in our Commercial Banking business. These expenses were partially offset by higher net interest income driven by loan growth, including loans acquired in the HFS acquisition. Period-end loans held for investment increased by $3.2 billion to $66.5 billion as of September 30, 2016 from December 31, 2015, driven by growth in our commercial loan portfolios.
Business Outlook
We discuss below our current expectations regarding our total company performance and the performance of each of our business segments over the near-term based on market conditions, the regulatory environment and our business strategies as of the time we filed this Report. The statements contained in this section are based on our current expectations regarding our outlook for our financial results and business strategies. Our expectations take into account, and should be read in conjunction with, our expectations regarding economic trends and analysis of our business as discussed in “Part I—Item 1. Business” and “MD&A” in our 2015 Form 10-K. Certain statements are forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Actual results could differ materially from those in our forward-looking statements. Except as otherwise disclosed, forward-looking statements do not reflect (i) any change in current dividend or repurchase strategies; (ii) the effect of any acquisitions, divestitures or similar transactions that have not been previously disclosed; or (iii) any changes in laws, regulations or regulatory interpretations, in each case after the date as of which such statements are made. See “MD&A—Forward-Looking Statements” in this Report for more information on the forward-looking statements included in this Report and “Part I—Item 1A. Risk Factors” in our 2015 Form 10-K for factors that could materially influence our results.
Total Company Expectations
We believe we are positioned to deliver attractive shareholder returns over the long term, driven by growth and sustainable returns at the higher end of banks, as well as significant capital distribution, subject to regulatory approval.
We have improved efficiency by growing revenues and tightly managing costs across the company, realizing analog cost savings and other efficiency gains as we become more digital. Even with the expected significant seasonal increase in non-interest expenses in the fourth quarter, we expect that our full-year 2016 efficiency ratio, excluding adjusting items, will be substantially lower than full-year 2015. We expect that our near-term annual efficiency ratio, excluding adjusting items, will be in the 52%s, with a reasonable margin of volatility. Over the longer term, we continue to believe that we should achieve gradual efficiency improvement, driven by growth and productivity gains.
Changing customer needs and preferences in our retail deposit businesses are driving changes to the function, format and number of our branches. Like many banks, we have been optimizing the format and number of our branches to better meet our evolving customer needs. Year-to-date, we have recognized approximately $106 million of the $160 million in expected costs for 2016. The majority of these costs appear in the “Other” category. We expect bank optimization costs to continue in 2017.

 
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We believe our actions have created a well-positioned balance sheet with strong capital and liquidity. Pursuant to our approved 2016 capital plan, our board has authorized repurchases of up to $2.5 billion of common stock through the end of the second quarter of 2017. We reduced our net share count by 17 million shares in the third quarter of 2016. The timing and exact amount of any common stock repurchases will depend on various factors, including market conditions, opportunities for growth, utilizing Rule 10b5-1 programs, and may be suspended at any time. See “MD&A—Capital Management—Dividend Policy and Stock Purchases” for more information.
Business Segment Expectations
Credit Card: In our Domestic Card business, we expect the full-year 2016 charge-off rate to be around 4.15%. We expect the full-year 2017 charge-off rate will be in the mid-four percent range, with quarterly seasonal variability. Loan growth coupled with our expectations for a rising charge-off rate drove an allowance build in the current quarter, and we expect these same factors to drive allowance additions going forward. The impact of the upward pressure on delinquencies and charge-offs as new loans season and become a larger portion of our overall portfolio is expected to peak in 2016 and have a diminishing effect in 2017 and only a modest effect beyond that.
Consumer Banking: In our Consumer Banking business, we expect that decreasing margins and modestly rising charge-offs in the auto finance business, as well as continued planned mortgage run-off in our acquired home loan portfolio will negatively affect Consumer Banking revenues, efficiency ratio and net income, even as we continue to tightly manage costs.
Commercial Banking: We have experienced increases in average loans and average deposits year-over-year in our Commercial Banking business. Credit pressures continue to be focused in our oil and gas and taxi medallion lending portfolios.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
The preparation of financial statements in accordance with U.S. GAAP requires management to make a number of judgments, estimates and assumptions that affect the amount of assets, liabilities, income and expenses on the consolidated financial statements. Understanding our accounting policies and the extent to which we use management judgment and estimates in applying these policies is integral to understanding our financial statements. We provide a summary of our significant accounting policies under “Note 1—Summary of Significant Accounting Policies” in our 2015 Form 10-K.
We have identified the following accounting policies as critical because they require significant judgments and assumptions about highly complex and inherently uncertain matters and the use of reasonably different estimates and assumptions could have a material impact on our results of operations or financial condition. These critical accounting policies govern:
•
Loan loss reserves
•
Asset impairment
•
Fair value of financial instruments
•
Representation and warranty reserves
•
Customer rewards reserves
We evaluate our critical accounting estimates and judgments on an ongoing basis and update them, as necessary, based on changing conditions. Management has discussed our critical accounting policies and estimates with the Audit Committee of the Board of Directors. There have been no changes to our critical accounting policies and estimates since the 2015 Form 10-K.
We provide additional information on our critical accounting policies and estimates under “MD&A—Critical Accounting Policies and Estimates” in our 2015 Form 10-K.
ACCOUNTING CHANGES AND DEVELOPMENTS
See “Note 1—Summary of Significant Accounting Policies” for information on accounting standards adopted in 2016, as well as recently issued accounting standards not yet required to be adopted and the expected impact of these changes in accounting standards.

 
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CONSOLIDATED RESULTS OF OPERATIONS
The section below provides a comparative discussion of our consolidated financial performance for the third quarter and first nine months of 2016 and 2015. Following this section, we provide a discussion of our business segment results. You should read this section together with our “MD&A—Executive Summary and Business Outlook,” where we discuss trends and other factors that we expect will affect our future results of operations.
Net Interest Income
Net interest income represents the difference between the interest income, including certain fees, earned on our interest-earning assets and the interest expense on our interest-bearing liabilities. Interest-earning assets include loans, investment securities and other interest-earning assets and interest-bearing liabilities include interest-bearing deposits, securitized debt obligations, senior and subordinated notes, and other borrowings. Generally, we include in interest income any past due fees on loans that we deem collectible. Our net interest margin, based on our consolidated results, represents the difference between the yield on our interest-earning assets and the cost of our interest-bearing liabilities, including the notional impact of non-interest-bearing funding. We expect net interest income and our net interest margin to fluctuate based on changes in interest rates and changes in the amount and composition of our interest-earning assets and interest-bearing liabilities.

 
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Table 3 below presents, for each major category of our interest-earning assets and interest-bearing liabilities, the average outstanding balances, interest income earned, interest expense incurred, average yield and rate for the third quarter and first nine months of 2016 and 2015.
Table 3: Average Balances, Net Interest Income and Net Interest Margin
 
 
Three Months Ended September 30,
 
 
2016
 
2015
(Dollars in millions)
 
Average
Balance
 
Interest
Income/
Expense(1)(2)
 
Average Yield/
Rate(2)
 
Average
Balance
 
Interest
Income/
Expense(1)(2)
 
Average Yield/
Rate(2)
Assets:
 
 
 
 
 
 
 
 
 
 
 
 
Interest-earning assets:
 
 
 
 
 
 
 
 
 
 
 
 
Loans:
 
 
 
 
 
 
 
 
 
 
 
 
Credit card:
 
 
 
 
 
 
 
 
 
 
 
 
Domestic credit card
 
$
89,754

 
$
3,302

 
14.72%
 
$
80,678

 
$
2,884

 
14.30%

International credit card
 
8,252

 
296

 
14.35
 
8,048

 
299

 
14.86

Total credit card
 
98,006

 
3,598

 
14.68
 
88,726

 
3,183

 
14.35

Consumer banking
 
71,957

 
1,150

 
6.39
 
71,374

 
1,113

 
6.24

Commercial banking(3)
 
67,028

 
584

 
3.49
 
51,879

 
416

 
3.21

Other
 
76

 
51

 
268.42
 
97

 
41

 
169.07

Total loans, including loans held for sale
 
237,067

 
5,383

 
9.08
 
212,076

 
4,753

 
8.96

Investment securities
 
66,291

 
386

 
2.33
 
63,541

 
386

 
2.43

Cash equivalents and other interest-earning assets
 
7,629

 
25

 
1.31
 
7,465

 
25

 
1.34

Total interest-earning assets
 
310,987

 
5,794

 
7.45
 
283,082

 
$
5,164

 
7.30

Cash and due from banks
 
3,182

 
 
 
 
 
2,907

 
 
 
 
Allowance for loan and lease losses
 
(5,883
)
 
 
 
 
 
(4,671
)
 
 
 
 
Premises and equipment, net
 
3,655

 
 
 
 
 
3,698

 
 
 
 
Other assets
 
31,212

 
 
 
 
 
28,806

 
 
 
 
Total assets
 
$
343,153

 
 
 
 
 
$
313,822

 
 
 
 
Liabilities and stockholders’ equity:
 
 
 
 
 
 
 
 
 
 
 
 
Interest-bearing liabilities:
 
 
 
 
 
 
 
 
 
 
 
 
Deposits
 
$
196,913

 
$
306

 
0.62
 
$
185,800

 
$
271

 
0.58

Securitized debt obligations
 
17,389

 
56

 
1.29
 
14,881

 
39

 
1.05

Senior and subordinated notes
 
22,342

 
121

 
2.17
 
20,806

 
82

 
1.58

Other borrowings and liabilities
 
21,840

 
34

 
0.62
 
10,114

 
12

 
0.47

Total interest-bearing liabilities
 
258,484

 
517

 
0.80
 
$
231,601

 
$
404

 
0.70

Non-interest-bearing deposits
 
25,338

 
 
 
 
 
25,174

 
 
 
 
Other liabilities
 
10,298

 
 
 
 
 
8,591

 
 
 
 
Total liabilities
 
294,120

 
 
 
 
 
265,366

 
 
 
 
Stockholders’ equity
 
49,033

 
 
 
 
 
48,456

 
 
 
 
Total liabilities and stockholders’ equity
 
$
343,153

 
 
 
 
 
$
313,822

 
 
 
 
Net interest income/spread
 
$
5,277

 
6.65
 
 
 
$
4,760

 
6.60

Impact of non-interest-bearing funding
 
0.14
 
 
 
 
 
0.13

Net interest margin
 
6.79%
 
 
 
 
 
6.73
%

 
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Nine Months Ended September 30,
 
 
2016
 
2015
(Dollars in millions)
 
Average
Balance
 
Interest
Income/
Expense(1)(2)
 
Average Yield/
Rate(2)
 
Average
Balance
 
Interest
Income/
Expense(1)(2)
 
Average Yield/
Rate(2)
Assets:
 
 
 
 
 
 
 
 
 
 
 
 
Interest-earning assets:
 
 
 
 
 
 
 
 
 
 
 
 
Loans:
 
 
 
 
 
 
 
 
 
 
 
 
Credit card:
 
 
 
 
 
 
 
 
 
 
 
 
Domestic credit card
 
$
87,026

 
$
9,468

 
14.51%
 
$
77,235

 
$
8,191

 
14.14%

International credit card
 
8,164

 
943

 
15.40
 
7,946

 
876

 
14.70

Total credit card
 
95,190

 
10,411

 
14.58
 
85,181

 
9,067

 
14.19

Consumer banking
 
71,192

 
3,354

 
6.28
 
71,528

 
3,354

 
6.25

Commercial banking(3)
 
65,600

 
1,691

 
3.44
 
51,631

 
1,250

 
3.23

Other
 
82

 
160

 
260.16
 
104

 
153

 
196.15

Total loans, including loans held for sale
 
232,064

 
15,616

 
8.97
 
208,444

 
13,824

 
8.84

Investment securities
 
65,735

 
1,206

 
2.45
 
63,500

 
1,174

 
2.47

Cash equivalents and other interest-earning assets
 
6,624

 
60

 
1.21
 
7,444

 
77

 
1.38

Total interest-earning assets
 
304,423

 
16,882

 
7.39
 
279,388

 
15,075

 
7.19

Cash and due from banks
 
3,222

 
 
 
 
 
2,928

 
 
 
 
Allowance for loan and lease losses
 
(5,481
)
 
 
 
 
 
(4,485
)
 
 
 
 
Premises and equipment, net
 
3,647

 
 
 
 
 
3,704

 
 
 
 
Other assets
 
30,728

 
 
 
 
 
28,611

 
 
 
 
Total assets
 
$
336,539

 
 
 
 
 
$
310,146

 
 
 
 
Liabilities and stockholders’ equity:
 
 
 
 
 
 
 
 
 
 
 
 
Interest-bearing liabilities:
 
 
 
 
 
 
 
 
 
 
 
 
Deposits
 
$
195,565

 
$
881

 
0.60
 
$
184,258

 
$
814

 
0.59

Securitized debt obligations
 
15,997

 
151

 
1.26
 
13,233

 
108

 
1.09

Senior and subordinated notes
 
22,019

 
338

 
2.05
 
20,580

 
241

 
1.56

Other borrowings and liabilities
 
19,099

 
86

 
0.60
 
11,214

 
39

 
0.46

Total interest-bearing liabilities
 
252,680

 
1,456

 
0.77
 
229,285

 
1,202

 
0.70

Non-interest-bearing deposits
 
25,299

 
 
 
 
 
25,076

 
 
 
 
Other liabilities
 
9,545

 
 
 
 
 
8,409

 
 
 
 
Total liabilities
 
287,524

 
 
 
 
 
262,770

 
 
 
 
Stockholders’ equity
 
49,015

 
 
 
 
 
47,376

 
 
 
 
Total liabilities and stockholders’ equity
 
$
336,539

 
 
 
 
 
$
310,146

 
 
 
 
Net interest income/spread
 
$
15,426

 
6.62
 
 
 
$
13,873

 
6.49

Impact of non-interest-bearing funding
 
0.14
 
 
 
 
 
0.13

Net interest margin
 
6.76%
 
 
 
 
 
6.62
%
__________
(1)  
Past due fees included in interest income totaled approximately $390 million and $1.1 billion in the third quarter and first nine months of 2016, respectively, and $373 million and $1.1 billion in the third quarter and first nine months of 2015, respectively.
(2) 
Interest income and interest expense and the calculation of average yields on interest-earning assets and average rates on interest-bearing liabilities include the impact of hedge accounting.
(3) 
Some of our tax-related commercial investments generate tax-exempt income or tax credits. Accordingly, we make certain reclassifications within our Commercial Banking business results to present revenues and yields on a taxable-equivalent basis, calculated assuming an effective tax rate approximately equal to our federal statutory rate of 35% with offsetting reclassifications to the Other category.

 
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Net interest income increased by $517 million to $5.3 billion in the third quarter of 2016 compared to the third quarter of 2015, and increased by $1.6 billion to $15.4 billion in the first nine months of 2016 compared to the first nine months of 2015, primarily driven by growth in our credit card and commercial loan portfolios, including loans acquired from the HFS acquisition. Net interest margin increased by 6 basis points to 6.79% in the third quarter of 2016 and increased by 14 basis points to 6.76% in the first nine months of 2016, primarily driven by continued growth in our credit card loan portfolio and the planned run-off of our acquired home loan portfolio in our Consumer Banking business, partially offset by (i) the impact of loans acquired from the HFS acquisition in our Commercial Banking business, which generally have lower net interest margins compared to our total company portfolio and (ii) margin compression in our auto loan portfolio.
Table 4 displays the change in our net interest income between periods and the extent to which the variance is attributable to (i) changes in the volume of our interest-earning assets and interest-bearing liabilities; or (ii) changes in the interest rates related to these assets and liabilities.
Table 4: Rate/Volume Analysis of Net Interest Income(1)
 
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
 
2016 vs. 2015
 
2016 vs. 2015
(Dollars in millions)
 
Total Variance
 
Volume
 
Rate
 
Total Variance
 
Volume
 
Rate
Interest income:
 
 
 
 
 
 
 
 
 
 
 
 
Loans:
 
 
 
 
 
 
 
 
 
 
 
 
Credit card
 
$
415

 
$
339

 
$
76

 
$
1,344

 
$
1,089

 
$
255

Consumer banking
 
37

 
9

 
28

 
—

 
(16
)
 
16

Commercial banking(2)
 
168

 
129

 
39

 
441

 
355

 
86

Other
 
10

 
(9
)
 
19

 
7

 
(32
)
 
39

Total loans, including loans held for sale
 
630

 
468

 
162

 
1,792

 
1,396

 
396

Investment securities
 
—

 
16

 
(16
)
 
32

 
41

 
(9
)
Cash equivalents and other interest-earning assets
 
—

 
1

 
(1
)
 
(17
)
 
(8
)
 
(9
)
Total interest income
 
630

 
485

 
145

 
1,807

 
1,429

 
378

Interest expense:
 
 
 
 
 
 
 
 
 
 
 
 
Deposits
 
35

 
17

 
18

 
67

 
51

 
16

Securitized debt obligations
 
17

 
7

 
10

 
43

 
24

 
19

Senior and subordinated notes
 
39

 
6

 
33

 
97

 
18

 
79

Other borrowings and liabilities
 
22

 
17

 
5

 
47

 
32

 
15

Total interest expense
 
113

 
47

 
66

 
254

 
125

 
129

Net interest income
 
$
517

 
$
438

 
$
79

 
$
1,553

 
$
1,304

 
$
249

__________
(1) 
We calculate the change in interest income and interest expense separately for each item. The portion of interest income or interest expense attributable to both volume and rate is allocated proportionately when the calculation results in a positive value. When the portion of interest income or interest expense attributable to both volume and rate results in a negative value, the total amount is allocated to volume or rate, depending on which amount is positive.
(2) 
Some of our tax-related commercial investments generate tax-exempt income or tax credits. Accordingly, we make certain reclassifications within our Commercial Banking business results to present revenues and yields on a taxable-equivalent basis, calculated assuming an effective tax rate approximately equal to our federal statutory rate of 35% with offsetting reclassifications to the Other category.
Non-Interest Income
Non-interest income primarily consists of interchange fees net of rewards expense, service charges and other customer-related fees and other non-interest income. Other non-interest income includes the pre-tax net benefit (provision) for mortgage representation and warranty losses related to continuing operations, gains and losses from the sale of investment securities, gains and losses on derivatives not accounted for in hedge accounting relationships and hedge ineffectiveness.

 
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Table 5 displays the components of non-interest income for the third quarter and first nine months of 2016 and 2015.
Table 5: Non-Interest Income
 
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
(Dollars in millions)
 
2016
 
2015
 
2016
 
2015
Interchange fees, net
 
$
603

 
$
555

 
$
1,815

 
$
1,618

Service charges and other customer-related fees
 
387

 
423

 
1,162

 
1,289

Net other-than-temporary impairment recognized in earnings
 
—

 
(5
)
 
(10
)
 
(27
)
Other non-interest income:
 
 
 
 
 
 
 
 
Benefit (provision) for mortgage representation and warranty losses(1)
 
—

 
7

 
2

 
15

Net gains (losses) from the sale of investment securities
 
1

 
3

 
3

 
4

Net fair value gains (losses) on free-standing derivatives
 
39

 
25

 
91

 
47

Other
 
154

 
132

 
446

 
400

Total other non-interest income
 
194

 
167

 
542

 
466

Total non-interest income
 
$
1,184

 
$
1,140

 
$
3,509

 
$
3,346

__________
(1) 
Represents the benefit (provision) for mortgage representation and warranty losses recorded in continuing operations. For the total impact to the net benefit (provision) for mortgage representation and warranty losses, including the portion recognized in our consolidated statements of income as a component of discontinued operations, see “MD&A—Consolidated Balance Sheets Analysis—Table 14—Changes in Representation and Warranty Reserve.”
Non-interest income increased by $44 million to $1.2 billion in the third quarter of 2016 compared to the third quarter of 2015, and increased by $163 million to $3.5 billion in the first nine months of 2016 compared to the first nine months of 2015, primarily driven by an increase in interchange fees driven by higher purchase volume in our Credit Card business, net of rewards expense from the continued expansion of our rewards franchise and adjustments to our customer rewards liability, partially offset by lower service charges and other customer-related fees primarily due to the exit of our legacy payment protection products in our Domestic Card business during the first quarter of 2016.
Provision for Credit Losses
Our provision for credit losses in each period is driven by net charge-offs, changes to the allowance for loan and lease losses and changes to the reserve for unfunded lending commitments. We recorded a provision for credit losses of $1.6 billion and $4.7 billion in the third quarter and first nine months of 2016, respectively, compared to $1.1 billion and $3.2 billion in the third quarter and first nine months of 2015, respectively. The provision for credit losses as a percentage of net interest income was 30.1% and 30.5% in the third quarter and first nine months of 2016, respectively, compared to 22.9% and 22.7% in the third quarter and first nine months of 2015, respectively.
The increase in the provision for credit losses in the third quarter of 2016 compared to the third quarter of 2015 was primarily driven by higher charge-offs as well as a larger allowance build in our credit card loan portfolio due to continued portfolio growth, the effects of growth and subprime mix, and slightly higher expected credit losses in 2017 for portions of our credit card portfolio collectively leading to an increased overall loss rate. The increase in provision in the first nine months of 2016 compared to the first nine months of 2015 was primarily driven by (i) higher charge-offs as well as a larger allowance build in our credit card loan portfolio due to continued portfolio growth, the effects of growth and subprime mix, and slightly higher expected credit losses in 2017 for portions of our credit card portfolio collectively leading to an increased overall loss rate; and (ii) higher charge-offs and a larger allowance build in our commercial loan portfolio as a result of continued adverse industry conditions impacting our taxi medallion and oil and gas lending portfolios.
We provide additional information on the provision for credit losses and changes in the allowance for loan and lease losses within “MD&A—Credit Risk Profile—Summary of Allowance for Loan and Lease Losses,” “Note 4—Loans” and “Note 5—Allowance for Loan and Lease Losses and Reserve for Unfunded Lending Commitments.” For information on the allowance methodology for each of our loan categories, see “Note 1—Summary of Significant Accounting Policies” in our 2015 Form 10-K.

 
15
Capital One Financial Corporation (COF)

Table of Contents

Non-Interest Expense
Non-interest expense consists of ongoing operating expenses, such as salaries and associate benefits, occupancy and equipment costs, professional services, communications and data processing expenses and other non-interest expenses, as well as marketing costs and amortization of intangibles.
Table 6 displays the components of non-interest expense for the third quarter and first nine months of 2016 and 2015.
Table 6: Non-Interest Expense
 
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
(Dollars in millions)
 
2016
 
2015
 
2016
 
2015
Salaries and associate benefits
 
$
1,317

 
$
1,189

 
$
3,866

 
$
3,760

Occupancy and equipment
 
499

 
444

 
1,422

 
1,318

Marketing
 
393

 
418

 
1,236

 
1,180

Professional services
 
296

 
313

 
878

 
943

Communications and data processing
 
252

 
226

 
757

 
636

Amortization of intangibles
 
89

 
106

 
285

 
327

Other non-interest expense:
 
 
 
 
 
 
 
 
Collections
 
76

 
79

  
234

 
249

Fraud losses
 
77

 
76

  
256

 
217

Bankcard, regulatory and other fee assessments
 
163

 
113

  
399

 
330

Other
 
199

 
196

  
546