XNYS:PNC PNC Financial Services Group Inc Quarterly Report 10-Q Filing - 3/31/2012

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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, DC 20549

 

 

FORM 10-Q

 

 

 

x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended March 31, 2012

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 number 001-09718

The PNC Financial Services Group, Inc.

(Exact name of registrant as specified in its charter)

 

 

 

Pennsylvania   25-1435979

(State or other jurisdiction of

incorporation or organization)

 

(I.R.S. Employer

Identification No.)

One PNC Plaza, 249 Fifth Avenue, Pittsburgh, Pennsylvania 15222-2707

(Address of principal executive offices, including zip code)

(412) 762-2000

(Registrant’s telephone number, including area code)

 

(Former name, former address and former fiscal year, if changed since last report)

 

 

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  x    No  ¨

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, 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  x    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   x    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  x

As of May 2, 2012, there were 528,783,529 shares of the registrant’s common stock ($5 par value) outstanding.

 

 

 


THE PNC FINANCIAL SERVICES GROUP, INC.

Cross-Reference Index to First Quarter 2012 Form 10-Q

 

     Pages  

PART I – FINANCIAL INFORMATION

  

Item 1.        Financial Statements (Unaudited).

  

Consolidated Income Statement

     63   

Consolidated Statement of Comprehensive Income

     64   

Consolidated Balance Sheet

     65   

Consolidated Statement Of Cash Flows

     66   

Notes To Consolidated Financial Statements (Unaudited)

  

Note 1  Accounting Policies

     68   

Note 2  Acquisition and Divestiture Activity

     72   

Note 3  Loan Sale and Servicing Activities and Variable Interest Entities

     74   

Note 4  Loans and Commitments to Extend Credit

     79   

Note 5   Asset Quality and Allowances for Loan and Lease Losses and Unfunded Loan

Commitments and Letters of Credit

     80   

Note 6  Purchased Loans

     93   

Note 7  Investment Securities

     95   

Note 8  Fair Value

     100   

Note 9  Goodwill and Other Intangible Assets

     115   

Note 10 Capital Securities of Subsidiary Trusts and Perpetual Trust Securities

     117   

Note 11 Certain Employee Benefit And Stock Based Compensation Plans

     118   

Note 12 Financial Derivatives

     120   

Note 13 Earnings Per Share

     127   

Note 14 Total Equity And Other Comprehensive Income

     128   

Note 15 Income Taxes

     130   

Note 16 Legal Proceedings

     131   

Note 17 Commitments and Guarantees

     133   

Note 18 Segment Reporting

     137   

Note 19 Subsequent Events

     140   

Statistical Information (Unaudited)

  

Average Consolidated Balance Sheet And Net Interest Analysis

     141   

Item  2.       Management’s Discussion and Analysis of Financial Condition and Results of Operations.

  

Financial Review

  

Consolidated Financial Highlights

     1   

Executive Summary

     3   

Consolidated Income Statement Review

     10   

Consolidated Balance Sheet Review

     13   

Off-Balance Sheet Arrangements And Variable Interest Entities

     22   

Fair Value Measurements

     23   

Business Segments Review

     24   

Critical Accounting Estimates And Judgments

     35   

Status Of Qualified Defined Benefit Pension Plan

     35   

Recourse And Repurchase Obligations

     36   

Risk Management

     39   

Internal Controls And Disclosure Controls And Procedures

     57   

Glossary Of Terms

     57   

Cautionary Statement Regarding Forward-Looking Information

     61   

Item 3.        Quantitative and Qualitative Disclosures About Market Risk.

     39-57 and 120-126   

Item 4.        Controls and Procedures.

     57   

PART II – OTHER INFORMATION

  

Item 1.        Legal Proceedings.

     143   

Item 1A.    Risk Factors.

     143   

Item 2.         Unregistered Sales Of Equity Securities And Use Of Proceeds.

     143   

Item 6.        Exhibits.

     144   

Exhibit Index.

     144   

Signature   

     144   

Corporate Information

     145   


THE PNC FINANCIAL SERVICES GROUP, INC.

Cross-Reference Index to First Quarter 2012 Form 10-Q (continued)

 

MD&A TABLE REFERENCE

 

Table

  

Description

   Page  

1

  

Consolidated Financial Highlights

     1   

2

  

Net Interest Income and Net Interest Margin

     10   

3

  

Summarized Balance Sheet Data

     13   

4

  

Details of Loans

     13   

5

  

RBC Acquired Loan Portfolio on March 2, 2012

     14   

6

  

Accretion – Purchased Impaired Loans

     14   

7

  

Accretable Net Interest – Purchase Impaired Loans

     14   

8

  

Valuation of Purchased Impaired Loans

     15   

9

  

Net Unfunded Credit Commitments

     15   

10

  

Details of Investment Securities

     16   

11

  

Vintage, Current Credit Rating, and FICO Score for Asset-Backed Securities

     17   

12

  

Other-Than-Temporary Impairments

     18   

13

  

Net Unrealized Gains and Losses on Non-Agency Securities

     18   

14

  

Loans Held For Sale

     19   

15

  

Details Of Funding Sources

     20   

16

  

Risk-Based Capital

     21   

17

  

Fair Value Measurements – Summary

     23   

18

  

Results Of Businesses – Summary

     24   

19

  

Retail Banking Table

     25   

20

  

Corporate & Institutional Banking Table

     28   

21

  

Asset Management Group Table

     30   

22

  

Residential Mortgage Banking Table

     32   

23

  

BlackRock Table

     33   

24

  

Non-Strategic Assets Portfolio Table

     33   

25

  

Pension Expense – Sensitivity Analysis

     36   

26

  

Analysis of Unresolved Asserted Indemnification and Repurchase Claims

     37   

27

  

Analysis of Indemnification and Repurchase Claim Settlement Activity

     38   

28

  

Nonperforming Assets By Type

     40   

29

  

OREO and Foreclosed Assets

     41   

30

  

Change in Nonperforming Assets

     41   

31

  

Accruing Loans Past Due 30 To 59 Days

     42   

32

  

Accruing Loans Past Due 60 To 89 Days

     42   

33

  

Accruing Loans Past Due 90 Days Or More

     43   

34

  

Home Equity Lines of Credit – Draw Period End Dates

     44   

35

  

Bank-Owned Consumer Real Estate Related Loan Modifications

     45   

36

  

Bank-Owned Consumer Real Estate Related Loan Modifications Re-Default by Vintage

     45   

37

  

Summary of Troubled Debt Restructurings

     46   

38

  

Loan Charge-Offs And Recoveries

     47   

39

  

Allowance for Loan and Lease Losses

     48   

40

  

Credit ratings as of March 31, 2012 for PNC and PNC Bank, N.A.

     51   

41

  

Contractual Obligations

     51   

42

  

Other Commitments

     52   

43

  

Interest Sensitivity Analysis

     52   

44

  

Net Interest Income Sensitivity to Alternative Rate Scenarios (First Quarter 2012)

     53   

45

  

Alternate Interest Rate Scenarios: One Year Forward

     53   

46

  

Enterprise-Wide Trading-Related Gains/Losses Versus Value at Risk

     53   

47

  

Trading Revenue

     54   

48

  

Equity Investments Summary

     54   

49

  

Financial Derivatives

     56   


FINANCIAL REVIEW

TABLE 1: CONSOLIDATED FINANCIAL HIGHLIGHTS

THE PNC FINANCIAL SERVICES GROUP, INC.

 

Dollars in millions, except per share data

Unaudited

 

Three months ended
March 31

 
  2012     2011  

Financial Results (a)

     

Revenue

     

Net interest income

  $ 2,291     $ 2,176  

Noninterest income

    1,441       1,455  

Total revenue

    3,732       3,631  

Noninterest expense (b)

    2,455       2,070  

Pretax, pre-provision earnings (c)

    1,277       1,561  

Provision for credit losses

    185       421  

Income before income taxes and noncontrolling interests (pretax earnings)

  $ 1,092     $ 1,140  

Net income

  $ 811     $ 832  

Less:

     

Net income (loss) attributable to noncontrolling interests

    6       (5

Preferred stock dividends and discount accretion

    39       4  

Net income attributable to common shareholders

  $ 766     $ 833  

Diluted earnings per common share

  $ 1.44     $ 1.57  

Cash dividends declared per common share (d)

  $ .35     $ .10  

Integration costs:

     

Pretax

  $ 145     $ 1  

After-tax

  $ 94      

Impact on diluted earnings per share

  $ .18          

Performance Ratios

     

Net interest margin (e)

    3.90     3.94

Noninterest income to total revenue

    39       40  

Efficiency

    66       57  

Return on:

     

Average common shareholders’ equity

    9.41       11.12  

Average assets

    1.16       1.29  

See page 57 for a glossary of certain terms used in this Report.

Certain prior period amounts have been reclassified to conform with the current period presentation, which we believe is more meaningful to readers of our consolidated financial statements. The after-tax amounts in this table and notes below were calculated using a marginal federal income tax rate of 35% and include applicable income tax adjustments.

(a) The Executive Summary and Consolidated Income Statement Review portions of the Financial Review section of this Report provide information regarding items impacting the comparability of the periods presented.
(b) Includes expenses of $38 million and $5 million ($24 million and $4 million after taxes, respectively) for the three months ended March 31, 2012 and March 31, 2011 for residential mortgage foreclosure-related expenses. The impact on diluted earnings per share was $.05, and $.01 for the three months ended March 31, 2012 and March 31, 2011.
(c) We believe that pretax, pre-provision earnings, a non-GAAP measure, is useful as a tool to help evaluate our earnings created by operating leverage.
(d) In April 2012, the PNC Board of Directors declared a quarterly cash dividend on common stock of 40 cents per share, an increase of 5 cents per share, or 14%, from the prior quarterly dividend of 35 cents per share. The increased dividend was paid on the next business day after May 5, 2012 to shareholders of record at the close of business on April 17, 2012.
(e) Calculated as annualized taxable-equivalent net interest income divided by average earning assets. The interest income earned on certain earning assets is completely or partially exempt from federal income tax. As such, these tax-exempt instruments typically yield lower returns than taxable investments. To provide more meaningful comparisons of net interest margins for all earning assets, we use net interest income on a taxable-equivalent basis in calculating net interest margin by increasing the interest income earned on tax-exempt assets to make it fully equivalent to interest income earned on taxable investments. This adjustment is not permitted under generally accepted accounting principles (GAAP) in the Consolidated Income Statement. The taxable-equivalent adjustments to net interest income for the three months ended March 31, 2012 and March 31, 2011 were $31 million and $24 million, respectively.

 

The PNC Financial Services Group, Inc. – Form 10-Q    1


TABLE 1: CONSOLIDATED FINANCIAL HIGHLIGHTS (CONTINUED) (a)

 

Unaudited   March 31
2012
    December 31
2011
    March 31
2011
 

Balance Sheet Data (dollars in millions, except per share data)

       

Assets

  $ 295,883     $ 271,205     $ 259,378  

Loans (b) (c)

    176,214       159,014       149,387  

Allowance for loan and lease losses (b)

    4,196       4,347       4,759  

Interest-earning deposits with banks (b)

    2,084       1,169       1,359  

Investment securities (b)

    64,554       60,634       60,992  

Loans held for sale (c)

    2,456       2,936       2,980  

Goodwill and other intangible assets

    11,188       10,144       10,764  

Equity investments (b) (d)

    10,352       10,134       9,595  
 

Noninterest-bearing deposits

    62,463       59,048       48,707  

Interest-bearing deposits

    143,664       128,918       133,283  

Total deposits

    206,127       187,966       181,990  

Transaction deposits

    164,575       147,637       134,516  

Borrowed funds (b)

    42,539       36,704       34,996  

Shareholders’ equity

    35,045       34,053       31,132  

Common shareholders’ equity

    33,408       32,417       30,485  

Accumulated other comprehensive income (loss)

    281       (105     (309
 

Book value per common share

    63.26       61.52       58.01  

Common shares outstanding (millions)

    528       527       526  

Loans to deposits

    85     85     82
 

Client Assets (billions)

       

Discretionary assets under management

  $ 112     $ 107     $ 110  

Nondiscretionary assets under administration

    107       103       109  

Total assets under administration

    219       210       219  

Brokerage account assets

    37       34       35  

Total client assets

  $ 256     $ 244     $ 254  
 

Capital Ratios

       

Tier 1 common

    9.3     10.3     10.3

Tier 1 risk-based (e)

    11.4       12.6       12.6  

Total risk-based (e)

    14.4       15.8       16.2  

Leverage (e)

    10.5       11.1       10.6  

Common shareholders’ equity to assets

    11.3       12.0       11.8  
 

Asset Quality

       

Nonperforming loans to total loans

    2.03     2.24     2.88

Nonperforming assets to total loans, OREO and foreclosed assets

    2.46       2.60       3.29  

Nonperforming assets to total assets

    1.47       1.53       1.90  

Net charge-offs to average loans (for the three months ended) (annualized)

    .81       .83       1.44  

Allowance for loan and lease losses to total loans

    2.38       2.73       3.19  

Allowance for loan and lease losses to nonperforming loans (f)

    117       122       110  

Accruing loans past due 90 days or more (g)

  $ 2,609     $ 2,973     $ 2,645  
(a) The Executive Summary and Consolidated Balance Sheet Review portions of the Financial Review section of this Report provide information regarding items impacting the comparability of the periods presented.
(b) Amounts include consolidated variable interest entities. See Consolidated Balance Sheet in Part I, Item 1 of this Report for additional information.
(c) Amounts include assets for which we have elected the fair value option. See Consolidated Balance Sheet in Part I, Item 1 of this Report for additional information.
(d) Amounts include our equity interest in BlackRock.
(e) The minimum US regulatory capital ratios under Basel I are 4.0% for Tier 1 risk-based, 8.0% for Total risk-based, and 4.0% for Leverage. The comparable well-capitalized levels are 6.0% for Tier 1 risk-based, 10.0% for Total risk-based, and 5.0% for Leverage.
(f) The allowance for loan and lease losses includes impairment reserves attributable to purchased impaired loans. Nonperforming loans exclude certain government insured or guaranteed loans, loans held for sale, loans accounted for under the fair value option and purchased impaired loans.
(g) Excludes loans held for sale and purchased impaired loans. In the first quarter of 2012, we adopted a policy stating that home equity loans past due 90 days or more would be placed on nonaccrual status. Prior policy required that these loans be past due 180 days before being placed on nonaccrual status.

 

2    The PNC Financial Services Group, Inc. – Form 10-Q


FINANCIAL REVIEW

THE PNC FINANCIAL SERVICES GROUP, INC.

This Financial Review, including the Consolidated Financial Highlights, should be read together with our unaudited Consolidated Financial Statements and unaudited Statistical Information included elsewhere in this Report and with Items 6, 7, 8 and 9A of our 2011 Annual Report on Form 10-K as amended by Amendment No. 1 on Form 10-K/A (2011 Form 10-K). We have reclassified certain prior period amounts to conform with the current period presentation, which we believe is more meaningful to readers of our consolidated financial statements. For information regarding certain business, regulatory and legal risks, see the following sections as they appear in this Report and in our 2011 Form 10-K: the Risk Management section of the Financial Review portion of the respective report; Item 1A Risk Factors included in our 2011 Form 10-K; and the Legal Proceedings and Commitments and Guarantees Notes of the Notes to Consolidated Financial Statements included in the respective report. Also, see the Cautionary Statement Regarding Forward-Looking Information and Critical Accounting Estimates And Judgments sections in this Financial Review for certain other factors that could cause actual results or future events to differ, perhaps materially, from historical performance and from those anticipated in the forward-looking statements included in this Report. See Note 18 Segment Reporting in the Notes To Consolidated Financial Statements included in Part I, Item 1 of this Report for a reconciliation of total business segment earnings to total PNC consolidated net income as reported on a generally accepted accounting principles (GAAP) basis.

 

EXECUTIVE SUMMARY

PNC is one of the largest diversified financial services companies in the United States and is headquartered in Pittsburgh, Pennsylvania.

PNC has businesses engaged in retail banking, corporate and institutional banking, asset management, and residential mortgage banking, providing many of its products and services nationally and others in PNC’s primary geographic markets located in Pennsylvania, Ohio, New Jersey, Michigan, Illinois, Maryland, Indiana, North Carolina, Florida, Kentucky, Washington, D.C., Alabama, Delaware, Georgia, Virginia, Missouri, Wisconsin and South Carolina. PNC also provides certain products and services internationally.

KEY STRATEGIC GOALS

We manage our company for the long term and seek to manage risk in keeping with a moderate risk philosophy. We emphasize maintaining strong capital and liquidity positions, investing in our markets and products, and embracing our corporate responsibility to the communities where we do business.

Our strategy to enhance shareholder value centers on driving growth in pre-tax, pre-provision earnings by achieving growth in revenue from our balance sheet and diverse business mix that exceeds growth in expenses controlled through disciplined cost management.

The primary drivers of revenue are the acquisition, expansion and retention of customer relationships. We strive to expand our customer base by offering convenient banking options and leading technology solutions, providing a broad range of fee-based and credit products and services, focusing on customer service, and managing a significantly enhanced branding initiative. This strategy is designed to give our customers choices based on their needs. Rather than striving to optimize fee revenue in the short term, our approach is focused on effectively growing targeted market share and

“share of wallet.” We may also grow revenue through appropriate and targeted acquisitions and, in certain businesses, by expanding into new geographical markets.

We have made substantial progress in transitioning our balance sheet and managing our risks over the past several years. Our actions have resulted in a strong capital position, created a well-positioned balance sheet, reduced credit risk, and helped us to maintain strong liquidity and investment flexibility to adjust, where appropriate and permissible, to changing interest rates and market conditions. We remain committed to our moderate risk philosophy. We believe, however, that characterizing our view of our overall risk profile at a given time in a single word (as opposed to describing our efforts to seek to manage risk in keeping with our moderate risk philosophy) is not meaningful to investors and, as a result, we will no longer make such characterizations in our public disclosures. PNC faces a variety of risks that may impact different aspects of our risk profile from time to time, the extent of each varying depending on factors such as the current economic, political and regulatory environment, the impact of mergers and acquisition activity, and operational challenges. Many of these risks and our risk management strategies are described in more detail in our 2011 Form 10-K and elsewhere in this Report.

We expect to build capital via retained earnings while having opportunities to return capital to shareholders during 2012. See the 2012 Capital and Liquidity Actions section of this Executive Summary, the Funding and Capital Sources section of the Consolidated Balance Sheet Review section and the Liquidity Risk Management section of this Financial Review and the Supervision and Regulation section in Item 1 of our 2011 Form 10-K.

RBC BANK (USA) ACQUISITION

On March 2, 2012, we acquired 100% of the issued and outstanding common stock of RBC Bank (USA), the US retail banking subsidiary of Royal Bank of Canada. As part of the

 

 

The PNC Financial Services Group, Inc. – Form 10-Q    3


acquisition, PNC also purchased a credit card portfolio from RBC Bank (Georgia), National Association. PNC paid $3.6 billion in cash as the consideration for the acquisition of both RBC Bank (USA) and the credit card portfolio, subject to certain post-closing adjustments that are considered normal course of business. The transaction added approximately $18.1 billion in deposits, $14.5 billion of loans and $1.1 billion of goodwill and intangible assets to PNC’s Consolidated Balance Sheet. Our Consolidated Income Statement includes the impact of business activity associated with the RBC Bank (USA) acquisition subsequent to March 2, 2012.

RBC Bank (USA), based in Raleigh, North Carolina, operated more than 400 branches in North Carolina, Florida, Alabama, Georgia, Virginia and South Carolina. The primary reasons for the acquisition of RBC were to enhance shareholder value, to improve PNC’s competitive position in the financial services industry and to further expand PNC’s existing branch network in the states where it currently operates as well as expanding into new markets. When combined with PNC’s existing network, PNC now has 2,900 branches across 17 states and the District of Columbia, ranking it fifth among U.S. banks in branches. See Note 2 Acquisition and Divestiture Activity in the Notes To Consolidated Financial Statements in this Report.

On April 20, 2012, PNC signed a purchase and assumption agreement with Union Bank, N.A. pursuant to which Union Bank will assume the deposits and acquire certain assets of the Smartstreet business unit, which was acquired by PNC as part of the RBC Bank (USA) acquisition. Smartstreet is a nationwide business focused on homeowner or community association managers and has approximately $1 billion of assets and deposits as of March 31, 2012. The transaction is expected to close in the fourth quarter of 2012 and is subject to certain closing conditions, including regulatory approval. Financial terms of the transaction have not been disclosed.

FLAGSTAR BRANCH ACQUISITION

Effective December 9, 2011, PNC acquired 27 branches in the northern metropolitan Atlanta, Georgia area from Flagstar Bank, FSB, a subsidiary of Flagstar Bancorp, Inc. We assumed approximately $210.5 million of deposits associated with these branches. No loans were acquired in the transaction. Our Consolidated Income Statement includes the impact of the branch activity subsequent to our December 9, 2011 acquisition. See Note 2 Acquisition and Divestiture Activity in the Notes To Consolidated Financial Statements in this Report.

BANKATLANTIC BRANCH ACQUISITION

Effective June 6, 2011, PNC acquired 19 branches in the greater Tampa, Florida area from BankAtlantic, a subsidiary of BankAtlantic Bancorp, Inc. We assumed approximately $324.5 million of deposits associated with these branches. No loans were acquired in the transaction. Our Consolidated

Income Statement includes the impact of the branch activity subsequent to our June 6, 2011 acquisition. See Note 2 Acquisition and Divestiture Activity in the Notes To Consolidated Financial Statements in this Report.

2012 CAPITAL AND LIQUIDITY ACTIONS

Our ability to take certain capital actions, including plans to pay or increase common stock dividends or to repurchase shares under current or future programs, is subject to the results of the supervisory assessment of capital adequacy undertaken by the Board of Governors of the Federal Reserve System (Federal Reserve) and our primary bank regulators as part of the Comprehensive Capital Analysis and Review (CCAR) process. This capital adequacy assessment is based on a review of a comprehensive capital plan submitted to the Federal Reserve. In connection with the annual review process for 2012 (2012 CCAR), PNC filed its capital plan with the Federal Reserve on January 9, 2012. As we announced on March 13, 2012, the Federal Reserve accepted the capital plan that we submitted for their review and did not object to our capital actions proposed as part of that plan. The capital actions included recommendations to increase the quarterly common stock dividend and a modest share repurchase program. For additional information concerning the CCAR process and the factors the Federal Reserve takes into consideration in evaluating capital plans, see Item 1 Business – Supervision and Regulation included in our 2011 Form 10-K.

On April 5, 2012, consistent with our capital plan submitted to the Federal Reserve in 2012, our Board of Directors approved an increase to PNC’s quarterly common stock dividend from $.35 per common share to $.40 per common share. For the second quarter of 2012, the increased dividend was payable to shareholders of record at the close of business on April 17, 2012 and the payment date was May 5, 2012. Additionally, also consistent with that capital plan, PNC plans to purchase up to $250 million of common stock under our existing 25 million share repurchase program in open market or privately negotiated transactions during the remainder of 2012. We did not repurchase any shares under PNC’s existing common stock repurchase program in the first quarter of 2012. The discussion of capital within the Consolidated Balance Sheet Review section of this Financial Review includes additional information regarding our common stock repurchase program.

On March 8, 2012, PNC Funding Corp issued $1 billion of senior notes, unconditionally guaranteed by The PNC Financial Services Group, Inc., due March 8, 2022. Interest is paid semi-annually at a fixed rate of 3.30%. The offering resulted in gross proceeds to us of $990 million before offering related expenses. We intend to use the net proceeds from this offering for general corporate purposes, which may include: advances to PNC and its subsidiaries to finance their activities, repayment of outstanding indebtedness, and repurchases and redemptions of issued and outstanding securities of PNC and its subsidiaries.

 

 

4    The PNC Financial Services Group, Inc. – Form 10-Q


On April 10, 2012, we announced that May 25, 2012 will be the redemption date of $500 million of trust preferred securities issued by National City Capital Trust III with a current distribution rate of 6.625% and an original scheduled maturity date of May 25, 2047 and submitted a redemption notice to the trustee. The redemption price will be $25 per trust preferred security plus any accrued and unpaid distributions to the redemption date of May 25, 2012. In addition, on April 25, 2012 we redeemed $300 million of trust preferred securities issued by PNC Capital Trust D with a distribution rate of 6.125% and $6 million of trust preferred securities issued by Yardville Capital Trust III with a distribution rate of 10.18%. These redemptions together will result in a noncash charge for the unamortized discounts of approximately $130 million in the second quarter of 2012. We have an additional $1 billion of securities that are redeemable at par beginning in the latter half of 2012, and if we call those securities, we expect that the related noncash charges will be approximately $150 million.

On April 24, 2012, we issued 60 million depositary shares, each representing a 1/4,000th interest in a share of our Fixed-to-Floating Rate Non-Cumulative Perpetual Preferred Stock, Series P, in an underwritten public offering resulting in gross proceeds of $1.5 billion to us before commissions and expenses. We granted the underwriters an option to purchase up to an additional 3 million depositary shares within 30 days after April 19, 2012 at the public offering price, less underwriting discounts and commissions, to cover overallotments, if any. We intend to use the net proceeds from the sale of the depositary shares for general corporate purposes, which may include repurchases and redemptions of issued and outstanding securities of PNC and its subsidiaries, including trust preferred securities.

RECENT MARKET AND INDUSTRY DEVELOPMENTS

There have been numerous legislative and regulatory developments and dramatic changes in the competitive landscape of our industry over the last several years.

The United States and other governments have undertaken major reform of the regulation of the financial services industry, including engaging in new efforts to impose requirements designed to strengthen the stability of the financial system and protect consumers and investors from financial abuse. We expect to face further increased regulation of our industry as a result of current and future initiatives intended to provide economic stimulus, financial market stability and enhanced regulation of financial services companies and to enhance the liquidity and solvency of financial institutions and markets. We also expect in many cases more intense scrutiny from our bank supervisors in the examination process and more aggressive enforcement of regulations on both the federal and state levels. Compliance with new regulations will increase our costs and reduce our revenue. Some new regulations may limit our ability to pursue

certain desirable business opportunities, place constraints on business activities we currently conduct, or have other adverse impacts on our operations or revenue.

The Dodd-Frank Wall Street Reform and Consumer Protection Act (Dodd-Frank), enacted in July 2010, mandates the most wide-ranging overhaul of financial industry regulation in decades. Many parts of the law are now in effect and others are now in the implementation stage, which is likely to continue for several years.

Until such time as the regulatory agencies issue final regulations implementing all of the numerous provisions of Dodd-Frank, PNC will not be able to fully assess the impact the legislation will have on its businesses. However, we believe that the expected changes will be manageable for PNC and will have a smaller impact on us than on our larger peers.

Included in these recent legislative and regulatory developments are evolving regulatory capital standards for financial institutions. Dodd-Frank requires the Federal Reserve Board to establish capital requirements that would, among other things, eliminate the Tier 1 treatment of trust preferred securities following a phase-in period expected to begin in 2013. Evolving standards also include the so-called “Basel III” initiatives that are part of the effort by international banking supervisors to improve the ability of the banking sector to absorb shocks in periods of financial and economic stress and changes by the federal banking agencies to reduce the use of credit ratings in the rules governing regulatory capital. The recent Basel III capital initiative, which has the support of US banking regulators, includes heightened capital requirements for major banking institutions in terms of both higher quality capital and higher regulatory capital ratios. The Basel III accord provides for the new Basel III capital standards to become effective under a phase-in period beginning January 1, 2013 and to be in full effect on January 1, 2019. Basel III capital standards require implementing regulations and standards by the U.S. banking regulators.

The Basel III initiatives also include new, quantitative short-term liquidity standards (the Liquidity Coverage Ratio) and long-term funding standards (the Net Stable Funding Ratio). The Liquidity Coverage Ratio, which is scheduled to take effect on January 1, 2015, requires a banking organization to maintain a sufficient level of unencumbered, high-quality liquid assets that could be converted to cash to meet projected cash outflows during a 30-day severe stress scenario. The Net Stable Funding Ratio, which is scheduled to take effect on January 1, 2018, is designed to promote a stable maturity structure of assets and liabilities of banking organizations over a one-year time horizon. Accordingly, it measures the amount of longer-term, stable sources of funding available to support the portion of a banking organization’s assets (both on- and off-balance sheet) that could not be readily converted to cash over a stress period lasting one year. Like the Basel III capital standards, the Basel III liquidity standards require implementing regulations by the U.S. banking regulators.

 

 

The PNC Financial Services Group, Inc. – Form 10-Q    5


A number of reform provisions are likely to significantly impact the ways in which banks and bank holding companies, including PNC, do business. We provide additional information on a number of these provisions (including new regulatory agencies (such as the Consumer Financial Protection Bureau (CFPB)), consumer protection regulation, enhanced capital requirements, limitations on investment in and sponsorship of funds, risk retention by securitization participants, new regulation of derivatives, potential applicability of state consumer protection laws, and limitations on interchange fees) and some of their potential impacts on PNC in Item 1 Business–Supervision and Regulation and Item 1A Risk Factors included in our 2011 Form 10-K.

RESIDENTIAL MORTGAGE MATTERS

Beginning in the third quarter of 2010, mortgage foreclosure documentation practices among US financial institutions received heightened attention by regulators and the media. PNC’s US market share for residential servicing is approximately 1.4% according to the National Mortgage News. The vast majority of our servicing business is on behalf of other investors, principally the Federal Home Loan Mortgage Corporation (FHLMC) and the Federal National Mortgage Association (FNMA).

There have been, and continue to be, numerous governmental, legislative and regulatory inquiries and investigations on this topic and other issues related to mortgage lending and servicing. These inquiries and investigations may result in significant additional actions, penalties or other remedies.

For additional information, including with respect to some of these other ongoing governmental, legislative and regulatory inquiries, please see Item 1A Risk Factors and Note 22 Legal Proceedings in Item 8 in our 2011 Form 10-K.

PNC’S PARTICIPATION IN SELECT GOVERNMENT PROGRAMS

FDIC Temporary Liquidity Guarantee Program (TLGP) – Transaction Account Guarantee Program

Part of the FDIC’s Temporary Liquidity Guarantee Program involves providing full deposit insurance coverage for non-interest bearing transaction accounts in FDIC-insured institutions, regardless of the dollar amount (TLGP-Transaction Account Guarantee Program).

Beginning January 1, 2010, PNC Bank, N.A. ceased participating in the FDIC’s TLGP-Transaction Account Guarantee Program. Dodd-Frank, however, extended for two years, beginning December 31, 2010, unlimited deposit insurance coverage for non-interest bearing transaction accounts held at all banks. Therefore, eligible accounts at PNC Bank, N.A. are again eligible for unlimited deposit insurance, through December 31, 2012. Coverage under this extension is in addition to, and separate from, the coverage available under the FDIC’s general deposit insurance rules. We believe that

FDIC insurance has been an attraction for customers seeking to maintain liquidity during this prolonged period of low interest rates.

Home Affordable Modification Program (HAMP)

As part of its effort to stabilize the US housing market, in March 2009 the Obama Administration published detailed guidelines implementing HAMP, and authorized servicers to begin loan modifications under the program. PNC began participating in HAMP through its then subsidiary National City Bank in May 2009 and directly through PNC Bank, N.A. in July 2009, and entered into an agreement on October 1, 2010 to participate in the Second Lien Program. HAMP was scheduled to terminate as of December 31, 2012; however, the Administration has announced that the HAMP program deadline will be extended to December 31, 2013.

Home Affordable Refinance Program (HARP)

Another part of its efforts to stabilize the US housing market is the Obama Administration’s Home Affordable Refinance Program (HARP), which provided a means for certain borrowers to refinance their mortgage loans. PNC began participating in HARP in May 2009. On October 24, 2011 the Obama Administration announced revisions to the program (HARP 2), increasing borrower eligibility and extending the program for another twelve months with a new termination date of December 31, 2013. During the fourth quarter of 2011, both FNMA and FHLMC announced their respective HARP 2 provisions and in December 2011 PNC began participating in HARP 2 with both entities. Under HARP 2 there is no limit on the borrower’s loan-to-value (LTV) for fixed rate mortgages, which was a key change from the original program’s 125% LTV limit. This change significantly increased the number of borrowers eligible for a refinance under the program. During the first quarter of 2012, nearly 30% of PNC’s mortgage loan originations were original HARP or HARP 2 refinancing transactions.

KEY FACTORS AFFECTING FINANCIAL PERFORMANCE

Our financial performance is substantially affected by a number of external factors outside of our control, including the following:

   

General economic conditions, including the continuity, speed and stamina of the moderate economic recovery in general and on our customers in particular,

   

The level of, and direction, timing and magnitude of movement in, interest rates and the shape of the interest rate yield curve,

   

The functioning and other performance of, and availability of liquidity in, the capital and other financial markets,

   

Loan demand, utilization of credit commitments and standby letters of credit, and asset quality,

   

Customer demand for non-loan products and services,

 

 

6    The PNC Financial Services Group, Inc. – Form 10-Q


   

Changes in the competitive and regulatory landscape and in counterparty creditworthiness and performance as the financial services industry restructures in the current environment,

   

The impact of the extensive reforms enacted in the Dodd-Frank legislation and other legislative, regulatory and administrative initiatives, including those outlined elsewhere in this Report, and

   

The impact of market credit spreads on asset valuations.

In addition, our success will depend upon, among other things:

   

Further success in the acquisition, growth and retention of customers,

   

Continued development of the geographic markets related to our recent acquisitions, including full deployment of our product offerings, and integration of the acquired RBC Bank (USA) businesses into PNC,

   

Revenue growth and our ability to provide innovative and valued products to our customers,

   

Our ability to utilize technology to develop and deliver products and services to our customers,

   

Our ability to manage and implement strategic business objectives within the changing regulatory environment,

   

A sustained focus on expense management,

   

Managing the non-strategic assets portfolio and impaired assets,

   

Improving our overall asset quality,

   

Continuing to maintain and grow our deposit base as a low-cost funding source,

   

Prudent risk and capital management related to our efforts to operate in accordance with our moderate risk philosophy, and to meet evolving regulatory capital standards,

   

Actions we take within the capital and other financial markets, and

   

The impact of legal and regulatory-related contingencies.

For additional information, please see the Cautionary Statement Regarding Forward-Looking Information section in this Financial Review and Item 1A Risk Factors in our 2011 Form 10-K.

INCOME STATEMENT HIGHLIGHTS

   

Net income for the first quarter of 2012 of $811 million was down 3% compared to first quarter of 2011. Net income for the first quarter of 2012 included integration costs of $145 million, additions to legal reserves of $72 million, operating expenses of $40 million for the RBC Bank (USA) acquisition, and $38 million of residential mortgage foreclosure-related expenses. The impacts of these items were not significant to net income for the first quarter of 2011.

   

Net interest income of $2.3 billion for the first quarter of 2012 increased 5 percent compared with the first quarter of 2011 driven by loans added through the RBC Bank (USA) acquisition, organic loan growth and lower funding costs. Net interest margin declined to 3.90% for the first quarter of 2012 compared to 3.94% for the first quarter of 2011, primarily as loan growth and lower funding costs were offset by lower yields on loans and securities.

   

Noninterest income of $1.4 billion for the first quarter 2012 declined $14 million compared to first quarter 2011. Increases were reflected in higher residential mortgage revenue, higher asset management fees, and an increase in corporate service fees. These increases were offset by various declines in other income and by lower consumer service fees primarily reflecting the regulatory impact of lower interchange fees on debit card transactions.

   

The provision for credit losses declined to $185 million for the first quarter of 2012 compared to $421 million for the first quarter of 2011 as overall credit quality improved.

   

Noninterest expense of $2.5 billion for the first quarter of 2012 increased $385 million compared with the first quarter of 2011 primarily due to higher integration costs, additions to legal reserves, operating expense for the RBC Bank (USA) acquisition, and an increase in expense for residential mortgage foreclosure-related matters.

CREDIT QUALITY HIGHLIGHTS

   

Overall credit quality remained stable during the first quarter of 2012 compared with year end.

   

Nonperforming assets increased $205 million, or 5 percent, to $4.4 billion at March 31, 2012 compared with December 31, 2011. The increase was primarily attributable to other real estate owned added in the acquisition of RBC Bank (USA) and higher nonperforming home equity loans from a change in policy which places home equity loans on nonaccrual status when past due 90 days or more compared with 180 days under the prior policy. These increases were partially offset by a decline in nonperforming commercial real estate and commercial loans. Nonperforming assets to total assets were 1.47 percent at March 31, 2012 compared with 1.53 percent at December 31, 2011.

   

Accruing loans past due decreased by $275 million, or 6%, to $4.3 billion at March 31, 2012 from $4.5 billion at December 31, 2011. Accruing loans past due 90 days or more declined $364 million due to the change in policy for home equity loans and improvements in commercial loans and government insured

 

 

The PNC Financial Services Group, Inc. – Form 10-Q    7


 

delinquent residential real estate loans. Accruing loans past due 30 to 59 days increased $119 million in the linked quarter comparison due to an increase in commercial, residential real estate and commercial real estate loans primarily related to the RBC Bank (USA) acquisition.

   

Net charge-offs declined to $333 million in the first quarter of 2012 compared with $533 million in the first quarter of 2011. Net charge-offs declined in the comparison with first quarter 2011 primarily due to lower commercial real estate, commercial and residential real estate loan net charge-offs. Net charge-offs for the first quarter of 2012 were .81 percent of average loans on an annualized basis compared with 1.44 percent for the first quarter of 2011.

   

Provision for credit losses declined to $185 million in the first quarter of 2012 compared with $421 million in the first quarter of 2011 driven by overall credit quality improvement and continued actions to reduce exposure levels.

   

The allowance for loan and lease losses (ALLL) was 2.38% of total loans and 117% of nonperforming loans as of March 31, 2012 compared with 2.73% and 122% as of December 31, 2011.

BALANCE SHEET HIGHLIGHTS

   

PNC continued to expand customer relationships and focus on quality growth.

   

Retail banking checking relationships increased 517,000 in the first quarter of 2012, including 460,000 from the RBC Bank (USA) acquisition.

   

Total loans increased by $17 billion to $176 billion at March 31, 2012 compared to December 31, 2011.

   

Loans of approximately $14.5 billion were added in the RBC Bank (USA) acquisition.

   

Commercial loans grew organically by approximately 5 percent, reflecting PNC’s focus on long-term, broad-based client relationships. The growth was primarily in corporate banking, asset-based lending, and real estate finance.

   

Total deposits were $206 billion at March 31, 2012 compared with $188 billion at December 31, 2011.

   

Deposits of approximately $18.1 billion were added in the RBC Bank (USA) acquisition.

   

Transaction deposits also grew organically during the first quarter of 2012 and increased to $165 billion, or 80 percent of deposits, at March 31, 2012.

   

Higher rate retail certificates of deposit continued to decline.

   

PNC’s balance sheet remained core funded with a loans to deposits ratio of 85 percent at March 31, 2012 and reflected a strong liquidity position.

   

PNC maintained strong capital levels with a Tier 1 common capital ratio of 9.3 percent at March 31, 2012 and 10.3 percent at December 31, 2011. The impact on the ratio of the acquisition of RBC Bank (USA) was a decrease of approximately 1.2 percentage points.

   

In April 2012 the PNC board of directors raised the quarterly cash dividend on common stock to 40 cents per share, an increase of 5 cents per share, or 14 percent. PNC plans to purchase up to $250 million of common stock under its existing 25 million share repurchase program in open market or privately negotiated transactions during the remainder of 2012.

Our Consolidated Income Statement and Consolidated Balance Sheet Review sections of this Financial Review describe in greater detail the various items that impacted our results for the first three months of 2012 and 2011 and balances at March 31, 2012 and December 31, 2011, respectively.

AVERAGE CONSOLIDATED BALANCE SHEET HIGHLIGHTS

Various seasonal and other factors impact our period-end balances whereas average balances are generally more indicative of underlying business trends apart from the impact of acquisitions and divestitures. The Consolidated Balance Sheet Review section of this Financial Review provides information on changes in selected Consolidated Balance Sheet categories at March 31, 2012 compared with December 31, 2011.

Total average assets were $281.5 billion for the first three months of 2012 compared with $262.6 billion for the first three months of 2011. Average interest-earning assets were $237.7 billion for the first three months of 2012, compared with $224.1 billion in the first three months of 2011. In both comparisons, the increases were primarily driven by a $14.4 billion increase in average total loans. The overall increase in average loans reflected the impact of approximately $5 billion of average loans from the March 2, 2012 acquisition of RBC Bank (USA) and organic growth.

Average total loans increased $14.4 billion, to $164.6 billion for the first three months of 2012 compared with the first three months of 2011. The increase in average total loans primarily reflected an increase in commercial loans of $13.0 billion and in consumer loans of $2.7 billion, partially offset by a $.7 billion decrease in commercial real estate loans.

Loans represented 69% of average interest-earning assets for the first three months of 2012 and 67% of average interest-earning assets for the first three months of 2011.

Average investment securities decreased $.6 billion, to $61.6 billion in the first three months of 2012 compared with the first three months of 2011.

 

 

8    The PNC Financial Services Group, Inc. – Form 10-Q


Total investment securities comprised 26% of average interest-earning assets for the first three months of 2012 and 28% for the first three months of 2011.

Average noninterest-earning assets totaled $43.8 billion in the first three months of 2012 compared with $38.5 billion in the first three months of 2011. The increase over the comparable period was driven by several individually insignificant items.

Average total deposits were $192.1 billion for the first three months of 2012 compared with $180.8 billion for the first three months of 2011. The increase in average total deposits reflected the impact of approximately $4.6 billion of average deposits from the March 2, 2012 acquisition of RBC Bank (USA). The period end increase of $11.3 billion resulted from increases in average noninterest-bearing deposits of $10.1 billion, average interest-bearing demand deposits of $5.3 billion and average money market deposits of $2.6 billion, offset by a decrease in retail certificates of deposit of $7.5 billion. The growth also reflects customer preferences for liquidity in this prolonged period of low interest rates. Total deposits at March 31, 2012 were $206.1 billion compared with $188.0 billion at December 31, 2011 and are further discussed within the Consolidated Balance Sheet Review section of this Report.

Average total deposits represented 68% of average total assets for the first three months of 2012 and 69% for the first three months of 2011.

Average transaction deposits were $150.7 billion for the first three months of 2012 compared with $132.6 billion for the first three months of 2011. The continued execution of the retail deposit strategy and corporate and personal customer preference for liquidity, as well as the impact from the RBC Bank (USA) acquisition, contributed to the year-over-year increase in average balances.

Average borrowed funds were $40.2 billion for the first three months of 2012 compared with $38.4 billion for the first three months of 2011. Net issuances of Federal Home Loan Bank (FHLB) borrowings during the first quarter of 2012 and an increase in commercial paper issued drove the increase compared with the first three months of 2011. Total borrowed funds at March 31, 2012 were $42.5 billion compared with $36.7 billion at December 31, 2011 and are further discussed within the Consolidated Balance Sheet Review section of this Financial Review. The Liquidity Risk Management portion of the Risk Management section of this Financial Review includes additional information regarding our sources and uses of borrowed funds.

BUSINESS SEGMENT HIGHLIGHTS

Total business segment earnings were $770 million for the first three months of 2012 and $639 million for the first three

months of 2011. Highlights of results for the first quarters of 2012 and 2011 are included below. The Business Segments Review section of this Financial Review includes a Results of Businesses-Summary table and further analysis of our business segment results over the first three months of 2012 and 2011 including presentation differences from Note 18 Segment Reporting in our Notes To Consolidated Financial Statements of this Report.

We provide a reconciliation of total business segment earnings to PNC total consolidated net income as reported on a GAAP basis in Note 18 Segment Reporting in our Notes To Consolidated Financial Statements of this Report.

Retail Banking

Retail Banking earned $50 million in the first three months of 2012 compared with a loss of $18 million for the same period a year ago. Earnings increased from the prior year as a result of a lower provision for credit losses and improved net interest income partially offset by higher noninterest expense and a decline in noninterest income. Retail Banking continued to maintain its focus on growing core customers, selectively investing in the business for future growth, and disciplined expense management.

Corporate & Institutional Banking

Corporate & Institutional Banking earned $470 million in the first three months of 2012 as compared with $432 million in the first three months of 2011. The increase in earnings was primarily due to higher net interest income resulting from higher average loans and deposits. We continued to focus on adding new clients, increasing cross sales and remaining committed to strong expense discipline.

Asset Management Group

Asset Management Group earned $28 million in the first three months of 2012 compared with $43 million in the first three months of 2011. Assets under administration were $219 billion at both March 31, 2012 and March 31, 2011. Earnings for the first quarter of 2012 reflected an increase in the provision for credit losses and an increase in noninterest expense partially offset by growth in net interest income and noninterest income. Noninterest expense increased due to continued investments in the business including additional headcount. The core growth strategies for the business include: increasing channel penetration; investing in higher growth geographies; and investing in differentiated client-facing technology.

Residential Mortgage Banking

Residential Mortgage Banking earned $61 million in the first three months of 2012 compared with $71 million in the first three months of 2011. Earnings declined from the prior year period primarily as a result of higher noninterest expense, partially offset by higher noninterest income and lower provision for credit losses.

 

 

The PNC Financial Services Group, Inc. – Form 10-Q    9


BlackRock

Our BlackRock business segment earned $90 million in the first three months of 2012 and $86 million in the first three months of 2011. The higher business segment earnings from BlackRock for the first quarter of 2012 compared to the first quarter of 2011 was primarily due to PNC’s higher equity earnings from BlackRock.

Non-Strategic Assets Portfolio

This business segment consists primarily of acquired non-strategic assets that fall outside of our core business strategy. Non-Strategic Assets Portfolio had earnings of $71 million for the first three months of 2012 compared with $25 million in the first three months of 2011. The increase was driven primarily by a lower provision for credit losses partially offset by a decline in revenue.

Other

“Other” reported earnings of $41 million for the three months of 2012 compared with earnings of $193 million for the first three months of 2011. The decrease in earnings from the first three months of 2011 primarily reflected the impact of integration costs incurred in the 2012 period.

CONSOLIDATED INCOME STATEMENT REVIEW

Our Consolidated Income Statement is presented in Part I, Item 1 of this Report.

Net income for the first three months of 2012 was $811 million, down 3% compared with $832 million for the first three months of 2011. Net income for the first quarter of 2012 included integration costs of $145 million, additions to legal reserves of $72 million, operating expenses of $40 million for the RBC Bank (USA) acquisition and $38 million of residential mortgage foreclosure-related expenses. The impacts of these items were not significant to net income for the first quarter of 2011.

TABLE 2: NET INTEREST INCOME AND NET INTEREST MARGIN

 

Three months ended March 31

Dollars in millions

   2012     2011  

Net interest income

   $ 2,291     $ 2,176  

Net interest margin

     3.90     3.94

Changes in net interest income and margin result from the interaction of the volume and composition of interest-earning assets and related yields, interest-bearing liabilities and related rates paid, and noninterest-bearing sources of funding. See the Statistical Information (Unaudited) – Average Consolidated Balance Sheet And Net Interest Analysis section of this Report for additional information.

Net interest income of $2.3 billion for the first quarter of 2012 increased 5 percent compared with the first quarter of 2011 driven by loans from the RBC Bank (USA) acquisition, organic loan growth and lower funding costs.

The net interest margin was 3.90% for the first three months of 2012 and 3.94% for the first three months of 2011. The following factors impacted the comparison:

   

Average loans increased $14.4 billion, or 10 percent. Average commercial loans grew $13.0 billion, or 23 percent, and average consumer loans increased $2.7 billion, or 5 percent, partially offset by declines in average commercial real estate and residential real estate loans.

   

A 26 basis point decrease in the yield on interest-earning assets. The yield on loans, the largest portion of our earning assets, decreased 31 basis points.

   

These factors were partially offset by a weighted-average 25 basis point decline in the rate accrued on interest-bearing liabilities. The rate accrued on interest-bearing deposits, the largest component, decreased 24 basis points, and the rate on total borrowed funds decreased by 34 basis points.

We expect our net interest income for full year 2012 to increase in percentage terms by high single digits compared to full year 2011, assuming the economic outlook for the remainder of 2012 will be a continuation of the recent trends. Approximately $5 billion of higher-cost retail certificates of deposit are scheduled to mature during the second quarter of 2012 at a weighted-average rate of about 2.2%. We expect to retain about half of the maturing retail certificates of deposit, and we expect those to re-price on average to approximately 30 basis points. In addition, we see future benefits to our funding costs relating to calling certain trust preferred securities. We redeemed $306 million of trust preferred securities with an average rate of 6.2% in April 2012, and in April 2012 we announced that we are calling another $500 million with a current distribution rate of 6.6%. We expect to replace these securities with lower cost funding. We have an additional $1 billion of trust preferred securities at an average rate of almost 10% with par call dates later this year that potentially could be called.

NONINTEREST INCOME

Noninterest income totaled $1.4 billion for the first three months of 2012 and $1.5 billion for the first three months of 2011. Increases were reflected in higher residential mortgage revenue from higher loan sales revenue, higher asset management fees from improved equity markets, and an increase in corporate service fees from higher merger and acquisition advisory fees and commercial mortgage banking revenue. These increases were offset by a decline in other income including a decrease in revenue from private and other equity investments and lower gains on loan sales, and by lower consumer service fees reflecting the regulatory impact of lower interchange fees on debit card transactions.

 

 

10    The PNC Financial Services Group, Inc. – Form 10-Q


Asset management revenue, including BlackRock, increased $21 million to $284 million in the first three months of 2012 compared with the first three months of 2011. This increase was driven primarily by higher equity earnings from our BlackRock investment. Discretionary assets under management at March 31, 2012 totaled $112 billion compared with $110 billion at March 31, 2011.

For the first three months of 2012, consumer services fees totaled $264 million compared with $311 million in the first three months of 2011. Lower consumer services fees for the first quarter 2012 reflected the regulatory impact of lower interchange fees on debit card transactions partially offset by higher volumes of customer-initiated transactions. As further discussed in the Retail Banking section of the Business Segments Review portion of this Financial Review, the Dodd-Frank limits on interchange rates were effective October 1, 2011 and had a negative impact on revenues of approximately $70 million in the first quarter of 2012. Based on 2012 projected transaction volumes, an additional incremental reduction of approximately $230 million in 2012 revenue is expected.

Corporate services revenue totaled $232 million in the first three months of 2012 and $217 million in the first three months of 2011. Higher merger and acquisition advisory fees and commercial mortgage banking revenue led to the increase in corporate service fees in the first quarter of 2012.

Residential mortgage revenue totaled $230 million in the first three months of 2012 and $195 million in the first three months of 2011, driven by higher loans sales revenue, higher net hedging gains on mortgage servicing rights and higher servicing fees.

Service charges on deposits totaled $127 million for the first three months of 2012 and $123 million for the first three months of 2011. The slight increase in service charges on deposits during the first quarter 2012 related to the impact of the RBC Bank (USA) acquisition during the quarter.

Net gains on sales of securities totaled $57 million for the first three months of 2012 and $37 million for the first three months of 2011. The net credit component of OTTI of securities recognized in earnings was a loss of $38 million in the first three months of 2012 compared with a loss of $34 million in the first three months of 2011.

Other noninterest income totaled $285 million for the first three months of 2012 compared with $343 million for the first three months of 2011, largely related to a decrease in revenue from private and other equity investments and lower gains on loan sales.

Other noninterest income typically fluctuates from period to period depending on the nature and magnitude of transactions completed. Further details regarding our trading activities are

included in the Market Risk Management – Trading Risk portion of the Risk Management section of this Financial Review, further details regarding private and other equity investments are included in the Market Risk Management-Equity And Other Investment Risk section, and further details regarding gains or losses related to our equity investment in BlackRock are included in the Business Segments Review section.

The growth in our diverse revenue streams is an important component of driving positive operating leverage and should enable us to achieve a solid performance in an environment that will continue to be affected by regulatory reform headwinds and implementation challenges. Looking to full year 2012, we see further opportunities for growth as a result of our larger franchise, our ability to cross-sell our products and services to existing clients and our excellent progress in adding new clients. We expect noninterest income to increase in percentage terms by the mid-single digits despite further regulatory impacts on debit card interchange fees, assuming the economic outlook for 2012 will be a continuation of the 2011 environment.

PRODUCT REVENUE

In addition to credit and deposit products for commercial customers, Corporate & Institutional Banking offers other services, including treasury management, capital markets-related products and services, and commercial mortgage banking activities for customers in all business segments. A portion of the revenue and expense related to these products is reflected in the Corporate & Institutional Banking segment results and the remainder is reflected in the results of other businesses. The Other Information section in the Corporate & Institutional Banking table in the Business Segments Review section of this Financial Review includes the consolidated revenue to PNC for these services. A discussion of the consolidated revenue from these services follows.

Treasury management revenue, which includes fees as well as net interest income from customer deposit balances, totaled $311 million for the first three months of 2012 and $301 million for the first three months of 2011. Higher deposit related balances along with strong commercial card growth led to favorable results.

Revenue from capital markets-related products and services totaled $156 million in the first three months of 2012 compared with $139 million in the first three months of 2011. The increase was primarily due to revenue from higher derivatives and foreign exchange sales and higher merger and acquisition advisory fees which more than offset a lower level of loan sale activity.

Commercial mortgage banking activities include revenue derived from commercial mortgage servicing (including net interest income and noninterest income from loan servicing and ancillary services, net of commercial mortgage servicing

 

 

The PNC Financial Services Group, Inc. – Form 10-Q    11


rights amortization, and commercial mortgage servicing rights valuations), and revenue derived from commercial mortgage loans intended for sale and related hedges (including loan origination fees, net interest income, valuation adjustments and gains or losses on sales).

Commercial mortgage banking activities resulted in revenue of $43 million in the first three months of 2012 compared with $41 million in the first three months of 2011. Higher revenue from commercial mortgage servicing was partially offset by lower revenue from loan originations.

PROVISION FOR CREDIT LOSSES

The provision for credit losses totaled $185 million for the first three months of 2012 compared with $421 million for the first three months of 2011. The decline in the comparison was driven by overall credit quality improvement and continuation of actions to reduce exposure levels.

We expect our provision for credit losses for full year 2012 to improve relative to full year 2011 assuming the economic outlook for the full year 2012 will be a continuation of the 2011 environment and excluding legal and regulatory-related contingencies to the extent that the nature of the resolution of such contingencies causes us to recognize additional provision.

The Credit Risk Management portion of the Risk Management section of this Financial Review includes additional information regarding factors impacting the provision for credit losses.

NONINTEREST EXPENSE

Noninterest expense was $2.5 billion for the first three months of 2012 and $2.1 billion for the first three months of 2011. First quarter 2012 expense included integration costs of $145 million, additions to legal reserves of $72 million, operating expense for the RBC Bank (USA) acquisition of $40 million and $38 million of residential mortgage foreclosure-related expenses.

We expect that total noninterest expense for full year 2012 will increase in percentage terms by mid-to-high single-digits compared to full year 2011. This expectation is based primarily due to increases in mortgage expenses as a result of higher volumes in the low rate environment and mortgage foreclosure-related matters. This guidance excludes legal and regulatory-related contingencies, charges for trust preferred securities redemptions and integration expenses for both years.

EFFECTIVE INCOME TAX RATE

The effective income tax rate was 25.7% in the first three months of 2012 compared with 27.0% in the first three months of 2011. The lower rate in the first quarter of 2012 was primarily attributable to the impact of higher tax-exempt income and tax credits partially offset by higher levels of pretax income.

 

 

12    The PNC Financial Services Group, Inc. – Form 10-Q


CONSOLIDATED BALANCE SHEET REVIEW

TABLE 3: SUMMARIZED BALANCE SHEET DATA

 

In millions    Mar. 31
2012
     Dec. 31
2011
 

Assets

       

Loans

   $ 176,214      $ 159,014  

Investment securities

     64,554        60,634  

Cash and short-term investments

     10,256        9,992  

Loans held for sale

     2,456        2,936  

Goodwill and other intangible assets

     11,188        10,144  

Equity investments

     10,352        10,134  

Other, net

     20,863        18,351  

Total assets

   $ 295,883      $ 271,205  

Liabilities

       

Deposits

   $ 206,127      $ 187,966  

Borrowed funds

     42,539        36,704  

Other

     8,981        9,289  

Total liabilities

     257,647        233,959  

Total shareholders’ equity

     35,045        34,053  

Noncontrolling interests

     3,191        3,193  

Total equity

     38,236        37,246  

Total liabilities and equity

   $ 295,883      $ 271,205  

The summarized balance sheet data above is based upon our Consolidated Balance Sheet in this Report.

The increase in total assets of $24.7 billion at March 31, 2012 compared with December 31, 2011 was primarily due to the addition of assets from the RBC Bank (USA) acquisition, loan growth and higher investment securities.

An analysis of changes in selected balance sheet categories follows.

LOANS

A summary of the major categories of loans outstanding follows. Outstanding loan balances of $176.2 billion at March 31, 2012 and $159.0 billion at December 31, 2011 were net of unearned income, net deferred loan fees, unamortized discounts and premiums, and purchase discounts and premiums of $3.3 billion at March 31, 2012 and $2.3 billion at December 31, 2011, respectively. The balances do not include future accretable net interest (i.e., the difference between the undiscounted expected cash flows and the carrying value of the loan) on the purchased impaired loans.

Loans increased $17.2 billion as of March 31, 2012 compared with December 31, 2011. On March 2, 2012, our RBC Bank (USA) acquisition added $14.5 billion of loans, which included $6.4 billion of commercial, $2.5 billion of commercial real estate, $3.4 billion of consumer (including $3.0 billion of home equity loans and $.3 billion of credit card loans), $2.1 billion of residential real estate, and $.1 billion of equipment lease financing loans. Excluding acquisition

activity, the growth in commercial loans was due to organic growth in the portfolio while the decline in consumer and residential real estate loans was due to loan demand being outpaced by paydowns, refinancing, and charge-offs.

Loans represented 60% of total assets at March 31, 2012 and 59% of total assets at December 31, 2011. Commercial lending represented 57% of the loan portfolio at March 31, 2012 and 56% at December 31, 2011. Consumer lending represented 43% at March 31, 2012 and 44% at December 31, 2011.

Commercial real estate loans represented 6% of total assets at both March 31, 2012 and December 31, 2011.

Table 4: Details Of Loans

 

In millions    Mar. 31
2012
     Dec. 31
2011
 

Commercial Lending

       

Commercial

       

Retail/wholesale trade

   $ 12,983      $ 11,539  

Manufacturing

     12,684        11,453  

Service providers

     11,215        9,717  

Real estate related (a)

     10,091        8,488  

Financial services

     8,273        6,646  

Health care

     5,695        5,068  

Other industries

     14,574        12,783  

Total commercial

     75,515        65,694  

Commercial real estate

       

Real estate projects

     12,589        10,640  

Commercial mortgage

     5,945        5,564  

Total commercial real estate

     18,534        16,204  

Equipment lease financing

     6,594        6,416  

TOTAL COMMERCIAL LENDING

     100,643        88,314  

Consumer Lending

       

Home equity

       

Lines of credit

     24,668        22,491  

Installment

     11,076        10,598  

Total home equity

     35,744        33,089  

Residential real estate

       

Residential mortgage

     15,287        13,885  

Residential construction

     925        584  

Total residential real estate

     16,212        14,469  

Credit card

     4,089        3,976  

Other consumer

       

Education

     9,246        9,582  

Automobile

     5,794        5,181  

Other

     4,486        4,403  

Total other consumer

     19,526        19,166  

TOTAL CONSUMER LENDING

     75,571        70,700  

Total loans (b)

   $ 176,214      $ 159,014  
(a) Includes loans to customers in the real estate and construction industries.
(b) Construction loans with interest reserves, and A/B Note restructurings are not significant to PNC.
 

 

The PNC Financial Services Group, Inc. – Form 10-Q    13


Total loans above include purchased impaired loans of $8.4 billion, or 5% of total loans, at March 31, 2012, and $6.7 billion, or 4% of total loans, at December 31, 2011. The increase is related to the addition of purchased impaired loans from the RBC (USA) acquisition.

We are committed to providing credit and liquidity to qualified borrowers. Total loan originations and new commitments and renewals totaled $35 billion for the first three months of 2012.

Our loan portfolio continued to be diversified among numerous industries and types of businesses in our principal geographic markets.

Commercial lending is the largest category and is the most sensitive to changes in assumptions and judgments underlying the determination of the allowance for loan and lease losses (ALLL). This estimate also considers other relevant factors such as:

   

Industry concentrations and conditions,

   

Recent credit quality trends,

   

Recent loss experience in particular portfolios,

   

Recent macro economic factors,

   

Changes in risk selection and underwriting standards, and

   

Timing of available information.

Higher Risk Loans

Our loan portfolio includes certain loans deemed to be higher risk and therefore more likely to result in credit losses. As of March 31, 2012, we established specific and pooled reserves on the total commercial lending category of $1.9 billion. This commercial lending reserve included what we believe to be appropriate loss coverage on the higher risk commercial loans in the total commercial portfolio. The commercial lending reserve represented 46% of the total ALLL of $4.2 billion at that date. The remaining 54% of ALLL pertained to the total consumer lending category, including loans with certain attributes that we would consider to be higher risk. We do not consider government insured or guaranteed loans to be higher risk as defaults are materially mitigated by payments of insurance or guarantee amounts for approved claims. Additional information regarding our higher risk loans is included in Note 5 Asset Quality and Allowances for Loan and Lease Losses and Unfunded Loan Commitments and Letters of Credit in our Notes To Consolidated Financial Statements included in this Report.

 

 

Purchase Accounting, Accretion and Valuation for Purchased Impaired Loans

Table 5: RBC Acquired Loan Portfolio on March 2, 2012

 

     Purchased Impaired     Other Purchased Loans (a)  
In millions    Fair Value     

Outstanding

Balance

     Net Investment     Fair Value     

Outstanding

Balance (b)

     Net Investment  

Commercial

   $ 446      $ 746        60   $ 6,002      $ 6,328        95

Commercial Real Estate

     481        836        58       2,067        2,310        89  

Equipment Lease Financing

               86        92        93  

Consumer

     151        215        70       3,203        3,731        86  

Residential Real Estate

     896        1,214        74       1,168        1,202        97  

Total

   $ 1,974      $ 3,011        66   $ 12,526      $ 13,663        92
(a) Other purchased loans includes revolving loans that are excluded from the purchased impaired loans.
(b) The difference between total outstanding balance and total fair value will be accreted into net interest income on a constant effective yield over the life of the loans unless future credit events cause the loans to be on nonaccrual.

 

Information related to purchase accounting, accretion and valuation for purchased impaired loans for the first three months of 2012 and 2011 follows.

Table 6: Accretion – Purchased Impaired Loans

 

Three months ended March 31

In millions

   2012 (a)     2011 (b)  

Impaired loans

      

Scheduled accretion

   $ 158     $ 160  

Reversal of contractual interest on impaired loans

     (97     (106

Scheduled accretion net of contractual interest

     61       54  

Excess cash recoveries

     40       81  

Total impaired loans

   $ 101     $ 135  
(a) Represents National City and RBC acquisitions.
(b) Represents National City acquisition.

Table 7: Accretable Net Interest – Purchased Impaired Loans

 

In billions    2012     2011  

January 1

   $ 2.1     $ 2.2  

Addition due to RBC acquisition on March 2, 2012

     .6      

Accretion

     (.2     (.2

Excess cash recoveries

       (.1

Net reclassifications to accretable from non-accretable and other activity

             .3  

March 31 (a)

   $ 2.5     $ 2.2  
(a) As of March 31, 2012, we estimate that the reversal of contractual interest on purchased impaired loans will total approximately $1.5 billion in future periods, of which $250 million was associated with loans purchased in the RBC acquisition. This will offset the total net accretable interest in future interest income of $2.5 billion on purchased impaired loans.
 

 

14    The PNC Financial Services Group, Inc. – Form 10-Q


Table 8: Valuation of Purchased Impaired Loans

 

     March 31, 2012 (a)     December 31, 2011 (b)  
Dollars in billions    Balance      Net Investment     Balance      Net Investment  

Commercial and commercial real estate loans:

            

Unpaid principal balance

   $ 2.4        $ 1.0       

Purchased impaired mark

     (.7              (.1         

Recorded investment

     1.7          .9       

Allowance for loan losses

     (.2              (.2         

Net investment

     1.5        63     .7        70

Consumer and residential mortgage loans:

            

Unpaid principal balance

     7.7          6.5       

Purchased impaired mark

     (1.0              (.7         

Recorded investment

     6.7          5.8       

Allowance for loan losses

     (.8 )               (.8         

Net investment

     5.9        77     5.0        77

Total purchased impaired loans:

            

Unpaid principal balance

     10.1          7.5       

Purchased impaired mark

     (1.7              (.8         

Recorded investment

     8.4          6.7       

Allowance for loan losses

     (1.0              (1.0         

Net investment

   $ 7.4        73   $ 5.7        76

 

(a) Represents National City and RBC acquisitions.
(b) Represents National City acquisition.

 

The unpaid principal balance of purchased impaired loans increased from $7.5 billion at December 31, 2011 to $10.1 billion at March 31, 2012 due to the acquisition of RBC Bank (USA) and related credit card portfolio, partially offset by payments, disposals, and charge-offs of amounts determined to be uncollectible. The remaining purchased impaired mark at March 31, 2012 was $1.7 billion, which was an increase from $0.8 billion at December 31, 2011. The associated allowance for loan losses remained flat at March 31, 2012. The net investment of $5.7 billion at December 31, 2011 also increased 30% to $7.4 billion at March 31, 2012. At March 31, 2012, our largest individual purchased impaired loan had a recorded investment of $21.8 million.

We currently expect to collect total cash flows of $9.9 billion on purchased impaired loans, representing the $7.4 billion net investment at March 31, 2012 and the accretable net interest of $2.5 billion shown in the Accretable Net Interest-Purchased Impaired Loans table. These represent the net future cash flows on purchased impaired loans, as contractual interest will be reversed.

Net Unfunded Credit Commitments

Net unfunded credit commitments are comprised of the following:

Table 9: Net Unfunded Credit Commitments

 

In millions    March 31
2012
     December 31
2011
 

Commercial/commercial real estate (a)

   $ 69,941      $ 64,955  

Home equity lines of credit

     20,751        18,317  

Credit card

     17,610        16,216  

Other

     4,152        3,783  

Total

   $ 112,454      $ 103,271  
(a) Less than 4% of these amounts at each date relate to commercial real estate.

Commitments to extend credit represent arrangements to lend funds or provide liquidity subject to specified contractual conditions. Commercial commitments reported above exclude syndications, assignments and participations, primarily to financial institutions, totaling $20.9 billion at March 31, 2012 and $20.2 billion at December 31, 2011.

Unfunded liquidity facility commitments and standby bond purchase agreements totaled $903 million at March 31, 2012 and $742 million at December 31, 2011 and are included in the preceding table primarily within the Commercial / commercial real estate category.

In addition to the credit commitments set forth in the table above, our net outstanding standby letters of credit totaled $10.9 billion at March 31, 2012 and $10.8 billion at December 31, 2011. Standby letters of credit commit us to make payments on behalf of our customers if specified future events occur.

 

 

The PNC Financial Services Group, Inc. – Form 10-Q    15


INVESTMENT SECURITIES

Table 10: Details of Investment Securities

 

In millions    Amortized
Cost
     Fair
Value
 

March 31, 2012

       

SECURITIES AVAILABLE FOR SALE

       

Debt securities

       

US Treasury and government agencies

   $ 2,567      $ 2,842  

Residential mortgage-backed

       

Agency

     28,493        29,298  

Non-agency

     6,791        6,121  

Commercial mortgage-backed

       

Agency

     865        899  

Non-agency

     2,805        2,943  

Asset-backed

     5,417        5,283  

State and municipal

     1,899        1,936  

Other debt

     3,647        3,738  

Corporate stocks and other

     298        298  

Total securities available for sale

   $ 52,782      $ 53,358  

SECURITIES HELD TO MATURITY

       

Debt securities

       

US Treasury and government agencies

   $ 224      $ 246  

Residential mortgage-backed (agency)

     4,450        4,590  

Commercial mortgage-backed

       

Agency

     1,301        1,357  

Non-agency

     3,223        3,334  

Asset-backed

     967        977  

State and municipal

     671        704  

Other debt

     360        373  

Total securities held to maturity

   $ 11,196      $ 11,581  

December 31, 2011

       

SECURITIES AVAILABLE FOR SALE

       

Debt securities

       

US Treasury and government agencies

   $ 3,369      $ 3,717  

Residential mortgage-backed

       

Agency

     26,081        26,792  

Non-agency

     6,673        5,557  

Commercial mortgage-backed

       

Agency

     1,101        1,140  

Non-agency

     2,693        2,756  

Asset-backed

     3,854        3,669  

State and municipal

     1,779        1,807  

Other debt

     2,691        2,762  

Corporate stocks and other

     368        368  

Total securities available for sale

   $ 48,609      $ 48,568  

SECURITIES HELD TO MATURITY

       

Debt securities

       

US Treasury and government agencies

   $ 221      $ 261  

Residential mortgage-backed (agency)

     4,761        4,891  

Commercial mortgage-backed

       

Agency

     1,332        1,382  

Non-agency

     3,467        3,573  

Asset-backed

     1,251        1,262  

State and municipal

     671        702  

Other debt

     363        379  

Total securities held to maturity

   $ 12,066      $ 12,450  

The carrying amount of investment securities totaled $64.6 billion at March 31, 2012, an increase of $3.9 billion, or 6%, from $60.6 billion at December 31, 2011. The increase reflected higher agency residential mortgage-backed securities from net purchase activity and asset-backed and other debt securities added in the RBC Bank (USA) acquisition. Investment securities represented 22% of total assets at both March 31, 2012 and December 31, 2011.

We evaluate our portfolio of investment securities in light of changing market conditions and other factors and, where appropriate, take steps intended to improve our overall positioning. We consider the portfolio to be well-diversified and of high quality. US Treasury and government agencies, agency residential mortgage-backed and agency commercial mortgage-backed securities collectively represented 60% of the investment securities portfolio at March 31, 2012.

At March 31, 2012, the securities available for sale portfolio included a net unrealized gain of $576 million, which represented the difference between fair value and amortized cost. The comparable amount at December 31, 2011 was a net unrealized loss of $41 million. The fair value of investment securities is impacted by interest rates, credit spreads, market volatility and liquidity conditions. The fair value of investment securities generally decreases when interest rates increase and vice versa. In addition, the fair value generally decreases when credit spreads widen and vice versa.

The improvement in the net unrealized gain as compared with a loss at December 31, 2011 was primarily due to the effect of higher valuations of non-agency residential mortgage-backed securities. Net unrealized gains and losses in the securities available for sale portfolio are included in shareholders’ equity as accumulated other comprehensive income or loss from continuing operations, net of tax.

Unrealized gains and losses on available for sale securities do not impact liquidity or risk-based capital. However, reductions in the credit ratings of these securities could have an impact on the liquidity of the securities or the determination of risk-weighted assets which could reduce our regulatory capital ratios. In addition, the amount representing the credit-related portion of OTTI on available for sale securities would reduce our earnings and regulatory capital ratios.

The expected weighted-average life of investment securities (excluding corporate stocks and other) was 3.7 years at March 31, 2012 and 3.7 years at December 31, 2011.

We estimate that, at March 31, 2012, the effective duration of investment securities was 2.7 years for an immediate 50 basis points parallel increase in interest rates and 2.5 years for an immediate 50 basis points parallel decrease in interest rates. Comparable amounts at December 31, 2011 were 2.6 years and 2.4 years, respectively.

 

 

16    The PNC Financial Services Group, Inc. – Form 10-Q


The following table provides detail regarding the vintage, current credit rating, and FICO score of the underlying collateral at origination, where available, for residential mortgage-backed, commercial mortgage-backed and other asset-backed securities held in the available for sale and held to maturity portfolios:

Table 11: Vintage, Current Credit Rating, and FICO Score for Asset-Backed Securities

 

     March 31, 2012  
     Agency      Non-agency          
Dollars in millions    Residential
Mortgage-
Backed
Securities
    Commercial
Mortgage-
Backed
Securities
     Residential
Mortgage-
Backed
Securities
    Commercial
Mortgage-
Backed
Securities
     Asset-
Backed
Securities
 

Fair Value – Available for Sale

   $ 29,298     $ 899      $ 6,121     $ 2,943      $ 5,283  

Fair Value – Held to Maturity

     4,590       1,357                3,334        977  

Total Fair Value

   $ 33,888     $ 2,256      $ 6,121     $ 6,277      $ 6,260   

% of Fair Value:

                  

By Vintage

                  

2012

     7            1     

2011

     31     43        5     

2010

     30     19        4      4

2009

     11     20        3      5

2008

     3     2             2

2007

     3     1      24     9      5

2006

     2     4      22     24      6

2005 and earlier

     8     11      53     52      7

Not Available

     5              1     2      71

Total

     100     100      100     100      100

By Credit Rating (at March 31, 2012)

                  

Agency

     100     100            

AAA

            1     77      57

AA

            1     6      30

A

            3     10      1

BBB

            5     4     

BB

            12     1     

B

            6          1

Lower than B

            71          9

No rating

                      1     2      2

Total

     100     100      100     100      100

By FICO Score (at origination)

                  

>720

            56          5

<720 and >660

            30          6

<660

                   4

No FICO score

                      14              85

Total

                      100              100

 

We conduct a comprehensive security-level impairment assessment quarterly on all securities in an unrealized loss position to determine whether the loss represents OTTI. Our assessment considers the security structure, recent security collateral performance metrics, external credit ratings, failure of the issuer to make scheduled interest or principal payments, our judgment and expectations of future performance, and relevant independent industry research, analysis and forecasts.

We also consider the severity of the impairment and the length of time that the security has been impaired in our assessment. Results of the periodic assessment are reviewed by a cross-functional senior management team representing Asset &

Liability Management, Finance, and Market Risk Management. The senior management team considers the results of the assessments, as well as other factors, in determining whether the impairment is other-than-temporary.

We recognize the credit portion of OTTI charges in current earnings for those debt securities where we do not intend to sell and believe we will not be required to sell the securities prior to expected recovery. The noncredit portion of OTTI is included in accumulated other comprehensive income (loss). Also see our Consolidated Statement of Comprehensive Income.

 

 

The PNC Financial Services Group, Inc. – Form 10-Q    17


We recognized OTTI for the first three months of 2012 and 2011 as follows:

Table 12: Other-Than-Temporary Impairments

 

Three months ended March 31        
In millions    2012     2011  

Credit portion of OTTI losses (a)

      

Non-agency residential mortgage-backed

   $ 32     $ 28  

Asset-backed

     5       5  

Other debt

     1       1  

Total credit portion of OTTI losses

     38       34  

Noncredit portion of OTTI (recoveries) (b)

     (22     (4

Total OTTI losses

   $ 16     $ 30  
(a) Reduction of noninterest income in our Consolidated Income Statement.
(b) Included in Accumulated other comprehensive income (loss), net of tax, on our Consolidated Balance Sheet. Also see our Consolidated Statement of Comprehensive Income.
 

 

The following table summarizes net unrealized gains and losses recorded on non-agency residential and commercial mortgage-backed and other asset-backed securities, which represent our most significant categories of securities not backed by the US government or its agencies. A summary of all OTTI credit losses recognized for the first three months of 2012 by investment type is included in Note 7 Investment Securities in the Notes To Consolidated Financial Statements in this Report.

Table 13: Net Unrealized Gains and Losses on Non-Agency Securities

 

     March 31, 2012  
In millions    Residential Mortgage-
Backed Securities
    Commercial Mortgage-
Backed Securities
    

Asset-Backed

Securities (a)

 

Available for Sale Securities (Non-Agency)

                      
     Fair
Value
     Net
Unrealized
Gain
(Loss)
    Fair
Value
     Net
Unrealized
Gain
     Fair
Value
     Net
Unrealized
Gain
(Loss)
 

Credit Rating Analysis

                      

AAA

   $ 91      $ 1     $ 1,708      $ 69      $ 2,897      $ 11  

Other Investment Grade (AA, A, BBB)

     546        (9     1,033        65        1,715        (14

Total Investment Grade

     637        (8     2,741        134        4,612        (3

BB

     734        (81     93               

B

     384        (25             61        (5

Lower than B

     4,333        (557                       585        (107

Total Sub-Investment Grade

     5,451        (663     93                 646        (112

Total No Rating

     33        1       109        4        22        (19

Total

   $ 6,121      $ (670   $ 2,943      $ 138      $ 5,280      $ (134

OTTI Analysis

                      

Investment Grade:

                      

OTTI has been recognized

                      

No OTTI recognized to date

   $ 637      $ (8   $ 2,741      $ 134      $ 4,612      $ (3

Total Investment Grade

     637        (8     2,741        134        4,612        (3

Sub-Investment Grade:

                      

OTTI has been recognized

     3,565        (623             565        (125

No OTTI recognized to date

     1,886        (40     93                 81        13  

Total Sub-Investment Grade

     5,451        (663     93                 646        (112

No Rating:

                      

OTTI has been recognized

                    22        (19

No OTTI recognized to date

     33        1       109        4                    

Total No Rating

     33        1       109        4        22        (19

Total

   $ 6,121      $ (670   $ 2,943      $ 138      $ 5,280      $ (134

Securities Held to Maturity (Non-Agency)

                      

Credit Rating Analysis

                      

AAA

          $ 3,122      $ 101      $ 654      $ 7  

Other Investment Grade (AA, A, BBB)

                      212        10        212        (1

Total Investment Grade

                      3,334        111        866        6  

BB

                    4       

B

                    1       

Lower than B

                                                    

Total Sub-Investment Grade

                                        5           

Total No Rating

                                        100        4  

Total

                    $ 3,334      $ 111      $ 971      $ 10  
(a) Excludes $3 million and $6 million of available for sale and held to maturity agency asset-backed securities, respectively.

 

18    The PNC Financial Services Group, Inc. – Form 10-Q


Residential Mortgage-Backed Securities

At March 31, 2012, our residential mortgage-backed securities portfolio was comprised of $33.9 billion fair value of US government agency-backed securities and $6.1 billion fair value of non-agency (private issuer) securities. The agency securities are generally collateralized by 1-4 family, conforming, fixed-rate residential mortgages. The non-agency securities are also generally collateralized by 1-4 family residential mortgages. The mortgage loans underlying the non-agency securities are generally non-conforming (i.e., original balances in excess of the amount qualifying for agency securities) and predominately have interest rates that are fixed for a period of time, after which the rate adjusts to a floating rate based upon a contractual spread that is indexed to a market rate (i.e., a “hybrid ARM”), or interest rates that are fixed for the term of the loan.

Substantially all of the non-agency securities are senior tranches in the securitization structure and at origination had credit protection in the form of credit enhancement, over-collateralization and/or excess spread accounts.

During the first three months of 2012, we recorded OTTI credit losses of $32 million on non-agency residential mortgage-backed securities. All of the losses were associated with securities rated below investment grade. As of March 31, 2012, the noncredit portion of OTTI losses recorded in accumulated other comprehensive income for non-agency residential mortgage-backed securities totaled $623 million and the related securities had a fair value of $3.6 billion.

The fair value of sub-investment grade investment securities for which we have not recorded an OTTI credit loss as of March 31, 2012 totaled $1.9 billion, with unrealized net losses of $40 million. The results of our security-level assessments indicate that we will recover the entire cost basis of these securities. Note 7 Investment Securities in the Notes To Consolidated Financial Statements in this Report provides further detail regarding our process for assessing OTTI for these securities.

Commercial Mortgage-Backed Securities

The fair value of the non-agency commercial mortgage-backed securities portfolio was $6.3 billion at March 31, 2012 and consisted of fixed-rate, private-issuer securities collateralized by non-residential properties, primarily retail properties, office buildings, and multi-family housing. The agency commercial mortgage-backed securities portfolio was $2.3 billion fair value at March 31, 2012 consisting of multi-family housing. Substantially all of the securities are the most senior tranches in the subordination structure.

There were no OTTI credit losses on commercial mortgage-backed securities during the first three months of 2012.

Asset-Backed Securities

The fair value of the asset-backed securities portfolio was $6.3 billion at March 31, 2012 and consisted of fixed-rate and

floating-rate, private-issuer securities collateralized primarily by various consumer credit products, including residential mortgage loans, credit cards, automobile loans, and student loans. Substantially all of the securities are senior tranches in the securitization structure and have credit protection in the form of credit enhancement, over-collateralization and/or excess spread accounts.

We recorded OTTI credit losses of $5 million on asset-backed securities during the first three months of 2012. All of the securities are collateralized by first and second lien residential mortgage loans and are rated below investment grade. As of March 31, 2012, the noncredit portion of OTTI losses recorded in accumulated other comprehensive income for asset-backed securities totaled $144 million and the related securities had a fair value of $587 million.

For the sub-investment grade investment securities (available for sale and held to maturity) for which we have not recorded an OTTI loss through March 31, 2012, the remaining fair value was $86 million, with unrealized net gains of $13 million. The results of our security-level assessments indicate that we will recover the cost basis of these securities. Note 7 Investment Securities in the Notes To Consolidated Financial Statements in this Report provides further detail regarding our process for assessing OTTI for these securities.

If current housing and economic conditions were to worsen, and if market volatility and illiquidity were to worsen, or if market interest rates were to increase appreciably, the valuation of our investment securities portfolio could continue to be adversely affected and we could incur additional OTTI credit losses that would impact our Consolidated Income Statement.

Table 14: Loans Held For Sale

 

In millions    March 31
2012
     December 31
2011
 

Commercial mortgages at fair value

   $ 840      $ 843  

Commercial mortgages at lower of cost or fair value

     174        451  

Total commercial mortgages

     1,014        1,294  

Residential mortgages

     1,387        1,522  

Other

     55        120  

Total

   $ 2,456      $ 2,936  

We stopped originating certain commercial mortgage loans designated as held for sale in 2008 and continue pursuing opportunities to reduce these positions at appropriate prices. We sold $10 million in unpaid principal balance of these commercial mortgage loans held for sale carried at fair value in the first three months of 2012 and sold $16 million in the first three months of 2011.

We recognized total net losses of $3 million in the first three months of 2012 on the valuation and sale of commercial mortgage loans held for sale, net of hedges. Net gains of $13

 

 

The PNC Financial Services Group, Inc. – Form 10-Q    19


million on the valuation and sale of commercial mortgage loans held for sale, net of hedges, were recognized in the first three months of 2011.

Residential mortgage loan origination volume was $3.4 billion in the first three months of 2012 compared to $3.2 billion for the first three months of 2011. Substantially all such loans were originated under agency or Federal Housing Administration (FHA) standards.

We sold $3.5 billion of loans and recognized related gains of $109 million during the first three months of 2012. The comparable amounts for the first three months of 2011 were $3.4 billion and $84 million, respectively.

Interest income on loans held for sale was $50 million in the first three months of 2012, and $69 million in the first three months of 2011. These amounts are included in Other interest income on our Consolidated Income Statement.

GOODWILL AND OTHER INTANGIBLE ASSETS

Goodwill and other intangible assets totaled $11.2 billion at March 31, 2012 and $10.1 billion at December 31, 2011. During the first three months of 2012, PNC recorded goodwill of $954 million and other intangible assets of $180 million associated with the RBC Bank (USA) acquisition. See Note 2 Acquisition and Divestiture Activity and Note 9 Goodwill and Other Intangible Assets included in the Notes To Consolidated Financial Statements in this Report.

FUNDING AND CAPITAL SOURCES

Table 15: Details Of Funding Sources

 

In millions    March 31
2012
     December 31
2011
 

Deposits

       

Money market

   $ 99,481      $ 89,912  

Demand

     65,086        57,717  

Retail certificates of deposit

     29,342        29,518  

Savings

     9,945        8,705  

Time deposits in foreign offices and other time

     2,273        2,114  

Total deposits

     206,127        187,966  

Borrowed funds

       

Federal funds purchased and repurchase agreements

     4,832        2,984  

Federal Home Loan Bank borrowings

     8,957        6,967  

Bank notes and senior debt

     12,065        11,793  

Subordinated debt

     8,221        8,321  

Other

     8,464        6,639  

Total borrowed funds

     42,539        36,704  

Total

   $ 248,666      $ 224,670  

Total funding sources increased $24.0 billion at March 31, 2012 compared with December 31, 2011.

Total deposits increased $18.2 billion, or 10%, at March 31, 2012 compared with December 31, 2011. On March 2, 2012, our RBC Bank (USA) acquisition added $18.1 billion of deposits, including $6.9 billion of money market, $6.7 billion of demand deposit, $4.1 billion of retail certificate of deposit, and $.4 billion of savings accounts. Excluding acquisition activity, money market, demand deposits and savings accounts increased for the three months ended March 31, 2012, partially offset by the redemption of retail certificates of deposit. Interest-bearing deposits represented 70% of total deposits at March 31, 2012 compared to 69% at December 31, 2011. Total borrowed funds increased $5.8 billion since December 31, 2011. The change from December 31, 2011 was due to an increase in Federal funds purchased and repurchase agreements along with an increase in FHLB borrowings and commercial paper, partially offset by repayments and maturities.

Capital

See 2012 Capital and Liquidity Actions in the Executive Summary section of this Financial Review for additional information regarding our upcoming May 2012 redemption of trust preferred securities, our plans to purchase shares under PNC’s existing common stock repurchase program (described below) during the remainder of 2012, our April 2012 increase to PNC’s quarterly common stock dividend, redemption of trust preferred securities and issuance of preferred securities, and our March 2012 issuance of senior notes.

We manage our capital position by making adjustments to our balance sheet size and composition, issuing debt, equity or hybrid instruments, executing treasury stock transactions, managing dividend policies and retaining earnings.

Total shareholders’ equity increased $1.0 billion, to $35.0 billion, at March 31, 2012 compared with December 31, 2011 as retained earnings increased $0.6 billion. Accumulated other comprehensive income increased $.4 billion, to $.3 billion, at March 31, 2012 compared with a loss of $.1 billion at December 31, 2011 due to net unrealized gains on securities and lower OTTI losses on debt securities. Common shares outstanding were 528 million at March 31, 2012 and 527 million at December 31, 2011.

Our current common stock repurchase program permits us to purchase up to 25 million shares of PNC common stock on the open market or in privately negotiated transactions. This program will remain in effect until fully utilized or until modified, superseded or terminated. The extent and timing of share repurchases under this program will depend on a number of factors including, among others, market and general economic conditions, economic and regulatory capital considerations, alternative uses of capital, regulatory and contractual limitations, and the potential impact on our credit ratings. We did not purchase any shares in the first three months of 2012 under this program.

 

 

20    The PNC Financial Services Group, Inc. – Form 10-Q


Table 16: Risk-Based Capital

 

Dollars in millions    March 31
2012
    December 31
2011
 

Capital components

      

Shareholders’ equity

      

Common

   $ 33,409     $ 32,417  

Preferred

     1,636       1,636  

Trust preferred capital securities

     2,302       2,354  

Noncontrolling interests

     1,356       1,351  

Goodwill and other intangible assets

     (10,036     (9,027

Eligible deferred income taxes on goodwill and other intangible assets

     378       431  

Pension, other postretirement benefit plan adjustments

     724       755  

Net unrealized securities (gains) losses, after-tax

     (365     41  

Net unrealized gains on cash flow hedge derivatives, after-tax

     (660     (717

Other

     (157     (168

Tier 1 risk-based capital

     28,587       29,073  

Subordinated debt

     4,327       4,571  

Eligible allowance for credit losses

     3,152       2,904  

Total risk-based capital

   $ 36,066     $ 36,548  

Tier 1 common capital

      

Tier 1 risk-based capital

   $ 28,587     $ 29,073  

Preferred equity

     (1,636     (1,636

Trust preferred capital securities

     (2,302     (2,354

Noncontrolling interests

     (1,356     (1,351

Tier 1 common capital

   $ 23,293     $ 23,732  

Assets

      

Risk-weighted assets, including off-balance sheet instruments and market risk equivalent assets

   $ 250,873     $ 230,705  

Adjusted average total assets

     271,382       261,958  

Capital ratios

      

Tier 1 common

     9.3     10.3

Tier 1 risk-based

     11.4       12.6  

Total risk-based

     14.4       15.8  

Leverage

     10.5       11.1  

Federal banking regulators have stated that they expect all bank holding companies to have a level and composition of Tier 1 capital well in excess of the 4% regulatory minimum, and they have required the largest US bank holding companies, including PNC, to have a capital buffer sufficient to withstand losses and allow them to meet credit needs of their customers through estimated stress scenarios. They have

also stated their view that common equity should be the dominant form of Tier 1 capital. As a result, regulators are now emphasizing the Tier 1 common capital ratio in their evaluation of bank holding company capital levels, although a formal ratio for this metric is not provided for in current regulations. We seek to manage our capital consistent with these regulatory principles, and believe that our March 31, 2012 capital levels were aligned with them.

Dodd-Frank requires the Federal Reserve Board to establish capital requirements that would, among other things, eliminate the Tier 1 treatment of trust preferred securities following a phase-in period expected to begin in 2013. Accordingly, PNC will evaluate its alternatives, including the potential for redemption on the first call date of some or all of its trust preferred securities, based on such considerations it may consider relevant, including dividend rates, the specifics of the future capital requirements, capital market conditions and other factors. See 2012 Capital and Liquidity Actions in the Executive Summary section of this Financial Review for additional information regarding our April 2012 and upcoming May 2012 redemptions of trust preferred securities. PNC is also subject to replacement capital covenants with respect to certain of its trust preferred securities. See Note 13 Capital Securities of Subsidiary Trusts and Perpetual Trust Securities in Item 8 of our 2011 Form 10-K and Note 10 Capital Securities of Subsidiary Trusts and Perpetual Trust Securities in the Notes to Consolidated Financial Statements in this Report for additional information on trust preferred securities.

Our Tier 1 common capital ratio was 9.3% at March 31, 2012, compared with 10.3% at December 31, 2011. Our Tier 1 risk-based capital ratio decreased 120 basis points to 11.4% at March 31, 2012 from 12.6% at December 31, 2011. Our total risk-based capital ratio declined 140 basis points to 14.4% at March 31, 2012 from 15.8% at December 31, 2011. The decline in these ratios was primarily due to an increase in goodwill and risk-weighted assets as a result of the RBC Bank (USA) acquisition.

At March 31, 2012, PNC and PNC Bank, National Association (PNC Bank), our domestic bank subsidiary, were both considered “well capitalized” based on US regulatory capital ratio requirements under Basel I. To qualify as “well-capitalized”, regulators currently require bank holding companies and banks to maintain capital ratios of at least 6% for Tier 1 risk-based, 10% for total risk-based, and 5% for leverage. We believe PNC and PNC Bank will continue to meet these requirements during the remainder of 2012.

The access to, and cost of, funding for new business initiatives including acquisitions, the ability to engage in expanded business activities, the ability to pay dividends, the level of deposit insurance costs, and the level and nature of regulatory oversight depend, in part, on a financial institution’s capital strength.

 

 

The PNC Financial Services Group, Inc. – Form 10-Q    21


We provide additional information regarding enhanced capital requirements and some of their potential impacts on PNC in Item 1A Risk Factors included in our 2011 Form 10-K.

OFF-BALANCE SHEET ARRANGEMENTS AND VARIABLE INTEREST ENTITIES

We engage in a variety of activities that involve unconsolidated entities or that are otherwise not reflected in our Consolidated Balance Sheet that are generally referred to as “off-balance sheet arrangements.” Additional information on these types of activities is included in our 2011 Form 10-K and in the following sections of this Report:

   

Commitments, including contractual obligations and other commitments, included within the Risk Management section of this Financial Review,

   

Note 3 Loan Sale and Servicing Activities and Variable Interest Entities in the Notes To Consolidated Financial Statements,

   

Note 10 Capital Securities of Subsidiary Trusts and Perpetual Trust Securities in the Notes To Consolidated Financial Statements, and

   

Note 17 Commitments and Guarantees in the Notes To Consolidated Financial Statements.

PNC consolidates variable interest entities (VIEs) when we are deemed to be the primary beneficiary. The primary beneficiary of a VIE is determined to be the party that meets both of the following criteria: (1) has the power to make decisions that most significantly affect the economic performance of the VIE and (2) has the obligation to absorb losses or the right to receive benefits that in either case could potentially be significant to the VIE.

A summary of VIEs, including those that we have consolidated and those in which we hold variable interests but have not consolidated into our financial statements, as of March 31, 2012 and December 31, 2011 is included in Note 3 of this Report.

Trust Preferred Securities

In connection with the $950 million in principal amount of junior subordinated debentures associated with the trust preferred securities issued by PNC Capital Trusts C, D and E, as well as in connection with the obligations that remain outstanding assumed by PNC with respect to $1.7 billion in principal amount of junior subordinated debentures issued by acquired entities in association with trust preferred securities issued by various subsidiary statutory trusts, we are subject to certain restrictions, including restrictions on dividend payments. Generally, if there is (i) an event of default under the debentures, (ii) PNC elects to defer interest on the debentures, (iii) PNC exercises its right to defer payments on the related trust preferred securities issued by the statutory trusts, or (iv) there is a default under PNC’s guarantee of such payment obligations, as specified in the applicable governing documents, then PNC would be subject during the period of such default or deferral to restrictions on dividends and other provisions protecting the status of the debenture holders similar to or in some ways more restrictive than those potentially imposed under the Exchange Agreements with Trust II and Trust III, as described in Note 13 Capital Securities of Subsidiary Trusts and Perpetual Trust Securities in our 2011 Form 10-K. See 2012 Capital and Liquidity Actions in the Executive Summary section of this Financial Review for additional information regarding our April 2012 and upcoming May 2012 redemptions of trust preferred securities.

Also, in connection with the Trust E Securities sale, we are subject to a replacement capital covenant, which is described in Note 13 in our 2011 Form 10-K. Effective April 25, 2012, PNC’s 6 7/8% Subordinated Notes due May 15, 2019 became the covered debt with respect to and in accordance with the terms of this replacement capital covenant because the 6.125% Junior Subordinated Deferrable Interest Debentures issued by PNC to PNC Capital Trust D, which had been the covered debt under this replacement capital covenant, were redeemed in connection with the redemption of the trust preferred securities issued by PNC Capital Trust D.

 

 

22    The PNC Financial Services Group, Inc. – Form 10-Q


FAIR VALUE MEASUREMENTS

In addition to the following, see Note 8 Fair Value in the Notes To Consolidated Financial Statements in this Report for further information regarding fair value.

Assets recorded at fair value represented 24% of total assets at March 31, 2012 and 25% at December 31, 2011. Liabilities recorded at fair value represented 3% of total liabilities at March 31, 2012 and 4% at December 31, 2011.

The following table includes the assets and liabilities measured at fair value and the portion of such assets and liabilities that are classified within Level 3 of the valuation hierarchy.

Table 17: Fair Value Measurements – Summary

 

     March 31, 2012     December 31, 2011  
In millions    Total Fair
Value
     Level 3     Total Fair
Value
     Level 3  

Assets

              

Securities available for sale

   $ 53,358      $ 7,264     $ 48,568      $ 6,729  

Financial derivatives

     8,703        84       9,463        67  

Residential mortgage loans held for sale

     1,387            1,522       

Trading securities

     2,639        39       2,513        39  

Residential mortgage servicing rights

     724        724       647        647  

Commercial mortgage loans held for sale

     840        840       843        843  

Equity investments

     1,522        1,522       1,504        1,504  

Customer resale agreements

     688            732       

Loans

     273        6       227        5  

Other assets

     683        248       639        217  

Total assets

   $ 70,817      $ 10,727     $ 66,658      $ 10,051  

Level 3 assets as a percentage of total assets at fair value

        15        15

Level 3 assets as a percentage of consolidated assets

              4              4

Liabilities

              

Financial derivatives

   $ 6,961      $ 334     $ 7,606      $ 308  

Trading securities sold short

     540            1,016       

Other liabilities

                      3           

Total liabilities

   $ 7,501      $ 334     $ 8,625      $ 308  

Level 3 liabilities as a percentage of total liabilities at fair value

        4        4

Level 3 liabilities as a percentage of consolidated liabilities

              <1              <1

The majority of Level 3 assets represent non-agency residential mortgage-backed and asset-backed securities in the available for sale securities portfolio for which there was limited market activity.

An instrument’s categorization within the hierarchy is based on the lowest level of input that is significant to the fair value measurement. PNC reviews and updates fair value hierarchy classifications quarterly. Changes from one quarter to the next related to the observability of inputs to a fair value measurement may result in a reclassification (transfer) of assets or liabilities between hierarchy levels. During the first three months of 2012 there were transfers of assets and liabilities from Level 2 to Level 3 of $460 million consisting primarily of mortgage-backed securities as a result of a ratings downgrade which reduced the observability of valuation inputs. During the first three months of 2012 and 2011 there were no other material transfers of assets or liabilities between the hierarchy levels.

 

The PNC Financial Services Group, Inc. – Form 10-Q    23


BUSINESS SEGMENTS REVIEW

We have six reportable business segments:

   

Retail Banking

   

Corporate & Institutional Banking

   

Asset Management Group

   

Residential Mortgage Banking

   

BlackRock

   

Non-Strategic Assets Portfolio

Business segment results, including inter-segment revenues, and a description of each business are included in Note 18 Segment Reporting included in the Notes To Consolidated Financial Statements of this Report. Certain amounts included in this Financial Review differ from those amounts shown in Note 18 primarily due to the presentation in this Financial Review of business net interest revenue on a taxable-equivalent basis.

Results of individual businesses are presented based on our management accounting practices and management structure. There is no comprehensive, authoritative body of guidance for management accounting equivalent to GAAP; therefore, the financial results of our individual businesses are not necessarily comparable with similar information for any other company. We refine our methodologies from time to time as our management accounting practices are enhanced and our businesses and management structure change. Certain prior period amounts have been reclassified to reflect current methodologies and our current business and management structure. Financial results are presented, to the extent practicable, as if each business operated on a stand-alone basis. We have aggregated the business results for certain similar operating segments for financial reporting purposes.

Assets receive a funding charge and liabilities and capital receive a funding credit based on a transfer pricing

methodology that incorporates product maturities, duration and other factors.

 

A portion of capital is intended to cover unexpected losses and is assigned to our business segments using our risk-based economic capital model, including consideration of the goodwill and other intangible assets at those business segments, as well as the diversification of risk among the business segments.

We have allocated the allowances for loan and lease losses and for unfunded loan commitments and letters of credit based on our assessment of risk in the business segment loan portfolios. Our allocation of the costs incurred by operations and other shared support areas not directly aligned with the businesses is primarily based on the use of services.

Total business segment financial results differ from total consolidated net income. The impact of these differences is reflected in the “Other” category. “Other” for purposes of this Business Segments Review and the Business Segment Highlights in the Executive Summary includes residual activities that do not meet the criteria for disclosure as a separate reportable business, such as gains or losses related to BlackRock transactions including long-term incentive plan (LTIP) share distributions and obligations, integration costs, asset and liability management activities including net securities gains or losses, other-than-temporary impairment of investment securities and certain trading activities, exited businesses, alternative investments, including private equity, intercompany eliminations, most corporate overhead, tax adjustments that are not allocated to business segments, and differences between business segment performance reporting and financial statement reporting (GAAP), including the presentation of net income attributable to noncontrolling interests.

 

 

Table 18: Results Of Businesses – Summary

(Unaudited)

 

     Income     Revenue      Average Assets (a)  
Three months ended March 31 – in millions    2012      2011     2012      2011      2012      2011  

Retail Banking

   $ 50      $ (18   $ 1,285      $ 1,247      $ 69,709      $ 66,670  

Corporate & Institutional Banking

     470        432       1,226        1,098        92,896        76,980  

Asset Management Group

     28        43       231        222        6,566        6,917  

Residential Mortgage Banking

     61        71       292        258        11,989        11,619  

BlackRock

     90        86       116        108        5,565        5,530  

Non-Strategic Assets Portfolio

     71        25       198        245        12,124        14,121  

Total business segments

     770        639       3,348        3,178        198,849        181,837  

Other (b) (c)

     41        193       384        453        82,693        80,717  

Net income

   $ 811      $ 832     $ 3,732      $ 3,631      $ 281,542      $ 262,554  
(a) Period-end balances for BlackRock.
(b) For our segment reporting presentation in this Financial Review, “Other” for the first three months of 2012 included $145 million of pretax integration costs related to acquisitions.
(c) “Other” average assets include securities available for sale associated with asset and liability management activities.

 

24    The PNC Financial Services Group, Inc. – Form 10-Q


RETAIL BANKING

(Unaudited)

Table 19: Retail Banking Table

 

Three months ended March 31

Dollars in millions, except as noted

  2012     2011  

INCOME STATEMENT

     

Net interest income

  $ 895     $ 818  

Noninterest income

     

Service charges on deposits

    121       117  

Brokerage

    45       53  

Consumer services

    191       228  

Other

    33       31  

Total noninterest income

    390       429  

Total revenue

    1,285       1,247  

Provision for credit losses

    135       276  

Noninterest expense

    1,070       1,001  

Pretax earnings (loss)

    80       (30

Income taxes (benefit)

    30       (12

Earnings (loss)

  $ 50     $ (18

AVERAGE BALANCE SHEET

     

Loans

     

Consumer

     

Home equity

  $ 26,591     $ 26,064  

Indirect auto

    4,433       2,400  

Indirect other

    1,282       1,612  

Education

    9,440       9,101  

Credit cards

    3,928       3,731  

Other

    2,072       1,823  

Total consumer

    47,746       44,731  

Commercial and commercial real estate

    10,682       10,786  

Floor plan

    1,663       1,572  

Residential mortgage

    1,031       1,287  

Total loans

    61,122       58,376  

Goodwill and other intangible assets

    5,888       5,769  

Other assets

    2,699       2,525  

Total assets

  $ 69,709     $ 66,670  

Deposits

     

Noninterest-bearing demand

  $ 18,764     $ 18,103  

Interest-bearing demand

    25,707       20,921  

Money market

    43,601       40,387  

Total transaction deposits

    88,072       79,411  

Savings

    9,077       7,573  

Certificates of deposit

    28,150       35,365  

Total deposits

    125,299       122,349  

Other liabilities

    629       1,147  

Capital

    8,328       8,048  

Total liabilities and equity

  $ 134,256     $ 131,544  

PERFORMANCE RATIOS

     

Return on average capital

    2     (1 )% 

Return on average assets

    .29       (.11

Noninterest income to total revenue

    30       34  

Efficiency

    83       80  

OTHER INFORMATION (a)

     

Credit-related statistics:

     

Commercial nonperforming assets

  $ 315     $ 301  

Consumer nonperforming assets

    650       409  

Total nonperforming assets (b)

  $ 965     $ 710  

Purchased impaired loans (c)

  $ 903     $ 869  

At March 31

Dollars in millions, except as noted

  2012     2011  

OTHER INFORMATION (CONTINUED) (a)

     

Commercial lending net charge-offs

  $ 28     $ 67  

Credit card lending net charge-offs

    50       68  

Consumer lending (excluding credit card) net charge-offs

    113       122  

Total net charge-offs

  $ 191     $ 257  

Commercial lending annualized net charge-off ratio

    .91     2.20

Credit card lending annualized net charge-off ratio

    5.12     7.39

Consumer lending (excluding credit card) annualized net charge-off ratio

    1.01     1.17

Total annualized net charge-off ratio

    1.26     1.79

Home equity portfolio credit statistics: (d)

     

% of first lien positions at origination (e)

    37     36

Weighted-average loan-to-value ratios (LTVs) (e)

    81     73

Weighted-average updated FICO scores (f)

    739       731  

Annualized net charge-off ratio

    1.11     1.31

Loans 30 – 59 days past due

    .56     .47

Loans 60 – 89 days past due

    .35     .31

Loans 90 days past due (g)

    1.24     .99

Other statistics:

     

ATMs

    7,220       6,660  

Branches (h)

    2,900       2,446  

Customer-related statistics: (in thousands)

     

Retail Banking checking relationships

    6,278       5,521  

Retail online banking active customers

    3,823       3,226  

Retail online bill payment active customers

    1,161       1,029  

Brokerage statistics:

     

Financial consultants (i)

    693       700  

Full service brokerage offices

    38       34  

Brokerage account assets (billions)

  $ 37     $ 35  
(a) Presented as of March 31, except for net charge-offs and annualized net charge-off ratios, which are for the three months ended.
(b) Includes nonperforming loans of $923 million at March 31, 2012 and $688 million at March 31, 2011. In the first quarter of 2012, we adopted a policy stating that Home equity loans past due 90 days or more would be placed on nonaccrual status. The prior policy required that these loans be past due 180 days before being placed on nonaccrual status.
(c) Recorded investment of purchased impaired loans related to acquisitions.
(d) Lien position, LTV, FICO and delinquency statistics are based upon balances and other data that exclude the impact of accounting for acquired loans.
(e) Updated LTV is reported for March 31, 2012. For previous quarters, lien positions and LTV are based upon data from loan origination. Original LTV excludes certain acquired portfolio loans where this data is not available.
(f) Represents FICO scores that are updated monthly for home equity lines and quarterly for the home equity installment loans.
(g) Includes non-accrual loans.
(h) Excludes satellite offices (e.g., drive-ups, electronic branches, and retirement centers) that provide limited products and/or services.
(i) Financial consultants provide services in full service brokerage offices and traditional bank branches.

Retail Banking earned $50 million for the quarter compared with a loss of $18 million for a year ago quarter. Earnings increased from the prior year quarter as improving credit quality, a more favorable interest rate environment, higher loan and transaction deposit balances, and higher volumes of customer-initiated transactions were partially offset by the regulatory impact of lower interchange fees on debit card transactions and increased noninterest expense as a result of

 

 

The PNC Financial Services Group, Inc. – Form 10-Q    25


additions to legal reserves and the operating expenses associated with RBC Bank (USA). The first quarter of 2012 results include the impact of the retail business associated with the March 2012 acquisition of RBC Bank (USA) and the credit card portfolio purchase from RBC Bank (Georgia), National Association. Retail Banking added approximately $12.1 billion in deposits, $4.9 billion in loans, 460,000 checking relationships, over 400 branches, and over 400 ATMs through this acquisition.

Retail Banking’s core strategy is to grow consumer and small business checking households, and to provide an experience that builds customer loyalty and creates opportunities to sell other products and services including loans, savings, investment products and money management services. Net new checking relationships grew 517,000 in the first quarter, including 460,000 from the RBC Bank (USA) acquisition. The growth reflects strong results and gains in all of our markets as well as strong customer retention in the overall network. The business is also focused on expanding the use of technology, using services such as online banking and mobile deposit taking to improve customer service convenience and lower our service delivery costs. Active online banking customers and active online bill payment customers grew by 19% and 13%, respectively, from the prior year first quarter. Retail Banking’s footprint extends across 17 states and Washington, D.C. covering nearly half the US population and serving 5,546,000 consumers and 732,000 small businesses with 2,900 branches and 7,220 ATM’s.

Total revenue for the first quarter of 2012 was $1.3 billion compared with $1.2 billion for the same period of 2011. Net interest income of $895 million increased $77 million compared with the first quarter of 2011. The increase resulted from higher loan and transaction deposit balances and lower rates paid on deposits.

Noninterest income declined $39 million compared to the first quarter 2011. The decline was driven by lower interchange rates on debit card transactions due to Dodd-Frank and lower brokerage fees, partially offset by higher volumes of customer-initiated transactions including debit and credit cards and higher service charges on deposits. The Dodd-Frank limits related to interchange rates on debit card transactions were effective October 1, 2011. In the first quarter of 2012, the negative impact on Retail Banking revenue from these limits was approximately $70 million. Based on 2012 projected transaction volumes, we expect an additional incremental reduction in 2012 revenue of approximately $230 million.

The provision for credit losses was $135 million in the first quarter of 2012 compared with $276 million in prior year first quarter. Net charge-offs were $191 million for the first quarter 2012 compared with $257 million in the prior year first

quarter. Improvements in credit quality over the prior year were evident in the small business, home equity and credit card portfolios. The level of provisioning will be dependent on general economic conditions, loan growth, utilization of credit commitments and asset quality.

Noninterest expense increased $69 million in the first quarter of 2012 from same period of 2011. The increase was primarily attributable to additions to legal reserves and the operating expenses associated with RBC Bank (USA).

Growing core checking deposits is key to Retail Banking’s growth. The deposit product strategy of Retail Banking is to remain disciplined on pricing, target specific products and markets for growth, and focus on the retention and growth of balances for relationship customers. In the first quarter of 2012, average total deposits of $125.3 billion increased $3.0 billion, or 2%, compared with the same period in 2011.

   

The RBC Bank (USA) acquisition, customer preference for liquidity in the low rate environment, and customer growth resulted in period over period growth in average transaction deposits of $8.7 billion, or 11% and growth in average savings deposit balances of $1.5 billion or 20%. In the first quarter of 2012, compared with the year-ago quarter, average demand deposits increased $5.5 billion, or 14% to $44.5 billion; average money market deposits increased $3.2 billion, or 8% to $43.6 billion.

   

Average consumer certificates of deposit decreased $7.2 billion or 20% from the same period in 2011 and was partially offset by the impact of the RBC Bank (USA) acquisition. The decline in high-rate certificates of deposit is expected to continue through the second quarter of 2012.

Retail Banking continues to focus on a relationship-based lending strategy that targets specific customer sectors including mass and mass affluent consumers, small businesses and auto dealerships. In the first quarter of 2012, average total loans were $61.1 billion, an increase of $2.7 billion, or 5%, over the same quarter in 2011, of which $1.5 billion was attributable to the RBC Bank (USA) acquisition, primarily in the home equity portfolio.

   

Average indirect auto loans increased $2.0 billion, or 85%, over the same quarter in 2011. The increase was due to the expansion of our indirect sales force and product introduction to acquired markets, as well as overall increases in auto sales.

   

Average home equity loans increased $527 million, or 2%, compared with the same period in 2011. The increase was primarily due to the RBC Bank (USA) acquisition. The remainder of the portfolio showed a decline as loan demand was outpaced by paydowns, refinancings, and charge-offs. Retail Banking’s home

 

 

26    The PNC Financial Services Group, Inc. – Form 10-Q


   

equity loan portfolio is relationship based, with 97% of the portfolio attributable to borrowers in our primary geographic footprint. A change in policy implemented in the first quarter of 2012 on home equity loans places them on nonaccrual status when past due 90 days or more compared with 180 days under the prior policy.

   

Average education loans grew $339 million, or 4%, compared with the same period in 2011, primarily due to portfolio purchases in July 2011 and November 2011 of approximately $445 million and $560 million, respectively.

   

Average auto dealer floor plan loans grew $91 million, or 6%, compared with the same quarter in 2011, primarily resulting from additional dealer relationships.

   

Average credit card balances increased $197 million, or 5%, over the same quarter in 2011. An increase in active accounts and the portfolio purchase from RBC Bank (Georgia) National Association combined to increase credit card balances.

   

Average commercial and commercial real estate loans declined $104 million, or 1%, compared with the same period in 2011. The decrease was primarily due to refinancings, paydowns, and charge-offs, partially offset by the acquisition of RBC Bank (USA).

   

Average indirect other and residential mortgages are primarily run-off portfolios and declined $330 million and $256 million, respectively, compared with the same period in 2011. The indirect other portfolio is comprised of marine, RV, and other indirect loan products.

 

 

The PNC Financial Services Group, Inc. – Form 10-Q    27


CORPORATE & INSTITUTIONAL BANKING

(Unaudited)

Table 20: Corporate & Institutional Banking Table

 

Three months ended March 31

Dollars in millions, except as noted

   2012      2011  

INCOME STATEMENT

       

Net interest income

   $ 896      $ 799  

Noninterest income

       

Corporate service fees

     202        187  

Other

     128        112  

Noninterest income

     330         299  

Total revenue

     1,226        1,098  

Provision for credit losses (benefit)

     19        (30

Noninterest expense

     463        445  

Pretax earnings

     744        683  

Income taxes

     274        251  

Earnings

   $ 470      $ 432  

AVERAGE BALANCE SHEET

       

Loans

       

Commercial

   $ 42,919      $ 33,194  

Commercial real estate

     14,388        14,347  

Commercial – real estate related

     4,971        3,463  

Asset-based lending

     9,266        7,370  

Equipment lease financing

     5,706        5,540  

Total loans

     77,250         63,914  

Goodwill and other intangible assets

     3,442        3,484  

Loans held for sale

     1,244        1,341  

Other assets

     10,960        8,241  

Total assets

   $ 92,896      $ 76,980  

Deposits

       

Noninterest-bearing demand

   $ 37,225      $ 27,843  

Money market

     13,872        12,131  

Other

     5,372        6,057  

Total deposits

     56,469        46,031  

Other liabilities

     15,987        12,205  

Capital

     8,537        7,858  

Total liabilities and equity

   $ 80,993      $ 66,094  

Three months ended March 31

Dollars in millions, except as noted

   2012     2011  

PERFORMANCE RATIOS

      

Return on average capital

     22     22

Return on average assets

     2.03       2.28  

Noninterest income to total revenue

     27       27  

Efficiency

     38       41  

COMMERCIAL MORTGAGE SERVICING PORTFOLIO (in billions)

      

Beginning of period

   $ 267     $ 266  

Acquisitions/additions

     10       10  

Repayments/transfers

     (9     (10

End of period

   $ 268     $ 266  

OTHER INFORMATION

      

Consolidated revenue from: (a)

      

Treasury Management

   $ 311     $ 301  

Capital Markets

   $ 156     $ 139  

Commercial mortgage loans held for sale (b)

   $ 13     $ 29  

Commercial mortgage loan servicing income, net of amortization (c)

     49       47  

Commercial mortgage servicing rights impairment

     (19 )     (35

Total commercial mortgage banking activities

   $ 43      $ 41  

Total loans (d)

   $ 84,329     $ 64,368  

Credit-related statistics:

      

Nonperforming assets (d) (e)

   $ 1,776     $ 2,574  

Purchased impaired loans (d) (f)

   $ 1,177     $ 659  

Net charge-offs

   $ 43     $ 153  

Net carrying amount of commercial mortgage servicing rights (d)

   $ 428     $ 645  
(a) Represents consolidated PNC amounts. See the additional revenue discussion regarding treasury management, capital markets-related products and services, and commercial mortgage banking activities in the Product Revenue section of the Consolidated Income Statement Review.
(b) Includes valuations on commercial mortgage loans held for sale and related commitments, derivative valuations, origination fees, gains on sale of loans held for sale and net interest income on loans held for sale.
(c) Includes net interest income and noninterest income from loan servicing and ancillary services, net of commercial mortgage servicing rights amortization. Commercial mortgage servicing rights impairment is shown separately.
(d) As of March 31.
(e) Includes nonperforming loans of $1.6 billion at March 31, 2012 and $2.4 billion at March 31, 2011.
(f) Recorded investment of purchased impaired loans related to acquisitions.
 

 

28    The PNC Financial Services Group, Inc. – Form 10-Q


Corporate & Institutional Banking earned $470 million in the first quarter of 2012 and $432 million in the first quarter of 2011. The increase in earnings was primarily due to higher net interest and noninterest income which more than offset an increase in the provision for credit losses. We continued to focus on adding new clients, increasing cross sales, and remaining committed to strong expense discipline.

The first quarter of 2012 included the impact of the RBC Bank (USA) acquisition which added approximately $7.5 billion of loans and $4.8 billion of deposits.

Highlights of Corporate & Institutional Banking’s performance during first quarter 2012 include the following:

   

Overall results benefited from successful sales efforts to new clients and product penetration of the existing customer base.

   

New primary client acquisitions in corporate banking were 243 in the first quarter of 2012, consistent with growth in 2011.

   

Loan commitments increased 23% to $163 billion at March 31, 2012 compared to March 31, 2011, primarily due to the RBC Bank (USA) acquisition and growth in our Corporate Finance, Public Finance, Healthcare, Real Estate and Business Credit businesses.

   

Loan balances have increased for five consecutive quarters, including an increase in average loans for the first quarter of 2012 of $13.3 billion or 21%, compared to the first quarter of 2011.

   

Our Treasury Management business, which ranks among the top providers in the country, continued to invest in markets, products and infrastructure as well as major initiatives such as healthcare.

   

Cross sales of treasury management and capital markets products to customers in PNC’s markets continued to be successful and were ahead of both target and 2011.

   

Midland Loan Services, one of the leading third-party providers of servicing for the commercial real estate industry, received the highest U.S. servicer and special servicer ratings from Fitch Ratings and Standard & Poor’s for the 11th consecutive year.

   

Midland Loan Services was the number one servicer of FNMA and FHLMC multifamily and healthcare loans and was the second leading servicer of commercial and multifamily loans by volume as of March 31, 2012 according to Mortgage Bankers Association.

Net interest income in the first quarter of 2012 was $896 million, a 12% increase from the first quarter of 2011,

reflecting higher average loans and deposits including the impact of the RBC Bank (USA) acquisition.

Corporate service fees were $202 million in the first quarter of 2012, a increase of $15 million from the first quarter of 2011, primarily due to higher commercial mortgage banking revenue

and merger and acquisition advisory fees. The increases more than offset a decrease in treasury management fees due to the impact of the prolonged low interest rate environment which has resulted in customers leaving compensating balances in lieu of paying fees. The major components of corporate service fees are treasury management, corporate finance fees and commercial mortgage servicing revenue.

Other noninterest income was $128 million in the first three months of 2012 compared with $112 million in the first three months of 2011. The increase of $16 million was primarily due to customer driven capital markets activity.

The provision for credit losses was $19 million in the first quarter of 2012 compared with a benefit of $30 million in the first quarter of 2011. The increase reflected the impact of higher loan and commitment levels. There were net charge-offs of $43 million in the first quarter of 2012, which decreased $110 million, or 72%, compared with the first quarter of 2011. The decline was attributable primarily to the commercial real estate and aviation portfolios. Nonperforming assets declined for the eighth consecutive quarter, and at $1.8 billion represented a 31% decrease from March 31, 2011.

Noninterest expense was $463 million in the first quarter of 2012, an increase of $18 million from the first quarter of 2011. Higher compensation-related costs were driven by higher staffing including the impact of the RBC Bank (USA) acquisition.

Average loans were $77.3 billion in the first quarter of 2012 compared with $63.9 billion in the first quarter of 2011, an increase of 21%.

   

The Corporate Banking business provides lending, treasury management, and capital markets-related products and services to mid-sized corporations, government and not-for-profit entities, and selectively to large corporations. Average loans for this business increased $7.9 billion or 25% in the first quarter of 2012 compared with the first quarter of 2011. Loan commitments have increased since the second quarter of 2011 due to new customers and increased demand from existing customers.

   

PNC Real Estate provides commercial real estate and real-estate related lending and is one of the industry’s top providers of both conventional and affordable multifamily financing. Average loans for this business increased $1.6 billion or 10% in the first quarter of 2012 compared to the first quarter of 2011 due to improved originations.

   

PNC Business Credit is one of the top middle market asset-based lenders in the country. The loan portfolio is relatively high yielding, with moderate risk, as the loans are mainly secured by short-term assets. Average loans increased $1.9 billion or 26% in the first quarter of 2012 compared with the first quarter of 2011 due to customers seeking stable lending

 

 

The PNC Financial Services Group, Inc. – Form 10-Q    29


   

sources, loan usage rates, and market expansion.

   

PNC Equipment Finance is the 4th largest bank-affiliated leasing company with over $9 billion in equipment finance assets.

Average deposits were $56.5 billion in the first quarter of 2012, an increase of $10.4 billion, or 23%, compared with the first quarter of 2011.

   

Deposit growth has been very strong, and is an industry-wide trend as clients are holding record levels of cash and liquidity.

   

Deposit inflows into noninterest-bearing demand deposits continued as FDIC insurance has been an attraction for customers maintaining liquidity during this prolonged period of low interest rates.

   

The repeal of Regulation Q limitations on interest-bearing commercial demand deposit accounts became effective in the third quarter of 2011. As expected, interest in this product has been muted due to the current rate environment and the limited amount of FDIC insurance coverage.

The commercial mortgage servicing portfolio was $268 billion at March 31, 2012 compared with $266 billion March 31, 2011. Servicing additions were mostly offset by portfolio run-off.

See the additional revenue discussion regarding treasury management, capital markets-related products and services, and commercial mortgage banking activities in the Product Revenue section of the Consolidated Income Statement Review.

ASSET MANAGEMENT GROUP

(Unaudited)

Table 21: Asset Management Group Table

 

Three months ended March 31

Dollars in millions, except as noted

   2012     2011  

INCOME STATEMENT

      

Net interest income

   $ 63     $ 60  

Noninterest income

     168       162  

Total revenue

     231       222  

Provision for credit losses (benefit)

     10       (6

Noninterest expense

     176       160  

Pretax earnings

     45       68  

Income taxes

     17       25  

Earnings

   $ 28     $ 43  

AVERAGE BALANCE SHEET