Management report and analysis of the financial situation and operating results (point 2)
The following is Management's Discussion and Analysis of Financial Condition and Results of Operations of certain significant factors that have affected
Fifth Third Bancorp's(the "Bancorp" or "Fifth Third") financial condition and results of operations during the periods included in the Condensed Consolidated Financial Statements, which are a part of this filing. Reference to the Bancorp incorporates the parent holding company and all consolidated subsidiaries. The Bancorp's banking subsidiary is referred to as the Bank.
Fifth Third Bancorpis a diversified financial services company headquartered in Cincinnati, Ohio. At March 31, 2022, the Bancorp had $211 billionin assets and operated 1,079 full-service banking centers and 2,201 Fifth Third branded ATMs in eleven states throughout the Midwestern and Southeastern regions of the U.S. The Bancorpreports on four business segments: Commercial Banking, Branch Banking, Consumer Lending and Wealth and Asset Management. This overview of MD&A highlights selected information in the financial results of the Bancorp and may not contain all of the information that is important to you. For a more complete understanding of trends, events, commitments, uncertainties, liquidity, capital resources and critical accounting policies and estimates, you should carefully read this entire document as well as the Bancorp's Annual Report on Form 10-K for the year ended December 31, 2021. Each of these items could have an impact on the Bancorp's financial condition, results of operations and cash flows. In addition, refer to the Glossary of Abbreviations and Acronyms in this report for a list of terms included as a tool for the reader of this Quarterly Report on Form 10-Q. The abbreviations and acronyms identified therein are used throughout this MD&A, as well as the Condensed Consolidated Financial Statements and Notes to Condensed Consolidated Financial Statements. Net interest income, net interest margin, net interest rate spread and the efficiency ratio are presented in MD&A on an FTE basis. The FTE basis adjusts for the tax-favored status of income from certain loans and leases and securities held by the Bancorp that are not taxable for federal income tax purposes. The Bancorp believes this presentation to be the preferred industry measurement of net interest income as it provides a relevant comparison between taxable and non-taxable amounts. The FTE basis for presenting net interest income is a non-GAAP measure. For further information, refer to the Non-GAAP Financial Measures section of MD&A. The Bancorp's revenues are dependent on both net interest income and noninterest income. For the three months ended March 31, 2022, net interest income on an FTE basis and noninterest income provided 64% and 36% of total revenue, respectively. The Bancorp derives the majority of its revenues within the U.S.from customers domiciled in the U.S.Revenue from foreign countries and external customers domiciled in foreign countries was immaterial to the Condensed Consolidated Financial Statements for the three months ended March 31, 2022. Changes in interest rates, credit quality, economic trends and the capital markets are primary factors that drive the performance of the Bancorp. As discussed later in the Risk Management section of MD&A, risk identification, measurement, monitoring, control and reporting are important to the management of risk and to the financial performance and capital strength of the Bancorp. Net interest income is the difference between interest income earned on assets such as loans, leases and securities, and interest expense incurred on liabilities such as deposits, other short-term borrowings and long-term debt. Net interest income is affected by the general level of interest rates, the relative level of short-term and long-term interest rates, changes in interest rates and changes in the amount and composition of interest-earning assets and interest-bearing liabilities. Generally, the rates of interest the Bancorp earns on its assets and pays on its liabilities are established for a period of time. The change in market interest rates over time exposes the Bancorp to interest rate risk through potential adverse changes to net interest income and financial position. The Bancorp manages this risk by continually analyzing and adjusting the composition of its assets and liabilities based on their payment streams and interest rates, the timing of their maturities and their sensitivity to changes in market interest rates. Additionally, in the ordinary course of business, the Bancorp enters into certain derivative transactions as part of its overall strategy to manage its interest rate and prepayment risks. The Bancorp is also exposed to the risk of loss on its loan and lease portfolio, as a result of changing expected cash flows caused by borrower credit events, such as loan defaults and inadequate collateral. Noninterest income is derived from service charges on deposits, wealth and asset management revenue, commercial banking revenue, card and processing revenue, leasing business revenue, mortgage banking net revenue, other noninterest income and net securities gains or losses. Noninterest expense includes compensation and benefits, technology and communications, net occupancy expense, equipment expense, leasing business expense, marketing expense, card and processing expense and other noninterest expense. COVID-19 Global Pandemic The COVID-19 pandemic created significant economic uncertainty and financial disruptions during the years ended December 31, 2021and 2020, and this uncertainty has continued into 2022. Government and public responses to the COVID-19 pandemic, including temporary closures of businesses and the implementation of social distancing protocols, caused reductions and instability in economic activity that resulted in increased unemployment levels in certain industries and volatility in the financial markets. Markets continue to remain volatile as a result of the pandemic and its evolving impacts, including inflationary concerns as well as stresses in labor markets and supply chains. During the years ended December 31, 2021and 2020, low interest rates, reduced economic activity and market volatility had the most immediate negative impacts on the Bancorp's performance. The Bancorp is unable to estimate the extent of the impact that these factors have had on its operating results since the pandemic began and these factors may adversely impact its future operating results. 3 -------------------------------------------------------------------------------- Table of Contents Management's Discussion and Analysis of Financial Condition and Results of Operations (continued) Although the increased availability of COVID-19 vaccinations began to mitigate the public health effects of the pandemic, there has been a rise of certain variants of COVID-19 and slowing progress on vaccination rates. The recovery from the related economic crisis disproportionately affected certain industries, geographies and demographics more than others, and when combined with the unprecedented nature of the government response to the pandemic, it becomes difficult to predict the extent to which the pandemic will continue to adversely impact the Bancorp and its customers. Furthermore, resurgence risk remains as new virus variants are identified. The Bancorp continues to closely monitor the pandemic and its effects on customers, employees, communities and markets. For further discussion on current economic conditions, refer to the Credit Risk Management subsection of the Risk Management section of MD&A. LIBOR Transition In July 2017, the Chief Executive of the United Kingdom Financial Conduct Authority(the "FCA"), which regulates LIBOR, announced that the FCAwill stop persuading or compelling banks to submit rates for the calculation of LIBOR to the administrator of LIBOR after 2021. Since then, central banks around the world, including the Federal Reserve, have commissioned working groups of market participants and official sector representatives with the goal of finding suitable replacements for LIBOR. On March 5, 2021, the FCAand ICE Benchmark Administration, Limitedannounced that the publication of the one-week and two-month USD LIBOR maturities and non-USD LIBOR maturities would cease immediately after December 31, 2021, with the remaining USD LIBOR maturities ceasing immediately after June 30, 2023. In the United States, the Alternative Rates Reference Committee (the "ARRC"), a group of market participants convened in 2014 to help ensure a successful transition away from USD LIBOR, identified SOFR as its preferred alternative rate. SOFR is a measure of the cost of borrowing cash overnight, collateralized by U.S. Treasurysecurities, and is based on directly observable U.S. Treasury-backed repurchase transactions. The composition and characteristics of SOFR are not the same as those of LIBOR, and SOFR is fundamentally different from LIBOR for two key reasons: (1) SOFR is a secured rate, while LIBOR is an unsecured rate, and (2) SOFR is an overnight rate, while LIBOR is a forward-looking rate that represents interbank funding over different maturities. As a result, there can be no assurance that SOFR, however calculated, will perform the same way as LIBOR would have at any time, including, as a result of changes in interest and yield rates in the market, market volatility, or global or regional economic, financial, political, regulatory, judicial or other events. On March 15, 2022, President Bidensigned the Adjustable Interest Rate (LIBOR) Act (the "LIBOR Act") into law. The LIBOR Act offers a federal solution for transitioning legacy instruments that lack sufficient provisions addressing LIBOR's cessation by outlining a uniform process to govern the transition from LIBOR to a replacement rate. The LIBOR Act also establishes a safe harbor for lenders, shielding lenders from litigation as a result of their choice of a replacement rate (such as SOFR) per Federal Reserve Boardrecommendations. The Federal Reserve Boardis required to promulgate regulations carrying out the terms of the LIBOR Act not later than 180 days following its enactment.
Bancorp’s LIBOR transition plan is organized around key work streams, including continued engagement with central banks and industry task forces and regulators, active client engagement, comprehensive review of existing documentation, internal operational and technological readiness and risk management, among others, to facilitate the transition to alternative reference rates.
Although the full impact of LIBOR reforms and actions remains unclear, the Bancorp has discontinued entering into new LIBOR-based contracts in accordance with regulatory guidance, except for permissible limited use as part of hedging and risk management programs. During the fourth quarter of 2021, the Bancorp expanded its offering of alternative reference rate products, including SOFR. In addition, the Bancorp is continuing its transition of existing LIBOR-based exposures to an appropriate alternative reference rate on or before
June 30, 2023. As of March 31, 2022, the Bancorp had substantial exposure to LIBOR-based products throughout several of its lines of business. These exposures included derivative contracts with a total notional value of approximately $103 billion, loans outstanding of approximately $47 billion, preferred stock of approximately $1.4 billionand long-term debt of approximately $237 million. The Bancorp currently estimates that approximately 20% of the existing exposures will mature before June 30, 2023. For the contracts that will not mature prior to June 30, 2023, an additional portion of these contracts is subject to contractual terms specifying alternative reference rates ("fallback provisions") that would become effective upon cessation of LIBOR's publication. Existing exposures without fallback provisions are expected to be amended prior to June 30, 2023to include such terms or transition to an alternative reference rate. For a further discussion of the various risks the Bancorp faces in connection with the replacement of LIBOR on its operations, see "Risk Factors-Market Risks-The replacement of LIBOR could adversely affect Fifth Third's revenue or expenses and the value of those assets or obligations." in Item 1A. Risk Factors of the Bancorp's Annual Report on Form 10-K for the year ended December 31, 2021. Key Performance Indicators The Bancorp, as a banking institution, utilizes various key indicators of financial condition and operating results in managing and monitoring the performance of the business. In addition to traditional financial metrics, such as revenue and expense trends, the Bancorp monitors other financial measures that assist in evaluating growth trends, capital strength and operational efficiencies. The Bancorp analyzes these key performance indicators against its past performance, its forecasted performance and with the performance of its peer banking institutions. These indicators may change from time to time as the operating environment and businesses change. 4 -------------------------------------------------------------------------------- Table of Contents Management's Discussion and Analysis of Financial Condition and Results of Operations (continued)
The following are some of the key indicators used by management to assess Bancorp’s business performance, including those reflected in Bancorp’s compensation programs:
•CET1 Capital Ratio: CET1 capital divided by risk-weighted assets as defined by the Basel III standardized approach to risk-weighting of assets •Return on Average Tangible Common Equity (non-GAAP): Tangible net income available to common shareholders divided by average tangible common equity •Net Interest Margin (non-GAAP): Net interest income on an FTE basis divided by average interest-earning assets •Efficiency Ratio (non-GAAP): Noninterest expense divided by the sum of net interest income on an FTE basis and noninterest income •Earnings Per Share, Diluted: Net income allocated to common shareholders divided by average common shares outstanding after the effect of dilutive stock-based awards •Nonperforming Portfolio Assets Ratio: Nonperforming portfolio assets divided by portfolio loans and leases and OREO •Net Charge-off Ratio: Net losses charged-off divided by average portfolio loans and leases •Return on Average Assets: Net income divided by average assets •Loan-to-Deposit Ratio: Total loans divided by total deposits •Household Growth: Change in the number of consumer households with retail relationship-based checking accounts The list of indicators above is intended to summarize some of the most important metrics utilized by management in evaluating the Bancorp's performance and does not represent an all-inclusive list of all performance measures that may be considered relevant or important to management or investors.
TABLE 1: Earnings Summary
three months completed
March 31, % ($ in millions, except for per share data) 2022 2021 Change Income Statement Data Net interest income (U.S. GAAP)
$ 1,1951,176 2 Net interest income (FTE)(a)(b) 1,198 1,179 2 Noninterest income 684 749 (9) Total revenue (FTE)(a)(b) 1,882 1,928 (2) Provision for (benefit from) credit losses 45 (173) NM Noninterest expense 1,222 1,215 1 Net income 494 694 (29) Net income available to common shareholders 474 674 (30) Common Share Data Earnings per share - basic $ 0.690.94 (27) Earnings per share - diluted 0.68 0.93 (27) Cash dividends declared per common share 0.30 0.27 11 Book value per share 26.33 28.78 (9) Market value per share 43.04 37.45 15 Financial Ratios Return on average assets 0.96 % 1.38 (30) Return on average common equity 10.0 13.1 (24) Return on average tangible common equity(b) 13.4 16.8 (20) Dividend payout 43.5 28.7 52 (a)Amounts presented on an FTE basis. The FTE adjustments were $3for both the three months ended March 31, 2022and 2021. (b)These are non-GAAP measures. For further information, refer to the Non-GAAP Financial Measures section of MD&A. Earnings Summary The Bancorp's net income available to common shareholders for the first quarter of 2022 was $474 million, or $0.68per diluted share, which was net of $20 millionin preferred stock dividends. The Bancorp's net income available to common shareholders for the first quarter of 2021 was $674 million, or $0.93per diluted share, which was net of $20 millionin preferred stock dividends. Net interest income on an FTE basis (non-GAAP) was $1.2 billionfor the three months ended March 31, 2022, an increase of $19 millioncompared to the same period in the prior year. Net interest income benefited from an increase in average interest-earning assets, primarily due to increases in average taxable securities, average indirect secured consumer loans and average commercial and industrial loans for the three months ended March 31, 2022. Net interest income also benefited from a decrease in average long-term debt for the three months ended 5 -------------------------------------------------------------------------------- Table of Contents Management's Discussion and Analysis of Financial Condition and Results of Operations (continued) March 31, 2022compared to the same period in the prior year. These benefits were partially offset by the impact of lower market rates, resulting in a decrease in yields on average loans and leases primarily driven by decreases in yields on average commercial and industrial loans, average indirect secured consumer loans and average residential mortgage loans. Interest income recognized from PPP loans decreased to $20 millionfor the three months ended March 31, 2022compared to $53 millionfor the same period in the prior year. Net interest margin on an FTE basis (non-GAAP) was 2.59% for the three months ended March 31, 2022compared to 2.62% for the comparable period in the prior year. The provision for credit losses was $45 millionfor the three months ended March 31, 2022compared to a benefit from credit losses of $173 millionduring the same period in the prior year. The increase in provision expense for the three months ended March 31, 2022was primarily driven by factors that caused an increase in the ACL from December 31, 2021including higher end-of-period commercial and consumer loan balances, partially offset by improvements in commercial credit quality. Net losses charged off as a percent of average portfolio loans and leases were 0.12% and 0.27% for the three months ended March 31, 2022and 2021, respectively. At March 31, 2022, nonperforming portfolio assets as a percent of portfolio loans and leases and OREO increased to 0.49% compared to 0.47% at December 31, 2021. For further discussion on credit quality refer to the Credit Risk Management subsection of the Risk Management section of MD&A as well as Note 6 of the Notes to Condensed Consolidated Financial Statements. Noninterest income decreased $65 millionfor the three months ended March 31, 2022compared to the same period in the prior year primarily due to decreases in mortgage banking net revenue, leasing business revenue and commercial banking revenue, partially offset by increases in other noninterest income, service charges on deposits and wealth and asset management revenue. Noninterest expense increased $7 millionfor the three months ended March 31, 2022compared to the same period in the prior year primarily due to increases in technology and communications expense, other noninterest expense and compensation and benefits, partially offset by a decrease in card and processing expense.
For more information on net interest income, non-interest income and non-interest expense, refer to the Analysis of the Statements of Income section of the Management’s Discussion and Analysis.
Capital Summary The Bancorp calculated its regulatory capital ratios under the Basel III standardized approach to risk-weighting of assets and pursuant to the five-year transition provision option to phase in the effects of CECL on regulatory capital as of
March 31, 2022. As of March 31, 2022, the Bancorp's capital ratios, as defined by the U.S.banking agencies, were: •CET1 capital ratio: 9.31%; •Tier 1 risk-based capital ratio: 10.63%; •Total risk-based capital ratio: 12.93%; •Leverage ratio: 8.32%. 6 --------------------------------------------------------------------------------
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