Capital One 1998 Annual Report Download - page 20

18Capital One Financial Corporation
Management’s Discussion and Analysis of Financial Condition and Results of Operations
Year Ended December 31, 1998 Compared to Year Ended
December 31, 1997
Net income of $275.2 million, or $3.96 per share, for the year
ended December 31, 1998, compares to net income of $189.4
million, or $2.80 per share, in 1997. The 45% increase in net
income of $85.9 million, or $1.16 per share, is primarily the result
of an increase in both asset and account volumes and an increase
in net interest margin. Net interest income increased $311.6 mil-
lion, or 81%, as average earning assets increased 26% and the net
interest margin increased to 9.62% from 6.66%. The provision for
loan losses increased $4.2 million, or 2%, as the reported net
charge-off rate decreased to 4.24% in 1998 from 4.83% in 1997,
offset by average reported consumer loans increasing 30%. Non-
interest income increased $419.2 million, or 39%, primarily due to
the increase in average managed accounts of 39%. Increases in
marketing expenses of $221.4 million, or 98%, and salaries and
benefits expense of $187.1 million, or 65%, reflect the increase in
marketing investment in existing and new product opportunities
and the cost of operations to manage the growth in the Company’s
accounts and products offered. Average managed consumer loans
grew 17% for the year ended December 31, 1998, to $15.2 billion
from $13.0 billion for the year ended December 31, 1997, and
average accounts grew 39% for the same period to 13.8 million
from 9.9 million as a result of the continued success of the Com-
pany’s marketing and account management strategies.
Year Ended December 31, 1997 Compared to Year Ended
December 31, 1996
Net income of $189.4 million, or $2.80 per share, for the year
ended December 31, 1997, compares to net income of $155.3
million, or $2.32 per share, in 1996. The 22% increase in net
income of $34.1 million, or $.48 per share, is primarily the result
of an increase in both asset and account volumes, offset by a
decrease in net interest margin. Net interest income increased
$17.7 million, or 5%, as average earning assets increased 20%,
offset by a decrease in the net interest margin to 6.66% from
7.62%. The provision for loan losses increased $95.6 million, or
57%, as average reported loans increased 12% and the reported
charge-off rate increased to 4.83% in 1997 from 3.63% in 1996,
as a result of an increase in the average age of accounts (generally
referred to as “seasoning”) and general economic trends in con-
sumer credit performance. Non-interest income increased $305.7
million, or 40%, primarily as a result of the increase in average
accounts of 33%, a shift to more fee-based accounts, a change in
the timing and amount (“terms”) of certain fees charged and the
incremental impact of securitization accounting. Increases in
salaries and benefits expense of $74.2 million, or 34%, and other
non-interest expenses of $96.6 million, or 19%, primarily reflected
the incremental cost of operations to manage the growth in the
Company’s accounts. Average managed consumer loans grew 15%
for the year ended December 31, 1997, to $13.0 billion from
$11.3 billion for the year ended December 31, 1996, and average
accounts grew 33% for the same period to 9.9 million from 7.5
million as a result of the continued success of the Company’s mar-
keting and account management strategies.
Introduction
Capital One Financial Corporation (the “Corporation”) is a holding
company whose subsidiaries provide a variety of products and ser-
vices to consumers using its Information-Based Strategy (“IBS”).
The principal subsidiaries are Capital One Bank (the “Bank”), which
offers credit card products, and Capital One, F.S.B. (the “Savings
Bank”), which offers consumer lending products (including credit
cards) and deposit products. The Corporation and its subsidiaries
are collectively referred to as the “Company.” As of December 31,
1998, the Company had 16.7 million customers and $17.4 billion
in managed consumer loans outstanding and was one of the largest
providers of MasterCard and Visa credit cards in the world.
The Company’s profitability is affected by the net interest
income and non-interest income earned on earning assets, con-
sumer usage patterns, credit quality, the level of marketing expense
and operating efficiency. The Company’s revenues consist primarily
of interest income on consumer loans and securities, and non-inter-
est income consisting of gains on securitizations of loans, servicing
income and fees (such as annual membership, cash advance,
cross-sell, interchange, overlimit, past-due and other fee income,
collectively “fees”). The Company’s primary expenses are the costs
of funding assets, credit losses, operating expenses (including
salaries and associate benefits), marketing expenses, processing
expenses and income taxes.
Significant marketing expenses (e.g., advertising, printing,
credit bureau costs and postage) to implement the Company’s new
product strategies are incurred and expensed prior to the acquisi-
tion of new accounts while the resulting revenues are recognized
over the life of the acquired accounts. Revenues recognized are a
function of the response rate of the initial marketing program,
usage and attrition patterns, credit quality of accounts, product
pricing and effectiveness of account management programs.
Earnings Summary
The following discussion provides a summary of 1998 results com-
pared to 1997 results and 1997 results compared to 1996 results.
Each component is discussed in further detail in subsequent sec-
tions of this analysis.
$275
$189
$155
Net Income
(In Millions)
96 97 98
25%
23%
20%
23%
Return on
Average Equity
96 97 98