The operator introduces the Fourth Quarter 2023 Discover Financial Services Earnings Conference Call and the speakers, Eric Wasserstrom, John Owen, and John Greene. The discussion may contain forward-looking statements, and there will be time for a Q&A session. John Owen, the Interim CEO, discusses the company's priorities, including advancing their culture of compliance and improving corporate governance and risk management capabilities. These changes will take time and continued investments.

The second priority for the company is to maintain a great customer experience through excellent service and products. The company was recognized as one of Fortune 100's best companies to work for and is proud of its inclusive workplace. The third priority is to sustain strong financial performance, with the company achieving several milestones in 2023. A new CEO, Michael Rhodes, has been appointed and the current CEO will return to their role on the Board of Directors. The company is confident in its digital banking model, financial performance, and risk management capabilities for the future.

John Greene, in his review of the company's fourth quarter 2023 financial results, highlights three main trends. These include a 13% increase in revenue due to loan growth, a $1 billion increase in provision expense, and a 19% increase in expenses. The net interest margin decreased by 29 basis points from the prior year due to higher funding costs and interest charge-offs, but increased by 3 basis points sequentially. Overall, the company's robust receivable growth of 13% was driven by contributions from new account growth and a lower payment rate.

In summary, the company's new account growth decreased due to credit actions, but sales increased. Personal loans saw a significant increase, while student loans remained flat in preparation for a potential sale. The Deposit business performed well, with a 21% increase in average deposits. Non-interest income also saw a boost, driven by various factors such as loan fees and transaction processing revenue. However, the rewards rate decreased slightly due to slower new account growth. Expenses were also up, particularly in compensation and marketing. Credit performance saw an increase in net charge-offs, but delinquency formation is slowing.

The company added a slide to their earnings presentation to detail the drivers of their credit performance. They increased their reserves by $618 million and their reserve rate by 17 basis points, driven by receivable growth and higher delinquencies. They expect their losses to rise in the first half of the year and then plateau. Their macroeconomic outlook remained relatively unchanged, with a small benefit to reserves. Their common equity Tier 1 was 11.3%, but declined due to asset growth. They declared a quarterly cash dividend and expect end-of-period loan growth to be flat. They anticipate a net interest margin of 10.5% to 10.8% and core rate cuts of 25 basis points in 2024. Operating expenses are expected to increase by a mid-single-digit percent, with compliance-related costs of approximately $500 million. They expect net charge-offs to be 4.9% to 5.3%.

The company will participate in CCAR's process this year and believes the results will inform their view of capital management for 2024. Their capital management priorities remain centered on supporting organic growth and returning capital to shareholders. The company expects solid financial results for 2024 and plans to continue investing in compliance and risk management capabilities. Loan growth expectations for 2024 are organic and do not include the potential impact of a student loan asset sale. During the holiday season, the company saw a slowdown in sales, but they anticipate sales to remain relatively flat compared to the previous year.

The company's new account generation is down compared to last year, but overall, there is still positive new account growth. The company has taken a conservative approach to their projections, assuming that elevated payment rates will remain elevated and factoring in a potential for higher loan growth if payment rates decline. The company expects credit losses to peak in the middle of the year and then plateau, with the 2023 vintage being a particularly profitable one. The company's guidance is based on a conservative range for loan growth, net interest margin, and charge-offs, with the expectation that charge-offs will eventually decrease starting in 2025.

In 2023, the company tightened their loan range and ended up at the low end. They hope to do the same in 2024. When asked about loan growth, the CEO mentioned that they have been conservative in underwriting and are closely monitoring the performance of recent loans. They plan to increase account growth to levels seen in 2018 and 2019 once they have confirmed positive delinquency trends and charge-offs. The company is also working on selling student loans.

John Greene, in response to a question about the impact of a recent servicing agreement on the company's outlook and capital return, states that the agreement was signed with Nelnet and is progressing on schedule. The next step will be to continue servicing migration activities and then market the portfolio for sale, with expectations for a positive impact on net interest margin and a potential increase in charge-off rates. The sale price is expected to be above par and the company's reserves will drop. In response to another question about loan growth, Greene states that the building blocks include elevated payment rates, flat sales, and adding accounts, but does not provide further details.

The speaker explains that loan growth stayed flat due to a combination of new account growth and a slowing payment rate. They also mention that there may be some impact from sales and a decrease in balance transfers and promotional balances. They have taken a conservative approach in their guidance and business strategy for the next quarter or two. The speaker also discusses expenses and a reserve for customer remediation, but does not provide specific details.

The speaker is asked about changes in the estimated costs related to an issue and provides an update on the investigation. The speaker mentions separate reserves for merchant tiering and customer remediation, stating that progress with merchants is positive and the reserve level may change. They also mention identifying and correcting issues and refunding customer payments, with the majority of the reserve relating to student loans. The speaker concludes by stating that they are positioning the business for a successful exit.

Sanjay Sakhrani asks a multi-part question about the progress made with regulatory agencies, the firmness of capital return post CCAR, the CFPB consent order, and the potential impact on loan growth. John Owen and John Greene address the progress made in risk management and compliance, the FDIC consent order, and their commitment to capital return and allocation. Loan growth is unrelated to regulatory issues and buybacks remain on pause in the fourth quarter.

The company is facing compliance and risk management issues, but they are committed to returning excess capital to shareholders. They will go through a diligent process to determine buybacks and have chosen a provider with a track record in servicing. The reserve rate may come down as the charge-off rate plateaus, but it is unclear where it will eventually settle.

The speaker discusses the growth of receivables in the quarter and how reserve levels increase as peak losses approach. They provide details on assumptions used to set reserve levels at year end and mention that the macros and portfolio performance will be important factors in reducing the reserve rate in 2024. However, they emphasize that this is subject to internal processes and accounting principles.

The speaker, John Greene, responds to a question about Discover's credit commentary and the concern around delinquency rates. He confirms that the delinquency rate formations have been declining since September and expects this trend to continue. However, he cannot predict when it will turn negative due to various factors. Overall, he expresses confidence in the trend of the portfolio.

In 2024, Discover expects to tighten guidance and potentially make reserve rate changes. There may be a further increase in expenses, but the long-term efficiency ratio is expected to be below 40%. There is some risk to the expense guidance due to unknowns, but the company has a full complement of resources for risk and compliance. The overall trajectory for governance is positive, and there is confidence that there will not be any major surprises.

The company has announced an $80 million remediation charge, primarily related to issues in their student loan servicing business. A small portion of the charge is connected to personal loans, but the majority is not related to the issues discussed in July. The company plans to review their expenses and make sure every dollar spent is beneficial for shareholders.

The company has dedicated resources to identifying and correcting issues related to consumer compliance. As they become more effective at this, they have found a new issue and have set aside reserves to cover potential remediation payments. This issue is separate from the one discussed in July and is a result of their progress in risk and compliance management. The company expects loan growth to be modestly up, with average balances increasing by 5-6%.

Don Fandetti from Wells Fargo asks about delinquency rates and cure rates for Discover. John Greene responds that later stage delinquency rates are modestly improving, but the first bucket is the key focus. He also mentions that the 2023 vintage is performing profitably and in line with expectations. Jeff Adelson from Morgan Stanley asks about the charge-off guide and what would take it to the low end. John Greene explains that the baseline is for it to come in at the low end and this is based on the expectation of continued improvement in delinquency formation throughout the year.

The speaker discusses the consistency of their use of macros for reserves and their forecasting team's abilities. They also mention a range of uncertainty for charge-offs. The speaker then addresses the NIM guide for the year and explains that there may be more interest accrual reversal due to rate cuts, but they are confident in their ability to manage NIM.

The speaker discusses the expected beta rate for the company, which is predicted to be in the mid-70s with a declining trend. They hope that this beta will be higher due to the proposed exit from the student loan business, which will increase liquidity and allow for more aggressive deposit pricing in the second half of the year. The company has forecasted four rate cuts, but there could be as many as six, which would impact deposit betas and net interest margin. The speaker believes the guidance is appropriate but may be slightly conservative and expects to deliver to the upper end of the range. The speaker also addresses the company's loan growth guide for 2024 and explains that the quarterly trends show a decrease in loan growth each quarter, which is why the overall growth rate is expected to be 0%. They also mention that the company has control over loan growth, but it is difficult to predict and depends on various factors. The speaker is optimistic about future growth and expects it to pick up again in 2025 and beyond.

The company's loan growth in 2024 is expected to be flat due to factors such as payment rate, underwriting standards, and slowing sales activity. The company aims to maintain a reasonable level of risk-taking in light of changing consumer behavior and inflation. They plan to monitor delinquency formations and other metrics before increasing the number of new accounts. The company typically delivers 3-8% year-over-year growth and seeks to generate high returns in the short, mid, and long-term. The question asks about the company's charge-off levels in 2018 and 2019, which were in the low 3% range.

The speaker discusses the current credit cycle and how it differs from the previous years. They mention factors such as low losses, high payment rates, depleted savings, and inflation as contributing to the current higher charge-off rates. They also mention large vintages in 2021 and 2022. The speaker assures that the charge-off rates will eventually normalize back to levels expected by Discover.

The speaker believes that consumers will be in a better financial position in 2024 and 2025 due to real wage growth. They also predict that delinquency formation will continue to slow and charge-offs will be lower in the fourth quarter due to exiting a student loan product. The speaker hopes this information is helpful and declines to provide further details on charge-offs by product. The call is then concluded.

This summary was generated with AI and may contain some inaccuracies.