Seeking Alpha
We cover over 5K calls/quarter
Profile| Send Message| ()  

Pnc Financial Services Group,The (PNC)

March 05, 2013 2:00 pm ET

Executives

William S. Demchak - President, Director and President of PNC Bank National Association

Analysts

Keith Horowitz - Citigroup Inc, Research Division

William S. Demchak

Good afternoon, everybody. Just before I start here, if we can get to that slide, thanks, Bill. As you can see on this slide, our presentation materials and information in the Investor Relations section of our website at pnc.com include cautionary statements regarding forward-looking and adjusted information and, of course, I urge you to read them. Just before I start this afternoon, I'm certain or I hope I'm certain that everybody saw the announcement a couple of weeks ago and I wanted to express how honored I am to be stepping into the role of CEO at PNC in April. It's a great opportunity for me. I followed Jim Rorh. If you think about Jim, he guided PNC through not only a historic economic crisis but also at the same time, the last 10 years I've been at PNC, he lead PNC through the most rapid growth in our company's history. We went from $58 billion back in 2002, kind of when I showed up, to $300 billion and wherever we end up at the end of this quarter in change. A tremendous growth. And I've got to say, I'm grateful for both his friendship and the great leadership he provided for the company. And hopefully for all of you, this transition is, obviously, kind of the culmination of an orderly succession planning process. I hope it's not a surprise to anybody. You should expect that this will be a smooth transition as Jim and I have been aligned on the strategic direction of the company for some period of time.

Today, I'm going to talk about 4 basic things you've heard us talk about before. First, the fundamentals, right, growing customers, loans, deposit, fee revenues and improving profitability. Secondly, our strategic priorities for growth; third, expense management; and finally, the strength of our capital and liquidity position. As you can see on this slide, our key priorities for '13 are focused on creating profitable growth and positive operating leverage. We haven't been able to say that for a couple of years. We plan to do so without compromising our growth initiatives or, importantly, our commitment to moderate risk philosophy that has served us well over the last years. And finally, as we execute our plan, we're on track to achieve our previously stated B III goals. And for those of you who are careful readers, you would have seen in our 10-K that we actually printed 7.5% for B III Tier 1 common, which is up, I guess, what Rick, 20 basis point from the last guidance we gave. So we're well on our way to where we need to be. You've heard us talk about customers. In recent years, PNC has grown customers at an absolutely unprecedented pace across all of our lines of businesses. In 2012, we achieved some of the highest levels of customer growth in the company's history. And even as conditions changed and the competition to win new clients became more intense last year, we added more than 250,000 net organic checking relationships, more than 1,000 new clients in the corporate bank, and that doesn't include the new clients we grew in real estate and business credit and equipment finance and other places, and over 2,000 primary new clients in our asset management group. However, the environments continue to change, and not all growth is quality growth. Going forward, the measure of success isn't just going to be about the volume of new client additions, but, importantly, it's going to be about improving the profitability of those client relationships as a whole, read that as cross sell. New regulation and low rates, low interest rates have forced a change in the profit model for retail banks, an obvious statement given the lower deposit spreads. We could open free checking accounts at a pace of 1,000 a day, which would be a good rate for where we've been historically, and we're still not going to get an adequate return for shareholders given the model we have today. In the new normal, we need to look at all of our customer relationships to improve profitability by cross-selling our diverse product mix, increasing share of wallet, and, where appropriate, redefining the fair value exchange with our customers. Think about that in the retail space as repricing retail. As we move ahead in 2013, we'll continue to go after quality prospects in all of our lines of business. We expect to see accelerated growth for some period as our businesses in the southeast come online and we continue to deepen penetration in our midwest markets. But overall, we expect to see a slower pace of growth in new client relationships, reflecting our focus on optimizing returns on allocating capital and creating greater opportunities to deliver value to both the client and the company, and we'll talk about that in a few moments when I discuss our 4 strategic growth priorities. If we just look back at client growth here, we see that PNC's performed extremely well with regard to both deposit and loan growth, and while this growth, some of it clearly came from the RBC acquisition, what we're really seeing here is loan growth driven by this client -- with a strong client growth that we had. Interestingly, utilization rates, and I'm sure you hear this from everybody, utilization rates and pure C&Is, so think about middle-market, industrial America, really haven't changed for 3 years. So the raw stock of borrowing in our economy hasn't fundamentally changed. You've seen banks trade share with each other. We've been a beneficiary of that through Flight to Quality. You've seen banks, U.S. banks, gather assets from certain Europeans who are delivering, and you've seen banks gather assets from reintermediation of certain products that used to be in the securitization market. But by and large, the stock of C&I loans really hasn't changed for the last couple of years. The balance sheet growth that you've seen though has lead to revenue growth that's in line with our peer average at 8%, but that number was impacted adversely by the items that you saw in the 8-K filing in our earnings announcement in January. I would tell you that we look forward to a much quieter 2013 as integration costs, and most of the trust preferred redemption charges, will be behind us. We have strategies in place now in each of our lines of business to continue to grow deposits and loans and to grow fee income into 2013.

Why don't I just take a break here for a second. I know there's been a lot of comments today on loan growth from some of our peers and what's happening fourth quarter versus first quarter, and I would tell you, you look back at that chart on what we did in '12. The torrid pace of '12 won't be repeated. I think we're top of the charts whether you include RBC or not, particularly in our C&I base segment. Having said that, though, we've gone out, I guess, Rick, with high-single digits in C&IB space and mid-single digits in the consumer space and we're still comfortable with that. We saw an outrageous December, which is going to show up on our average loan balances in the first quarter, but even on a spot, end of year December to end of first quarter, we'll be up in loan balances, and I think one of the things that might differentiate us in this space is some of the specialty segments we have. So we've been growing loans consistently in our asset-based lending space. There's not many players in it. We're a very large one in the middle market space. We've been growing loans in real estate and the project loans that we've put on over the last 2 and 3 years as they fund up, those balances hit today at a nice spread that was set 3 years ago, so we benefit from that loan growth as we go through time. In other specialty, in public finance we've seen growth, in our healthcare vertical we've seen growth. And so, perhaps it's because we're in some of these specialty verticals where there's differentiation and we've been able to see growth through this period of time even when pure C&I, so the traditional middle-market, we, like others, would say pipeline activities feels pretty slight, but it's not slowing down the guidance that we gave before.

If we jump into fee income, environment, net interest income's going to be challenged whether it's tightened credit spreads or lower interest rates, we've got to focus on growing fee income, and we are. Thankfully, PNC's got a set of diverse, primarily national, fee income businesses, that should help drive that growth, and as you can see from the chart, our fee income to total revenue has been increasing even as we've grown net interest income, and we need to continue to do this. For PNC, our strategies for growing fee income across our lines of business come down to 2 basic activities, achieving deeper market penetration, which we have the opportunity to do given what we're doing in the southeast, and cross sell. If we turn to our businesses and dig into each one, in turn, in retail, an obvious statement, the environment is forcing the industry to reconsider the profit model. And in the coming years, in order for banks to improve profitability, we're going to all have to start to look at reevaluating the fair value exchange with customers. Sheer number of retail banking relationships we enjoy today gives us ample opportunity to broaden our overall sources of revenue, particularly as we endeavor in 2013 to talk with every customer about their investment and retirement needs. In C&IB, we've added 3,000 new corporate banking primary clients over the last 3 years. Each relationship manager's measured on economic profit of his or her book, and in order to drive improved returns, RMs need to sell less capital-intensive, fee-based product. So you think about that, traditionally, you lead with credit, but as the relationship matures, you have new opportunities. And so, that's the time you really start focusing and pursuing cross-sell opportunities with the clients we've added in recent years. You've seen, for those of you who followed us for periods of time, we go through cycles where we kind of call it planting and harvesting, and if you think about the last bunch of years, the last bunch of years were a great period of time to plant seeds of new clients. You really got paid for credit. We had a lot of competitors who were in disarray, clients were shopping for new banks at a pace that they never had in the past. So we grow -- we plant the seeds and grow that crop, and as you get into a period where credit gets tight, and we're starting to see irrational pricing in certain sectors of C&I, you harvest what you planted. You go into cross sell, you cement the relationship, you introduce new products. We did the exact same thing. If you think about back in '04 and '05 when spreads got really tight, we really focused on cross sell. We're not back to that level yet, but we're walking towards that level, and today's got to be a period of time where we start thinking about deepening the relationships that we've managed to grow at this tremendous pace over the last couple of years.

You think about -- at the Southeast, we're operating almost now at full staff in the new markets across the Southeast and we're intensely focused on bringing the performance levels in these new and underpenetrated markets, almost by definition, up to the levels of our more mature markets. Additionally, we think there's real opportunity for us to achieve significantly higher sales in targeted verticals. So think about energy, think about healthcare, certain sectors in real estate. In our asset management group, with regard to the newly acquired markets, when we acquired RBC -- when we acquired the RBC branch network, we bought a foothold in some of the most attractive markets in the country from a demographic perspective, but at the same time, apart from the retail network we bought, we really had to build de novo C&IB and AMG operations. RBC was basically a pretty large small-community bank. So we bought the shell and we needed to add to it asset management C&IB capability. We spent the majority of '12 putting the teams in place to do this, and ramping up those businesses, and we saw, and continue to see, a rapid buildup in our pipeline down there. We've created pretty strong momentum, and by the end of the year, last year, we were winning new clients basically in every business in every market across the Southeast. And across the enterprise down there, we're focusing on opportunities to capture more of our clients' investable assets through the cross-sell efforts that I previously mentioned. And residential mortgage, while it's likely that refinance volume across the industry, or just volume across the industry, is going to decline, we'll continue to build on our momentum, leveraging expanded distribution and increase marketing with the aim of driving higher purchase origination volume.

Let's take a quick look, if we do this. Take a quick look at where we are in relation to the 4 strategic growth priorities I outlined in November. First, second, third, fourth, fifth, sixth and seventh is all about improving our position in the newly acquired and underpenetrated market. This is the bet in the Southeast. We know it's a big bet. We know we need to perform on it. We have a huge opportunity in great markets down there. We've got to take our model into those markets and succeed. Second, capturing more of our customer's investable assets, this is the wealth and retirement initiative across all of our bank; third, building a stronger and more sustainable residential mortgage business; and fourth, redefining the Retail Banking business. As you can see here, we've been successful in growing our midwest markets to levels that are coming in line with our legacy markets throughout the Northeast, and that record of success gives us confidence that we can do the same across our newly acquired markets in the Southeast. I got to tell you that it is the single most compelling organic growth opportunity I've ever seen, and I continue to be really excited by it. At the same time, we all know it is not a prospect, yet we know it's in front of us. We've done it in Washington, we've done it in Chicago, we deliver our model into markets where we have brand equity from our retail franchise, admittedly subscale retail franchise, but enough there that the company has brand equity. We go in with wealth and C&IB, and historically, and what we're seeing right now markets in these new markets, we can succeed and grow, and that's what we've got to do down there. I would tell you our clothes business in our 90-day pipeline in those markets is strong. It continues to build momentum and we're winning business on a daily basis. Our brand recognition, so we got -- we measure brand recognition by market. I don't know, we do 4x a year or something, and when we did RBC, our branded recognition was just 25% in the Southeast. We've doubled that and then some, and it continues to grow up to the levels of the rest of the company, which is, I'll say, pushing 80% or high 70s, and just like with National City, where brand recognition was low, we brought that to historic levels. We're going to do that in the Southeast, and everything is trending the same thus far.

If we look at Asset Management, we've recorded very strong results in recent years and you can see it here. Last year marked the seventh straight year of record new client acquisition at AMG. Client satisfaction and retention rates have been consistently strong in each of the last several years and throughout the crisis, and they recently finished 2012 at record high levels. So we believe that we have one of the highest referral rates inside the industry and we continue to prove on that -- so referral rates from different parts of the business into AMG. With sales growth in excess of 30% for each of the last 2 years and particularly strong growth from referral, we have great confidence in our ability to capture more of our customers' investable assets as we strive to make retirement investment a part of every customer conversation. Within our current footprint, our existing clients alone have an estimated $1.9 trillion of investable personal assets and our current share of those assets is in the single digits. So the opportunity is gigantic inside of this fragmented market. We have made a significant growth opportunity an organizational focus, and I'll tell you in fact, every customer-facing employee at PNC has a goal related to this effort. Interestingly, if you look at the growth in clients and sales that I just talked about, you don't necessarily see it clearly -- visibly at the bottom line, the reported results of this group, and the simple fact is that we have invested ahead of the revenue streams, right? So we've put on, I want to say, several hundred people each of the last year on client-facing positions in wealth management. They are breakeven in terms of the fees they are generating is actually running on the order of 18 months, which is perhaps twice as good as we thought when we started doing it, but we're just hitting that revenue curve where those investments start to show up in the bottom line. We feel very bullish about it. Now I tell you, every bank gets up here in stock and talks, I'm sure, about growing their wealth and retirement in the mass affluent -- in the affluent spaces in the -- we, like others, have a great set of products, but what makes us different is that as an organization, we can get behind a single objective. So the very notion that we can go out and we can tell our business bankers, as part of your scorecard to introduce our vested interest to our 401(k) product to all of your companies this year, that's how you're going to get paid, they go and do it. We can mobilize all of our client-facing people to talk about referrals into this business. So when people come into the branch, when our corporate bankers call on the CFO, when our business bankers go out and talk to the treasurer about small balance 401(k) we can mobilize our forces. Our referral rates, we're already getting more than 1/3 of our new business from this type of referrals, which is why you see the growth you've seen in sales, but you can do better than that through time, and you should expect this business to be a much larger contributor to PNC through time.

If we move on to mortgage here. You've heard us say it several times, but in order to be a full suite provider, we've got to get the resi mortgage business right. Find a home, that's the single most important thing the vast majority of our retail clients are ever going to do, right? The most important financial transaction. And we have to be able to satisfy their need with this product, and if you do it well, it becomes a brand enhancer and something that can help determine depth and profitability of the entire relationship. We've already dealt with a lot of the past issues, and our focus now is on building a highly integrated origination and servicing engine, one that eliminates some of the costs involved and underscores our commitment to customer satisfaction by reducing the number of days to close for purchases and finance. Since we talked a couple of months ago, we've already made significant progress. Service levels, in terms of time to close, are at or better than industry levels. But what's particularly exciting is the pilot we've launched for seamless delivery. We've reengineered the entire origination process to minimize duplicative work and delays that resulted under the old model and often required multiple efforts to process one loan application. Think of what happened, we got hit with 3 or 4 different sets of regulatory requirements in underwriting a loan. You were overlaying that to an old process that wasn't built to deal with those regulatory requirements. Under the new process, we've actually dropped our average time to close from 51 days to 28 days, while the peer average continues to linger around 60 days, so dramatic improvement. And the client satisfaction with that pilot group, which we're running in Southeast, is off the charts. If you think about mortgage, for any of you who have refied a mortgage in the recent couple of years and compared that experience to what you did 5 or 6 years ago, it's a nightmare, no matter who provided it for you. Just because the process is much more complex. What we're developing in seamless delivery is the ability to close on a much faster timeline without all the confusion that everyone's going through today as we comply with new regulations. We'll comply with them, but we built this around those regulations as opposed to layering the regulations on top of the old process. As we continue to refine and improve upon and expand this program, we believe this will help us to achieve our goal of continuing to expand our share of purchase money transactions, which will be the long-term driver of value in the business when refinance activity softens. Admittedly, capacity constraints prevented us from capturing more of the origination market for much of '12. As a result, throughout last year, we significantly increased our capacity to process and underwrite originations by expanding our 2 main operation sites and bringing the new Florida site online. So we now have the capability to originate more loans across a larger footprint, close them faster, so more velocity through the cycle and more efficiently while providing a differentiated customer experience, and we'll be utilizing targeted marketing campaigns to leverage our enhanced capabilities in positioning. As a result, we believe PNC is positioned to generate significantly higher origination volumes in 2013 as compared to '12, which should help offset continued expected declines and gain on sale margins. All right, so we know the total or we don't know, but we expect, as the industry does, that total mortgage activities, they're going to go into decline year-on-year but if you look at our ramp up and origination quarter by quarter by quarter in '12, add to it seamless delivery, add to increased capacity on originators that we're hiring, we believe that through share acquisition, we will, in fact, increase our origination volume into '13. You heard us talk about before, our appetite for this business long-term, and everybody is saying the same thing, has to depend on the role the government will play in home financing going forward. But we believe our strong core funded balance sheet gives us an advantage in the market if that role shrinks. In the work we're doing to create a more customer friendly and less expensive engine should position us to succeed in this space.

Four strategic growth priority this year and for years to come, we've got to get this right, is redefining the Retail Banking business. I talked a bit earlier about what the industry is facing as the profit model for Retail Banking has been changed by new regulation and the low-rate environment that appears to have become our new normal. We've talked in-depth about our effort to redefine the Retail Banking experience by leveraging new distribution and transaction channels that better align the customer's preference while lowering our cost to serve, consolidating branches where it makes sense to so and shifting from the traditional approach based on branch density to a digitally thin focus that uses technology to meet changing preferences of our customers.

While it's still early, I'm pleased with the progress we're making. So I'll give you an example, in southwestern PA, it's our first market to be fully outfitted with the new image-enabled ATMs, right? So the ATMs, you can just put the check in without having to put it in an envelope. And there, we see consumer teller deposits are down 20% December to December by going to this new technology despite a 2.4% growth in customers, and client satisfaction is all-time high. So it is working. Teller transactions were replaced by significant increases in ATM and mobile transactions. The number of mobile deposits during the fourth quarter last year was 4x higher than the fourth quarter of '11 and ATM deposits were 35% higher during the same period. In 2013, we're looking to dramatically accelerate the pace of change inside this business. Another example: In 2012, we had 65 branch consolidations for the entire year. First quarter alone we will do 32 and we're targeting 200 branch consolidations through the course of '13. At the same time, we will be opening some new branches where it makes sense to do so in order to create a presence within our markets that might be underserved, but our focus in terms of building infrastructure to support the retail business will be weighted far more in the direction of technology than teller lines. I'll discuss in a moment. This is an expense management issue, given that the retail branch network represent about -- represents about 1/3 of our total expenses, but more importantly, it's a brand and relationship management effort. Customers want convenience in their banking options, and with advances in ATM technology, web-based banking and the proliferation of smartphone and mobile apps, customers have less need to visit a branch than ever before. In fact, we're now seeing customers choose to deposit checks using mobile technology, 10,000x a day, which saves us about $3.88 per transaction versus the deposit at the teller window. It's millions of dollars a year in difference, and we aren't incentivizing customers in any way to use this option. It's an interesting product. We developed the capability for you to deposit a check by phone. We did it, like everyone else did it, because it would save costs, because you wouldn't stand in line to use the teller window, but at the same time, the person who's actually using the technology -- how many in the room deposit checks by phone? So people are doing it. How many of you, if I charged you some money for that, $0.25, would still do it rather than go stand in the teller line? I would. We're in a mindset where we did it for convenience to save costs, and we didn't think about the mindset that we're providing the value-added service to consumer. And that's a change inside a retail that we and the rest of the industry need to focus on as we go through this emerging technology, and what we are providing to consumers that they value. We need to focus on that going forward. We know what the future looks like. We're working hard to accelerate the pace of change within the Retail Banking business in order to deliver the services our customers want, importantly, at a cost that our shareholders can accept. It's a real simple concept here. We're serving at least 2 demographics. We have one demographic that uses the branch today, and they're highly profitable, right? Another goes into the branch, she's a great customer, she wants to go into the branch 3 times a week, God bless her, we let her do it. My son will never go in a branch, right? He's got every mobile app there is and he's got -- he's horrified by going into a branch it. We need both of those customers, and we need to figure out how we market to both of those customers without alienating either one. That's the challenge that our retail bank and all retail banks face today and the trick is to migrate this physical network to a digital network in a timeframe that fits the changing demographics, and importantly, to get paid for where you are providing value to users of the new products.

Let's talk about expense management. The last couple of years, we've been investing for growth, obviously. Now that our acquisition of the RBC Bank branch network is complete, and our people are in place across the Southeast, we've made creating positive operating leverage one of our key priorities in 2013 across our lines of businesses, staff functions, we've identified significant expense management opportunities as you can see on that chart here. Overall, we currently expect reported expenses to decline by mid-single digits on a percentage basis compared to 2012, and core expenses, which exclude integration and trust preferred securities redemption charges, to be flat through 2012 to '13. We've announced the largest, non-acquisition, continuous improvement expense savings goal in our company's history of $700 million, and our record, if you look back at, when we say we'll do something we'll do it, our records suggest we can achieve this. At the same time, we're continuing to make targeted investments in our businesses and infrastructure with approximately $550 million of approved initiatives, think about that new technology in services and retail and digital branches. But we've also set aside $150 million for unanticipated expenses, the unknown continues to -- seem to continually repeat themselves in this environment. Having said that, we have this plan in place, but I tell you, we recognize that we will need to get even more aggressive on expenses as we move through this tough environment. Just to comment on that, as we went through the budgeting process in the fourth quarter and started thinking about our growth rate and what we've been investing in through time as we've been gathering these clients, the company took to heart this expense message, and while we have the $700 million out there, I will tell you, again, for those careful readers of our 10-K, Rick changed the comment in there where we had originally that

we'd be down at least $300 million fourth quarter to 2 per site. Originally, we said we'd be down $300 million fourth quarter to first and we put the at least in the 10-K number, because I think simply we're seeing flow-through from people doing the right thing day-to-day, just dropping to our bottom line, and we'll continue to work on that, through the year, notwithstanding that we put a stated goal out there that we think we're okay with it thus far. There's room on that.

If we look at our key takeaways here. We came off in 2012 with solid results, but a lot of noise. We've heard it from every person we sat down and we lived it day-to-day -- every person we sat down with and we lived it day-to-day. We expect a much quieter year in 2013. The combination of revenue growth and expense management should drive positive operating leverage this year, and the achievement of our capital objectives should give us greater flexibility into '14. Having said all that, Rick and I would be happy to take questions and, I guess, Keith, you have some automated questions you're going to hit us with. Do I get to vote on these or do I just see the results?

Keith Horowitz - Citigroup Inc, Research Division

Yes, you do.

Question-and-Answer Session

Keith Horowitz - Citigroup Inc, Research Division

Okay. So of the major regional banks in the S&P 500, when you look at PNC, they trade at the lowest fee at about 9x. So when you guys think about that 9x multiple, is it you think one, just a simple explanation, earnings estimates are too high; 2, do you have to look at it x the accretion as one-time in nature, and it's roughly around 11x, that's more appropriate; 3, the capital levels are low and near-term capital return is limited; 4, PNC's got a lower growth profile; or 5, is PNC's M&A appetite?

[Voting]

Keith Horowitz - Citigroup Inc, Research Division

So the #1 answer, 42% said it was due to the capital levels are too low and the capital return is limited, and then next most frequent response is 29%, so the way to look at it is x accretion 11x is appropriate. Do you have any reaction to these numbers?

William S. Demchak

Well, I actually -- just looking at it, that's probably how I would have weighed it. I think there's -- we absolutely get #3, right, we work on that, we become more of a capital-return story in '14. And we have -- we also look at the noise that accretion puts into our income statement. If you back out accretion and look at the underlying growth of our company going back several years, it's fairly astonishing.

Keith Horowitz - Citigroup Inc, Research Division

But do you think that's fair to just simply back out the accretion, or is that something you feel like you can offset?

William S. Demchak

We have offset it. We have had revenue growth beating this gigantic revenue decline from accretion, and at the end of the day accretion shows up as capital, so you ought to get at least that. I don't know that we worry -- we worry about running the company long-term, so we try to make decisions that are going to grow customers good risk-adjusted return, and, ultimately, drive bottom line results, so I can't sweat what accretion is going to do to me this year.

Keith Horowitz - Citigroup Inc, Research Division

Okay, good. Next question. So when you did the RBC acquisition, you came out and targeted 19% of internal rate of return. I just want to ask the audience, what are your thoughts on the RBC deal? #1, it was a great acquisition with 19% returns; 2, you're very optimistic on the Southeast, but you just haven't seen the results yet from PNC; and third is you feel like PNC overpaid and you worry about them doing the next deal.

[Voting]

Keith Horowitz - Citigroup Inc, Research Division

So 50% are optimistic on the Southeast. Third, people feel like you overpaid at 39%. You want to address that?

William S. Demchak

Yes. I mean, I disagree violently with the third one.

Keith Horowitz - Citigroup Inc, Research Division

Are they still tracking in line with your projected returns?

William S. Demchak

Yes, I mean, on a reported basis, they're way over what we thought, again, because of accretion accounting. But if you look at -- I mean, I guess, part of the issue that we see is we bought into a long option position at a really low price, right? It put us in very, very strong markets. We're entering them with a business model that works, and all the markets we've done thus far. Acquisitions, right, people like to see an acquisition that talks about -- that's contiguous, I'm going take all these costs out because cost saves are easier than revenue growth. And so I like the second bucket. I'll go with the second bucket, I'm optimistic. We've got to show the results, we know that, we realize it. To us, the opportunity set down there in those new markets is just massive.

Keith Horowitz - Citigroup Inc, Research Division

We had asked USB and BB&C about their thoughts on whether a bank -- you guys are like in the sweet spot, and investors wonder whether a bank your size could do a deal for banks with, say, $50 billion in assets. We haven't really seen any activity. Do you feel like a deal like that could get done if you had 2 willing parties? Would the regulators allow it?

William S. Demchak

I think the regulators haven't drawn a hard line in the sand, the work set might be more to do it. But our -- I mean, from our side, our focus is on organic growth, right? The bet that we've made in the Southeast, to your point here on where the answers are, we've got to prove it. We've got a big bucket saying, "Optimistic, but show me." So we don't have license to go try to show you again. We'll make money on this one. I don't think that your question applies to us in terms of where acquisitions are going to go, but I think somebody else could get something done if they wanted to.

Keith Horowitz - Citigroup Inc, Research Division

Just, to put you on the spot, to address a fair point, people are worried about the next deal?

William S. Demchak

Yes.

Keith Horowitz - Citigroup Inc, Research Division

Is there anything you can put people's mind at ease?

William S. Demchak

Yes. I mean, it's really not on the table, and it's not on the table for a couple of different reasons. The first one is the obvious statement that we have a big bet on the table that we've just made. And importantly, to do a deal, you have to be able to resource that acquisition to be able to make money. You need people in place, you need to go down and basically build on a market. We sent 60, 70 PNC veterans down into these markets. We hired a bunch of people into those markets. It's tough to do that again. Just buying something, even if you buy it really cheap, which will be my second comment here, even if you bought it really cheap, you don't really necessarily make money at it unless you go down and transform it to your model. Small banks today, in our view, are massively overvalued, because I'm buying into a bank that has, on average, heavily weighted towards real estate, which won't fit on our balance sheet because they are kind of doing it in form and with clients that we typically won't bank, with employees who don't want to work at a large bank, with deposits that aren't worth anything in today's environment, and when you do that and say, can I go down and layer on all the resources I need to then make money at it, it's hard to figure out how it's a positive transaction. So a combination of we've got a big bet on the table and we don't see value out there keeps out of the market. I'd caveat it by saying if somebody wants to sell us a handful of underutilized branches that are basically at real estate value, then that might happen, but that's a different issue.

Keith Horowitz - Citigroup Inc, Research Division

Okay, next question. Okay. you went through this in the presentation. You talked about 2013 mortgage origination revenue to be higher than '12, as higher volumes from increased cross sell, you have basically higher originations than offset lower gain on sale. Do you believe that PNC can deliver mortgage revenues up in 2013 versus '12?

[Voting]

William S. Demchak

So I'd encourage you guys, take a look at the production volumes. Do we have that? In what form?

Unknown Executive

Quarterly and in the second supplement.

William S. Demchak

Yes, if you annualize what we did in the fourth quarter, you get close to doing it without growth from there. But the volume increases we have basically through the course of last year, simply because we started from a really low base having recycled National City. As we added capacity, our fourth quarter number almost gets us there, and we've added since then. Then you throw on seamless delivery, so my velocity, I just cut my processing time in half. My ability to take production through the machine is that much faster than it used to be. And last year, we did this priority-on-purchase volume, second priority on any customer in the bank, either a retail customer is in the branch or somebody that we already service. And third priority is other people's refinance. But by and large, we turned away. So we have a pretty big opportunity set kind of going after demand that's coming our way given our new capacity.

Keith Horowitz - Citigroup Inc, Research Division

So it can be everyone?

William S. Demchak

Yes.

Keith Horowitz - Citigroup Inc, Research Division

Any questions in the audience?

Unknown Analyst

You mentioned there was some irrational pricing in some areas of C&I. Can you elaborate on that and what kind of pricing you're talking about?

William S. Demchak

Yes. So think about the barbell approach. We've seen very large corporate leverage lending jump all the way back to covenant-light structures that kind of predated the crisis. We don't play in that space, we're more of a middle-market bank, but we do play in business, small business and commercial and that space, as we've seen small business -- sorry, as we've seen smaller banks reconfigure themselves from largely real estate lenders to be something else, they either tax small business and commercial and crushed spreads in that space. Not so much necessarily on structure there, it's just on a price basis. I don't know where it's gotten to lately, but I hear grumblings in every market I'm in that, that's the most irrational place. Inside a middle-market proper, anything that needs maybe 2 banks to handle. So $100 million loan that might be clubbed by 2 banks. Whenever 2 banks need to touch something, they tend to get rational as a group. So while spreads are in they're not as crazy as when one bank can do the whole deal themselves. We've seen less pressure in the specialty space. So less pressure in some of the real state spots and business credit and equipment finance. It's all coming in a little bit. But the 2 barbells of leverage finance, small business are the most aggressive.

Keith Horowitz - Citigroup Inc, Research Division

I think the last question. On Page 13, I thought it was fascinating, it terms of your future of the retail bank model in terms the -- of how long does that take you to kind of get there?

William S. Demchak

I mean, it's the $1,000 question, we don't know the answer to that. We know we need to start walking in that direction, right? So we can no longer ignore the fact that year after year after year transaction volume in the branch has declined as paper check volume declines. We can't ignore the basic concept that it's likely that my now 9-year-old daughter, her birthday was yesterday, my now 9-year-old daughter will probably never write a check, right? So all we know is that between now and that period of time, we have to build a model that supports the new demographic and we're going to start in that direction. We're putting out these digitally thin branches, we're putting out cashless branches where there'll be employees but there won't be cash and coin at the teller line. They'll be in the machines. All of that needs to take place, and we'll learn, as the industry will, as we get through it.

Unknown Executive

I think, Keith, as we consolidate the 200 this year, that's about 7% of the branch network. I think we'll learn a lot from that exercises as to how to retain the customer.

William S. Demchak

And it's not lost on us. Branches need to change their configuration, but branches are an important part of our brand equity, right? A lot of people research our virtual wallet account online, but the vast majority of them still walk into the branch to buy it. They might not ever go into the branch again, but they want to go in there to buy it, to see someone -- to know who the person is that has their money. And we need to be cognizant to that.

Keith Horowitz - Citigroup Inc, Research Division

Okay. We're out of time. Perfect. Thank you very much.

William S. Demchak

Thank you.

Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to www.SeekingAlpha.com. All other use is prohibited.

THE INFORMATION CONTAINED HERE IS A TEXTUAL REPRESENTATION OF THE APPLICABLE COMPANY'S CONFERENCE CALL, CONFERENCE PRESENTATION OR OTHER AUDIO PRESENTATION, AND WHILE EFFORTS ARE MADE TO PROVIDE AN ACCURATE TRANSCRIPTION, THERE MAY BE MATERIAL ERRORS, OMISSIONS, OR INACCURACIES IN THE REPORTING OF THE SUBSTANCE OF THE AUDIO PRESENTATIONS. IN NO WAY DOES SEEKING ALPHA ASSUME ANY RESPONSIBILITY FOR ANY INVESTMENT OR OTHER DECISIONS MADE BASED UPON THE INFORMATION PROVIDED ON THIS WEB SITE OR IN ANY TRANSCRIPT. USERS ARE ADVISED TO REVIEW THE APPLICABLE COMPANY'S AUDIO PRESENTATION ITSELF AND THE APPLICABLE COMPANY'S SEC FILINGS BEFORE MAKING ANY INVESTMENT OR OTHER DECISIONS.

If you have any additional questions about our online transcripts, please contact us at: transcripts@seekingalpha.com. Thank you!

Source: PNC Financial Services Group's Management Presents at Citigroup US Financial Services Conference (Transcript)
This Transcript
All Transcripts