Welcome to the Capital One first quarter 2008 earnings conference call. (Operator Instructions) I would now like to turn the call over to Mr. Jeff Norris, Managing Vice President of Investor Relations.
Welcome to Capital One’s first quarter 2008 earnings conference call. As usual, we are webcasting live over the Internet. To access the call on the internet, please log on to Capital One’s website at capitalone.com and follow the links from there.
In addition to the press release and financials, we have included a presentation summarizing our first quarter 2008 results.
With me today is Richard Fairbank, Capital One’s Chairman and Chief Executive Officer; and Gary Perlin, Capital One’s Chief Financial Officer and Principal Accounting Officer. Rich and Gary will walk you through this presentation.
To access a copy of the presentation and the press release, please go to Capital One’s website, click on “Investors”, and then click on “Quarterly Earnings Release”.
Please note that this presentation may contain forward-looking statements. Information regarding Capital One’s financial performance and any forward-looking statements contained in today’s discussion and the materials speak only as of the particular date or dates indicated in the materials.
Capital One does not undertake any obligation to update or revise any of this information whether as a result of new information, future events or otherwise. Numerous factors could cause our actual results to differ materially from those described in forward-looking statements.
For more information on these factors, please see the section titled Forward-Looking Information in the earnings release presentation and the Risk Factors section in our annual and quarterly reports accessible at the Capital One website and filed with the SEC.
At this time, I’ll turn the call over to Mr. Perlin.
Gary L. Perlin
I’ll begin on Slide 3 of the presentation. Capital One posted first quarter diluted earnings per share of $1.47. We generated $1.70 per share from continuing operations which was offset by a $0.23 loss per share in discontinued operations. EPS from continuing operations was up $0.05 or 3% from the first quarter of 2007.
Significant items of note in the quarter were a $310 million increase in the allowance for loan losses and a $200 million benefit related to the Visa IPO. In addition, we posted a $104 million increase in the representation and warranty reserve for loans originated and sold by GreenPoint Mortgage which accounts for nearly all of the loss in discontinued operations.
Revenue margin was stable from the fourth quarter of ‘07 to the first quarter of ‘08, but was up substantially from the prior year quarter. Over the course of the last 12 months strong margins coupled with solid operating leverage combined to offset the adverse impact of significantly higher credit costs. Credit is clearly the key performance driver in the most recent quarter and for our outlook going forward.
For the first three months of 2008 charge-offs and delinquencies were consistent with the expectations we articulated in January. Since then, however, there has been clear evidence of a steadily weakening economy throughout the quarter, which causes us to expect further credit deterioration and led us to increase our loan loss allowance by an additional $310 million. Both Rich and I will spend a good portion of our remarks today talking about credit.
Managed loans declined in the quarter by $3.3 billion from the fourth quarter of 2007 partly due to seasonal declines in credit card balances and partly due to our cautious approach to new loan origination across our consumer lending businesses. Deposits on the other hand grew by $4.9 billion in the quarter. Given the distressed state of capital markets, we leveraged our multiple deposit origination channels to raise cost-effective funding.
Our balance sheet remains a source of strength and provides increasingly important opportunities to improve financial performance, as I’ll discuss in a moment. We continue to generate substantial amounts of capital which enabled us to increase the ratio of tangible common equity to tangible managed assets from 5.83% to 6.03% while increasing our quarterly dividend from $0.027 to $0.375.
We also leveraged our strong liquidity position to take advantage of capital market dislocations, to refinance previously issued high cost debt by buying it back in the secondary market and replacing it with cheaper sources of funding, including deposits.
Finally, during the quarter we passed a significant milestone in the integration of our banking businesses by successfully completing brand and deposit platform conversions in our metro New York branch system.
Let me now address these key drivers of Capital One’s financial performance in a bit more detail starting with margin trends on Slide 4.
Revenue margin, net interest margin and risk adjusted margin were all up in the first quarter versus the year-ago quarter. Revenue margin and NIM were relatively stable versus the prior quarter while risk adjusted margin declined somewhat. There are a number of factors driving these margin dynamics in the quarter and over the last year.
On a year-over-year basis, pricing and fee increases in US card helped drive significant improvement in both NIM and revenue margin. While sharply higher charge-offs caused by a weakening economy largely offset this benefit, resulting in a relatively stable risk adjusted margin.
On a sequential quarter basis the increase in charge-offs caused risk adjusted margin to decline. Meanwhile both revenue margin and NIM were relatively stable as declining fees in US card were offset by a portion of the impact of the Visa IPO and benefits for more active management across the Capital One balance sheet, which I’d like to focus on for a moment now.
While this quarter saw our branch banking operations being integrated, we integrated treasury operations immediately upon the closing of our acquisitions of Hibernia and North Fork.
The addition of significant amounts of deposit funding, including money market and interest-bearing checking accounts, has greatly expanded the tools we have to fund operations more cost effectively and to more actively manage our exposure to market rates. You see the positive impact of both of these developments in the first quarter.
First, as the spread on Capital One parent and bank notes, like those of other financial institutions widened in response to the sharp decline of liquidity in the fixed income markets, we purchased at a discount approximately $1 billion of our highest cost debt securities. Retiring the debt at par led to the recognition of a $52 million gain in non-interest income. Refinancing this debt with much more attractively priced deposit funding also created a modest benefit to interest expense, which will continue in future quarters.
Since acquiring the banks, we increased our liability sensitivity and with sharply declining interest rates and a significantly steeper yield curve, this benefited our net interest and revenue margins in the first quarter by offsetting the reduction in some US card revenues.
While Capital One’s overall appetite for interest rate risk remains relatively low compared to other banks, we have increased our limits and are prudently operating within them to benefit from market conditions. The benefits of lower rates and the steeper yield curve on our margins, along with solid expense management, should continue to provide some offset to higher credit costs.
Let’s turn to Slide 5 where I’ll address expenses. Operating efficiency has been improving steadily and is visible both on a year-over-year basis and over linked quarters. The steady improvement in Capital One’s efficiency ratio is partially driven by the healthy growth in revenues we’ve delivered but it also demonstrates the solid progress we’ve made on our cost restructuring program, which will continue to strengthen our competitive position.
The reported improvement in the last quarter is exaggerated by one-time impacts to revenue and expense related to the Visa IPO in the fourth quarter of ‘07 and first quarter of ‘08. But even if we net these out, our efficiency ratio would have fallen 260 basis points from the prior quarter to 41.6%.
Headcount was reduced by approximately 1,600 in the first quarter and by approximately 5,400 since the first quarter of last year.
During the quarter we incurred $53 million in restructuring expense which resulted from decisions to outsource much of our UK card infrastructure and to restructure and downsize our auto finance operations. We anticipate these moves will eliminate about 1,000 positions.
Integration expenses were $30 million in the quarter. While the bulk of our bank integration work is now complete, there are a variety of smaller integration projects that will continue to incur expenses for the next few quarters.
Finally, marketing expenses were down moderately on both linked quarter and prior year bases as we remain cautious on loan growth in the wake of a steadily weakening US economy. Going forward, we expect our efficiency ratio to remain in the mid 40s or lower for the remainder of the year.
We are on track to deliver by 2009 some $700 million of run rate cost savings from the restructuring program launched in May of 2007. We continue to expect 2008 operating expenses to be at least $200 million below our 2007 expenses.
Turning to Slide 6 and 7, I’ll touch briefly on credit performance and how it affected financial performance in the first quarter. Overall, credit metrics continue to reflect a weakening US economy and we see evidence of a cyclical downturn in all of our US businesses.
That said, and as you’ve already seen in our monthly managed credit statistics including March data which was included in our April 10 disclosure, charge-offs and delinquencies in the quarter were largely in line with the expectations we discussed in January. Despite credit performing as expected in the quarter, it’s clear that the macro-environment deteriorated pretty significantly, suggesting that this cyclical downturn may be deeper and longer than was anticipated in prior results.
Turning to Slide 7, therefore, we now assume that more significant credit headwinds will adversely impact us later this year and into next year. We added $310 million to our allowance for loan losses due to this worsening, bringing the total allowance to just under $3.3 billion.
While allowance is held only against reported loans on our balance sheet, we estimate that this level of allowance would be consistent with managed charge-offs of approximately $6.7 billion over the next 12 months ending March 31, 2009. In line with this expectation for credit worsening later in 2008, the coverage ratios of allowance to reported 30-day plus dollar delinquencies increased for the company as a whole and for our US lending businesses.
With this backdrop, let’s move on to discuss capital and liquidity. Even with rising levels of expected credit losses, Capital One continues to generate capital in excess of what is required to support balance sheet growth and our higher dividend pay out. As a result, our tangible common equity ratio increased from 5.83% to 6.03% during the first quarter which leaves us slightly above the high end of our long-term targeted range.
In late January, our Board approved the increase in the quarterly dividend from $0.027 to $0.375 per share. This increase in dividend demonstrates the Board’s confidence in the company’s ability to generate capital throughout the economic cycle.
The Board also authorized a $2 billion share repurchase program in the quarter but given current economic uncertainty we intend to wait before executing any stock buyback at least until the second half of this year. In the meantime we continue to expect that our TCE ratio will remain at the high end of or above our 5.5% to 6% target range for the remainder of 2008.
I’ll discuss liquidity and funding on Slide 9. The key to this quarter’s liquidity story was our deposit funding which, as is typically the case, serves as an important hedge against difficult wholesale markets as consumers and other investors move into bank deposits. We leveraged our multiple deposit channels to grow deposits by $4.9 billion in the quarter and now expect deposits to continue to comprise the majority of our incremental funding for the remainder of this year.
While capital markets are obviously stressed, the AAA credit card securitization market continues to attract liquidity and we have executed $3 billion of AAA credit card securitization funding so far this year. Although execution has been at spreads much wider than the record tight levels of a year ago, the sharp decline in benchmark rates has somewhat mitigated the wider credit spreads resulting in all-in funding costs that are still attractive.
Our liquidity philosophy is to prepare for sustained periods of stress in the capital markets, a mindset that has prepared us well for the current environment. It has resulted in our developing a substantial stock pile of $30 billion of readily available liquidity, an amount more than five times our anticipated level of capital markets funding during the next 12 months.
We also have sufficient conduit capacity and other securitization levers to satisfy our card securitization funding plan until the second half of 2009. We continue to focus on reducing our need to access the wholesale markets as evidenced by the move of our auto finance business to one of our national banks, providing that business access to deposit funding.
This legal entity move also significantly benefited our holding company liquidity as we now have well over $5 billion of cash at the holding company, a level sufficient to support parent obligations and our current common stock dividend payments for more than two years. Our balance sheet is very well-positioned to weather the current cyclical downturn.
Turning to Slide 10, I’ll conclude with a few comments on our new segment and sub-segment disclosures. We announced last November a realignment of our business units which resulted in a split of the previously constituted global financial services portfolio that had included both some US and overseas businesses.
Because our small business and installment loan businesses in the US, previously reported in GFS, have consistently followed the performance of our US consumer card business we have added them to our US card sub-segment which now includes all unsecured lending businesses in the U.S.
This change aligns our reporting to that of many of our peers and recognizes that for some time small business card receivables have been included in our Master Credit Card Trust or COMT. It also allows us to provide you with additional visibility into our international activity by breaking out our UK and Canadian operations together into a sub segment P&L. Hopefully you will find this additional disclosure useful.
We have provided the prior five quarters of results for the new segments and have also provided monthly credit statistics for the first quarter in our earnings release tables. Going forward, we will continue providing monthly-managed credit statistics for the card and auto lending sub segments.
However, we will no longer provide monthly credit metrics for our local banking segment. Given the very low loss rates in this largely commercial portfolio and the inherent intra-quarter volatility of charge-off timing, we feel that monthly information is not very useful and, in fact, could be misleading. Thus, we will return to the practice of providing local banking credit information only on a quarterly basis.
Before, I turn the call over to Rich, I’d like to note the increased first quarter profits, which appear in the Other category and you see on Slide 10. Aside from benefiting from the Visa IPO and other factors, it’s also worth remembering that the margin benefits I discussed earlier, which rose from more active balance sheet management show up in the Other category, which includes treasury results.
Like most other banks, Capital One operates an integrated treasury operation. We transfer price asset funding to the segments and in the case of the local banking segment, we transfer price deposit funding, as well.
Because assets and liabilities are transfer priced on a match duration basis, the results of the Capital One’s interest rate risk positioning are not reflected in the reported business segments. They are reported along with the results of other treasury activities such as securities gains and losses and adjustments to our IO strips in the Other category.
With that, I’ll turn the call over to Rich.
Richard D. Fairbank
I’ll discuss our US card, auto finance and local banking businesses over the next few slides. But before leaving Slide 10, let me make some brief comments on our international business, which is comprised of our credit card businesses in the UK and Canada.
The credit environment in the UK has remained stable for several quarters and our own credit performance has been stable to modestly improving for several quarters. However, we remain cautious about growth in the UK given the considerable economic uncertainty there.
Our Canadian credit card business continues to perform very well with stable credit performance and solid returns. Overall, net income for the international businesses increased significantly from the prior year quarter, as a result of the improvement in credit losses in the UK. Net income declined from the fourth quarter of 2007, which included a one-time gain from the sale of our Spanish business.
I’ll discuss our US card business on Slide 11. As Gary just told you, the US card business now includes our legacy US consumer card business plus our installment lending point-of-sale and small business card businesses. The newly added businesses consist of about $17 billion of somewhat lower loss, lower margin loans, as compared to the legacy US consumer card business. All of the comparisons to prior periods have been adjusted to reflect the composition of the new US card sub segment.
While, obviously impacted by significant credit headwinds our US card business continues to demonstrate its resilience. First quarter net income of $491 million declined 8% from the prior year quarter, as strong revenue growth and continuing expense reductions partially offset increased charge-offs and allowance build. Delinquencies and charge-offs increased significantly compared to the first quarter of 2007, but credit performance in the quarter was largely in line with the expectations we articulated in January.
As we have discussed previously, we made significant pricing and fee policy moves in the second and third quarters of 2007. While, these moves continue to generate significant revenue, they also caused our credit metrics to worsen earlier and to a greater degree than the industry during the second half of 2007.
We expected some of the negative credit impacts of our revenue moves to be temporary, as customers adjust to new pricing and terms. Curing of these temporary effects in the first quarter appears to be muting the negative impact of continued weakening and the broader economy. Because of these offsetting forces, delinquencies in the quarter reflected normal seasonal improvements, as compared to the fourth quarter of 2007.
While, we are on the subject of US card credit, I’d like to highlight the expected implementation of OCC minimum payment requirements, which we first discussed in our recent 10-K for 2007.
As part of our ongoing plan to streamline and simplify our regulatory relationships, we’ve converted Capital One bank to a national association. Going forward, the primary regulator of our credit card businesses will be the OCC. The OCC has specific policies governing credit card minimum payment rules, and we are planning a staged implementation of these requirements through 2008.
Currently, the minimum payment we request from our customers is relatively high compared to other issuers. Therefore, switching to OCC minimum payment requirements will not have much of an impact on our customers who are current on their accounts.
But because of the OCC minimum payment requirements are designed to eliminate negative amortization, implementing them is likely to accelerate charge-offs for some delinquent customers. We expect this change to increase overall US card delinquencies and losses modestly in late 2008 with further increases in 2009.
Our expectations are based on internal testing and directional indications of what competitors saw when they made this change. While I wanted to flag this change now, the new minimum payment policies will only be one factor in our US card credit card results.
Looking forward, we expect US card credit metrics to move in line with broad industry and economic trends for the remainder of 2008. We expect US card charge-off rate in the low 6% range for the next six months. It is likely that US card charge-off rate will be higher in the fourth quarter, as a result of several factors.
First, expected seasonal patterns would result in higher charge-off levels, all else equal. Second, we’ve observed significant weakening and economic indicators during the first quarter. The impact of economic weakening is likely to be more evident in our US card credit metrics later in the year. Finally, the initial impacts of the OCC minimum payment changes I just mentioned are also expected to begin in the fourth quarter.
In 2007, we took decisive actions to build revenues and improve our cost infrastructure, to strengthen our long-term competitive position and to manage our card business as effectively as possible as the credit cycle turned. As a result, our strong margins and expense improvements have been key drivers of resilience in the face of economic headwinds.
Revenue margin for the quarter was 16.4%, an increase of about 250 basis points from the first quarter of last year. On a sequential quarter basis, revenue margin declined from the fourth quarter 2007 peak of 17.4% as expected.
The decline in the quarter resulted mostly from customers adjusting to the new pricing and terms we implemented last year and from typical seasonal reductions in spending and interchange revenue. Another factor was the implementation of the final phases of our program of fee policy changes that began last year.
During the first quarter, we implemented planned adjustments to our fee policies such as more flexible and targeted fee waivers. We expect US card revenue margin to decline again next quarter, as a result of the, if you will, full quarter effects of these adjustments we made this quarter. That said we expect US current revenue margin to remain at very strong levels such that the full year revenue margin for 2008 will be higher than the full year revenue margin for 2007.
Non-interest expenses declined throughout 2007 and in the first quarter of 2008, as a result of focused cost management and efficiency actions, which were enabled by the systems conversion we completed last year.
I’ll close my discussion of US card by recapping the many actions we continued to take to manage the business through the cycle. As we always have, we continued to tightly manage credit lines and specifically design products for each part of the credit risk spectrum. We continue to increase collections and recovery intensity and to aggressively pursue process and efficiency improvements within the US card business and we’re pulling back further on loan growth as industry trends and economic indicators weaken.
Our marketing efforts are focused on selectively growing only those sub segments of the US card business that we believe to be the most resilient through cycle. As a result of our continuing actions and the longstanding focus on ensuring resilience to credit cycles, our US card business remains well-positioned to successfully navigate near-term challenges and to continue its success through the cycle.
Turning to Slide 12, I’ll discuss our auto finance business. The auto finance business posted a net loss of $82 million in the quarter, as we continued the significant pull back and repositioning of the business.
A pre-tax allowance build of approximately $160 million drove the loss in the quarter. The allowance build resulted from our view of the external environment and was not the result of any breakdowns in our credit policies. There were two important drivers of the allowance build.
First, our view of the overall consumer economic environment has materially worsened during the quarter, as Gary mentioned earlier. Second, auto resale values, as reflected in the Manheim Index, have fallen. We expect the declines to continue, which will increase the loss severities going forward.
As Gary showed earlier, our coverage ratio define as allowance as a percentage of 30 plus delinquencies, increased from 41% at the end of 2007 to 64% at the end of the first quarter. In light of the elevated loss performance of the existing loan portfolio and the current industry-wide environment, we took decisive containment actions at the end of 2007, as we discussed on the last earnings call.
In the first quarter, we’ve moved even further to retrench and reposition our auto finance business. We have significantly ramped down originations volume in the first quarter by continuing to pull out of the more risky and uncertain areas of both prime and subprime, and essentially moving to higher ground.
We have exited the riskiest 25% of subprime originations and we continue to focus on the uppermost part of the subprime risk spectrum. We’ve virtually exited the near prime space all together. This has resulted in a decline of loan originations to $2.4 billion in the first quarter, 33% lower than Q4 2007 and 26% lower than a year ago in Q1 2007.
The total auto portfolio shrank by approximately $0.5 billion versus the first quarter of 2007. The credit characteristics of the new originations continue to improve with FICO scores continuing to rise in both subprime and prime originations.
For example, the average FICO score of the prime business we are originating today is approximately 40 points higher than for prime originations a year ago and approximately 80 points higher than for prime originations two years ago.
Even as credit characteristics have improved, we have leveraged pricing opportunities in the market, as competitive supply has decreased. We have increased our investment and focus on collections and recoveries, increasing our recoveries intensities to better manage the current situation. We have decisively moved to reduce other operating expenses in the business.
Despite an overall reduction in managed loans our expense ratio stands at 2.17% for the first quarter, a 15 basis point improvement from the sequential quarter and a 63 basis point improvement from a year ago. We continue to take direct and strong action in the auto business.
We are further restricting our new originations to areas of increased stability and lower losses, while maintaining appropriate coverage in our bank footprint and our focus on our best dealer customers. This will accelerate a shrinking of our auto portfolio, as the existing portfolio runs off. We expect full year 2008 originations to be more than 40% below our 2007 originations and on a run rate basis we expect that originations will decline by more than 45% compared to the run rate in the fourth quarter of 2007.
At our expected originations run rate, the shrinkage of managed loan to balances will accelerate. The lower loan balances will of course have several effects on the optics of our auto business. For example, declining loan balances will reduce the denominator for calculations of metrics like charge-off rates, delinquency rates and operating expense as a percentage of loans. This will put upward pressure on these ratios, making them appear more negative than the actual trends in charge-off delinquency and operating expense dollars.
We’ve taken decisive actions to significantly pull back origination volumes, manage credit, increase pricing and reduce operating expenses. As a result, we believe that the loans we’re originating today will meet our expectation for risk adjusted returns and resilience through the cycle.
We believe our actions will result in a substantially smaller but more stable auto business. We will be monitoring the business results closely over the next few quarters, especially the performance of the new originations, and we’ll be prepared to take further appropriate actions based on the results.
I’ll discuss our local banking business on Slide 13. We completed the successful integration of our local banking business onto a single deposit platform on March 12. We also launched the new Capital One bank brand in metro New York. I spent considerable time with our bank leadership team and our associates as they carefully planned and executed a sure-footed integration and I’ve seen firsthand their dedication to serving our customers.
This is the last major milestone in our banking integration efforts and I want to personally congratulate and thank all of the associates who made the integration a success. In the midst of executing a major integration, results in the local banking business remained steady and solid.
On a sequential quarter basis, loans and deposits grew modestly and profits declined as the economy weakened during the quarter. Net income declined significantly compared to the first quarter of 2007, as a result of several factors. Provision expense increased from the year ago quarter consistent with the credit trends shown on the graph on the right of Slide 13.
Just as international lending businesses were coming off a period of historically low losses, we experienced rising losses in isolated parts of the commercial lending portfolio due to the softening economy. But our exposures in these areas are quite small. For example, while we saw some weakness in the credit performance of New Jersey construction lending, these loans comprised less than 1% of the commercial portfolio.
Overall, our commercial portfolio continues to perform very well. Losses also increased in unsecured consumer lending, primarily due to higher losses on loans in Texas. In response, we’ve adjusted lending policy and pricing in Texas. At 31 basis points, the charge-off rate at our local banking portfolio is up significantly from the prior year quarter but remains well within our expectations and at a very low level.
In addition to provision expense, several other factors contributed to the decline in first quarter net income. Operating expenses were higher partly due to the successful integration and conversion efforts in the quarter.
Non-interest income was lower as Capital One home loan originations declined significantly from the first quarter of 2007 as expected in the current mortgage environment and deposit margins were down modestly as a result of deposit mix shifting toward higher cost time deposits.
In the current Capital Markets environment, we increased our marketing efforts and our direct banking channel to increase the company’s overall mix of deposit funding. For local banking the integrated deposit platform and the new brands are the foundation that will help us develop and execute new growth strategies and continue the tradition of providing great customer service to our banking customers across the franchise.
Slide 14 summarizes our updated outlook for 2008. For the last two quarters we provided guidance on key operating metrics. We’ve updated our expectations based on first quarter results and trends we observe in our own portfolio and the broader economy. Specifically, in 2008 we expect flat loan growth and double-digit deposit growth.
In the current economic and capital markets environment we will remain cautious on loan growth and bullish on deposit growth. Revenue growth should be in the low to mid single digits as deposited margin trends and US card moderate somewhat in 2008.
Our efficiency ratio should be in the mid 40s or lower with overall operating expenses coming in at least $200 million below their 2007 level. From a credit standpoint we expect continued pressure as the economy continues to weaken and as Gary mentioned earlier, we expect our TCE ratio to be at the high-end or above our 5.5% to 6% target.
In the first quarter of 2008, challenges and uncertainty in the economy, credit markets and capital markets increased and our expectations for credit reflect this. For all of the other operating metrics, our expectations remain consistent or modestly better as we manage the company to navigate the near-term challenges.
I’ll conclude tonight on Slide 17. In many ways we’ve been preparing for an economic downturn for years. The businesses we’ve chosen, the conservatism we’ve embedded into all our underwriting decisions, the fortification of our funding and liquidity and our move to transform the company from monoline to bank have all put us in a very strong position to successfully manage the company through today’s near-term challenges.
We have several key areas of strength that put us in a strong position. Our diversified bank balance sheet provides us with ample liquidity and a diverse set of funding options. It also enables balance sheet management strategies that generate returns in and of themselves. Our management actions have generated revenue and reduced operating cost to help offset significant increases in credit costs.
As a result, our businesses continue to generate profits in capital. We are also in a strong position because we don’t have many of the significant exposures and risks facing other banks. We don’t have the investments that are creating large and unpredictable losses and significant capital issues for many banks. We have no CDOs or SIVs, and no exposure to leverage loans and our remaining exposure to poorly performing Alt-A home equity loans is less than 1% of managed loans.
But being well positioned is never enough. We are acting decisively and aggressively to manage the company for the benefit of shareholders in the face of cyclical economic headwinds. We’ve been through cycles before and we are tapping that experience to inform and shape our actions today.
In our auto finance business, our actions over the last two quarters amount to a significant retrenching and repositioning of the business. We are cutting the origination run rate by almost half and shrinking the overall portfolio and we are moving to the highest ground with respect to credit risk and pricing. We continually assess the returns and resilience of our lending businesses and we remain focused on the parts of each of our businesses that we believe to be the most resilient to economic stress.
For example we pulled back to the core credit card business in the UK as we stopped originating personal loans and home equity loans in that market. In the US we stopped originating direct channel non-card small business loans and we’ve exited portions of the prime installment lending and point-of-sale market.
We’ve made the difficult but bold move of shutting down the GreenPoint Mortgage origination business, putting substantial mortgage related risks behind us. We moved to build revenue in our US card business to strengthen its resilience ahead of the economic headwinds.
We’ve made great progress on our efforts to reduce our cost structure and improve operating efficiency to enhance our long-term competitive position and build resilience to rising credit costs and aided by our banking transformation we built a strong and diversified balance sheet with rock solid liquidity and capital positions.
As our businesses continue to generate capital, we’ve raised our dividend and we are continuing to build our capital ratio to the high-end of our target range. Like all banks, we face significant cyclical economic and market headwinds but when I look at how we are positioned and the actions we are taking, I remain confident that we will be able to navigate the near-term challenges and put our company in a position to deliver strong shareholder value through the cycle.
Now Gary and I will answer your questions.
(Operator Instructions) We’ll go first to Bob Napoli - Piper Jaffray.
Bob Napoli - Piper Jaffray
I would like a little more color if I could on the worsening in the credit outlook by product if you give a little more? Are you seeing, is it more weighted to the auto business? Is it equally waited against all the products? Where, the significant worsening that you are seeing, a little more direct color by product.
Richard D. Fairbank
Bob, the allowance build was really driven a lot more by less about what’s cooking in the oven in some sense and really what appears to be cooking if will you in the economy. So that’s the most important point I want to say. If we take our businesses, probably the one that has been the most benign has been the US credit card business.
And there our only caution is we might come in a little bit more benign than some of the competitors who didn’t have some of the offsetting effects relative to fee and pricing changes. So you can see our caution there is not to get, not to get carried away by some of the nice seasonal benign characteristics that we see in our U.S. card business.
As a general observation we believe that the, there is probably a reason though that the card business I think performs a little better at a time like this and things like installment loans which, by the way, are performing a notch, a half notch worse right now. One of our core principles is we think about resiliencies, we think consumers have a bias to pay the loans that they have that provide enduring value, credit card represents continuing open to buy and installment loan is pretty much a one off.
That may explain why there’s just a bit more worsening in the US installment loan business but this is still in the category of relatively moderate stuff. The place that we have had the most concerns in terms of what is cooking in the oven has been in the auto business, Bob, not because the actual underwriting is performing worse than we had expected.
It’s really the pretty striking effects going on with used car pricing and if you actually go back to the last recession, used car pricing went up actually during the recession and it’s clearly going the other way this time. Probably the biggest reason for that is the impact of oil prices that are hitting particularly the larger vehicles.
So, Bob, we actually feel overall quite good about the, in the aggregate about the performance of the loans on our portfolio, particularly in terms of just everything we read in the paper every day, but I just thing be it’s very prudent that we incorporate the very clear signals that we see occurring in the economy.
Bob Napoli - Piper Jaffray
On the bank is a pretty significant drop in the profitability run rate of the bank from the fourth quarter to the first quarter, I just wondered would you view that as a run rate in this environment $75 million per quarter?
Richard D. Fairbank
No, Bob, $75 million per quarter. There are a few factors that drove the bank. Certainly there has been some worsening of credit. It’s on a fairly small base. Again we feel overall very good about bank credit. There’s been a little softness in the consumer loan portfolio in the Texas area.
That’s taken a little bit of a toll on the allowance build. That’s more of an allowance build than an ongoing P&L issue. The operating costs are elevated due to the conversion, although you won’t see it immediately come down in the next quarter because there’s some post conversion still activities going on and a step up, significant step up with respect to marketing.
So I wouldn’t say it represents the running rate over time. I think more it’s just a window into some of the pressures at the moment, moderate pressures on the bank segment.
We’ll take our next question from Bruce Harting - Lehman Brothers.
Bruce Harting - Lehman Brothers
Adjusting back for the old segments, do you have the number on what the credit charge-off number would have been? What’s the UK strategy from here and can you size that for us? And then finally, in a more normalized credit environment, what Gary, should we be benchmarking in terms of ROE or RO tangible E?
Richard D. Fairbank
Well, with respect to the new and old segments, you have all those numbers already, Bruce, because we published the monthly statistics through the course of the first quarter on the old basis and now we are giving you the new basis. So you should also be able to give yourself a sense of how those two interact and you’ll be able to adjust any forecasts you have for these new segments.
Gary L. Perlin
Bruce, was your second question, did I hear you say the UK strategy? I am going to assume your question was the UK strategy. Basically the UK strategy is a microcosm of our whole strategy these days in that we are trying to be very cautious. So here the UK has seen a pretty significant moderation in terms of credit risk particularly if you adjust for things like debt sales, it has been significant.
It’s not something to declare victory about and we obviously still have concerns about the UK economy and, of course, we’ve seen what the central bank has been doing there with respect to cutting rates.
So the UK is very similar to what the way we are looking at the credit card business in the US which is to just make sure what we are booking is healthy and resilient and to make sure operating costs and the economics of the business are as strong as possible at a time like this and to be on the look out for those inflexion points when it’s clear that you have a combination of clear, clear indications internally that some of the worse credit is behind us.
And also indications externally that the both that the economy is going to be strong and that we are going to have positive as opposed to negative selection with respect to our applicants.
We’ll go next to Craig Maurer - Calyon Capital.
Craig Maurer - Calyon Capital
Has your asset liability sensitivity changed substantially since you reported it in your 10-K? And, secondly, compared to your expectations how has traffic been in the New York branches since you have gone through your conversion?
Gary L. Perlin
Craig I will take that first question. No, the sensitivity has not changed materially since the time of the K. For those who might not have focused on it, we did indicate in the K that we have a change in our overall risk limits, as I described a few moments ago. We have much more flexibility.
Many more indeterminate maturity deposits which allow to us feel more comfortable with a larger limit on risk so we’ve gone from a limit of 3% of our net interest income over the course of the next 12 months in response to a 200 basis points shock in rates up to a 5% limit. We are well within that limit but we are now feeling like we can operate more effectively within the limits that we have because of the range of funding flexibility that we have.
We had set ourselves up in a liability sensitive way before the beginning of the first quarter and that’s why we benefited from the change in the interest rate environment over the course of the first quarter and that sensitivity remains more or less as you saw it in the K.
Richard D. Fairbank
Craig, with respect to traffic in the branches, I just want to make an overall observation first of all as I learned over time in shopping various branches there is a huge difference between one branch and the next one, in any bank really, in terms of the amount of activity that you observe in the bank branch and the biggest driver of that is whether it tends to be a commercially oriented or a consumer oriented bank.
General principle, the commercial oriented branches tend to have very low traffic. The consumer wants them to have high traffic. New York City has more of a lean on the commercial side. They tend to be less heavily frequented, so just keep that one in mind.
We’re actually struck that in our branches through this conversion even though we consciously pulled back marketing in the footprint to enable the conversion to happen, we actually have deposits up and attrition rates are actually lower than North Fork’s running rate, say, a year ago. And we’ve actually seen new consumer checking account openings in the branches increase about 20% since the brand change despite the fact we really have not stepped up marketing yet.
Our next question comes from Rick Shane - Jefferies and Company.
Rick Shane - Jefferies and Company
On Page 14 you make the comment about the dividend that you expect $0.375 dividend to continue. Last quarter the commentary was that the dividend policy was stated as approximately 25% of net income after taxes. Has the policy changed or should we assume that it’s the same because that was a proxy for guidance?
Gary L. Perlin
If you go back to actually last September when we tried to give people an indication of what dividend level to expect at the beginning of ‘08 after we finished our $3 billion share repurchase program, what we did was to give you a sense of a percent of expected net income, so you could size the dividend that we would be moving to in this new environment.
We also indicated that we expected that that dividend would be fixed at a dollar level and it was a pretty strong commitment on our part, which I think we have reiterated here. But I think you should believe and look at our dividend level as being $0.375 per quarter and obviously our Board will be reviewing that over time. But I think it’s best to think of it as a fixed dollar amount.
Rick Shane - Jefferies and Company
So we can no longer necessarily relate that to the 25% payout ratio.
Gary L. Perlin
Rick Shane - Jefferies and Company
How much AAA capacity, you said you issued $3 billion this quarter, how much AAA capacity do you have remaining from the already issued sub notes?
Gary L. Perlin
Well, I think you really want to think about this in a couple of different ways, Rick, because to a large extent we can go pretty much through the second half of 2009 with the funding tools that we already have and that would mean staying out of the public markets by limiting our issuance into the conduit market, and utilizing the stockpile that we have.
We actually have not been issuing the subordinated tranches of late, although we had quite a lot stockpiled, certainly enough to take us through this year with AAA public issues. But, frankly, given where the levels are at, most credit card issuers are actually holding onto those subordinated tranches because they make a whole lot more sense getting funded with deposits than they do in the public market.
So I would tend to think of our funding capacity on an overall basis rather than just how much can be in AAA and how much in subordinated, and I would keep in your mind at least from this point forward pretty much through 2009, and we’ll update you every quarter.
We’ll go next to Eric Wasserstrom - UBS.
Eric Wasserstrom - UBS
Can you remind us how much goodwill you have on your balance sheet that relates to your auto acquisitions? Does the repositioning that you’ve undertaken and the lack of evident profitability for some period of time as you reposition creating a risk to that?
Rick, with respect to your comments about increasing the allowance based largely on the economic outlook, it was my understanding that regulators and auditors relied on some other change rather than an economic outlook but rather something in terms of roll rate or delinquency pipeline or something that would merit that change, can you just elaborate on that?
Gary L. Perlin
The auto business carried just over $1.4 billion worth of goodwill as of December 31. You can find that in the 10-K. And I think you have to remember that in terms of future goodwill assessments, goodwill is a forward-looking view of the business.
And I believe what Rich has described in terms of how we’re managing our auto business is in response to where we are in the cycle, and it certainly does not necessarily tell us what the long-term profitability outlook for that business is. So we will monitor and assess the goodwill annually unless conditions suggest otherwise. But at this point it’s the $1.43 billion you saw in the 10-K.
And, Eric, your other question was about whether or not the allowance was coming from the roll rate analysis or from the outlook. And clearly this is a point in time, and there are these times in various economic cycles where recent performance may or may not be as good a predictor of the future simply because we are in either uncharted territory in terms of economic conditions or we’re clearly on a trend that we seem to be on right now in terms of a deteriorating market.
So when we take a look at the first six months of expected losses, particularly in the card business, obviously roll rate analysis is extremely helpful to grounding what that allowance estimate is because we can see what’s going on through the buckets. Obviously, there are some uncertainties around recoveries. There are some uncertainties around bankruptcies and so forth. But by and large we get a pretty good picture of the first six months.
In terms of the months 7 to 12, obviously, we are talking about accounts that might go to charge-off in that time period, which today are current. And so there we have to rely a whole lot more on environmental factors which, as Rich described, with the steady decline in employment with some of the pressure continuing on housing prices, running that through our experience and our models and looking at the different geographies and so forth.
That’s a little bit more of an art but certainly is going to be more of an outlook-based view of losses than we have for the first six months. So we have to put together that roll rate based analysis for the first half of the year, more at the outlook for the second, and certainly right now it appears that caution is the watch word, particularly as we look out beyond six months.
Your next question comes from Chris Brendler - Stifel Nicolaus.
Chris Brendler - Stifel Nicolaus
Along the same line on the credit outlook, can you talk at all about the differences between you talked last quarter about certain geographies showing weakness and that was if you back out of those geographies, everything looks fine.
What’s changed along that front? Are you seeing any change in the mortgage customers at this point? Any changes in the segments, prime versus super prime versus subprime.
I’m really focusing on the card business right now as well as vintages. Is it the ‘06 and ‘07 vintages that are performing worse? If you could just dimension your credit outlook and your credit performance versus those four metrics, geography, mortgage exposure, vintage and segment, that would be helpful.
Richard D. Fairbank
Certainly until, through the middle of ‘07 the “normalization” that we were seeing in card charge-offs was very, very predominantly in the 25% of the country that we tend to call the HPA, boom/bust markets. Parenthetically most of the abnormalization that preceded it was also in those markets.
In midyear we saw this effect as we looked at delinquencies in roll rates, we saw an effect nationally, and I’ll come back to that in a second. But I do want to say that there still is a fairly sizeable delta between the boom/bust markets, in terms of all the credit metrics, versus the 75% rest of the country.
But I do want to caution that I think that our metrics moved nationally more than the truly reflecting what was going on economically at the time because this was the impact of our pricing and fee policy changes that we put in around that time. So as a proxy for that effect though we also have looked at our other businesses and we see generally the same principles that it’s mostly been boom and bust a lot.
But I do want to say, Chris, across all of our consumer lending businesses we do see a national effect. There is just a fairly sizeable delta between the boom and bust markets and the rest of the country.
The next question you asked was what about our mortgage customers who are highly delinquent. We gave out a statistics over the past year saying that pretty strikingly to us because we’d actually not looked at this statistic before. The percentage, if we look at all of our credit card customers who are 90 or more days delinquent on their mortgages, what is their status with respect to credit cards? And we found the striking finding that two-thirds of them were still current with respect to their credit cards.
Chris, our latest read of this hot off the presses is 66%. So this is pretty steady. Now a lot of people grabbed this and said, well, the payment hierarchies have really changed with respect to consumers. We have had a chance to go back for most of this decade and look at this number. And it’s actually been around the 60s, the low to higher part of the 60s for the whole decade.
So I think it shows less about a change in how consumers behave and maybe more in many ways, I think, what really happens when consumers bail out on their mortgage pretty much it’s a one variable model and it relates to the fact that it relates to the value of that home.
So you asked about prime and super prime. Generally, prime and super prime are both going through the same effects as subprime. Subprime has had a bigger effect with respect to some of the fee changes, obviously because it’s a more fee intensive segment. On a percentage basis, actually, super prime has degraded more than the rest of the portfolio. But still we’re talking about off of a smaller base.
And vintages, in all of our businesses across Capital One, all of our consumer businesses, as a general statement, there has been recent vintages tend to perform worse. The last couple of years tend to perform worse relative to expectations than prior vintages. However, this effect has been relatively modest really in our credit card business.
So there is that effect, but when I look at the strategy changes we’re doing, the policy changes, there is tightening, but fundamentally the assumptions that we made going into this downturn and the way that we’ve done our underwriting is, I think, really being validated as we really go through it.
Your next question comes from Bob Hughes - KBW.
Bob Hughes - KBW
Relating to GreenPoint, Gary, if you could tell us what the level of the rapid warranty reserve was at quarter end. What the trends are you’re seeing there and why you felt the need to add such a significant amount to that reserve? And then what do you think the tail might be from discontinued operations?
And the second question relates to the changing segments. Previously, you suggested card losses in the first half of ‘08 would be in the mid-6s and I’m wondering if you could tell us without the change in reporting what that guidance might have looked like today.
Gary L. Perlin
With respect to the first question on the rep and warranty reserve, the current balance after the build of $104 million in the quarter is $142 million. All of that, of course, shows up in discontinued operations and the significant build was really driven by both an increase in incidence of claims and severity.
So on the incidence side with the worsening credit environment buyers have been increasing the level of claims back to us. Most of those are now well past the early payment default period. And so those claims when received relate largely to underwriting or alleged incidence of fraud. And there was a significant increase in claims and, as a result, we felt it prudent to increase the size of the reserve.
On the severity side, we’ve also had as most people have had an adjustment downward in the valuation of the loans that we actually have repurchased. We have approximately $113 million of repurchased loans held at the end of the quarter and putting a lower cost to market adjustments on that also flowed through into the reserve.
In terms of the tail, Bob, it’s really hard to say because we are in uncharted territories in the mortgage space. Again, having discontinued our originations now last summer we effectively are past the early payment default stage at which the repurchase claims go through very quickly. We’re now to the point where claims will have to be reviewed on an individual case-by-case basis and we’re obviously making sure to do that work.
So certainly we believe we’ve got an adequate allowance at this point for the rep and warranty risk, but I can’t really speak to what might happen in terms of future incidence or severity other than saying that it will have to be past EPDs and, therefore, into claims of fraud or poor underwriting.
As far as the new segments versus the old segments, Bob, again not to be too simplistic about it but we’ve given you quite a lot of history where you can compare the two. And the old segment guidance we had given you was charge-off rates probably in the mid-6s. I think if you translated that into the new card segment that would be more like the low-6s.
Hopefully we’ve given you all the information you need to be able to back out and figure out how to look at it. Going forward we think that given that installment loans and small business card and so forth really do behave so much like other unsecured credit given that they’re managed by many of the same people on many of the same platforms. We think over time you’ll find this to be more useful.
Your next question comes from Scott Valentin - FBR Capital Markets.
Scott Valentin - FBR Capital Markets
Earlier you mentioned the downturn in the economy becoming more severe. Can you provide some color maybe where you were earlier in the year in terms of unemployment forecast or GDP forecast to where you are today to give a sense of how much degradation in the economy you’re expecting?
Gary L. Perlin
Scott, I think it’s probably the question we get most often and that we are least able to answer is to absolutely correlate our performance to one specific metric as where it stands. I think the easiest way to think about it is a quarter ago as we were reporting fourth quarter earnings and building an allowance we had just seen really the first tick up in unemployment.
We had not yet seen job losses, which we have now seen for the last three months. We saw unemployment claims levels in the mid $300,000 range three months ago. We’re now obviously much more towards the $400,000 range. So I think what we’re trying to do is calibrate the degree of degradation in the economy and what that might mean.
And then, decide how much we might want to translate that into estimated losses into the future. So what we’re really trying to do is calibrate the degree of degradation to the degree of expected losses in the future. If I could absolutely tie those for you to a specific metric, I would, but unfortunately, that’s just beyond my capacity.
Scott Valentin - FBR Capital Markets
On the stimulus package people are trying to quantify that as well. Do you expect any material impact on credit quality from stimulus package and I understand it is hard to quantify. Do you have any data from the last stimulus package, back it was in 2003?
Gary L. Perlin
No. Scott, we have not, again, done a specific forecast on that but I think if you take a look at the consensus of what economists are saying. Take a look at various surveys; take a look at the web sites. I think we’re not going to have particular insight beyond that.
I think the general view, of course, is that the stimulus package was very much needed. The subsequent degradation in what we’re seeing in the economy suggests that the stimulus package, while it may help, will obviously not turn the trends around in and of themselves.
Richard D. Fairbank
Scott, with respect to the macroeconomic assumptions, when we have looked historically at Capital One, as I often say, studying statistically two humps on a camel, for all of its limitations, there clearly is the strongest correlation is between unemployment and the credit statistics and consumer lending.
We of course have a situation right now where the employment relative to a lot of other things has still been relatively benign and there’s clearly worsening going on with respect to consumer lending metrics. We’re trying to be as quantitative and rigorous as we can so we’re not just pulling numbers out of the air.
What has been very productive is to go back under the belief that each economy is different is to actually use this economy and try to model it as it unfolds. And as we do that and look at things like unemployment and HPA and every metric we can find differentially across the United States, obviously the one that really jumps out is the HPA effect.
So a strong thing that we have done in our own modeling is to look ahead at consensus expectations with respect to HPA by geographical area and try to use that as an important component of modeling, and then try to overlay some unemployment effects inherent in consensus views as we look at that. So as Gary said, it’s not science, it’s probably poor man’s art but it’s the best we have.
Your next question comes from Moshe Orenbuch - Credit Suisse.
Moshe Orenbuch - Credit Suisse
Could you comment on your expect reserving throughout the year given that you added $300 million to the reserve in the quarter with a higher credit loss expectation. What would happen if that credit loss expectation were realized? And then, could you specifically talk a little bit about the auto reserve because I would assume with the drop in receivables throughout the year that some of that could be recovered?
Gary L. Perlin
The simple answer on future level of allowance build and reserving is really going to be driven by how closely our estimates for the first six months really track to reality and then what’s happening on the economy will inform what we believe for the back six months of the 12-month period over which we need to reserve. So as Rich and I think have been trying to convey, we believe we’ve done as good a job as one can, to try and take into account existing credit data to build the model for the first six months.
And we’ve taken pretty much the current trend in the economy and roll that forward as to estimating the next six months, but we’re going to have to refresh that and obviously we will try and give you a sense of what dollars of charge-off really correspond to the allowance level we’re building.
Because frankly, your view could easily be as good as ours and we want to make sure that you’re able to benchmark whether or not our level of reserving is appropriate for the level of charge-offs you expect versus the level that we expect. But I think we believe that we’re appropriately allowed right now and as we see change in the economy we’ll obviously respond accordingly.
And as far as the auto business goes, certainly if we continue to see a decline in the origination volume that will lead to a decline in the overall outstandings. And the level of outstandings is a critical piece to the calculation of the allowance and that would in and of itself, if there’s no degradation in the external environment or expected losses, that would lead to an allowance release over time.
Moshe Orenbuch - Credit Suisse
If charge-offs in the economy performed exactly as you currently anticipate, does that mean the reserve would be stable?
Gary L. Perlin
Well, it would if at the time, let’s roll it forward, Moshe. Six months from now we were exactly right, the level of the allowance six months from now will depend on the outlook at that time for the next 12 months.
So again under normal circumstances it would be a lot easier for me to say, yes, we’ve got it right. Then we probably reserved right but as long as the economy is in a pretty clear downtrend until we know how low it goes and how long it lasts, it’s really going to be a refresh of the 12-month outlook in the future that does it.
Our next question comes from Steven Wharton – JP Morgan.
Steven Wharton – JP Morgan
It strikes me as coincidental that you had, what, $250 million in net debt gain and in the Visa gain, pre-tax gains this quarter and then you increased your allowance by $310 and then I know you had that $100 million thing for GreenPoint.
And then you’re telling me that basically what’s cooking in the oven is basically in line with your plans but yet the macro environment is worse. So it seems like to me you use the gain to build the reserve, which I have no problems with, but maybe that’s a cynical view obviously.
But I’m just wondering, is there any way you can tell us what portion of your reserve is so unallocated so to speak, or like what portion of the reserve on a percentage basis would represent like macro uncertainty versus maybe what it was a quarter ago just to give me more color?
Gary L. Perlin
Let me just really quickly for you, Steve, first of all respond to the last part of your question by saying that the level of our allowance that relates to “other factors” which is effectively things beyond what we see in our roll rates is about between 5% and 7.5% of the overall allowance.
So just to dimension that for you, let me just be clear and simple. The calculation of the allowance is based on the loss outlook, and if you will recall, when we told you what our allowance was at year-end we said that it assumed a 12-month forward loss outlook of about $5.9 billion and now that loss outlook is estimated at around $6.7 billion for the next 12 months.
Obviously that is a big swing. We adjust that for things like, how much of that is going to be in our securitized book versus our non-securitized book, and that’s how you end up with a precise allowance calculation, as I just described of this $310 million of allowance build.
I will say, and I think Rich and I were both pretty forthcoming on the last call, that there was quite a lot of noise in our credit data through the fourth quarter of 2007 because of some of the impacts of the fee in pricing changes we made and I think we now feel like we’ve got a better view of exactly what’s happening, as a result of the economy as opposed to things that may be happening in our own portfolio. And so that allowed us to get to a pretty precise calculation of the allowance and that’s how we get there.
In terms of the some of the potential income offsets, the proceeds from the Visa IPO and the release of the legal reserve associated with it are what they are.
With respect to some of the benefits on the balance sheet management, I’m hoping that there is at least some loose negative correlation between what happens in credit as the economy worsens and our ability to generate more returns out of our balance sheet through the management of our interest rate exposure. Obviously, not a one-to-one correlation but I think that would not to me seem coincidental. They are both reflecting the same economic and interest rate environment.
So you’re seeing the best view of the future, as we can give it to you with as much visibility as we can provide.
Your next question comes from Brian Foran - Goldman Sachs.
Brian Foran - Goldman Sachs
Can you clarify the operating expense guidance and specifically Visa alone drove a $230 million decline 4Q to 1Q, so is the guidance for $230 million of decline from Visa plus another $200 million decline from the expense space?
Gary L. Perlin
First of all, what you need to remember is that of the $200 million benefit that we had from the Visa IPO, only about $90 million of that was a benefit to our operating expense line because that was the reverse of the legal reserve we had posted at the end of the fourth quarter. The balance of it, which was just the returns for the redemption of shares, showed up in non-interest income.
So and yes, there was a flip from the fourth quarter to the first, which would be about $180 million. When we gave you the estimate of $200 million of OpEx reduction at the time of the fourth quarter call what we indicated was that we were baking into that the presumption that some of our collections and recoveries expenses would go up with the degrading credit environment and we thought that would eat up some of the “benefit” that would come from the reversal of this legal charge.
When you hear what we’re saying about our overall outlook for credit I think it would only be prudent to assume that some expenses will result in areas of collection and recovery, for example, to try and manage through that.
So the guidance is, what it says which is minimum of $200 million reduction in OpEx from 2007 to 2008 without making lots of adjustments. As we go through the year and we are able to put a finer point on that for you we certainly will.
And that was our final question today.
Thanks to all of you for joining us on this conference call today. And thank you for your continuing interest in Capital One. The Investor Relations staff will be here this evening to answer any questions you may have. Have a great evening.
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