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

CIT Group (NYSE:CIT)

Q3 2012 Earnings Call

October 23, 2012 8:00 am ET

Executives

Kenneth A. Brause - Executive Vice President of Investor Relations

John A. Thain - Chairman and Chief Executive Officer

Scott T. Parker - Chief Financial Officer, Chief Accounting Officer and Executive Vice President

Analysts

Christopher Brendler - Stifel, Nicolaus & Co., Inc., Research Division

Mark C. DeVries - Barclays Capital, Research Division

Bradley G. Ball - Evercore Partners Inc., Research Division

Moshe Orenbuch - Crédit Suisse AG, Research Division

Henry J. Coffey - Sterne Agee & Leach Inc., Research Division

Christoph M. Kotowski - Oppenheimer & Co. Inc., Research Division

Bill Carcache - Nomura Securities Co. Ltd., Research Division

Sameer Gokhale - Janney Montgomery Scott LLC, Research Division

David S. Hochstim - The Buckingham Research Group Incorporated

Michael Turner - Compass Point Research & Trading, LLC, Research Division

Operator

Good morning, and welcome to CIT's Third Quarter 2012 Earnings Conference Call. My name is Chanel, and I will be your operator for today. [Operator Instructions] As a reminder, this conference call is being recorded.

I would now like to turn the call over to Ken Brause, Director of Investor Relations. Please proceed, sir.

Kenneth A. Brause

Thank you, Chanel, and good morning, and welcome to CIT's third quarter 2012 earnings conference call. Our call today is hosted by John Thain, our Chairman and CEO; and Scott Parker, our CFO. After their prepared remarks, we will have a question-and-answer session. [Operator Instructions] We will do our best to answer as many questions as possible in the time we have this morning.

Elements of this call are forward-looking in nature and may involve risks, uncertainties and contingencies that may cause actual results to differ materially from those anticipated. Any forward-looking statements relate only to the time and date of this call. We disclaim any duty to update these statements based on new information, future events or otherwise. For information about risk factors relating to the business, please refer to our 2011 Form 10-K that was filed with the SEC in February.

Any references to non-GAAP financial measures are meant to provide meaningful insight and are reconciled with GAAP in the press release. For more information on CIT, please visit the Investor Relations section of our website at www.cit.com.

I'd now like turn the call over to John Thain.

John A. Thain

Thank you, Ken. Good morning, everyone, and thank you all for joining our third quarter earnings call. This quarter, we reached several strategic milestones. Most significantly, we completed the refinancing or repayment of all $31 billion of debt that was originally issued in the restructuring.

We also issued $4 billion of new debt. That debt had around a 4% cost and around a 6-year weighted average life. And very importantly, we celebrated the 1-year anniversary of our Internet Bank, and our Internet deposits as of today are just under $4 billion. So in a little over a year, we raised just under $4 billion of Internet deposits. Bank deposits, overall, now account for 28% of our overall funding mix. CIT Bank exceeded $11 billion of assets at the end of the quarter and it is now funding 96% of our U.S. new originations.

Our commercial assets in the quarter grew for the fourth consecutive quarter and also for the fourth consecutive quarter, we raised over $2 billion of funded volume, so continued growth on the commercial asset side. Our credit metrics remain strong and as we reported, we generated pretax earnings of $170 million before the debt redemption expenses. Our economic finance margin was stable and we are seeing some areas of pricing pressure, which Scott will talk about in his comments.

Our view of the U.S. economy is that it continues to grow but it's growing slowly. And we are seeing slowing in growth in other parts of the world, particularly Europe. We saw a slowdown in Brazil and we are seeing some slowdown in China. We also did see, in some of our businesses, a seasonal effect in the month of August being somewhat slower.

In our Corporate Finance business, we had the sixth consecutive quarter of over $1 billion of committed volume. Our portfolio in Corporate Finance continues to grow, and our Equipment Finance business and our Commercial Real Estate businesses are both doing well. In our Trade Finance business, our factoring volume was up sequentially but it's due to seasonal factors. We did see some weakness in the apparel sector.

In the Transportation businesses, we continued to see strong utilization in our commercial air and in our rail fleet. Our commercial aircraft were 99% utilized and our railcars were 98% utilized. We also put to work over 1,700 new railcars which were delivered, and almost all of those railcars are in CIT Bank.

In our Vendor Finance business, our assets were up 3% sequentially, 7% from a year ago. And in terms of financial condition, our capital remains very strong, 17.5% total capital. We remain very liquid with over $7 billion of cash. On the written agreement, we continue to wait for a response from the Fed.

In terms of our priorities going forward for the rest of this year and into 2013, we will focus on growing our earning assets; we will focus on managing our expenses, which Scott will talk about more; and we'll focus on growing our bank, CIT Bank, both on the asset side and on the deposit side.

And with that, I'll turn it over to Scott.

Scott T. Parker

Thank you, John, and good morning, everyone. As John noted, we achieved several key milestones that are contributing to our operating momentum. Core economic margin continues to improve towards our target range, as funding costs declined with the elimination of the high-cost debt and more assets being funded with deposits.

Credit metrics remain stable and near cyclical lows and we have ample reserves, more than 2% on commercial assets. And in spite of the slowing economy, our commercial portfolio grew 10% from a year ago.

We have made good progress in many areas. Our franchises are strong. However, macro challenges such as the low interest rate environment, excess market liquidity and slowing global growth are creating headwinds. As a result, it may take longer to achieve our targets asset levels. Therefore, we have increased our focus on operating expenses and finding more opportunities to generate fee income.

Turning to the quarter. As John mentioned, we recorded a $305 million GAAP loss that, again, was driven by the accelerated FSA interest expense and other debt-related charges. Excluding these charges, pretax earnings were $170 million, down from $245 million in the second quarter. The decrease came as lower funding and credit costs were more than offset by lower net FSA accretion benefit, fewer asset sales and less interest recoveries and yield-related fees.

Total finance and Leasing Assets were up for the first time since December 2009. The commercial portfolio grew $600 million during the quarter to almost $30 billion, up 10% from a year ago. All of our commercial segments had portfolio growth as $2.2 billion of funded volume, which included only about $160 million of scheduled aircraft deliveries, outpaced collections, depreciation and asset sales.

Our economic margin, which includes FSA, was 297 basis points, relatively flat to the prior quarter but nearly double a year ago. Our core margin, which excludes the benefit from suspended depreciation and interest recovery and other related fees improved to about 260 basis points. And we expect to see an additional 40-basis-point improvement in the fourth quarter from our liability restructuring efforts.

Interest recoveries and yield-related fees were down significantly this quarter as we expected. And suspended depreciation was up slightly due to additional transportation equipment and assets held for sale. Other income was $81 million, down from the second quarter. Our core non-spread revenue, which we define as fee and other income, factoring commissions and gain on sale of leasing equipment, was $85 million, up modestly from last quarter.

As we have noted in the past, we expected lower gain on asset sales than in prior periods, which have been elevated due to our portfolio optimization efforts, as well as reduced levels of pre-emergence recoveries. Outside those items, the main driver of the change this quarter was lower FSA accretion from the TRS counterparty receivable.

Operating expenses were $237 million, down modestly from last quarter. We laid out our expense target at between 200 and 225 basis points of average earning assets, and we are running well above that level.

While we expect to begin to see operating leverage in the fourth quarter from our average earning asset growth, we also need expense reductions to achieve our target. We have a roadmap to reduce the quarterly operating run rate by $15 million to $20 million per quarter. These reductions will be phased in over 2013 and will come from improved operating efficiencies and reductions in professional fees and employee cost. In the third quarter, we took a $5 million restructuring charge and there may be additional charges over the next few quarters. Finally, our third quarter income tax provision of $3 million declined from $28 million in the second quarter as a result of geographic mix of earnings, as well as a benefit related to discrete items.

I'd like to turn to the segment results now. We again included the table in the press release that adjusts for the accelerated FSA interest expense and other debt-related cost allocated to each segment. My remarks will focus on the sequential trends excluding this impact.

Corporate Finances adjusted pretax income was $44 million. The decline from last quarter was due to lower interest recoveries and other yield-related fees and lower non-spread revenue from the TRS counterparty receivable accretion. This was partly offset by the reduction in the credit reserve. The portfolio increased 3% since last quarter and 10% from a year ago, primarily driven by our U.S. middle market lending business and our new initiatives in Commercial Real Estate and Equipment Finance. Funded volumes were down 7% from the second quarter, not surprising given the August slowdown, but up over 60% for the first 9 months compared to 2011. And we continue to see growing pipelines in our Commercial Real Estate and Equipment Finance businesses.

New business was evenly split between cash flow and asset secured lending with almost 95% of the U.S. volume originated by CIT Bank. Now nearly 55% of the U.S. Corporate Finance portfolio is in CIT Bank, up from about 50% last quarter and 40% a year ago.

As John mentioned, we saw in the quarter some pressure on pricing and structure in the cash flow lending given the excess demand and limited supply. We are maintaining our risk discipline to ensure new business meets our risk-adjusted returns. Overall, the business is making progress towards its profitability targets. However, since we maintain reserves based on an expected loss greater than 1 year, near-term profitability will be masked as the business grows. Also, credit metrics improved with declines in net charge-offs and non-accruals. In addition, reserves declined as legacy assets with higher reserves were repaid.

Trade Finances adjusted pretax income grew modestly to $13 million reflecting higher non-spread revenues and lower funding cost. John mentioned the factoring volume was up 8% from the second quarter due to seasonality but down 6% from the prior year, primarily due to the active management of our exposures and lower overall factoring volume in the apparel space. Factoring commissions increased in line with higher volumes. And overall, portfolio quality remained solid.

Vendor Finance adjusted pretax income was $2 million, down from $27 million last quarter due to lower other revenue and higher operating expenses. Portfolio assets grew 3% sequentially and 7% from a year ago. New business volume is up 15% for the first 9 months compared to 2011, but decreased 7% sequentially, primarily due to summer seasonality, as well as a slowdown in certain leasing markets.

New business yields are stable, though we are starting to see pockets of pricing pressure. We made more progress on the international funding initiatives and put in place a new facility -- funding facility in China with attractive rates supporting our growth initiatives. Overall, assets are growing and new originations are outpacing economic growth in the markets in which we do business. Many platforms are performing well, but the macro challenges I described earlier are putting pressure on asset targets. While we have significant operating leverage that can support our growth, the key to improving profitability in this business is managing our expense base.

Transportation Finance's adjusted pretax income increased to $134 million reflecting the lower funding cost and higher non-spread revenue, partially offset by higher credit card -- credit cost. While we took delivery of fewer aircraft this quarter, assets grew both in the operating lease and loan portfolios. We continue to actively manage our fleet and we sold about $125 million of air and rail equipment and moved additional aircraft into held for sale. Air utilization rates remained strong at over 99% and we have placed almost all of our forward deliveries over the next 12 months. In our rail business, overall operating trends are positive. Fleet utilization remains at around 98%, rental rates remain attractive and we are seeing strong demand for the new cars that we ordered.

We continue to access cost-efficient funding sources with a focus on building out our bank deposit platform. We are progressing towards our target funding mix with deposits now representing 28% of total funding, unsecured debt at 39% and secured debt at 33%. You may recall that we are targeting 35% to 45% in deposits and the rest evenly split between secured and unsecured debt. Our actions have reduced the weighted average coupon to just over 3.25%, which positions our businesses to be competitive in our markets.

Liquidity metrics at the bank and the holding company remained strong. Liquidity is 20% of assets and consists of $7 billion in cash and short-term investments, and $1.4 billion of available capacity under our revolver. And the success of our deposit raising has enhanced our liquidity profile and positions our bank to support new business growth. Over time, we expect to gradually deploy a portion of our cash into high-quality marketable securities, consistent with other bank holding companies. However, the interest rate environment will influence the pace of our deployment. And finally, capital ratios continue to be strong at the bank and bank holding company, and we still intend to submit our 2013 capital plan to the Fed in January.

In summary, we feel good about the progress we have made. Now that most of the debt FSA has been accelerated, our 2013 reported GAAP results should be easier to analyze and will better reflect our operating performance. Our franchises are strong and performing well, especially in this environment. That said, we recognize the macro challenges and we are focused on achieving our profitability targets.

With that, I'd like to turn it back over to Chanel, and we will take your questions.

Question-and-Answer Session

Operator

[Operator Instructions] Our first question comes from the line of Chris Brendler, Stifel, Nicolaus.

Christopher Brendler - Stifel, Nicolaus & Co., Inc., Research Division

So I just want to get a little more detail, if I could, on the expense initiatives you're talking about. Expenses continue to be relatively elevated on an asset basis, I missed my estimate as well by a little bit, but are you talking about a pretty significant restructuring or are there areas that you can trim? Or what are we talking about in terms of expenses and how quickly do you think you can get to the low 2s at this level of asset growth?

Scott T. Parker

Yes, Chris, this is Scott. I would say that it's -- the way we're thinking about the expenses, as you know we've been doing a lot of investment to build the infrastructure for the bank holding company, as well as the bank. We've had to beef up a lot of the control areas. And so I think where we are today is at that juncture where we can get efficiencies out of that infrastructure build. And so it's going to be, as I mentioned in my prepared remarks, it's going to be something that's phased in over the next 12 months. And it really is going to be focused on our operating efficiencies within the platforms. We've had elevated professional fees. Had a lot of work, as I said, to build that infrastructure for the capital plan, for international tax planning, et cetera, and we think those levels have been elevated and can come down as we get through 2012. And then, also, we need to look at some of the under-scaled platforms that we have and make sure that we can either rightsize those to the profitability targets or try to get the expenses in line to achieve those goals. So I don't think -- it's not a broad-brush approach. It's a very calculated selective approach.

Christopher Brendler - Stifel, Nicolaus & Co., Inc., Research Division

Okay. And a follow-up question, I guess, on the fee income. It continues to be an area where I'm just surprised at the level of weakness, especially fee and other line, which I think was $19 million this quarter, and that's really a very low level. Is there anything onetime running through that line that I'm not aware of? And I also wanted to ask the obvious question on the Fed. You mentioned your plans, sort of your capital plan in [ph] 2013. Do you think this plan, that it's more likely that we have the Fed in the formal agreement addressed concurrently with that capital plan submission? Or if you don't get the formal agreement listed by the end of the year, does that preclude you from doing your capital plan 2013? Any color there would be very helpful.

Scott T. Parker

Okay, Chris, on the first one, on the fee side, I would say that in the core, when you look at the fee revenue and the gain on leasing equipment and factoring have been pretty stable. The other revenue has been impacted by some of the asset sales we have, just the way that the accounting works and what line items they flow through. So I think you see in the other revenue that kind of the higher levels in the past quarters was probably too elevated. So as we talked about we need -- we are focusing on ways to improve our fee income, core fee income. And if you look at overall non-spread, as we've talked about the biggest changes, really, as we get further away from the restructuring, the recoveries on a pre-emergence will continue to kind of the dwindle. And the gain in the loan portfolios, we'll have some gains on the portfolio but, again, we're trying to grow assets and we've done most of the portfolio pruning. And then the last item was the counterparty -- FSA counterparty accretion that was really elevated last quarter and really kind of came down this quarter. So that was kind of more of a true-up of that structure that we have. So on the capital plan, John, you...

John A. Thain

Yes, so in terms of the Fed and the capital plan, those are very different items. So the written agreement had to do with many of the internal control processes, so risk management, credit management, the credit scoring, credit grading, compliance. Much of the internal controls, which as Scott mentioned, we have spent the last 2.5 years building. And we are now in very good shape in terms of that internal control infrastructure, which is why we've said multiple times on this call and other places that from our perspective, we have in fact satisfied all of the elements that were required under the written agreement. So we continue to wait for the Fed's response to that. That's separate from the capital plan so we will in fact submit a capital plan at the beginning of next year. That capital plan will include some amount of capital return and then we will go through the process of having the Fed evaluate that plan and give us response to that sometime in 2013. But they are separate acts.

Christopher Brendler - Stifel, Nicolaus & Co., Inc., Research Division

Is it possible that you could have some sort of capital -- return of capital plan and still have a formal agreement or no?

John A. Thain

Well, I don't think we can answer that. The formal agreement doesn't preclude returning capital, it only says you have to get permission.

Operator

Our next question comes from Mark DeVries, Barclays.

Mark C. DeVries - Barclays Capital, Research Division

Despite redeeming the remaining $4.6 billion of Series C debt in the quarter, cash was up Q-over-Q helped in part by accretion on deposit growth. Can you talk about your expected use of cash going forward? Should we expect a portion of that cash to be used for future buyback and asset purchases? Or do you view that, the current cash, as necessary to fund organic loan growth and provide an ongoing liquidity cushion?

Scott T. Parker

Yes, Mark, I would – because a couple things. If you look on the press release, the one area that we've been very focused on is our cash in our international operating subs. And I think if you looked from second quarter to the third quarter, we came down almost in half and that was part of the proceeds we used to redeem some of the cash or some of the debt in August. So that's one where we're trying to get the efficiencies of our international platforms. I think at the parent company, we're running a little bit under $2 billion of cash liquidity. And we did pay down the revolver subsequent to the quarter end with some excess cash, but I think at the parent company, as we've mentioned before, we do like to have liquidity for an extended period of time to fund future originations. We also have to post collateral on some of our FX and interest rate hedges, and also any other things that could happen during that time frame. The biggest elevation, really, is in the bank. And I think, as other financial institutions have said, we were very happy and proud of the success we've had on Internet deposit raising. And we did sell some student loans earlier this year. And if you take those student loans sales out, kind of the liquidity would be fine. So I think we have the growth that we're experiencing in the bank will eat up that cash over time, but again just like at the holding company, we want to have excess liquidity in the bank to cover both rollovers of our deposits, as well as to fund future growth. And those stresses that we do, we think are pretty severe because we think liquidity is something we pride ourselves on.

Mark C. DeVries - Barclays Capital, Research Division

Okay, that's helpful. I just have a follow-up on your capital plans. Have you actually completed your internal stress test yet for capital submission? And if possible is there any color you can give us on what you think might be a reasonable request of the Fed?

Scott T. Parker

Well, we're in the process of going through the capital plan. We have done stress testing. We've been doing stress testing for the last 12 months. I think what we've done is enhance that and also come up with multiple scenarios more germane to our business. I won't talk about the results of those, I think it's premature to do that. And I also think it's premature to talk about what level of capital could be until we get through the process. As you know, we're doing it based on kind of our internal and looking at past, but the official guidelines don't come out until sometime in November. And I don't want to get ahead of what those assumptions might be relative to what we're using.

Operator

Our next question comes from Brad Ball with Evercore.

Bradley G. Ball - Evercore Partners Inc., Research Division

Scott, could you talk about the difference between the 2.97% margin that you reported this quarter and the 2.60% that you described as core? Are there interest recoveries and accelerated depreciation in that difference? And will that carry over into the fourth quarter and next year?

Scott T. Parker

Yes, so, Brad, roughly the difference, we did have some interest recoveries and other yield-related fees but those were less than 10 basis points. As you'll recall last quarter was more of – was north of around 30 basis points, so they did come down significantly. We will continue to have some level of those but they won't be at the levels that we've experienced. On the suspended depreciation, it did go up a little bit because we do -- we have the European Vendor portfolio that we've talked about, but we did have some aircraft, operating aircraft in the held for sale and those also have suspended depreciation. So that amount went up a little bit. So I would say that was kind of close, a little bit under 30 basis points so that's kind of gets you from the 2.60% to the 2.97%, roughly.

Bradley G. Ball - Evercore Partners Inc., Research Division

And will those carry into -- you mentioned that the interest recoveries will be lower but will the depreciation have an impact into next year?

Scott T. Parker

Yes, I think the core, so I think we were saying around 20 basis points was being driven by the Vendor Europe portfolio. That will stick around into, kind of into 2013. On the aircraft, it's just a matter of when those aircraft sales actually occur. So I would say, given what we have in the portfolio today that you should expect that the suspended depreciation is probably going to stay kind of where it is today. It could be a little bit lower if we sell those aircraft before year end.

Bradley G. Ball - Evercore Partners Inc., Research Division

Okay. So with the 40-basis-point benefit from the debt paydowns this quarter and in the fourth quarter, plus the 2.60% core, you're going to be right at the low end of your long-term target for the economic NIM?

Scott T. Parker

Correct. That's kind of how we look at it. So the reported may be a little bit higher in the fourth quarter but the core, we think, is tracking to the 3%.

Bradley G. Ball - Evercore Partners Inc., Research Division

Okay. And then separately on the expense initiatives, you actually increased your headcount this quarter. Were those folks producing employees? Were they out there making loans or who were they? And do you expect any staffing impacts from the expense initiatives?

Scott T. Parker

I would say that, definitely on the headcount, a portion of those, definitely, were revenue-producing, some of our new initiatives in the Corporate Finance business and the Transportation business, as well as some of our international growth. I think some of it also is just some internal swap between kind of external resources, consultants-type things versus full-time employees, which is a better -- for some of our areas, is a better model. So we're really focused on the cost number versus just on the headcount side. But again as we mentioned, we have gone through a lot of reviews with the addition of Andrew and the rest of the leadership team of where we think there are opportunities to improve our efficiency across the platform now that we have put the high-cost debt behind us, and also the franchises are performing well. So we need to get our expenses in line to achieve our targets.

Operator

Our next question comes from Moshe Orenbuch from Credit Suisse.

Moshe Orenbuch - Crédit Suisse AG, Research Division

A couple of things. Just following up on the earlier question on fee income. I guess when you talked about your core fee income, you did include gains on assets sales of leased equipment in there, and that was what was up. The core fee income was $19 million. I think that's the lowest number you've had pretty much since you've come out of bankruptcy. So the question really was, was there something in there that is one-time or is that kind of the new run rate? And I've got another one.

Scott T. Parker

Yes, so I would say that in the fee revenue, yes, we always have little adjustments on a quarterly basis based on, again, some of this is a little bit transactional-oriented. But in general, I wouldn't say that I would use any particular quarter right now as a run rate. I think as we move into 2013, there's still a lot of items that aren't going to get to our core run rate. So I think it's an approximation. And we're going to continue to dig into, find ways to improve both the fee and other revenue, fee income and other revenue.

Moshe Orenbuch - Crédit Suisse AG, Research Division

Okay. And in terms of the margin improvement, you talked about the 40 basis points. Could you talk about what causes that? Is some of that just a denominator effect? How much of it kind of will make its way into the dollars of net interest income?

Scott T. Parker

Well, we're -- I think on the funding cost side, I mean, that's just the lower interest expense. So I mean the components of that is, as John mentioned, we paid down the debt. Some of that was issuing some new unsecured debt that you are aware of, right? And then part of that was some of the securitizations that we did in the quarter, and then some was from cash. So the components of the delta between the 7% and each of those respective costs kind of drive most of the 40. And so on the yield side, we've been pretty steady. So yield came down a little bit. If you remember the chart we used out there in regards to showing our portfolio, yields versus cost of funds, so the portfolio yield came down a little bit because of the interest recoveries and the yield-related fees, but the funding cost is going down faster than -- and we're maintaining the yields right now.

Operator

Our next question comes from the line of Henry Coffey, Sterne Agee.

Henry J. Coffey - Sterne Agee & Leach Inc., Research Division

Just kind of building off of that. As you look at your liability mix now, obviously, the 7% notes are gone. So there's no big bucket of debt to be removed, but what's the next logical step that you're continuing to sort of refine that mix? More deposit growth, pay down some of the original post 7% notes, maybe you can give us a sense of what the next logical steps there are?

Scott T. Parker

Okay, Henry. I thought you're going to list them all off for me. So I kind of appreciate that, but definitely #1 is on deposits. So I think the -- as you see, we continue to grow the deposit mix and the business that we're putting in for the bank that is going to be a huge driver over the next couple quarters going into 2013. We still have, from the debt we issued, all those have make-holds and so those are very expensive to kind of call back. So I think the next kind of maturity we have is in early 2014 where we had the 3% note that we had issued out there. So that is something that during 2013, we will either have to issue in the capital markets or build cash in order to potentially redeem that. So that's an open item. And we continue to find ways to finance our international businesses. So I think one of the pieces that you have seen, we did the Canadian financing at very attractive rates. We have also put the China facility in place. So we have other opportunities in our international Vendor business to continue to drive down our cost of funds, but it won't be anywhere near the kind of trajectory that we've experienced for the last 2.5 years. But there's still room to drive down our cost of funds.

Henry J. Coffey - Sterne Agee & Leach Inc., Research Division

The $15 million per quarter cost reduction, is that simply saying every quarter, we'll get a sense of where our loan volumes are going? And if they pick up, we don't need to cut, but if they don't, we do? Or is that just sort of more of a systematic phase out of staffing and other costs?

Scott T. Parker

Yes, I think that we need to do -- we need both, as I mentioned. So we need both the run rate cost reduction, as well as the asset growth. And in the numbers that we have, we do have some of the bank funding related costs that will increase through that, so we need to offset that in order to get to the targets that we've set out.

Henry J. Coffey - Sterne Agee & Leach Inc., Research Division

So when do you think you can start really hitting those targets, or are you sort of not putting numbers on that?

Scott T. Parker

Yes, I would say, I would focus more probably kind of as we get into 2013. I don't think you're going to see in the fourth quarter near term...

Henry J. Coffey - Sterne Agee & Leach Inc., Research Division

But I mean, it could be -- you could start hitting your overhead targets as early as next year, is what you're suggesting?

Scott T. Parker

We will get the ratio down from where it currently is, Henry. Remember we have 2 -- our target's 200 to 225, we're well north of that. So I think our goal would be, over the next 12 to 24 months, to get down to that kind of target ratio that we have.

Operator

Our next question comes from Chris Kotowski of Oppenheimer.

Christoph M. Kotowski - Oppenheimer & Co. Inc., Research Division

Yes, kind of a longer-term, more strategic question. And I'm curious, how does -- in the long run, how does the aircraft leasing business fit in a bank holding company? As I understand it, you need to hold capital against the whole order book, even though it's not generating revenues currently. And I guess, at a time when you have excess capital and you're constrained from doing buybacks, that doesn't hurt you too much. But can that business be profitable at your targeted future capital levels under the tent of a bank holding company?

John A. Thain

Yes, so it's a great question. And the simple answer is, yes, it can. So when we analyze new aircraft purchases or when we analyze the business, we allocate capital to it, including the capital required to hold the order book. And frankly, that business gets mid-teens returns on its allocated capital, even taking into account the forward order book. So it is quite an attractive business. The fact it's inside of the bank holding company is not a particular detriment to it. And it's interesting that of the portfolios that have sold recently, the most aggressive bidders are, in fact, banks.

Christoph M. Kotowski - Oppenheimer & Co. Inc., Research Division

Okay, all right. And is there any way to bring any of those earnings onshore?

John A. Thain

It's something that we'll consider, but most of -- as we've talked about, most of the portfolio of customers we have are actually outside the U.S. So I think part of the strategy of who is going to come "onshore" would be if we increase our leasing proportion in the U.S.

Scott T. Parker

Yes, the other thing we are doing, though, is we are growing the loan book. And that loan book is going primarily in the bank and that loan book is in the U.S. And so we are growing the loan side of the business and that will generate U.S. income.

Christoph M. Kotowski - Oppenheimer & Co. Inc., Research Division

Okay. And then is there a story to the non-accrual that was in the -- mentioned in the release?

John A. Thain

No. It's just one loan. It's secured by aircraft and it's something we'll work through.

Operator

Our next question comes from the line of Bill Carcache from Nomura.

Bill Carcache - Nomura Securities Co. Ltd., Research Division

Scott, can you give a little bit more color on the comment that you made about near-term profitability being masked as the business grows. Are you referring to reserve building as you continue to see the kind of growth you're seeing in the commercial businesses?

Scott T. Parker

Yes, it's mainly -- it was only specific to the Corporate Finance business. So on the Corporate Finance business, as we've laid out our targets, should be, on the steady-state, the expected losses should be about 100 basis points. And our reserving is well north of 100 basis points. So on a reported basis, it's probably better to look at them kind of more on a PP&R [ph] basis.

Bill Carcache - Nomura Securities Co. Ltd., Research Division

Okay, that's helpful. Then separately, John, can you just comment broadly on whether you've received any kind of indications of interest or whether there's been any kind of dialogue with anyone who might be a potential buyer?

John A. Thain

No. You know perfectly well we wouldn't be able to do that.

Operator

Our next question comes from the line of Sameer Gokhale, Janney Capital.

Sameer Gokhale - Janney Montgomery Scott LLC, Research Division

Just had a few questions. Scott, you talked about exploring some ways to improve fee income. Can you talk about some specifics there? Are there any areas in particular you're targeting or is it a little too early to talk about those?

John A. Thain

I think, in general, if you look at our existing businesses today in the Corporate Finance area, I think we've done a really good job of continuing to increase our lead agency roles and positions. So I think we need to -- as we rebuild the franchise, I think those are things that, over time, could lead to additional fee income. M&A activity has been pretty low. And so if that picks up a little bit, that does give us some opportunities to get some advisory fees around that business. And also over time, as we've talked about, the market's still pretty much a clubby kind of situation. So we think that, over time, syndications -- syndication fee income will come through to the business, but again those are kind of really tied back to some of the macro challenges that we talked about. On the Vendor side, we continue to look at end of term residual upside, as well as some servicing fee opportunities. And on the trade business, it's really -- as we find opportunities around additional volume, I think the business has done pretty well at maintaining kind of the fee income line in the current environment.

Sameer Gokhale - Janney Montgomery Scott LLC, Research Division

Okay, that's helpful. I mean, it sounds like most of the stuff who were -- consists of things you had discussed earlier and now you're just putting more emphasis on them, really, as opposed to any completely new areas that you're thinking of getting into really.

John A. Thain

Yes, I think in the existing portfolio, that's kind of how we can do it.

Sameer Gokhale - Janney Montgomery Scott LLC, Research Division

Okay. And then in your Corporate Finance business, can you just remind me, I mean there's been talk of this like dividend recap activity picking up. Do you participate in dividend recaps at all or do you see that as just being too frothy of markets, you don't want to get into those?

John A. Thain

It's very selective. We're very disciplined around that and we have certain criteria that would allow us to participate and if those criteria aren't met, we don't participate.

Sameer Gokhale - Janney Montgomery Scott LLC, Research Division

Okay. And then in terms of financing for the aircraft leasing business, there was I guess a discussion about a year or so ago about the EXIM, ECA moving to more of a market-driven funding structure as opposed to more of a subsidized structure that existed previously. So with that sort of change, how does that affect you from in terms of funding that portfolio to the extent you already have funding through the EXIM or ECA?

John A. Thain

Yes, so that would only be on -- Sameer, that would be on new fundings that you would do with those agencies, so would impact the historical. So really what it comes down to is looking at that all-in cost relative to other sources of funding that we could do for the business and trying to balance off the pros and cons of that. So I think what it does is given what we've been able to achieve on the funding side, it gives us more options to fund that business going forward.

Sameer Gokhale - Janney Montgomery Scott LLC, Research Division

So I mean should we necessarily think of it as maybe the margins being negatively affected going forward relative to your existing funding given that in the newer structures they would be more market driven. So presumably less leverage in those deals, maybe higher funding costs or marginally, you don't think it's going to make that much of a difference?

John A. Thain

I don't think, given the amount of funding we do, given the size of the portfolio, I don't think, Sameer, it'd be enough to change the overall portfolio dynamics, so I would say, no.

Scott T. Parker

I think that's particularly true given where we now fund. We now fund competitive to them anyway, and so no, I don't think so.

Sameer Gokhale - Janney Montgomery Scott LLC, Research Division

Okay. And then just my last question on the income taxes, that number can move around. We've been modeling it in dollar terms and you've talked about that several times in the past. But looking at where you came in at this quarter and then the reason for the lower dollar number, relative to what you were looking for, what should we model, Scott, in terms of a run rate for taxes?

Scott T. Parker

I won't go into 2013, but at least for the fourth quarter, which wasn't in the press release but will come out in the Q. But we did have a sizable amount of discrete items in the quarter that were north of $15 million. So I think somewhere around the second quarter is probably more indicative of the dollar amounts than I would say the third quarter.

Operator

[Operator Instructions] Our next question comes from the line of David Hochstim, Buckingham Research.

David S. Hochstim - The Buckingham Research Group Incorporated

I wonder if you can just clarify a couple of things. Could you give us an idea of how much Commercial Real Estate and Equipment Finance volume there was this quarter or how it's been trending in the last 2 quarters maybe?

Scott T. Parker

We don't normally break it out, but I would say on the real estate side, we're probably doing a little bit about $100 million or so in the quarter. We said there's a strong pipeline for both the Equipment Finance business, as well as the Real Estate. Equipment Finance would be lower than that as we're kind of building out that business, but we're pretty happy with the success we've had. And we think that will kind of bleed into 2013.

David S. Hochstim - The Buckingham Research Group Incorporated

Okay, and rates on those relative to the rest of the Corporate Finance originations, how do they compare?

Scott T. Parker

Yes, I think the Equipment Finance items would be kind of on the kind of higher end, kind of below kind of a cash flow side but much above the asset based. And on the real estate side, kind of probably a little bit kind of in the 3% to 4% range depending on the transaction.

David S. Hochstim - The Buckingham Research Group Incorporated

Okay. And then can you give us an update on the prospect for finding some attractive portfolio sales from -- talk about European banks who you thought might be dumping assets and haven't? Is there anything in the market that gives some optimism that you might be able to find some attractive...

John A. Thain

Well, we keep looking. So I mean, there's nothing that we haven't seen and looked at. I think a lot of -- at least the European, I was there a couple weeks ago, I think in the European side, whatever's being sold is kind of sold through most of the kind of the trading desks. And so if the bids hit, I think the trades happen. There hasn't been a lot of portfolio transactions, so I think it's more of a individual kind of transaction by transaction side. So we -- if we see those in the U.S., we'll pick them up. But from an overall aggregation point of view, we haven't seen that coming through yet.

Scott T. Parker

Yes, the European banks in particular, the yields on those portfolios tend to be very low. And so if we bid them, we bid them at discounts to par. And at least so far the European banks have been reluctant to sell things below par.

David S. Hochstim - The Buckingham Research Group Incorporated

I guess it doesn't help to build capital that way?

Scott T. Parker

Correct.

David S. Hochstim - The Buckingham Research Group Incorporated

And then could you clarify on -- I think you said you sold some student loans in the quarter?

Scott T. Parker

No, we sold them earlier in the year, so we sold back in April. I was just kind of explaining with regards to the bank liquidity, but no...

David S. Hochstim - The Buckingham Research Group Incorporated

Okay. I was looking at the balance sheet. Didn't look like you did but -- and then, just in thinking about provisioning and the loss reserves that you've had [Audio Gap] the loss reserves start to increase, I think.

Scott T. Parker

Well, as you know on the reserving side, it's a methodology process that takes into consideration mix of business, trends and what assets. So as I mentioned, a little bit of the reduction in the quarter, we still provide for new originations, but we had some legacy assets as running off that had higher reserve levels than the new originations that we're putting on. And so I would say that we – it's kind of hard to forecast that one, but I feel good that we are very -- in our reserve process, that we are very solid on that perspective.

David S. Hochstim - The Buckingham Research Group Incorporated

Okay, so it reasonable to think we could still see lower and no provisions for it?

Scott T. Parker

Well I think the charge-offs that you saw -- gross charge-offs were up $1 million from the quarter, so as we said those are at low levels. And so I think from a perspective of we don't kind of -- we don't like to kind of forecast that losses are going to get worse. I think we're comfortable with the portfolio we have but we will have certain accounts that do hit the charge-off quarter-to-quarter. And on the reserving side, I think as we kind of continue to have the runoff of the legacy portfolio at the parent company, that pressure, you'll start to see the new origination reserve build. But you're going to have -- we're still in a little bit of that transition of some of the legacy assets and the new originations. So we think some of that will kind of come through in 2013.

Operator

Our next question comes from the line of Mike Turner, Compass Point.

Michael Turner - Compass Point Research & Trading, LLC, Research Division

John, maybe you could talk a little bit around the competition and seeing a little bit more pressure there. It's consistent with what we're hearing elsewhere, but where is it and who is it coming from? Any color there would be helpful.

John A. Thain

Sure, and Scott -- I mean, Scott can do this as well. I mean we are seeing some incremental pricing pressure in the cash flow part of our Corporate Finance business and in our Trade business, and in certain sectors of our Vendor business. And it's coming from the bigger banks like Wells. And it's coming from some of the regional banks.

Scott T. Parker

As we've talked about in the macro environment, I mean interest rates continue to be low, people are looking for assets. So I'd say in the Corporate Finance arena, it's much more of kind of a dynamic of the high-yield market and kind of the, kind of what I call more of the institutional or the investment-grade market and how the middle market lenders are in between those two, and that kind of macro dynamic. But as John mentioned on the Vendor, again, we've seen people in the past underprice those transactions. And we need to stay disciplined because we understand the kind of the profitability model of those assets. But I think those are very selective and very targeted for certain customers.

Michael Turner - Compass Point Research & Trading, LLC, Research Division

That's helpful. Then given that dynamic as we look into kind of the core finance margin going forward, it was 2.60%, let's say, it should jump 40 basis points or so for the refinancings in the fourth quarter to get you at the low end of your long-term target. Is it possible to maintain the 300 basis points going forward? Do you think as these new originations funnel on that there'll be more downward pressure, or is that kind of still immaterial and you should be able to maintain that looking out?

Scott T. Parker

Yes, I think it's a little bit early to kind of forecast that given kind of where we are right now, a couple of weeks before the elections and kind of some of the current uncertainty. I think as we get through the next quarter, I think that's probably a more germane question that we might want to talk about in January.

Michael Turner - Compass Point Research & Trading, LLC, Research Division

Okay. And then one last one. I think your risk-weighted assets jumped about $1.7 billion or so quarter-over-quarter. Was that just timing or was there anything special in that?

Scott T. Parker

I think it's just what you're seeing as we grow the commercial portfolio, the risk-weighted assets on those assets, you're seeing the growth in that. And as student loans continue to decrease, those have a lower risk-weighted asset percentage than our commercial portfolio.

Operator

And our final question comes from the line of Mark DeVries, Barclays.

Mark C. DeVries - Barclays Capital, Research Division

Just a quick follow-up, are you profitable in the U.S. yet?

Scott T. Parker

We weren't profitable in the U.S. in the third quarter, but we continue to make progress.

Mark C. DeVries - Barclays Capital, Research Division

Okay, so any color on that and when you might start to realize some of your tax benefits there?

Scott T. Parker

Again, I think the tax side of the world is kind of more of a kind of an annual basis than a quarterly. So in our reports we kind of give you an estimate of kind of the taxable income. So I would say that as we get through into the fourth quarter, I'll have a much better visibility as we prepare the K to give you the component parts of that. But we continue to make progress based on the debt refinancing in the U.S.

Operator

And there are no further questions. I'd now like to turn the call back over to management.

John A. Thain

We thank you, all, for joining us this morning. As always, if you have any follow-up questions, please call either me, Barbara or Bob in Investor Relations, and we look forward to speaking to you soon. Thank you.

Operator

Ladies and gentlemen, that concludes the presentation. Thank you for your participation. You may now disconnect. Have a great day.

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: CIT Group Management Discusses Q3 2012 Results - Earnings Call Transcript
This Transcript
All Transcripts