Synchrony Financial (NYSE:SYF) Q3 2023 Earnings Call Transcript

Synchrony Financial (NYSE:SYF) Q3 2023 Earnings Call Transcript October 24, 2023

Synchrony Financial beats earnings expectations. Reported EPS is $1.48, expectations were $1.44.

Operator: Good morning, and welcome to the Synchrony Financial Third Quarter 2023 Earnings Conference Call. Please refer to the Company’s Investor Relations website for access to their earnings materials. Please be advised that today’s conference call is being recorded. Currently, all callers have been placed in a listen-only mode. The call will be opened for your questions following the conclusion of the management’s prepared remarks. [Operator Instructions] I will now turn the call over to Kathryn Miller, Senior Vice President of Investor Relations. Thank you. You may begin.

Kathryn Miller: Thank you, and good morning, everyone. Welcome to our quarterly earnings conference call. In addition to today’s press release, we have provided a presentation that covers the topics we plan to address during our call. The press release, detailed financial schedules and presentation are available on our website, synchronyfinancial.com. This information can be accessed by going to the Investor Relations section of the website. Before we get started, I wanted to remind you that our comments today will include forward-looking statements. These statements are subject to risks and uncertainty and actual results could differ materially. We list the factors that might cause actual results to differ materially in our SEC filings, which are available on our website.

During the call, we will refer to non-GAAP financial measures in discussing the Company’s performance. You can find a reconciliation of these measures to GAAP financial measures in our materials for today’s call. Finally, Synchrony Financial is not responsible for and does not edit or guarantee the accuracy of our earnings teleconference transcripts provided by third parties. The only authorized webcast are located on our website. On the call this morning are Brian Doubles, Synchrony’s President and Chief Executive Officer; and Brian Wenzel, Executive Vice President and Chief Financial Officer. I will now turn the call over to Brian Doubles.

Brian Doubles: Thanks, Kathryn, and good morning, everyone. Today’s Synchrony reported strong third quarter results, including net earnings of $628 million or $1.48 per diluted share, a return on average assets of 2.3% and a return on tangible common equity of 22.9%. These results highlight the strength of Synchrony’s differentiated model and the resiliency of our business through economic cycles. Our diversified product suite and advanced digital capabilities enabled Synchrony to continue to deliver consistently strong results in an ever-changing environment. We are increasingly at the center of customers’ everyday financing needs, and position as the partner of choice for retailers, merchants and providers alike as they seek enhanced value, greater utility and best-in-class experiences.

We opened 5.7 million new accounts in the third quarter and grew average active accounts by 6%. We continue to drive growth with our $47 billion of purchase volume, representing a record third quarter and a 5% increase versus the prior year. This momentum is a testament to the power of our diversified portfolio. Health & Wellness purchase volume grew 14% compared to last year, reflecting broad-based growth in active accounts led by Dental, Pet and Cosmetics. The 7% growth in digital purchase volume was driven by higher average active accounts as several of our newer programs continue to resonate with consumers and diversifying value, purchase volume grew 7%, reflecting growth in out-of-partner spend and strong retailer performance. Lifestyle purchase volume increased 8%, reflecting growth in average transaction values and outdoor and luxury.

And in Home & Auto, purchase volume remained flat versus last year as growth in commercial products, home specialty and the auto network was generally offset by lower retail traffic in furniture and electronics and the impact of lower gas and lumber prices. Dual and co-branded cards accounted for 42% of total purchase volume in the quarter and increased 13% as several of our newer value propositions continue to drive greater customer engagement. Synchrony’s range of products and platforms gives us a unique view into the health of the consumer. Through our monitoring, we see continued trends of behavior normalizing to pre-pandemic levels. Across the portfolio, average transaction values leveled off through the quarter after modestly declining in the second quarter.

Meanwhile, average transaction frequency, which had climbed throughout the year, showed some signs of stabilization towards the end of the quarter. Looking at our auto partners spend, our customers are becoming more selective in making larger purchases, including home furnishings and electronics and spending less on travel. Directionally, we see broad trends that are in line with our expectations across the portfolio with slowing spend growth, normalization payment rates and growth in balances, which is driving higher net interest income. While in the external deposit data we track, consumer savings balances remain approximately 8% above the average level in 2020. In summary, these trends show a consumer that continues to benefit from a strong labor market while reverting gradually towards historical spend and payment norms.

As we closely monitor the health of the consumer, we also continue to develop and deploy the compelling products and value propositions that attract consumers and partners to Synchrony. We announced earlier this month that both the PayPal and Venmo cards can now be provisioned in the Apple Wallet, representing our latest enhancement as we evolve to meet the demands of our increasing digital first customers. Synchrony’s journey began with in-store financing options, which have long been valued tools for both retailers and consumers to build loyalty and drive value. Over time, we’ve broaden the utility of these products through our dual and co-brand card strategies, which enable customers to make out-of-partner purchases, accumulate rewards and extract even greater value.

Increasingly, our customers are taking that engagement even further as digital wallets enable everyday use functionality and extend our leading value propositions well beyond the store. Active wallet users are up over 45% year-to-date and sales on wallets are over 70%. This trend is more than a simple technological enhancement. Synchrony’s strategy to deliver enhanced utility and best-in-class experiences requires seamlessly integrated, tailored solutions and our investments in technology allow us to meet this demand. When our customers combine the broad utility of our products and services with our digital wallet functionality, the impact is clear. Our digital wallet users spend nearly twice as much and have over double the transactions on average.

More broadly, we see the impact of expanded product utility in our results. Auto partner spend continued its outsized growth this quarter, up 12% compared to last year. We continue to develop our solution suite and extend the reach of our products meeting consumer demand for fast and secure shopping and opening new opportunities for customers to engage with their favorite brands. In Health & Wellness, we were pleased to announce partnerships with veterinary hospitals at three additional universities. CareCredit is now accepted at 95% of the nation’s public veterinary university hospitals in addition to more than 25,000 provider locations, expanding access to flexible financing tools that enable a lifetime of care for all pets. The power of Synchrony’s continually evolving model, supported by our focus on technological innovation, continues to position Synchrony as the partner of choice as we deliver digitally powered experiences and compelling value for our many stakeholders.

And with that, I’ll turn the call over to Brian.

Brian Wenzel: Thanks, Brian. Good morning everyone. Synchrony’s third quarter results reflected the strength of our financial model demonstrates to our consistent growth and strong risk deducted returns. The compelling value propositions of our broad product suite continue to resonate with our 70-plus million customers and drove broad-based growth across our sales platforms, ending loan receivables grew 14% versus last year, benefiting from the combination of approximately 120 basis point decrease in payment rate versus last year and 5% growth in purchase volume. Our third quarter was 16.3%, still remains approximately 130 basis points higher than our five-year pre-pandemic historical average. Manage interest income increased 11% to 4.4 billion, reflecting 21% growth in interest in fees.

The increase in interest in fees was due to the combined impact of higher loan receivables and benchmark rates as well as lower payment rate. Our net interest margin was 15.36% declined 16 basis points compared to the prior year as higher funding costs more than offset the benefit of higher yields and favorable asset mix. Specifically, loan receivables yield grew 114 basis points and contributed 95 basis points to net interest margin. Higher liquidity portfolio yield contributed an additional 46 basis points to net interest margin, and our mix of interest earning assets improved net interest margin by approximately 28 basis points, reflecting our strong growth in loan receivables. But these gains were more than offset by higher interest bearing liability costs, which increased 229 basis points to 4.34% and reduced interest margin by 185 basis points.

RSAs of $979 million in the third quarter or 4.04% of average loan receivables, a $7 million decline from the prior year, reflecting higher net charge-offs, partially offset by higher net interest income. Our RSAs continue to perform as designed. They provide a critical alignment with our partners as we navigate the evolving environment together and support greater stability in our returns. Provision for credit losses increased to $1.5 billion, reflecting higher net charge-offs and a $372 million reserve build, which largely reflected the growth in loan receivables. Other expenses grew 8% to $1.2 billion, primarily driven by the growth-related items as well as technology investments and operational losses. Our efficiency ratio for the third quarter improved by approximately 330 basis points compared to last year to 33.2%.

Summarizing our financial results, Synchrony generated net earnings of $628 million or $1.48 per diluted share, a return on average assets of 2.3% and return on tangible common equity of 22.9%. Next, I’ll cover our credit trends on Slide 8. Our delinquency performance in the third quarter continued to reflect normalization towards pre-pandemic behavior with both the 30-plus and 90-plus delinquency rates approaching 2019 levels. Our 30-plus delinquency rate was 4.40% compared to 3.28% last year and approximately 7 basis points lower than third quarter of 2019. Our 90-plus delinquency rate was 2.06% and versus 1.43% in the prior year and approximately 1 basis point lower than our third quarter 2019. Our net charge-off rate was 4.60% versus 3% last year.

Synchrony remains approximately 115 basis points below the midpoint of our underwriting target of 5.5% to 6%, where our risk-adjusted returns are more fully optimized. Overall, our credit performance remains within our expectations and has benefited from investments in our advanced underwriting platform as we expect to continue on a path towards our long-term operating targets. Focusing on our more recent vintages, they continue to perform in line with those from 2019. While we’re pleased with how these vintages are developing, we’re continuously monitoring our portfolio and have implemented further credit actions include some tightening of our origination criteria. These proactive refinements are intended to position our business for 2024 and beyond.

Moving to reserves, our allowance for credit losses as a percent of loan receivables was 10.40% up 6 basis points from 10.34% in the second quarter. The reserve build of $372 million in the quarter was largely driven by receivables growth. Turning to Slide 10. Our stable funding model and strong management of capital and liquidity continue to position Synchrony well for any environment. In the third quarter, customers continue to be attractive to our consumer bank offerings as we grew both direct and broker deposits to fund our anticipated receivables growth, deposits represented 84% of our total funding at quarter end. The remainder of our funding stack is comprised of securitized and unsecured debt at 7% and 9% of our funding, respectively.

We completed a $1 billion securitized issuance in the quarter, and we’ll continue to be active in both markets as conditions allow. Total liquidity, including undrawn credit facilities, was $20.5 billion, up $275 million from last year. At quarter end, liquidity represented 18.2% of total assets down 192 basis points from last year as we manage our liquidity portfolio and fund strong loan receivables growth. Moving on to our capital ratios. As a reminder, we elected to take the benefit of the CECL transition rules issued by the joint federal banking agencies. Synchrony made its annual transition adjustment of approximately 60 basis points in January, and we’ll continue to make annual adjustments of approximately 60 basis points each year until January of 2025.

The impact of CECL has already been recognized in our income statement balance sheet. Under the CECL transition rules, we entered the third quarter with a CET1 ratio of 12.4%, 190 basis points lower than the last year’s level of 14.3%. The Tier 1 capital ratio was 13.2% under the CECL transition rules compared to 15.2% last year. The total capital ratio decreased 120 basis points to 15.3%, and the Tier 1 capital plus reserves ratio on a fully phased in basis decreased to 22.5% compared to 24.1% last year. During the third quarter, we returned $254 million to our shareholders, consisting of $150 million of share repurchases and $104 million of common stock dividends. And at the end of the quarter, we had $850 million remaining in our share repurchase authorization.

Synchrony well positioned to return capital to shareholders as guided by our business performance, market conditions, regulatory restrictions and subject to our capital plan. We will also continue to seek opportunities to complete the development of our capital structure through the issuance of additional preferred stock as conditions allow. Now, please refer to Slide 11 of the presentation for more detail on our outlook for 2023. We expect our ending loan receivables to grow approximately 11% versus last year, reflecting the combined impact of payment rate moderation and slowing purchase volume growth. We expect a full year net interest margin of approximately 15.15%. Net interest margin in the third quarter benefited from strong growth in interest and fees and receivables in addition to payment rate moderation and lower deposit betas.

In the fourth quarter, we expect net interest margin to be impacted by higher average liquidity to prefund seasonal loan receivables growth impacting the mix of interest-earning assets, higher deposit betas driven by competition and movement in benchmark rates and interest and fee growth, partially offset by rising reversals. From a credit standpoint, delinquencies nearly reached 2019 levels at quarter end, and should file seasonal trends from this point. With the increased visibility into delinquency performance this year, we are tightening our forecasted with net charge-off rate to approximately 4.85%, we continue to anticipate our loss rate reaching a fully normalized level between 5.5% and 6% on an annual basis in 2024. And as we noted, we will continue to monitor and position the portfolio for 2024 and beyond.

We expect the RSA to trend at the low end of our prior outlook and to be approximately 3.95% of average loan receivables for the full year. This improved outlook reflects the impacts of the continued credit normalization, lower net interest margin and the mix of our loan receivables growth. And as we generate higher-than-anticipated growth, we are maintaining our expectation for operating expenses at approximately $1.15 billion per quarter while we continue to make selective investments in our business. We’re committed to delivering operating leverage for the full year. As Synchrony continues to leverage our core strengths, our advanced data analytics, our discipline approach to underwriting and credit management, and our stable funding model, we’re confident in our ability to execute on our key strategic priorities and deliver market leading returns over long term.

I’ll now turn the call back over to Brian for his closing thoughts.

Brian Doubles: Thanks, Brian. Synchrony continues to demonstrate both the agility and consistency of our differentiated model. We remain focused on optimizing the outcomes for our many stakeholders by closely managing the drivers of our business, which we control, and intently monitoring and preparing for those which we do not. We are prioritizing sustainable growth to deliver appropriate risk-adjusted margins through changing market conditions. We are prudently investing in the future and long-term growth of the business, so we are able to exceed the increasingly digital demands of our consumers, and we are delivering on our financial commitments even as we ready the business for an evolving environment to ensure our continued ability to drive long-term value into the future. With that, I’ll turn the call back to Kathryn to open the Q&A.

Kathryn Miller: That concludes our prepared remarks. We will now begin the Q&A session so that we can accommodate as many of you as possible. I’d like to ask the participants to please limit yourself to one primary and one follow-up question. If you have additional questions, the Investor Relations team will be available after the call. Operator, please start the Q&A session.

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Q&A Session

Operator: [Operator Instructions] We will take our first question from Ryan Nash with Goldman Sachs. Please go ahead.

Ryan Nash: Maybe a two-part question on credit. First, can you — if the full year guide implies a decent acceleration in charge-off performance in the fourth quarter. So, you can maybe just talk a little bit about what’s driving that? And then second, maybe just tease out what gives you confidence that we’re going to follow, seasonal patterns from here given a handful of moving pieces, inflation, resumption of student loan payments. And then obviously, we have the growth math impacts from ’22 and ’23 but offsetting that, you guys obviously were one of the more conservative in underwriting given some of the tightening that you have done. So can you maybe just walk through all of those moving pieces and what you think it means for the trajectory of credit losses?

Brian Wenzel: Sure. I’ll try to get to all those embedded questions, Ryan. So the first one, as you think about the fourth quarter, I mean you look at the dollar value, a little over $2 billion sitting in the 90-plus delinquency bucket, so I think if you go back and look at how it rolls, you get a pretty good sense of what we see from the fourth quarter. I’d say the delinquency performance has made consistent really throughout 2023. And really what you have here is a factor of our entry rate into delinquency is still below the pandemic period. So it’s back — it’s lower than 2018, 2019, which makes collections a little bit tougher on the stuff that does roll in. So that’s how I think about the fourth quarter. When you start to think about 2024 and really how we get comfortable around, credit performs, a handful of things to hit back and say, number one, we didn’t accordion the credit box, right?

So we open and close in on our partners. So our underwriting was consistent. And to some degree, in the early part of the pandemic, we did not shrink as much. We’d not expand as much when everyone was trying to make up for the lost vintages. So, we kind of kept consistent throughout that period, number one. Number two, our PRISM advanced underwriting tools allows us to score line and use that data from our partners, we think, hopefully, we made very good choices or good choices during the pandemic period. When I then look at some of the data, Ryan, I still look at the vintages that we put on in the pandemic period, they’re generally performing in line with the ’18, ’19 vintages. So, we’re not seeing deterioration. Even when we look externally, the TransUnion data, we see we’re performing better than the vintages of other folks.

So again, I think we feel comfortable with the tools we have in place and we’re comfortable with the performance. That said, Ryan, we did take some actions here in the quarter, and that was mainly around the fact that we do have a shared consumer. So other people who have maybe made certain underwriting choices can flow through to us. And so, we want to make sure that our loss rate stays in our targeted range, and we really took actions in order to ensure or try to ensure that we stay within our targeted underwriting washer of 5.5 to 6 and optimize our risk-adjusted margin.

Ryan Nash: Got it. Maybe as a follow up, Ryan, so you know, the RSA seems to be coming in better than had initially been forecasted given the guidance for $395 million for the year. And we look forward, losses are on a continued normalization and loan growth seems to be slowing. So, can you maybe just tease out some of the moving pieces as we head into ’24? It feels like we’re kind of back in an environment similar to where we were in the 2018, 2019 timeframe when credit was normalizing and the RSA was coming in well below that 4% threshold. So, can you maybe talk through some of those pieces? Thank you.

Brian Wenzel: Yes, thanks again, Ryan. As I think about the RSA, it’s really performing as we designed it to be, right? So when losses were extremely low, it went over 6% level and now we’re back into an environment today it’s sub four, and again it driven by a couple of factors. One, the charge off rate, charge off dollars are clearly an impact, most certainly the impact of cost of funds and interest-bearing liabilities just flowing through. I think as you think forward the things that are going to make it move a little bit, it’s going to be the mix of the portfolio. Obviously, you look at something like health and wellness we don’t have as much of RSA its growing a little bit faster. And then again, you’re going to have in some of the other portfolios that have a maybe higher percentage of RSAs depending upon their growth rates will influence it.

But again, it should track consistently. I always point to Ryan we’ve talked about this before, if you looked at RSAs as a percent of purchase volume, it is pretty stable through seasonal trends. So, again, we expect it to continue to operate the way it historically has.

Operator: Thank you. We’ll take our next question from Erika Najarian with UBS. Please go ahead.

Erika Najarian: My first question is on direction of the net interest margin. So it seems like we’ve fully solidified the notion of hire for longer in ’24. How should we think about how your net interest margin should perform in a higher for longer environment? And as we think about funding costs on the other side of the cycle, when we eventually get to rate cuts, although the forward curve keeps pushing that out, how sensitive should we think about your funding costs relative to cuts and fed funds?

Brian Wenzel: Yes. Thanks, Erika. So I think as we think about the margin as we move forward here, there’s a little bit of tailwind still to go on prime rate. That flows through the book here in the fourth quarter. I think the second thing you’re going to continue to see a benefit on the margin coming from higher revolve. We’re still paying rates that are 130 basis points above the pandemic period. So again, there should be some push up there. There should be a little bit of a headwind relative to reversals that go against that. So that’s really, as I think about the yield side of the equation. On the interest-bearing liabilities side of the equation, Again, there are a lot of assets that were put on — excuse me, a lot of deposits that were put on this year, they’re going to have to reset next year.

So a little bit of tick up next year in the interest-bearing liabilities as those shorter days CDs hopefully renew. I think when you get to the backside of the cycle, that’s really to be seen, right? There’s a case that can be made where betas will be a little bit slower coming down for some of the folks that want to try to gather deposits and get the yield side of their investment portfolio is up. There are some that are going to want to try to push down the cost of fund base or NIM sensitive. So, I think as we get closer to that, we can probably give you a better perspective of which way that will turn.

Erika Najarian: Got it. And my second question is on capital. There’s been a lot of discussion for card companies in particular with regards to how we should treat unfunded commitments and also the timing differences in terms of higher ACL ratios in terms of the numerator deductions. So could you give us a little bit of a preview, so to speak, on how the pending new capital rules could impact Synchrony? And how you’re expecting that to impact your approach to capital management?

Brian Wenzel: Yes, great question, Erika. So when we look at the rules, the first thing I’d say, probably along with others, we’re clearly disappointed with the proposed rules around capital, both from the process in which the fed went through as well as certain elements that we don’t think we’re clearly thought through fully if you thought about a holistic review of the capital stack, right? You combine that with what I would say some apparent gold plating. It’s very difficult, I think, for the industry as a whole. And I think you’re seeing that in bank’s feedback, I think you’re seeing it through the trade group feedback. And I think there’s some even level of concern with the fed governors with regard to that. And then finally, when you think about Synchrony before I get to the details, we’re clearly disappointed that the tailoring rules effectively have been eliminated by treating us on the same level as a lot of the other banking institutions.