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CIT > SEC Filings for CIT > Form 10-Q on 9-Nov-2012All Recent SEC Filings

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Form 10-Q for CIT GROUP INC


9-Nov-2012

Quarterly Report


Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations

and

Item 3. Quantitative and Qualitative Disclosures about Market Risk


OVERVIEW

Founded in 1908, CIT Group Inc. ("we", "CIT" or the "Company"), a Delaware Corporation, provides commercial financing and leasing products and other financial services to small and middle market businesses across a wide variety of industries. CIT became a bank holding company ("BHC") in December 2008 and CIT Bank, a Utah state-chartered bank, is the Company's principal bank subsidiary.

CIT operates primarily in North America, with additional locations in Europe, South America and Asia and has four commercial business segments - Corporate Finance, Trade Finance, Transportation Finance and Vendor Finance. We also own and manage a pool of liquidating consumer loans, predominantly government guaranteed student loans, that are reported in the Consumer segment.

As of September 30, 2012 the Company had approximately 3,630 employees and over $43 billion in assets.

"Management's Discussion and Analysis of Financial Condition and Results of Operations" and "Quantitative and Qualitative Disclosures about Market Risk" contain financial terms that are relevant to our business. You can find a glossary of key terms used in Part I Item 1. Business Section in our Form 10-K for the year ended December 31, 2011 (the "2011 Form 10-K").

Management uses certain non-GAAP financial measures in its analysis of the financial condition and results of operations of the Company. See "Non-GAAP Financial Measurements" for a reconciliation of these to comparable accounting principles generally accepted in the United States of America ("GAAP") measures.

2012 PRIORITIES AND PROGRESS

Our 2012 priorities were developed to further advance our broader strategic initiatives centered on improving our financial condition, enhancing our business model, and further improving our approach to risk management and control functions. During the third quarter, we reached an important strategic milestone as we completed the refinancing or repayment of all of the nearly $31 billion of debt that was originally issued in the 2009 restructuring. The following highlights some of our other accomplishments by priority:

1. Accelerate Growth and Business Development Initiatives

Increased new business activity. Both committed and funded volume increased from the prior-year period in all commercial segments. For the nine months ended September 30, 2012, committed volume rose 26% to $7.7 billion. Third quarter 2012 committed new business volume was $2.5 billion, up 7% from the prior-year quarter. For the nine months ended September 30, 2012 funded volume rose 33% to $6.5 billion. Funded new business volume was $2.2 billion in the third quarter, a 16% increase from the prior-year quarter.

Increased commercial assets. Commercial financing and leasing assets increased $606 million from June 30, 2012, to $29.6 billion, reflecting increases across all of the commercial segments. Commercial financing and leasing assets increased 6% since December 31, 2011 and 10% from a year ago.

2. Improve Profitability While Maintaining Financial Strength

While we reported a pre-tax loss of $749 million for the nine months ended September 30, 2012, compared to pre-tax income of $110 million for the prior-year period, pre-tax income excluding debt redemption charges(1) was $628 million, improved from $488 million in 2011.

We reported a pre-tax loss for the 2012 third quarter of $301 million driven by debt redemption charges(2), compared to pre-tax income of $7 million for the year ago quarter. We had pre-tax income excluding debt redemption charges of $170 million, down from $176 million in the prior-year quarter, driven by lower net FSA accretion and other income.



(1) Pre-tax income excluding debt redemption charges is a non-GAAP measure. See "Non-GAAP Financial Measurements" for reconciliation of non-GAAP to GAAP financial information.

(2) Debt redemption charges include accelerated fresh start accounting debt discount amortization, loss on debt extinguishments and prepayment costs. See "Non-GAAP Financial Measurements" for components.

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The weighted average coupon rates of outstanding deposits and long-term borrowings declined to 3.28% at September 30, 2012 from 4.84% at September 30, 2011 and 3.83% at June 30, 2012.

Deposits increased, both in dollars and as a percentage of total CIT funding. As of September 30, 2012, total CIT deposits were $8.7 billion and comprised 28% of total CIT funding, compared to 15% and 23% at September 30, 2011 and June 30, 2012, respectively.

We continue to maintain our excess capital position. While Tier 1 and Total Capital ratios at September 30, 2012 of 16.7% and 17.5%, respectively, were down from June 30, 2012, and December 31, 2011, they remain well above regulatory requirements.

3. Expand Bank Assets and Funding

Total assets at CIT Bank increased to $11.6 billion from $7.5 billion at September 30, 2011 and $10.0 billion at June 30, 2012. Commercial loans and leases of $7.3 billion increased from $2.9 billion at September 30, 2011 and $6.3 billion at June 30, 2012.

Third quarter committed loan volume of $1.7 billion at CIT Bank rose 38% from the year-ago period, of which nearly $1.4 billion was funded.

CIT Bank deposits totaled $8.6 billion at September 30, 2012, up from $4.9 billion at September 30, 2011 and $7.1 billion at June 30, 2012. The average interest rate on deposits at CIT Bank was 1.8% at September 30, 2012, down from 2.7% at September 30, 2011 and 2.0% at June 30, 2012. The primary driver of the higher balances resulted from raising internet deposits. Internet deposits originated in 2012 also included savings accounts. CIT Bank began offering on-line savings accounts in March 2012 to supplement the current range of CD offerings to consumers.

During the remainder of 2012 and into 2013, we will focus on growing earning assets, managing expenses and growing CIT Bank assets and deposits, as well as enhancing internal control functions and our relationships with our regulators. We are focused on meeting our profitability target of 1.5 - 2% of AEA. While we have made progress on some of the elements, we recognize it may take longer to achieve our target asset level given the current macro challenges and have therefore initiated a plan to reduce operating expenses in order to reach our operating expense target of 2 - 2.25% of AEA. We plan to reduce the quarterly run rate by $15 million to $20 million, which will be phased in over 2013 through improved operating efficiencies and expense reductions.

2012 FINANCIAL OVERVIEW

Our 2012 operating results reflected increased commercial business activity and debt redemption and refinancing activities. We achieved our goal of refinancing or redeeming all the approximately $31 billion of debt incurred in the 2009 restructuring, including the remaining $4.6 billion in the third quarter.

Net loss for the quarter and nine months ended September 30, 2012 totaled $305 million and $822 million, $1.52 and $4.09 per diluted share, largely influenced by accelerated FSA net discount/(premium) on debt extinguishments and repurchases, loss on debt extinguishments and prepayment costs (collectively "debt redemption charges"). These net losses compare to net losses of $33 million for the 2011 third quarter, $0.16 per diluted share, and $17 million, $0.08 per diluted share for the nine months ended September 30, 2011. The 2012 amounts included debt redemption charges(2) of $471 million in the third quarter and $1.4 billion year to date related to the redemption of high cost debt, while the year-ago periods included debt redemption charges of $169 million for the quarter and $379 million for the year to date.

Pre-tax loss totaled $301 million for the 2012 third quarter and $749 million year to date, compared to pre-tax income of $7 million for the 2011 third quarter and $110 million for the nine months. Although down on a GAAP basis, pre-tax income excluding debt redemption charges was $170 million for the quarter and $628 million for the nine months, respectively, compared to $176 million in the 2011 third quarter and $488 million for the prior-year nine months. Pre-tax income excluding debt redemption charges and net FSA accretion/amortization(3) for the 2012 third quarter was $103 million and $377 million year to date, up from $91 million in the 2011 third quarter and $162 million for the prior-year nine months, driven by lower funding costs and lower credit costs. The 2012 quarter and year to date included net FSA costs of $387 million and $1.1 billion, primarily due to the acceleration of interest expense related to the redemption of high cost debt, while the 2011 third quarter and year to date included net FSA benefits of $83 million and $200 million.



(2) Debt redemption charges include accelerated fresh start accounting debt discount amortization, loss on debt extinguishments and prepayment costs. See "Non-GAAP Financial Measurements" for components.

(3) Pre-tax income excluding debt redemption charges and net FSA accretion/amortization is a non-GAAP measure. See "Non-GAAP Financial Measurements" for reconciliation of non-GAAP to GAAP financial information.

Item 2: Management's Discussion and Analysis and Item 3: Quantitative and Qualitative Disclosures about Market Risk 37


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The following table presents pre-tax results adjusted for debt related transaction costs and FSA accretion. This is a non-GAAP measurement.


Impacts of FSA Accretion and Debt Refinancing Costs on Pre-tax Income (Loss)
(dollars in millions)
--------------------------------------------------------------------------------
                                                          Quarters Ended
                                      ------------------------------------------------------            Nine Months Ended
                                                                                                          September 30,
                                       September 30,         June 30,        September 30,      ---------------------------------
                                            2012               2012               2011               2012               2011
                                      ----------------    --------------    ----------------    ---------------    --------------
Pre-tax income/(loss) -
reported                                $   (301.2 )        $  (41.7 )        $      6.8          $  (748.6 )        $  109.8
Accelerated FSA net
discount/(premium) on debt
extinguishments and
repurchases                                  453.9             264.9                 2.4            1,315.7             126.9
Debt related - loss on debt
extinguishments                               16.8              21.5               146.6               61.2             146.6
Debt related - prepayment
costs                                            -                 -                20.0                  -             105.0
Pre-tax income - excluding
debt refinancing costs                       169.5             244.7               175.8              628.3             488.3
Net FSA accretion (excluding
debt related acceleration)                   (66.5 )          (125.6 )             (84.9 )           (251.7 )          (326.8 )
Pre-tax income - excluding
debt refinancing costs and
FSA net accretion                       $    103.0          $  119.1          $     90.9          $   376.6          $  161.5

Net finance revenue(4) ("NFR") continues to be impacted by accelerated interest expense related to the redemption of high cost debt. The negative NFR for the 2012 third quarter and year to date was driven by the FSA discount accretion resulting from repayments of over $15 billion of high cost debt for the nine months, including the remaining $4.6 billion in the third quarter. NFR was $184 million for the 2011 third quarter, $85 million in the 2012 second quarter and $434 million for the 2011 nine months. Average earning assets(4) ("AEA") were $32.3 billion in the 2012 third quarter, down $1.4 billion from the year-ago quarter primarily due to asset sales and essentially unchanged from the 2012 second quarter as commercial asset growth was slightly outpaced by a sale of student loans that occurred later in the second quarter. Average commercial earning assets were $27.9 billion and rose from both comparative periods. NFR as a percentage of AEA ("net finance margin" or "NFM") was (1.59%) reflecting debt redemption costs, compared to 2.19% in the prior-year quarter and 1.05% in the second quarter of 2012. Excluding net FSA accretion and debt prepayment costs, net finance margin was 2.97% for the 2012 third quarter, improved from 1.58% in the year-ago quarter and essentially unchanged from the second quarter. The increase from the year-ago quarter was driven primarily by lower funding costs and the reduction of low yielding assets. When compared to the prior quarter, the benefits of lower funding costs were essentially offset by lower interest recoveries and other yield-related fees. Net operating lease revenue increased compared to the 2011 periods on higher assets in Transportation Finance but declined modestly from the 2012 second quarter. For the nine months ended September 30, 2012, net finance margin excluding net FSA accretion and debt prepayment costs was 2.65%, up from 1.46% last year. While other institutions may use net interest margin ("NIM"), defined as interest income less interest expense, we discuss NFR, which includes operating lease results, due to their significant impact on revenue and expense, including rental revenue and depreciation expense.

Provision for credit losses for the quarter ended September 30, 2012 was negligible, compared to $47 million in the year-ago quarter and $9 million last quarter. For the nine months ended September 30, 2012, the provision for credit losses was $52 million, down from $254 million last year. These favorable trends reflect the overall improvements in credit metrics, most notably the decline in net charge-offs.

Other income (excluding operating lease rentals) of $81 million decreased $162 million from the prior-year quarter and $63 million sequentially, largely due to reduced gains on assets sold, lower counterparty receivable accretion, and fewer recoveries of loans charged off pre-emergence. Factoring commissions of $33 million were down slightly from the prior-year quarter, reflecting lower factoring volume, and up sequentially, due to seasonality. Year to date, other income totaled $475 million, down from $747 million last year, reflecting a decline in gains on asset sales, recoveries of loans charged off pre-emergence and an increase in impairment charges on operating lease equipment held for sale.

Operating expenses were $238 million and included $5 million of restructuring-related costs. Operating expenses declined from the prior quarter but were up modestly from the year-ago quarter, as a decline in professional fees was offset by increases in costs related to raising deposits and technology costs. Headcount at September 30, 2012 was approximately 3,630, compared to approximately 3,480 a year ago and approximately 3,570 at June 30, 2012. Year to date, operating expenses totaled $701 million, compared to $670 million last year.



(4) Net finance revenue and average earning assets are non-GAAP measures; see "Non-GAAP Financial Measurements" for a reconciliation of non-GAAP to GAAP financial information.

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Provision for income taxes in the third quarter was $3 million, significantly lower than recent quarters. The decline from prior periods is the result of a greater proportion of earnings in countries with lower tax rates. For the nine months ended September 30, 2012, the provision for income taxes was $71 million, down from $124 million a year ago.

Total assets at September 30, 2012 were $43.6 billion, up $0.8 billion from June 30, 2012, but down from $44.6 billion at September 30, 2011 as growth in the commercial portfolio was offset by sales and runoff of over $3 billion of government-guaranteed student loans over the past four quarters. Commercial financing and leasing assets increased to $29.6 billion, up $2.6 billion from a year-ago and $0.6 billion from June 30, 2012. Total loans rose approximately $300 million during the quarter to $20.4 billion, but declined $1.4 billion from a year ago due to the decline in consumer assets. Operating lease equipment increased to $12.1 billion, up nearly $1 billion from September 30, 2011 and approximately $0.2 billion since June 30, 2012, reflecting aircraft and rail car deliveries. Cash and short-term investments increased $0.2 billion from June 30, 2012 to $7.2 billion, as higher cash balances at CIT Bank, reflecting the success of raising deposits, more than offset a decline in cash in operating subsidiaries.

Funded new business volume of $2.2 billion increased 16% from the prior-year quarter, while committed new business volume of $2.5 billion increased 7%, reflecting strong increases in Corporate Finance and Vendor Finance. Compared to the second quarter, volume decreased in Corporate Finance and Vendor Finance, as well as in Transportation Finance, which had fewer scheduled deliveries. Funded new business volume was up 33% to $6.5 billion for the nine months ended September 30, 2012 compared to last year, while committed new business volume of $7.7 billion was up 26% for the nine months ended September 30, 2012. Trade Finance factoring volume of $6.4 billion increased 8% sequentially, reflecting seasonal trends, but declined by approximately 6% from the year-ago quarter. Factoring volume of $18.3 billion for the nine months ended September 30, 2012, was down 4% from the 2011 period. The declines reflect slowing sales in the apparel sector.

Credit metrics reflected the continuation of favorable trends in the third quarter, as non-accrual loans declined both sequentially and from the prior-year quarter, and net charge-offs remained at low levels. Net charge-offs were $18 million, or 0.36% as a percentage of average finance receivables, versus $46 million (0.83%) in the year-ago quarter and $17 million (0.33%) in the prior quarter. Net charge-offs in our commercial segments were 0.44% of average finance receivables, compared to 1.21% in the year-ago quarter and 0.42% in the prior quarter. These continued favorable levels were driven largely by Corporate Finance, as net charge-offs in this segment were below both comparison periods. The modest sequential increase in Vendor Finance charge-offs was related to the international portfolio, while the increase in Transportation Finance resulted from a loan secured by aviation equipment. Non-accrual loans further improved and were $412 million, or 2.02% of finance receivables at September 30, 2012. This amount compares to $914 million (4.19%) at September 30, 2011 and $455 million (2.26%) at June 30, 2012. Non-accrual loans as a percentage of finance receivables in the commercial segments were 2.48% at September 30, 2012, significantly improved from 6.11% at September 30, 2011 and 2.80% at June 30, 2012. While there were sequential declines in both the Corporate Finance and Trade Finance segments, there was an increase in Transportation Finance due to the addition of one loan secured by commercial aircraft.

Item 2: Management's Discussion and Analysis and Item 3: Quantitative and Qualitative Disclosures about Market Risk 39


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NET FINANCE REVENUE

The following tables present management's view of consolidated margin and include the net interest spread we make on loans and leased equipment, in dollars and as a percent of average earning assets.


Net Finance Revenue (dollars in millions)
--------------------------------------------------------------------------------
                                                                            Quarters Ended
                                                         -----------------------------------------------------            Nine Months Ended
                                                                                                                            September 30,
                                                          September 30,        June 30,         September 30,     ----------------------------------
                                                              2012               2012               2011               2012               2011
                                                         ---------------    ---------------    ---------------    ---------------    ---------------
Interest income                                           $    374.1         $    409.3         $    502.8         $  1,195.0         $  1,741.2
Rental income on operating leases                              444.4              445.5              409.0            1,329.2            1,238.1
Finance revenue                                                818.5              854.8              911.8            2,524.2            2,979.3
Interest expense                                              (812.1 )           (639.2 )           (603.1 )         (2,531.0 )         (2,108.1 )
Depreciation on operating lease equipment                     (134.5 )           (130.7 )           (124.3 )           (402.7 )           (437.7 )
Net finance revenue                                       $   (128.1 )       $     84.9         $    184.4         $   (409.5 )       $    433.5
Average Earning Assets ("AEA")                            $ 32,251.2         $ 32,307.7         $ 33,668.6         $ 32,565.6         $ 34,517.1
As a % of AEA:
Interest income                                                 4.64 %             5.07 %             5.97 %             4.89 %             6.73 %
Rental income on operating leases                               5.51 %             5.51 %             4.86 %             5.44 %             4.78 %
Finance revenue                                                10.15 %            10.58 %            10.83 %            10.33 %            11.51 %
Interest expense                                              (10.07 )%           (7.91 )%           (7.16 )%          (10.36 )%           (8.15 )%
Depreciation on operating lease equipment                      (1.67 )%           (1.62 )%           (1.48 )%           (1.65 )%           (1.69 )%
Net finance revenue                                            (1.59 )%            1.05 %             2.19 %            (1.68 )%            1.67 %
As a % of AEA by Segment:
Corporate Finance                                              (0.31 )%            2.21 %             1.41 %            (0.10 )%            2.98 %
Transportation Finance                                         (1.75 )%            0.82 %             2.82 %            (1.86 )%            2.05 %
Trade Finance                                                  (3.43 )%           (1.31 )%            0.77 %            (3.65 )%           (1.67 )%
Vendor Finance                                                  3.24 %             4.56 %             8.36 %             2.08 %             6.81 %
Commercial Segments                                            (0.49 )%            1.81 %             3.40 %            (1.08 )%            4.65 %
Consumer                                                        0.17 %             1.76 %             1.16 %             0.22 %             1.02 %

Average earning assets are less than comparable balances displayed later in this document in 'Select Quarterly Financial Data' (Quarterly and year to date Average Balances) due to the exclusion of deposits with banks and other investments and the inclusion of credit balances of factoring clients.

Net finance revenue ("NFR") and NFR as a percentage of AEA (Net Finance Margin or "NFM") are key metrics used by management to measure the profitability of our lending and leasing assets. NFR includes interest and fee income on our loans and capital leases, interest and dividend income on cash and investments, rental revenue and depreciation from our leased equipment as well as funding costs. Given our asset composition includes a high level of operating lease equipment (37% of average earning assets), NFM is a more appropriate metric than net interest margin ("NIM") (a common metric used by other bank holding companies), as NIM does not fully reflect the earnings of our portfolio because it includes the impact of debt costs of all our assets but excludes the net revenue (rental revenue less depreciation) from operating leases.

NFR continues to be significantly impacted by FSA accretion. Net FSA accretion decreased NFR by $391 million during the current quarter, which included higher debt FSA discount accretion resulting from repayments of high cost debt ("accelerated debt FSA discount accretion"), compared to an increase of $56 million (including $20 million of prepayment costs) in the prior-year quarter and a decrease of $184 million in the prior quarter. FSA accretion related to loans and operating leases has declined significantly from the prior year. See Fresh Start Accounting section for FSA accretion details.

Interest income was down from the prior-year quarter and prior quarter primarily reflecting lower FSA accretion, a decline from the prior year in average earning assets and lower interest recoveries. FSA accretion was $59 million in the current quarter, down from $150 million in the prior-year quarter and $77 million in the prior quarter. See Fresh Start Accounting. The 2012 year-to date benefit of $227 million was well below the prior year benefit of $618 million. The remaining accretable FSA discount on loans was $401 million at September 30, 2012, down from $831 million at September 30, 2011 and $453 million at June 30, 2012. Compared to the prior-year quarter and year

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to date, average earning asset balances were down from 2011 largely due to asset sales and repayments.

Interest expense for 2012 included accelerated debt FSA discount accretion resulting from repayments of over $15 billion in high cost debt, including $4.6 billion in the third quarter. Interest expense in the third quarter of 2012 included $454 million of accelerated FSA debt accretion, while the prior-year . . .

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