Annual Statements Open main menu

CITIZENS FINANCIAL GROUP INC/RI - Quarter Report: 2017 March (Form 10-Q)

 
 
 
 
 
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934

For the Quarterly Period Ended
March 31, 2017

[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934

For the Transition Period From
(Not Applicable)
Commission File Number 001-36636
a5422139a7e5fcpreview620a15.jpg
(Exact name of the registrant as specified in its charter)
Delaware
 
05-0412693
(State or Other Jurisdiction of
Incorporation or Organization)
 
(I.R.S. Employer
Identification Number)
One Citizens Plaza, Providence, RI 02903
(Address of principal executive offices, including zip code)
(401) 456-7000
(Registrant’s telephone number, including area code)
Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months and (2) has been subject to such filing requirements for the past 90 days.
[ü] Yes [ ] No
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).
[ü] Yes [ ] No
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act:
Large accelerated filer
[ü]
Accelerated filer
[ ]
Non-accelerated filer (Do not check if a smaller reporting company)
[ ]
Smaller reporting company
[ ]
 
 
Emerging growth company
[ ]
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. [ ]
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). [ ] Yes [ü] No
There were 506,546,241 shares of Registrant’s common stock ($0.01 par value) outstanding on May 1, 2017.




 
 
 
 
 
 
a5422139a7e5fcpreview620a15.jpg
 
 
 
 
Table of Contents
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 


2

CITIZENS FINANCIAL GROUP, INC.

 

GLOSSARY OF ACRONYMS AND TERMS
The following listing provides a comprehensive reference of common acronyms and terms we regularly use in our financial reporting:
AFS
 
Available for Sale
ALLL
 
Allowance for Loan and Lease Losses
AOCI
 
Accumulated Other Comprehensive Income (Loss)
ASU
 
Accounting Standards Update
ATM
 
Automated Teller Machine
Board of Directors
 
The Board of Directors of Citizens Financial Group, Inc.
bps
 
Basis Points
C&I
 
Commercial and Industrial
Capital Plan Rule
 
Federal Reserve’s Regulation Y Capital Plan Rule
CBNA
 
Citizens Bank, N.A.
CBPA
 
Citizens Bank of Pennsylvania
CCAR
 
Comprehensive Capital Analysis and Review
CCB
 
Capital Conservation Buffer
CCO
 
Chief Credit Officer
CET1
 
Common Equity Tier 1
CEO
 
Chief Executive Officer
Citizens or CFG or the Company
 
Citizens Financial Group, Inc. and its Subsidiaries
CLTV
 
Combined Loan to Value
CMO
 
Collateralized Mortgage Obligation
CRE
 
Commercial Real Estate
CRO
 
Chief Risk Officer
DFAST
 
Dodd-Frank Act Stress Test
Dodd-Frank Act
 
The Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010
EPS
 
Earnings Per Share
Exchange Act
 
The Securities Exchange Act of 1934
Fannie Mae (FNMA)
 
Federal National Mortgage Association
FASB
 
Financial Accounting Standards Board
FDIA
 
Federal Deposit Insurance Act
FDIC
 
Federal Deposit Insurance Corporation
FHLB
 
Federal Home Loan Bank
FICO
 
Fair Isaac Corporation (credit rating)
FRB
 
Federal Reserve Board of Governors and, as applicable, Federal Reserve Bank(s)
FTP
 
Funds Transfer Pricing
GAAP
 
Accounting Principles Generally Accepted in the United States of America
Ginnie Mae (GNMA)
 
Government National Mortgage Association
HELOC
 
Home Equity Line of Credit
HTM
 
Held To Maturity
LCR
 
Liquidity Coverage Ratio
LGD
 
Loss Given Default
LIBOR
 
London Interbank Offered Rate
LIHTC
 
Low Income Housing Tax Credit
LTV
 
Loan to Value
MBS
 
Mortgage-Backed Securities
Mid-Atlantic
 
District of Columbia, Delaware, Maryland, New Jersey, New York, Pennsylvania, Virginia, and West Virginia
Midwest
 
Illinois, Indiana, Michigan, and Ohio

3

CITIZENS FINANCIAL GROUP, INC.

 

MD&A
 
Management’s Discussion and Analysis of Financial Condition and Results of Operations
MSR
 
Mortgage Servicing Right
New England
 
Connecticut, Maine, Massachusetts, New Hampshire, Rhode Island, and Vermont
NSFR
 
Net Stable Funding Ratio
OCC
 
Office of the Comptroller of the Currency
OCI
 
Other Comprehensive Income (Loss)
Parent Company
 
Citizens Financial Group, Inc. (the Parent Company of Citizens Bank of Pennsylvania, Citizens Bank, N.A. and other subsidiaries)
PD
 
Probability of Default
peers or peer banks or peer regional banks
 
BB&T, Comerica, Fifth Third, KeyCorp, M&T, PNC, Regions, SunTrust and U.S. Bancorp
RBS
 
The Royal Bank of Scotland Group plc or any of its subsidiaries
ROTCE
 
Return on Average Tangible Common Equity
RPA
 
Risk Participation Agreement
SBO
 
Serviced by Others loan portfolio
SEC
 
United States Securities and Exchange Commission
SVaR
 
Stressed Value at Risk
TDR
 
Troubled Debt Restructuring
VaR
 
Value at Risk
VIE
 
Variable Interest Entities




4

CITIZENS FINANCIAL GROUP, INC.

 

PART I. FINANCIAL INFORMATION
ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

 
 
Page
Forward-Looking Statements
 
 
 
Selected Consolidated Financial Data
 
 
Results of Operations
 
 
 
 
 
 
 
 
 
Analysis of Financial Condition
 
 
 
 
 
 
 
 
 
 
 
 
 
 


5

CITIZENS FINANCIAL GROUP, INC.
FORWARD-LOOKING STATEMENTS



Forward-Looking Statements
This document contains forward-looking statements within the Private Securities Litigation Reform Act of 1995. Statements regarding potential future share repurchases and future dividends are forward-looking statements. Also, any statement that does not describe historical or current facts is a forward-looking statement. These statements often include the words “believes,” “expects,” “anticipates,” “estimates,” “intends,” “plans,” “goals,” “targets,” “initiatives,” “potentially,” “probably,” “projects,” “outlook” or similar expressions or future conditional verbs such as “may,” “will,” “should,” “would,” and “could.”

Forward-looking statements are based upon the current beliefs and expectations of management, and on information currently available to management. Our statements speak as of the date hereof, and we do not assume any obligation to update these statements or to update the reasons why actual results could differ from those contained in such statements in light of new information or future events. We caution you, therefore, against relying on any of these forward-looking statements. They are neither statements of historical fact nor guarantees or assurances of future performance. While there is no assurance that any list of risks and uncertainties or risk factors is complete, important factors that could cause actual results to differ materially from those in the forward-looking statements include the following, without limitation:
Negative economic conditions that adversely affect the general economy, housing prices, the job market, consumer confidence and spending habits which may affect, among other things, the level of nonperforming assets, charge-offs and provision expense;
The rate of growth in the economy and employment levels, as well as general business and economic conditions;
Our ability to implement our strategic plan, including the cost savings and efficiency components, and achieve our indicative performance targets;
Our ability to remedy regulatory deficiencies and meet supervisory requirements and expectations;
Liabilities and business restrictions resulting from litigation and regulatory investigations;
Our capital and liquidity requirements (including under regulatory capital standards, such as the U.S. Basel III capital rules) and our ability to generate capital internally or raise capital on favorable terms;
The effect of the current relatively low interest rate environment compared to historical levels or changes in interest rates on our net interest income, net interest margin and our mortgage originations, mortgage servicing rights and mortgages held for sale;
Changes in interest rates and market liquidity, as well as the magnitude of such changes, which may reduce interest margins, impact funding sources and affect the ability to originate and distribute financial products in the primary and secondary markets;
The effect of changes in the level of checking or savings account deposits on our funding costs and net interest margin;
Financial services reform and other current, pending or future legislation or regulation that could have a negative effect on our revenue and businesses, including the Dodd-Frank Act and other legislation and regulation relating to bank products and services;
A failure in or breach of our operational or security systems or infrastructure, or those of our third party vendors or other service providers, including as a result of cyber-attacks; and
Management’s ability to identify and manage these and other risks.
In addition to the above factors, we also caution that the amount and timing of any future common stock dividends or share repurchases will depend on our financial condition, earnings, cash needs, regulatory constraints, capital requirements (including requirements of our subsidiaries), and any other factors that our Board of Directors deems relevant in making such a determination. Therefore, there can be no assurance that we will pay any dividends to holders of our common stock, or as to the amount of any such dividends.

More information about factors that could cause actual results to differ materially from those described in the forward-looking statements can be found under “Risk Factors” in our Annual Report on Form 10-K for the year ended December 31, 2016.

6

CITIZENS FINANCIAL GROUP, INC.
MANAGEMENT’S DISCUSSION AND ANALYSIS

INTRODUCTION
Citizens Financial Group, Inc. is one of the nation’s oldest and largest financial institutions, with $150.3 billion in assets as of March 31, 2017. Headquartered in Providence, Rhode Island, we deliver a broad range of retail and commercial banking products and services to consumers, businesses, corporations, and institutions through our principal banking subsidiaries Citizens Bank, N.A. and Citizens Bank of Pennsylvania. Our primary banking footprint includes approximately 1,200 branches and 3,200 ATMs located in 11 states across the New England, Mid-Atlantic and Midwest regions, and we also serve customers through other national direct and third party delivery channels including our digital and telephone channels. We have two operating segments, Consumer Banking and Commercial Banking, with non-segment activities, such as functional and non-core activities, included in Other. In addition to more traditional financial services offered by the banking subsidiaries, our other subsidiaries provide wealth management and investment services, securities brokerage, and capital markets services.
Consumer Banking serves retail customers and small businesses with annual revenues of up to $25 million with a range of products and services that include deposit products, mortgage and home equity lending, education loans, auto financing, credit cards, business loans, and unsecured product finance and personal loans in addition to wealth management and investment services.
Commercial Banking offers corporate, institutional and not-for-profit clients a full range of wholesale banking products and services including lending and deposits, capital markets, treasury services, foreign exchange and interest hedging, leasing and asset finance, specialty finance and trade finance.
The following MD&A is intended to assist readers in their analysis of the accompanying Consolidated Financial Statements and supplemental financial information. It should be read in conjunction with the Consolidated Financial Statements and Notes to the Consolidated Financial Statements in Item 1 of this Form 10-Q, as well as other information contained in this document and our 2016 Annual Report on Form 10-K.


7

CITIZENS FINANCIAL GROUP, INC.
MANAGEMENT’S DISCUSSION AND ANALYSIS

FINANCIAL PERFORMANCE
First Quarter 2017 compared with First Quarter 2016
Key Highlights
First quarter 2017 net income of $320 million, increased 43% from $223 million in first quarter 2016, with earnings per diluted common share of $0.61, up 49% from $0.41 per diluted common share in first quarter 2016. Our first quarter 2017 results include a $23 million benefit, or $0.04 per diluted common share, related to the settlement of certain state tax matters. First quarter 2017 ROTCE of 9.7% improved from 6.6% in first quarter 2016.
On an Underlying basis*, excluding a $23 million benefit related to the settlement of certain state tax matters, first quarter 2017 net income of $297 million was up 33% from first quarter 2016. First quarter 2017 earnings per diluted common share of $0.57 was up 39% versus first quarter 2016. First quarter 2017 Underlying ROTCE of 9.0% improved by 237 basis points relative to first quarter 2016.
First quarter results reflected a 45% increase in net income available to common stockholders, led by revenue growth of 12%, with strength in net interest income given 8% average loan growth and a ten basis point increase in net interest margin, as well as noninterest income growth of 15%.
Continued strong focus on top-line growth and expense management helped drive positive operating leverage of 7%, a 4% improvement in the efficiency ratio and more than a 3% improvement in ROTCE, even as we continue to reinvest in technology and business initiatives to improve our products and services and drive future growth.
Provision for credit losses increased by $5 million, largely reflecting the continued return to more normalized net charge-off levels.
Results also reflected a 6.5% reduction in the income tax rate driven by the settlement of certain state tax matters.
Fully diluted average common shares outstanding decreased by 19.1 million.

















*
“Underlying” results exclude a $23 million benefit related to the settlement of certain state tax matters in first quarter 2017. For more information on the computation of non-GAAP financial measures, see “—Principal Components of Operations and Key Performance Metrics Used by Management — Key Performance Metrics and Non-GAAP Financial Measures.”


8

CITIZENS FINANCIAL GROUP, INC.
MANAGEMENT’S DISCUSSION AND ANALYSIS

Selected Consolidated Financial Data
The summary Consolidated Operating Data for the three months ended March 31, 2017 and 2016 and the summary Consolidated Balance Sheet data as of March 31, 2017 and December 31, 2016 are derived from our unaudited interim Consolidated Financial Statements included in Part I, Item 1 — Financial Statements of this report. Our historical results are not necessarily indicative of the results expected for any future period.
Our unaudited interim Consolidated Financial Statements have been prepared on the same basis as the audited Consolidated Financial Statements and include all adjustments, consisting of normal recurring adjustments, necessary for a fair presentation of the information set forth herein. Our operating results for the three months ended March 31, 2017 are not necessarily indicative of those to be expected for the year ending December 31, 2017 or for any future period. The following selected consolidated financial data should be read in conjunction with our unaudited interim Consolidated Financial Statements and the Notes thereto.

 
Three Months Ended March 31,
(dollars in millions, except per-share amounts)
  2017
 
2016
OPERATING DATA:
 
 
 
Net interest income

$1,005

 

$904

Noninterest income
379

 
330

Total revenue
1,384

 
1,234

Provision for credit losses
96

 
91

Noninterest expense
854

 
811

Income before income tax expense
434

 
332

Income tax expense
114

 
109

Net income

$320

 

$223

Net income available to common stockholders

$313

 

$216

Net income per common share - basic

$0.61

 

$0.41

Net income per common share - diluted

$0.61

 

$0.41

OTHER OPERATING DATA:
 
 
 
Return on average common equity (1)
6.52
%
 
4.45
%
Return on average tangible common equity (2)
9.68

 
6.61

Return on average total assets (3)
0.87

 
0.65

Return on average total tangible assets (4)
0.91

 
0.68

Efficiency ratio (5)
61.68

 
65.66

Operating leverage (6)
6.86

 
4.19

Net interest margin (7)
2.96

 
2.86


9

CITIZENS FINANCIAL GROUP, INC.
MANAGEMENT’S DISCUSSION AND ANALYSIS

(dollars in millions)
March 31,
2017
 
December 31,
2016
BALANCE SHEET DATA:
 
 
 
Total assets

$150,285

 

$149,520

Loans and leases (8)
108,111

 
107,669

Allowance for loan and lease losses
1,224

 
1,236

Total securities
25,996

 
25,610

Goodwill
6,876

 
6,876

Total liabilities
130,438

 
129,773

Total deposits
112,112

 
109,804

Federal funds purchased and securities sold under agreements to repurchase
1,093

 
1,148

Other short-term borrowed funds
2,762

 
3,211

Long-term borrowed funds
11,780

 
12,790

Total stockholders’ equity
19,847

 
19,747

OTHER BALANCE SHEET DATA:
 
 
 
Asset Quality Ratios:
 
 
 
Allowance for loan and lease losses as a percentage of total loans and leases
1.13
%
 
1.15
%
Allowance for loan and lease losses as a percentage of nonperforming loans and leases
116.60

 
118.32

Nonperforming loans and leases as a percentage of total loans and leases
0.97

 
0.97

Capital Ratios:(9)
 
 
 
CET1 capital ratio (10)
11.2

 
11.2

Tier 1 capital ratio (11)
11.4

 
11.4

Total capital ratio (12)
14.0

 
14.0

Tier 1 leverage ratio (13)
9.9

 
9.9

(1) “Return on average common equity” is defined as annualized net income (loss) available to common stockholders divided by average common equity. Average common equity represents average total stockholders’ equity less average preferred stock.
(2) “Return on average tangible common equity” is defined as annualized net income (loss) available to common stockholders divided by average common equity excluding average goodwill (net of related deferred tax liability) and average other intangibles. Average common equity represents average total stockholders’ equity less average preferred stock.
(3) “Return on average total assets” is defined as annualized net income (loss) divided by average total assets.
(4) “Return on average total tangible assets” is defined as annualized net income (loss) divided by average total assets excluding average goodwill (net of related deferred tax liability) and average other intangibles.
(5) “Efficiency ratio is defined as the ratio of our total noninterest expense to the sum of net interest income and total noninterest income.
(6) “Operating leverage” represents the year-over-year percent change in total revenue, less the year-over-year percent change in noninterest expense. For the purpose of the 2016 calculation, 2015 total revenue was $1.2 billion and noninterest expense was $810 million.
(7) “Net interest margin” is defined as annualized net interest income divided by average total interest-earning assets.
(8) Excludes loans held for sale of $669 million and $625 million as of March 31, 2017 and December 31, 2016, respectively.
(9) U.S. Basel III transitional rules for institutions applying the Standardized approach to calculating risk-weighted assets became effective January 1, 2015. The
capital ratios and associated components as of March 31, 2017 and December 31, 2016 are prepared using the U.S. Basel III Standardized transitional approach.
(10) “Common equity tier 1 capital ratio” represents CET1 capital divided by total risk-weighted assets as defined under U.S. Basel III Standardized approach.
(11) “Tier 1 capital ratio” is tier 1 capital, which includes CET1 capital plus non-cumulative perpetual preferred equity that qualifies as additional tier 1 capital,
divided by total risk-weighted assets as defined under U.S. Basel III Standardized approach.
(12) “Total capital ratio” is total capital divided by total risk-weighted assets as defined under U.S. Basel III Standardized approach.
(13) “Tier 1 leverage ratio” is tier 1 capital divided by quarterly average total assets as defined under U.S. Basel III Standardized approach.




10

CITIZENS FINANCIAL GROUP, INC.
MANAGEMENT’S DISCUSSION AND ANALYSIS

Principal Components of Operations and Key Performance Metrics Used by Management
As a banking institution, we manage and evaluate various aspects of our results of operations and our financial condition. We evaluate the levels and trends of the line items included in our balance sheet and statement of operations, as well as various financial ratios that are commonly used in our industry. We analyze these ratios and financial trends against our own historical performance, our budgeted performance and the financial condition and performance of comparable banking institutions in our region and nationally.
The primary line items we use in our key performance metrics to manage and evaluate our statement of operations include net interest income, noninterest income, total revenue, provision for credit losses, noninterest expense, net income and net income available to common stockholders. The primary line items we use in our key performance metrics to manage and evaluate our balance sheet data include loans and leases, securities, allowance for credit losses, deposits, borrowed funds and derivatives.
In first quarter 2017, certain prior period noninterest income amounts reported in the Consolidated Statement of Operations were reclassified to enhance transparency and provide additional granularity, particularly with regard to fee income related to customer activity. Additionally, student loans were renamed “education” loans to more closely align with the full range of services offered to borrowers, from loan origination to refinancing. These changes had no effect on net income, total comprehensive income, total assets or total stockholders’ equity as previously reported.
Key performance metrics and non-GAAP financial measures
We consider various measures when evaluating our performance and making day-to-day operating decisions, as well as evaluating capital utilization and adequacy, including:
Return on average common equity, which we define as annualized net income available to common stockholders divided by average common equity;
Return on average tangible common equity, which we define as annualized net income available to common stockholders divided by average common equity excluding average goodwill (net of related deferred tax liability) and average other intangibles;
Return on average total assets, which we define as annualized net income divided by average total assets;
Return on average total tangible assets, which we define as annualized net income divided by average total assets excluding average goodwill (net of related deferred tax liability) and average other intangibles;
Efficiency ratio, which we define as the ratio of our total noninterest expense to the sum of net interest income and total noninterest income. We measure our efficiency ratio to evaluate the efficiency of our operations as it helps us monitor how costs are changing compared to our income. A decrease in our efficiency ratio represents improvement;
Operating leverage, which we define as the percent change in total revenue, less the percent change in noninterest expense;
Net interest margin, which we calculate by dividing annualized net interest income for the period by average total interest-earning assets, is a key measure that we use to evaluate our net interest income; and
Common equity tier 1 capital ratio (U.S. Basel III Standardized fully phased-in basis), represents CET1 capital divided by total risk-weighted assets as defined under U.S Basel III Standardized approach.
“Underlying” results, which are non-GAAP measures, exclude certain items, as applicable, that may occur in a reporting period which management does not consider indicative of on-going financial performance.
We believe these non-GAAP measures provide useful information to investors because these are among the measures used by our management team to evaluate our operating performance and make day-to-day operating decisions. In addition, we believe our “Underlying” results in any period reflect our operational performance in that period and, accordingly, it is useful to consider our GAAP results and our “Underlying” results together. We believe this presentation also increases comparability of period-to-period results.
Other companies may use similarly titled non-GAAP financial measures that are calculated differently from the way we calculate such measures. Accordingly, our non-GAAP financial measures may not be comparable to similar measures used by other companies. We caution investors not to place undue reliance on such non-GAAP measures, but instead to consider them with the most directly comparable GAAP measure. Non-GAAP financial measures have

11

CITIZENS FINANCIAL GROUP, INC.
MANAGEMENT’S DISCUSSION AND ANALYSIS

limitations as analytical tools, and should not be considered in isolation, or as a substitute for our results as reported under GAAP.
Non-GAAP measures are denoted throughout “Management's Discussion and Analysis of Financial Condition and Results of Operations” by the use of the term “Underlying” and are followed by an asterisk (*).

The following table presents computations of key performance metrics used throughout “Management's Discussion and Analysis of Financial Condition and Results of Operations”:
 
 
 
As of and for the Three Months Ended March 31,
(dollars in millions)
Ref.
 
2017

 
2016

Total revenue (GAAP)
A
 

$1,384

 

$1,234

Noninterest expense (GAAP)
B
 
854

 
811

Net income (GAAP)
C
 
320

 
223

Net income available to common stockholders (GAAP)
D
 
313

 
216

Return on average common equity:
 
 
 
 
 
Average common equity (GAAP)
E
 

$19,460

 

$19,567

Return on average common equity
D/E
 
6.52
%
 
4.45
%
Return on average tangible common equity:
 
 
 
 
 
Average common equity (GAAP)
E
 

$19,460

 

$19,567

Less: Average goodwill (GAAP)
 
 
6,876

 
6,876

Less: Average other intangibles (GAAP)
 
 

 
3

Add: Average deferred tax liabilities related to goodwill (GAAP)
 
 
531

 
481

Average tangible common equity
F
 

$13,115

 

$13,169

Return on average tangible common equity
D/F
 
9.68
%
 
6.61
%
Return on average total assets:
 
 
 
 
 
Average total assets (GAAP)
G
 

$148,786

 

$138,780

Return on average total assets
C/G
 
0.87
%
 
0.65
%
Return on average total tangible assets:
 
 
 
 
 
Average total assets (GAAP)
G
 

$148,786

 

$138,780

Less: Average goodwill (GAAP)
 
 
6,876

 
6,876

Less: Average other intangibles (GAAP)
 
 

 
3

Add: Average deferred tax liabilities related to goodwill (GAAP)
 
 
531

 
481

Average tangible assets
H
 

$142,441

 

$132,382

Return on average total tangible assets
C/H
 
0.91
%
 
0.68
%
Efficiency ratio:
 
 
 
 
 
Efficiency ratio
B/A
 
61.68
%
 
65.66
%
Operating Leverage:
 
 
 
 
 
Increase (decrease) in total revenue
 
 
12.16
%
 
4.31
%
Increase (decrease) noninterest expense
 
 
5.30

 
0.12

Operating Leverage
 
 
6.86
%
 
4.19
%

12

CITIZENS FINANCIAL GROUP, INC.
MANAGEMENT’S DISCUSSION AND ANALYSIS

The following table presents computations of non-GAAP financial measures used throughout “Management's Discussion and Analysis of Financial Condition and Results of Operations”:
 
 
 
As of and for the Three Months Ended March 31,
(in millions, except share, per-share and ratio data)
Ref.
 
2017

 
2016

Income before income tax expense (GAAP)
I
 

$434

 

$332

Income tax expense and effective income tax rate, Underlying:
 
 
 
 
 
Income tax expense (GAAP)
J
 

$114

 

$109

Less: Settlement of certain state tax matters
 
 
(23
)
 

Income tax expense, Underlying (non-GAAP)
K
 

$137

 

$109

Effective income tax rate (GAAP)
J/I
 
26.36
%
 
32.87
%
Effective income tax rate, Underlying (non-GAAP)
K/I
 
31.56

 
32.87

Net income, Underlying:
 
 
 
 
 
Net income (GAAP)
C
 

$320

 

$223

Less: Settlement of certain state tax matters
 
 
23

 

Net income, Underlying (non-GAAP)
L
 

$297

 

$223

Net income available to common stockholders, Underlying:
 
 
 
 
 
Net income available to common stockholders (GAAP)
D
 

$313

 

$216

Less: Settlement of certain state tax matters
 
 
23

 

Net income available to common stockholders, Underlying (non-GAAP)
M
 

$290

 

$216

Return on average common equity and return on average common equity, Underlying:
 
 
 
 
 
Average common equity (GAAP)
E
 

$19,460

 

$19,567

Return on average common equity
D/E
 
6.52
%
 
4.45
%
Return on average common equity, Underlying (non-GAAP)
M/E
 
6.05

 
4.45

Return on average tangible common equity and return on average tangible common equity, Underlying:
 
 
 
 
 
Average common equity (GAAP)
E
 

$19,460

 

$19,567

Less: Average goodwill (GAAP)
 
 
6,876

 
6,876

Less: Average other intangibles (GAAP)
 
 

 
3

Add: Average deferred tax liabilities related to goodwill (GAAP)
 
 
531

 
481

Average tangible common equity
F
 

$13,115

 

$13,169

Return on average tangible common equity
D/F
 
9.68
%
 
6.61
%
Return on average tangible common equity, Underlying (non-GAAP)
M/F
 
8.98

 
6.61

Return on average total assets and return on average total assets, Underlying:
 
 
 
 
 
Average total assets (GAAP)
G
 

$148,786

 

$138,780

Return on average total assets
C/G
 
0.87
%
 
0.65
%
Return on average total assets, Underlying (non-GAAP)
L/G
 
0.81

 
0.65




13

CITIZENS FINANCIAL GROUP, INC.
MANAGEMENT’S DISCUSSION AND ANALYSIS

 
 
 
As of and for the Three Months Ended March 31,
(in millions, except share, per-share and ratio data)
Ref.
 
2017

 
2016

Return on average total tangible assets and return on average total tangible assets, Underlying:
 
 
 
 
 
Average total assets (GAAP)
G
 

$148,786

 

$138,780

Less: Average goodwill (GAAP)
 
 
6,876

 
6,876

Less: Average other intangibles (GAAP)
 
 

 
3

Add: Average deferred tax liabilities related to goodwill (GAAP)
 
 
531

 
481

Average tangible assets
H
 

$142,441

 

$132,382

Return on average total tangible assets
C/H
 
0.91
%
 
0.68
%
Return on average total tangible assets, Underlying (non-GAAP)
L/H
 
0.85

 
0.68

Net income per average common share - basic and diluted, Underlying:
 
 
 
 
 
Average common shares outstanding - basic (GAAP)
N
 
509,451,450

 
528,070,648

Average common shares outstanding - diluted (GAAP)
O
 
511,348,200

 
530,446,188

Net income available to common stockholders (GAAP)
D
 

$313

 

$216

Net income per average common share - basic (GAAP)
D/N
 
0.61

 
0.41

Net income per average common share - diluted (GAAP)
D/O
 
0.61

 
0.41

Net income available to common stockholders, Underlying (non-GAAP)
M
 
290

 
216

Net income per average common share - basic, Underlying (non-GAAP)
M/N
 
0.57

 
0.41

Net income per average common share - diluted, Underlying (non-GAAP)
M/O
 
0.57

 
0.41



14

CITIZENS FINANCIAL GROUP, INC.
MANAGEMENT’S DISCUSSION AND ANALYSIS

 
 
As of and for the Three Months Ended March 31,
 
 
2017
 
2016
(dollars in millions)
Ref. 
Consumer
Banking
Commercial
Banking
Other
Consolidated
 
Consumer
Banking
Commercial
Banking
Other
Consolidated
Net income available to common stockholders:
 
 
 
 
 
 
 
 
 
 
Net income (GAAP)
P

$95


$180


$45


$320

 

$71


$133


$19


$223

Less: Preferred stock dividends
 


7

7

 


7

7

Net income available to common stockholders (GAAP)
Q

$95


$180


$38


$313

 

$71


$133


$12


$216

 
 
 
 
 
 
 
 
 
 
 
Efficiency ratio:
 

 
 
 

 

 

 

Total revenue (GAAP)
R

$858


$480


$46


$1,384

 

$789


$399


$46


$1,234

Noninterest expense (GAAP)
S
647

190

17

854

 
616

187

8

811

Efficiency ratio
S/R
75.41
%
39.80
%
NM

61.68
%
 
78.08
%
46.74
%
NM

65.66
%
 
 
 
 
 
 
 
 
 
 
 
Return on average total tangible assets:
 
 
 
 
 
 
 
 
 
 
Average total assets (GAAP)
 

$58,660


$49,243


$40,883


$148,786

 

$55,116


$45,304


$38,360


$138,780

Less: Average goodwill (GAAP)
 


6,876

6,876

 


6,876

6,876

Less: Average other intangibles (GAAP)
 




 


3

3

Add: Average deferred tax liabilities related to goodwill (GAAP)
 


531

531

 


481

481

Average total tangible assets
T

$58,660


$49,243


$34,538


$142,441

 

$55,116


$45,304


$31,962


$132,382

Return on average total tangible assets
P/T
0.66
%
1.48
%
NM

0.91
%
 
0.52
%
1.18
%
NM

0.68
%
 
 
 
 
 
 
 
 
 
 
 
Return on average tangible common equity:
 
 
 
 

 

 
 

 

 

 

Average common equity (GAAP)(1)
 

$5,460


$5,528


$8,472


$19,460

 

$5,089


$4,790


$9,688


$19,567

Less: Average goodwill (GAAP)
 


6,876

6,876

 


6,876

6,876

Less: Average other intangibles (GAAP)
 




 


3

3

Add: Average deferred tax liabilities related to goodwill (GAAP)
 


531

531

 


481

481

Average tangible common equity (1)
U

$5,460


$5,528


$2,127


$13,115

 

$5,089


$4,790


$3,290


$13,169

Return on average tangible common equity (1)
Q/U
7.06
%
13.18
%
NM

9.68
%
 
5.59
%
11.19
%
NM

6.61
%
(1) Operating segments are allocated capital on a risk-adjusted basis considering economic and regulatory capital requirements. We approximate that regulatory capital is equivalent to a sustainable target level for common equity tier 1 and then allocate that approximation to the segments based on economic capital.



















Results of Operations
 
First Quarter 2017 vs. First Quarter 2016
Net income of $320 million increased $97 million from $223 million in first quarter 2016. Net income available to common stockholders of $313 million increased $97 million, or 45%, from $216 million in first quarter 2016 as the benefit of a 12% increase in revenue and a reduction in income taxes from the settlement of certain state tax matters was partially offset by a 5% increase in noninterest expense and provision for credit losses;
Total revenue of $1.4 billion increased $150 million, or 12%, reflecting solid net interest income and noninterest income growth:
Net interest income growth of 11%, to $1.0 billion from $904 million in first quarter 2016, given 8% average loan growth and a ten basis point improvement in net interest margin;
Net interest margin of 2.96% reflected improved loan yields, driven by higher rates and balance sheet optimization initiatives, partially offset by investment portfolio growth and higher deposit costs; and
Noninterest income increased 15% from first quarter 2016, driven by strength in capital markets, card fees, foreign exchange and interest rate products and mortgage banking fees;
Noninterest expense of $854 million increased $43 million, or 5%, compared to $811 million in first quarter 2016, driven by higher salaries and employee benefits related to higher payroll taxes and 401(k) benefit costs, largely tied to a change in the timing of incentive payments, higher revenue-based incentives and increases in other categories given continued investments in the franchise, as well as higher FDIC insurance, fraud and regulatory costs;
Provision for credit losses of $96 million increased $5 million, or 5%, from $91 million in first quarter 2016, as the impact of higher commercial net charge-offs, largely oil and gas credits and an increase in the reserve for unfunded commitments were partially offset by a reduction in retail real estate secured net charge-offs;
Return on average common equity of 6.5% compared to 4.5% in first quarter 2016;
Return on average tangible common equity of 9.7% compared with 6.6% in first quarter 2016. Excluding the impact related to settlement of certain state tax matters, Underlying ROTCE* of 9.0% improved by 2.4%;
Average interest earning assets increased $10.2 billion, or 8%, driven by 8% loan growth and an 8% increase in investment securities;
Average deposits of $110.0 billion increased $8.0 billion, or 8%, from $102.0 billion in first quarter 2016, on strength in checking with interest, term, money market and demand deposits;
Net charge-offs of $87 million increased $4 million, or 5%, from $83 million in first quarter 2016. ALLL of $1.2 billion remained stable compared to December 31, 2016. ALLL to total loans and leases ratio of 1.13% as of March 31, 2017, compared with 1.15% as of December 31, 2016. ALLL to nonperforming loans and leases ratio of 117% as of March 31, 2017, compared with 118% as of December 31, 2016;
The effective tax rate for first quarter 2017 of 26.4% compares with 32.9% in first quarter 2016. First quarter 2017 results reflect the impact of a $23 million, or 5.2% rate benefit, related to the settlement of certain state tax matters; and
Net income per average common share, diluted, of $0.61, compared to $0.41 per average common share, diluted, in first quarter 2016. Excluding the impact related to settlement of certain state tax matters, Underlying net income per average common share, diluted*, was $0.57.

15

CITIZENS FINANCIAL GROUP, INC.
MANAGEMENT’S DISCUSSION AND ANALYSIS

Net Income
Net income of $320 million, increased $97 million, or 43%, from $223 million in first quarter 2016. First quarter 2017 results reflect the impact of a $23 million, or $0.04 per diluted share, related to the settlement of certain state tax matters. The following table presents the significant components of our net income:
 
Three Months Ended March 31,
 
 
 
 
(dollars in millions)
2017

 
2016

 
Change

 
Percent

Operating Data:
 
 
 
 
 
 
 
Net interest income

$1,005

 

$904

 

$101

 
11
%
Noninterest income
379

 
330

 
49

 
15

Total revenue
1,384

 
1,234

 
150

 
12

Provision for credit losses
96

 
91

 
5

 
5

Noninterest expense
854

 
811

 
43

 
5

Income before income tax expense
434

 
332

 
102

 
31

Income tax expense
114

 
109

 
5

 
5

Net income

$320

 

$223

 

$97

 
43

Net income available to common stockholders

$313

 

$216

 

$97

 
45
%
Return on average common equity
6.52
%
 
4.45
%
 
207
 bps
 
 
Return on average tangible common equity 
9.68
%
 
6.61
%
 
307
 bps
 
 



16

CITIZENS FINANCIAL GROUP, INC.
MANAGEMENT’S DISCUSSION AND ANALYSIS

Net Interest Income
The following table presents the major components of net interest income and net interest margin:
 
Three Months Ended March 31,
 
 
2017
 
2016
 
Change
(dollars in millions)
Average
Balances
Income/
Expense
Yields/
Rates
 
Average
Balances
Income/
Expense
Yields/
Rates
 
Average
Balances
Yields/
Rates
Assets
 
 
 
 
 
 
 
 
 
 
Interest-bearing cash and due from banks and deposits in banks

$1,965


$3

0.63
%
 

$1,675


$2

0.42
%
 

$290

21 bps
Taxable investment securities
25,789

160

2.48

 
23,864

145

2.43

 
1,925

5
Non-taxable investment securities
7


2.60

 
9


2.60

 
(2
)
Total investment securities
25,796

160

2.48

 
23,873

145

2.43

 
1,923

5
Commercial
37,517

312

3.33

 
34,018

264

3.08

 
3,499

25
Commercial real estate
10,821

87

3.21

 
9,108

62

2.69

 
1,713

52
Leases
3,696

23

2.47

 
3,917

24

2.44

 
(221
)
3
Total commercial
52,034

422

3.24

 
47,043

350

2.95

 
4,991

29
Residential mortgages
15,285

136

3.55

 
13,465

126

3.76

 
1,820

(21)
Home equity loans
1,793

25

5.66

 
2,471

34

5.51

 
(678
)
15
Home equity lines of credit
13,955

118

3.43

 
14,632

113

3.11

 
(677
)
32
Home equity loans serviced by others
719

13

7.02

 
958

17

6.94

 
(239
)
8
Home equity lines of credit serviced by others
207

2

3.75

 
340

2

2.19

 
(133
)
156
Automobile
13,772

107

3.16

 
13,792

97

2.83

 
(20
)
33
Education(1)
6,837

88

5.23

 
4,852

60

5.02

 
1,985

21
Credit cards
1,665

46

11.16

 
1,601

45

11.29

 
64

(13)
Other retail
1,798

35

7.94

 
1,108

24

8.66

 
690

(72)
Total retail
56,031

570

4.11

 
53,219

518

3.91

 
2,812

20
Total loans and leases
108,065

992

3.69

 
100,262

868

3.46

 
7,803

23
Loans held for sale, at fair value
510

4

3.31

 
306

3

3.70

 
204

(39)
Other loans held for sale
74

1

6.62

 
49

1

6.64

 
25

(2)
Interest-earning assets
136,410

1,160

3.42

 
126,165

1,019

3.23

 
10,245

19
Allowance for loan and lease losses
(1,235
)
 
 
 
(1,212
)
 
 
 
(23
)
 
Goodwill
6,876

 
 
 
6,876

 
 
 

 
Other noninterest-earning assets
6,735

 
 
 
6,951

 
 
 
(216
)
 
Total assets

$148,786

 
 
 

$138,780

 
 
 

$10,006

 
Liabilities and Stockholders’ Equity
 
 
 
 
 
 
 
 
 
 
Checking with interest

$20,699


$13

0.26
%
 

$17,993


$7

0.14
%
 

$2,706

12 bps
Money market accounts
37,874

41

0.44

 
36,225

28

0.32

 
1,649

12
Regular savings
9,110

1

0.04

 
8,394

1

0.04

 
716

Term deposits
14,173

31

0.89

 
12,199

24

0.80

 
1,974

9
Total interest-bearing deposits
81,856

86

0.43

 
74,811

60

0.32

 
7,045

11
Federal funds purchased and securities sold under agreements to repurchase(2)
882

1

0.24

 
881

1

0.23

 
1

1
Other short-term borrowed funds
2,963

8

1.05

 
3,098

11

1.40

 
(135
)
(35)
Long-term borrowed funds
12,412

60

1.94

 
9,894

43

1.75

 
2,518

19
Total borrowed funds
16,257

69

1.68

 
13,873

55

1.58

 
2,384

10
Total interest-bearing liabilities
98,113

155

0.64

 
88,684

115

0.52

 
9,429

12
Demand deposits
28,098

 
 
 
27,170

 
 
 
928

 
Other liabilities
2,868

 
 
 
3,112

 
 
 
(244
)
 
Total liabilities
129,079

 
 
 
118,966

 
 
 
10,113

 
Stockholders’ equity
19,707

 
 
 
19,814

 
 
 
(107
)
 
Total liabilities and stockholders’ equity

$148,786

 
 
 

$138,780

 
 
 

$10,006

 
Interest rate spread
 
 
2.78
%
 
 
 
2.71
%
 
 
7
Net interest income
 

$1,005

 
 
 

$904

 
 


 
Net interest margin
 
 
2.96
%
 
 
 
2.86
%
 
 
10 bps
Memo: Total deposits (interest-bearing and demand)

$109,954


$86

0.32
%
 

$101,981


$60

0.24
%
 

$7,973

8 bps
(1) During first quarter 2017, student loans were renamed “education” loans. For further information see Note 1 “Basis of Presentation” to our unaudited interim Consolidated Financial Statements in Part I, Item 1 — Financial Statements, included in this report.
(2) Balances are net of certain short-term receivables associated with reverse repurchase agreements, as applicable. Interest expense includes the full cost of the repurchase agreements and certain hedging costs. See “—Analysis of Financial Condition — Derivatives” for further information.



17

CITIZENS FINANCIAL GROUP, INC.
MANAGEMENT’S DISCUSSION AND ANALYSIS

Net interest income is our largest source of revenue and is the difference between the interest earned on interest-earning assets (usually loans and investment securities) and the interest expense incurred in connection with interest-bearing liabilities (usually deposits and borrowings). The level of net interest income is primarily a function of the average balance of interest-earning assets, the average balance of interest-bearing liabilities and the spread between the effective yield on such assets and the effective cost of such liabilities. These factors are influenced by the pricing and mix of interest-earning assets and interest-bearing liabilities which, in turn, are impacted by external factors such as local economic conditions, competition for loans and deposits, the monetary policy of the FRB and market interest rates. For further discussion, refer to “—Risk Governance” and “—Market Risk — Non-Trading Risk,” included in this report.
The cost of our deposits and short-term wholesale borrowings is largely based on short-term interest rates, which are primarily driven by the FRB’s actions. However, the yields generated by our loans and securities are typically driven by both short-term and long-term interest rates, which are set by the market or, at times, by the FRB’s actions. The level of net interest income is therefore influenced by movements in such interest rates and the pace at which such movements occur. In first quarter 2017, short-term and long-term interest rates have risen from very low levels by historical standards, with many benchmark rates, such as the federal funds rate and one- and three-month LIBOR, near one percent. Any declines in the yield curve or a decline in longer-term yields relative to short-term yields (a flatter yield curve) would have an adverse impact on our net interest margin and net interest income.
The FRB continued to follow its stated monetary policy and during first quarter 2017, increased the Fed Funds rate by 0.25% in March 2017.

Net interest income of $1.0 billion increased $101 million, or 11%, compared to $904 million in first quarter 2016, driven by 8% average loan growth and a ten basis point improvement in net interest margin.
Average interest-earning assets of $136.4 billion increased $10.2 billion, or 8%, from first quarter 2016, driven by a $5.0 billion increase in average commercial loans and leases, a $2.8 billion increase in average retail loans, and a $1.9 billion increase in total investment securities. Commercial loan and lease growth was driven by strength in commercial and commercial real estate, partially offset by a decrease in the leasing portfolio. Retail loan growth was driven by strength in education, residential mortgage, and other retail balances, partially offset by home equity balances.
Average deposits of $110.0 billion increased $8.0 billion from first quarter 2016 reflecting growth in all categories. Total interest-bearing deposit costs increased eleven basis points compared to first quarter 2016.
Average borrowed funds of $16.3 billion increased $2.4 billion, or 17%, from first quarter 2016, as a $2.5 billion increase in long-term borrowings, which reflected an increase in senior debt and FHLB advances, was partially offset by a reduction in short-term borrowed funds, largely FHLB advances. Total borrowed funds costs of $69 million increased $14 million from first quarter 2016, primarily due to issuance of long-term senior term debt.
Net interest margin of 2.96% increased ten basis points compared to 2.86% in first quarter 2016, driven by improved loan yields reflecting both higher interest rates and balance sheet optimization initiatives. These benefits were partially offset by the impact of investment portfolio growth and higher deposit and funding costs. Average interest-earning asset yields of 3.42% increased 19 basis points from 3.23% in first quarter 2016.

18

CITIZENS FINANCIAL GROUP, INC.
MANAGEMENT’S DISCUSSION AND ANALYSIS

Noninterest Income
The following table presents the significant components of our noninterest income:
 
Three Months Ended March 31,
 
 
 
 
(in millions)
2017

 
2016

 
Change

 
Percent

Service charges and fees

$125

 

$126

 

($1
)
 
(1
%)
Card fees
60

 
50

 
10

 
20

Capital markets fees(1)
48

 
25

 
23

 
92

Trust and investment services fees
39

 
37

 
2

 
5

Letter of credit and loan fees(1)
29

 
27

 
2

 
7

Foreign exchange and interest rate products(1)
27

 
18

 
9

 
50

Mortgage banking fees
23

 
18

 
5

 
28

Securities gains, net
4

 
9

 
(5
)
 
(56
)
Other income (1)(2)
24

 
20

 
4

 
20

Noninterest income

$379

 

$330

 

$49

 
15
%
(1) In first quarter 2017, certain prior period noninterest income amounts reported in the Consolidated Statement of Operations were reclassified to enhance transparency and provide additional granularity, particularly with regard to fee income related to customer activity.
(2) Includes net securities impairment losses on securities available for sale recognized in earnings, bank-owned life insurance income and other income.

Noninterest income of $379 million increased $49 million, or 15%, from $330 million in first quarter 2016, driven by strength in capital markets, card fees, foreign exchange and interest rate products and improved mortgage banking fees. Service charges and fees remained relatively stable despite one fewer day in the quarter. Card fees increased $10 million as the benefit of revised contract terms for core processing fees and a reduction in card reward expense were partially offset by lower out-of-network ATM fees. Capital markets fees increased $23 million, reflecting strength in loan syndications and bond underwriting advisory fees given strong market volume and expanded capabilities. Trust and investment services fees improved, reflecting an increase in investment sales and growth in client-asset levels. Foreign exchange and interest rate products income increased $9 million, or 50%, reflecting strong client hedging activity and expanded capabilities. Mortgage banking fees increased $5 million from first quarter 2016 levels, reflecting improved MSR valuations and higher origination volumes given the increase in loan officers. Securities gains decreased $5 million.
Provision for Credit Losses
Provision for credit losses of $96 million increased $5 million, or 5%, from $91 million in first quarter 2016 due to the impact of higher commercial net charge-offs, largely oil and gas credits and an increase in the reserve for unfunded commitments. First quarter 2017 results reflected a $9 million reserve build, compared to an $8 million reserve build in first quarter 2016.
The provision for loan and lease losses is the result of a detailed analysis performed to estimate an appropriate and adequate ALLL. The total provision for credit losses includes the provision for loan and lease losses as well as the provision for unfunded commitments. Refer to “—Analysis of Financial Condition — Allowance for Credit Losses and Nonperforming Assets” for more information.
Noninterest Expense
The following table presents the significant components of our noninterest expense:
 
Three Months Ended March 31,
 
 
 
 
(in millions)
2017

 
2016

 
Change

 
Percent

Salaries and employee benefits

$444

 

$425

 

$19

 
4
%
Outside services
91

 
91

 

 

Occupancy
82

 
76

 
6

 
8

Equipment expense
67

 
65

 
2

 
3

Amortization of software
44

 
39

 
5

 
13

Other operating expense
126

 
115

 
11

 
10

Noninterest expense

$854

 

$811

 

$43

 
5
%
        

19

CITIZENS FINANCIAL GROUP, INC.
MANAGEMENT’S DISCUSSION AND ANALYSIS

Noninterest expense of $854 million increased $43 million, or 5%, from $811 million in first quarter 2016, driven by higher payroll taxes and 401(k) benefit costs tied to a change in the timing of incentive payments, as well as higher revenue-based incentives. Occupancy expense increased $6 million, driven by branch rationalization costs. Amortization of software expense increased $5 million, reflecting the impact of technology investments. Other operating expense increased $11 million, related to higher FDIC insurance expense and higher fraud and regulatory costs.
Income Tax Expense
Income tax expense was $114 million and $109 million in first quarter 2017 and 2016, respectively. This resulted in an effective tax rate of 26.4% and 32.9% in first quarter 2017 and 2016, respectively. The decrease in the effective income tax rate was driven by the impact of the settlement of certain state tax matters and benefit related to the accounting method change for stock based compensation (FASB Accounting Standards Update 2016-09) which became effective January 1, 2017. Results also reflect the impact of growth in pre-tax net income.
At March 31, 2017, we reported a net deferred tax liability of $744 million, compared to a $714 million liability at December 31, 2016. The increase in the net deferred tax liability was primarily attributable to the tax effect of current year timing adjustments. For further discussion, see Note 9 “Income Taxes” to our unaudited interim Consolidated Financial Statements in Part I, Item 1 — Financial Statements, included in this report.
The Trump administration plans to introduce tax reform intended to lower corporate income tax rates. Any legislation affecting income tax rates could have an impact on our future effective tax rate, the significance of which would depend on the timing, nature and scope of any such legislation, as well as the level and composition of our earnings. If tax legislation is passed, a reduction in the corporate income tax rate could lower our annual effective income tax rate and result in a one-time tax benefit associated with a reduction in our net deferred tax liability.
Business Segments
The following tables present certain financial data of our operating segments, Other and consolidated:
 
As of and for the Three Months Ended March 31, 2017
(dollars in millions)
Consumer Banking
 
Commercial Banking
 
Other

 
Consolidated

Net interest income

$638

 

$346

 

$21

 

$1,005

Noninterest income
220

 
134

 
25

 
379

Total revenue
858

 
480

 
46

 
1,384

Noninterest expense
647

 
190

 
17

 
854

Profit before provision for credit losses
211

 
290

 
29

 
530

Provision for credit losses
64

 
19

 
13

 
96

Income before income tax expense (benefit)
147

 
271

 
16

 
434

Income tax expense (benefit)
52

 
91

 
(29
)
 
114

Net income

$95

 

$180

 

$45

 

$320

Loans and leases (period-end) (1)

$57,494

 

$48,013

 

$3,273

 

$108,780

Average Balances:
 
 
 
 
 
 
 
Total assets

$58,660

 

$49,243

 

$40,883

 

$148,786

Total loans and leases (1)
57,309

 
48,154

 
3,186

 
108,649

Deposits
74,133

 
28,973

 
6,848

 
109,954

Interest-earning assets
57,361

 
48,283

 
30,766

 
136,410

Key Performance Metrics:
 
 
 
 
 
 
 
Net interest margin (2)
4.51
%
 
2.91
%
 
NM

 
2.96
%
Efficiency ratio
75.41

 
39.80

 
NM

 
61.68

Average loans to average deposits ratio (1)
77.31

 
166.20

 
NM

 
98.81

Return on average total tangible assets (2)
0.66

 
1.48

 
NM

 
0.91

Return on average tangible common equity (2) (3)
7.06

 
13.18

 
NM

 
9.68

(1) Includes loans held for sale.
(2) Ratios for the period ended March 31, 2017 are presented on an annualized basis.
(3) Operating segments are allocated capital on a risk-adjusted basis considering economic and regulatory capital requirements. We approximate that regulatory capital is equivalent to a sustainable target level for CET1 and then allocate that approximation to the segments based on economic capital.

20

CITIZENS FINANCIAL GROUP, INC.
MANAGEMENT’S DISCUSSION AND ANALYSIS


 
As of and for the Three Months Ended March 31, 2016
(dollars in millions)
Consumer Banking
 
Commercial Banking
 
Other

 
Consolidated

Net interest income

$581

 

$300

 

$23

 

$904

Noninterest income
208

 
99

 
23

 
330

Total revenue
789

 
399

 
46

 
1,234

Noninterest expense
616

 
187

 
8

 
811

Profit before provision for credit losses
173

 
212

 
38

 
423

Provision for credit losses
63

 
9

 
19

 
91

Income before income tax expense
110

 
203

 
19

 
332

Income tax expense
39

 
70

 

 
109

Net income

$71

 

$133

 

$19

 

$223

Loans and leases (period-end) (1)

$53,731

 

$44,812

 

$3,199

 

$101,742

Average Balances:
 
 
 
 
 
 
 
Total assets

$55,116

 

$45,304

 

$38,360

 

$138,780

Total loans and leases (1)
53,744

 
43,899

 
2,974

 
100,617

Deposits
70,871

 
24,833

 
6,277

 
101,981

Interest-earning assets
53,793

 
43,987

 
28,385

 
126,165

Key Performance Metrics:
 
 
 
 
 
 
 
Net interest margin (2)
4.35
%
 
2.74
%
 
NM

 
2.86
%
Efficiency ratio
78.08

 
46.74

 
NM

 
65.66

Average loans to average deposits ratio (1)
75.83

 
176.78

 
NM

 
98.66

Return on average total tangible assets (2)
0.52

 
1.18

 
NM

 
0.68

Return on average tangible common equity (2) (3)
5.59

 
11.19

 
NM

 
6.61


(1) Includes loans held for sale.
(2) Ratios for the period ended March 31, 2016 are presented on an annualized basis.
(3) Operating segments are allocated capital on a risk-adjusted basis considering economic and regulatory capital requirements. We approximate that regulatory capital is equivalent to a sustainable target level for CET1 and then allocate that approximation to the segments based on economic capital.

We operate our business through two operating segments: Consumer Banking and Commercial Banking. Segment results are derived from our business-line profitability reporting systems by specifically attributing managed assets, liabilities, capital and their related revenues, provision for credit losses and expenses. Non-segment operations are classified as Other, which includes corporate functions, the Treasury function, the securities portfolio, wholesale funding activities, intangible assets, community development, non-core assets (including legacy RBS aircraft loan and leasing), and other unallocated assets, liabilities, capital, revenues, provision for credit losses and expenses. For a description of non-core assets, see “—Analysis of Financial Condition — Non-Core Assets.” In addition, Other includes goodwill and any associated goodwill impairment charges. For impairment testing purposes, we allocate goodwill to Consumer Banking and Commercial Banking reporting units. For management reporting purposes, we present the goodwill balance (and any related impairment charges) in Other.
Our capital levels are evaluated and managed centrally, however, capital is allocated to the operating segments to support evaluation of business performance. Operating segments are allocated capital on a risk-adjusted basis considering economic and regulatory capital requirements. We approximate that regulatory capital is equivalent to a sustainable target level for common equity tier 1 and then allocate that approximation to the segments based on economic capital. Interest income and expense is determined based on the assets and liabilities managed by the business segment. Because funding and asset liability management is a central function, funds transfer-pricing methodologies are utilized to allocate a cost of funds used, or credit for the funds provided, to all business segment assets, liabilities and capital, respectively, using a matched-funding concept. The residual effect on net interest income of asset/liability management, including the residual net interest income related to the funds transfer pricing process, is included in Other.

21

CITIZENS FINANCIAL GROUP, INC.
MANAGEMENT’S DISCUSSION AND ANALYSIS

Provision for credit losses is allocated to each business segment based on actual net charge-offs that have been recognized by the business segment. The difference between the consolidated provision for credit losses and the business segments’ net charge-offs is reflected in Other.
Noninterest income and expense directly managed by each business segment, including fees, service charges, salaries and benefits, and other direct revenues and costs are accounted for within each segment’s financial results in a manner similar to our unaudited interim Consolidated Financial Statements. Occupancy costs are allocated based on utilization of facilities by the business segment. Noninterest expenses incurred by centrally managed operations or business segments that directly support another business segment’s operations are charged to the applicable business segment based on its utilization of those services.
Income taxes are assessed to each business segment at a standard tax rate with the residual tax expense or benefit to arrive at the consolidated effective tax rate included in Other.
Developing and applying methodologies used to allocate items among the business segments is a dynamic process. Accordingly, financial results may be revised periodically as management systems are enhanced, methods of evaluating performance or product lines change, or our organizational structure changes.
Consumer Banking
 
As of and for the Three Months Ended March 31,
 
 
 
 
(dollars in millions)
2017

 
2016

 
Change
 
Percent

Net interest income

$638

 

$581

 

$57

 
10
%
Noninterest income
220

 
208

 
12

 
6

Total revenue
858

 
789

 
69

 
9

Noninterest expense
647

 
616

 
31

 
5

Profit before provision for credit losses
211

 
173

 
38

 
22

Provision for credit losses
64

 
63

 
1

 
2

Income before income tax expense
147

 
110

 
37

 
34

Income tax expense
52

 
39

 
13

 
33

Net income

$95

 

$71

 

$24

 
34

Loans and leases (period-end) (1)

$57,494

 

$53,731

 

$3,763

 
7

Average Balances:
 
 
 
 
 
 


Total assets

$58,660

 

$55,116

 

$3,544

 
6
%
Total loans and leases (1)
57,309

 
53,744

 
3,565

 
7

Deposits
74,133

 
70,871

 
3,262

 
5

Interest-earning assets
57,361

 
53,793

 
3,568

 
7

Key Performance Metrics:
 
 
 
 
 
 
 
Net interest margin (2)
4.51
%
 
4.35
%
 
16 bps

 
 
Efficiency ratio
75.41

 
78.08

 
(267) bps

 
 
Average loans to average deposits ratio (1)
77.31

 
75.83

 
148 bps

 
 
Return on average total tangible assets (2)
0.66

 
0.52

 
14 bps

 
 
Return on average tangible common equity (2) (3)
7.06

 
5.59

 
147 bps

 
 
(1)  Includes loans held for sale.
(2) Ratios for the periods ended March 31, 2017 and 2016 are presented on an annualized basis.
(3)  Operating segments are allocated capital on a risk-adjusted basis considering economic and regulatory capital requirements. We approximate that regulatory capital is equivalent to a sustainable target level for CET1 and then allocate that approximation to the segments based on economic capital.
Consumer Banking net income of $95 million increased $24 million, or 34%, from $71 million in first quarter 2016, as the benefit of a $69 million increase in revenue more than offset a $31 million increase in noninterest expense.
Net interest income of $638 million increased $57 million, or 10%, from first quarter 2016, driven by a $3.6 billion increase in average loans led by education, mortgage, and other consumer unsecured categories with higher loan yields that included the benefit of higher rates, partially offset by an increase in deposit costs.
Noninterest income of $220 million increased $12 million, or 6%, from first quarter 2016 levels, driven by an increase in card fees, which included a reduction in card reward costs, as well as an increase in mortgage banking fees, which reflected higher MSR valuations and improved origination volumes.

22

CITIZENS FINANCIAL GROUP, INC.
MANAGEMENT’S DISCUSSION AND ANALYSIS

Noninterest expense of $647 million increased $31 million, or 5%, from $616 million in first quarter 2016, largely driven by an increase in salaries and benefits tied to higher commissions and payroll taxes as well as other expenses largely tied to insurance and fraud and regulatory costs. Results also reflect higher occupancy costs associated with branch rationalization as well as outside services, driven by retail loan origination and servicing costs.
Provision for credit losses of $64 million increased $1 million, or 2%, from $63 million in first quarter 2016, driven by higher net charge-offs in auto and education.
Commercial Banking
 
As of and for the Three Months Ended March 31,
 
 
 
 
(dollars in millions)
2017

 
2016

 
Change
 
Percent

Net interest income

$346

 

$300

 

$46

 
15
%
Noninterest income
134

 
99

 
35

 
35

Total revenue
480

 
399

 
81

 
20

Noninterest expense
190

 
187

 
3

 
2

Profit before provision for credit losses
290

 
212

 
78

 
37

Provision for credit losses
19

 
9

 
10

 
111

Income before income tax expense
271

 
203

 
68

 
33

Income tax expense
91

 
70

 
21

 
30

Net income

$180

 

$133

 

$47

 
35

Loans and leases (period-end) (1)

$48,013

 

$44,812

 

$3,201

 
7

Average Balances:
 
 


 


 


Total assets

$49,243

 

$45,304

 

$3,939

 
9
%
Total loans and leases (1)
48,154

 
43,899

 
4,255

 
10

Deposits
28,973

 
24,833

 
4,140

 
17

Interest-earning assets
48,283

 
43,987

 
4,296

 
10

Key Performance Metrics:
 
 


 


 
 
Net interest margin (2)
2.91
%
 
2.74
%
 
17 bps

 
 
Efficiency ratio
39.80

 
46.74

 
(694) bps

 
 
Average loans to average deposits ratio (1)
166.20

 
176.78

 
(1,058) bps

 
 
Return on average total tangible assets (2)
1.48

 
1.18

 
30 bps

 
 
Return on average tangible common equity (2) (3)
13.18

 
11.19

 
199 bps

 
 
(1)  Includes loans held for sale.
(2) Ratios for the periods ended March 31, 2017 and 2016 are presented on an annualized basis.
(3)  Operating segments are allocated capital on a risk-adjusted basis considering economic and regulatory capital requirements. We approximate that regulatory capital is equivalent to a sustainable target level for CET1 and then allocate that approximation to the segments based on economic capital.
Commercial Banking net income of $180 million increased $47 million, or 35%, from $133 million in first quarter 2016, driven by an $81 million increase in total revenue, partially offset by a $3 million increase in noninterest expense and a $10 million increase in provision for credit losses.
Net interest income of $346 million increased $46 million, or 15%, from $300 million in first quarter 2016, driven by 10% average loan growth and improved loan yields, including higher rates, partially offset by higher deposit costs.
Average loans and leases increased $4.3 billion, driven by strength in Mid-corporate and Middle Market, Commercial Real Estate, Franchise Finance and Industry Verticals.
Noninterest income of $134 million increased $35 million, or 35%, from $99 million in first quarter 2016, largely reflecting strength in capital markets, foreign exchange and interest rate products and card fees.
Noninterest expense of $190 million increased $3 million, or 2%, from $187 million in first quarter 2016, driven by higher salaries and employee benefits largely tied to higher payroll taxes given the change in timing of payment of incentive compensation. Expense results also reflected higher amortization of software and a reduction in outside services.
Provision for credit losses of $19 million increased $10 million from first quarter 2016, driven by higher net charge-offs.

23

CITIZENS FINANCIAL GROUP, INC.
MANAGEMENT’S DISCUSSION AND ANALYSIS

Other
 
As of and for the Three Months Ended March 31,
 
 
 
 
(in millions)
2017

 
2016

 
Change

 
Percent

Net interest income

$21

 

$23

 

($2
)
 
(9
%)
Noninterest income
25

 
23

 
2

 
9

Total revenue
46

 
46

 

 

Noninterest expense
17

 
8

 
9

 
113

Profit before provision for credit losses
29

 
38

 
(9
)
 
(24
)
Provision for credit losses
13

 
19

 
(6
)
 
(32
)
Income before income tax expense (benefit)
16

 
19

 
(3
)
 
(16
)
Income tax benefit
(29
)
 

 
(29
)
 
(100
)
Net income

$45

 

$19

 

$26

 
137

Loans and leases (period-end) (1)

$3,273

 

$3,199

 

$74

 
2

Average Balances:
 
 


 
 
 


Total assets

$40,883

 

$38,360

 

$2,523

 
7
%
Total loans and leases (1)
3,186

 
2,974

 
212

 
7

Deposits
6,848

 
6,277

 
571

 
9

Interest-earning assets
30,766

 
28,385

 
2,381

 
8

(1)  Includes loans held for sale.

Other net income of $45 million increased $26 million from $19 million in first quarter 2016, driven by a $23 million income tax benefit related to settlement of state tax matters that lowered our consolidated effective tax rate by 5.2%. Net interest income decreased $2 million, reflecting higher funding costs and the lower benefit of swaps, partially offset by higher investment income and higher residual funds transfer pricing. Noninterest income remained relatively stable. Noninterest expense increased $9 million from first quarter 2016, largely reflecting increased depreciation expense related to the transfer of leases from Commercial Banking to non-core, which is in Other. Provision for credit losses decreased, reflecting lower net charge-offs in non-core.

24

CITIZENS FINANCIAL GROUP, INC.
MANAGEMENT’S DISCUSSION AND ANALYSIS

Analysis of Financial Condition
Securities
Our securities portfolio is managed to maintain prudent levels of liquidity, credit quality and market risk while achieving appropriate returns. The following table presents our securities AFS and HTM:
 
March 31, 2017
 
December 31, 2016
 
 
(in millions)
Amortized
Cost
 
Fair Value
 
Amortized
Cost
 
Fair Value
 
Change in Fair Value
Securities Available for Sale:
 
 
 
 
 
 
 
 
 
 
 
U.S. Treasury and other

$15

 

$15

 

$30

 

$30

 

($15
)
 
(50
%)
State and political subdivisions
7

 
7

 
8

 
8

 
(1
)
 
(13
)
Mortgage-backed securities:
 
 
 
 
 
 
 
 
 
 
 
Federal agencies and U.S. government sponsored entities
19,773

 
19,562

 
19,231

 
19,045

 
517

 
3

Other/non-agency
397

 
380

 
427

 
401

 
(21
)
 
(5
)
Total mortgage-backed securities
20,170

 
19,942

 
19,658

 
19,446

 
496

 
3

Total debt securities
20,192

 
19,964

 
19,696

 
19,484

 
480

 
2

Marketable equity securities

 

 
5

 
5

 
(5
)
 
(100
)
Other equity securities

 

 
12

 
12

 
(12
)
 
(100
)
Total equity securities

 

 
17

 
17

 
(17
)
 
(100
)
   Total securities available for sale

$20,192

 

$19,964

 

$19,713

 

$19,501

 

$463

 
2
%
Securities Held to Maturity:
 
 
 
 
 
 
 
 
 
 
 
Mortgage-backed securities:
 
 
 
 
 
 
 
 
 
 
 
Federal agencies and U.S. government sponsored entities

$4,075

 

$4,054

 

$4,126

 

$4,094

 

($40
)
 
(1
%)
Other/non-agency
917

 
941

 
945

 
964

 
(23
)
 
(2
)
   Total securities held to maturity

$4,992

 

$4,995

 

$5,071

 

$5,058

 

($63
)
 
(1
)
   Total securities available for sale and held to maturity

$25,184

 

$24,959

 

$24,784

 

$24,559

 

$400

 
2
%

As of March 31, 2017, the fair value of the AFS and HTM securities portfolio increased $400 million to $25.0 billion, compared with $24.6 billion as of December 31, 2016, primarily driven by purchases of securities in connection with our liquidity risk management strategies.

As of March 31, 2017, our securities portfolio’s average effective duration was 4.4 years compared with 4.3 years as of December 31, 2016, reflecting the impact of higher long-term rates, which reduced mortgage security prepayment speeds. We manage the securities portfolio duration through asset selection and securities structure, which combine to help limit the duration extension risk.

The securities portfolio includes high-quality, highly-liquid investments reflecting our ongoing commitment to maintaining appropriate contingent liquidity levels and pledging capacity. U.S. government-guaranteed notes and government-sponsored entity-issued mortgage-backed securities represents the vast majority of the securities portfolio holdings. The portfolio composition is also dominated by holdings backed by mortgages to facilitate our ability to pledge them to the FHLBs. This has become increasingly important due to the enhanced liquidity requirements of the liquidity coverage ratio. For further discussion of the liquidity coverage ratios, see “Regulation and Supervision — Liquidity Standards” in Part I — Business, included in the Annual Report on Form 10-K for the year ended December 31, 2016.

25

CITIZENS FINANCIAL GROUP, INC.
MANAGEMENT’S DISCUSSION AND ANALYSIS

Loans and Leases
Our loans and leases are disclosed in portfolio segments and classes. Our loan and lease portfolio segments are commercial and retail. The classes of loans and leases are: commercial, commercial real estate, leases, residential mortgages, home equity loans, home equity lines of credit, home equity loans serviced by others, home equity lines of credit serviced by others, automobile, education, credit cards and other retail. Our SBO portfolio consists of purchased home equity loans and lines that were originally serviced by others, which we now service a portion of internally. The following table shows the composition of loans and leases, including non-core loans, as of:
(in millions)
March 31, 2017
 
December 31, 2016
 
Change

 
 Percent

Commercial

$37,369

 

$37,274

 

$95

 
 %
Commercial real estate
10,915

 
10,624

 
291

 
3

Leases
3,608

 
3,753

 
(145
)
 
(4
)
Total commercial
51,892

 
51,651

 
241

 

Residential mortgages
15,389

 
15,115

 
274

 
2

Home equity loans
1,730

 
1,858

 
(128
)
 
(7
)
Home equity lines of credit
13,812

 
14,100

 
(288
)
 
(2
)
Home equity loans serviced by others
698

 
750

 
(52
)
 
(7
)
Home equity lines of credit serviced by others
201

 
219

 
(18
)
 
(8
)
Automobile
13,636

 
13,938

 
(302
)
 
(2
)
Education(1)
7,242

 
6,610

 
632

 
10

Credit cards
1,650

 
1,691

 
(41
)
 
(2
)
Other retail
1,861

 
1,737

 
124

 
7

Total retail
56,219

 
56,018

 
201

 

Total loans and leases (2) (3)

$108,111

 

$107,669

 

$442

 
%
(1) During first quarter 2017, student loans were renamed “education” loans. For further information see Note 1 “Basis of Presentation” to our unaudited interim Consolidated Financial Statements in Part I, Item 1 — Financial Statements, included in this report.
(2) Excluded from the table above are loans held for sale totaling $669 million and $625 million as of March 31, 2017 and December 31, 2016, respectively.
(3) Mortgage loans serviced for others by our subsidiaries are not included above, and amounted to $17.5 billion and $17.3 billion at March 31, 2017 and December 31, 2016, respectively.
Total loans and leases of $108.1 billion as of March 31, 2017 increased $442 million from $107.7 billion as of December 31, 2016, reflecting growth in both commercial and retail products. Total commercial loans and leases of $51.9 billion grew $241 million from $51.7 billion as of December 31, 2016, reflecting commercial real estate loan growth of $291 million and commercial loan growth of $95 million, partially offset by a decline in leases. Total retail loans of $56.2 billion increased by $201 million from $56.0 billion as of December 31, 2016, largely driven by a $632 million increase in education loans and a $274 million increase in residential mortgages, partially offset by lower home equity balances and auto loans.

26

CITIZENS FINANCIAL GROUP, INC.
MANAGEMENT’S DISCUSSION AND ANALYSIS

Non-Core Assets    
The table below presents the composition of our non-core assets:
(in millions)
March 31, 2017
 
December 31, 2016
 
Change

 
Percent
Commercial

$108

 

$144

 

($36
)
 
(25
%)
Commercial real estate
51

 
59

 
(8
)
 
(14
)
Leases
861

 
874

 
(13
)
 
(1
)
Total commercial
1,020

 
1,077

 
(57
)
 
(5
)
Residential mortgages
166

 
173

 
(7
)
 
(4
)
Home equity loans
40

 
45

 
(5
)
 
(11
)
Home equity lines of credit
45

 
50

 
(5
)
 
(10
)
Home equity loans serviced by others
698

 
750

 
(52
)
 
(7
)
Home equity lines of credit serviced by others
201

 
219

 
(18
)
 
(8
)
Education
283

 
291

 
(8
)
 
(3
)
Total retail
1,433

 
1,528

 
(95
)
 
(6
)
Total non-core loans
2,453

 
2,605

 
(152
)
 
(6
)
Other assets
152

 
155

 
(3
)
 
(2
)
Total non-core assets

$2,605

 

$2,760

 

($155
)
 
(6
%)

Non-core assets are primarily liquidating loan and lease portfolios inconsistent with our strategic priorities, generally as a result of geographic location, industry, product type or risk level and are included in Other. Non-core assets of $2.6 billion as of March 31, 2017 decreased $155 million, or 6%, from December 31, 2016.
Retail non-core loan balances of $1.4 billion decreased $95 million, or 6%, compared to December 31, 2016. The largest component of our retail non-core portfolio is the home equity SBO portfolio, which totaled $899 million as of March 31, 2017, compared to $969 million as of December 31, 2016. The SBO portfolio represented 3% of the retail real estate secured portfolio and 2% of the overall retail loan portfolio as of March 31, 2017. The SBO portfolio consists of pools of home equity loans and lines of credit purchased between 2003 and 2007. Although our SBO portfolio consists of loans that were initially serviced by others, we now service a portion of this portfolio internally. SBO balances serviced externally totaled $470 million and $505 million as of March 31, 2017 and December 31, 2016, respectively.
The credit profile of the SBO portfolio reflected a weighted-average refreshed FICO score of 712 and CLTV of 87% as of March 31, 2017. The proportion of the portfolio in a second lien position was 96% with 71% of the portfolio in out-of-footprint geographies. SBO net charge-offs of $2 million decreased $5 million compared to first quarter 2016, driven by portfolio seasoning and balance liquidation.
Allowance for Credit Losses and Nonperforming Assets
The allowance for credit losses, which consists of an ALLL and a reserve for unfunded lending commitments is created through charges to the provision for credit losses in order to provide appropriate reserves to absorb future estimated credit losses in accordance with GAAP. For further information on our processes to determine our allowance for credit losses, see “—Critical Accounting Estimates — Allowance for Credit Losses” and Note 1 “Significant Accounting Policies” to the audited Consolidated Financial Statements in our Annual Report on Form 10-K for the year ended December 31, 2016 and Note 4 “Allowance for Credit Losses, Nonperforming Assets, and Concentrations of Credit Risk” to our unaudited interim Consolidated Financial Statements in Part I, Item 1 — Financial Statements, included in this report.
The allowance for credit losses totaled $1.3 billion at March 31, 2017 and December 31, 2016. The ALLL represented 1.13% of total loans and leases and 117% of nonperforming loans and leases as of March 31, 2017 compared with 1.15% and 118%, respectively, as of December 31, 2016. The reserve for unfunded lending commitments increased $21 million from December 31, 2016. There were no material changes in assumptions or estimation techniques compared with prior periods that impacted the determination of the current period’s ALLL and the reserve for unfunded lending commitments.
Overall credit quality continued to improve reflecting growth in higher quality, lower risk retail loans and modest increases in commercial categories. Nonperforming loans and leases of $1.1 billion as of March 31, 2017 increased $5 million from December 31, 2016 as a decrease in retail, driven by continued improvement in real-

27

CITIZENS FINANCIAL GROUP, INC.
MANAGEMENT’S DISCUSSION AND ANALYSIS

estate secured categories, was more than offset by an increase in commercial nonperforming loans and leases, largely due to oil and gas credits. Net charge-offs of $87 million increased $4 million, or 5%, from $83 million in first quarter 2016, driven by a $10 million increase in commercial partially offset by a $6 million reduction in retail net charge-offs driven by real-estate secured categories. Annualized net charge-offs as a percentage of total average loans of 0.33% was stable compared to first quarter 2016.
Commercial Loan Asset Quality
Our commercial loan and lease portfolio consists of traditional commercial loans, commercial real estate loans and leases. The portfolio is predominantly focused on customers in our footprint and adjacent states in which we have a physical presence where our local delivery model provides for strong client connectivity. Additionally, we also do business in certain specialized industry sectors on a national basis.
For commercial loans and leases, we use regulatory classification ratings to monitor credit quality. Loans with a “pass” rating are those that we believe will be fully repaid in accordance with the contractual loan terms. Commercial loans and leases that are “criticized” are those that have some weakness that indicates an increased probability of future loss. See Note 4 “Allowance for Credit Losses, Nonperforming Assets, and Concentrations of Credit Risk” to our unaudited interim Consolidated Financial Statements in Part I, Item 1 — Financial Statements, included in this report.
As of March 31, 2017, nonperforming commercial loans and leases increased $26 million to $413 million, compared to $387 million as of December 31, 2016, largely driven by an increase in oil and gas portfolio credits. As of March 31, 2017, total commercial nonperforming loans were 0.8% of the commercial loan portfolio, compared to 0.7% as of December 31, 2016. Total commercial loan and lease portfolio net charge-offs of $19 million in first quarter 2017 compared to net charge-offs of $9 million in first quarter 2016. The commercial loan and lease portfolio annualized net charge-off rate of 15 basis points in first quarter 2017, compared to eight basis points in first quarter 2016.
Total commercial criticized loans and leases portfolio of $2.8 billion, or 5.5% of the portfolio, compared to $2.9 billion, or 5.6%, at December 31, 2016. Commercial criticized balances were $2.2 billion, or 6.0%, of commercial loans as of March 31, 2017, compared to $2.3 billion, or 6.1%, as of December 31, 2016. Commercial real estate criticized balances of $432 million, or 4.0% of the commercial real estate portfolio, compared to $478 million, or 4.5%, as of December 31, 2016. Commercial criticized loans to total criticized loans of 79% as of March 31, 2017 remained relatively stable compared to 78% as of December 31, 2016. Commercial real estate accounted for 15% of total criticized loans as of March 31, 2017, compared to 16% as of December 31, 2016.
Retail Loan Asset Quality
For retail loans, we primarily utilize payment and delinquency status to regularly review and monitor credit quality trends. Historical experience indicates that the longer a loan is past due, the greater the likelihood of future credit loss. The largest portion of the retail portfolio is represented by borrowers located in the New England, Mid-Atlantic and Midwest regions, although we have continued to grow selectively in areas outside the footprint primarily in the auto finance, education lending and unsecured portfolios. Retail loans of $56.2 billion increased $201 million from December 31, 2016, driven by growth in education lending, residential mortgage and other unsecured, partially offset by a reduction in home equity, auto, and credit card balances.
The credit composition of our retail loan portfolio at March 31, 2017 reflected an average refreshed FICO score of 760, which was relatively flat compared to December 31, 2016. The real estate secured portfolio CLTV ratio is calculated as the mortgage and second lien loan balance divided by the most recently available value of the property and was 62% as of March 31, 2017 and December 31, 2016. Retail asset quality continued to improve with an annualized net charge-off rate of 0.49% in first quarter 2017, a decrease of six basis points from first quarter 2016, driven by broad improvement in the home equity, education portfolios and other unsecured. Nonperforming retail loans as a percentage of total retail loans were 1.13% as of March 31, 2017, a decrease of four basis points from December 31, 2016.
HELOC Payment Shock
We monitor the potential for increased exposure to credit losses associated with HELOCs that were originated during the period of rapid home price appreciation between 2003 and 2007. Industry wide, many of the HELOCs originated during this timeframe were structured with an extended interest-only payment period followed by a requirement to convert to a higher payment amount that would begin fully amortizing both principal and interest beginning at a certain date in the future. To help manage this potential exposure, in September 2013, we launched

28

CITIZENS FINANCIAL GROUP, INC.
MANAGEMENT’S DISCUSSION AND ANALYSIS

a comprehensive program designed to provide heightened customer outreach to inform, educate and assist customers through the reset process as well as to offer alternative financing and forbearance options. Results of this program indicate that our efforts to assist customers at risk of default have successfully reduced delinquency and charge-off rates compared to our original expectations.
As of March 31, 2017, for the $1.7 billion of our HELOC portfolio that reached the end of the interest-only draw period and entered repayment of principal and interest during 2014 and 2015, 94% of the balances had been refinanced, paid off or were current on payments, 3% were past due and 3% had been charged off. As of March 31, 2017, for the $738 million of our HELOC portfolio that reached the end of the interest-only draw period and entered repayment of principal and interest in 2016, 94% of the balances had been refinanced, paid off or were current on payments, 5% were past due and 1% had been charged off.
A total of $826 million of HELOC balances are scheduled to reach the end of the interest-only draw period and enter repayment of principal and interest for the remainder of 2017. For the $4.7 billion HELOC portfolio scheduled to reach the end of the interest-only draw period and enter repayment of principal and interest between April 1, 2017 and December 31, 2021, 45% was secured by a first lien, with a weighted average FICO score of the borrowers of 764 and a LTV ratio of 61.0%. Those results compare to the total HELOC portfolio of $14.0 billion that was 51% secured by a first lien, with a weighted average FICO score of the borrowers of 767 and a LTV ratio of 61.3%. Factors that affect our future expectations for continued relatively low charge-off risk in the face of rising interest rates for the portion of our HELOC portfolio subject to reset in future periods include a relatively high level of first lien collateral positions, improved loan-to-value ratios resulting from continued home price appreciation, relatively stable portfolio credit score profiles and continued robust loss mitigation efforts.
Troubled Debt Restructurings
TDR is the classification given to a loan that has been restructured in a manner that grants a concession to a borrower experiencing financial hardship that we would not otherwise make. TDRs typically result from our loss mitigation efforts and are undertaken in order to improve the likelihood of recovery and continuity of the relationship. Our loan modifications are handled on a case by case basis and are negotiated to achieve mutually agreeable terms that maximize loan collectability and meet our borrower’s financial needs. The types of concessions include interest rate reductions, term extensions, principal forgiveness and other modifications to the structure of the loan that fall outside our lending policy. Depending on the specific facts and circumstances of the customer, restructuring can involve loans moving to nonaccrual, remaining on nonaccrual, or remaining on accrual status.
As of March 31, 2017, $805 million of retail loans were classified as retail TDRs, a stable trend compared with $799 million as of December 31, 2016. As of March 31, 2017, $231 million of retail TDRs were in nonaccrual status with 54% current with payments, which is stable compared to $233 million in nonaccrual status with 55% current on payments at December 31, 2016. TDRs generally return to accrual status once repayment capacity and appropriate payment history can be established. TDRs are evaluated for impairment individually. Loans are classified as TDRs until paid off, sold or refinanced at market terms.

29

CITIZENS FINANCIAL GROUP, INC.
MANAGEMENT’S DISCUSSION AND ANALYSIS

For additional information regarding TDRs, see “—Critical Accounting Estimates — Allowance for Credit Losses,” and Note 1 “Significant Accounting Policies” to the audited Consolidated Financial Statements in the Annual Report on Form 10-K for the year ended December 31, 2016 and Note 4 “Allowance for Credit Losses, Nonperforming Assets, and Concentrations of Credit Risk” to our unaudited interim Consolidated Financial Statements in Part I, Item 1 — Financial Statements, included in this report.
The following tables present an aging of our retail TDRs:
 
March 31, 2017
(in millions)
Current

 
30-59 Days
Past Due
 
60-89 Days
Past Due
 
90+ Days
Past Due
 
Total

Recorded Investment:
 
 
 
 
 
 
 
 
 
Residential mortgages

$123

 

$15

 

$3

 

$40

 

$181

Home equity loans
115

 
9

 
2

 
21

 
147

Home equity lines of credit
169

 
8

 
3

 
24

 
204

Home equity loans serviced by others
50

 
3

 
1

 
3

 
57

Home equity lines of credit serviced by others
8

 

 

 
2

 
10

Automobile
18

 
1

 

 
1

 
20

Education
144

 
3

 
2

 
1

 
150

Credit cards
23

 
1

 
1

 
1

 
26

Other retail
10

 

 

 

 
10

Total

$660

 

$40

 

$12

 

$93

 

$805


 
December 31, 2016
(in millions)
Current

 
30-59 Days
Past Due
 
60-89 Days
Past Due
 
90+ Days
Past Due
 
Total

Recorded Investment:
 
 
 
 
 
 
 
 
 
Residential mortgages

$115

 

$12

 

$5

 

$46

 

$178

Home equity loans
116

 
8

 
3

 
18

 
145

Home equity lines of credit
164

 
7

 
4

 
21

 
196

Home equity loans serviced by others
53

 
3

 
1

 
3

 
60

Home equity lines of credit serviced by others
6

 

 

 
3

 
9

Automobile
17

 
1

 
1

 

 
19

Education
148

 
3

 
2

 
2

 
155

Credit cards
23

 
1

 
1

 
1

 
26

Other retail
11

 

 

 

 
11

Total

$653

 

$35

 

$17

 

$94

 

$799


The following tables present the accrual status of our retail TDRs:
 
March 31, 2017
(in millions)
Accruing

 
Nonaccruing

 
Total

Recorded Investment:
 
 
 
 
 
Residential mortgages

$121

 

$60

 

$181

Home equity loans
104

 
43

 
147

Home equity lines of credit
132

 
72

 
204

Home equity loans serviced by others
42

 
15

 
57

Home equity lines of credit serviced by others
4

 
6

 
10

Automobile
11

 
9

 
20

Education
125

 
25

 
150

Credit cards
25

 
1

 
26

Other retail
10

 

 
10

Total

$574

 

$231

 

$805



30

CITIZENS FINANCIAL GROUP, INC.
MANAGEMENT’S DISCUSSION AND ANALYSIS

 
December 31, 2016
(in millions)
Accruing

 
Nonaccruing

 
Total

Recorded Investment:
 
 
 
 
 
Residential mortgages

$117

 

$61

 

$178

Home equity loans
102

 
43

 
145

Home equity lines of credit
126

 
70

 
196

Home equity loans serviced by others
43

 
17

 
60

Home equity lines of credit serviced by others
4

 
5

 
9

Automobile
10

 
9

 
19

Education
128

 
27

 
155

Credit cards
25

 
1

 
26

Other retail
11

 

 
11

Total

$566

 

$233

 

$799


Derivatives
We use pay-fixed swaps to hedge floating rate wholesale funding and to offset duration in fixed-rate assets. Notional balances on wholesale funding hedges totaled $4.0 billion as of March 31, 2017 and $3.0 billion as of December 31, 2016. Pay-fixed rates on the swaps ranged from 0.91% to 1.98% as of March 31, 2017 and December 31, 2016. As of March 31, 2017, $1.0 billion were forward starting positions which begin accruing interest starting in January 2018.
We use receive-fixed swaps to minimize the exposure to variability in the interest cash flows on our floating rate assets, and to hedge market risk on fixed rate capital markets debt issuances. At March 31, 2017 and December 31, 2016, the notional amount of receive-fixed swap hedges totaled $12.1 billion and $10.4 billion, respectively. As of March 31, 2017 and December 31, 2016, the fixed-rate ranges were 0.88% to 1.87% and 0.88% to 1.84%, respectively. We paid one-month and three-month LIBOR on these swaps.
In first quarter 2017, we hedged $1.0 billion of floating rate commercial loans with a five-year receive-fixed interest rate swap. In addition, we hedged $1.0 billion in floating-rate wholesale funding with short-tenor pay-fixed swaps with terms ranging from 21 to 24 months. We also hedged $700 million in three-year fixed rate senior term debt to convert the debt to a floating obligation.
We also sell interest rate swaps and foreign exchange forwards to commercial customers. Interest rate and foreign exchange derivative contracts are transacted to effectively minimize our market risk associated with the customer derivative contracts. The assets and liabilities recorded for derivatives not designated as hedges reflect the market value of these transactions.

31

CITIZENS FINANCIAL GROUP, INC.
MANAGEMENT’S DISCUSSION AND ANALYSIS

The table below presents our derivative assets and liabilities. For additional information regarding our derivative instruments, see Note 10 “Derivatives” in our unaudited interim Consolidated Financial Statements in Part I, Item 1 — Financial Statements, included in this report.
 
March 31, 2017
 
December 31, 2016
(in millions)
Notional Amount(1)
Derivative Assets(2)
Derivative Liabilities(2)
 
Notional Amount(1)
Derivative Assets
Derivative Liabilities
Derivatives designated as hedging instruments:
 
 
 
 
 
 
 
Interest rate contracts

$16,050


$9


$14

 

$13,350


$52


$193

Derivatives not designated as hedging instruments:
 
 
 
 
 
 
 
Interest rate contracts
60,612

341

318

 
54,656

557

452

Foreign exchange contracts
8,301

95

85

 
8,039

134

126

Other contracts
1,292

11

8

 
1,498

16

7

Total derivatives not designated as hedging instruments
 
447

411

 
 
707

585

Gross derivative fair values
 
456

425

 
 
759

778

Less: Gross amounts offset in the Consolidated Balance Sheets (3) 
 
(89
)
(89
)
 
 
(106
)
(106
)
Less: Cash collateral applied (3)
 
(10
)
(16
)
 
 
(26
)
(13
)
Total net derivative fair values presented in the Consolidated Balance Sheets
 

$357


$320

 
 

$627


$659

(1) The notional or contractual amount of interest rate derivatives and foreign exchange contracts is the amount upon which interest and other payments under the contract are based. For interest rate derivatives, the notional amount is typically not exchanged. Therefore, notional amounts should not be taken as the measure of credit or market risk as they do not measure the true economic risk of these contracts.
(2) Amounts reflect variation margin payments that are characterized as settlement per the rules of our central counterparties effective for the quarter ended March 31, 2017.
(3) Amounts represent the impact of legally enforceable master netting agreements that allow us to settle positive and negative positions.

At March 31, 2017, the overall derivative asset value decreased $270 million and the liability balance decreased by $339 million from December 31, 2016. These decreases were primarily due to a change in the presentation of variation margin payments in the Consolidated Balance Sheets as of March 31, 2017. Effective January 3, 2017, the London Clearing House and Chicago Mercantile Exchange amended their respective rules to legally characterize the variation margin payments on centrally cleared derivative contracts as settlement of those derivatives (rather than the posting of collateral). As a result of this change, we modified our balance sheet presentation of centrally cleared interest rate swaps as of March 31,2017 such that the fair value of the swaps and the associated variation margin balances are reported as a single unit of account in derivative assets and/or derivative liabilities. At December 31, 2016, the variation margin balances were characterized as collateral and reported in interest-bearing cash and due from banks on the Consolidated Balance Sheets.
Deposits
The table below presents the major components of our deposits:
(in millions)
March 31, 2017
 
December 31, 2016
 
Change

 
Percent

Demand

$27,713

 

$28,472

 

($759
)
 
(3
%)
Checking with interest
21,913

 
20,714

 
1,199

 
6

Regular savings
9,441

 
8,964

 
477

 
5

Money market accounts
37,833

 
38,176

 
(343
)
 
(1
)
Term deposits
15,212

 
13,478

 
1,734

 
13

Total deposits

$112,112

 

$109,804

 

$2,308

 
2
%
    
Total deposits as of March 31, 2017 increased $2.3 billion, or 2%, to $112.1 billion, compared to $109.8 billion as of December 31, 2016, reflecting growth across term deposits, checking with interest and money market accounts.

32

CITIZENS FINANCIAL GROUP, INC.
MANAGEMENT’S DISCUSSION AND ANALYSIS

Borrowed Funds
Short-term borrowed funds
A summary of our short-term borrowed funds is presented below:
(in millions)
March 31, 2017
 
December 31, 2016
 
Change

 
Percent

Federal funds purchased

$566

 

$533

 

$33

 
6
%
Securities sold under agreements to repurchase
527

 
615

 
(88
)
 
(14
)
Other short-term borrowed funds (primarily current portion of FHLB advances)
2,762

 
3,211

 
(449
)
 
(14
)
Total short-term borrowed funds

$3,855

 

$4,359

 

($504
)
 
(12
%)
Short-term borrowed funds of $3.9 billion as of March 31, 2017, decreased $504 million from December 31, 2016, reflecting a $449 million decline in other short-term borrowed funds (primarily short-term FHLB advances) and an $88 million decrease in securities sold under agreements to repurchase, partially offset by a $33 million increase in Fed funds purchased.
    As of March 31, 2017, our total contingent liquidity was $27.2 billion, consisting of $2.5 billion in net cash at the FRB (which is defined as cash less overnight Fed funds purchased), $19.9 billion in unencumbered high-quality and liquid securities, and $4.8 billion in unused FHLB borrowing capacity. Asset liquidity, a component of contingent liquidity, consisting of net cash at the FRB and unencumbered high-quality liquid securities assets, was $22.4 billion. Additionally, $11.8 billion in secured discount window capacity from the FRBs created total available liquidity of approximately $39.0 billion.
Key data related to short-term borrowed funds is presented in the following table:
 
As of and for the
Three Months Ended March 31,
 
As of and for the
Year Ended December 31,
(dollars in millions)
2017

 
2016

 
2016
Weighted-average interest rate at period-end:(1)
 
 
 
 
 
Federal funds purchased and securities sold under agreements to repurchase
0.43
%
 
0.01
%
 
0.26
%
Other short-term borrowed funds (primarily current portion of FHLB advances)
1.08

 
0.57

 
0.94

Maximum amount outstanding at month-end during the period:
 
 
 
 
 
Federal funds purchased and securities sold under agreements to repurchase(2)

$1,174

 

$1,274

 

$1,522

Other short-term borrowed funds (primarily current portion of FHLB advances)
3,508

 
3,300

 
5,461

Average amount outstanding during the period:
 
 
 
 
 
Federal funds purchased and securities sold under agreements to repurchase(2)

$882

 

$881

 

$947

Other short-term borrowed funds (primarily current portion of FHLB advances)
2,963

 
3,098

 
3,207

Weighted-average interest rate during the period:(1)
 
 
 
 
 
Federal funds purchased and securities sold under agreements to repurchase
0.22
%
 
0.06
%
 
0.09
%
Other short-term borrowed funds (primarily current portion of FHLB advances)
1.08

 
0.58

 
0.64

(1) Rates exclude certain hedging costs.
(2) Balances are net of certain short-term receivables associated with reverse repurchase agreements, as applicable.

33

CITIZENS FINANCIAL GROUP, INC.
MANAGEMENT’S DISCUSSION AND ANALYSIS

Long-term borrowed funds
A summary of our long-term borrowed funds is presented below:
(in millions)
March 31, 2017
 
December 31, 2016
Citizens Financial Group, Inc.:
 
 
 
4.150% fixed rate subordinated debt, due 2022

$347

 

$347

5.158% fixed-to-floating rate subordinated debt, due 2023, converting to floating at
3-month LIBOR + 3.56% and callable beginning June 2018
333

 
333

3.750% fixed rate subordinated debt, due 2024
250

 
250

4.023% fixed rate subordinated debt, due 2024
42

 
42

4.350% fixed rate subordinated debt, due 2025
249

 
249

4.300% fixed rate subordinated debt, due 2025
749

 
749

2.375% fixed rate senior unsecured debt, due 2021
348

 
348

Banking Subsidiaries:
 
 
 
2.300% senior unsecured notes, due 2018
745

 
745

2.450% senior unsecured notes, due 2019
746

 
747

2.500% senior unsecured notes, due 2019
740

 
741

2.250% senior unsecured notes, due 2020
697

 

Floating rate senior unsecured notes, due 2020
299

 

2.550% senior unsecured notes, due 2021
964

 
965

Federal Home Loan advances due through 2033
5,262

 
7,264

Other
9

 
10

Total long-term borrowed funds

$11,780

 

$12,790


Note: The balances above reflect the impact of unamortized deferred issuance costs and discounts. See Note 7 “Borrowed Funds” to our unaudited interim Consolidated Financial Statements in Part I, Item 1 — Financial Statements, included in this report.
 
On March 2, 2017, CBNA issued $1.0 billion in three-year, senior bank debt, composed of $700 million in fixed-rate debt and $300 million in floating-rate debt indexed to 3-month LIBOR. Long-term borrowed funds of $11.8 billion as of March 31, 2017 decreased $1.0 billion from December 31, 2016, reflecting a $993 million increase in the aforementioned senior bank debt, offset by a decrease of $2.0 billion in long-term FHLB borrowings. Access to additional funding through repurchase agreements, collateralized borrowed funds or asset sales continues to be available. Additionally, capacity remains to grow deposits or issue senior or subordinated notes.
Capital and Regulatory Matters
As a bank holding company and a financial holding company, we are subject to regulation and supervision by the FRB. Our primary subsidiaries are our two insured depository institutions, CBNA, a national banking association whose primary federal regulator is the OCC, and CBPA, a Pennsylvania-charted savings bank regulated by the Department of Banking of the Commonwealth of Pennsylvania and supervised by the FDIC as its primary federal regulator. Our regulation and supervision continues to evolve as the legal and regulatory framework governing our operations continues to change. The current operating environment reflects heightened regulatory expectations around many regulations including consumer compliance, the Bank Secrecy Act, anti-money laundering compliance, and increased internal audit activities. For more information, see “Regulation and Supervision” in Part I, Item 1 — Business included in our Annual Report on Form 10-K for the year ended December 31, 2016.
Dodd-Frank regulation
We are subject to the Dodd-Frank Act, which introduced significant changes to the regulation of bank holding companies and their subsidiaries and was aimed at strengthening the sound operation of the financial services sector. The more stringent standards and heightened regulatory requirements under the Dodd-Frank Act have significantly impacted our business activities, reduced certain fee income categories, increased certain operational costs and added other restrictions. The Dodd-Frank Act also required us to build enhanced compliance processes and infrastructure and to otherwise enhance our risk management throughout all aspects of our business. We continue to manage the cumulative impact of these changes, including the higher expectation for the amount of capital and liquidity we must maintain, and remain vigilant about any modifications to existing rules or new rulemaking under the Dodd-Frank Act.

34

CITIZENS FINANCIAL GROUP, INC.
MANAGEMENT’S DISCUSSION AND ANALYSIS


The FRB’s capital planning and stress-testing framework, known as CCAR and DFAST, requires us to submit annual capital plans to the FRB and subjects us to annual supervisory and semiannual internal stress test requirements. The Federal Reserve’s stress test rule implements the Dodd-Frank Act requirement to conduct annual supervisory stress tests to gauge the capacity of our capital to absorb losses as a result of adverse economic conditions. The stress test rule also implements the requirement that we conduct our own semiannual stress tests and requires us to publish the results of the stress tests on our website or other public forum.

Under these requirements, we must submit our annual capital plan and the results of our annual company-run stress tests to the FRB by April 5th of each year and disclose certain results within 15 days after the FRB discloses the results of its supervisory-run tests. On April 5, 2017, we submitted our 2017 Capital Plan and the results of the company-run stress tests to the FRB as part of the 2017 CCAR cycle. We publish estimated DFAST results under the supervisory severely adverse scenario on our regulatory filings and disclosures page on http://investor.citizensbank.com.
The Dodd-Frank Act also requires each of our bank subsidiaries to conduct stress tests on an annual basis and to disclose the stress test results. CBNA submitted its 2017 annual stress tests to the OCC on April 5, 2017 and will publish a summary of those results along with the stress test results of the bank holding company parent within 15 calendar days after the FRB publicly discloses the results of the supervisory stress test. CBPA will submit the results of its 2017 annual stress tests to the FDIC by July 31, 2017 and publish its summary results as an update to the Parent Company/CBNA Dodd-Frank Act Company-Run Stress Test Disclosure on our Investor Relations site between October 15 and October 31, 2017, as required by the FDIC for banks with $10 to $50 billion in total assets.

Similarly, we are required to submit the results of our mid-cycle company-run DFAST stress tests by October 5th of each year and disclose the summary results of our internally developed stress tests under the severely adverse scenario between October 5th and November 4th. We submitted the results of our 2016 mid-cycle stress test to the FRB on October 3, 2016 and disclosed a summary of the results on October 5, 2016. We publish these company-run estimated impacts of stress on our regulatory filings and disclosures page on http://investor.citizensbank.com.
Comprehensive Capital Analysis and Review
CCAR is an annual review conducted by the FRB to ensure that the largest bank holding companies have sufficient capital to continue operations throughout times of economic and financial stress and utilize robust forward-looking capital planning processes that account for their unique risks.
As part of CCAR, the FRB evaluates our capital adequacy, including capital ratios versus applicable regulatory requirements under expected and stress conditions as well as our ability to execute capital actions proposed in our capital plan. The FRB may either object to our capital plan, in whole or in part, or provide a notice of non-objection. If the FRB objects to our capital plan, we may not make any capital distribution other than those with respect to which the FRB has indicated its non-objection.
On January 30, 2017, the FRB published a final rule that modifies the CCAR Capital Plan and stress test rules. Under the final rule, we continue to be classified as a large non-complex firm, that is, a bank holding company with total consolidated assets of at least $50 billion but less than $250 billion, non-bank assets of less than $75 billion, and that is not classified as a global systematically important bank holding company under the FRB’s capital rules. As a result of the new final rule, the FRB may no longer object to our capital plans on qualitative grounds beginning with the 2017 CCAR and DFAST cycles. The FRB’s qualitative assessment of our capital planning processes is now incorporated into regular, on-going supervisory activities, with targeted, horizontal assessments of particular aspects of capital planning. We remain subject to the FRB’s quantitative assessment of our ability to meet capital requirements under stress.
Capital Framework
Under the U.S. Basel III capital framework, we and our banking subsidiaries must meet specific minimum requirements for the following ratios: common equity tier 1 capital; tier 1 capital; total capital; and tier 1 leverage.
The U.S. adoption of the Basel III Standardized approach by the Federal bank regulators became effective for CFG, CBNA and CBPA, on January 1, 2015 subject to a phase-in period extending through January 2019 (the “U.S. Basel III Standardized Transitional rules”). Among other changes, these regulations introduced a new capital conservation buffer (“CCB”) on top of the following three minimum risk-based capital ratios: CET1 capital of 4.5%, tier 1 capital of 6.0%, and total capital of 8.0%. The implementation of the capital conservation buffer began on January 1, 2016 at the 0.625% level and increases by 0.625% on each subsequent January 1, until the buffer reaches

35

CITIZENS FINANCIAL GROUP, INC.
MANAGEMENT’S DISCUSSION AND ANALYSIS

its fully phased-in level of 2.5% on January 1, 2019. As such, the CCB for 2017 increased to 1.250% on January 1, 2017. Banking institutions for which any risk-based capital ratio falls below its effective minimum (required minimum plus the applicable capital conservation buffer) will be subject to constraints on capital distributions, including dividends, repurchases and certain executive compensation based on the amount of the shortfall.
The table below presents our actual regulatory capital ratios under the U.S. Basel III Standardized Transitional rules as of March 31, 2017 and December 31, 2016 as well as pro forma U.S.Basel III Standardized ratios as of March 31, 2017 and December 31, 2016, after full phase-in of all requirements by January 1, 2019:
 
Transitional Basel III
 
Pro Forma Basel III Assuming Full Phase-in
(dollars in millions)
Actual Amount
Actual Ratio
Required Minimum plus Required CCB for Non-Leverage Ratios(6)(7)
FDIA Required Well-Capitalized Minimum for Purposes of Prompt Corrective Action(9)
 
Actual Ratio(1)
Required Minimum plus Required CCB for Non-Leverage Ratios(6)(8)
FDIA Required Well-Capitalized Minimum for Purposes of Prompt Corrective Action(9)
March 31, 2017
 
 
 
 
Common equity tier 1 capital(2)

$13,941

11.2
%
5.8
%
6.5
%
 
11.1
%
7.0
%
6.5
%
Tier 1 capital(3)
14,188

11.4

7.3

8.0

 
11.3

8.5

8.0

Total capital(4)
17,475

14.0

9.3

10.0

 
14.0

10.5

10.0

Tier 1 leverage(5)
14,188

9.9

4.0

5.0

 
9.9

4.0

5.0

Risk-weighted assets
124,881

 
 
 
 
 
 
 
Quarterly adjusted average assets
143,430

 
 
 
 
 
 
 
December 31, 2016
 
 
 
 
Common equity tier 1 capital(2)

$13,822

11.2
%
5.1
%
6.5
%
 
11.1
%
7.0
%
6.5
%
Tier 1 capital(3)
14,069

11.4

6.6

8.0

 
11.3

8.5

8.0

Total capital(4)
17,347

14.0

8.6

10.0

 
14.0

10.5

10.0

Tier 1 leverage(5)
14,069

9.9

4.0

5.0

 
9.9

4.0

5.0

Risk-weighted assets
123,857

 
 
 
 
 
 
 
Quarterly adjusted average assets
141,677

 
 
 
 
 
 
 
(1) Fully phased-in regulatory capital ratios are Key Performance Metrics. For more information on Key Performance Metrics, see “Principal Components of Operations and Key Performance Metrics Used By Management.”
(2) “Common equity tier 1 capital ratio” is CET1 capital divided by total risk-weighted assets as defined under U.S. Basel III Standardized approach.
(3) “Tier 1 capital ratio” is tier 1 capital, which includes CET1 capital plus non-cumulative perpetual preferred equity that qualifies as additional tier 1 capital, divided by total risk-weighted assets as defined under U.S. Basel III Standardized approach.
(4) “Total capital ratio” is total capital divided by total risk-weighted assets as defined under U.S. Basel III Standardized approach.
(5) “Tier 1 leverage ratio” is tier 1 capital divided by quarterly average total assets as defined under U.S. Basel III Standardized approach.
(6) Required “Minimum Capital ratio” for 2016 and 2017 are: Common equity tier 1 capital of 4.5%; Tier 1 capital of 6.0%; Total capital of 8.0%; and Tier 1 leverage of 4.0%.
(7) Minimum Capital ratio” includes capital conservation buffer for Transitional Basel III of 1.250% for 2017 and 0.625 for 2016; N/A to Tier 1 leverage.
(8) “Minimum Capital ratio” for 2016 and 2017 includes capital conservation buffer for Pro Forma Basel III of 2.5%; N/A to Tier 1 leverage.
(9) Presented for informational purposes. Prompt corrective action provisions apply only to insured depository institutions- CBNA and CBPA.

At March 31, 2017, our CET1 capital, tier 1 capital and total capital ratios were 11.2%, 11.4% and 14.0%, respectively, as compared with 11.2%, 11.4% and 14.0% as of December 31, 2016. The respective capital ratios remained flat as net income was offset by risk-weighted asset growth and our 2016 Capital Plan actions which included first quarter 2017 common dividends of $72 million, preferred dividends of $7 million and the repurchase of $130 million of our outstanding common stock. At March 31, 2017, our CET1 capital, tier 1 capital and total capital ratios were 4.2%, 2.9% and 3.5%, respectively, above their regulatory minimums plus the fully phased-in capital conservation buffer. Based on both current and fully phased-in Basel III requirements, all ratios remained well above Basel III minima.
Standardized Approach
CFG, CBNA and CBPA calculate regulatory ratios using the U.S. Basel III Standardized approach, as defined by U.S. Federal bank regulators, for determining risk-weighted assets. The U.S. Basel III Standardized approach for risk weighting assets expands the risk-weighting categories from the four Basel I-derived categories (0%, 20%, 50% and 100%) to a much larger and more risk-sensitive number of categories, depending on the nature of the assets, generally ranging from 0% for U.S. government and agency securities, to 600% for certain equity exposures, and resulting in higher risk weights for a variety of asset classes. Under this approach, no distinction is made for variations

36

CITIZENS FINANCIAL GROUP, INC.
MANAGEMENT’S DISCUSSION AND ANALYSIS

in credit quality for corporate exposures. Additionally, the economic benefit of collateral is restricted to a limited list of eligible securities and cash. At March 31, 2017, we estimate our CET1 capital, CET1 capital ratio and total risk-weighted assets using the U.S. Basel III Standardized approach, on a fully phased-in basis, to be $13.9 billion, 11.1% and $125.1 billion, respectively. Our estimates may be refined over time because of further rulemaking or clarification by U.S. banking regulators or as our understanding and interpretation of these rules evolve.
The following table provides a reconciliation of regulatory ratios and ratio components using the U.S. Basel III Standardized Transitional rules and U.S. Basel III Standardized estimates on a fully phased-in basis for common equity tier 1 capital, total capital and risk-weighted assets:
(dollars in millions)
March 31, 2017
 
December 31, 2016
Common equity tier 1 capital

$13,941

 

$13,822

Impact of intangibles at 100%

 

Fully phased-in common equity tier 1 capital(1)

$13,941

 

$13,822

Total capital

$17,475

 

$17,347

Impact of intangibles at 100%

 

Fully phased-in total capital(1)

$17,475

 

$17,347

Risk-weighted assets

$124,881

 

$123,857

Impact of intangibles - 100% capital deduction

 

Impact of mortgage servicing assets at 250% risk weight
247

 
244

Fully phased-in risk-weighted assets(1)

$125,128

 

$124,101

Transitional common equity tier 1 capital ratio(2)
11.2
%
 
11.2
%
Fully phased-in common equity tier 1 capital ratio(1)(2)
11.1

 
11.1

Transitional total capital ratio(3)
14.0

 
14.0

Fully phased-in total capital ratio(1)(3)
14.0

 
14.0

(1) Fully phased-in regulatory capital ratios are Key Performance Metrics. For more information on Key Performance Metrics, see “Principal Components of Operations and Key Performance Metrics Used By Management.”
(2) “Common equity tier 1 capital ratio” is CET1 capital divided by total risk-weighted assets as defined under U.S. Basel III Standardized approach.
(3) “Total capital ratio” is total capital divided by total risk-weighted assets as defined under U.S. Basel III Standardized approach.
Regulatory Capital Ratios and Capital Composition
CET1 capital under U.S. Basel III Standardized Transitional rules totaled $13.9 billion at March 31, 2017, and increased $119 million from $13.8 billion at December 31, 2016, as net income and amortization of deferred tax related to goodwill was partially offset by the impact of the share repurchase and dividend payments. Tier 1 capital at March 31, 2017 totaled $14.2 billion, reflecting a $119 million increase from $14.1 billion at December 31, 2016, driven by the changes in CET1 capital noted above. At March 31, 2017, we had $247 million of 5.500% Fixed-to-Floating Non-Cumulative Perpetual Preferred Stock outstanding which qualified as additional tier 1 capital. Total capital of $17.5 billion at March 31, 2017, increased $128 million from December 31, 2016 as the benefit of net income growth and amortization of deferred tax related to goodwill was partially offset by the impact of share repurchases and dividend payments.
Risk-weighted assets (“RWA”) totaled $124.9 billion, based on U.S. Basel III Standardized Transitional rules at March 31, 2017, up $1.0 billion from December 31, 2016. Approximately $700 million of the increase was tied to a change in the RWA designation for certain commercial real estate loans, in addition to growth in education loan RWA. The tier 1 leverage ratio remained stable from December 31, 2016 to March 31, 2017.

37

CITIZENS FINANCIAL GROUP, INC.
MANAGEMENT’S DISCUSSION AND ANALYSIS

The following table presents our capital composition under the U.S. Basel III capital framework in effect at March 31, 2017 and December 31, 2016:
 
Transitional Basel III
(in millions)
March 31, 2017
 
December 31, 2016
Total common stockholders’ equity

$19,600

 

$19,499

Exclusions(1):
 
 
 
Net unrealized losses recorded in accumulated other comprehensive income, net of tax:
 
 
 
Debt and marketable equity securities available for sale
195

 
186

Derivatives
97

 
88

Unamortized net periodic benefit costs
391

 
394

Deductions:
 
 
 
Goodwill
(6,876
)
 
(6,876
)
Deferred tax liability associated with goodwill
534

 
532

Other intangible assets

 
(1
)
Total common equity tier 1
13,941

 
13,822

Qualifying preferred stock
247

 
247

Total tier 1 capital
14,188

 
14,069

Qualifying long-term debt securities as tier 2
1,970

 
1,970

Allowance for loan and lease losses
1,224

 
1,236

Allowance for credit losses for off-balance sheet exposure
93

 
72

Total capital

$17,475

 

$17,347

(1) As a U.S. Basel III Standardized approach institution, we selected the one-time election to opt-out of the requirements to include all the components of AOCI.

Capital Adequacy Process
Our assessment of capital adequacy begins with our risk appetite and risk management framework. This framework provides for the identification, measurement and management of material risks. Capital requirements are determined for actual and forecasted risk portfolios using applicable regulatory capital methodologies. The assessment also considers the possible impacts of approved and proposed regulatory changes to future periods. Key analytical frameworks, which enable the assessment of capital adequacy versus unexpected loss, supplement our base case forecast. These supplemental frameworks include stress testing, as well as an internal capital adequacy requirement that builds on internally assessed economic capital requirements. A robust governance framework supports our capital planning process. This process includes capital management policies and procedures that document capital adequacy metrics and limits, as well as our comprehensive capital contingency plan and the active engagement of both the legal-entity boards and senior management in oversight and decision-making.
Forward-looking assessments of capital adequacy for us and for our banking subsidiaries feed development of capital plans that are submitted to the FRB and to bank regulators. We prepare these plans in full compliance with the FRB’s Capital Plan Rule and we participate annually in the FRB’s CCAR review process. In addition to the stress test requirements under CCAR, we also perform semiannual company-run stress tests required by the Dodd-Frank Act.
All distributions proposed under our Capital Plan are subject to consideration and approval by our Board of Directors prior to execution. The timing and exact amount of future dividends and share repurchases will depend on various factors, including our capital position, financial performance and market conditions.
Capital Transactions
All of the following capital actions were part of the 2016 Capital Plan and completed during the three months ended March 31, 2017.
Declared and paid a quarterly common stock dividend of $0.14 per share, aggregating to a dividend payment of $72 million;
Declared a semi-annual dividend of $27.50 per share on the 5.500% fixed-to-floating rate non-cumulative perpetual Series A Preferred Stock, aggregating to a dividend payment of $7 million; and
Repurchased $130 million of our outstanding common stock.

38

CITIZENS FINANCIAL GROUP, INC.
MANAGEMENT’S DISCUSSION AND ANALYSIS

At March 31, 2017, all regulatory ratios remained well above their respective fully phased-in Basel III minimum, plus the capital conservation buffer for the risk-based ratios. Fully phased-in regulatory capital ratios are Key Performance Metrics. For more information on the computation of these Key Performance Metrics, see “—Principal Components of Operations and Key Performance Metrics Used By Management — Key Performance Metrics and Non-GAAP Financial Measures”.
Banking Subsidiaries’ Capital
The following table presents our banking subsidiaries’ capital ratios under U.S. Basel III Standardized Transitional rules as of March 31, 2017 and December 31, 2016:
 
Transitional Basel III
 
March 31, 2017
 
December 31, 2016
(dollars in millions)
Amount

Ratio

 
Amount

Ratio

Citizens Bank, N.A.
 
 
 
 
 
Common equity tier 1 capital(1)

$11,364

11.3
%
 

$11,248

11.2
%
Tier 1 capital (2)
11,364

11.3

 
11,248

11.2

Total capital(3)
13,576

13.5

 
13,443

13.4

Tier 1 leverage(4)
11,364

10.2

 
11,248

10.3

Risk-weighted assets
100,614

 
 
100,491

 
Quarterly adjusted average assets
111,501

 
 
109,530

 
 
 
 
 
 
 
Citizens Bank of Pennsylvania
 
 
 
 
 
Common equity tier 1 capital(1)

$3,033

12.4
%
 

$3,094

12.7
%
Tier 1 capital (2)
3,033

12.4

 
3,094

12.7

Total capital(3)
3,263

13.3

 
3,333

13.6

Tier 1 leverage(4)
3,033

8.5

 
3,094

8.8

Risk-weighted assets
24,525

 
 
24,426

 
Quarterly adjusted average assets
35,905

 
 
35,057

 

(1) “Common equity tier 1 capital ratio” is CET1 capital divided by total risk-weighted assets as defined under U.S. Basel III Standardized approach.
(2) “Tier 1 capital ratio” is tier 1 capital, which includes CET1 capital plus non-cumulative perpetual preferred equity that qualifies as additional tier 1 capital, divided by total risk-weighted assets as defined under U.S. Basel III Standardized approach.
(3) “Total capital ratio” is total capital divided by total risk-weighted assets as defined under U.S. Basel III Standardized approach.
(4) “Tier 1 leverage ratio” is tier 1 capital divided by quarterly average total assets as defined under U.S. Basel III Standardized approach.
CBNA CET1 capital under U.S. Basel III Standardized Transitional rules totaled $11.4 billion at March 31, 2017, up $116 million from $11.2 billion at December 31, 2016, reflecting the impact of net income partially offset by dividend payments. At March 31, 2017, CBNA held minimal additional tier 1 capital. Total capital was $13.6 billion at March 31, 2017, an increase of $133 million from December 31, 2016, driven by the increase in CET1 capital and a small increase in the allowance for credit losses.
CBNA risk-weighted assets of $100.6 billion, based on U.S. Basel III Standardized Transitional rules at March 31, 2017, increased $123 million from December 31, 2016. An increase of approximately $400 million was tied to a change in the RWA designation for certain commercial real estate loans, in addition to growth in education loan RWA. These increases were offset by lower market risk RWA as CBNA did not meet the reporting threshold prescribed by market risk capital guidelines for first quarter 2017.
As of March 31, 2017, the CBNA tier 1 leverage ratio decreased approximately eight basis points to 10.2% from 10.3% as of December 31, 2016, driven by a $2.0 billion increase in adjusted quarterly average total assets that drove an 18 basis point decline in the ratio, partially offset by a ten basis point increase for higher CET1 capital described above.
CBPA CET1 capital under U.S. Basel III Standardized Transitional rules totaled $3.0 billion at March 31, 2017, and decreased $61 million from $3.1 billion at December 31, 2016, as the dividend payments were greater than the net income and amortization of deferred tax related to goodwill. At March 31, 2017, there was no additional tier 1 capital. CBPA total capital of $3.3 billion at March 31, 2017 decreased $70 million from December 31, 2016, driven by the decrease in CET1 capital and a small decrease in allowance for credit losses.
CBPA risk-weighted assets of $24.5 billion, based on U.S. Basel III Standardized Transitional rules at March 31, 2017, increased $99 million from December 31, 2016. An increase of approximately $300 million was tied to a change

39

CITIZENS FINANCIAL GROUP, INC.
MANAGEMENT’S DISCUSSION AND ANALYSIS

in the RWA designation for certain commercial real estate loans, in addition to growth in education loan RWA. These increases were partially offset by a reduction in home lending, auto and MBS RWA.
As of March 31, 2017, the CBPA tier 1 leverage ratio decreased 38 basis points to 8.5% from 8.8% as of December 31, 2016, driven by an increase in adjusted quarterly average total assets of $848 million resulting in a 20 basis point decline in the ratio, and an 18 basis point decrease resulting from the lower CET1 capital described above.
Liquidity
Liquidity is defined as our ability to meet our cash-flow and collateral obligations in a timely manner, at a reasonable cost. An institution must maintain current liquidity to meet its expected daily and forecasted cash-flow requirements, as well as contingent liquidity to meet unexpected (stress scenario) funding requirements. As noted earlier, reflecting the importance of meeting all unexpected and stress-scenario funding requirements, we identify and manage contingent liquidity (consisting of excess cash balances at the FRB, unencumbered high-quality and liquid securities, and unused FHLB borrowing capacity). Separately, we also identify and manage asset liquidity as a subset of contingent liquidity (consisting of excess cash balances at the FRB and unencumbered high-quality securities). We consider the effective and prudent management of liquidity to be fundamental to our health and strength.
We manage liquidity at the consolidated enterprise level and at each material legal entity, including at the Parent Company, CBNA and CBPA.
Parent Company Liquidity
Our Parent Company’s primary sources of cash are (i) dividends and interest received from our banking subsidiaries as a result of investing in bank equity and subordinated debt; and (ii) externally issued senior and subordinated debt. Uses of liquidity include the following: (i) routine cash flow requirements as a bank holding company, including periodic share repurchases and payments of dividends, interest and expenses; (ii) needs of subsidiaries, including banking subsidiaries, for additional equity and, as required, their needs for debt financing; and (iii) support extraordinary funding requirements when necessary.
During the three month period ending March 31, 2017, the Parent Company paid dividends on common stock of approximately $72 million, declared dividends on preferred stock of approximately $7 million, and repurchased $130 million of outstanding common stock.
Our Parent Company’s cash and cash equivalents represent a source of liquidity that can be used to meet various needs and totaled $594 million as of March 31, 2017 compared with $551 million as of December 31, 2016.
Our Parent Company’s liquidity risk is low for the following reasons: (i) the Parent Company has no material non-banking subsidiaries, and its banking subsidiaries are self-funding; (ii) the capital structures of the Parent Company’s banking subsidiaries are similar to the Parent Company’s capital structure; and, (iii) other cash flow requirements, such as operating expenses, are relatively small. The Parent Company’s double-leverage ratio (the combined equity of Parent Company subsidiaries divided by Parent Company equity) is a measure of reliance on equity cash flows from subsidiaries. At March 31, 2017, the Parent Company’s double-leverage ratio was 101.8%.
Banking Subsidiaries’ Liquidity
In the ordinary course of business, the liquidity of CBNA and CBPA is managed by matching sources and uses of cash. The primary sources of bank liquidity include (i) deposits from our consumer and commercial franchise customers; (ii) payments of principal and interest on loans and debt securities; and (iii) wholesale borrowings, as needed, and as described under “—Liquidity Risk Management and Governance.” The primary uses of bank liquidity include (i) withdrawals and maturities of deposits; (ii) payment of interest on deposits; (iii) funding of loans and related commitments; and (iv) funding of securities purchases. To the extent that the banks have relied on wholesale borrowings, uses also include payments of related principal and interest.
Our banking subsidiaries’ major businesses involve taking deposits and making loans. Hence, a key role of liquidity management is to ensure that customers have timely access to funds from deposits and loans. Liquidity management also involves maintaining sufficient liquidity to repay wholesale borrowings, pay operating expenses and support extraordinary funding requirements when necessary.
From an external issuance perspective, on February 24, 2017, we increased the size of CBNA’s Global Note Program from $5.0 billion to $8.0 billion. On March 2, 2017, CBNA issued $1.0 billion in three-year senior notes, consisting of $700 million in fixed-rate notes and $300 million in floating-rate notes.

40

CITIZENS FINANCIAL GROUP, INC.
MANAGEMENT’S DISCUSSION AND ANALYSIS

Liquidity Risk
We define liquidity risk as the risk that an entity will be unable to meet its payment obligations in a timely manner. We manage liquidity risk at the consolidated enterprise level, and at the legal entity level, including at the Parent Company, CBNA and CBPA. Liquidity risk can arise due to contingent liquidity risk and/or funding liquidity risk.
Contingent liquidity risk is the risk that market conditions may reduce an entity’s ability to liquidate, pledge and/or finance certain assets and thereby substantially reduce the liquidity value of such assets. Drivers of contingent liquidity risk include general market disruptions as well as specific issues regarding the credit quality and/or valuation of a security or loan, issuer or borrower and/or asset class.
Funding liquidity risk is the risk that market conditions and/or entity-specific events may reduce an entity’s ability to raise funds from depositors and/or wholesale market counterparties. Drivers of funding liquidity risk may be idiosyncratic or systemic, reflecting impediments to operations and/or damaged market confidence.
Factors Affecting Liquidity
Given the composition of their assets and borrowing sources, contingent liquidity risk at both CBNA and CBPA would be materially affected by such events as deterioration of financing markets for high-quality securities (e.g., mortgage-backed securities and other instruments issued by the GNMA, FNMA and the FHLMC), by any inability of the FHLBs to provide collateralized advances, and/or by a refusal of the FRB to act as lender of last resort in systemic stress.
Similarly, given the structure of their balance sheets, the funding liquidity risk of CBNA and CBPA would be materially affected by an adverse idiosyncratic event (e.g., a major loss, causing a perceived or actual deterioration in its financial condition), an adverse systemic event (e.g., default or bankruptcy of a significant capital markets participant), or a combination of both (e.g., the financial crisis of 2008-2010). However, during the financial crisis, our banking subsidiaries reduced their dependence on unsecured wholesale funding to virtually zero. Consequently, and despite ongoing exposure to a variety of idiosyncratic and systemic events, we view our contingent liquidity risk and our funding liquidity risk to be relatively modest.
An additional variable affecting our access, and the access of our banking subsidiaries, to unsecured wholesale market funds and to large denomination (i.e., uninsured) customer deposits is the credit ratings assigned by such agencies as Moody’s, Standard & Poor’s and Fitch. The following table presents our credit ratings:
 
 
March 31, 2017
 
 
Moody’s  
 
Standard and
Poor’s
 
Fitch  
 
 
Citizens Financial Group, Inc.:
 
 
 
 
 
 
Long-term issuer
NR
 
BBB+
 
BBB+
 
Short-term issuer
NR
 
A-2
 
F2
 
Subordinated debt
NR
 
BBB
 
BBB
 
Preferred Stock
NR
 
BB+
 
BB-
 
Citizens Bank, N.A.:
 
 
 
 
 
 
Long-term issuer
Baa1
 
A-
 
BBB+
 
Short-term issuer
P-2
 
A-2
 
F2
 
Long-term deposits
A1
 
NR
 
A-
 
Short-term deposits
P-1
 
NR
 
F2
 
Citizens Bank of Pennsylvania:
 
 
 
 
 
 
Long-term issuer
Baa1
 
A-
 
BBB+
 
Short-term issuer
P-2
 
A-2
 
F2
 
Long-term deposits
A1
 
NR
 
A-
 
Short-term deposits
P-1
 
NR
 
F2
 
 NR = Not rated
 
 
 
 
 
Changes in our public credit ratings could affect both the cost and availability of our wholesale funding. As a result and in order to maintain a conservative funding profile, our banking subsidiaries continue to minimize reliance on unsecured wholesale funding. At March 31, 2017, our wholesale funding consisted primarily of secured borrowings from the FHLBs collateralized by high-quality residential mortgages.

41

CITIZENS FINANCIAL GROUP, INC.
MANAGEMENT’S DISCUSSION AND ANALYSIS

Existing and evolving regulatory liquidity requirements, such as the LCR and NSFR, represent another key driver of systemic liquidity conditions and liquidity management practices. The FRB, the OCC, and the FDIC regularly evaluate our liquidity as part of the overall supervisory process.
The LCR was developed to ensure banks have sufficient high-quality liquid assets to cover expected net cash outflows over a 30-day liquidity stress period. In September 2014, the U.S. federal banking regulators published the final rule to implement the LCR. This rule also introduced a modified version of the LCR in the United States, which generally applies to Bank Holding Companies not active internationally (institutions with less than $10 billion of on-balance sheet foreign exposure), with total assets of greater than $50 billion but less than $250 billion. Under this definition we are designated as a modified LCR financial institution and were 100% compliant beginning in January 2017. Achieving sustainable LCR compliance may require changes in the size and/or composition of our investment portfolio, the configuration of our discretionary wholesale funding portfolio, and our average cash position. We remain fully compliant with the LCR as of March 31, 2017.
The U.S. federal bank regulatory agencies have issued a notice of proposed rulemaking to implement the NSFR, along with a modified version with similar parameters as the LCR, that would designate us as a modified NSFR financial institution. The NSFR is one of the two Basel III-based liquidity measures, distinctly separate from the LCR, and is designed to promote medium- and long-term stable funding of the assets and off-balance sheet activities of banks and bank holding companies over a one-year time horizon. Generally consistent with the Basel Committee’s framework, under the proposed rule banking organizations would be required to hold an amount of available stable funding (“ASF”) over a one-year time horizon that equals or exceeds the institution’s amount of required stable funding (“RSF”), with the ASF representing the numerator and the RSF representing the denominator of the NSFR. The banking organizations subject to the modified NSFR would multiply the RSF amount by 70%, such that the RSF amount required for these companies would be required to maintain ASF of at least 70% of its RSF. Generally, these modified NSFR companies are defined as institutions with total assets of greater than $50 billion but less than $250 billion and less than $10 billion of on-balance sheet foreign exposure. The proposed rule includes detailed descriptions of the items that would comprise ASF and RSF and standardized factors that would apply to ASF and RSF items, and would require any institution whose applicable modified NSFR falls under 100% to notify the appropriate federal regulator and develop a remediation plan. We are currently evaluating the impact of the U.S. federal bank regulatory agencies’ NSFR framework. If ultimately adopted as currently proposed, the implementation of the NSFR could impact our liquidity and funding requirements and practices in the future.
We continue to review and monitor these liquidity requirements to develop appropriate implementation plans and liquidity strategies. We expect to be fully compliant with the final rules on or prior to their applicable effective date.
Liquidity Risk Management and Governance
Liquidity risk is measured and managed by the Funding and Liquidity Unit within our Treasury unit in accordance with policy guidelines promulgated by our Board and the Asset and Liability Management Committee. In managing liquidity risk, the Funding and Liquidity Unit delivers regular and comprehensive reporting, including current levels versus threshold limits for a broad set of liquidity metrics and early warning indicators, explanatory commentary relating to emerging risk trends and, as appropriate, recommended remedial strategies.
The mission of our Funding and Liquidity Unit is to deliver and otherwise maintain prudent levels of operating liquidity (to support expected and projected funding requirements), contingent liquidity (to support unexpected funding requirements resulting from idiosyncratic, systemic, and combination stress events), and regulatory liquidity (to address current and emerging requirements such as the LCR and the NSFR). Additionally, we will deliver this liquidity from stable funding sources, in a timely manner and at a reasonable cost, without significant adverse consequences.
We seek to accomplish this mission by funding loans with stable deposits; by prudently controlling dependence on wholesale funding, particularly short-term unsecured funding; and by maintaining ample available liquidity, including a contingent liquidity buffer of unencumbered high-quality loans and securities. As of March 31, 2017:
Core deposits continued to be our primary source of funding and our consolidated period end loan-to-deposit ratio was 97.0%;
Our net overnight position (which is defined as cash balance held at the FRB less any overnight borrowings) totaled $2.5 billion;
Contingent liquidity was $27.2 billion, consisting of our net overnight position (defined above) of $2.5 billion, unencumbered high-quality liquid assets of $19.9 billion, and unused FHLB capacity of $4.8 billion. Asset

42

CITIZENS FINANCIAL GROUP, INC.
MANAGEMENT’S DISCUSSION AND ANALYSIS

liquidity (a component of contingent liquidity) was $22.4 billion consisting of our net overnight position of $2.5 billion and unencumbered high-quality and liquid securities of $19.9 billion; and
Available discount window capacity, defined as available total borrowing capacity from the FRB based on identified collateral, is secured by non-mortgage commercial and consumer loans and totaled $11.8 billion. Use of this borrowing capacity would likely be considered only during exigent circumstances.
The Funding and Liquidity Unit monitors a variety of liquidity and funding metrics and early warning indicators and metrics, including specific risk thresholds limits. These monitoring tools are broadly classified as follows:
Current liquidity sources and capacities, including excess cash at the FRBs, free and liquid securities and available and secured FHLB borrowing capacity;
Liquidity stress sources, including idiosyncratic, systemic and combined stresses, in addition to evolving regulatory requirements such as the LCR and the NSFR; and
Current and prospective exposures, including secured and unsecured wholesale funding and spot and cumulative cash-flow gaps across a variety of horizons.
Further, certain of these metrics are monitored for each of us, our banking subsidiaries, and for our consolidated enterprise on a daily basis, including net overnight position, unencumbered securities, internal liquidity, and available FHLB borrowing capacity. In order to identify emerging trends and risks and inform funding decisions, specific metrics are also forecasted over a one-year horizon.
Money-fund reform and other factors have incrementally increased borrowing rates for short-term and unsecured bank liabilities. However, our utilization of unsecured and short-term wholesale funding continues to be de minimis, given our significant portfolio of high quality liquid assets, our access to alternative funding sources including the FHLBs and the long-term capital markets, and our strong franchise deposit base.
Cash flows from operating activities contributed $853 million in first quarter 2017, driven by net income of $320 million, a net increase in mortgage loans held for sale activity of $160 million and a decrease of $282 million in other assets. Net cash used by investing activities was $1.1 billion, primarily reflecting a net increase in securities available for sale portfolio purchases of $1.7 billion and an increase in loans and leases of $769 million, partially offset by proceeds from maturities, paydowns and sales of securities available for sale of $1.2 billion. Cash provided by financing activities was $579 million, driven by proceeds from issuance of long-term borrowed funds of $3.0 billion and a net increase in deposits of $2.3 billion, partially offset by a net decrease in other short-term borrowed funds of $450 million, and repayments of long-term FHLB advances of $4.0 billion. The $3.0 billion proceeds included $1.0 billion from issuances of medium-term debt and $2.0 billion in FHLB advances. These activities represented a cumulative increase in cash and cash equivalents of $289 million, which, when added to the cash and cash equivalents balance of $3.7 billion at the beginning of the year, resulted in an ending balance of cash and cash equivalents of $4.0 billion as of March 31, 2017.
Cash flows from operating activities contributed $374 million in first quarter 2016. Net cash used by investing activities was $2.3 billion, primarily reflecting a net increase in loans and leases of $2.4 billion and securities available for sale portfolio purchases of $706 million, partially offset by proceeds from maturities, paydowns and sales of securities available for sale of $926 million. Cash provided by financing activities was $717 million, driven by proceeds from issuance of long-term borrowed funds of $750 million, and a net increase in other short-term borrowed funds of $670 million, partially offset by repayments of long-term borrowed funds of $629 million. These activities represented a cumulative decrease in cash and cash equivalents of $1.2 billion, which, when added to the cash and cash equivalents balance of $3.1 billion at the beginning of the year, resulted in an ending balance of cash and cash equivalents of $1.9 billion as of March 31, 2016.

43

CITIZENS FINANCIAL GROUP, INC.
MANAGEMENT’S DISCUSSION AND ANALYSIS

Off-Balance Sheet Arrangements
The following table presents our outstanding off-balance sheet arrangements. See Note 11 “Commitments and Contingencies” to our unaudited interim Consolidated Financial Statements in Part I, Item 1 — Financial Statements, included in this report.
(in millions)
March 31, 2017
 
December 31, 2016
 
Change

 
Percent

Undrawn commitments to extend credit

$62,810

 

$60,872

 

$1,938

 
3
%
Financial standby letters of credit
1,912

 
1,892

 
20

 
1

Performance letters of credit
48

 
40

 
8

 
20

Commercial letters of credit
43

 
43

 

 

Marketing rights
44

 
44

 

 

Risk participation agreements
19

 
19

 

 

Residential mortgage loans sold with recourse
8

 
8

 

 

Total

$64,884

 

$62,918

 

$1,966

 
3
%
In first quarter 2017, we entered into an agreement to purchase education loans on a quarterly basis beginning with the first quarter 2017 and ending with the fourth quarter 2017. The total minimum and maximum amount of the aggregate purchase principal balance of loans under the terms of the agreement are $750 million and $1.5 billion, respectively, and we have a remaining maximum purchase commitment of $1.2 billion. The agreement may be extended by written agreement of the parties for an additional four quarters. The agreement will terminate immediately if at any time during its term the aggregate purchase principal balance of loans equals the maximum amount. We may also terminate the agreement at will with payment of a termination fee equal to the product of $1 million times the number of quarters remaining under the agreement.
In April 2017, we terminated our May 2014 agreement to purchase automobile loans after satisfying our final purchase commitment.
Critical Accounting Estimates
Our unaudited interim Consolidated Financial Statements, which are included in this report, are prepared in accordance with GAAP. The preparation of financial statements in conformity with GAAP requires us to establish accounting policies and make estimates that affect amounts reported in our audited Consolidated Financial Statements.
An accounting estimate requires assumptions and judgments about uncertain matters that could have a material effect on our unaudited interim Consolidated Financial Statements. Estimates are made using facts and circumstances known at a point in time. Changes in those facts and circumstances could produce results substantially different from those estimates. Our most significant accounting policies and estimates are related to ALLL, fair value, goodwill, and income taxes. For additional information regarding these accounting policies and estimates and their related application, see “—Critical Accounting Estimates” to the audited Consolidated Financial Statements in the Annual Report on Form 10-K for the year ended December 31, 2016. No material changes were made to these valuation techniques or models during the three months ended March 31, 2017.

44

CITIZENS FINANCIAL GROUP, INC.
MANAGEMENT’S DISCUSSION AND ANALYSIS

Risk Governance
We are committed to maintaining a strong, integrated and proactive approach to the management of all risks to which we are exposed in pursuit of our business objectives. A key aspect of our Board’s responsibility as the main decision making body is setting our risk appetite to ensure that the levels of risk that we are willing to accept in the attainment of our strategic business and financial objectives are clearly understood.
To enable our Board to carry out its objectives, it has delegated authority for risk management activities, as well as governance and oversight of those activities, to a number of Board and executive management level risk committees. The Executive Risk Committee (“ERC”), chaired by the Chief Risk Officer, is responsible for oversight of risk across the enterprise and actively considers our inherent material risks, analyzes our overall risk profile and seeks confirmation that the risks are being appropriately identified, assessed and mitigated. Reporting to the ERC are the following additional committees, covering specific areas of risk: Compliance and Operational Risk Committee, Model Risk Committee, Credit Policy Committee, Asset/Liability Committee, Business Initiatives Review Committee, and the Ethics Committee.
Risk Framework
Our risk management framework is embedded in our business through a “Three Lines of Defense” model which defines responsibilities and accountabilities for risk management activities.
First Line of Defense
The business lines (including their associated support functions) are the first line of defense and are accountable for owning and managing, within our defined risk appetite, the risks which exist in their respective business areas. The business lines are responsible for performing regular risk assessments to identify and assess the material risks that arise in their area of responsibility, complying with relevant risk policies, testing and certifying the adequacy and effectiveness of their controls on a regular basis, establishing and documenting operating procedures and establishing and owning a governance structure for identifying and managing risk.
Second Line of Defense
The second line of defense includes independent monitoring and control functions accountable for developing and ensuring implementation of risk and control frameworks and related policies. This centralized risk function is appropriately independent from the business and is accountable for overseeing and challenging our business lines on the effective management of their risks, including credit, market, operational, regulatory and reputational risk.
Third Line of Defense
Our Internal Audit function is the third line of defense providing independent assurance with a view of the effectiveness of Citizens’ internal controls, governance practices, and culture so that risk is managed appropriately for the size, complexity, and risk profile of the organization. Internal Audit has complete and unrestricted access to any and all Bank records, physical properties, and personnel. Internal Audit issues a report following each internal review and provides an audit opinion to Citizens’ Audit Committees on a quarterly basis.
Credit Quality Assurance also reports to the Chief Audit Executive and also provides the legal-entity boards, senior management and other stakeholders with independent assurance on the quality of credit portfolios and adherence to agreed Credit Risk Appetite and Credit Policies and processes. In line with its procedures and regulatory expectations, the Credit Quality Assurance function undertakes a program of portfolio testing, assessing and reporting through four Risk Pillars of Asset Quality, Rating and Data Integrity, Risk Management and Credit Risk Appetite.
Risk Appetite
Risk appetite is a strategic business and risk management tool. We define our risk appetite as the maximum limit of acceptable risk beyond which we could be unable to achieve our strategic objectives and capital adequacy obligations.
Our principal non-market risks include: credit risk, operational risk, liquidity risk, strategic risk and reputational risk. We are also subject to certain market risks which include potential losses arising from changes in interest rates, foreign exchange rates, equity prices, commodity prices and/or other relevant market rates or prices. Market risk in our business arises from trading activities that serve customer needs, including hedging of interest rate, foreign exchange risk and non-trading activities within capital markets. We have established enterprise-wide policies and methodologies to identify, measure, monitor and report market risk. We actively manage both trading and non-trading market risks. See “—Market Risk” for further information.

45

CITIZENS FINANCIAL GROUP, INC.
MANAGEMENT’S DISCUSSION AND ANALYSIS

Our risk appetite is reviewed and approved by the Board Risk Committee.
Credit Risk
Overview
Credit risk represents the potential for loss arising from a customer, counterparty, or issuer failing to perform in accordance with the contractual terms of the obligation. While the majority of our credit risk is associated with lending activities, we do engage with other financial counterparties for a variety of purposes including investing, asset and liability management, and trading activities. Given the financial impact of credit risk on our earnings and balance sheet, the assessment, approval, and management of credit risk represents a major part of our overall risk-management responsibility.
Objective
The credit risk management organization is responsible for approving credit transactions, monitoring portfolio performance, identifying problem loans, and ensuring remedial management.
Organizational Structure
Management and oversight of credit risk is the responsibility of both the line of business and the second line of defense. The second line of defense, the independent Credit Risk Function, is led by the Chief Credit Officer who oversees all of our credit risk. The CCO reports to the Chief Risk Officer. The CCO, acting in a manner consistent with Board policies, has responsibility for, among other things, the governance process around policies, procedures, risk acceptance criteria, credit risk appetite, limits, and authority delegation. The CCO and his team also have responsibility for credit approvals for larger and higher risk transactions and oversight of line of business credit risk activities. Reporting to the CCO are the heads of the second line of defense credit functions specializing in: Consumer Banking; Commercial Banking; Citizens Restructuring Management; Portfolio and Corporate Reporting; ALLL Analytics; and Credit Policy and Administration. Each team under these leaders is composed of highly experienced credit professionals.
Governance
The primary mechanisms used to govern our credit risk function are our consumer and commercial credit policies. These policies outline the minimum acceptable lending standards that align with our desired risk appetite. Material changes in our business model and strategies that identify a need to change our risk appetite or highlight a risk not previously contemplated are identified by the individual committees and presented to the Credit Policy Committee, Executive Risk Committee and the Board Risk Committee for approval as appropriate.
Key Management Processes
We employ a comprehensive and integrated risk control program to proactively (1) identify, (2) measure, (3) monitor, and (4) mitigate existing and emerging credit risks across the credit lifecycle (origination, account management/portfolio management, and loss mitigation and recovery).
Consumer
On the consumer banking side of credit risk, our teams use models to evaluate consumer loans across the lifecycle of the loan. Starting at origination, credit scoring models are used to forecast the probability of default of an applicant. When approving customers for a new loan or extension of an existing credit line, credit scores are used in conjunction with other credit risk variables such as affordability, length of term, collateral value, collateral type, and lien subordination.
To ensure proper oversight of the underwriting teams, lending authority is granted by the second line of defense credit risk function to each underwriter. The amount of delegated authority depends on the experience of the individual. We periodically evaluate the performance of each underwriter and annually reauthorize their delegated authority. Only senior members of the second line of defense credit risk team are authorized to approve significant exceptions to credit policies. It is not uncommon to make exceptions to established policies when compensating factors are present. There are exception limits which, when reached, trigger a comprehensive analysis.
Once an account is established, credit scores and collateral values are refreshed at regular intervals to allow for proactive identification of increasing or decreasing levels of credit risk. Our approach to managing credit risk is highly analytical and, where appropriate, is automated, to ensure consistency and efficiency.

46

CITIZENS FINANCIAL GROUP, INC.
MANAGEMENT’S DISCUSSION AND ANALYSIS

Commercial
On the commercial banking side of credit risk, the structure is broken into C&I loans and leases and CRE. Within C&I loans and leases there are separate verticals established for certain specialty products (e.g., asset-based lending, leasing, franchise finance, health care, technology, mid-corporate). A “specialty vertical” is a stand-alone team of industry or product specialists. Substantially all activity that falls under the ambit of the defined industry or product is managed through a specialty vertical when one exists. CRE also operates as a specialty vertical.
Commercial credit risk management begins with defined credit products and policies.
Commercial transactions are subject to individual analysis and approval at origination and, with few exceptions, are subject to a formal annual review requirement. The underwriting process includes the establishment and approval of credit grades that confirm the PD and LGD. Approval then requires both a business line approver and an independent credit approver with the requisite level of delegated authority. The approval level of a particular credit facility is determined by the size of the credit relationship as well as the PD. The checks and balances in the credit process and the independence of the credit approver function are designed to appropriately assess and sanction the level of credit risk being accepted, facilitate the early recognition of credit problems when they occur, and to provide for effective problem asset management and resolution. All authority to grant credit is delegated through the independent Credit Risk function and is closely monitored and regularly updated.
The primary factors considered in commercial credit approvals are the financial strength of the borrower, assessment of the borrower’s management capabilities, cash flows from operations, industry sector trends, type and sufficiency of collateral, type of exposure, transaction structure, and the general economic outlook. While these are the primary factors considered, there are a number of other factors that may be considered in the decision process. In addition to the credit analysis conducted during the approval process at origination and annual review, our Credit Quality Assurance group performs testing to provide an independent review and assessment of the quality of the portfolio and new originations. This group conducts portfolio reviews on a risk-based cycle to evaluate individual loans and validate risk ratings, as well as test the consistency of the credit processes and the effectiveness of credit risk management.
The maximum level of credit exposure to individual credit borrowers is limited by policy guidelines based on the perceived risk of each borrower or related group of borrowers. Concentration risk is managed through limits on industry asset class and loan quality factors. We focus predominantly on extending credit to commercial customers with existing or expandable relationships within our primary markets (for this purpose defined as our 11 state footprint plus contiguous states), although we do engage in lending opportunities outside our primary markets if we believe that the associated risks are acceptable and aligned with strategic initiatives.
Substantially all loans categorized as Classified are managed by a specialized group of credit professionals.
Market Risk
Market risk refers to potential losses arising from changes in interest rates, foreign exchange rates, equity prices, commodity prices and/or other relevant market rates or prices. Modest market risk arises from trading activities that serve customer needs, including hedging of interest rate and foreign exchange risk. As described below, more material market risk arises from our non-trading banking activities, such as loan origination and deposit-gathering. We have established enterprise-wide policies and methodologies to identify, measure, monitor and report market risk. We actively manage both trading and non-trading market risks.
Non-Trading Risk
We are exposed to market risk as a result of non-trading banking activities. This market risk is composed entirely of interest rate risk, as we have no direct currency or commodity risk and de minimis equity risk. This interest rate risk emerges from the balance sheet after the aggregation of our assets, liabilities and equity. We refer to this non-trading risk embedded in the balance sheet as “structural interest rate risk” or “interest rate risk in the banking book.” Our mortgage servicing rights assets also contain interest rate risk as the value of the fee stream is impacted by the level of long-term interest rates.
A major source of structural interest rate risk is a difference in the repricing of assets, on the one hand, and liabilities and equity, on the other. First, there are differences in the timing and drivers of rate changes reflecting the maturity and/or repricing of assets and liabilities. For example, the rate earned on a commercial loan may reprice monthly with changes in LIBOR while the rate paid on debt or certificates of deposit may be fixed for a longer period. There are differences in the drivers of rate changes as well. Loans may be tied to a specific index rate such as LIBOR or Prime, while deposits may be only loosely correlated with LIBOR and depend on competitive

47

CITIZENS FINANCIAL GROUP, INC.
MANAGEMENT’S DISCUSSION AND ANALYSIS

demand. Due to these basis differences, net interest income is sensitive to changes in spreads between certain indices or repricing rates.
Another important source of structural interest rate risk relates to the potential exercise of explicit or embedded options. For example, most consumer loans can be prepaid without penalty; and most consumer deposits can be withdrawn without penalty. The exercise of such options by customers can exacerbate the timing differences discussed above.
A primary source of our structural interest rate risk relates to faster repricing of floating rate loans relative to the retail deposit funding. This source of asset sensitivity is concentrated at the short end of the yield curve. For the past eight years with the Federal Funds rate near zero, this risk has been asymmetrical with significantly more upside benefit than potential exposure. With interest rates starting to rise, the risk position will become more symmetrical over time as rates can decline further before becoming floored at zero.
The secondary source of our interest rate risk is driven by longer term rates comprising the rollover or reinvestment risk on fixed rate loans as well as the prepayment risk on mortgage related loans and securities funded by non-rate sensitive deposits and equity.
The primary goal of interest rate risk management is to control exposure to interest rate risk within policy limits approved by the Board. These limits and guidelines reflect our tolerance for interest rate risk over both short-term and long-term horizons. To ensure that exposure to interest rate risk is managed within this risk appetite, we must both measure the exposure and, as necessary, hedge it. The Treasury Asset and Liability Management team is responsible for measuring, monitoring and reporting on the structural interest rate risk position. These exposures are reported on a monthly basis to the Asset and Liability Committee (“ALCO”) and at Board meetings.
We measure structural interest rate risk through a variety of metrics intended to quantify both short-term and long-term exposures. The primary method that we use to quantify interest rate risk is simulation analysis in which we model net interest income from assets, liabilities and hedge derivative positions under various interest rate scenarios over a three-year horizon. Exposure to interest rate risk is reflected in the variation of forecasted net interest income across scenarios.
Key assumptions in this simulation analysis relate to the behavior of interest rates and spreads, the changes in product balances and the behavior of loan and deposit clients in different rate environments. The most material of these behavioral assumptions relate to the repricing characteristics and balance fluctuations of deposits with indeterminate (i.e., non-contractual) maturities as well as the pace of mortgage prepayments. Assessments are periodically made by running sensitivity analysis of the impact of key assumptions. The results of these analyses are reported to ALCO.
As the future path of interest rates cannot be known in advance, we use simulation analysis to project net interest income under various interest rate scenarios including a “most likely” (implied forward) scenario as well as a variety of deliberately extreme and perhaps unlikely scenarios. These scenarios may assume gradual ramping of the overall level of interest rates, immediate shocks to the level of rates and various yield curve twists in which movements in short- or long-term rates predominate. Generally, projected net interest income in any interest rate scenario is compared to net interest income in a base case where market forward rates are realized.
The table below reports net interest income exposures against a variety of interest rate scenarios. Exposures are measured as a percentage change in net interest income over the next year due to either instantaneous or gradual parallel +/- 200 basis point moves in the market implied forward yield curve. The net interest income simulation analyses do not include possible future actions that management might undertake to mitigate this risk. The current limit is a decrease in net interest income of 13% related to an instantaneous +/- 200 basis point move. This limit was increased from -10.0% in March 2017. With rates rising from historically low levels due to FRB rate increases in December 2016 and March 2017, exposure to falling rates has increased. As the table illustrates, our balance sheet is asset-sensitive: net interest income would benefit from an increase in interest rates. Exposure to a decline in interest rates is within limit. While an instantaneous and severe shift in interest rates was used in this analysis, we believe that any actual shift in interest rates would likely be more gradual and would therefore have a more modest impact.

48

CITIZENS FINANCIAL GROUP, INC.
MANAGEMENT’S DISCUSSION AND ANALYSIS

The table below presents the sensitivity of net interest income to various parallel yield curve shifts from the market implied forward yield curve:
 
Estimated % Change in
Net Interest Income over 12 Months
Basis points
March 31, 2017
 
December 31, 2016
Instantaneous Change in Interest Rates
 
 
 
+200
11.4
 %
 
11.3
 %
+100
5.8

 
5.6

-100
(7.2
)
 
(6.9
)
-200
(11.1
)
 
(9.8
)
Gradual Change in Interest Rates
 
 
 

+200
6.0

 
5.9

+100
3.2

 
3.1

-100
(2.9
)
 
(3.0
)
-200
(6.7
)
 
(6.2
)
Asset sensitivity against a 200 basis point gradual increase in rates was 6.0% at March 31, 2017, up modestly from 5.9% at December 31, 2016. The core asset sensitivity is the result of a faster repricing of the loan book relative to the deposit and equity funding. The asset sensitive risk position is managed within our risk limits through occasional adjustments to securities investments, interest rate swaps and mix of funding.
We use a valuation measure of exposure to structural interest rate risk, Economic Value of Equity (“EVE”), as a supplement to net interest income simulations. EVE complements net interest income simulation analysis as it estimates risk exposure over a long-term horizon. EVE measures the extent to which the economic value of assets, liabilities and off-balance sheet instruments may change in response to fluctuation in interest rates. This analysis is highly dependent upon assumptions applied to assets and liabilities with non-contractual maturities. The change in value is expressed as a percentage of regulatory capital. The current risk limit is set at a decrease of 20% of regulatory capital given an instantaneous +/- 200 basis point change in interest rates. We are operating within that limit as of March 31, 2017.
We also have market risk associated with the value of the mortgage servicing right assets, which are impacted by the level of interest rates. As of March 31, 2017 and December 31, 2016, our mortgage servicing rights had a book value of $165 million and $162 million, respectively, and were carried at the lower of cost or fair value. As of March 31, 2017, and December 31, 2016, the fair value of the mortgage servicing rights was $180 million and $182 million, respectively. Depending on the interest rate environment, hedges may be used to stabilize the market value of the mortgage servicing right asset.
Trading Risk
We are exposed to market risk primarily through client facilitation activities including derivatives and foreign exchange products as well as underwriting and market making activities. Exposure is created as a result of changes in interest rates and related basis spreads and volatility, foreign exchange rates, and credit spreads on a select range of interest rates, foreign exchange and secondary loan instruments. These trading activities are conducted through our two banking subsidiaries, CBNA and CBPA.
Client facilitation activities consist primarily of interest rate derivatives and foreign exchange contracts where we enter into offsetting trades with a separate counterparty or exchange to manage our market risk exposure. In addition to the aforementioned activities, we operate a secondary loan trading desk with the objective to meet secondary liquidity needs of our issuing clients’ transactions and investor clients. We do not engage in any trading activities with the intent to benefit from short term price differences.
We record interest rate derivatives and foreign exchange contracts as derivative assets and liabilities on our Consolidated Balance Sheets. Trading assets and liabilities are carried at fair value with income earned related to these activities included in net interest income. Changes in fair value of trading assets and liabilities are reflected in other income, a component of noninterest income on the unaudited interim Consolidated Statements of Operations.

49

CITIZENS FINANCIAL GROUP, INC.
MANAGEMENT’S DISCUSSION AND ANALYSIS

Market Risk Governance
The market risk limit setting process is established in line with the formal enterprise risk appetite process and policy. This appetite reflects the strategic and enterprise level articulation of opportunities for creating franchise value set to the boundaries of how much market risk to take. Dealing authorities represent the key control tool in the management of market risk that allows the cascading of the risk appetite throughout the enterprise. A dealing authority sets the operational scope and tolerances within which a business is permitted to operate and this is reviewed at least annually. Dealing authorities are structured to accommodate the client facing trades and hedges needed to manage the risk profile. Primary responsibility for keeping within established tolerances resides with the business. Key risk indicators, including VaR, open foreign currency positions, and single name risk, are monitored on a daily basis and reported against tolerances consistent with our risk appetite and business strategy to relevant business line management and risk counterparts.
Market Risk Measurement
We use VaR as a statistical measure for estimating potential exposure of our traded market risk in normal market conditions. Our VaR framework for risk management and regulatory reporting is the same. Risk management VaR is based on a one day holding period to a 99% confidence level, whereas regulatory VaR is based on a ten day holding period to the same confidence level. Additional to VaR, non-statistical measurements for measuring risk are employed, such as sensitivity analysis, market value and stress testing.
Our market risk platform and associated market risk and valuation models for our foreign exchange, interest rate products, and traded loans capture correlation effects and allow for aggregation of market risk across risk types, business lines and legal entities. We measure, monitor and report market risk for both management and regulatory capital purposes.
Value-at-Risk Overview
    The market risk measurement model is based on historical simulation. The VaR measure estimates the extent of any fair value losses on trading positions that may occur due to broad market movements (General VaR) such as changes in the level of interest rates, foreign exchange rates, equity prices and commodity prices. It is calculated on the basis that current positions remain broadly unaltered over the course of a given holding period. It is assumed that markets are sufficiently liquid to allow the business to close its positions, if required, within this holding period. VaR’s benefit is that it captures the historic correlations of a portfolio. Based on the composition of our “covered positions,” we also use a standardized add-on approach for the loan trading desk’s Specific Risk capital which estimates the extent of any losses that may occur from factors other than broad market movements. During the quarter ending March 31, 2017, we integrated our secondary traded loans into our enterprise wide market risk platform for the calculation of VaR on the general interest rate risk embedded within the traded loans. And thus retired the associated standalone model that replicated the general VaR methodology on the traded loans (the related capital was reflected on the “de minimis” line in the following section in prior quarters). The measured VaR on the trading portfolio is now comprised of three covered position sub-portfolios (interest rate derivatives, foreign exchange, and traded loans). The General VaR approach is expressed in terms of a confidence level over the past 500 trading days. The internal VaR measure (used as the basis of the main VaR trading limits) is a 99% confidence level with a one day holding period, meaning that a loss greater than the VaR is expected to occur, on average, on only one day in 100 trading days (i.e., 1% of the time). Theoretically, there should be a loss event greater than VaR two to three times per year. The regulatory measure of VaR is done at a 99% confidence level with a ten-day holding period. The historical market data applied to calculate the VaR is updated on a ten business day lag. Refer to “Market Risk Regulatory Capital” below for details of our ten-day VaR metrics for the quarters ended March 31, 2017 and 2016, including high, low, average and period end Value-at-Risk for interest rate and foreign exchange rate risks, as well as total VaR.

50

CITIZENS FINANCIAL GROUP, INC.
MANAGEMENT’S DISCUSSION AND ANALYSIS

Market Risk Regulatory Capital
The U.S. banking regulators “Market Risk Rule” covers the calculation of market risk capital. The Market Risk Rule, commonly known as Basel 2.5, substantially modified the determination of market risk-weighted assets and implemented a more risk sensitive methodology for the risk inherent in certain trading positions categorized as “covered positions.” For the purposes of the market risk rule, all of our client facing trades, and associated hedges needed to maintain a low risk profile to qualify as “covered positions.” The internal management VaR measure is calculated based on the same population of trades that is utilized for regulatory VaR. The following table presents the results of our modeled and non-modeled measures for regulatory capital calculations:
(in millions)
 
For the Quarter Ended March 31, 2017
 
For the Quarter Ended March 31, 2016
Market Risk Category 
 
Period End
 
Average 
 
High
 
Low
 
Period End
 
Average
 
High
 
Low
Interest Rate
 

$1

 

$—

 

$1

 

$—

 

$—

 

$—

 

$—

 

$—

Foreign Exchange Currency Rate
 

 

 
2

 

 

 

 

 

Credit Spread
 
3

 
2

 
3

 
1

 

 

 

 

General VaR
 
3

 
2

 
3

 

 

 

 
1

 

Specific Risk VaR
 

 

 

 

 

 

 

 

Total VaR
 

$3

 

$2

 

$3

 

$—

 

$—

 

$—

 

$—

 

$—

Stressed General VaR
 

$10

 

$7

 

$11

 

$2

 

$2

 

$3

 

$5

 

$2

Stressed Specific Risk VaR
 

 

 

 

 

 

 

 

Total Stressed VaR
 

$10

 

$7

 

$11

 

$2

 

$2

 

$3

 

$5

 

$2

Market Risk Regulatory Capital
 

$24

 
 

 
 

 
 

 

$11

 
 
 
 
 
 
Specific Risk Not Modeled Add-on
 
10

 
 
 
 
 
 
 
5

 
 
 
 
 
 
de Minimis Exposure Add-on
 
3

 
 
 
 
 
 
 
13

 
 
 
 
 
 
Total Market Risk Regulatory Capital
 

$37

 
 
 
 
 
 
 

$29

 
 
 
 
 
 
Market Risk-Weighted Assets
 

$468

 
 

 
 

 
 

 

$357

 
 
 
 
 
 
 
Stressed VaR
SVaR is an extension of VaR, but uses a longer historical look-back horizon that is fixed from January 3, 2005. This is done not only to identify headline risks from more volatile periods, but also to provide a counter-balance to VaR which may be low during periods of low volatility. The holding period for profit and loss determination is ten days. SVaR is also a component of market risk regulatory capital. We calculate SVaR daily under its own dynamic window regime. In a dynamic window regime, values of the ten-day, 99% VaR are calculated over all possible 260-day periods that can be obtained from the complete historical data set. Refer to “Market Risk Regulatory Capital” above for details of SVaR metrics, including high, low, average and period end SVaR for the combined portfolio.
Sensitivity Analysis
Sensitivity analysis is the measure of exposure to a single risk factor, such as a one basis point change in rates or credit spread. We conduct and monitor sensitivity on interest rates, basis spreads, foreign exchange exposures, option prices, and credit spreads. Whereas VaR is based on previous moves in market risk factors over recent periods, it may not be an accurate predictor of future market moves. Sensitivity analysis complements VaR, as it provides an indication of risk relative to each factor irrespective of historical market moves, and is an effective tool in evaluating the appropriateness of hedging strategies.
Stress Testing
Conducting a stress test of a portfolio consists of running risk models with the inclusion of key variables that simulate various historical or hypothetical scenarios. For historical stress tests, profit and loss results are simulated for selected time periods corresponding to the most volatile underlying returns while hypothetical stress tests aim to consider concentration risk, illiquidity under stressed market conditions and risk arising from our trading activities that may not be fully captured by our other models. Hypothetical scenarios also assume that market moves happen simultaneously and no repositioning or hedging activity takes place to mitigate losses as events unfold. We generate stress tests of our trading positions on a daily basis. For example, we currently include a stress test that simulates a “Lehman-type” crisis scenario by taking the worst 20-trading day peak to trough moves for the various risk factors that go into VaR from that period, and assumes they occurred simultaneously.

51

CITIZENS FINANCIAL GROUP, INC.
MANAGEMENT’S DISCUSSION AND ANALYSIS

VaR Model Review and Validation
Market risk measurement models used are independently reviewed and subject to ongoing performance analysis by the model owner. The independent review and validation focuses on the model methodology and performance. Independent review of market risk measurement models is the responsibility of Citizens’ Model Risk Management and Validation team. Aspects covered include challenging the assumptions used, the quantitative techniques employed and the theoretical justification underpinning them, and an assessment of the soundness of the required data over time. Where possible, the quantitative impact of the major underlying modeling assumptions will be estimated (e.g., through developing alternative models). Results of such reviews are shared with U.S. banking regulators. The market risk models may be periodically enhanced due to changes in market price levels and price action regime behavior. The Market Risk Management and Validation team will conduct internal validation before a new or changed model element is implemented and before a change is made to a market data mapping.
VaR Backtesting
Backtesting is one form of validation of the VaR model. The Market Risk Rule requires a comparison of our internal VaR measure to the actual net trading revenue (excluding fees, commissions, reserves, intra-day trading and net interest income) for each day over the preceding year (the most recent 250 business days). Any observed loss in excess of the VaR number is taken as an exception. The level of exceptions determines the multiplication factor used to derive the VaR and SVaR-based capital requirement for regulatory reporting purposes. We perform sub-portfolio backtesting as required under the Market Risk Rule, and as approved by our banking regulators, for interest rate and foreign exchange positions. The following graph shows our daily net trading revenue and total internal, modeled VaR for the quarters ended March 31, 2017, December 31, 2016, September 30, 2016 and June 30, 2016.
Daily VaR Backtesting
graphfinal.jpg
Note: As mentioned in the above “Value-at-Risk Overview” section, we migrated our secondary loan trading activities from our stand alone model to our enterprise market risk platform in first quarter 2017. The above back-testing graph reflects the impact of said inclusion and daily oscillations of the market making traded loan inventory.


52

CITIZENS FINANCIAL GROUP, INC.
FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA


ITEM 1. FINANCIAL STATEMENTS

 
 
Page
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 


53

CITIZENS FINANCIAL GROUP, INC.

 

CONSOLIDATED BALANCE SHEETS (UNAUDITED)
(in millions, except share data)
March 31, 2017

 
December 31, 2016
ASSETS:
 
 
 
Cash and due from banks

$882

 

$955

Interest-bearing cash and due from banks
3,111

 
2,749

Interest-bearing deposits in banks
351

 
439

Securities available for sale, at fair value (including $243 and $256 pledged to creditors, respectively) (a)
19,964

 
19,501

Securities held to maturity (including fair value of $4,995 and $5,058, respectively)
4,992

 
5,071

Other investment securities, at fair value
101

 
96

Other investment securities, at cost
939

 
942

Loans held for sale, at fair value
448

 
583

Other loans held for sale
221

 
42

Loans and leases
108,111

 
107,669

Less: Allowance for loan and lease losses
1,224

 
1,236

Net loans and leases
106,887

 
106,433

Derivative assets
357

 
627

Premises and equipment, net
582

 
601

Bank-owned life insurance
1,623

 
1,612

Goodwill
6,876

 
6,876

Other assets
2,951

 
2,993

TOTAL ASSETS

$150,285

 

$149,520

LIABILITIES AND STOCKHOLDERS’ EQUITY:
 
 
 
LIABILITIES:
 
 
 
Deposits:
 
 
 
Noninterest-bearing

$27,713

 

$28,472

Interest-bearing
84,399

 
81,332

          Total deposits
112,112

 
109,804

Federal funds purchased and securities sold under agreements to repurchase
1,093

 
1,148

Other short-term borrowed funds
2,762

 
3,211

Derivative liabilities
320

 
659

Deferred taxes, net
744

 
714

Long-term borrowed funds
11,780

 
12,790

Other liabilities
1,627

 
1,447

TOTAL LIABILITIES

$130,438

 

$129,773

Contingencies (refer to Note 11)


 


STOCKHOLDERS’ EQUITY:
 
 
 
Preferred stock, $25.00 par value, authorized 100,000,000 shares:
 
 
 
Series A, non-cumulative perpetual, $25.00 par value (liquidation preference $1,000), 250,000 shares authorized and issued net of issuance costs and related premium at March 31, 2017 and December 31, 2016

$247

 

$247

Common stock:
 
 
 
$0.01 par value, 1,000,000,000 shares authorized, 565,589,795 shares issued and 509,515,646 shares outstanding at March 31, 2017 and 1,000,000,000 shares authorized, 564,630,542 shares issued and 511,954,871 shares outstanding at December 31, 2016
6

 
6

Additional paid-in capital
18,751

 
18,722

Retained earnings
2,944

 
2,703

Treasury stock, at cost, 56,074,149 and 52,675,671 shares at March 31, 2017 and December 31, 2016, respectively
(1,418
)
 
(1,263
)
Accumulated other comprehensive loss
(683
)
 
(668
)
TOTAL STOCKHOLDERS’ EQUITY

$19,847

 

$19,747

TOTAL LIABILITIES AND STOCKHOLDERS’ EQUITY

$150,285

 

$149,520

(a) Includes only collateral pledged by the Company where counterparties have the right to sell or pledge the collateral.

The accompanying Notes to unaudited interim Consolidated Financial Statements are an integral part of these statements.

54

CITIZENS FINANCIAL GROUP, INC.

 

CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)
 
Three Months Ended March 31,
 (in millions, except share and per-share data)
2017

2016

INTEREST INCOME:
 
 
Interest and fees on loans and leases

$992


$868

Interest and fees on loans held for sale, at fair value
4

3

Interest and fees on other loans held for sale
1

1

Investment securities
160

145

Interest-bearing deposits in banks
3

2

Total interest income
1,160

1,019

INTEREST EXPENSE:
 
 
Deposits
86

60

Federal funds purchased and securities sold under agreements to repurchase
1

1

Other short-term borrowed funds
8

11

Long-term borrowed funds
60

43

Total interest expense
155

115

Net interest income
1,005

904

Provision for credit losses
96

91

Net interest income after provision for credit losses
909

813

NONINTEREST INCOME:
 
 
Service charges and fees
125

126

Card fees
60

50

Capital markets fees
48

25

Trust and investment services fees
39

37

Letter of credit and loan fees
29

27

Foreign exchange and interest rate products
27

18

Mortgage banking fees
23

18

Securities gains, net
4

9

Net securities impairment losses recognized in earnings
(1
)
(1
)
Other income
25

21

Total noninterest income
379

330

NONINTEREST EXPENSE:
 
 
Salaries and employee benefits
444

425

Outside services
91

91

Occupancy
82

76

Equipment expense
67

65

Amortization of software
44

39

Other operating expense
126

115

Total noninterest expense
854

811

Income before income tax expense
434

332

Income tax expense
114

109

NET INCOME

$320


$223

Net income available to common stockholders
$313

$216

Weighted-average common shares outstanding:
 
 
Basic
509,451,450

528,070,648

Diluted
511,348,200

530,446,188

Per common share information:
 
 
Basic earnings

$0.61


$0.41

Diluted earnings
0.61

0.41

Dividends declared and paid
0.14

0.10

The accompanying Notes to unaudited interim Consolidated Financial Statements are an integral part of these statements.

55

CITIZENS FINANCIAL GROUP, INC.

 

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(UNAUDITED)
 
Three Months Ended March 31,
(in millions)
2017

2016

Net income

$320


$223

Other comprehensive income (loss):
 
 
Net unrealized derivative instrument (losses) gains arising during the periods, net of income taxes of ($2) and $21, respectively
(3
)
33

Reclassification adjustment for net derivative gains included in net income, net of income taxes of ($4) and ($6), respectively
(6
)
(8
)
Net unrealized securities available for sale gains arising during the periods, net of income taxes of $3 and $92, respectively
5

154

Other-than-temporary impairment not recognized in earnings on securities, net of income taxes of ($7) and ($15), respectively
(12
)
(25
)
Reclassification of net securities gains to net income, net of income taxes of ($1) and ($3), respectively
(2
)
(5
)
Employee benefit plans:
 
 
Amortization of actuarial loss, net of income taxes of $2 and $2, respectively
3

2

Total other comprehensive (loss) income, net of income taxes
(15
)
151

Total comprehensive income

$305


$374

The accompanying Notes to unaudited interim Consolidated Financial Statements are an integral part of these statements.

56

CITIZENS FINANCIAL GROUP, INC.

 

CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY (UNAUDITED)
 
Preferred
 Stock
 
Common
 Stock
Additional Paid-in Capital
Retained Earnings
Treasury Stock, at Cost
Accumulated Other Comprehensive Income (Loss)
Total

(in millions)
Shares
Amount
 
Shares
Amount
Balance at January 1, 2016


$247

 
528


$6


$18,725


$1,913


($858
)

($387
)

$19,646

Dividends to common stockholders


 



(53
)


(53
)
Dividends to preferred stockholders


 



(7
)


(7
)
Share-based compensation plans


 
1


2




2

Employee stock purchase plan shares purchased


 


3




3

Total comprehensive income:
 
 
 
 
 
 
 
 
 
 
Net income


 



223



223

Other comprehensive income


 





151

151

Total comprehensive income


 



223


151

374

Balance at March 31, 2016


$247

 
529


$6


$18,730


$2,076


($858
)

($236
)

$19,965

Balance at January 1, 2017


$247

 
512


$6


$18,722


$2,703


($1,263
)

($668
)

$19,747

Dividends to common stockholders


 



(72
)


(72
)
Dividends to preferred stockholders


 



(7
)


(7
)
Treasury stock purchased


 
(3
)

25


(155
)

(130
)
Share-based compensation plans


 
1


1




1

Employee stock purchase plan shares purchased


 


3




3

Total comprehensive income:
 
 
 
 
 
 
 
 
 
 
Net income


 



320



320

Other comprehensive loss


 






(15
)
(15
)
Total comprehensive income


 



320


(15
)
305

Balance at March 31, 2017


$247

 
510


$6


$18,751


$2,944


($1,418
)

($683
)

$19,847

The accompanying Notes to unaudited interim Consolidated Financial Statements are an integral part of these statements.

57

CITIZENS FINANCIAL GROUP, INC.

 

CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
 
Three Months Ended March 31,
(in millions)
2017

2016

OPERATING ACTIVITIES
 
 
Net income

$320


$223

Adjustments to reconcile net income to net cash provided by operating activities:
 
 
Provision for credit losses
96

91

Originations of mortgage loans held for sale
(655
)
(484
)
Proceeds from sales of mortgage loans held for sale
815

479

Purchases of commercial loans held for sale
(384
)
(362
)
Proceeds from sales of commercial loans held for sale
380

345

Amortization of terminated cash flow hedges
(1
)
15

Depreciation, amortization and accretion
125

112

Mortgage servicing rights valuation charge-off

5

Securities impairment
1

1

Deferred income taxes
39

30

Share-based compensation
18

4

Net gain on sales of:
 
 
Debt securities
(4
)
(9
)
Premises and equipment

(2
)
Decrease (increase) in other assets
282

(339
)
(Decrease) increase in other liabilities
(179
)
265

Net cash provided by operating activities
853

374

INVESTING ACTIVITIES
 
 
Investment securities:
 
 
Purchases of securities available for sale
(1,705
)
(706
)
Proceeds from maturities and paydowns of securities available for sale
809

709

Proceeds from sales of securities available for sale
404

217

Purchases of securities held to maturity
(57
)

Proceeds from maturities and paydowns of securities held to maturity
136

131

Purchases of other investment securities, at fair value
(73
)
(51
)
Proceeds from sales of other investment securities, at fair value
68

53

Purchases of other investment securities, at cost
(98
)
(37
)
Proceeds from sales of other investment securities, at cost
118

4

Net decrease (increase) in interest-bearing deposits in banks
88

(178
)
Net increase in loans and leases
(769
)
(2,401
)
Net increase in bank-owned life insurance
(11
)
(12
)
Premises and equipment:
 
 
Purchases
(14
)
(8
)
Proceeds from sales

3

Capitalization of software
(39
)
(45
)
Net cash used in investing activities
(1,143
)
(2,321
)
FINANCING ACTIVITIES
 
 
Net increase in deposits
2,308

67

Net decrease in federal funds purchased and securities sold under agreements to repurchase
(55
)
(88
)
Net (decrease) increase in other short-term borrowed funds
(450
)
670

Proceeds from issuance of long-term borrowed funds
2,997

750

Repayments of long-term borrowed funds
(4,000
)
(629
)
Treasury stock purchased
(130
)

Dividends declared and paid to common stockholders

(72
)
(53
)
Payments of employee tax withholding for share-based compensation

(19
)

Net cash provided by financing activities
579

717

Increase (decrease) in cash and cash equivalents
289

(1,230
)
Cash and cash equivalents at beginning of period
3,704

3,085

Cash and cash equivalents at end of period

$3,993


$1,855

The accompanying Notes to unaudited interim Consolidated Financial Statements are an integral part of these statements.



58

CITIZENS FINANCIAL GROUP, INC.

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
NOTE 1 - BASIS OF PRESENTATION
Basis of Presentation
The unaudited interim Consolidated Financial Statements, including the Notes thereto of Citizens Financial Group, Inc., have been prepared in accordance with GAAP interim reporting requirements, and therefore do not include all information and Notes included in the audited Consolidated Financial Statements in conformity with GAAP. These unaudited interim Consolidated Financial Statements and Notes thereto should be read in conjunction with the Company’s audited Consolidated Financial Statements and accompanying Notes included in the Company’s Form 10-K for the year ended December 31, 2016. The Company’s principal business activity is banking, conducted through its subsidiaries, Citizens Bank, N.A. and Citizens Bank of Pennsylvania.
The unaudited interim Consolidated Financial Statements include the accounts of the Company and subsidiaries in which the Company has a controlling financial interest. All intercompany transactions and balances have been eliminated. The Company has evaluated its unconsolidated entities and does not believe that any entity in which it has an interest, but does not currently consolidate, meets the requirements to be consolidated as a variable interest entity.
The unaudited interim Consolidated Financial Statements include all adjustments, consisting of normal recurring adjustments, necessary for a fair presentation of the results for the interim periods. The results for interim periods are not necessarily indicative of results for a full year.
The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Material estimates that are particularly susceptible to significant change in the near-term relate to the determination of the allowance for credit losses, evaluation and measurement of impairment of goodwill, evaluation of unrealized losses on securities for other-than-temporary impairment, accounting for income taxes, the valuation of AFS and HTM securities, and derivatives.
Certain prior period noninterest income amounts reported in the Consolidated Statement of Operations have been reclassified to conform to the current period presentation and student loans were renamed “education” loans to more closely align with the full range of services offered to borrowers, from loan origination to refinancing. These changes had no effect on net income, total comprehensive income, total assets or total stockholders’ equity as previously reported.
Adopted Accounting Pronouncements
In January 2017, the Company adopted ASU No. 2016-09 “Compensation - Stock Compensation (Topic 718) - Improvements to Employee Share-Based Payment Accounting” on a prospective basis. The ASU requires that all excess tax benefits and tax deficiencies that pertain to employee stock-based incentive payments be recognized within income tax expense in the Consolidated Statements of Operations, rather than within APIC. Adoption of this guidance did not have a material impact on the Company’s unaudited interim Consolidated Financial Statements.
Recently Issued Accounting Pronouncements
In March 2017, the FASB issued ASU No. 2017-08, “Receivables—Nonrefundable Fees and Other Costs (Sub-topic 310-20) – Premium Amortization on Purchased Callable Debt Securities.” The ASU shortens the amortization period for certain callable debt securities held at a premium. Specifically, the amendments require the premium to be amortized to the earliest call date. Under current GAAP, entities generally amortize the premium as an adjustment of yield over the contractual life of the instrument. The ASU is effective for the Company beginning on January 1, 2019. Adoption of this guidance is not expected to have a material impact on the Company’s Consolidated Financial Statements.
In March 2017, the FASB issued ASU No. 2017-07, “Compensation-Retirement Benefits (Topic 715) - Improving the Presentation of Net Periodic Pension Cost and Net Periodic Postretirement Benefit Cost.” The ASU improves the presentation of net periodic pension cost and net periodic postretirement benefit cost (collectively “net periodic cost”) by disaggregating the service cost component from the other components of net periodic cost, limiting the capitalizable amount to the total service cost, and clarifying in the disclosures which line items in the income statement include the components of net periodic cost. The ASU is effective for the Company beginning on January 1, 2018. Adoption of this guidance is not expected to have a material impact on the Company’s Consolidated Financial Statements.

59

CITIZENS FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)


In January 2017, the FASB issued ASU No. 2017-04, “Intangibles-Goodwill and Other (Topic 350) - Simplifying the Test for Goodwill Impairment.” The ASU simplifies the subsequent measurement of goodwill by eliminating Step 2 from the goodwill impairment test. Under the amendments, the goodwill impairment test will be performed by comparing the fair value of a reporting unit with its carrying amount. Any resulting impairment charge will be based on the amount by which the carrying amount exceeds the reporting unit’s fair value; however, the loss recognized should not exceed the total amount of goodwill allocated to that reporting unit. The ASU is effective for the Company beginning on January 1, 2020. Adoption of this guidance is not expected to have a material impact on the Company’s Consolidated Financial Statements.

In June 2016, the FASB issued ASU No. 2016-13, “Financial Instruments - Credit Losses (Topic 326) - Measurement of Credit Losses on Financial Instruments.” Under current GAAP, the Company reflects credit losses on financial assets measured on an amortized cost basis only when the losses are probable or have been incurred. The ASU replaces this approach with a forward-looking methodology that reflects expected credit losses over the lives of financial assets, starting when the assets are first acquired. Under the revised methodology, credit losses will be measured using a current expected credit losses model based on past events, current conditions and reasonable and supportable forecasts that affect the collectability of financial assets. The ASU also revises the approach to recognizing credit losses on debt securities available for sale by allowing entities to record reversals of credit losses in current-period earnings. The ASU is effective for the Company beginning on January 1, 2020 with a cumulative-effect adjustment to retained earnings as of the beginning of the year of adoption. The Company has begun its implementation efforts by establishing a company-wide, cross-discipline governance structure.  The Company is currently identifying key interpretive issues, and is comparing existing credit loss forecasting models and processes with the new guidance to determine what modifications may be required. While the Company is currently evaluating the impact the ASU will have on its Consolidated Financial Statements, the Company expects the ASU will result in an earlier recognition of credit losses and an increase in the allowance for credit losses.
In February 2016, the FASB issued ASU 2016-02 “Leases (Topic 842)”.  The ASU generally requires lessees to recognize a right-of-use asset and corresponding lease liability for all leases with a lease term of greater than one year.   The ASU requires lessees and lessors to classify most leases using principles similar to existing lease accounting, but eliminates the “bright line” classification tests. It also requires that for finance leases, a lessee recognize interest expense on the lease liability, separately from the amortization of the right-of-use asset in the statements of earnings, while for operating leases, such amounts should be recognized as a combined expense. In addition, this ASU requires expanded disclosures about the nature and terms of lease agreements. The ASU is effective for the Company beginning on January 1, 2019, using a modified cumulative effect approach wherein the guidance is applied to all periods presented. The Company has begun its implementation efforts and is currently evaluating the potential impact on the Consolidated Financial Statements of its existing lease contracts. The Company expects an increase of its Consolidated Balance Sheets as a result of recognizing lease liabilities and right of use assets; the extent of such increase is under evaluation. The Company does not expect material changes to the recognition of operating lease expense in its Consolidated Statements of Operations.
In May 2014, the FASB issued ASU 2014-09 “Revenue from Contracts with Customers (Topic 606)”. The ASU requires that revenue from contracts with customers be recognized upon transfer of control of a good or service in the amount of consideration expected to be received. The ASU  also requires new qualitative and quantitative disclosures, including information about contract balances and performance obligations. The Company’s revenue is balanced between net interest income on financial assets and liabilities, which is explicitly excluded from the scope of the ASU, and noninterest income. The Company has begun its implementation efforts which include the identification of revenue within the scope of the guidance, as well as the evaluation of related revenue contracts. Based on this effort, adoption of the ASU is not expected to have a material impact on the timing of revenue recognition. The Company plans to adopt the revenue recognition guidance in the first quarter of 2018.

60

CITIZENS FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)


NOTE 2 - SECURITIES
The following table presents the major components of securities at amortized cost and fair value:
 
March 31, 2017
 
December 31, 2016
(in millions)
Amortized Cost
Gross Unrealized Gains
Gross Unrealized Losses
Fair Value
 
Amortized Cost
Gross Unrealized Gains
Gross Unrealized Losses
Fair Value
Securities Available for Sale
 
 
 
 
 




U.S. Treasury and other

$15


$—


$—


$15

 

$30


$—


$—


$30

State and political subdivisions
7



7

 
8



8

Mortgage-backed securities:
 
 
 
 
 
 
 
 
 
Federal agencies and U.S. government sponsored entities
19,773

71

(282
)
19,562

 
19,231

78

(264
)
19,045

Other/non-agency
397

2

(19
)
380

 
427

2

(28
)
401

Total mortgage-backed securities
20,170

73

(301
)
19,942

 
19,658

80

(292
)
19,446

Total debt securities available for sale
20,192

73

(301
)
19,964

 
19,696

80

(292
)
19,484

Marketable equity securities




 
5



5

Other equity securities




 
12



12

Total equity securities available for sale




 
17



17

Total securities available for sale

$20,192


$73


($301
)

$19,964

 

$19,713


$80


($292
)

$19,501

Securities Held to Maturity
 
 
 
 
 
 
 
 
 
Mortgage-backed securities:
 
 
 
 
 
 
 
 
 
Federal agencies and U.S. government sponsored entities

$4,075


$15


($36
)

$4,054

 

$4,126


$12


($44
)

$4,094

Other/non-agency
917

24


941

 
945

19


964

Total securities held to maturity

$4,992


$39


($36
)

$4,995

 

$5,071


$31


($44
)

$5,058

Other Investment Securities, at Fair Value
 
 
 
 
 
 
 
 
 
Money market mutual fund

$96


$—


$—


$96

 

$91


$—


$—


$91

Other investments
5



5

 
5



5

Total other investment securities, at fair value

$101


$—


$—


$101

 

$96


$—


$—


$96

Other Investment Securities, at Cost
 
 
 
 
 
 
 
 
 
Federal Reserve Bank stock

$463


$—


$—


$463

 

$463


$—


$—


$463

Federal Home Loan Bank stock
458



458

 
479



479

Other equity securities
18



18

 




Total other investment securities, at cost

$939


$—


$—


$939

 

$942


$—


$—


$942


61

CITIZENS FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)



The Company has reviewed its securities portfolio for other-than-temporary impairments. The following table presents the net securities impairment losses recognized in earnings:
 
Three Months Ended March 31,
(in millions)
2017

 
2016

Other-than-temporary impairment:
 
 
 
Total other-than-temporary impairment losses

($20
)
 

($41
)
      Portions of loss recognized in other comprehensive income (before taxes)
19

 
40

Net securities impairment losses recognized in earnings

($1
)
 

($1
)

The following tables present securities whose fair values are below carrying values, segregated by those that have been in a continuous unrealized loss position for less than twelve months and those that have been in a continuous unrealized loss position for twelve months or longer:
 
March 31, 2017
 
Less than 12 Months
 
12 Months or Longer
 
Total
(dollars in millions)
Number of Issues
Fair Value
Gross Unrealized Losses
 
Number of Issues
Fair Value
Gross Unrealized Losses
 
Number of Issues
Fair Value
Gross Unrealized Losses
State and political subdivisions
1


$7


$—

 


$—


$—

 
1


$7


$—

Mortgage-backed securities:
 
 
 
 
 
 
 
 
 
 
 
Federal agencies and U.S. government sponsored entities
323

15,287

(305
)
 
24

449

(13
)
 
347

15,736

(318
)
Other/non-agency
7

50

(1
)
 
17

229

(18
)
 
24

279

(19
)
Total mortgage-backed securities
330

15,337

(306
)
 
41

678

(31
)
 
371

16,015

(337
)
Total
331


$15,344


($306
)
 
41


$678


($31
)
 
372


$16,022


($337
)

 
December 31, 2016
 
Less than 12 Months
 
12 Months or Longer
 
Total
(dollars in millions)
Number of Issues
Fair Value
Gross Unrealized Losses
 
Number of Issues
Fair Value
Gross Unrealized Losses
 
Number of Issues
Fair Value
Gross Unrealized Losses
State and political subdivisions
1


$8


$—

 


$—


$—

 
1


$8


$—

Mortgage-backed securities:
 
 
 
 
 
 
 
 
 
 
 
Federal agencies and U.S. government sponsored entities
323

15,387

(292
)
 
25

461

(16
)
 
348

15,848

(308
)
Other/non-agency
4

8


 
20

302

(28
)
 
24

310

(28
)
Total mortgage-backed securities
327

15,395

(292
)
 
45

763

(44
)
 
372

16,158

(336
)
Total
328


$15,403


($292
)
 
45


$763


($44
)
 
373


$16,166


($336
)

For each debt security identified with an unrealized loss, the Company reviews the expected cash flows to determine if the impairment in value is temporary or other-than-temporary. If the Company has determined that the present value of the debt security’s expected cash flows is less than its amortized cost basis, an other-than-temporary impairment is deemed to have occurred. The amount of impairment loss that is recognized in current period earnings is dependent on the Company’s intent to sell (or not sell) the debt security.
If the Company intends to sell the impaired debt security, or if it is more likely than not it will be required to sell the security before recovery, the impairment loss recognized in current period earnings equals the difference between the amortized cost basis and the fair value of the security. If the Company does not intend to sell the impaired debt security, and it is not more likely than not that the Company will be required to sell the impaired

62

CITIZENS FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)


security, the other-than-temporary impairment write-down is separated into an amount representing the credit loss which is recognized in current period earnings and the amount related to all other factors, which is recognized in OCI.
In addition to these cash flow projections, several other characteristics of each debt security are reviewed when determining whether a credit loss exists and the period over which the debt security is expected to recover. These characteristics include: (1) the type of investment, (2) various market factors affecting the fair value of the security (e.g., interest rates, spread levels, liquidity in the sector, etc.), (3) the length and severity of impairment, and (4) the public credit rating of the instrument.
The Company estimates the portion of loss attributable to credit using a collateral loss model and an integrated cash flow engine. The model calculates prepayment, default, and loss severity assumptions using collateral performance data. These assumptions are used to produce cash flows that generate loss projections. These loss projections are reviewed on a quarterly basis by a cross-functional governance committee to determine whether security impairments are other-than-temporary.
The following table presents the cumulative credit-related losses recognized in earnings on debt securities held by the Company:
 
Three Months Ended March 31,
(in millions)
2017

 
2016

Cumulative balance at beginning of period

$75

 

$66

Credit impairments recognized in earnings on securities that have been previously impaired
1

 
1

Reductions due to increases in cash flow expectations on impaired securities(1)
(1
)
 
(1
)
Cumulative balance at end of period

$75

 

$66

(1) Reported in interest income from investment securities on the Consolidated Statements of Operations.

Cumulative credit losses recognized in earnings for impaired AFS debt securities held as of March 31, 2017 and 2016 were $75 million and $66 million, respectively. There were no credit losses recognized in earnings for the Company’s HTM portfolio as of March 31, 2017 and 2016.
For the three months ended March 31, 2017 and 2016, the Company incurred non-agency MBS credit related other-than-temporary impairment losses in earnings of $1 million. There were no credit impaired debt securities sold during the three months ended March 31, 2017 and 2016. The Company does not currently have the intent to sell these debt securities, and it is not more likely than not that the Company will be required to sell these debt securities prior to the recovery of their amortized cost bases.
The Company has determined that credit losses are not expected to be incurred on the remaining agency and non-agency MBS identified with unrealized losses as of the current reporting date. The unrealized losses on these debt securities reflect non-credit-related factors such as changing interest rates and market liquidity. Therefore, the Company has determined that these debt securities are not other-than-temporarily impaired because the Company does not currently have the intent to sell these debt securities, and it is not more likely than not that the Company will be required to sell these debt securities prior to the recovery of their amortized cost bases. Any subsequent increases in the valuation of impaired debt securities do not impact their recorded cost bases. Additionally, $19 million and $40 million of pre-tax non-credit related losses were deferred in OCI for the three months ended March 31, 2017 and 2016, respectively.


63

CITIZENS FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)


The amortized cost and fair value of debt securities by contractual maturity are presented below. Expected maturities may differ from contractual maturities because issuers may have the right to call or prepay obligations with or without incurring penalties.
 
March 31, 2017
 
Distribution of Maturities
(in millions)
1 Year or Less
1-5 Years
5-10 Years
After 10 Years
Total

Amortized Cost:
 
 
 
 
 
Debt securities available for sale
 
 
 
 
 
U.S. Treasury and other

$15


$—


$—


$—


$15

State and political subdivisions



7

7

Mortgage-backed securities:
 
 
 
 
 
Federal agencies and U.S. government sponsored entities
1

74

1,118

18,580

19,773

Other/non-agency

31

2

364

397

Total debt securities available for sale
16

105

1,120

18,951

20,192

Debt securities held to maturity
 
 
 
 
 
Mortgage-backed securities:
 
 
 
 
 
Federal agencies and U.S. government sponsored entities



4,075

4,075

Other/non-agency



917

917

Total debt securities held to maturity



4,992

4,992

Total amortized cost of debt securities

$16


$105


$1,120


$23,943


$25,184

 
 
 
 
 
 
Fair Value:
 
 
 
 
 
Debt securities available for sale
 
 
 
 
 
U.S. Treasury and other

$15


$—


$—


$—


$15

State and political subdivisions



7

7

Mortgage-backed securities:
 
 
 
 
 
Federal agencies and U.S. government sponsored entities
1

74

1,132

18,355

19,562

Other/non-agency

31

2

347

380

Total debt securities available for sale
16

105

1,134

18,709

19,964

Debt securities held to maturity
 
 
 
 
 
Mortgage-backed securities:
 
 
 
 
 
Federal agencies and U.S. government sponsored entities



4,054

4,054

Other/non-agency



941

941

Total debt securities held to maturity



4,995

4,995

Total fair value of debt securities

$16


$105


$1,134


$23,704


$24,959


Taxable interest income from investment securities as presented on the Consolidated Statements of Operations was $160 million and $145 million for the three months ended March 31, 2017 and 2016, respectively.
Realized gains and losses on securities are presented below:
 
Three Months Ended March 31,
(in millions)
2017

 
2016

Gains on sale of debt securities

$4

 

$9

Losses on sale of debt securities

 

Debt securities gains, net

$4

 

$9

    

64

CITIZENS FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)


The amortized cost and fair value of securities pledged are presented below:
 
March 31, 2017
 
December 31, 2016
(in millions)
Amortized Cost
Fair Value

 
Amortized Cost
Fair Value

Pledged against repurchase agreements

$538


$531

 

$631


$620

Pledged against FHLB borrowed funds
925

948

 
953

972

Pledged against derivatives, to qualify for fiduciary powers, and to secure public and other deposits as required by law
3,301

3,277

 
3,575

3,563


The Company regularly enters into security repurchase agreements with unrelated counterparties. Repurchase agreements are financial transactions that involve the transfer of a security from one party to another and a subsequent transfer of substantially the same security back to the original party. The Company’s repurchase agreements are typically short-term transactions, but they may be extended to longer terms to maturity. Such transactions are accounted for as secured borrowed funds on the Company’s Consolidated Balance Sheets. When permitted by GAAP, the Company offsets short-term receivables associated with its reverse repurchase agreements against short-term payables associated with its repurchase agreements. The Company recognized no offsetting of short-term receivables or payables as of March 31, 2017 or December 31, 2016. The Company offsets certain derivative assets and derivative liabilities on the Consolidated Balance Sheets. For further information see Note 10 “Derivatives.”
There were $22 million in securitizations of mortgage loans retained in the investment portfolio for the three months ended March 31, 2017 and none in 2016. In 2017, the guarantors were Fannie Mae and Ginnie Mae and included a substantive guarantee by a third party. These securitizations were accounted for as a sale of the transferred loans and as a purchase of securities. The securities received from the guarantors are classified as AFS.
NOTE 3 - LOANS AND LEASES
The Company’s loans and leases are disclosed in portfolio segments and classes. The Company’s loan and lease portfolio segments are commercial and retail. The classes of loans and leases are: commercial, commercial real estate, leases, residential mortgages, home equity loans, home equity lines of credit, home equity loans serviced by others, home equity lines of credit serviced by others, automobile, education, credit cards and other retail. The Company’s SBO portfolio consists of purchased home equity loans and lines that were originally serviced by others, which the Company now services a portion of internally. A summary of the loans and leases portfolio is presented below:
(in millions)
March 31, 2017
 
December 31, 2016
Commercial

$37,369

 

$37,274

Commercial real estate
10,915

 
10,624

Leases
3,608

 
3,753

Total commercial
51,892

 
51,651

Residential mortgages
15,389

 
15,115

Home equity loans
1,730

 
1,858

Home equity lines of credit
13,812

 
14,100

Home equity loans serviced by others
698

 
750

Home equity lines of credit serviced by others
201

 
219

Automobile
13,636

 
13,938

Education(1)
7,242

 
6,610

Credit cards
1,650

 
1,691

Other retail
1,861

 
1,737

Total retail
56,219

 
56,018

Total loans and leases (2) (3)

$108,111

 

$107,669


(1) During first quarter 2017, student loans were renamed “education” loans. Refer to Note 1 “Basis of Presentation” for more information.
(2) Excluded from the table above are loans held for sale totaling $669 million and $625 million as of March 31, 2017 and December 31, 2016, respectively.
(3) Mortgage loans serviced for others by the Company’s subsidiaries are not included above, and amounted to $17.5 billion and $17.3 billion at March 31, 2017 and December 31, 2016, respectively.

65

CITIZENS FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)


During the three months ended March 31, 2017, the Company purchased approximately $325 million of education loans and $123 million of automobile loans. During the three months ended March 31, 2016, the Company purchased $369 million of education loans, $134 million of automobile loans and $120 million of residential mortgages.
During the three months ended March 31, 2017, there were no loan portfolio sales. During the three months ended March 31, 2016, the Company sold $173 million of residential mortgage loans and $73 million of commercial loans.
Loans held for sale at fair value as of March 31, 2017 totaled $448 million and consisted of residential mortgages originated for sale of $365 million and loans in the commercial trading portfolio of $83 million. Loans held for sale at fair value as of December 31, 2016 totaled $583 million and consisted of residential mortgages originated for sale of $504 million and loans in the commercial trading portfolio of $79 million.
Other loans held for sale totaled $221 million and $42 million as of March 31, 2017 and December 31, 2016, respectively. The March 31, 2017 balance included $185 million of residential mortgage loans and $36 million of commercial loans associated with the Company’s syndications business. The December 31, 2016 balance consisted entirely of commercial loan syndications.
Loans pledged as collateral for FHLB borrowed funds, primarily residential mortgages and home equity loans, totaled $24.2 billion and $24.0 billion at March 31, 2017 and December 31, 2016, respectively. Loans pledged as collateral to support the contingent ability to borrow at the FRB discount window, if necessary, totaled $16.4 billion and $16.8 billion at March 31, 2017 and December 31, 2016, respectively.

66

CITIZENS FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)


NOTE 4 - ALLOWANCE FOR CREDIT LOSSES, NONPERFORMING ASSETS, AND CONCENTRATIONS OF CREDIT RISK
The allowance for credit losses consists of the ALLL and the reserve for unfunded commitments. It is increased through a provision for credit losses that is charged to earnings, based on the Company’s quarterly evaluation of the loan portfolio, and is reduced by net charge-offs and the ALLL associated with sold loans. See Note 1 “Significant Accounting Policies” to the Company’s audited Consolidated Financial Statements in the Annual Report on Form 10-K for the year ended December 31, 2016, for a detailed discussion of ALLL reserve methodologies and estimation techniques.
On a quarterly basis, the Company reviews and refines its estimate of the allowance for credit losses, taking into consideration changes in portfolio size and composition, historical loss experience, internal risk ratings, current economic conditions, industry performance trends and other pertinent information.
There were no material changes in assumptions or estimation techniques compared with prior periods that impacted the determination of the current period’s ALLL and the reserve for unfunded lending commitments.
A summary of changes in the allowance for credit losses is presented below:
 
Three Months Ended March 31, 2017
(in millions)
Commercial

Retail

Total

Allowance for loan and lease losses, beginning of period

$663


$573


$1,236

Charge-offs
(24
)
(109
)
(133
)
Recoveries
5

41

46

Net charge-offs
(19
)
(68
)
(87
)
Provision charged to income
9

66

75

Allowance for loan and lease losses, end of period
653

571

1,224

Reserve for unfunded lending commitments, beginning of period
72


72

Provision for unfunded lending commitments
21


21

Reserve for unfunded lending commitments as of period end
93


93

Total allowance for credit losses as of period end

$746


$571


$1,317

 
Three Months Ended March 31, 2016
(in millions)
Commercial

Retail

Total

Allowance for loan and lease losses, beginning of period

$596


$620


$1,216

Charge-offs
(13
)
(113
)
(126
)
Recoveries
4

39

43

Net charge-offs
(9
)
(74
)
(83
)
Provision charged to income
46

45

91

Allowance for loan and lease losses, end of period
633

591

1,224

Reserve for unfunded lending commitments, beginning of period
58


58

Provision for unfunded lending commitments



Reserve for unfunded lending commitments as of period end
58


58

Total allowance for credit losses as of period end

$691


$591


$1,282


The recorded investment in loans and leases based on the Company’s evaluation methodology is presented below:
 
March 31, 2017
 
December 31, 2016
(in millions)
Commercial

Retail

Total

 
Commercial

Retail

Total

Individually evaluated

$513


$805


$1,318

 

$424


$799


$1,223

Formula-based evaluation
51,379

55,414

106,793

 
51,227

55,219

106,446

Total

$51,892


$56,219


$108,111

 

$51,651


$56,018


$107,669



67

CITIZENS FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)


A summary of the allowance for credit losses by evaluation method is presented below:
 
March 31, 2017
 
December 31, 2016
(in millions)
Commercial

Retail

Total

 
Commercial

Retail

Total

Individually evaluated

$64


$45


$109

 

$63


$43


$106

Formula-based evaluation
682

526

1,208

 
672

530

1,202

Allowance for credit losses

$746


$571


$1,317

 

$735


$573


$1,308


For commercial loans and leases, the Company utilizes regulatory classification ratings to monitor credit quality. Loans with a “pass” rating are those that the Company believes will be fully repaid in accordance with the contractual loan terms. Commercial loans and leases that are “criticized” are those that have some weakness or potential weakness that indicate an increased probability of future loss. “Criticized” loans are grouped into three categories, “special mention,” “substandard” and “doubtful.” Special mention loans have potential weaknesses that, if left uncorrected, may result in deterioration of the Company’s credit position at some future date. Substandard loans are inadequately protected loans; these loans have well-defined weaknesses that could hinder normal repayment or collection of the debt. Doubtful loans have the same weaknesses as substandard, with the added characteristics that the possibility of loss is high and collection of the full amount of the loan is improbable. For retail loans, the Company primarily uses the loan’s payment and delinquency status to monitor credit quality. The further a loan is past due, the greater the likelihood of future credit loss. These credit quality indicators for both commercial and retail loans are continually updated and monitored.
The recorded investment in commercial loans and leases based on regulatory classification ratings is presented below:
 
March 31, 2017
 
 
Criticized
 
(in millions)
Pass

Special Mention
Substandard

Doubtful

Total

Commercial

$35,125


$1,129


$807


$308


$37,369

Commercial real estate
10,483

330

56

46

10,915

Leases
3,447

55

106


3,608

Total

$49,055


$1,514


$969


$354


$51,892


 
December 31, 2016
 
 
Criticized
 
(in millions)
Pass

Special Mention
Substandard

Doubtful

Total

Commercial

$35,010


$1,015


$1,027


$222


$37,274

Commercial real estate
10,146

370

58

50

10,624

Leases
3,583

52

103

15

3,753

Total

$48,739


$1,437


$1,188


$287


$51,651



68

CITIZENS FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)


The recorded investment in classes of retail loans, categorized by delinquency status is presented below:
 
March 31, 2017
 
 
Days Past Due
(in millions)
Current

1-29
30-59
60-89
90 or More
Total

Residential mortgages

$15,129


$87


$36


$9


$128


$15,389

Home equity loans
1,534

104

20

6

66

1,730

Home equity lines of credit
13,197

353

57

16

189

13,812

Home equity loans serviced by others
632

34

14

2

16

698

Home equity lines of credit serviced by others
150

20

4

1

26

201

Automobile
12,534

889

140

29

44

13,636

Education
7,083

93

14

10

42

7,242

Credit cards
1,581

36

10

7

16

1,650

Other retail
1,785

49

13

7

7

1,861

Total

$53,625


$1,665


$308


$87


$534


$56,219


 
December 31, 2016
 
 
Days Past Due
(in millions)
Current

1-29
30-59
60-89
90 or More
Total

Residential mortgages

$14,807


$108


$53


$12


$135


$15,115

Home equity loans
1,628

127

23

7

73

1,858

Home equity lines of credit
13,432

396

57

20

195

14,100

Home equity loans serviced by others
673

41

14

5

17

750

Home equity lines of credit serviced by others
158

25

3

2

31

219

Automobile
12,509

1,177

172

38

42

13,938

Education
6,379

151

24

13

43

6,610

Credit cards
1,611

43

12

9

16

1,691

Other retail
1,676

45

8

4

4

1,737

Total

$52,873


$2,113


$366


$110


$556


$56,018




69

CITIZENS FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)


Nonperforming Assets
The following table presents nonperforming loans and leases and loans accruing and 90 days or more past due:
 
Nonperforming
 
Accruing and 90 days or more past due
(in millions)
March 31, 2017
 
December 31, 2016
 
March 31, 2017
 
December 31, 2016
Commercial

$367

 

$322

 

$5

 

$2

Commercial real estate
46

 
50

 

 

Leases

 
15

 

 

Total commercial
413

 
387

 
5

 
2

Residential mortgages (1) (2)
142

 
144

 
13

 
18

Home equity loans
89

 
98

 

 

Home equity lines of credit
238

 
243

 

 

Home equity loans serviced by others
29

 
32

 

 

Home equity lines of credit serviced by others
30

 
33

 

 

Automobile
52

 
50

 

 

Education
38

 
38

 
4

 
5

Credit card
16

 
16

 

 

Other retail
3

 
4

 
4

 
1

Total retail
637

 
658

 
21

 
24

Total

$1,050

 

$1,045

 

$26

 

$26

(1) Nonperforming balances exclude first lien residential mortgage loans that are 100% guaranteed by the Federal Housing Administration. These loans, which are accruing and 90 days or more past due, totaled $13 million and $18 million as of March 31, 2017 and December 31, 2016, respectively.
(2) Nonperforming balances exclude guaranteed residential mortgage loans sold to GNMA for which the Company has the right, but not the obligation, to repurchase. These loans totaled $31 million and $32 million as of March 31, 2017 and December 31, 2016, respectively. These loans are consolidated on the Company’s Consolidated Balance Sheets.

Other nonperforming assets consist primarily of other real estate owned and are presented in other assets on the Consolidated Balance Sheets. A summary of other nonperforming assets is presented below:
(in millions)
March 31, 2017
 
December 31, 2016
Nonperforming assets, net of valuation allowance:
 
 
 
Commercial

$—

 

$—

Retail
45

 
49

Nonperforming assets, net of valuation allowance

$45

 

$49


A summary of key performance indicators is presented below:
 
March 31, 2017
 
December 31, 2016
Nonperforming commercial loans and leases as a percentage of total loans and leases
0.38
%
 
0.36
%
Nonperforming retail loans as a percentage of total loans and leases
0.59

 
0.61

Total nonperforming loans and leases as a percentage of total loans and leases
0.97
%
 
0.97
%
 
 
 
 
Nonperforming commercial assets as a percentage of total assets
0.27
%
 
0.26
%
Nonperforming retail assets as a percentage of total assets
0.46

 
0.47

Total nonperforming assets as a percentage of total assets
0.73
%
 
0.73
%

The recorded investment in mortgage loans collateralized by residential real estate property for which formal foreclosure proceedings are in process was $173 million and $177 million as of March 31, 2017 and December 31, 2016, respectively.

70

CITIZENS FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)


An analysis of the age of both accruing and nonaccruing loan and lease past due amounts is presented below:
 
March 31, 2017
 
December 31, 2016
 
Days Past Due
 
Days Past Due
(in millions)
30-59
60-89
 90 or More
 Total

 
30-59
60-89
 90 or More
 Total

Commercial

$40


$2


$372


$414

 

$36


$4


$324


$364

Commercial real estate
4


46

50

 
1

2

50

53

Leases
4

1


5

 
1


15

16

Total commercial
48

3

418

469

 
38

6

389

433

Residential mortgages
36

9

128

173

 
53

12

135

200

Home equity loans
20

6

66

92

 
23

7

73

103

Home equity lines of credit
57

16

189

262

 
57

20

195

272

Home equity loans serviced by others
14

2

16

32

 
14

5

17

36

Home equity lines of credit serviced by others
4

1

26

31

 
3

2

31

36

Automobile
140

29

44

213

 
172

38

42

252

Education
14

10

42

66

 
24

13

43

80

Credit cards
10

7

16

33

 
12

9

16

37

Other retail
13

7

7

27

 
8

4

4

16

Total retail
308

87

534

929

 
366

110

556

1,032

Total

$356


$90


$952


$1,398

 

$404


$116


$945


$1,465


Impaired loans include nonaccruing larger balance commercial loans (greater than $3 million carrying value) and commercial and retail TDRs (excluding loans held for sale). A summary of impaired loans by class is presented below:

March 31, 2017
(in millions)
Impaired Loans With a Related Allowance
Allowance on Impaired Loans
Impaired Loans Without a Related Allowance
Unpaid Contractual Balance
Total Recorded Investment in Impaired Loans
Commercial

$259


$54


$212


$539


$471

Commercial real estate
35

10

7

44

42

Total commercial
294

64

219

583

513

Residential mortgages
42

3

139

237

181

Home equity loans
50

3

97

196

147

Home equity lines of credit
21

1

183

253

204

Home equity loans serviced by others
39

3

18

68

57

Home equity lines of credit serviced by others
4


6

13

10

Automobile
4


16

25

20

Education
149

28

1

151

150

Credit cards
26

6


26

26

Other retail
9

1

1

12

10

Total retail
344

45

461

981

805

Total

$638


$109


$680


$1,564


$1,318




71

CITIZENS FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)


 
December 31, 2016
(in millions)
Impaired Loans With a Related Allowance
Allowance on Impaired Loans
Impaired Loans Without a Related Allowance
Unpaid Contractual Balance
Total Recorded Investment in Impaired Loans
Commercial

$247


$55


$134


$431


$381

Commercial real estate
39

8

4

44

43

Total commercial
286

63

138

475

424

Residential mortgages
37

2

141

235

178

Home equity loans
51

3

94

191

145

Home equity lines of credit
23

1

173

240

196

Home equity loans serviced by others
41

4

19

70

60

Home equity lines of credit serviced by others
2


7

13

9

Automobile
4


15

25

19

Education
154

25

1

155

155

Credit cards
26

6


26

26

Other retail
10

2

1

13

11

Total retail
348

43

451

968

799

Total

$634


$106


$589


$1,443


$1,223


Additional information on impaired loans is presented below:
 
Three Months Ended March 31,
 
2017
 
2016
(in millions)
Interest Income Recognized
Average Recorded Investment
 
Interest Income Recognized
Average Recorded Investment
Commercial

$1


$396

 

$1


$201

Commercial real estate

45

 

66

Total commercial
1

441

 
1

267

Residential mortgages
1

176

 
1

142

Home equity loans
2

146

 
2

134

Home equity lines of credit
2

198

 
1

187

Home equity loans serviced by others
1

57

 
1

71

Home equity lines of credit serviced by others

9

 

10

Automobile

19

 

13

Education
2

152

 
2

163

Credit cards

25

 

27

Other retail

11

 

14

Total retail
8

793

 
7

761

Total

$9


$1,234

 

$8


$1,028

Troubled Debt Restructurings
In situations where, for economic or legal reasons related to the borrower’s financial difficulties, the Company grants a concession for other than an insignificant time period to the borrower that it would not otherwise consider, the related loan is classified as a TDR. TDRs typically result from the Company’s loss mitigation efforts and are undertaken in order to improve the likelihood of recovery and continuity of the relationship. The Company’s loan modifications are handled on a case-by-case basis and are negotiated to achieve mutually agreeable terms that maximize loan collectability and meet the borrower’s financial needs. Concessions granted in TDRs for all classes of loans may include lowering the interest rate, forgiving a portion of principal, extending the loan term, lowering scheduled payments for a specified period of time, principal forgiveness, or capitalizing past due amounts. A rate increase can be a concession if the increased rate is lower than a market rate for debt with risk similar to that of the restructured loan. TDRs for commercial loans and leases may also involve creating a multiple note structure, accepting non-cash assets, accepting an equity interest, or receiving a performance-based fee. In some cases, a TDR may involve multiple concessions. The financial effects of TDRs for all loan classes may include lower income

72

CITIZENS FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)


(either due to a lower interest rate or a delay in the timing of cash flows), larger loan loss provisions, and accelerated charge-offs if the modification renders the loan collateral-dependent. In some cases, interest income throughout the term of the loan may increase if, for example, the loan is extended or the interest rate is increased as a result of the restructuring.
Because TDRs are impaired loans, the Company measures impairment by comparing the present value of expected future cash flows, or when appropriate, the fair value of collateral less costs to sell, to the loan’s recorded investment. Any excess of recorded investment over the present value of expected future cash flows or collateral value is included in the ALLL. Any portion of the loan’s recorded investment the Company does not expect to collect as a result of the modification is charged off at the time of modification. For Retail TDR accounts where the expected value of cash flows is utilized, any recorded investment in excess of the present value of expected cash flows is recognized by creating or increasing the ALLL. For Retail TDR accounts assessed based on the fair value of collateral, any portion of the loan’s recorded investment in excess of the collateral value is charged off at the time of modification or at the time of subsequent and regularly recurring valuations.
Commercial TDRs were $118 million and $120 million at March 31, 2017 and December 31, 2016, respectively. Retail TDRs totaled $805 million and $799 million at March 31, 2017 and December 31, 2016, respectively. Unfunded commitments tied to TDRs were $36 million and $42 million at March 31, 2017 and December 31, 2016, respectively.

73

CITIZENS FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)


The table below summarizes how loans were modified during the three months ended March 31, 2017, the charge-offs related to the modifications, and the impact on the ALLL. The reported balances can include loans that became TDRs during 2017 and were paid off in full, charged off, or sold prior to March 31, 2017.
 
Primary Modification Types
 
Interest Rate Reduction (1)
 
Maturity Extension (2)
(dollars in millions)
Number of Contracts
Pre-Modification Outstanding Recorded Investment
Post-Modification Outstanding Recorded Investment
 
Number of Contracts
Pre-Modification Outstanding Recorded Investment
Post-Modification Outstanding Recorded Investment
Commercial
2


$1


$1

 
7


$1


$1

Commercial real estate



 



Leases



 



Total commercial
2

1

1

 
7

1

1

Residential mortgages
18

1

2

 
11

3

3

Home equity loans
21

1

1

 
1



Home equity lines of credit
16

1

1

 
51

6

6

Home equity loans serviced by others
6

1

1

 



Home equity lines of credit serviced by others
1



 
2



Automobile
40

1

1

 
8



Education



 



Credit cards
565

3

3

 



Other retail
1



 



Total retail
668

8

9

 
73

9

9

Total
670


$9


$10

 
80


$10


$10

 
Primary Modification Types
 
 
 
 
Other (3)
 
 
 
(dollars in millions)
Number of Contracts
Pre-Modification Outstanding Recorded Investment
Post-Modification Outstanding Recorded Investment
 
Net Change to ALLL Resulting from Modification
Charge-offs Resulting from Modification
Commercial


$—


$—

 

$—


$—

Commercial real estate



 


Leases
1

1

1

 


Total commercial
1

1

1

 


Residential mortgages
48

4

4

 


Home equity loans
102

6

6

 


Home equity lines of credit
75

6

6

 


Home equity loans serviced by others
14

1

1

 


Home equity lines of credit serviced by others
11

1

1

 


Automobile
276

5

4

 

1

Education
15

1

1

 


Credit cards



 
1


Other retail
1



 


Total retail
542

24

23

 
1

1

Total
543


$25


$24

 

$1


$1

(1) Includes modifications that consist of multiple concessions, one of which is an interest rate reduction.
(2) Includes modifications that consist of multiple concessions, one of which is a maturity extension (unless one of the other concessions was an interest rate reduction).
(3) Includes modifications other than interest rate reductions or maturity extensions, such as lowering scheduled payments for a specified period of time, principal forgiveness, capitalizing arrearages, and principal forgiveness. Also included are the following: deferrals, trial modifications, certain bankruptcies, loans in forbearance and prepayment plans. Modifications can include the deferral of accrued interest resulting in post modification balances being higher than pre-modification.

74

CITIZENS FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)


The table below summarizes how loans were modified during the three months ended March 31, 2016, the charge-offs related to the modifications, and the impact on the ALLL. The reported balances can include loans that became TDRs during 2016 and were paid off in full, charged off, or sold prior to March 31, 2016.
 
Primary Modification Types
 
Interest Rate Reduction (1)
 
Maturity Extension (2)
(dollars in millions)
Number of Contracts
Pre-Modification Outstanding Recorded Investment
Post-Modification Outstanding Recorded Investment
 
Number of Contracts
Pre-Modification Outstanding Recorded Investment
Post-Modification Outstanding Recorded Investment
Commercial
5


$1


$1

 
26


$4


$4

Commercial real estate



 



Leases



 



Total commercial
5

1

1

 
26

4

4

Residential mortgages
22

3

3

 
6

1

1

Home equity loans
14

1

1

 
16

2

2

Home equity lines of credit
7

1

1

 
19

2

2

Home equity loans serviced by others
3



 



Home equity lines of credit serviced by others



 
1



Automobile
21

1

1

 
5



Education



 



Credit cards
529

3

3

 



Other retail



 



Total retail
596

9

9

 
47

5

5

Total
601


$10


$10

 
73


$9


$9

 
Primary Modification Types
 
 
 
 
Other (3)
 
 
 
(dollars in millions)
Number of Contracts
Pre-Modification Outstanding Recorded Investment
Post-Modification Outstanding Recorded Investment
 
Net Change to ALLL Resulting from Modification
Charge-offs Resulting from Modification
Commercial
5


$21


$20

 

($1
)

$18

Commercial real estate



 


Leases



 


Total commercial
5

21

20

 
(1
)
18

Residential mortgages
64

8

8

 


Home equity loans
87

6

6

 


Home equity lines of credit
32

2

2

 


Home equity loans serviced by others
18

1

1

 


Home equity lines of credit serviced by others
8



 


Automobile
191

3

3

 


Education
186

4

4

 
1


Credit cards



 


Other retail
3



 


Total retail
589

24

24

 
1


Total
594


$45


$44

 

$—


$18

(1) Includes modifications that consist of multiple concessions, one of which is an interest rate reduction.
(2) Includes modifications that consist of multiple concessions, one of which is a maturity extension (unless one of the other concessions was an interest rate reduction).
(3) Includes modifications other than interest rate reductions or maturity extensions, such as lowering scheduled payments for a specified period of time, principal forgiveness, capitalizing arrearages, and principal forgiveness. Also included are the following: deferrals, trial modifications, certain bankruptcies, loans in forbearance and prepayment plans. Modifications can include the deferral of accrued interest resulting in post modification balances being higher than pre-modification.

75

CITIZENS FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)


The table below summarizes TDRs that defaulted during the three months ended March 31, 2017 and 2016, respectively, within 12 months of their modification date. For purposes of this table, a payment default refers to a loan that becomes 90 days or more past due under the modified terms. Amounts represent the loan’s recorded investment at the time of payment default. Loan data includes loans meeting the criteria that were paid off in full, charged off, or sold prior to March 31, 2017 and 2016, respectively. If a TDR of any loan type becomes 90 days past due after being modified, the loan is written down to the fair value of collateral less cost to sell. The amount written off is charged to the ALLL.
 
Three Months Ended March 31,
 
2017
 
2016
(dollars in millions)
Number of Contracts
Balance Defaulted
 
Number of Contracts
Balance Defaulted
Commercial
1


$—

 
3


$—

Commercial real estate
1

4

 


Total commercial
2

4

 
3


Residential mortgages
45

6

 
54

8

Home equity loans
9


 
49

3

Home equity lines of credit
35

3

 
25

3

Home equity loans serviced by others
1


 
10

1

Home equity lines of credit serviced by others
3


 
5


Automobile
34


 
15


Education
7


 
13


Credit cards
126

1

 
121

1

Other retail
2


 


Total retail
262

10

 
292

16

Total
264


$14

 
295


$16

Concentrations of Credit Risk
Most of the Company’s lending activity is with customers located in the New England, Mid-Atlantic and Midwest regions. Generally, loans are collateralized by assets including real estate, inventory, accounts receivable, other personal property and investment securities. As of March 31, 2017 and December 31, 2016, the Company had a significant amount of loans collateralized by residential and commercial real estate. There were no significant concentration risks within the commercial loan or retail loan portfolios. Exposure to credit losses arising from lending transactions may fluctuate with fair values of collateral supporting loans, which may not perform according to contractual agreements. The Company’s policy is to collateralize loans to the extent necessary; however, unsecured loans are also granted on the basis of the financial strength of the applicant and the facts surrounding the transaction.
Certain loan products, including residential mortgages, home equity loans and lines of credit, and credit cards, have contractual features that may increase credit exposure to the Company in the event of an increase in interest rates or a decline in housing values. These products include loans that exceed 90% of the value of the underlying collateral (high LTV loans), interest-only and negative amortization residential mortgages, and loans with low introductory rates. Certain loans have more than one of these characteristics.
The following tables present balances of loans with these characteristics:
 
March 31, 2017
(in millions)
Residential Mortgages
Home Equity Loans and Lines of Credit
Home Equity Products Serviced by Others
Credit Cards

Education

Total

High loan-to-value

$526


$492


$446


$—


$—


$1,464

Interest only/negative amortization
1,649




1

1,650

Low introductory rate



129


129

Multiple characteristics and other
3





3

Total

$2,178


$492


$446


$129


$1


$3,246


76

CITIZENS FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)


 
December 31, 2016
(in millions)
Residential Mortgages
Home Equity Loans and Lines of Credit
Home Equity Products Serviced by Others
Credit Cards

Education

Total

High loan-to-value

$566


$550


$476


$—


$—


$1,592

Interest only/negative amortization
1,582




1

1,583

Low introductory rate



112


112

Multiple characteristics and other
3





3

Total

$2,151


$550


$476


$112


$1


$3,290

NOTE 5 - VARIABLE INTEREST ENTITIES
The Company makes equity investments in various entities that are considered VIEs, as defined by GAAP. These investments primarily include ownership interests in limited partnerships that sponsor affordable housing projects and ownership interests in limited liability companies that sponsor renewable energy projects. The Company’s maximum exposure to loss as a result of its involvement with these entities is limited to the balance sheet carrying amounts of its equity investments. A summary of these investments is presented below:
(in millions)
March 31, 2017
 
December 31, 2016
LIHTC investment included in other assets

$792

 

$793

LIHTC unfunded commitments included in other liabilities
426

 
428

Renewable energy investments included in other assets
218

 
220

Low Income Housing Tax Credit Partnerships
The purpose of the Company’s equity investments is to assist in achieving goals of the Community Reinvestment Act and to earn an adequate return of capital. LIHTC partnerships are managed by unrelated general partners that have the power to direct the activities which most significantly affect the performance of the partnerships. The Company is therefore not the primary beneficiary of any LIHTC partnerships. Accordingly, the Company does not consolidate these VIEs and accounts for these investments in other assets on the Consolidated Balance Sheets.
The Company applies the proportional amortization method to account for its LIHTC investments. Under the proportional amortization method, the Company applies a practical expedient and amortizes the initial cost of the investment in proportion to the tax credits received in the current period as compared to the total tax credits expected to  be received over the life of the investment. The amortization and tax benefits are included as a component of income tax expense. The tax credits received are reported as a reduction of income tax expense (or increase to income tax benefit) related to these transactions.
The following table presents other information related to the Company’s affordable housing tax credit investments:
 
Three Months Ended March 31,
(in millions)
2017

 
2016

Tax credits included in income tax expense

$21

 

$15

Amortization expense included in income tax expense
23

 
15

Other tax benefits included in income tax expense
7

 
6

No LIHTC investment impairment losses were recognized during the three months ended March 31, 2017 and 2016, respectively.
Renewable Energy Entities
The Company’s investments in renewable energy entities provide benefits from a return generated by government incentives plus other tax attributes that are associated with tax ownership (e.g., tax depreciation). As a tax equity investor, the Company does not have the power to direct the activities which most significantly affect

77

CITIZENS FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)


the performance of these entities and therefore is not the primary beneficiary of any renewable energy entities. Accordingly, the Company does not consolidate these VIEs.
NOTE 6 - MORTGAGE BANKING
In its mortgage banking business, the Company sells residential mortgages to government-sponsored entities and other parties, who may issue securities backed by pools of such loans. The Company retains no beneficial interests in these sales, but may retain the servicing rights for the loans sold. The Company is obligated to subsequently repurchase a loan if the purchaser discovers a standard representation or warranty violation such as noncompliance with eligibility requirements, customer fraud, or servicing violations. This primarily occurs during a loan file review.
The Company received proceeds from the sale of residential mortgages held for sale of $815 million and $479 million for the three months ended March 31, 2017 and 2016, respectively. The Company recognized gains on sales of residential mortgages held for sale of $10 million and $14 million for the three months ended March 31, 2017 and 2016, respectively. Pursuant to the standard representations and warranties obligations discussed above, the Company repurchased residential mortgages totaling $1 million and $2 million for the three months ended March 31, 2017 and 2016, respectively.
Mortgage servicing fees, a component of mortgage banking fees, were $13 million for the three months ended March 31, 2017 and 2016, respectively. The Company recorded no valuation charge-offs for its MSRs for the three months ended March 31, 2017 and $5 million for the three months ended March 31, 2016.
MSRs are presented in other assets on the Consolidated Balance Sheets. Changes related to MSRs are presented below:
 
As of and for the Three Months Ended
March 31,
(in millions)
2017

 
2016

MSRs:
 
 
 
Balance as of beginning of period

$168

 

$173

Amount capitalized
10

 
5

Amortization
(8
)
 
(9
)
Carrying amount before valuation allowance
170

 
169

Valuation allowance for servicing assets:
 
 
 
Balance as of beginning of period
5

 
9

Valuation charge-offs

 
5

Balance at end of period
5

 
14

Net carrying value of MSRs

$165

 

$155


The fair value of MSRs is estimated using a valuation model that calculates the present value of estimated future net servicing cash flows, taking into consideration actual and expected mortgage loan prepayment rates, discount rates, contractual servicing fee income, servicing costs, default rates, ancillary income, and other economic factors, which are determined based on current market conditions. The valuation model uses a static discounted cash flow methodology incorporating current market interest rates. A static model does not attempt to forecast or predict the future direction of interest rates; rather it estimates the amount and timing of future servicing cash flows using current market interest rates. The current mortgage interest rate influences the expected prepayment rate and therefore, the length of the cash flows associated with the servicing asset, while the discount rate determines the present value of those cash flows. Expected mortgage loan prepayment assumptions are obtained using the QRM Multi Component prepayment model. The Company periodically obtains third-party valuations of its MSRs to assess the reasonableness of the fair value calculated by the valuation model.

78

CITIZENS FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)


The key economic assumptions used to estimate the value of MSRs are presented in the following table:
 
March 31, 2017
 
December 31, 2016
(dollars in millions)
Weighted Average
Range
 
Weighted Average
Range
Fair value
$180
Min
Max
 
$182
Min
Max
Weighted average life (in years)
5.6
2.5
7.0
 
5.7
2.6
7.3
Weighted average constant prepayment rate
11.1%
9.3
%
20.8
%
 
10.8%
8.8
%
22.3
%
Weighted average discount rate
9.9%
9.1
%
12.2
%
 
9.7%
9.1
%
12.1
%

The key economic assumptions used in estimating the fair value of MSRs capitalized during the period are presented below:
 
Three Months Ended March 31,
 
2017
 
2016
Weighted average life (in years)
6.9
 
6.1
Weighted average constant prepayment rate
8.7%
 
11.0%
Weighted average discount rate
  9.9%
 
  9.8%

The sensitivity analysis below presents the impact to current fair value of an immediate 50 basis point and 100 basis point adverse change in the key economic assumptions and presents the decline in fair value that would occur if the adverse change were realized. These sensitivities are hypothetical, with the effect of a variation in a particular assumption on the fair value of the mortgage servicing rights calculated independently without changing any other assumption. In reality, changes in one factor may result in changes in another (e.g., changes in interest rates, which drive changes in prepayment rates, could result in changes in the discount rates), which may amplify or counteract the sensitivities. The primary risk inherent in the Company’s MSRs is an increase in prepayments of the underlying mortgage loans serviced, which is dependent upon market movements of interest rates.
(in millions)
March 31, 2017
 
December 31, 2016
Prepayment rate:
 
 
 
Decline in fair value from a 50 basis point decrease in interest rates

$9

 

$9

Decline in fair value from a 100 basis point decrease in interest rates

$18

 

$25

Weighted average discount rate:
 
 
 
Decline in fair value from a 50 basis point increase in weighted average discount rate

$3

 

$3

Decline in fair value from a 100 basis point increase in weighted average discount rate

$6

 

$6


79

CITIZENS FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)


NOTE 7 - BORROWED FUNDS
A summary of the Company’s short-term borrowed funds is presented below:
(in millions)
March 31, 2017
 
December 31, 2016
Federal funds purchased

$566

 

$533

Securities sold under agreements to repurchase
527

 
615

Other short-term borrowed funds (primarily current portion of FHLB advances)
2,762

 
3,211

Total short-term borrowed funds

$3,855

 

$4,359


Key data related to short-term borrowed funds is presented in the following table:
 
As of and for the
Three Months Ended March 31,
 
As of and for the
Year Ended December 31,
(dollars in millions)
2017

 
2016

 
2016
Weighted-average interest rate at period-end:(1)
 
 
 
 
 
Federal funds purchased and securities sold under agreements to repurchase
0.43
%
 
0.01
%
 
0.26
%
Other short-term borrowed funds (primarily current portion of FHLB advances)
1.08

 
0.57

 
0.94

Maximum amount outstanding at month-end during the period:
 
 
 
 
 
Federal funds purchased and securities sold under agreements to repurchase(2)

$1,174

 

$1,274

 

$1,522

Other short-term borrowed funds (primarily current portion of FHLB advances)
3,508

 
3,300

 
5,461

Average amount outstanding during the period:
 
 
 
 
 
Federal funds purchased and securities sold under agreements to repurchase(2)
 

$882

 

$881

 

$947

Other short-term borrowed funds (primarily current portion of FHLB advances)
2,963

 
3,098

 
3,207

Weighted-average interest rate during the period:(1)
 
 
 
 
 
Federal funds purchased and securities sold under agreements to repurchase
0.22
%
 
0.06
%
 
0.09
%
Other short-term borrowed funds (primarily current portion of FHLB advances)
1.08

 
0.58

 
0.64

(1) Rates exclude certain hedging costs.
(2) Balances are net of certain short-term receivables associated with reverse repurchase agreements, as applicable.



80

CITIZENS FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)


A summary of the Company’s long-term borrowed funds is presented below:
(in millions)
March 31, 2017
 
December 31, 2016
Citizens Financial Group, Inc.:
 
 
 
4.150% fixed rate subordinated debt, due 2022 (1)

$347

 

$347

5.158% fixed-to-floating rate subordinated debt, due 2023, converting to floating at
3-month LIBOR + 3.56% and callable beginning June 2018
333

 
333

3.750% fixed rate subordinated debt, due 2024
250

 
250

4.023% fixed rate subordinated debt, due 2024
42

 
42

4.350% fixed rate subordinated debt, due 2025 (2)
249

 
249

4.300% fixed rate subordinated debt, due 2025 (3)
749

 
749

2.375% fixed rate senior unsecured debt, due 2021 (4)
348

 
348

Banking Subsidiaries:
 
 
 
2.300% senior unsecured notes, due 2018 (5)(6)
745

 
745

2.450% senior unsecured notes, due 2019 (5)(7)
746

 
747

2.500% senior unsecured notes, due 2019 (5)(8)
740

 
741

2.250% senior unsecured notes, due 2020 (5)(9)
697

 

Floating rate senior unsecured notes, due 2020 (5)(10)
299

 

2.550% senior unsecured notes, due 2021(5)(11)
964

 
965

Federal Home Loan advances due through 2033
5,262

 
7,264

Other
9

 
10

Total long-term borrowed funds

$11,780

 

$12,790


(1) These balances are composed of: principal balances of $350 million at March 31, 2017 and December 31, 2016, as well as the impact of ($3) million of unamortized deferred issuance costs and discount at March 31, 2017 and December 31, 2016.
(2) These balances are composed of: principal balances of $250 million at March 31, 2017 and December 31, 2016, as well as the impact of ($1) million of unamortized deferred issuance costs and discount at March 31, 2017 and December 31, 2016.
(3) These balances are composed of: principal balances of $750 million at March 31, 2017 and December 31, 2016, as well as the impact of ($1) million of unamortized deferred issuance costs and discount at March 31, 2017 and December 31, 2016.
(4) These balances are composed of: principal balance of $350 million at March 31, 2017 and December 31, 2016, as well as the impact of ($2) million of unamortized deferred issuance costs and discount at March 31, 2017 and December 31, 2016.
(5) These securities were offered under CBNA’s Global Bank Note Program dated December 1, 2014.
(6) These balances are composed of: principal balances of $750 million at March 31, 2017 and December 31, 2016, respectively; impact from interest rate swaps of ($4) million and ($3) million at March 31, 2017 and December 31, 2016, respectively; and ($1) million and ($2) million of unamortized deferred issuance costs and discount at March 31, 2017 and December 31, 2016, respectively. See Note 10 “Derivatives” for further information.
(7) These balances are composed of: principal balances of $750 million at March 31, 2017 and December 31, 2016, respectively; impact from interest rate swaps of ($2) million and zero at March 31, 2017 and December 31, 2016, respectively; and ($2) million and $(3) million of unamortized deferred issuance costs and discount at March 31, 2017 and December 31, 2016, respectively. See Note 10 “Derivatives” for further information.
(8) These balances are composed of: principal balance of $750 million at March 31, 2017 and December 31, 2016, respectively; impact from interest rate swaps of ($8) million and $(7) million at March 31, 2017 and December 31, 2016, respectively; and ($2) million of unamortized deferred issuance costs and discount at March 31, 2017 and December 31, 2016, respectively. See Note 10 “Derivatives” for further information.
(9) This balance is composed of: principal balance of $700 million at March 31, 2017; impact from interest rate swaps of ($1) million and ($2) million of unamortized deferred issuance costs and discount at March 31, 2017. See Note 10 “Derivatives” for further information.
(10) This balance is composed of: principal balance of $300 million at March 31, 2017, as well as the impact of ($1) million of unamortized deferred issuance costs and discount at March 31, 2017.
(11) These balances are composed of: principal balance of $1.0 billion at March 31, 2017 and December 31, 2016, respectively; impact from interest rate swaps of ($32) million and ($30) million at March 31, 2017 and December 31, 2016, respectively; and ($4) million and ($5) million of unamortized deferred issuance costs and discount at March 31, 2017 and December 31, 2016, respectively. See Note 10 “Derivatives” for further information.

Advances, lines of credit, and letters of credit from the FHLB are collateralized by pledged mortgages and pledged securities at least sufficient to satisfy the collateral maintenance level established by the FHLB. The utilized borrowing capacity for FHLB advances and letters of credit was $11.6 billion and $13.4 billion at March 31, 2017 and December 31, 2016, respectively. The Company’s available FHLB borrowing capacity was $4.8 billion and $2.8 billion at March 31, 2017 and December 31, 2016, respectively. The Company can also borrow from the FRB discount window to meet short-term liquidity requirements. Collateral, such as investment securities and loans, is pledged to provide borrowing capacity at the FRB. At March 31, 2017, the Company’s unused secured borrowing capacity was approximately $36.5 billion, which includes unencumbered securities, FHLB borrowing capacity, and FRB discount window capacity.

81

CITIZENS FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)


A summary of maturities for the Company’s long-term borrowed funds at March 31, 2017 is presented below:
(in millions)
Parent Company
Banking Subsidiaries
Consolidated

Year
 
 
 
2018 or on demand

$—


$5,997


$5,997

2019

1,487

1,487

2020

998

998

2021
348

968

1,316

2022
347

5

352

2023 and thereafter
1,623

7

1,630

Total

$2,318


$9,462


$11,780

NOTE 8 - STOCKHOLDERS’ EQUITY
Preferred Stock
The Company had 100,000,000 shares authorized and 250,000 shares outstanding of $25.00 par value undesignated preferred stock as of March 31, 2017 and December 31, 2016, respectively. The Board of Directors or any authorized committee thereof are authorized to provide for the issuance of these shares in one or more series, and by filing a certificate pursuant to applicable law of the State of Delaware, to establish or change from time to time the number of shares of each such series, and to fix the designations, powers, including voting powers, full or limited, or no voting powers, preferences and the relative, participating, optional or other special rights of the shares of each series and any qualifications, limitations and restrictions thereof.
The Company has $250 million, or 250,000 shares, of 5.500% fixed-to-floating rate non-cumulative perpetual Series A Preferred Stock, par value of $25.00 per share with a liquidation preference $1,000 per share (the “Series A Preferred Stock”). The shares were issued to the initial purchasers in reliance on the exemption from registration provided by Section (4)(a)(2) of the Securities Act of 1933, as amended, for resale pursuant to Rule 144A and Regulation S under the Securities Act of 1933, as amended.
The Series A Preferred Stock has no stated maturity and is not subject to any sinking fund or other obligation of the Company. Holders of the Series A Preferred Stock will be entitled to receive dividend payments when, and if, declared by the Company’s Board of Directors or a duly authorized committee thereof. Any such dividends will be payable on a semi-annual basis at an annual rate equal to 5.500%. On April 6, 2020, the Series A Preferred Stock converts to a quarterly floating-rate basis equal to three-month U.S. dollar LIBOR on the related dividend determination date plus 3.960%.
Citizens may redeem the Series A Preferred Stock, in whole or in part on any dividend payment date, on or after April 6, 2020 or, in whole but not in part, at any time within 90 days following a regulatory capital treatment event at a redemption price equal to $1,000 per share, plus any declared and unpaid dividends, without accumulation of any undeclared dividends. Citizens may not redeem shares of the Series A Preferred Stock without obtaining the prior approval of the FRB if then required under applicable capital guidelines.
Shares of the Series A Preferred Stock have priority over the Company's common stock with regard to the payment of dividends and as such, the Company may not pay dividends on or repurchase, redeem, or otherwise acquire for consideration shares of its common stock unless dividends for the latest completed dividend period for the Series A Preferred Stock have been declared and paid (or declared and sufficient funds have been set aside to make payment).
Except in certain limited circumstances, the Series A Preferred Stock does not have any voting rights.
Treasury Stock
During the three months ended March 31, 2017, as part of its 2016 Capital Plan, the Company repurchased $130 million, or 3,398,478 shares, of its outstanding common stock. The repurchased shares are held in treasury stock.

82

CITIZENS FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)


NOTE 9 - INCOME TAXES
Income Tax Expense
Income tax expense was $114 million and $109 million for the three months ended March 31, 2017 and 2016, respectively, resulting in effective tax rates of 26.4% and 32.9%, respectively. For the three months ended March 31, 2017, the effective tax rate compared favorably to the statutory rate of 35% primarily as a result of the impact of the settlement of certain state tax matters, the tax effect of the excess tax over book deduction for deferred compensation arising from the accounting method change required by FASB Accounting Standards Update 2016-09, which became effective January 1, 2017, and the permanent benefits from tax credits and tax-exempt income. The settlement of certain tax matters reduced income tax expense $23 million for the three months ended March 31, 2017. For the three months ended March 31, 2016, the effective tax rate compared favorably to the statutory rate of 35% primarily as a result of the permanent benefits from tax credits and tax-exempt income.
Deferred Tax Liability
At March 31, 2017, the Company reported a net deferred tax liability of $744 million, compared to $714 million as of December 31, 2016. The increase in the net deferred tax liability is primarily attributable to the tax effect of current year timing adjustments.
Unrecognized Tax Benefits
As a result of the settlement of certain state tax matters, the total amount of unrecognized tax benefits was reduced from $42 million, as of December 31, 2016, to $6 million, as of March 31, 2017.
NOTE 10 - DERIVATIVES
In the normal course of business, the Company enters into a variety of derivative transactions in order to meet the financing needs of its customers and to reduce its own exposure to fluctuations in interest rates and foreign currency exchange rates. The Company does not use derivatives for speculative purposes.
The Company’s derivative instruments are recognized on the Consolidated Balance Sheets at fair value. Information regarding the valuation methodology and inputs used to estimate the fair value of the Company’s derivative instruments is described in Note 12 “Fair Value Measurements.”
At March 31, 2017, the overall derivative asset value decreased $270 million and the liability balance decreased by $339 million from December 31, 2016. These decreases were primarily due to a change in the presentation of variation margin payments in the Consolidated Balance Sheet as of March 31, 2017. Effective January 3, 2017, the London Clearing House and Chicago Mercantile Exchange amended their respective rules to legally characterize the variation margin payments on centrally cleared derivative contracts as settlement of those derivatives (rather than the posting of collateral). As a result of this change, the Company modified its balance sheet presentation of centrally cleared interest rate swaps as of March 31,2017 such that the fair value of the swaps and the associated variation margin balances are reported as a single unit of account in derivative assets and/or derivative liabilities. At December 31, 2016, the variation margin balances were characterized as collateral and reported in interest-bearing cash and due from banks on the Consolidated Balance Sheets.

83

CITIZENS FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)


The following table presents derivative instruments included on the Consolidated Balance Sheets in derivative assets and derivative liabilities:
 
March 31, 2017
 
December 31, 2016
(in millions)
Notional Amount(1)
Derivative Assets(2)
Derivative Liabilities(2)
 
Notional Amount(1)
Derivative Assets
Derivative Liabilities
Derivatives designated as hedging instruments:
 
 
 
 
 
 
 
Interest rate contracts

$16,050


$9


$14

 

$13,350


$52


$193

Derivatives not designated as hedging instruments:
 
 
 
 
 
 
 
Interest rate contracts
60,612

341

318

 
54,656

557

452

Foreign exchange contracts
8,301

95

85

 
8,039

134

126

Other contracts
1,292

11

8

 
1,498

16

7

Total derivatives not designated as hedging instruments
 
447

411

 
 
707

585

Gross derivative fair values
 
456

425

 
 
759

778

Less: Gross amounts offset in the Consolidated Balance Sheets (3)
 
(89
)
(89
)
 
 
(106
)
(106
)
Less: Cash collateral applied (3)
 
(10
)
(16
)
 
 
(26
)
(13
)
Total net derivative fair values presented in the Consolidated Balance Sheets
 

$357


$320

 
 

$627


$659


(1) The notional or contractual amount of interest rate derivatives and foreign exchange contracts is the amount upon which interest and other payments under the contract are based. Notional amounts are typically not exchanged. Therefore, notional amounts should not be taken as the measure of credit or market risk, as they do not measure the true economic risk of these contracts.
(2) Amounts reflect variation margin payments that are characterized as settlement per the rules of the Company’s central counterparties effective for the quarter ended March 31, 2017.
(3) Amounts represent the impact of legally enforceable master netting agreements that allow the Company to settle positive and negative positions.

The Company’s derivative transactions are internally divided into three sub-groups: institutional, customer and residential loan.
Institutional derivatives
The institutional derivatives portfolio primarily consists of interest rate swap agreements that are used to hedge the interest rate risk associated with the Company’s loans and financing liabilities (i.e., borrowed funds, deposits, etc.). The goal of the Company’s interest rate hedging activity is to manage interest rate sensitivity so that movements in interest rates do not significantly adversely affect net interest income.
The Company enters into certain interest rate swap agreements to hedge the risk associated with floating rate loans. By entering into pay-floating/receive-fixed interest rate swaps, the Company is able to minimize the variability in the cash flows of these assets due to changes in interest rates. The Company has outstanding interest rate swap agreements designed to hedge a portion of the Company’s borrowed funds and deposit liabilities. By entering into a pay-fixed/receive-floating interest rate swap, a portion of these liabilities has been effectively converted to a fixed-rate liability for the term of the interest rate swap agreement.
The Company also uses receive-fixed/pay-floating interest rate swaps to manage the interest rate exposure on its medium-term borrowings.
Customer derivatives
The customer derivatives portfolio consists of interest rate swap agreements and option contracts that are transacted to meet the financing needs of the Company’s customers. Swap agreements and interest rate option agreements are transacted to effectively minimize the Company’s market risk associated with the customer derivative products. The customer derivatives portfolio also includes foreign exchange contracts that are entered into on behalf of customers for the purpose of hedging exposure related to cash orders and loans and deposits denominated in foreign currencies. The primary risks associated with these transactions arise from exposure to changes in foreign currency exchange rates and the ability of the counterparties to meet the terms of the contract. To manage this market risk, the Company simultaneously enters into offsetting foreign exchange contracts.
Residential loan derivatives
The Company enters into residential loan commitments that allow residential mortgage customers to lock in the interest rate on a residential mortgage while the loan undergoes the underwriting process. The Company also

84

CITIZENS FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)


uses forward sales contracts to protect the value of residential mortgage loans and loan commitments that are being underwritten for future sale to investors in the secondary market.
The Company has certain derivative transactions that are designated as hedging instruments described as follows:
Derivatives designated as hedging instruments
The Company’s institutional derivatives portfolio qualifies for hedge accounting treatment. This includes interest rate swaps that are designated in highly effective fair value and cash flow hedging relationships. The Company formally documents at inception all hedging relationships, as well as risk management objectives and strategies for undertaking various accounting hedges. Additionally, the Company uses dollar offset or regression analysis at the hedge’s inception, and monthly thereafter, to assess whether the derivatives are expected to be, or have been, highly effective in offsetting changes in the hedged item’s expected cash flows. The Company discontinues hedge accounting treatment when it is determined that a derivative is not expected to be, or has ceased to be, effective as a hedge and then reflects changes in fair value in earnings after termination of the hedge relationship.
Fair value hedges
The Company has entered into interest rate swap agreements to manage the interest rate exposure on its medium-term borrowings. The change in value of fair value hedges, to the extent that the hedging relationship is effective, is recorded through earnings and offset against the change in the fair value of the hedged item.
The following table presents the effect of fair value hedges on other income:
 
Amounts Recognized in Other Income for the
 
Three Months Ended March 31, 2017
 
Three Months Ended March 31, 2016
(in millions)
Derivative
Hedged Item
Hedge Ineffectiveness
 
Derivative
Hedged Item
Hedge Ineffectiveness
Hedges of interest rate risk on borrowings using interest rate swaps

($6
)

$6


$—

 

$52


($52
)

$—

Cash flow hedges
The Company has outstanding interest rate swap agreements designed to hedge a portion of the Company’s floating rate assets, and financing liabilities (including its borrowed funds). All of these swaps have been deemed as highly effective cash flow hedges. The effective portion of the hedging gains and losses associated with these hedges are recorded in OCI; the ineffective portion of the hedging gains and losses is recorded in earnings (other income). Hedging gains and losses on derivative contracts reclassified from OCI to current period earnings are included in the line item in the accompanying Consolidated Statements of Operations in which the hedged item is recorded and in the same period that the hedged item affects earnings. During the next 12 months, there are no pre-tax net gains on derivative instruments included in OCI expected to be reclassified to net interest income in the Consolidated Statements of Operations.
Hedging gains and losses associated with the Company’s cash flow hedges are immediately reclassified from OCI to current period earnings (other income) if it becomes probable that the hedged forecasted transactions will not occur during the originally specified time period.
The following table presents the effect of cash flow hedges on net income and stockholders' equity:
 
Amounts Recognized for the Three Months Ended March 31,
(in millions)
2017

 
2016

Effective portion of (loss) gain recognized in OCI (1)

($5
)
 

$54

Amounts reclassified from OCI to interest income (2)
12

 
22

Amounts reclassified from OCI to interest expense (2)
(2
)
 
(8
)
(1) The cumulative effective gains and losses on the Company’s cash flow hedging activities are included on the accumulated other comprehensive loss line item on the Consolidated Balance Sheets.
(2) This amount includes both (a) the amortization of effective gains and losses associated with the Company’s terminated cash flow hedges and (b) the current reporting period’s interest settlements realized on the Company’s active cash flow hedges. Both (a) and (b) were previously included on the accumulated other comprehensive loss line item on the Consolidated Balance Sheets and were subsequently recorded as adjustments to the interest expense of the underlying hedged item.

85

CITIZENS FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)


Economic hedges
The Company’s customer derivatives are recorded on the Consolidated Balance Sheets at fair value. These include interest rate and foreign exchange derivative contracts that are designed to meet the hedging and financing needs of the Company’s customers. Mark-to-market adjustments to the fair value of these contracts are included in foreign exchange and interest rate products on the Consolidated Statement of Operations. The mark-to-market gains and losses associated with the customer derivatives are mitigated by the mark-to-market gains and losses on the offsetting interest rate and foreign exchange derivative contracts transacted.
The Company’s residential loan derivatives (including residential loan commitments and forward sales contracts) are recorded on the Consolidated Balance Sheets at fair value. Mark-to-market adjustments to the fair value of residential loan commitments and forward sale contracts are included in noninterest income under mortgage banking fees.
The following table presents the effect of customer derivatives and economic hedges on noninterest income:
 
Amounts Recognized in Noninterest Income for the Three Months Ended March 31,
(in millions)
2017

 
2016

Customer derivative contracts
 
 
 
Customer interest rate contracts (1)

($3
)
 

$97

Customer foreign exchange contracts (1)
18

 
51

Residential loan commitments (2)
5

 
4

Economic hedges
 
 
 
Offsetting derivatives transactions to hedge interest rate risk on customer interest rate contracts (1)
15

 
(91
)
Offsetting derivatives transactions to hedge foreign exchange risk on customer foreign exchange contracts (1)
(14
)
 
(50
)
Forward sale contracts (2)
(11
)
 
(5
)
Total

$10

 

$6

(1) Reported in foreign exchange and interest rate products on the Consolidated Statements of Operations.
(2) Reported in mortgage banking fees on the Consolidated Statements of Operations.
NOTE 11 - COMMITMENTS AND CONTINGENCIES
A summary of outstanding off-balance sheet arrangements is presented below:
(in millions)
March 31, 2017
 
December 31, 2016
Undrawn commitments to extend credit

$62,810

 

$60,872

Financial standby letters of credit
1,912

 
1,892

Performance letters of credit
48

 
40

Commercial letters of credit
43

 
43

Marketing rights
44

 
44

Risk participation agreements
19

 
19

Residential mortgage loans sold with recourse
8

 
8

Total

$64,884

 

$62,918

Commitments to Extend Credit
Commitments to extend credit are agreements to lend to customers in accordance with conditions contractually agreed upon in advance. Generally, the commitments have fixed expiration dates or termination clauses and may require payment of a fee. Since many of these commitments are expected to expire without being drawn upon, the contract amounts are not necessarily indicative of future cash requirements.
Letters of Credit
Standby letters of credit, both financial and performance, are issued by the Company for its customers. They are used as conditional guarantees of payment to a third party in the event the customer either fails to make specific payments (financial) or fails to complete a specific project (performance). Commercial letters of credit are used to facilitate the import of goods. The commercial letter of credit is used as the method of payment to the

86

CITIZENS FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)


Company’s customers’ suppliers. The Company’s exposure to credit loss in the event of counterparty nonperformance in connection with the above instruments is represented by the contractual amount of those instruments, net of the value of collateral held. Standby letters of credit and commercial letters of credit are issued for terms of up to ten years and one year, respectively.
Generally, letters of credit are collateralized by cash, accounts receivable, inventory or investment securities. Credit risk associated with letters of credit is considered in determining the appropriate amounts of reserves for unfunded commitments.
The Company recognizes a liability on the Consolidated Balance Sheets representing its obligation to stand ready to perform over the term of the standby letters of credit in the event that the specified triggering events occur. The liability for these guarantees was $3 million at March 31, 2017 and December 31, 2016.
Marketing Rights
During 2003, the Company entered into a 25-year agreement to acquire the naming and marketing rights of a baseball stadium in Pennsylvania. The Company did not make any payment for the three months ended March 31, 2017, paid $3 million for the year ended December 31, 2016, and is obligated to pay $44 million over the remainder of the contract.
Risk Participation Agreements
RPAs are guarantees issued by the Company to other parties for a fee, whereby the Company agrees to participate in the credit risk of a derivative customer of the other party. Under the terms of these agreements, the “participating bank” receives a fee from the “lead bank” in exchange for the guarantee of reimbursement if the customer defaults on an interest rate swap. The interest rate swap is transacted such that any and all exchanges of interest payments (favorable and unfavorable) are made between the lead bank and the customer. In the event that an early termination of the swap occurs and the customer is unable to make a required close out payment, the participating bank assumes that obligation and is required to make this payment.
RPAs where the Company acts as the lead bank are referred to as “participations-out,” in reference to the credit risk associated with the customer derivatives being transferred out of the Company. Participations-out generally occur concurrently with the sale of new customer derivatives. RPAs where the Company acts as the participating bank are referred to as “participations-in,” in reference to the credit risk associated with the counterparty’s derivatives being assumed by the Company. The Company’s maximum credit exposure is based on its proportionate share of the settlement amount of the referenced interest rate swap. Settlement amounts are generally calculated based on the fair value of the swap plus outstanding accrued interest receivables from the customer. The Company’s estimate of the credit exposure associated with its risk participations-in was $19 million at March 31, 2017 and at December 31, 2016. The current amount of credit exposure is spread out over 90 counterparties. RPAs generally have terms ranging from one-five years; however, certain outstanding agreements have terms as long as ten years.
Residential Loans Sold with Recourse
The Company is an originator and servicer of residential mortgages and routinely sells such mortgage loans in the secondary market and to government-sponsored entities. In the context of such sales, the Company makes certain representations and warranties regarding the characteristics of the underlying loans and, as a result, may be contractually required to repurchase such loans or indemnify certain parties against losses for certain breaches of those representations and warranties.
Other Commitments    
In first quarter 2017, the Company entered into an agreement to purchase education loans on a quarterly basis beginning with the first quarter 2017 and ending with the fourth quarter 2017. The total minimum and maximum amount of the aggregate purchase principal balance of loans under the terms of the agreement are $750 million and $1.5 billion, respectively, and the remaining maximum purchase commitment is $1.2 billion. The agreement may be extended by written agreement of the parties for an additional four quarters. The agreement will terminate immediately if at any time during its term the aggregate purchase principal balance of loans equals the maximum amount. The Company may also terminate the agreement at will with payment of a termination fee equal to the product of $1 million times the number of quarters remaining under the agreement.
In April 2017, the Company terminated its May 2014 agreement to purchase automobile loans after satisfying its final purchase commitment.

87

CITIZENS FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)


The Company’s commercial loan trading desk provides ongoing secondary market support and liquidity to its clients. Unsettled loan trades (i.e., loan purchase contracts) represent firm commitments to purchase loans from a third party at an agreed-upon price. Principal amounts associated with unsettled commercial loan trades are off-balance sheet commitments until delivery of the loans has taken place. Fair value adjustments associated with each unsettled loan trade are recognized on the Consolidated Balance Sheets and classified within other assets or other liabilities, depending on whether the fair value of the unsettled trade represents an unrealized gain or unrealized loss. The principal balances of unsettled commercial loan trade purchases and sales were $186 million and $170 million, respectively, at March 31, 2017 and $127 million and $177 million, respectively, at December 31, 2016. Settled loans purchased by the trading desk are classified as loans held for sale, at fair value on the Consolidated Balance Sheets. Refer to Note 12 “Fair Value Measurements” for further information.
Contingencies
The Company operates in a legal and regulatory environment that exposes it to potentially significant risks. A certain amount of litigation ordinarily results from the nature of the Company’s banking and other businesses. The Company is a party to legal proceedings, including class actions. The Company is also the subject of investigations, reviews, subpoenas, and regulatory matters arising out of its normal business operations, which, in some instances, relate to concerns about fair lending, unfair and/or deceptive practices, mortgage-related issues, and mis-selling of certain products. In addition, the Company engages in discussions with relevant governmental and regulatory authorities on a regular and ongoing basis regarding various issues, and any issues discussed or identified may result in investigatory or other action being taken. Litigation and regulatory matters may result in settlements, damages, fines, penalties, public or private censure, increased costs, required remediation, restrictions on business activities, or other impacts on the Company.
In these disputes and proceedings, the Company contests liability and the amount of damages as appropriate. Given their complex nature, it may be years before some of these matters are finally resolved. Moreover, before liability can be reasonably estimated for a claim, numerous legal and factual issues may need to be examined, including through potentially lengthy discovery and determination of important factual matters, and by addressing novel or unsettled legal issues relevant to the proceedings in question.
The Company cannot predict with certainty if, how, or when such claims will be resolved or what the eventual settlement, fine, penalty or other relief, if any, may be, particularly for claims that are at an early stage in their development or where claimants seek substantial or indeterminate damages. The Company recognizes a provision for a claim when, in the opinion of management after seeking legal advice, it is probable that a liability exists and the amount of loss can be reasonably estimated. In many proceedings, however, it is not possible to determine whether any loss is probable or to estimate the amount of any loss. In each of the matters described below, the Company is unable to estimate the liability in excess of any provision accrued, if any, that might arise or its effects on the Company’s Consolidated Statements of Operations or Consolidated Statements of Cash Flows in any particular period.
Set out below is a description of significant legal matters involving the Company and its banking subsidiaries. Based on information currently available, the advice of legal counsel and other advisers, and established reserves, management believes that the aggregate liabilities, if any, potentially arising from these proceedings will not have a materially adverse effect on the Company’s unaudited interim Consolidated Financial Statements.
Consumer Products Matters
The activities of the Company’s banking subsidiaries are subject to extensive laws and regulations concerning unfair or deceptive acts or practices in connection with customer products. Certain of the banking subsidiaries’ past practices have not met applicable standards, and they have implemented and are continuing to implement changes to improve and bring their practices in accordance with regulatory guidance. The Company and its banking subsidiaries have actively pursued resolution of the legacy regulatory enforcement matters set forth below.
As previously reported, the Company and its banking subsidiaries are currently subject to consent orders issued in 2015 by certain of their regulators in connection with past deposit reconciliation and billing practices, under which the applicable regulators have provided non-objections to, among other things, restitution plans for affected customers. All financial penalties associated with these regulatory enforcement matters have been paid, and substantially all remediation related to such legacy matters was resolved as of December 31, 2016.

88

CITIZENS FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)


NOTE 12 - FAIR VALUE MEASUREMENTS
As discussed in Note 1 “Significant Accounting Policies,” to the Company’s audited Financial Statements in the Annual Report on Form 10-K for the year ended December 31, 2016, the Company measures or monitors many of its assets and liabilities on a fair value basis. Fair value is used on a recurring basis for assets and liabilities for which fair value is the required or elected measurement basis of accounting. Additionally, fair value is used on a nonrecurring basis to evaluate assets for impairment or for disclosure purposes. Nonrecurring fair value adjustments typically involve the application of lower of cost or market accounting or write-downs of individual assets. The Company also applies the fair value measurement guidance to determine amounts reported for certain disclosures in this Note for assets and liabilities not required to be reported at fair value in the financial statements.
The Company elected to account for residential mortgage loans held for sale and certain commercial and commercial real estate loans held for sale at fair value. Applying fair value accounting to the residential mortgage loans held for sale better aligns the reported results of the economic changes in the value of these loans and their related hedge instruments. Certain commercial and commercial real estate held for sale loans are managed by a commercial secondary loan desk that provides liquidity to banks, finance companies and institutional investors. Applying fair value accounting to this portfolio is appropriate because the Company holds these loans with the intent to sell within short term periods.
Fair Value Option
Residential Mortgage Loans Held for Sale
The fair value of residential mortgage loans held for sale is derived from observable mortgage security prices and includes adjustments for loan servicing value, agency guarantee fees, and other loan level attributes which are mostly observable in the marketplace. Credit risk does not significantly impact the valuation since these loans are sold shortly after origination. Therefore, the Company classifies the residential mortgage loans held for sale in Level 2 of the fair value hierarchy.
The election of the fair value option for financial assets and financial liabilities is optional and irrevocable. The loans accounted for under the fair value option are initially measured at fair value (i.e., acquisition cost) when the financial asset is acquired. Subsequent changes in fair value are recognized in mortgage banking fees on the Consolidated Statements of Operations. The Company recognized changes in fair value in mortgage banking income of $7 million and $6 million for the three months ended March 31, 2017 and 2016, respectively.
Interest income on residential mortgage loans held for sale is calculated based on the contractual interest rate of the loan and is recorded in interest income.
Commercial and Commercial Real Estate Loans Held for Sale
The fair value of commercial and commercial real estate loans held for sale is estimated using observable prices of similar loans that transact in the marketplace. In addition, the Company uses external pricing services that provide estimates of fair values based on quotes from various dealers transacting in the market, sector curves or benchmarking techniques. Therefore, the Company classifies the commercial and commercial real estate loans managed by the commercial secondary loan desk in Level 2 of the fair value hierarchy given the observable market inputs.
There were no loans in this portfolio that were 90 days or more past due or nonaccruing as of March 31, 2017 and December 31, 2016. The loans accounted for under the fair value option are initially measured at fair value when the financial asset is recognized. Subsequent changes in fair value are recognized in current earnings. Since all loans in the Company’s commercial trading portfolio consist of floating rate obligations, all changes in fair value are due to changes in credit risk. Such credit-related fair value changes may include observed changes in overall credit spreads and/or changes to the creditworthiness of an individual borrower. Unsettled trades within the commercial trading portfolio are not recognized on the Consolidated Balance Sheets and represent off-balance sheet commitments. Refer to Note 11 “Commitments and Contingencies” for further information.
Interest income on commercial and commercial real estate loans held for sale is calculated based on the contractual interest rate of the loan and is recorded in interest income. The Company recognized $2 million in other noninterest income related to its commercial trading portfolio for the three months ended March 31, 2017 and the Company did not recognize income for the three months ended 2016.

89

CITIZENS FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)


The following table presents the difference between the aggregate fair value and the aggregate unpaid principal balance of loans held for sale measured at fair value:
 
March 31, 2017
 
December 31, 2016
(in millions)
Aggregate Fair Value
Aggregate Unpaid Principal
Aggregate Fair Value Less Aggregate Unpaid Principal
 
Aggregate Fair Value
Aggregate Unpaid Principal
Aggregate Fair Value Less Aggregate Unpaid Principal
Residential mortgage loans held for sale, at fair value

$365


$365


$—

 

$504


$505


($1
)
Commercial and commercial real estate loans held for sale, at fair value
83

83


 
79

79




Recurring Fair Value Measurements
The Company utilizes a variety of valuation techniques to measure its assets and liabilities at fair value. The valuation methodologies used for significant assets and liabilities carried on the balance sheet at fair value on a recurring basis are presented below:
Securities available for sale
The fair value of securities classified as AFS is based upon quoted prices, if available. Where observable quoted prices are available in an active market, securities are classified as Level 1 in the fair value hierarchy. Classes of instruments that are valued using this market approach include debt securities issued by the U.S. Treasury. If quoted market prices are not available, the fair value for the security is estimated under the market or income approach using pricing models. These instruments are classified as Level 2 because they currently trade in active markets and the inputs to the valuations are observable. The pricing models used to value securities generally begin with market prices (or rates) for similar instruments and make adjustments based on the characteristics of the instrument being valued. These adjustments reflect assumptions made regarding the sensitivity of each security’s value to changes in interest rates and prepayment speeds. Classes of instruments that are valued using this market approach include specified pool mortgage “pass-through” securities and other debt securities issued by U.S. government-sponsored entities and state and political subdivisions. The pricing models used to value securities under the income approach generally begin with the contractual cash flows of each security and make adjustments based on forecasted prepayment speeds, default rates, and other market-observable information. The adjusted cash flows are then discounted at a rate derived from observed rates of return for comparable assets or liabilities that are traded in the market. Classes of instruments that are valued using this market approach include residential and commercial CMOs.
A significant majority of the Company’s Level 1 and 2 securities are priced using an external pricing service. The Company verifies the accuracy of the pricing provided by its primary outside pricing service on a quarterly basis. This process involves using a secondary external vendor to provide valuations for the Company’s securities portfolio for comparison purposes. Any securities with discrepancies beyond a certain threshold are researched and, if necessary, valued by an independent outside broker.
In certain cases where there is limited activity or less transparency around inputs to the valuation model, securities are classified as Level 3.
Residential loans held for sale
See the Fair Value Option, Residential Mortgage Loans Held for Sale” discussion above.
Commercial loans held for sale
See the “Fair Value Option, Commercial and Commercial Real Estate Loans Held for Sale” discussion above.
Derivatives
The vast majority of the Company’s derivatives portfolio is composed of “plain vanilla” interest rate swaps, which are traded in over-the-counter markets where quoted market prices are not readily available. For these interest rate derivatives, fair value is determined utilizing models that primarily use market observable inputs, such as swap rates and yield curves. The pricing models used to value interest rate swaps calculate the sum of each

90

CITIZENS FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)


instrument’s fixed and variable cash flows, which are then discounted using an appropriate yield curve (i.e., LIBOR or Overnight Index Swap curve) to arrive at the fair value of each swap. The pricing models do not contain a high level of subjectivity as the methodologies used do not require significant judgment. The Company also considers certain adjustments to the modeled price that market participants would make when pricing each instrument, including a credit valuation adjustment that reflects the credit quality of the swap counterparty. The Company incorporates the effect of exposure to a particular counterparty’s credit by netting its derivative contracts with the collateral available and calculating a credit valuation adjustment on the basis of the net position with the counterparty where permitted. The determination of this adjustment requires judgment on behalf of Company management; however, the total amount of this portfolio-level adjustment is not material to the total fair value of the interest rate swaps in their entirety. Therefore, interest rate swaps are classified as Level 2 in the valuation hierarchy.
The Company’s other derivatives include foreign exchange contracts. The fair value of foreign exchange derivatives uses the mid-point of daily quoted currency spot prices. A valuation model estimates fair value based on the quoted spot rates together with interest rate yield curves and forward currency rates. Since all of these inputs are observable in the market, foreign exchange derivatives are classified as Level 2 in the fair value hierarchy.
Money Market Mutual Fund
Fair value is determined based upon unadjusted quoted market prices and is considered a Level 1 fair value measurement.
Other investments
The fair values of the Company’s other investments are based on security prices in markets that are not active; therefore, these investments are classified as Level 2 in the fair value hierarchy.
The following table presents assets and liabilities measured at fair value, including gross derivative assets and liabilities on a recurring basis at March 31, 2017:
(in millions)
Total

Level 1

Level 2

Level 3

Securities available for sale:
 
 
 
 
Mortgage-backed securities

$19,942


$—


$19,942


$—

State and political subdivisions
7


7


Equity securities




U.S. Treasury and other
15

15



Total securities available for sale
19,964

15

19,949


Loans held for sale, at fair value:
 
 
 
 
Residential loans held for sale
365


365


Commercial loans held for sale
83


83


Total loans held for sale, at fair value
448


448


Derivative assets:
 
 
 
 
Interest rate swaps
350


350


Foreign exchange contracts
95


95


Other contracts
11


11


Total derivative assets
456


456


Other investment securities, at fair value:
 
 
 
 
Money market mutual fund
96

96



Other investments
5


5


Total other investment securities, at fair value
101

96

5


Total assets

$20,969


$111


$20,858


$—

Derivative liabilities:
 
 
 
 
Interest rate swaps

$332


$—


$332


$—

Foreign exchange contracts
85


85


Other contracts
8


8


Total derivative liabilities
425


425


Total liabilities

$425


$—


$425


$—


91

CITIZENS FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)



The following table presents assets and liabilities measured at fair value including gross derivative assets and liabilities on a recurring basis at December 31, 2016:
(in millions)
Total

Level 1

Level 2

Level 3

Securities available for sale:
 
 
 
 
Mortgage-backed securities

$19,446


$—


$19,446


$—

State and political subdivisions
8


8


Equity securities
17


17


U.S. Treasury
30

30



Total securities available for sale
19,501

30

19,471


Loans held for sale, at fair value:
 
 
 
 
Residential loans held for sale
504


504


Commercial loans held for sale
79


79


Total loans held for sale, at fair value
583


583


Derivative assets:




Interest rate swaps
609


609


Foreign exchange contracts
134


134


Other contracts
16


16


Total derivative assets
759


759


Other investment securities, at fair value:
 
 
 
 
Money market mutual fund
91

91



Other investments
5


5


Total other investment securities, at fair value
96

91

5


Total assets

$20,939


$121


$20,818


$—

Derivative liabilities:




Interest rate swaps

$645


$—


$645


$—

Foreign exchange contracts
126


126


Other contracts
7


7


Total derivative liabilities
778


778


Total liabilities

$778


$—


$778


$—


There were no Level 3 assets measured at fair value on a recurring basis as of March 31, 2017 and December 31, 2016.
Nonrecurring Fair Value Measurements
The following valuation techniques are utilized to measure significant assets for which the Company utilizes fair value on a nonrecurring basis:
Impaired Loans
The carrying amount of collateral-dependent impaired loans is compared to the appraised value of the collateral less costs to dispose and is classified as Level 2. Any excess of carrying amount over the appraised value is charged to the ALLL.
Mortgage Servicing Rights
MSRs do not trade in an active market with readily observable prices. MSRs are classified as Level 3 since the valuation methodology utilizes significant unobservable inputs. The fair value was calculated using a discounted cash flow model which used assumptions, including weighted-average life, weighted-average constant prepayment rate and weighted-average discount rate. Refer to Note 1 “Significant Accounting Policies” to the Company’s audited Consolidated Financial Statements in the Annual Report on Form 10-K for the year ended December 31, 2016 and Note 6 “Mortgage Banking” for more information.

92

CITIZENS FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)


Foreclosed assets
Foreclosed assets consist primarily of residential properties. Foreclosed assets are carried at the lower of cost or fair value less costs to dispose. Fair value is based upon independent market prices or appraised values of the collateral and is classified as Level 2.
Leased assets
The fair value of assets under operating leases is determined using collateral specific pricing digests, external appraisals, broker opinions, recent sales data from industry equipment dealers, and discounted cash flows derived from the underlying lease agreement. As market data for similar assets and lease agreements is available and used in the valuation, these assets are classified as Level 2 fair value measurement.
The following table presents gains (losses) on assets and liabilities measured at fair value on a nonrecurring basis and recorded in earnings:
 
Three Months Ended March 31,
(in millions)
2017

 
2016

Impaired collateral-dependent loans

($19
)
 

($5
)
MSRs

 
(5
)
Foreclosed assets
(1
)
 
(1
)
Leased assets
4

 


The following table presents assets and liabilities measured at fair value on a nonrecurring basis:
 
March 31, 2017
 
December 31, 2016
(in millions)
Total

Level 1

Level 2

Level 3

 
Total

Level 1

Level 2

Level 3

Impaired collateral-dependent loans

$366


$—


$366


$—

 

$355


$—


$355


$—

MSRs
180



180

 
182



182

Foreclosed assets
40


40


 
44


44


Leased assets
155


155


 
158


158



Disclosures about Fair Value of Financial Instruments
Following is a description of valuation methodologies used to estimate the fair value of financial instruments for disclosure purposes (these instruments are not recorded in the financial statements at fair value):
Securities held to maturity
The fair values of securities classified as HTM are estimated under the market or income approach using the same pricing models as those used to measure the fair value of the Company’s securities AFS. For more information, see “Recurring Fair Value Measurements - Securities Available for Sale,” within this Note.
Other investment securities, at cost
The cost basis of other investment securities, at cost, such as FHLB stock and FRB stock, is assumed to approximate the fair value of these securities. As a member of the FHLB and FRB, the Company is required to hold FHLB and FRB stock. The stock can be sold only to the FHLB and FRB upon termination of membership, or redeemed at the FHLB’s or FRB’s sole discretion. The stock may only be sold or redeemed at par, and therefore the cost basis represents the best estimate of fair value.
Loans and leases
For loans and leases not recorded at fair value on a recurring basis that are not accounted for as collateral-dependent impaired loans, fair value is estimated by using one of two methods: a discounted cash flow method or a securitization method. The discounted cash flow method involves discounting the expected future cash flows using current rates which a market participant would likely use to value similar pools of loans. Inputs used in this method include observable information such as contractual cash flows (net of servicing cost) and unobservable information such as estimated prepayment speeds, credit loss exposures, and discount rates. The securitization method involves utilizing market securitization data to value the assets as if a securitization transaction had been executed. Inputs

93

CITIZENS FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)


used include observable market-based MBS data and pricing adjustments based on unobservable data reflecting the liquidity risk, credit loss exposure and other characteristics of the underlying loans. The internal risk-weighted balances of loans are grouped by product type for purposes of these estimated valuations. For nonaccruing loans, fair value is estimated by discounting management’s estimate of future cash flows with a discount rate commensurate with the risk associated with such assets. Fair value of collateral-dependent loans is primarily based on the appraised value of the collateral.
Other loans held for sale
Balances represent loans that were transferred to other loans held for sale and are reported at the lower of cost or fair value. When applicable, the fair value of other loans held for sale is estimated using one of two methods: a discounted cash flow method or a securitization method (as described above).
Deposits
The fair value of demand deposits, checking with interest accounts, regular savings, money market accounts and other deposits is the amount payable on demand at the balance sheet date. The fair value of term deposits is estimated by discounting the expected future cash flows using rates currently offered for deposits of similar remaining maturities.
Federal funds purchased and securities sold under agreements to repurchase, other short-term borrowed funds, and long-term borrowed funds
Rates currently available to the Company for debt of similar terms and remaining maturities are used to discount the expected cash flows of existing debt.
The following table presents the estimated fair value for financial instruments not recorded at fair value in the unaudited interim Consolidated Financial Statements. The carrying amounts are recorded in the Consolidated Balance Sheets under the indicated captions:
 
March 31, 2017
 
Total
 
Level 1
 
Level 2
 
Level 3
(in millions)
Carrying Value
Estimated Fair Value
 
Carrying Value
Estimated Fair Value
 
Carrying Value
Estimated Fair Value
 
Carrying Value
Estimated Fair Value
Financial Assets:
 
 
 
 
 
 
 
 
 
 
 
Securities held to maturity

$4,992


$4,995

 

$—


$—

 

$4,992


$4,995

 

$—


$—

Other investment securities, at cost
939

939

 


 
939

939

 


Other loans held for sale
221

221

 


 


 
221

221

Loans and leases
108,111

108,851

 


 
366

366

 
107,745

108,485

Financial Liabilities:
 
 
 
 
 
 
 
 
 
 
 
Deposits
112,112

112,096

 


 
112,112

112,096

 


Federal funds purchased and securities sold under agreements to repurchase
1,093

1,093

 


 
1,093

1,093

 


Other short-term borrowed funds
2,762

2,762

 


 
2,762

2,762

 


Long-term borrowed funds
11,780

11,877

 


 
11,780

11,877

 



94

CITIZENS FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)


 
December 31, 2016
 
Total
 
Level 1
 
Level 2
 
Level 3
(in millions)
Carrying Value
Estimated Fair Value
 
Carrying Value
Estimated Fair Value
 
Carrying Value
Estimated Fair Value
 
Carrying Value
Estimated Fair Value
Financial Assets:
 
 
 
 
 
 
 
 
 
 
 
Securities held to maturity

$5,071


$5,058

 

$—


$—

 

$5,071


$5,058

 

$—


$—

Other investment securities, at cost
942

942

 


 
942

942

 


Other loans held for sale
42

42

 


 


 
42

42

Loans and leases
107,669

107,537

 


 
355

355

 
107,314

107,182

Financial Liabilities:
 
 
 
 
 
 
 
 
 
 
 
Deposits
109,804

109,796

 


 
109,804

109,796

 


Federal funds purchased and securities sold under agreements to repurchase
1,148

1,148

 


 
1,148

1,148

 


Other short-term borrowed funds
3,211

3,211

 


 
3,211

3,211

 


Long-term borrowed funds
12,790

12,849

 


 
12,790

12,849

 


NOTE 13 - REGULATORY MATTERS
As a bank holding company, the Company is subject to regulation and supervision by the FRB. The primary subsidiaries of the Company are its two insured depository institutions CBNA, a national banking association whose primary federal regulator is the OCC, and CBPA, a Pennsylvania-chartered savings bank regulated by the Department of Banking of the Commonwealth of Pennsylvania and supervised by the FDIC as its primary federal regulator. Under the U.S. Basel III capital framework, the Company and its banking subsidiaries must meet specific minimum requirements for the following ratios: common equity tier 1 capital; tier 1 capital; total capital; and tier 1 leverage. In addition, the Company must not be subject to a written agreement, order or capital directive with any of its regulators. Failure to meet minimum capital requirements can result in the initiation of certain actions that, if undertaken, could have a material effect on the Company’s Consolidated Financial Statements.

95

CITIZENS FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)



The following table presents the Company’s capital and capital ratios under U.S. Basel III Standardized Transitional rules as of March 31, 2017 and December 31, 2016. Certain Basel III requirements are subject to phase-in through 2019, and were applied to this report of actual regulatory ratios. In addition, the Company has declared itself as an “AOCI opt-out” institution, which means the Company is not required to recognize within regulatory capital the impacts of net unrealized gains and losses included within AOCI for available for sale securities, accumulated net gains and losses on cash-flow hedges, net gains and losses on certain defined benefit pension plan assets, and net unrealized gains and losses on securities held to maturity.
 
Transitional Basel III
 
 
 
 
 
 
 
FDIA Requirements
 
Actual
 
Minimum Capital Adequacy
 
Classification as Well-capitalized(6)
(dollars in millions)
Amount

Ratio

 
Amount

Ratio (5)

 
Amount

Ratio

As of March 31, 2017
 
 
 
 
 
 
 
 
Common equity tier 1 capital (1)

$13,941

11.2
%
 

$7,181

5.750
%
 

$8,117

6.5
%
Tier 1 capital (2)
14,188

11.4

 
9,054

7.250

 
9,991

8.0

Total capital (3)
17,475

14.0

 
11,552

9.250

 
12,488

10.0

Tier 1 leverage (4)
14,188

9.9

 
5,737

4.000

 
7,172

5.0

As of December 31, 2016
 
 
 
 
 
 
 
 
Common equity tier 1 capital (1)

$13,822

11.2
%
 

$6,348

5.125
%
 

$8,051

6.5
%
Tier 1 capital (2)
14,069

11.4

 
8,206

6.625

 
9,909

8.0

Total capital (3)
17,347

14.0

 
10,683

8.625

 
12,386

10.0

Tier 1 leverage (4)
14,069

9.9

 
5,667

4.000

 
7,084

5.0

(1) “Common equity tier 1 capital ratio” represents CET1 capital divided by total risk-weighted assets as defined under U.S. Basel III Standardized approach.
(2) “Tier 1 capital ratio” is tier 1 capital, which includes CET1 capital plus non-cumulative perpetual preferred equity that qualifies as additional tier 1 capital, divided by total risk-weighted assets as defined under U.S. Basel III Standardized approach.
(3) “Total capital ratio” is total capital divided by total risk-weighted assets as defined under U.S. Basel III Standardized approach.
(4) “Tier 1 leverage ratio” is tier 1 capital divided by quarterly average total assets as defined under U.S. Basel III Standardized approach.
(5) “Minimum Capital ratio” includes capital conservation buffer of 1.250% for 2017 and 0.625% for 2016; N/A to Tier 1 leverage.
(6) Presented for informational purposes. Prompt corrective action provisions apply only to the Company’s insured depository institutions-CBNA and CBPA.

Under the Capital Plan Rule, the Company may only make capital distributions, including payment of dividends, in accordance with a capital plan that has been reviewed by the FRB with no objection.
Per the submitted 2016 Capital Plan, which received a non-objection from the FRB, for the three months ended March 31, 2017, the Company paid common dividends of $0.14 per common share or $72 million, declared preferred dividends of $7 million and repurchased $130 million of its outstanding common shares. For the three months ended March 31, 2016, the Company paid common dividends of $0.10 per common share or $53 million and paid total preferred dividends of $7 million.
On April 5, 2017, the Company submitted its 2017 Capital Plan and the results of the annual company-run stress tests to the FRB as part of the 2017 CCAR cycle. All future capital distributions are also subject to consideration and approval by the Board of Directors prior to execution. The timing and exact amount of future dividends and share repurchases will depend on various factors, including capital position, financial performance and market conditions.
On January 30, 2017, the FRB published a final rule that modifies the CCAR Capital Plan and stress test rules. Under the final rule, the Company continues to be classified as a large non-complex firm, that is, a bank holding company with total consolidated assets of at least $50 billion but less than $250 billion, non-bank assets of less than $75 billion, and that is not classified as a global systemically important bank holding company under the FRB’s capital rules. As a result of the new final rule, the FRB may no longer object to the Company’s capital plans on qualitative grounds beginning with the 2017 CCAR and DFAST cycles. The FRB’s qualitative assessment of the Company’s capital planning processes is now incorporated into regular, ongoing supervisory activities, with targeted, horizontal assessments of particular aspects of capital planning. The Company remains subject to the FRB’s quantitative assessment of its ability to meet capital requirements under stress.
In accordance with federal and state banking regulations, dividends paid by the Company’s banking subsidiaries to the Company itself are generally limited to the retained earnings of the respective banking subsidiaries unless specifically approved by the appropriate bank regulator.

96

CITIZENS FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)


A financial subsidiary of a national bank is permitted to engage in a broader range of activities, similar to those of a financial holding company. CBNA has two financial subsidiaries, Citizens Securities, Inc., a registered broker-dealer, and RBS Citizens Insurance Agency, Inc., a dormant entity. On March 13, 2014, the OCC determined that CBNA no longer met the conditions to own a financial subsidiary — namely that CBNA must be both well capitalized and well managed. CBNA has entered into an agreement with the OCC pursuant to which it has developed and submitted to the OCC a remediation plan setting forth the specific actions it will take to bring itself back into compliance with the conditions to own a financial subsidiary. CBNA has completed its undertakings under the plan, which have been validated by the Company’s internal audit team and submitted to the OCC for review and validation. However, until the OCC has completed their validation efforts, CBNA will be subject to restrictions on its ability to acquire control or hold an interest in any new financial subsidiary and to commence new activities in any existing financial subsidiary without the prior consent of the OCC.
NOTE 14 - RECLASSIFICATIONS OUT OF ACCUMULATED OTHER COMPREHENSIVE INCOME (LOSS)
The following table presents the changes in the balances, net of income taxes, of each component of AOCI:
 
 
As of and for the three months ended March 31,
(in millions)
Net Unrealized (Losses) Gains on Derivatives
 
Net Unrealized (Losses) Gains on Securities
 
Employee Benefit Plans
 
Total AOCI

Balance at January 1, 2016

$10

 

($28
)
 

($369
)
 

($387
)
Other comprehensive income before reclassifications
33

 
154

 

 
187

Other-than-temporary impairment not recognized in earnings on securities

 
(25
)
 

 
(25
)
Amounts reclassified from other comprehensive (loss) income
(8
)
 
(5
)
 
2

 
(11
)
Net other comprehensive income
25

 
124

 
2

 
151

Balance at March 31, 2016

$35

 

$96

 

($367
)
 

($236
)
Balance at January 1, 2017

($88
)
 

($186
)
 

($394
)
 

($668
)
Other comprehensive income before reclassifications
(3
)
 
5

 

 
2

Other-than-temporary impairment not recognized in earnings on securities

 
(12
)
 

 
(12
)
Amounts reclassified from other comprehensive (loss) income
(6
)
 
(2
)
 
3

 
(5
)
Net other comprehensive (loss) income
(9
)
 
(9
)
 
3

 
(15
)
Balance at March 31, 2017

($97
)
 

($195
)
 

($391
)
 

($683
)

97

CITIZENS FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)



The following table presents the amounts reclassified out of each component of AOCI and into the Consolidated Statements of Operations:
 
Three Months Ended March 31,
 
(in millions)
2017

 
2016

 
Details about AOCI Components
 
 
 
Affected Line Item in the Consolidated Statements of Operations
Reclassification adjustment for net derivative gains included in net income:

$12

 

$22

Interest income
 
(2
)
 
(8
)
Interest expense
 
10

 
14

Income before income tax expense
 
4

 
6

Income tax expense
 

$6

 

$8

Net income
Reclassification of net securities gains to net income:

$4

 

$9

Securities gains, net
 
(1
)
 
(1
)
Net securities impairment losses recognized in earnings
 
3

 
8

Income before income tax expense
 
1

 
3

Income tax expense
 

$2

 

$5

Net income
Reclassification of changes related to defined benefit pension plans:

($5
)
 

($4
)
Salaries and employee benefits
 
(5
)
 
(4
)
Income before income tax expense
 
(2
)
 
(2
)
Income tax expense
 

($3
)
 

($2
)
Net income
Total reclassification gains

$5

 

$11

Net income
The following table presents the effects on net income of the amounts reclassified out of AOCI:
 
Three Months Ended March 31,
(in millions)
2017

 
2016

Net interest income (includes $10 and $14 of AOCI reclassifications, respectively)

$1,005

 

$904

Provision for credit losses
96

 
91

Noninterest income (includes $3 and $8 of AOCI reclassifications, respectively)
379

 
330

Noninterest expense (includes $5 and $4 of AOCI reclassifications, respectively)
854

 
811

Income before income tax expense
434

 
332

Income tax expense (includes $3 and $7 income tax net expense from reclassification items, respectively)
114

 
109

Net income

$320

 

$223

NOTE 15 - BUSINESS SEGMENTS
The Company is managed by its CEO on a segment basis. The Company’s two business segments are Consumer Banking and Commercial Banking. The business segments are determined based on the products and services provided, or the type of customer served. Each segment has one or more segment heads who report directly to the CEO. The CEO has final authority over resource allocation decisions and performance assessment. The business segments reflect this management structure and the manner in which financial information is currently evaluated by the CEO.
Reportable Segments
Segment results are determined based upon the Company’s management reporting system, which assigns balance sheet and statement of operations items to each of the business segments. The process is designed around the Company’s organizational and management structure and accordingly, the results derived are not necessarily comparable with similar information published by other financial institutions. A description of each reportable segment and table of financial results is presented below:
Consumer Banking
The Consumer Banking segment focuses on retail customers and small businesses with annual revenues of

98

CITIZENS FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)


up to $25 million. It offers traditional banking products and services, including checking, savings, home loans, education loans, credit cards, business loans, and unsecured product finance and personal loans in addition to financial management services. It also operates an indirect auto financing business, providing financing for both new and used vehicles through auto dealerships. The segment’s distribution channels include a branch network, ATMs and a work force of experienced specialists ranging from financial consultants, mortgage loan officers and business banking officers to private bankers. Our Consumer Banking value proposition is based on providing simple, easy to understand product offerings and a convenient banking experience with a more personalized approach.
Commercial Banking
The Commercial Banking segment primarily targets companies with annual revenues from $25 million to $2.5 billion and provides a full complement of financial products and solutions, including loans, leases, trade financing, deposits, cash management, commercial cards, foreign exchange, interest rate risk management, corporate finance and capital markets advisory capabilities. It focuses on middle-market companies, large corporations and institutions and has dedicated teams with industry expertise in government banking, not-for-profit, healthcare, technology, professionals, oil and gas, asset finance, franchise finance, asset-based lending, commercial real estate, private equity and sponsor finance. While the segment’s business development efforts are predominantly focused in the Company’s footprint, some of its specialized industry businesses also operate selectively on a national basis (such as healthcare, asset finance and franchise finance). A key component of Commercial Banking’s growth strategy is to bring ideas to clients that help their businesses thrive, and in doing so, expand the loan portfolio and ancillary product sales.
Non-segment Operations
Other
Non-segment operations are classified as Other, which includes corporate functions, the Treasury function, the securities portfolio, wholesale funding activities, intangible assets, community development, non-core assets (including legacy RBS aircraft loans and leases placed in runoff in the third quarter of 2016), and other unallocated assets, liabilities, capital, revenues, provision for credit losses and expenses. In addition to non-segment operations, Other includes goodwill and any associated goodwill impairment charges. For impairment testing purposes, the Company allocates goodwill to its Consumer Banking and Commercial Banking reporting units. For management reporting purposes, the Company presents the goodwill balance (and any related impairment charges) in Other.
 
As of and for the Three Months Ended March 31, 2017
(in millions)
Consumer Banking
 
Commercial Banking
 
Other
 
Consolidated

Net interest income

$638

 

$346

 

$21

 

$1,005

Noninterest income
220

 
134

 
25

 
379

Total revenue
858

 
480

 
46

 
1,384

Noninterest expense
647

 
190

 
17

 
854

Profit before provision for credit losses
211

 
290

 
29

 
530

Provision for credit losses
64

 
19

 
13

 
96

Income before income tax expense
147

 
271

 
16

 
434

Income tax expense (benefit)
52

 
91

 
(29
)
 
114

Net income

$95

 

$180

 

$45

 

$320

Total average assets

$58,660

 

$49,243

 

$40,883

 

$148,786


99

CITIZENS FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)


 
As of and for the Three Months Ended March 31, 2016
(in millions)
Consumer Banking
 
Commercial Banking
 
Other
 
Consolidated

Net interest income

$581

 

$300

 

$23

 

$904

Noninterest income
208

 
99

 
23

 
330

Total revenue
789

 
399

 
46

 
1,234

Noninterest expense
616

 
187

 
8

 
811

Profit before provision for credit losses
173

 
212

 
38

 
423

Provision for credit losses
63

 
9

 
19

 
91

Income before income tax expense
110

 
203

 
19

 
332

Income tax expense
39

 
70

 

 
109

Net income

$71

 

$133

 

$19

 

$223

Total average assets

$55,116

 

$45,304

 

$38,360

 

$138,780

Management accounting practices utilized by the Company as the basis of presentation for segment results include the following:
FTP adjustments
The Company utilizes an FTP system to eliminate the effect of interest rate risk from the segments’ net interest income because such risk is centrally managed within the Treasury function. The FTP system credits (or charges) the segments with the economic value of the funds created (or used) by the segments. The FTP system provides a funds credit for sources of funds and a funds charge for the use of funds by each segment. The sum of the interest income/expense and FTP charges/credits for each segment is its designated net interest income. The variance between the Company’s cumulative FTP charges and cumulative FTP credits is offset in Other.
Provision for credit losses allocations
Provision for credit losses is allocated to each business segment based on actual net charge-offs recognized by the business segment. The difference between the consolidated provision for credit losses and the business segments’ net charge-offs is reflected in Other.
Income tax allocations
Income taxes are assessed to each line of business at a standard tax rate with the residual tax expense or benefit to arrive at the consolidated effective tax rate included in Other.
Expense allocations
Noninterest expenses incurred by centrally managed operations or business lines that directly support another business line’s operations are charged to the applicable business line based on its utilization of those services.
Substantially all revenues generated and long-lived assets held by the Company’s business segments are derived from clients that reside in the United States. Neither business segment earns revenue from a single external customer that represents ten percent or more of the Company’s total revenues.

100

CITIZENS FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)


NOTE 16 - EARNINGS PER SHARE
 
Three Months Ended March 31,
(in millions, except share and per-share data)
2017

 
2016

Numerator (basic and diluted):
 
 
 
Net income

$320

 

$223

Less: Preferred stock dividends
7

 
7

Net income available to common stockholders

$313

 

$216

Denominator:
 
 
 
Weighted-average common shares outstanding - basic
509,451,450

 
528,070,648

Dilutive common shares: share-based awards
1,896,750

 
2,375,540

Weighted-average common shares outstanding - diluted
511,348,200

 
530,446,188

Earnings per common share:
 
 
 
Basic

$0.61

 

$0.41

Diluted
0.61

 
0.41

Potential dilutive common shares are excluded from the computation of diluted EPS in the periods where the effect would be antidilutive. The diluted EPS computation for the three months ended March 31, 2017 excluded 321,803 average share-based awards because their inclusion would have been antidilutive. The Company did not have any antidilutive shares for the three months ended March 31, 2016.
NOTE 17 - OTHER INCOME
The following table presents the details of other income:
 
Three Months Ended March 31,
(in millions)
2017

 
2016

Bank-owned life insurance income

$12

 

$13

Other
13

 
8

Other income

$25

 

$21

NOTE 18 - OTHER OPERATING EXPENSE
The following table presents the details of other operating expense:
 
Three Months Ended March 31,
(in millions)
2017

 
2016

Deposit insurance

$32

 

$26

Promotional expense
26

 
24

Settlements and operating losses
13

 
8

Other
55

 
57

Other operating expense

$126

 

$115

NOTE 19 - SUBSEQUENT EVENTS
The Company has evaluated the impacts of events that have occurred subsequent to March 31, 2017 through the date the Consolidated Financial Statements were filed with the SEC. Based on this evaluation, the Company has determined none of these events were required to be recognized or disclosed in the Consolidated Financial Statements and related Notes.

101

CITIZENS FINANCIAL GROUP, INC.

 

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The information presented in the “Market Risk” section of Part I, Item 2 — Management’s Discussion and Analysis of Financial Condition and Results of Operations and is incorporated herein by reference.
ITEM 4. CONTROLS AND PROCEDURES
The Company maintains a set of disclosure controls and procedures designed to ensure that information required to be disclosed by the Company in reports that it files or submits under the Exchange Act, is recorded, processed, summarized and reported within the time periods specified in SEC rules and forms. The design of any disclosure controls and procedures is based in part upon certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions. Any controls and procedures, no matter how well designed and operated, can provide only reasonable, not absolute, assurance of achieving the desired control objectives. In accordance with Rule 13a-15(b) of the Exchange Act, as of the end of the period covered by this quarterly report, an evaluation was carried out under the supervision and with the participation of the Company’s management, including its Chief Executive Officer and Chief Financial Officer, of the effectiveness of its disclosure controls and procedures. Based on that evaluation, the Company’s Chief Executive Officer and Chief Financial Officer concluded that the Company’s disclosure controls and procedures, as of the end of the period covered by this quarterly report, were effective to provide reasonable assurance that information required to be disclosed by the Company in reports that it files or submits under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in SEC rules and forms and is accumulated and communicated to the Company’s management, including the Chief Executive Officer and Chief Financial Officer, as appropriate to allow timely decisions regarding required disclosure.
There were no changes in our internal control over financial reporting identified in management's evaluation pursuant to Rules13a-15(d) or 15d-15(d) of the Exchange Act during the period covered by this quarterly report on Form 10-Q that materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
    

102

CITIZENS FINANCIAL GROUP, INC.

 

PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS

In addition to the matters described in the Company's Form 10-K for the year ended December 31, 2016, information required by this item is set forth in Note 11 “Commitments and Contingencies” in the Notes to the unaudited interim Consolidated Financial Statements in Part I, Item 1 — Financial Statements of this report, which is incorporated herein by reference.

ITEM 1A. RISK FACTORS

In addition to the other information set forth in this report, you should consider the risks described under the caption “Risk Factors” in the Company’s Form 10-K for the year ended December 31, 2016.

ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

Details of the repurchases of the Company’s common stock during the three months ended March 31, 2017 are included in the following table:
Period
Total Number of Shares Repurchased
Average Price Paid Per Share
Total Number of Shares Purchased as Part of Publicly Announced Plans or Programs(1)
Maximum Dollar Amount of Shares That May Yet Be Purchased As Part of Publicly Announced Plans or Programs (1)
January 1, 2017 - January 31, 2017
2,852,441
$38.25
2,852,441
$150,900,000
February 1, 2017 - February 28, 2017
$—
$150,900,000
March 1, 2017 - March 31, 2017
546,037
$38.25
546,037
$130,000,000
(1) On June 29, 2016, the Company announced that its 2016 Capital Plan, submitted as part of the CCAR process and not objected to by the FRB, included share repurchases of CFG common stock of up to $690 million for the four-quarter period ending with the second quarter of 2017. This share repurchase plan, which was approved by the Company’s Board of Directors at the time of the announcement, allows for share repurchases that may be executed in the open market or in privately negotiated transactions, including under Rule 10b5-1 plans. Shares repurchased by the Company during first quarter 2017 were executed pursuant to an accelerated share repurchase transaction, which was completed by March 31, 2017. The timing and exact amount of future share repurchases will be consistent with the 2016 Capital Plan and will be subject to various factors, including the Company’s capital position, financial performance and market conditions.

ITEM 6. EXHIBITS

3.1
Amended and Restated Certificate of Incorporation of the Registrant as in effect on the date hereof (incorporated herein by reference to Exhibit 3.1 of the Quarterly Report on Form 10-Q, filed November 14, 2014)

3.2
Bylaws of the Registrant (as amended and restated on October 20, 2016) (incorporated herein by reference to Exhibit 3.1 of the Current Report on Form 8-K, filed October 24, 2016)

11.1
Statement re: computation of earnings per share (filed herewith as Note 16 to the unaudited interim Consolidated Financial Statements in Part I, Item 1 — Financial Statements of this report, which is incorporated herein by reference)

12.1
Computation of Ratio of Earnings to Fixed Charges*

12.2
Computation of Ratio of Earnings to Fixed Charges and Preferred Dividends*

31.1
Certification of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002*

31.2
Certification of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002*

32.1
Certification of Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002*

32.2
Certification of Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002*


103

CITIZENS FINANCIAL GROUP, INC.

 

101
The following materials from the Registrant's Quarterly Report on Form 10-Q for the fiscal quarter ended March 31, 2017, formatted in XBRL: (i) the Consolidated Balance Sheets, (ii) the Consolidated Statements of Operations, (iii) the Consolidated Statements of Comprehensive Income, (iv) the Consolidated Statements of Changes in Stockholders’ Equity, (v) the Consolidated Statements of Cash Flows and (vi) the Notes to Consolidated Financial Statements*


* Filed herewith.

104

CITIZENS FINANCIAL GROUP, INC.

 

SIGNATURE

Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized on May 4, 2017.

CITIZENS FINANCIAL GROUP, INC.
(Registrant)
 
 
By:
/s/ Randall J. Black
 
Name: Randall J. Black
 
Title: Executive Vice President and Controller
 
(Principal Accounting Officer and Authorized Officer)


105