Notes to the Condensed Consolidated Financial Statements
(unaudited)
|
|
1.
|
Background and Basis of Presentation
|
Description of Business
Discover Financial Services (“DFS” or the “Company”) is a direct banking and payment services company. The Company is a bank holding company under the Bank Holding Company Act of 1956 as well as a financial holding company under the Gramm-Leach-Bliley Act and therefore is subject to oversight, regulation and examination by the Board of Governors of the Federal Reserve System (the “Federal Reserve”). The Company provides direct banking products and services and payment services through its subsidiaries. The Company offers its customers credit card loans, private student loans, personal loans, home equity loans and deposit products. The Company also operates the Discover Network, the PULSE network (“PULSE”) and Diners Club International (“Diners Club”). The Discover Network processes transactions for Discover-branded credit cards and provides payment transaction processing and settlement services. PULSE operates an electronic funds transfer network, providing financial institutions issuing debit cards on the PULSE network with access to ATMs domestically and internationally, as well as point-of-sale terminals at retail locations throughout the U.S. for debit card transactions. Diners Club is a global payments network of licensees, which are generally financial institutions, that issue Diners Club branded charge cards and/or provide card acceptance services.
The Company’s business segments are Direct Banking and Payment Services. The Direct Banking segment includes Discover-branded credit cards issued to individuals on the Discover Network and other consumer products and services, including private student loans, personal loans, home equity loans, and other consumer lending and deposit products. The majority of Direct Banking revenues relate to interest income earned on the segment's loan products. Additionally, the Company's credit card products generate substantially all revenues related to discount and interchange, protection products and loan fee income.
The Payment Services segment includes PULSE, an automated teller machine, debit and electronic funds transfer network; Diners Club, a global payments network; and the Company’s Network Partners business, which provides payment transaction processing and settlement services on the Discover Network. The majority of Payment Services revenues relate to transaction processing revenue from PULSE and royalty and licensee revenue (included in other income) from Diners Club.
Basis of Presentation
The accompanying condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States (“GAAP”) for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by GAAP for complete consolidated financial statements. In the opinion of management, the financial statements reflect all adjustments which are necessary for a fair presentation of the results for the interim period. All such adjustments are of a normal, recurring nature. The preparation of financial statements in conformity with GAAP requires the Company to make estimates and assumptions that affect the amounts reported in the condensed consolidated financial statements and related disclosures. These estimates are based on information available as of the date of the condensed consolidated financial statements. The Company believes that the estimates used in the preparation of the condensed consolidated financial statements are reasonable. Actual results could differ from these estimates. These interim condensed consolidated financial statements should be read in conjunction with the Company’s 2015 audited consolidated financial statements filed with the Company’s annual report on Form 10-K for the
year ended December 31, 2015
.
Change in Accounting Principle
In April 2015, the Financial Accounting Standards Board ("FASB") issued Accounting Standards Update ("ASU") No. 2015-03, Interest—-Imputation of Interest (Subtopic 835-30): Simplifying the Presentation of Debt Issuance Costs, which makes the presentation of debt issuance costs consistent with that of debt discounts and premiums. This ASU requires that debt issuance costs related to a recognized liability be presented in the balance sheet as a direct deduction from the carrying amount of that liability. Before becoming effective for the Company on January 1, 2016, these costs were recorded as deferred charges presented in other assets on the consolidated statements of financial condition. The guidance requires retrospective application in the financial statements. As such, some balances as of December 31, 2015 have been restated to reflect the classification of debt issuance costs as a direct deduction of a related liability. The impact of adopting this ASU was a reduction of other assets of
$137 million
, a reduction of long-term borrowings of
$74 million
and a reduction of deposits of
$63 million
at December 31, 2015. There was no impact to the consolidated statements of income.
Recently Issued Accounting Pronouncements
In June 2016, the FASB issued ASU No. 2016-13, Financial Instruments—Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments. This ASU eliminates the incurred loss threshold for initial recognition in current GAAP and replaces it with the expected loss concept. For all loans carried at amortized cost, companies will be required to measure their allowance for loan losses based on management’s current estimate of all expected credit losses over the remaining contractual term of the assets. Because it eliminates the incurred loss trigger, the new accounting guidance will require companies, upon the origination of a loan, to record their estimate of all expected credit losses on that loan through an immediate charge to earnings. The estimate of loan losses must be based on historical experience, current conditions and reasonable and supportable forecasts. The ASU does not mandate the use of any specific method for estimating credit loss, permitting companies to use judgment in selecting the approach that is most appropriate in their circumstances.
The new rules also impact the specialized accounting requirements pertaining to purchased credit-impaired ("PCI") assets, which the ASU refers to as purchased credit-deteriorated (“PCD”) assets, that the Company applies today to the acquired portion of its student loan portfolio. PCD assets will be reported at their gross amount with a related allowance equal to the current estimate of expected losses. That allowance will then be adjusted on a periodic basis in accordance with the new standards. The separate measurement guidance applicable today for loans modified in a troubled debt restructuring (“TDR”) will also be affected. Both TDRs and PCD assets will still be subject to certain separate disclosure requirements. Measurement of credit impairment of available-for-sale debt securities will remain unchanged under the new rules, but any such impairment will be recorded through an allowance, rather than a direct write-down of the security, with an offsetting entry to provision expense in the income statement.
The ASU will become effective for the Company on January 1, 2020, with early adoption permitted no sooner than January 1, 2019. Upon adoption, a cumulative effect adjustment to retained earnings will be recorded as of the beginning of the first reporting period in which the guidance is effective in an amount necessary to adjust the allowance for loan losses to equal the current estimate of expected losses on financial assets held at that date. Additionally, upon adoption, the carrying value of PCD loans will be increased through an offsetting addition to the allowance for loan losses for the amount of expected credit losses on those loans, to be evaluated and adjusted on a periodic basis, and any non-credit premium or discount will be amortized or accreted to interest income from that point forward over the remaining life of PCD loans. Management is evaluating the ASU, and it could have a potentially material impact on how the Company records and reports its financial condition and results of operations, and on regulatory capital.
In March 2016, the FASB issued ASU No. 2016-09, Compensation—Stock Compensation (Topic 718): Improvements to Employee Share-Based Payment Accounting. This ASU requires excess tax benefits and tax deficiencies, which arise due to differences between the measure of compensation expense for GAAP accounting purposes and the amount deductible for tax purposes, to be recorded directly through the income statement as a component of income tax expense. Under current GAAP, these differences are generally recorded in additional paid-in capital and thus have no impact on net income today. The change in treatment of excess tax benefits and tax deficiencies will also impact the computation of diluted earnings per share, and the cash flows associated with those items will be classified as operating activities on the statement of cash flows. The ASU will permit certain elective changes associated with stock compensation accounting. For example, companies can elect to account for forfeitures of awards as they occur rather than projecting forfeitures in the accrual of compensation expense. In addition, the ASU increases the proportion of shares an employer is permitted (though not required) to withhold on behalf of an employee to satisfy the employee’s income tax burden on a share-based award without causing the award to become subject to liability accounting. This ASU will become effective for the Company on January 1, 2017. The impact to net income and earnings per share that will result from the treatment of excess tax benefits after adoption of ASU 2016-09 will depend on the difference between the market price of Company stock between the grant dates and subsequent vesting dates of share-based awards, and this impact could be positive or negative depending on how the Company’s stock price moves. If the Company elects to permit employees to request withholdings of shares in excess of the statutory minimum to cover personal tax liabilities, it will have no financial statement impact. The Company has not made any change concerning this practice at this time.
In March 2016, the FASB issued ASU No. 2016-08, Revenue from Contracts with Customers (Topic 606): Principal versus Agent Considerations (Reporting Revenue Gross versus Net). The guidance in this ASU provides clarification on the principal versus agent concept in relation to revenue recognition guidance issued as part of ASU 2014-09, Revenue from Contracts with Customers (Topic 606). Topic 606 requires a company to determine whether it is a principal or an agent in a transaction in which another party is involved in providing goods or services to a customer by evaluating the nature of its promise to the customer. ASU 2016-08 provides clarification for identifying the good, service or right being transferred in a revenue transaction and identifies the principal as the party that controls the good, service or right prior to its transfer to the
customer. The ASU provides further clarity on how to evaluate control in this context. This guidance will become effective for the Company on January 1, 2018 and management is evaluating the impact of these changes as part of its overall evaluation of ASU 2014-09.
In February 2016, the FASB issued ASU No. 2016-02, Leases (Topic 842). The guidance will require lessees to capitalize most leases on their balance sheet whereas under current GAAP only capital leases are recognized on the lessee’s balance sheet. Leases which today are identified as capital leases will generally be identified as financing leases under the new guidance but otherwise their accounting treatment will remain relatively unchanged. Leases identified today as operating leases will generally remain in that category under the new standard, but both a right-of-use asset and a liability for remaining lease payments will now be required to be recognized on the balance sheet for this type of lease. The manner in which expenses associated with all leases are reported on the income statement will remain mostly unchanged. Lessor accounting also remains substantially unchanged by the new standard. The new guidance will become effective for the Company on January 1, 2019, and management is in the process of evaluating its impact.
In January 2016, the FASB issued ASU No. 2016-01, Financial Instruments—Overall (Subtopic 825-10): Recognition and Measurement of Financial Assets and Financial Liabilities. The ASU will have limited impact on the Company since it does not change the guidance for classifying and measuring investments in debt securities or loans. The standard requires entities to measure certain cost-method equity investments at fair value with changes in value recognized in net income. Equity investments that do not have readily determinable fair values will be carried at cost, less any impairment, plus or minus changes resulting from any observable price changes in orderly transactions for an identical or similar investment of the same issuer. This ASU requires public entities to use the exit price notion when measuring the fair value of financial instruments for disclosure purposes and requires separate presentation of financial assets and financial liabilities by measurement category and form of financial asset (i.e., securities or loans) on the balance sheet or the accompanying notes to the financial statements. This ASU will become effective for the Company on January 1, 2018 and is not expected to have a material impact to the financial statements.
In May 2014, the FASB issued ASU No. 2014-09, Revenue from Contracts with Customers (Topic 606). The guidance in this ASU supersedes existing revenue recognition requirements in Topic 605, Revenue Recognition, including an assortment of transaction-specific and industry-specific rules. This ASU establishes a principles-based model under which revenue from a contract is allocated to the distinct performance obligations within the contract and recognized in income as each performance obligation is satisfied. ASU Topic 606 does not apply to rights or obligations associated with financial instruments (for example, interest income from loans or investments, or interest expense on debt), and therefore the Company’s net interest income should not be affected. The Company’s revenue from discount and interchange, protection products, transaction processing and certain fees are within the scope of these rules. Throughout 2015, management followed the discussions of the FASB and evaluated the conclusions published by its Transition Resource Group ("TRG"), specifically those pertaining to how the new revenue recognition rules should be interpreted for credit card arrangements, loyalty programs, and transaction processing arrangements. Those discussions support the conclusion that timing and measurement of fee revenues associated with the Company’s credit card arrangements and costs associated with the Company’s credit card reward programs will not be impacted by the new rules. The FASB TRG discussions and guidance also support the conclusion that the timing and measurement of revenue associated with the Company’s transaction processing services, including discount and interchange and other transaction processing fees, will remain substantially unchanged under the new accounting model. This conclusion covers the vast majority of the Company’s revenue that is within the scope of the new standard. While management continues to evaluate the remaining in-scope revenue items to determine what, if any, impact the rules will have on their accounting and reporting, no substantive impacts are expected. The new revenue recognition model will become effective for the Company on January 1, 2018. Upon adoption in 2018, the Company will record an adjustment, if needed, to retained earnings as of the beginning of the year of initial application, which can be either the earliest comparative period presented, with all periods presented under the new rules, or January 1, 2018, without restating prior periods presented. Management has not yet determined which transition reporting option it will apply.
On June 16, 2015, the Company announced the closing of the mortgage origination business it acquired in 2012, which was part of its Direct Banking segment. The disposition represented the exiting of an ancillary business and did not have a major impact on the Company’s operations.
The Company’s other short-term investments and investment securities consist of the following (dollars in millions):
|
|
|
|
|
|
|
|
|
|
June 30,
2016
|
|
December 31,
2015
|
Certificates of deposit
(1)
|
$
|
1,050
|
|
|
$
|
—
|
|
Total other short-term investments
|
$
|
1,050
|
|
|
$
|
—
|
|
|
|
|
|
U.S. Treasury securities
(2)
|
$
|
931
|
|
|
$
|
1,273
|
|
U.S. government agency securities
|
290
|
|
|
494
|
|
States and political subdivisions of states
|
5
|
|
|
7
|
|
Residential mortgage-backed securities - Agency
(3)
|
1,245
|
|
|
1,310
|
|
Total investment securities
|
$
|
2,471
|
|
|
$
|
3,084
|
|
|
|
|
|
|
|
(1)
|
Includes certificates of deposit with maturity dates greater than 90 days but less than one year at the time of acquisition.
|
|
|
(2)
|
Includes
$70 million
and
$7 million
of U.S. Treasury securities pledged as swap collateral in lieu of cash as of
June 30, 2016
and
December 31, 2015
, respectively.
|
|
|
(3)
|
Consists of residential mortgage-backed securities issued by Fannie Mae, Freddie Mac and Ginnie Mae.
|
The amortized cost, gross unrealized gains and losses, and fair value of available-for-sale and held-to-maturity investment securities are as follows (dollars in millions):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Amortized
Cost
|
|
Gross
Unrealized
Gains
|
|
Gross
Unrealized
Losses
|
|
Fair Value
|
At June 30, 2016
|
|
|
|
|
|
|
|
Available-for-Sale Investment Securities
(1)
|
|
|
|
|
|
|
|
U.S. Treasury securities
|
$
|
926
|
|
|
$
|
4
|
|
|
$
|
—
|
|
|
$
|
930
|
|
U.S. government agency securities
|
290
|
|
|
—
|
|
|
—
|
|
|
290
|
|
Residential mortgage-backed securities - Agency
|
1,069
|
|
|
24
|
|
|
—
|
|
|
1,093
|
|
Total available-for-sale investment securities
|
$
|
2,285
|
|
|
$
|
28
|
|
|
$
|
—
|
|
|
$
|
2,313
|
|
Held-to-Maturity Investment Securities
(2)
|
|
|
|
|
|
|
|
U.S. Treasury securities
(3)
|
$
|
1
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
1
|
|
States and political subdivisions of states
|
5
|
|
|
—
|
|
|
—
|
|
|
5
|
|
Residential mortgage-backed securities - Agency
(4)
|
152
|
|
|
3
|
|
|
—
|
|
|
155
|
|
Total held-to-maturity investment securities
|
$
|
158
|
|
|
$
|
3
|
|
|
$
|
—
|
|
|
$
|
161
|
|
|
|
|
|
|
|
|
|
At December 31, 2015
|
|
|
|
|
|
|
|
Available-for-Sale Investment Securities
(1)
|
|
|
|
|
|
|
|
U.S. Treasury securities
|
$
|
1,277
|
|
|
$
|
1
|
|
|
$
|
(6
|
)
|
|
$
|
1,272
|
|
U.S. government agency securities
|
492
|
|
|
2
|
|
|
—
|
|
|
494
|
|
Residential mortgage-backed securities - Agency
|
1,195
|
|
|
6
|
|
|
(4
|
)
|
|
1,197
|
|
Total available-for-sale investment securities
|
$
|
2,964
|
|
|
$
|
9
|
|
|
$
|
(10
|
)
|
|
$
|
2,963
|
|
Held-to-Maturity Investment Securities
(2)
|
|
|
|
|
|
|
|
U.S. Treasury securities
(3)
|
$
|
1
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
1
|
|
States and political subdivisions of states
|
7
|
|
|
—
|
|
|
—
|
|
|
7
|
|
Residential mortgage-backed securities - Agency
(4)
|
113
|
|
|
1
|
|
|
—
|
|
|
114
|
|
Total held-to-maturity investment securities
|
$
|
121
|
|
|
$
|
1
|
|
|
$
|
—
|
|
|
$
|
122
|
|
|
|
|
|
|
|
|
|
|
|
(1)
|
Available-for-sale investment securities are reported at fair value.
|
|
|
(2)
|
Held-to-maturity investment securities are reported at amortized cost.
|
|
|
(3)
|
Amount represents securities pledged as collateral to a government-related merchant for which transaction settlement occurs beyond the normal 24-hour period.
|
|
|
(4)
|
Amounts represent residential mortgage-backed securities that were classified as held-to-maturity as they were entered into as a part of the Company's community reinvestment initiatives.
|
The following table provides information about investment securities with aggregate gross unrealized losses and the length of time that individual investment securities have been in a continuous unrealized loss position (dollars in millions):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Number of
Securities
in a Loss
Position
|
|
Less than 12 months
|
|
More than 12 months
|
|
|
Fair
Value
|
|
Unrealized
Losses
|
|
Fair
Value
|
|
Unrealized
Losses
|
At December 31, 2015
|
|
|
|
|
|
|
|
|
|
Available-for-Sale Investment Securities
|
|
|
|
|
|
|
|
|
|
U.S. Treasury securities
|
1
|
|
|
$
|
670
|
|
|
$
|
(6
|
)
|
|
$
|
—
|
|
|
$
|
—
|
|
Residential mortgage-backed securities - Agency
|
15
|
|
|
$
|
486
|
|
|
$
|
(4
|
)
|
|
$
|
—
|
|
|
$
|
—
|
|
|
|
|
|
|
|
|
|
|
|
Aggregate gross unrealized losses were not material as of
June 30, 2016
. There were no losses related to other-than-temporary impairments during the
three and six months ended June 30, 2016 and 2015
.
The following table provides information about proceeds from sales, recognized gains and losses and net unrealized gains and losses on available-for-sale securities (dollars in millions):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Three Months Ended June 30,
|
|
For the Six Months Ended June 30,
|
|
2016
|
|
2015
|
|
2016
|
|
2015
|
Proceeds from the sales of available-for-sale investment securities
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
899
|
|
Gain on sales of available-for-sale investment securities
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
8
|
|
Net unrealized gain (loss) recorded in other comprehensive income, before-tax
|
$
|
6
|
|
|
$
|
(16
|
)
|
|
$
|
29
|
|
|
$
|
(16
|
)
|
Net unrealized gain (loss) recorded in other comprehensive income, after-tax
|
$
|
4
|
|
|
$
|
(10
|
)
|
|
$
|
18
|
|
|
$
|
(10
|
)
|
|
|
|
|
|
|
|
|
Maturities of available-for-sale debt securities and held-to-maturity debt securities are provided in the table below (dollars in millions):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
One Year
or
Less
|
|
After One
Year
Through
Five Years
|
|
After Five
Years
Through
Ten Years
|
|
After Ten
Years
|
|
Total
|
At June 30, 2016
|
|
|
|
|
|
|
|
|
|
Available-for-Sale Investment Securities—Amortized Cost
|
|
|
|
|
|
|
|
|
|
U.S. Treasury securities
|
$
|
250
|
|
|
$
|
676
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
926
|
|
U.S. government agency securities
|
290
|
|
|
—
|
|
|
—
|
|
|
—
|
|
|
290
|
|
Residential mortgage-backed securities - Agency
|
—
|
|
|
—
|
|
|
334
|
|
|
735
|
|
|
1,069
|
|
Total available-for-sale investment securities
|
$
|
540
|
|
|
$
|
676
|
|
|
$
|
334
|
|
|
$
|
735
|
|
|
$
|
2,285
|
|
Held-to-Maturity Investment Securities—Amortized Cost
|
|
|
|
|
|
|
|
|
|
U.S. Treasury securities
|
$
|
1
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
1
|
|
State and political subdivisions of states
|
—
|
|
|
—
|
|
|
—
|
|
|
5
|
|
|
5
|
|
Residential mortgage-backed securities - Agency
|
—
|
|
|
—
|
|
|
—
|
|
|
152
|
|
|
152
|
|
Total held-to-maturity investment securities
|
$
|
1
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
157
|
|
|
$
|
158
|
|
Available-for-Sale Investment Securities—Fair Values
|
|
|
|
|
|
|
|
|
|
U.S. Treasury securities
|
$
|
250
|
|
|
$
|
680
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
930
|
|
U.S. government agency securities
|
290
|
|
|
—
|
|
|
—
|
|
|
—
|
|
|
290
|
|
Residential mortgage-backed securities - Agency
|
—
|
|
|
—
|
|
|
340
|
|
|
753
|
|
|
1,093
|
|
Total available-for-sale investment securities
|
$
|
540
|
|
|
$
|
680
|
|
|
$
|
340
|
|
|
$
|
753
|
|
|
$
|
2,313
|
|
Held-to-Maturity Investment Securities—Fair Values
|
|
|
|
|
|
|
|
|
|
U.S. Treasury securities
|
$
|
1
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
1
|
|
State and political subdivisions of states
|
—
|
|
|
—
|
|
|
—
|
|
|
5
|
|
|
5
|
|
Residential mortgage-backed securities - Agency
|
—
|
|
|
—
|
|
|
—
|
|
|
155
|
|
|
155
|
|
Total held-to-maturity investment securities
|
$
|
1
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
160
|
|
|
$
|
161
|
|
|
|
|
|
|
|
|
|
|
|
Other Investments
As a part of the Company's community reinvestment initiatives, the Company has made equity investments in certain limited partnerships and limited liability companies that finance the construction and rehabilitation of affordable rental housing, as well as stimulate economic development in low to moderate income communities. These investments are accounted for using the equity method of accounting and are recorded within other assets. The related commitment for future investments is recorded in accrued expenses and other liabilities within the condensed consolidated statements of financial condition. The portion of each investment's operating results allocable to the Company is recorded in other expense within the condensed consolidated statements of income. The Company earns a return primarily through the receipt of tax credits allocated to the affordable housing projects and the community revitalization projects. These investments are not consolidated as the Company does not have a controlling financial interest in the entities. As of
June 30, 2016
and
December 31, 2015
, the Company had outstanding investments in these entities of
$312 million
and
$328 million
, respectively, and related contingent liabilities of
$56 million
and
$57 million
, respectively. Of the above outstanding equity investments, the Company had
$239 million
and
$238 million
, respectively, of investments related to affordable housing projects, which had
$56 million
and
$57 million
related contingent liabilities as of
June 30, 2016
and
December 31, 2015
, respectively.
The Company has
three
loan portfolio segments: credit card loans, other loans and PCI loans.
The Company's classes of receivables within the three portfolio segments are depicted in the table below (dollars in millions):
|
|
|
|
|
|
|
|
|
|
June 30,
2016
|
|
December 31,
2015
|
Loan receivables
|
|
|
|
Credit card loans
(1)
|
$
|
57,219
|
|
|
$
|
57,896
|
|
Other loans
|
|
|
|
Personal loans
|
5,708
|
|
|
5,490
|
|
Private student loans
|
5,891
|
|
|
5,647
|
|
Other
|
272
|
|
|
236
|
|
Total other loans
|
11,871
|
|
|
11,373
|
|
Purchased credit-impaired loans
(2)
|
2,834
|
|
|
3,116
|
|
Total loan receivables
|
71,924
|
|
|
72,385
|
|
Allowance for loan losses
|
(1,949
|
)
|
|
(1,869
|
)
|
Net loan receivables
|
$
|
69,975
|
|
|
$
|
70,516
|
|
|
|
|
|
|
|
(1)
|
Amounts include
$20.9 billion
and
$21.6 billion
underlying investors’ interest in trust debt at
June 30, 2016
and
December 31, 2015
, respectively, and
$10.0 billion
and
$7.2 billion
in seller's interest at
June 30, 2016
and
December 31, 2015
, respectively. The increase in the seller's interest from
December 31, 2015
to
June 30, 2016
is due in part to the addition of randomly-selected accounts to the credit card loan receivables restricted for securitization investors in order to increase excess seller's interest and related securitization capacity. See Note 5: Credit Card and Student Loan Securitization Activities for further information.
|
|
|
(2)
|
Amounts include
$1.5 billion
and
$1.7 billion
of loans pledged as collateral against the notes issued from the Student Loan Corporation ("SLC") securitization trusts at
June 30, 2016
and
December 31, 2015
, respectively. See Note 5: Credit Card and Student Loan Securitization Activities for
additional
information.
|
Credit Quality Indicators
The Company regularly reviews its collection experience (including delinquencies and net charge-offs) in determining its allowance for loan losses.
Information related to the delinquent and non-accruing loans in the Company’s loan portfolio is shown below by each class of loan receivables except for PCI student loans, which is shown under the heading “— Purchased Credit-Impaired Loans” (dollars in millions):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
30-89 Days
Delinquent
|
|
90 or
More Days
Delinquent
|
|
Total Past
Due
|
|
90 or
More Days
Delinquent
and
Accruing
|
|
Total
Non-accruing
(1)
|
At June 30, 2016
|
|
|
|
|
|
|
|
|
|
Credit card loans
(2)
|
$
|
489
|
|
|
$
|
444
|
|
|
$
|
933
|
|
|
$
|
397
|
|
|
$
|
182
|
|
Other loans
|
|
|
|
|
|
|
|
|
|
|
Personal loans
(3)
|
42
|
|
|
16
|
|
|
58
|
|
|
15
|
|
|
8
|
|
Private student loans (excluding PCI)
(4)
|
82
|
|
|
28
|
|
|
110
|
|
|
28
|
|
|
—
|
|
Other
|
—
|
|
|
3
|
|
|
3
|
|
|
—
|
|
|
22
|
|
Total other loans (excluding PCI)
|
124
|
|
|
47
|
|
|
171
|
|
|
43
|
|
|
30
|
|
Total loan receivables (excluding PCI)
|
$
|
613
|
|
|
$
|
491
|
|
|
$
|
1,104
|
|
|
$
|
440
|
|
|
$
|
212
|
|
|
|
|
|
|
|
|
|
|
|
At December 31, 2015
|
|
|
|
|
|
|
|
|
|
Credit card loans
(2)
|
$
|
505
|
|
|
$
|
490
|
|
|
$
|
995
|
|
|
$
|
422
|
|
|
$
|
198
|
|
Other loans
|
|
|
|
|
|
|
|
|
|
|
Personal loans
(3)
|
34
|
|
|
15
|
|
|
49
|
|
|
13
|
|
|
6
|
|
Private student loans (excluding PCI)
(4)
|
84
|
|
|
24
|
|
|
108
|
|
|
25
|
|
|
—
|
|
Other
|
—
|
|
|
1
|
|
|
1
|
|
|
—
|
|
|
20
|
|
Total other loans (excluding PCI)
|
118
|
|
|
40
|
|
|
158
|
|
|
38
|
|
|
26
|
|
Total loan receivables (excluding PCI)
|
$
|
623
|
|
|
$
|
530
|
|
|
$
|
1,153
|
|
|
$
|
460
|
|
|
$
|
224
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(1)
|
The Company estimates that the gross interest income that would have been recorded in accordance with the original terms of non-accruing credit card loans was
$7 million
for the
three months ended June 30, 2016 and 2015
, and
$15 million
and
$14 million
for the
six months ended June 30, 2016 and 2015
, respectively. The Company does not separately track the amount of gross interest income that would have been recorded in accordance with the original terms of loans. This amount was estimated based on customers' current balances and most recent interest rates.
|
|
|
(2)
|
Credit card loans that are 90 or more days delinquent and accruing interest include
$39 million
and
$42 million
of loans accounted for as troubled debt restructurings at
June 30, 2016
and
December 31, 2015
, respectively.
|
|
|
(3)
|
Personal loans that are 90 or more days delinquent and accruing interest include
$3 million
and
$4 million
of loans accounted for as troubled debt restructurings at
June 30, 2016
and
December 31, 2015
, respectively.
|
|
|
(4)
|
Private student loans that are 90 or more days delinquent and accruing interest include
$4 million
and
$3 million
of loans accounted for as troubled debt restructurings at
June 30, 2016
and
December 31, 2015
, respectively.
|
Information related to the net charge-offs in the Company's loan portfolio is shown below by each class of loan receivables except for PCI student loans, which is shown under the heading "— Purchased Credit-Impaired Loans" (dollars in millions):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Three Months Ended June 30,
|
|
2016
|
|
2015
|
|
Net
Charge-offs
|
|
Net
Charge-off
Rate
|
|
Net
Charge-offs
|
|
Net
Charge-off
Rate
|
Credit card loans
|
$
|
334
|
|
|
2.39
|
%
|
|
$
|
307
|
|
|
2.28
|
%
|
Other loans
|
|
|
|
|
|
|
|
Personal loans
|
33
|
|
|
2.38
|
%
|
|
27
|
|
|
2.10
|
%
|
Private student loans (excluding PCI)
|
17
|
|
|
1.10
|
%
|
|
13
|
|
|
1.02
|
%
|
Total other loans (excluding PCI)
|
50
|
|
|
1.68
|
%
|
|
40
|
|
|
1.51
|
%
|
Net charge-offs as a percentage of total loans (excluding PCI)
|
$
|
384
|
|
|
2.27
|
%
|
|
$
|
347
|
|
|
2.16
|
%
|
Net charge-offs as a percentage of total loans (including PCI)
|
$
|
384
|
|
|
2.18
|
%
|
|
$
|
347
|
|
|
2.05
|
%
|
|
|
|
|
|
|
|
For the Six Months Ended June 30,
|
|
2016
|
|
2015
|
|
Net
Charge-offs
|
|
Net
Charge-off
Rate
|
|
Net
Charge-offs
|
|
Net
Charge-off
Rate
|
Credit card loans
|
$
|
660
|
|
|
2.37
|
%
|
|
$
|
626
|
|
|
2.34
|
%
|
Other loans
|
|
|
|
|
|
|
|
Personal loans
|
67
|
|
|
2.41
|
%
|
|
55
|
|
|
2.16
|
%
|
Private student loans (excluding PCI)
|
29
|
|
|
0.98
|
%
|
|
26
|
|
|
1.02
|
%
|
Total other loans (excluding PCI)
|
96
|
|
|
1.64
|
%
|
|
81
|
|
|
1.54
|
%
|
Net charge-offs as a percentage of total loans (excluding PCI)
|
$
|
756
|
|
|
2.24
|
%
|
|
$
|
707
|
|
|
2.21
|
%
|
Net charge-offs as a percentage of total loans (including PCI)
|
$
|
756
|
|
|
2.15
|
%
|
|
$
|
707
|
|
|
2.10
|
%
|
|
|
|
|
|
|
|
|
As part of credit risk management activities, on an ongoing basis, the Company reviews information related to the performance of a customer’s account with the Company as well as information from credit bureaus, such as FICO or other credit scores, relating to the customer’s broader credit performance. FICO scores are generally obtained at origination of the account and are refreshed monthly or quarterly thereafter to assist in predicting customer behavior. Historically, the Company has noted that a significant proportion of delinquent accounts have FICO scores below 660.
The following table provides the most recent FICO scores available for the Company’s customers as a percentage of each class of loan receivables:
|
|
|
|
|
|
|
|
Credit Risk Profile
by FICO Score
|
|
660 and
Above
|
|
Less than 660
or No Score
|
At June 30, 2016
|
|
|
|
Credit card loans
|
83
|
%
|
|
17
|
%
|
Personal loans
|
96
|
%
|
|
4
|
%
|
Private student loans (excluding PCI)
(1)
|
96
|
%
|
|
4
|
%
|
|
|
|
|
At December 31, 2015
|
|
|
|
Credit card loans
|
83
|
%
|
|
17
|
%
|
Personal loans
|
96
|
%
|
|
4
|
%
|
Private student loans (excluding PCI)
(1)
|
96
|
%
|
|
4
|
%
|
|
|
|
|
|
|
(1)
|
PCI loans are discussed under the heading "— Purchased Credit-Impaired Loans."
|
For private student loans, additional credit risk management activities include monitoring the amount of loans in forbearance. Forbearance allows borrowers experiencing temporary financial difficulties and willing to make payments, the
ability to temporarily suspend payments. Eligible borrowers have a lifetime cap on forbearance of
12 months
. At
June 30, 2016
and
December 31, 2015
, there were
$28 million
and
$31 million
, respectively, of private student loans, including PCI, in forbearance, which represent
0.4%
and
0.5%
, respectively, of total student loans in repayment and forbearance.
Allowance for Loan Losses
The following tables provide changes in the Company’s allowance for loan losses (dollars in millions):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Three Months Ended June 30, 2016
|
|
Credit Card
|
|
Personal Loans
|
|
Student Loans
(1)
|
|
Other
|
|
Total
|
Balance at beginning of period
|
$
|
1,590
|
|
|
$
|
165
|
|
|
$
|
148
|
|
|
$
|
18
|
|
|
$
|
1,921
|
|
Additions
|
|
|
|
|
|
|
|
|
|
Provision for loan losses
|
347
|
|
|
44
|
|
|
20
|
|
|
1
|
|
|
412
|
|
Deductions
|
|
|
|
|
|
|
|
|
|
Charge-offs
|
(448
|
)
|
|
(38
|
)
|
|
(19
|
)
|
|
—
|
|
|
(505
|
)
|
Recoveries
|
114
|
|
|
5
|
|
|
2
|
|
|
—
|
|
|
121
|
|
Net charge-offs
|
(334
|
)
|
|
(33
|
)
|
|
(17
|
)
|
|
—
|
|
|
(384
|
)
|
Balance at end of period
|
$
|
1,603
|
|
|
$
|
176
|
|
|
$
|
151
|
|
|
$
|
19
|
|
|
$
|
1,949
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Three Months Ended June 30, 2015
|
|
Credit Card
|
|
Personal Loans
|
|
Student Loans
(1)
|
|
Other
|
|
Total
|
Balance at beginning of period
|
$
|
1,492
|
|
|
$
|
123
|
|
|
$
|
142
|
|
|
$
|
19
|
|
|
$
|
1,776
|
|
Additions
|
|
|
|
|
|
|
|
|
|
Provision for loan losses
|
256
|
|
|
35
|
|
|
14
|
|
|
1
|
|
|
306
|
|
Deductions
|
|
|
|
|
|
|
|
|
|
Charge-offs
|
(423
|
)
|
|
(31
|
)
|
|
(15
|
)
|
|
—
|
|
|
(469
|
)
|
Recoveries
|
116
|
|
|
4
|
|
|
2
|
|
|
—
|
|
|
122
|
|
Net charge-offs
|
(307
|
)
|
|
(27
|
)
|
|
(13
|
)
|
|
—
|
|
|
(347
|
)
|
Balance at end of period
|
$
|
1,441
|
|
|
$
|
131
|
|
|
$
|
143
|
|
|
$
|
20
|
|
|
$
|
1,735
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Six Months Ended June 30, 2016
|
|
Credit Card
|
|
Personal Loans
|
|
Student Loans
(1)
|
|
Other
|
|
Total
|
Balance at beginning of period
|
$
|
1,554
|
|
|
$
|
155
|
|
|
$
|
143
|
|
|
$
|
17
|
|
|
$
|
1,869
|
|
Additions
|
|
|
|
|
|
|
|
|
|
Provision for loan losses
|
709
|
|
|
88
|
|
|
37
|
|
|
2
|
|
|
836
|
|
Deductions
|
|
|
|
|
|
|
|
|
|
Charge-offs
|
(887
|
)
|
|
(77
|
)
|
|
(34
|
)
|
|
—
|
|
|
(998
|
)
|
Recoveries
|
227
|
|
|
10
|
|
|
5
|
|
|
—
|
|
|
242
|
|
Net charge-offs
|
(660
|
)
|
|
(67
|
)
|
|
(29
|
)
|
|
—
|
|
|
(756
|
)
|
Balance at end of period
|
$
|
1,603
|
|
|
$
|
176
|
|
|
$
|
151
|
|
|
$
|
19
|
|
|
$
|
1,949
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Six Months Ended June 30, 2015
|
|
Credit Card
|
|
Personal Loans
|
|
Student Loans
(1)
|
|
Other
|
|
Total
|
Balance at beginning of period
|
$
|
1,474
|
|
|
$
|
120
|
|
|
$
|
135
|
|
|
$
|
17
|
|
|
$
|
1,746
|
|
Additions
|
|
|
|
|
|
|
|
|
|
Provision for loan losses
|
593
|
|
|
66
|
|
|
34
|
|
|
3
|
|
|
696
|
|
Deductions
|
|
|
|
|
|
|
|
|
|
Charge-offs
|
(851
|
)
|
|
(62
|
)
|
|
(30
|
)
|
|
—
|
|
|
(943
|
)
|
Recoveries
|
225
|
|
|
7
|
|
|
4
|
|
|
—
|
|
|
236
|
|
Net charge-offs
|
(626
|
)
|
|
(55
|
)
|
|
(26
|
)
|
|
—
|
|
|
(707
|
)
|
Balance at end of period
|
$
|
1,441
|
|
|
$
|
131
|
|
|
$
|
143
|
|
|
$
|
20
|
|
|
$
|
1,735
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(1)
|
Includes both PCI and non-PCI private student loans.
|
Net charge-offs of principal are recorded against the allowance for loan losses, as shown in the preceding table. Information regarding net charge-offs of interest and fee revenues on credit card and other loans is as follows (dollars in millions):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Three Months Ended June 30,
|
|
For the Six Months Ended June 30,
|
|
2016
|
|
2015
|
|
2016
|
|
2015
|
Interest and fees accrued subsequently charged off, net of recoveries (recorded as a reduction of interest income)
|
$
|
67
|
|
|
$
|
70
|
|
|
$
|
136
|
|
|
$
|
145
|
|
Fees accrued subsequently charged off, net of recoveries (recorded as a reduction to other income)
|
$
|
17
|
|
|
$
|
17
|
|
|
$
|
34
|
|
|
$
|
37
|
|
|
|
|
|
|
|
|
|
The following tables provide additional detail of the Company’s allowance for loan losses and recorded investment in its loan portfolio by impairment methodology (dollars in millions):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Credit Card
|
|
Personal
Loans
|
|
Student
Loans
(1)
|
|
Other
Loans
|
|
Total
|
At June 30, 2016
|
|
|
|
|
|
|
|
|
|
Allowance for loans evaluated for impairment as
|
|
|
|
|
|
|
|
|
|
Collectively evaluated for impairment in accordance with ASC 450-20
|
$
|
1,447
|
|
|
$
|
159
|
|
|
$
|
99
|
|
|
$
|
1
|
|
|
$
|
1,706
|
|
Evaluated for impairment in accordance with
ASC 310-10-35
(2)(3)
|
156
|
|
|
17
|
|
|
16
|
|
|
18
|
|
|
207
|
|
Acquired with deteriorated credit quality, evaluated in accordance with ASC 310-30
|
—
|
|
|
—
|
|
|
36
|
|
|
—
|
|
|
36
|
|
Total allowance for loan losses
|
$
|
1,603
|
|
|
$
|
176
|
|
|
$
|
151
|
|
|
$
|
19
|
|
|
$
|
1,949
|
|
Recorded investment in loans evaluated for impairment as
|
|
|
|
|
|
|
|
|
|
Collectively evaluated for impairment in accordance with ASC 450-20
|
$
|
56,203
|
|
|
$
|
5,636
|
|
|
$
|
5,837
|
|
|
$
|
213
|
|
|
$
|
67,889
|
|
Evaluated for impairment in accordance with
ASC 310-10-35
(2)(3)
|
1,016
|
|
|
72
|
|
|
54
|
|
|
59
|
|
|
1,201
|
|
Acquired with deteriorated credit quality, evaluated in accordance with ASC 310-30
|
—
|
|
|
—
|
|
|
2,834
|
|
|
—
|
|
|
2,834
|
|
Total recorded investment
|
$
|
57,219
|
|
|
$
|
5,708
|
|
|
$
|
8,725
|
|
|
$
|
272
|
|
|
$
|
71,924
|
|
|
|
|
|
|
|
|
|
|
|
At December 31, 2015
|
|
|
|
|
|
|
|
|
|
Allowance for loans evaluated for impairment as
|
|
|
|
|
|
|
|
|
|
Collectively evaluated for impairment in accordance with ASC 450-20
|
$
|
1,394
|
|
|
$
|
140
|
|
|
$
|
92
|
|
|
$
|
1
|
|
|
$
|
1,627
|
|
Evaluated for impairment in accordance with
ASC 310-10-35
(2)(3)
|
160
|
|
|
15
|
|
|
15
|
|
|
16
|
|
|
206
|
|
Acquired with deteriorated credit quality, evaluated in accordance with ASC 310-30
|
—
|
|
|
—
|
|
|
36
|
|
|
—
|
|
|
36
|
|
Total allowance for loan losses
|
$
|
1,554
|
|
|
$
|
155
|
|
|
$
|
143
|
|
|
$
|
17
|
|
|
$
|
1,869
|
|
Recorded investment in loans evaluated for impairment as
|
|
|
|
|
|
|
|
|
|
Collectively evaluated for impairment in accordance with ASC 450-20
|
$
|
56,877
|
|
|
$
|
5,422
|
|
|
$
|
5,599
|
|
|
$
|
179
|
|
|
$
|
68,077
|
|
Evaluated for impairment in accordance with
ASC 310-10-35
(2)(3)
|
1,019
|
|
|
68
|
|
|
48
|
|
|
57
|
|
|
1,192
|
|
Acquired with deteriorated credit quality, evaluated in accordance with ASC 310-30
|
—
|
|
|
—
|
|
|
3,116
|
|
|
—
|
|
|
3,116
|
|
Total recorded investment
|
$
|
57,896
|
|
|
$
|
5,490
|
|
|
$
|
8,763
|
|
|
$
|
236
|
|
|
$
|
72,385
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(1)
|
Includes both PCI and non-PCI private student loans.
|
|
|
(2)
|
Loan receivables evaluated for impairment in accordance with Accounting Standards Codification ("ASC") 310-10-35 include credit card loans, personal loans and student loans collectively evaluated for impairment in accordance with ASC Subtopic 310-40,
Receivables,
which consists of modified loans accounted for as troubled debt restructurings. Other loans are individually evaluated for impairment and generally do not represent troubled debt restructurings.
|
|
|
(3)
|
The unpaid principal balance of credit card loans was
$870 million
and
$869 million
at
June 30, 2016
and
December 31, 2015
, respectively. The unpaid principal balance of personal loans was
$71 million
and
$67 million
at
June 30, 2016
and
December 31, 2015
, respectively. The unpaid principal balance of student loans was
$53 million
and
$47 million
at
June 30, 2016
and
December 31, 2015
, respectively. All loans accounted for as troubled debt restructurings have a related allowance for loan losses.
|
Troubled Debt Restructurings
The Company has internal loan modification programs that provide relief to credit card, personal loan and student loan borrowers who are experiencing financial hardship. The internal loan modification programs include both temporary and permanent programs which vary by product. External loan modification programs are also available for credit card and personal loans. Temporary and permanent modifications on credit card and personal loans, as well as temporary modifications on student loans and certain grants of student loan forbearance, are considered to be individually impaired. In addition, loans that defaulted or graduated from modification programs or forbearance are considered to be individually impaired. As a result, the above mentioned loans are accounted for as troubled debt restructurings
.
For credit card customers, the temporary hardship program primarily consists of a reduced minimum payment and an interest rate reduction, both lasting for a period no longer than
12 months
. The permanent workout program involves changing the structure of the loan to a fixed payment loan with a maturity no longer than
60 months
and reducing the interest rate on the loan. The permanent modification program does not normally provide for the forgiveness of unpaid principal, but may allow for the reversal of certain unpaid interest or fee assessments. The Company also makes loan modifications for customers who request financial assistance through external sources, such as a consumer credit counseling agency program (referred to here as external programs). These loans typically receive a reduced interest rate but continue to be subject to the original minimum payment terms and do not normally include waiver of unpaid principal, interest or fees.
To assist student loan borrowers who are experiencing temporary financial difficulties but are willing to resume making payments, the Company may offer hardship forbearance periods of up to
12 months
over the life of the loan. Forbearance provides borrowers a deferment in making payments, during which time loan interest continues to accrue at contractual rates. The Company does not anticipate significant shortfalls in the contractual amount due for borrowers using a first hardship forbearance period as the historical performance of these borrowers is not significantly different from the overall portfolio. However, when a borrower is 30 or more days delinquent and granted a second hardship forbearance period, the forbearance is considered a troubled debt restructuring. In addition, the Company offers temporary reduced payment programs, which normally consist of a reduction of the minimum payment for a period of no longer than
12 months
each time the program is utilized by a borrower. When a student loan borrower is enrolled in a temporary reduced payment program for
12 months
or fewer over the life of the loan, the modification is not considered a troubled debt restructuring. However, when enrollment is greater than
12 months
over the life of the loan, the modification is considered a troubled debt restructuring.
For personal loan customers, in certain situations the Company offers various payment programs, including temporary and permanent programs. The temporary programs normally consist of a reduction of the minimum payment for a period of no longer than
12 months
with the option of a final balloon payment required at the end of the loan term or an extension of the maturity date with the total term not exceeding
nine years
. Further, in certain circumstances the interest rate on the loan is reduced. The permanent program involves changing the terms of the loan in order to pay off the outstanding balance over a longer term and also in certain circumstances reducing the interest rate on the loan. Similar to the temporary programs, the total term of the loan may not exceed
nine years
. The Company also allows loan modifications for customers who request financial assistance through external sources, similar to the credit card customers discussed above. Payments are modified based on the new terms agreed upon with the credit counseling agency. Personal loans included in temporary and permanent programs are accounted for as troubled debt restructurings.
The Company monitors borrower performance after using payment programs or forbearance and the Company believes the programs help to prevent defaults and are useful in assisting customers experiencing financial difficulties. The Company plans to continue to use payment programs and forbearance and, as a result, expects to have additional loans classified as troubled debt restructurings in the future.
Additional information about modified loans classified as troubled debt restructurings is shown below (dollars in millions):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Average recorded investment in loans
|
|
Interest income recognized during period loans were impaired
(1)
|
|
Gross interest income that would have been recorded with original terms
(2)
|
For the Three Months Ended June 30, 2016
|
|
|
|
|
|
Credit card loans
|
|
|
|
|
|
Modified credit card loans
(3)
|
$
|
274
|
|
|
$
|
13
|
|
|
$
|
1
|
|
Internal programs
|
$
|
464
|
|
|
$
|
4
|
|
|
$
|
16
|
|
External programs
|
$
|
278
|
|
|
$
|
5
|
|
|
$
|
2
|
|
Personal loans
|
$
|
71
|
|
|
$
|
2
|
|
|
$
|
—
|
|
Private student loans
|
$
|
53
|
|
|
$
|
1
|
|
|
N/A
|
|
|
|
|
|
|
|
For the Three Months Ended June 30, 2015
|
|
|
|
|
|
Credit card loans
|
|
|
|
|
|
Modified credit card loans
(3)
|
$
|
256
|
|
|
$
|
12
|
|
|
$
|
1
|
|
Internal programs
|
$
|
450
|
|
|
$
|
3
|
|
|
$
|
15
|
|
External programs
|
$
|
311
|
|
|
$
|
6
|
|
|
$
|
3
|
|
Personal loans
|
$
|
60
|
|
|
$
|
1
|
|
|
$
|
—
|
|
Private student loans
|
$
|
42
|
|
|
$
|
1
|
|
|
N/A
|
|
|
|
|
|
|
|
For the Six Months Ended June 30, 2016
|
|
|
|
|
|
Credit card loans
|
|
|
|
|
|
Modified credit card loans
(3)
|
$
|
274
|
|
|
$
|
25
|
|
|
$
|
2
|
|
Internal programs
|
$
|
464
|
|
|
$
|
7
|
|
|
$
|
32
|
|
External programs
|
$
|
281
|
|
|
$
|
10
|
|
|
$
|
5
|
|
Personal loans
|
$
|
70
|
|
|
$
|
4
|
|
|
$
|
1
|
|
Private student loans
|
$
|
52
|
|
|
$
|
2
|
|
|
N/A
|
|
|
|
|
|
|
|
For the Six Months Ended June 30, 2015
|
|
|
|
|
|
Credit card loans
|
|
|
|
|
|
Modified credit card loans
(3)
|
$
|
256
|
|
|
$
|
23
|
|
|
$
|
2
|
|
Internal programs
|
$
|
451
|
|
|
$
|
6
|
|
|
$
|
30
|
|
External programs
|
$
|
317
|
|
|
$
|
12
|
|
|
$
|
6
|
|
Personal loans
|
$
|
58
|
|
|
$
|
3
|
|
|
$
|
1
|
|
Private student loans
|
$
|
41
|
|
|
$
|
2
|
|
|
N/A
|
|
|
|
|
|
|
|
|
|
(1)
|
The Company does not separately track interest income on loans in modification programs. Amounts shown are estimated by applying an average interest rate to the average loans in the various modification programs.
|
|
|
(2)
|
The Company does not separately track the amount of gross interest income that would have been recorded if the loans in modification programs had not been restructured and interest had instead been recorded in accordance with the original terms. Amounts shown are estimated by applying the difference between the average interest rate earned on non-impaired loans and the average interest rate earned on loans in the modification programs to the average loans in the modification programs.
|
|
|
(3)
|
This balance is considered impaired, but is excluded from the internal and external program amounts reflected in this table. Represents credit card loans that were modified in troubled debt restructurings, but are no longer enrolled in troubled debt restructuring program due to noncompliance with the terms of the modification or successful completion of a program.
|
In order to evaluate the primary financial effects that resulted from credit card loans entering into a loan modification program during the
three and six months ended June 30, 2016 and 2015
, the Company quantified the amount by which interest and fees were reduced during the periods. During the
three months ended June 30, 2016 and 2015
, the Company forgave approximately
$7 million
and
$11 million
, respectively, of interest and fees as a result of accounts entering into a credit card loan modification program. During the
six months ended June 30, 2016 and 2015
, the Company forgave approximately
$16 million
and
$22 million
, respectively, of interest and fees as a result of accounts entering into a credit card loan modification program.
The following table provides information on loans that entered a loan modification program during the period (dollars in millions):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Three Months Ended June 30,
|
|
2016
|
|
2015
|
|
Number of Accounts
|
|
Balances
|
|
Number of Accounts
|
|
Balances
|
Accounts that entered a loan modification program during the period
|
|
|
|
|
|
|
|
Credit card loans
|
|
|
|
|
|
|
|
Internal programs
|
12,648
|
|
|
$
|
81
|
|
|
11,989
|
|
|
$
|
78
|
|
External programs
|
7,132
|
|
|
$
|
37
|
|
|
7,296
|
|
|
$
|
37
|
|
Personal loans
|
1,027
|
|
|
$
|
12
|
|
|
989
|
|
|
$
|
12
|
|
Private student loans
|
289
|
|
|
$
|
4
|
|
|
291
|
|
|
$
|
4
|
|
|
|
|
|
|
|
|
|
|
For the Six Months Ended June 30,
|
|
2016
|
|
2015
|
|
Number of Accounts
|
|
Balances
|
|
Number of Accounts
|
|
Balances
|
Accounts that entered a loan modification program during the period
|
|
|
|
|
|
|
|
Credit card loans
|
|
|
|
|
|
|
|
Internal programs
|
27,615
|
|
|
$
|
177
|
|
|
25,232
|
|
|
$
|
164
|
|
External programs
|
14,449
|
|
|
$
|
76
|
|
|
14,913
|
|
|
$
|
76
|
|
Personal loans
|
2,088
|
|
|
$
|
24
|
|
|
1,975
|
|
|
$
|
24
|
|
Private student loans
|
741
|
|
|
$
|
12
|
|
|
760
|
|
|
$
|
11
|
|
|
|
|
|
|
|
|
|
The following table presents the carrying value of loans that experienced a payment default during the period that had been modified in a troubled debt restructuring during the 15 months preceding the end of each period (dollars in millions):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Three Months Ended June 30,
|
|
2016
|
|
2015
|
|
Number of Accounts
|
|
Aggregated Outstanding Balances Upon Default
|
|
Number of Accounts
|
|
Aggregated Outstanding Balances Upon Default
|
Troubled debt restructurings that subsequently defaulted
|
|
|
|
|
|
|
|
Credit card loans
|
|
|
|
|
|
|
|
Internal programs
(1)(2)
|
2,814
|
|
|
$
|
17
|
|
|
3,023
|
|
|
$
|
18
|
|
External programs
(1)(2)
|
1,566
|
|
|
$
|
6
|
|
|
1,591
|
|
|
$
|
6
|
|
Personal loans
(2)
|
276
|
|
|
$
|
3
|
|
|
134
|
|
|
$
|
1
|
|
Private student loans
(3)
|
177
|
|
|
$
|
3
|
|
|
279
|
|
|
$
|
4
|
|
|
|
|
|
|
|
|
|
|
For the Six Months Ended June 30,
|
|
2016
|
|
2015
|
|
Number of Accounts
|
|
Aggregated Outstanding Balances Upon Default
|
|
Number of Accounts
|
|
Aggregated Outstanding Balances Upon Default
|
Troubled debt restructurings that subsequently defaulted
|
|
|
|
|
|
|
|
Credit card loans
|
|
|
|
|
|
|
|
Internal programs
(1)(2)
|
5,815
|
|
|
$
|
35
|
|
|
6,199
|
|
|
$
|
38
|
|
External programs
(1)(2)
|
3,265
|
|
|
$
|
13
|
|
|
3,234
|
|
|
$
|
13
|
|
Personal loans
(2)
|
434
|
|
|
$
|
5
|
|
|
285
|
|
|
$
|
3
|
|
Private student loans
(3)
|
374
|
|
|
$
|
6
|
|
|
584
|
|
|
$
|
8
|
|
|
|
|
|
|
|
|
|
|
|
(1)
|
The outstanding balance upon default is the loan balance at the end of the month prior to default. Terms revert back to the pre-modification terms for customers who default from a temporary program and charging privileges remain revoked in most cases.
|
|
|
(2)
|
A customer defaults from a modification program after
two
consecutive missed payments.
|
|
|
(3)
|
Student loan defaults have been defined as loans that are
60
or more days delinquent.
|
Of the account balances that defaulted as shown above for the
three months ended June 30, 2016 and 2015
, approximately
34%
and
45%
, respectively, of the total balances were charged off at the end of the month in which they defaulted. Of the account balances that defaulted as shown above for the
six months ended June 30, 2016 and 2015
, approximately
35%
and
44%
, respectively, of the total balances were charged off at the end of the month in which they defaulted. For accounts that have defaulted from a loan modification program and have not been subsequently charged off, the balances are included in the allowance for loan loss analysis discussed above under "— Allowance for Loan Losses."
Purchased Credit-Impaired Loans
Purchased loans with evidence of credit deterioration since origination for which it is probable that not all contractually required payments will be collected are considered impaired at acquisition and are reported as PCI loans. The private student loans acquired in the SLC transaction, as well as the additional acquired private student loan portfolio comprise the Company’s only PCI loans at
June 30, 2016
and
December 31, 2015
. Total PCI student loans had an outstanding balance of
$3.0 billion
and
$3.3 billion
, including accrued interest, and a related carrying amount of
$2.8 billion
and
$3.1 billion
as of
June 30, 2016
and
December 31, 2015
, respectively.
The following table provides changes in accretable yield for the acquired loans during each period (dollars in millions):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Three Months Ended June 30,
|
|
For the Six Months Ended June 30,
|
|
2016
|
|
2015
|
|
2016
|
|
2015
|
Balance at beginning of period
|
$
|
916
|
|
|
$
|
1,181
|
|
|
$
|
965
|
|
|
$
|
1,341
|
|
Accretion into interest income
|
(47
|
)
|
|
(57
|
)
|
|
(96
|
)
|
|
(116
|
)
|
Other changes in expected cash flows
|
19
|
|
|
—
|
|
|
19
|
|
|
(101
|
)
|
Balance at end of period
|
$
|
888
|
|
|
$
|
1,124
|
|
|
$
|
888
|
|
|
$
|
1,124
|
|
|
|
|
|
|
|
|
|
Periodically, the Company updates the estimate of cash flows expected to be collected based on management's latest expectations of future credit losses, borrower prepayments and certain other assumptions that affect cash flows. No provision expense was recorded during the
three and six months ended June 30, 2016 and 2015
. The allowance for PCI loan losses at
June 30, 2016
and
December 31, 2015
was
$36 million
. For the
three and six months ended June 30, 2016
, the increase in the rates on variable loans during the first half of
2016
was primarily responsible for an increase in accretable yield. For the
three months ended June 30, 2015
, there were no changes in other cash flow assumptions. For the
six months ended June 30, 2015
, the changes in expected cash flows from the decrease in accretable yield were primarily related to an increase in the borrower prepayment assumptions on certain pools. Changes to accretable yield are recognized prospectively as an adjustment to yield over the remaining life of the pools.
At
June 30, 2016
, the 30 or more days delinquency and 90 or more days delinquency rates on PCI student loans (which include loans not yet in repayment) were
2.14%
and
0.67%
, respectively. At
December 31, 2015
, the 30 or more days delinquency and 90 or more days delinquency rates on PCI student loans (which include loans not yet in repayment) were
2.53%
and
0.88%
, respectively. These rates include private student loans that are greater than
120 days
delinquent that are covered by an indemnification agreement or insurance arrangements through which the Company expects to recover a substantial portion of the loan. The net charge-off rate on PCI student loans was
0.48%
and
0.38%
for the
three months ended June 30, 2016 and 2015
, respectively, and
0.46%
and
0.44%
for the
six months ended June 30, 2016 and 2015
, respectively.
|
|
5.
|
Credit Card and Student Loan Securitization Activities
|
Credit Card Securitization Activities
The Company accesses the term asset securitization market through the Discover Card Master Trust I (“DCMT”) and the Discover Card Execution Note Trust (“DCENT”), which are trusts into which credit card loan receivables are transferred (or, in the case of DCENT, into which beneficial interests in DCMT are transferred) and from which DCENT issues notes to investors.
The DCENT debt structure consists of
four
classes of securities (DiscoverSeries Class A, B, C and D notes), with the most senior class generally receiving a triple-A rating. In order to issue senior, higher rated classes of notes, it is necessary to obtain the appropriate amount of credit enhancement, generally through the issuance of junior, lower rated or more highly subordinated classes of notes. The subordinated classes are held by wholly-owned subsidiaries of Discover Bank. The Company is exposed to credit-related risk of loss associated with trust assets as of the balance sheet date through the retention of these subordinated interests. The estimated probable incurred loss is included in the allowance for loan loss estimate.
The Company’s credit card securitizations are accounted for as secured borrowings and the trusts and Discover Funding LLC are treated as consolidated subsidiaries of the Company. The Company’s retained interests in the assets of the trusts, consisting of investments in DCENT notes held by subsidiaries of Discover Bank, constitute intercompany positions which are eliminated in the preparation of the Company’s condensed consolidated statements of financial condition.
Upon transfer of credit card loan receivables to the trust, the receivables and certain cash flows derived from them become restricted for use in meeting obligations to the trusts’ creditors. Further, the transferred credit card loan receivables are owned by the trust and are not available to third-party creditors of the Company. The trusts have ownership of cash balances that also have restrictions, the amounts of which are reported in restricted cash. Investment of trust cash balances is limited to investments that are permitted under the governing documents of the trusts and which have maturities no later than the related date on which funds must be made available for distribution to trust investors. With the exception of the seller’s interest in trust receivables, the Company’s interests in trust assets are generally subordinate to the interests of third-party investors and, as such, may not be realized by the Company if needed to absorb deficiencies in cash flows that are allocated to the investors in the trusts’ debt.
The carrying values of these restricted assets, which are presented on the Company’s condensed consolidated statements of financial condition as relating to securitization activities, are shown in the table below (dollars in millions):
|
|
|
|
|
|
|
|
|
|
June 30,
2016
|
|
December 31,
2015
|
Restricted cash
|
$
|
21
|
|
|
$
|
19
|
|
|
|
|
|
Investors’ interests held by third-party investors
|
15,675
|
|
|
15,625
|
|
Investors’ interests held by wholly-owned subsidiaries of Discover Bank
|
5,194
|
|
|
6,017
|
|
Seller’s interest
|
10,024
|
|
|
7,231
|
|
Loan receivables
(1)
|
30,893
|
|
|
28,873
|
|
Allowance for loan losses allocated to securitized loan receivables
(1)
|
(871
|
)
|
|
(783
|
)
|
Net loan receivables
|
30,022
|
|
|
28,090
|
|
Other
(2)
|
5
|
|
|
5
|
|
Carrying value of assets of consolidated variable interest entities
|
$
|
30,048
|
|
|
$
|
28,114
|
|
|
|
|
|
|
|
(1)
|
The Company maintains its allowance for loan losses at an amount sufficient to absorb probable losses inherent in all loan receivables, which includes all loan receivables in the trusts. Therefore, credit risk associated with the transferred receivables is fully reflected on the Company’s balance sheet in accordance with GAAP.
|
|
|
(2)
|
Upon adoption of ASU 2015-03, Interest—Imputation of Interest (Subtopic 835-30): Simplifying the Presentation of Debt Issuance Costs, certain balances as of December 31, 2015 have been restated to reflect the classification of debt issuance costs as a direct deduction of the related liability. See Note 1: Background and Basis of Presentation for additional information.
|
The debt securities issued by the consolidated trusts are subject to credit, payment and interest rate risks on the transferred credit card loan receivables. To protect investors, the securitization structures include certain features that could result in earlier-than-expected repayment of the securities. The primary investor protection feature relates to the availability and adequacy of cash flows in the securitized pool of receivables to meet contractual requirements. Insufficient cash flows would trigger the early repayment of the securities. This is referred to as the “economic early amortization” feature.
Investors are allocated cash flows derived from activities related to the accounts comprising the securitized pool of receivables, the amounts of which reflect finance charges billed, certain fee assessments, allocations of merchant discount and interchange, and recoveries on charged-off accounts. From these cash flows, investors are reimbursed for charge-offs occurring within the securitized pool of receivables and receive a contractual rate of return and Discover Bank is paid a servicing fee as servicer. Any cash flows remaining in excess of these requirements are reported to investors as excess spread. An excess spread rate of less than
0%
for a contractually specified period, generally a three-month average, would trigger an economic early amortization event. In such an event, the Company would be required to seek immediate sources of replacement funding. Apart from the restricted assets related to securitization activities, the investors and the securitization trusts have no recourse to the Company’s other assets or the Company's general credit for a shortage in cash flows.
Through its wholly-owned indirect subsidiary, Discover Funding LLC, the Company is required to maintain a contractual minimum level of receivables in the trust in excess of the face value of outstanding investors’ interests. This excess is referred to as the minimum seller’s interest. The required minimum seller’s interest in the pool of trust receivables, which is included in credit card loan receivables restricted for securitization investors, is set at approximately
7%
in excess of the total investors’ interests (which includes interests held by third parties as well as those interests held by the Company). If the level of receivables in the trust was to fall below the required minimum, the Company would be required to add receivables from the unrestricted pool of receivables, which would increase the amount of credit card loan receivables restricted for securitization investors. A decline in the amount of the excess seller’s interest could occur if balance repayments and charge-offs exceeded new lending on the securitized accounts or as a result of changes in total outstanding investors’ interests. Seller's interest is impacted by seasonality as higher balance repayments tend to occur in the first calendar year quarter. If the Company could not add enough receivables to satisfy the requirement, an early amortization (or repayment) of investors’ interests would be triggered. The Company retains significant exposure to the performance of trust assets through holdings of the seller's interest and subordinated security classes of DCENT. The Company may elect to add receivables to the restricted pool of receivables subject to certain requirements. As of the end of the second quarter 2016, accounts were selected and associated credit card loan receivables in the amount of
$3.6 billion
were added to those restricted for securitization investors to increase the excess seller's interest. The addition increases the capacity to issue notes to investors, including draws on commitments through privately placed securitizations, and will result in a decrease in receivables pledged at the Federal Reserve discount window. The Company satisfied all requirements in order to complete the account addition. The Company also has the right to remove a random selection of accounts, which would serve to decrease the amount of credit card loan receivables restricted for securitization investors, subject to certain requirements including that the minimum
seller's interest is still met. As of the end of the second quarter 2016,
no
accounts were removed from those restricted for securitization investors.
In addition to performance measures associated with the transferred credit card loan receivables or the inability to add receivables to satisfy the seller's interest requirement, there are other events or conditions which could trigger an early amortization event, such as non-payment of principal at expected maturity. As of
June 30, 2016
, no economic or other early amortization events have occurred.
The table below provides information concerning investors’ interests and related excess spread (dollars in millions):
|
|
|
|
|
|
|
|
|
|
|
At June 30, 2016
|
Investors’
Interests
(1)
|
|
Number of Series
Outstanding
|
|
3-Month Rolling
Average Excess
Spread
|
Discover Card Execution Note Trust (DiscoverSeries notes)
|
$
|
20,869
|
|
|
37
|
|
|
13.71
|
%
|
|
|
|
|
|
|
|
|
(1)
|
Investors’ interests include third-party interests and subordinated interests held by wholly-owned subsidiaries of Discover Bank.
|
The Company continues to own and service the accounts that generate the loan receivables held by the trusts. Discover Bank receives servicing fees from the trusts based on a percentage of the monthly investor principal balance outstanding. Although the fee income to Discover Bank offsets the fee expense to the trusts and thus is eliminated in consolidation, failure to service the transferred loan receivables in accordance with contractual requirements could lead to a termination of the servicing rights and the loss of future servicing income, net of related expenses.
Student Loan Securitization Activities
The Company’s student loan securitizations are accounted for as secured borrowings and the trusts are treated as consolidated subsidiaries of the Company. Trust receivables underlying third-party investors’ interests are recorded in PCI loans and the related debt issued by the trusts is reported in long-term borrowings. The assets of the Company’s consolidated VIEs are restricted from being sold or pledged as collateral for other borrowings and the cash flows from these restricted assets may be used only to pay obligations of the trusts.
Currently there are
three
trusts from which securities were issued to investors. Principal payments on the long-term secured borrowings are made as cash is collected on the underlying loans that are used as collateral on the secured borrowings. The Company does not have access to cash collected by the securitization trusts until cash is released in accordance with the trust indenture agreements and, for certain securitizations, no cash will be released to the Company until all outstanding trust borrowings have been repaid. Similar to the credit card securitizations, the Company continues to own and service the accounts that generate the student loan receivables held by the trusts and receives servicing fees from the trusts based on either a percentage of the principal balance outstanding or a flat fee per borrower. Although the servicing fee income offsets the fee expense related to the trusts and thus is eliminated in consolidation, failure to service the transferred loan receivables in accordance with contractual requirements could lead to a termination of the servicing rights and the loss of future servicing income, net of related expenses.
Under terms of all the trust arrangements, the Company has the option, but not the obligation, to provide financial support to the trusts, but has never provided such support. A substantial portion of the credit risk associated with the securitized loans has been transferred to third parties under private credit insurance or indemnification arrangements.
The carrying values of these restricted assets, which are presented on the Company’s condensed consolidated statements of financial condition as relating to securitization activities, are shown in the table below (dollars in millions):
|
|
|
|
|
|
|
|
|
|
June 30,
2016
|
|
December 31,
2015
|
Restricted cash
|
$
|
77
|
|
|
$
|
80
|
|
|
|
|
|
Student loan receivables
(1)
|
1,526
|
|
|
1,678
|
|
Allowance for loan losses allocated to securitized loan receivables
(1)
|
(28
|
)
|
|
(28
|
)
|
Net student loan receivables
|
1,498
|
|
|
1,650
|
|
Carrying value of assets of consolidated variable interest entities
|
$
|
1,575
|
|
|
$
|
1,730
|
|
|
|
|
|
|
|
(1)
|
The Company maintains its allowance for loan losses on PCI loans sufficient to absorb probable decreases in cash flows that were previously expected. Therefore, credit risk associated with the transferred receivables is fully reflected on the Company's balance sheet in accordance with GAAP.
|
The Company offers its deposit products to customers through
two
channels: (i) through direct marketing, internet origination and affinity relationships (“direct-to-consumer deposits”); and (ii) indirectly through contractual arrangements with securities brokerage firms (“brokered deposits”). Direct-to-consumer deposits include certificates of deposit, money market accounts, online savings and checking accounts and IRA certificates of deposit, while brokered deposits include certificates of deposit and sweep accounts.
The following table provides a summary of interest-bearing deposit accounts (dollars in millions):
|
|
|
|
|
|
|
|
|
|
June 30,
2016
|
|
December 31,
2015
|
Certificates of deposit in amounts less than $100,000
(1)
|
$
|
18,591
|
|
|
$
|
20,491
|
|
Certificates of deposit in amounts $100,000 or greater
(2)
|
5,698
|
|
|
5,228
|
|
Savings deposits, including money market deposit accounts
|
23,815
|
|
|
21,375
|
|
Total interest-bearing deposits
(1)
|
$
|
48,104
|
|
|
$
|
47,094
|
|
|
|
|
|
|
|
(1)
|
Upon adoption of ASU 2015-03, Interest—Imputation of Interest (Subtopic 835-30): Simplifying the Presentation of Debt Issuance Costs, certain balances as of December 31, 2015 have been restated to reflect the classification of debt issuance costs as a direct deduction of the related liability. See Note 1: Background and Basis of Presentation for additional information.
|
|
|
(2)
|
Includes
$1.3 billion
and
$1.1 billion
in certificates of deposit greater than $250,000, the Federal Deposit Insurance Corporation ("FDIC") insurance limit, as of
June 30, 2016
and
December 31, 2015
, respectively.
|
The following table summarizes certificates of deposit in amounts of $100,000 or greater by contractual maturity (dollars in millions):
|
|
|
|
|
Maturity Period
|
June 30, 2016
|
Three months or less
|
$
|
788
|
|
Over three months through six months
|
789
|
|
Over six months through twelve months
|
1,363
|
|
Over twelve months
|
2,758
|
|
Total
|
$
|
5,698
|
|
|
|
The following table summarizes certificates of deposit maturing over the remainder of this year, over each of the next four years, and thereafter (dollars in millions):
|
|
|
|
|
Year
|
June 30, 2016
|
2016
|
$
|
5,619
|
|
2017
|
7,660
|
|
2018
|
3,880
|
|
2019
|
2,082
|
|
2020
|
1,984
|
|
Thereafter
|
3,064
|
|
Total
|
$
|
24,289
|
|
|
|
Long-term borrowings consist of borrowings having original maturities of one year or more. The following table provides a summary of the Company’s long-term borrowings and weighted-average interest rates on outstanding balances (dollars in millions):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
June 30, 2016
|
|
December 31, 2015
|
|
Maturity
|
|
Interest
Rate
|
|
Weighted-Average Interest Rate
|
|
Outstanding Amount
|
|
Outstanding Amount
|
Securitized Debt
|
|
|
|
|
|
|
|
|
|
Fixed-rate asset-backed securities
(1)(8)
|
2016 - 2021
|
|
1.04% - 5.65%
|
|
2.04%
|
|
$
|
9,580
|
|
|
$
|
9,152
|
|
Floating-rate asset-backed securities
(2)(3)(8)
|
2016 - 2019
|
|
0.74% - 0.98%
|
|
0.84%
|
|
6,091
|
|
|
6,440
|
|
Total Discover Card Master Trust I and Discover Card Execution Note Trust
(8)
|
|
|
|
|
|
|
15,671
|
|
|
15,592
|
|
|
|
|
|
|
|
|
|
|
|
Floating-rate asset-backed securities
(4)(5)(6)(7)
|
2031 - 2042
|
|
0.79% - 4.50%
|
|
2.30%
|
|
991
|
|
|
1,143
|
|
Total SLC Private Student Loan Trusts
|
|
|
|
|
|
|
991
|
|
|
1,143
|
|
Total long-term borrowings - owed to securitization investors
(8)
|
|
|
|
|
|
|
16,662
|
|
|
16,735
|
|
|
|
|
|
|
|
|
|
|
|
Discover Financial Services (Parent Company)
|
|
|
|
|
|
|
|
|
|
Fixed-rate senior notes
(1)(8)
|
2017 - 2025
|
|
3.75%-10.25%
|
|
4.74%
|
|
2,079
|
|
|
2,066
|
|
Fixed-rate retail notes
(8)
|
2016 - 2028
|
|
3.00% - 4.40%
|
|
3.84%
|
|
112
|
|
|
39
|
|
|
|
|
|
|
|
|
|
|
|
Discover Bank
|
|
|
|
|
|
|
|
|
|
Fixed-rate senior bank notes
(1)(8)
|
2018 - 2026
|
|
2.00% - 4.25%
|
|
3.16%
|
|
5,132
|
|
|
5,115
|
|
Fixed-rate subordinated bank notes
(8)
|
2019 - 2020
|
|
7.00% - 8.70%
|
|
7.49%
|
|
696
|
|
|
695
|
|
Total long-term borrowings
(8)
|
|
|
|
|
|
|
$
|
24,681
|
|
|
$
|
24,650
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(1)
|
The Company uses interest rate swaps to hedge portions of these long-term borrowings against changes in fair value attributable to changes in London Interbank Offered Rate (“LIBOR”). Use of these interest rate swaps impacts carrying value of the debt.
|
|
|
(2)
|
Discover Card Execution Note Trust floating-rate asset-backed securities include issuances with the following interest rate terms:
1-month LIBOR + 30 to 54 basis points
and
3-month LIBOR + 20 basis points
as of
June 30, 2016
.
|
|
|
(3)
|
The Company uses interest rate swaps to manage its exposure to changes in interest rates related to future cash flows resulting from interest payments on a portion of these long-term borrowings. There is no impact on debt carrying value from use of these interest rate swaps. See Note 15: Derivatives and Hedging Activities.
|
|
|
(4)
|
SLC Private Student Loan Trusts floating-rate asset-backed securities include issuances with the following interest rate terms:
3-month LIBOR + 17 to 45 basis points
,
Prime rate + 75 to 100 basis points
and
1-month LIBOR + 350 basis points
as of
June 30, 2016
.
|
|
|
(5)
|
The Company acquired an interest rate swap related to the securitized debt assumed in the SLC transaction. The swap does not qualify for hedge accounting and has no impact on debt carrying value. See Note 15: Derivatives and Hedging Activities.
|
|
|
(6)
|
Repayment of this debt is dependent upon the timing of principal and interest payments on the underlying student loans. The dates shown represent final maturity dates.
|
|
|
(7)
|
Includes
$292 million
of senior notes maturing in 2031,
$580 million
of senior and subordinated notes maturing in 2036 and
$119 million
of senior notes maturing in 2042 as of
June 30, 2016
.
|
|
|
(8)
|
Upon adoption of ASU 2015-03, Interest—Imputation of Interest (Subtopic 835-30): Simplifying the Presentation of Debt Issuance Costs, certain balances as of December 31, 2015 have been restated to reflect the classification of debt issuance costs as a direct deduction of the related liability. See Note 1: Background and Basis of Presentation for additional information.
|
The following table summarizes long-term borrowings maturing over the remainder of this year, over each of the next four years, and thereafter (dollars in millions):
|
|
|
|
|
Year
|
June 30, 2016
|
2016
|
$
|
1,250
|
|
2017
|
5,100
|
|
2018
|
5,277
|
|
2019
|
4,829
|
|
2020
|
3,094
|
|
Thereafter
|
5,131
|
|
Total
|
$
|
24,681
|
|
|
|
The Company has access to committed undrawn capacity through private securitizations to support the funding of its credit card loan receivables. As of
June 30, 2016
, the total commitment of secured credit facilities through private providers was
$6.0 billion
,
none
of which was drawn as of
June 30, 2016
. Access to the unused portions of the secured credit facilities is subject to the terms of the agreements with each of the providers which have various expirations in 2017 and 2018. Borrowings outstanding under each facility bear interest at a margin above LIBOR or the asset-backed commercial paper costs of each individual conduit provider. The terms of each agreement provide for a commitment fee to be paid on the unused capacity and include various affirmative and negative covenants, including performance metrics and legal requirements similar to those required to issue any term securitization transaction.
|
|
8.
|
Accumulated Other Comprehensive Income
|
Changes in each component of accumulated other comprehensive income (loss) ("AOCI") were as follows (dollars in millions):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Unrealized Gain (Loss) on Available-for-Sale Investment Securities,
Net of Tax
|
|
(Loss) Gain on Cash Flow Hedges,
Net of Tax
|
|
Pension Plan Loss,
Net of Tax
|
|
AOCI
|
For the Three Months Ended June 30, 2016
|
|
|
|
|
|
|
|
Balance at March 31, 2016
|
$
|
14
|
|
|
$
|
(46
|
)
|
|
$
|
(140
|
)
|
|
$
|
(172
|
)
|
Net change
|
4
|
|
|
(6
|
)
|
|
—
|
|
|
(2
|
)
|
Balance at June 30, 2016
|
$
|
18
|
|
|
$
|
(52
|
)
|
|
$
|
(140
|
)
|
|
$
|
(174
|
)
|
|
|
|
|
|
|
|
|
For the Three Months Ended June 30, 2015
|
|
|
|
|
|
|
|
Balance at March 31, 2015
|
$
|
23
|
|
|
$
|
(30
|
)
|
|
$
|
(154
|
)
|
|
$
|
(161
|
)
|
Net change
|
(10
|
)
|
|
11
|
|
|
—
|
|
|
1
|
|
Balance at June 30, 2015
|
$
|
13
|
|
|
$
|
(19
|
)
|
|
$
|
(154
|
)
|
|
$
|
(160
|
)
|
|
|
|
|
|
|
|
|
For the Six Months Ended June 30, 2016
|
|
|
|
|
|
|
|
Balance at December 31, 2015
|
$
|
—
|
|
|
$
|
(20
|
)
|
|
$
|
(140
|
)
|
|
$
|
(160
|
)
|
Net change
|
18
|
|
|
(32
|
)
|
|
—
|
|
|
(14
|
)
|
Balance at June 30, 2016
|
$
|
18
|
|
|
$
|
(52
|
)
|
|
$
|
(140
|
)
|
|
$
|
(174
|
)
|
|
|
|
|
|
|
|
|
For the Six Months Ended June 30, 2015
|
|
|
|
|
|
|
|
Balance at December 31, 2014
|
$
|
23
|
|
|
$
|
(7
|
)
|
|
$
|
(154
|
)
|
|
$
|
(138
|
)
|
Net change
|
(10
|
)
|
|
(12
|
)
|
|
—
|
|
|
(22
|
)
|
Balance at June 30, 2015
|
$
|
13
|
|
|
$
|
(19
|
)
|
|
$
|
(154
|
)
|
|
$
|
(160
|
)
|
|
|
|
|
|
|
|
|
The table below presents each component of other comprehensive income (loss) ("OCI") before reclassifications and amounts reclassified from AOCI for each component of OCI before- and after-tax (dollars in millions):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Before Tax
|
|
Tax (Expense) Benefit
|
|
Net of Tax
|
For the Three Months Ended June 30, 2016
|
|
|
|
|
|
Available-for-Sale Investment Securities
|
|
|
|
|
|
Net unrealized holding gain arising during the period
|
$
|
6
|
|
|
$
|
(2
|
)
|
|
$
|
4
|
|
Net change
|
$
|
6
|
|
|
$
|
(2
|
)
|
|
$
|
4
|
|
Cash Flow Hedges
|
|
|
|
|
|
Net unrealized loss arising during the period
|
$
|
(18
|
)
|
|
$
|
6
|
|
|
$
|
(12
|
)
|
Amounts reclassified from AOCI
|
9
|
|
|
(3
|
)
|
|
6
|
|
Net change
|
$
|
(9
|
)
|
|
$
|
3
|
|
|
$
|
(6
|
)
|
|
|
|
|
|
|
For the Three Months Ended June 30, 2015
|
|
Available-for-Sale Investment Securities
|
|
|
|
|
|
Net unrealized holding loss arising during the period
|
$
|
(16
|
)
|
|
$
|
6
|
|
|
$
|
(10
|
)
|
Net change
|
$
|
(16
|
)
|
|
$
|
6
|
|
|
$
|
(10
|
)
|
Cash Flow Hedges
|
|
|
|
|
|
Net unrealized gain arising during the period
|
$
|
6
|
|
|
$
|
(2
|
)
|
|
$
|
4
|
|
Amounts reclassified from AOCI
|
11
|
|
|
(4
|
)
|
|
7
|
|
Net change
|
$
|
17
|
|
|
$
|
(6
|
)
|
|
$
|
11
|
|
|
|
|
|
|
|
For the Six Months Ended June 30, 2016
|
|
|
|
|
|
Available-for-Sale Investment Securities
|
|
|
|
|
|
Net unrealized holding gain arising during the period
|
$
|
29
|
|
|
$
|
(11
|
)
|
|
$
|
18
|
|
Net change
|
$
|
29
|
|
|
$
|
(11
|
)
|
|
$
|
18
|
|
Cash Flow Hedges
|
|
|
|
|
|
Net unrealized loss arising during the period
|
$
|
(70
|
)
|
|
$
|
27
|
|
|
$
|
(43
|
)
|
Amounts reclassified from AOCI
|
18
|
|
|
(7
|
)
|
|
11
|
|
Net change
|
$
|
(52
|
)
|
|
$
|
20
|
|
|
$
|
(32
|
)
|
|
|
|
|
|
|
For the Six Months Ended June 30, 2015
|
|
Available-for-Sale Investment Securities
|
|
|
|
|
|
Net unrealized holding loss arising during the period
|
$
|
(8
|
)
|
|
$
|
3
|
|
|
$
|
(5
|
)
|
Amounts reclassified from AOCI
|
(8
|
)
|
|
3
|
|
|
(5
|
)
|
Net change
|
$
|
(16
|
)
|
|
$
|
6
|
|
|
$
|
(10
|
)
|
Cash Flow Hedges
|
|
|
|
|
|
Net unrealized loss arising during the period
|
$
|
(41
|
)
|
|
$
|
15
|
|
|
$
|
(26
|
)
|
Amounts reclassified from AOCI
|
23
|
|
|
(9
|
)
|
|
14
|
|
Net change
|
$
|
(18
|
)
|
|
$
|
6
|
|
|
$
|
(12
|
)
|
|
|
|
|
|
|
The following table presents the calculation of the Company's effective income tax rate (dollars in millions, except effective income tax rate):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Three Months Ended June 30,
|
|
For the Six Months Ended June 30,
|
|
2016
|
|
2015
|
|
2016
|
|
2015
|
Income before income tax expense
|
$
|
898
|
|
|
$
|
942
|
|
|
$
|
1,812
|
|
|
$
|
1,850
|
|
Income tax expense
|
$
|
282
|
|
|
$
|
343
|
|
|
$
|
621
|
|
|
$
|
665
|
|
Effective income tax rate
|
31.4
|
%
|
|
36.4
|
%
|
|
34.3
|
%
|
|
35.9
|
%
|
|
|
|
|
|
|
|
|
Income tax expense decreased
$61 million
and
$44 million
for the
three and six months ended June 30, 2016
, respectively, compared to the same periods in
2015
.
The effective tax rates for the
three and six months ended June 30, 2016
of
31.4%
and
34.3%
, respectively, decreased from
36.4%
and
35.9%
for the same periods in
2015
.
The decrease in rates is primarily due to the United States Congress Joint Committee on Taxation approval of an audit settlement for tax years 1999-2007, which resulted in a non-recurring tax benefit of
$44 million
. In addition, the decrease in rates is also due to the Company's revaluation of its existing unrecognized tax benefits in the second quarter of
2016
.
The 1999-2007 audit periods pre-date the Company’s spin-off, therefore, receipt of settlement proceeds from those years is governed by the Company’s Tax Sharing Agreement with Morgan Stanley. Settlement of tax years subsequent to the spin-off date, June 30, 2007, will be made directly with the Internal Revenue Service (“IRS”). The 2008-2010 audit is currently under Administrative Appeals and the IRS is currently examining 2011-2012.
The Company is subject to examination by the IRS and the tax authorities in various state, local and foreign tax jurisdictions. The Company regularly assesses the likelihood of additional assessments or settlements in each of the taxing jurisdictions resulting from these and subsequent years' examinations. At this time, the potential change in unrecognized tax benefits is not expected to be significant over the next 12 months. The Company believes that its reserves are sufficient to cover any tax, penalties and interest that could result from such examinations.
The following table presents the calculation of basic and diluted earnings per share ("EPS") (in millions, except per share amounts):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Three Months Ended June 30,
|
|
For the Six Months Ended June 30,
|
|
2016
|
|
2015
|
|
2016
|
|
2015
|
Numerator
|
|
|
|
|
|
|
|
Net income
|
$
|
616
|
|
|
$
|
599
|
|
|
$
|
1,191
|
|
|
$
|
1,185
|
|
Preferred stock dividends
|
(10
|
)
|
|
(10
|
)
|
|
(19
|
)
|
|
(19
|
)
|
Net income available to common stockholders
|
606
|
|
|
589
|
|
|
1,172
|
|
|
1,166
|
|
Income allocated to participating securities
|
(4
|
)
|
|
(3
|
)
|
|
(8
|
)
|
|
(7
|
)
|
Net income allocated to common stockholders
|
$
|
602
|
|
|
$
|
586
|
|
|
$
|
1,164
|
|
|
$
|
1,159
|
|
Denominator
|
|
|
|
|
|
|
|
Weighted-average shares of common stock outstanding
|
410
|
|
|
441
|
|
|
414
|
|
|
444
|
|
Effect of dilutive common stock equivalents
|
1
|
|
|
1
|
|
|
—
|
|
|
1
|
|
Weighted-average shares of common stock outstanding and common stock equivalents
|
411
|
|
|
442
|
|
|
414
|
|
|
445
|
|
Basic earnings per common share
|
$
|
1.47
|
|
|
$
|
1.33
|
|
|
$
|
2.81
|
|
|
$
|
2.61
|
|
Diluted earnings per common share
|
$
|
1.47
|
|
|
$
|
1.33
|
|
|
$
|
2.81
|
|
|
$
|
2.61
|
|
|
|
|
|
|
|
|
|
Anti-dilutive securities were not material and had no impact on the computation of diluted EPS for the
three and six months ended June 30, 2016 and 2015
.
The Company is subject to the capital adequacy guidelines of the Federal Reserve, and Discover Bank, the Company’s main banking subsidiary, is subject to various regulatory capital requirements as administered by the FDIC. Failure to meet minimum capital requirements can result in the initiation of certain mandatory and possibly additional discretionary actions by regulators that, if undertaken, could have a direct material effect on the financial position and results of the Company and Discover Bank. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Company and Discover Bank must meet specific capital guidelines that involve quantitative measures of assets, liabilities and certain off-balance sheet items, as calculated under regulatory guidelines. Capital amounts and classification are also subject to qualitative judgments by the regulators about components, risk weightings and other factors.
In 2013, the Federal Reserve, the Office of the Comptroller of the Currency and the FDIC issued final capital rules under the Basel Committee’s December 2010 framework (referred to as “Basel III”) establishing a new comprehensive capital framework for U.S. banking organizations. The final capital rules of Basel III ("Basel III rules") substantially revise
Basel I rules regarding the risk-based capital requirements applicable to bank holding companies and depository institutions, including the Company. The Basel III rules became effective for the Company on January 1, 2015. This timing is based on the Company being classified as a "Standardized Approach" entity.
Among other things, the Basel III rules (i) introduced a new capital measure called Common Equity Tier 1 (“CET1”), (ii) specify that Tier 1 capital consists of CET1 and additional Tier 1 capital instruments meeting specified requirements, (iii) apply most deductions/adjustments to regulatory capital measures to CET1 and not to the other components of capital, thus potentially requiring higher levels of CET1 in order to meet minimum ratios, and (iv) expand the scope of the deductions/adjustments from capital as compared to existing regulations.
The Basel III minimum capital ratios are as follows:
|
|
•
|
8.0%
Total capital (i.e., Tier 1 plus Tier 2) to risk-weighted assets;
|
|
|
•
|
6.0%
Tier 1 capital (i.e., CET1 plus Additional Tier 1) to risk-weighted assets;
|
|
|
•
|
4.0%
Tier 1 capital to average consolidated assets as reported on consolidated financial statements (known as the “leverage ratio”); and
|
|
|
•
|
4.5%
CET1 to risk-weighted assets.
|
As of
June 30, 2016
, the Company and Discover Bank met all Basel III minimum capital ratio requirements to which they were subject. The Company and Discover Bank also met the requirements to be considered "well-capitalized" under Regulation Y and prompt corrective action regulations, respectively, and there have been no conditions or events that management believes have changed the Company's or Discover Bank's category. To be categorized as “well-capitalized,” the Company and Discover Bank must maintain minimum capital ratios as set forth in the table below.
The following table shows the actual capital amounts and ratios of the Company and Discover Bank and comparisons of each to the regulatory minimum and “well-capitalized” requirements (dollars in millions):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Actual
|
|
Minimum Capital
Requirements
|
|
Capital Requirements
To Be Classified as
Well-Capitalized
|
|
Amount
|
|
Ratio
|
|
Amount
|
|
Ratio
|
|
Amount
|
|
Ratio
|
June 30, 2016
|
|
|
|
|
|
|
|
|
|
|
|
Total capital (to risk-weighted assets)
|
|
|
|
|
|
|
|
|
|
|
|
Discover Financial Services
|
$
|
12,485
|
|
|
16.7
|
%
|
|
$
|
5,991
|
|
|
≥8.0%
|
|
$
|
7,489
|
|
|
≥10.0%
|
Discover Bank
|
$
|
12,093
|
|
|
16.3
|
%
|
|
$
|
5,931
|
|
|
≥8.0%
|
|
$
|
7,414
|
|
|
≥10.0%
|
Tier 1 capital (to risk-weighted assets)
|
|
|
|
|
|
|
|
|
|
|
|
Discover Financial Services
|
$
|
11,237
|
|
|
15.0
|
%
|
|
$
|
4,494
|
|
|
≥6.0%
|
|
$
|
5,991
|
|
|
≥8.0%
|
Discover Bank
|
$
|
10,237
|
|
|
13.8
|
%
|
|
$
|
4,448
|
|
|
≥6.0%
|
|
$
|
5,931
|
|
|
≥8.0%
|
Tier 1 capital (to average assets)
|
|
|
|
|
|
|
|
|
|
|
|
Discover Financial Services
|
$
|
11,237
|
|
|
12.8
|
%
|
|
$
|
3,504
|
|
|
≥4.0%
|
|
$
|
4,380
|
|
|
≥5.0%
|
Discover Bank
|
$
|
10,237
|
|
|
11.8
|
%
|
|
$
|
3,470
|
|
|
≥4.0%
|
|
$
|
4,337
|
|
|
≥5.0%
|
CET1 capital (to risk-weighted assets) (Basel III transition)
|
|
|
|
|
|
|
|
|
|
|
|
Discover Financial Services
|
$
|
10,677
|
|
|
14.3
|
%
|
|
$
|
3,370
|
|
|
≥4.5%
|
|
$
|
4,868
|
|
|
≥6.5%
|
Discover Bank
|
$
|
10,237
|
|
|
13.8
|
%
|
|
$
|
3,336
|
|
|
≥4.5%
|
|
$
|
4,819
|
|
|
≥6.5%
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31, 2015
(1)
|
|
|
|
|
|
|
|
|
|
|
|
Total capital (to risk-weighted assets)
|
|
|
|
|
|
|
|
|
|
|
|
Discover Financial Services
|
$
|
12,497
|
|
|
16.5
|
%
|
|
$
|
6,052
|
|
|
≥8.0%
|
|
$
|
7,565
|
|
|
≥10.0%
|
Discover Bank
|
$
|
11,905
|
|
|
15.9
|
%
|
|
$
|
5,991
|
|
|
≥8.0%
|
|
$
|
7,488
|
|
|
≥10.0%
|
Tier 1 capital (to risk-weighted assets)
|
|
|
|
|
|
|
|
|
|
|
|
Discover Financial Services
|
$
|
11,126
|
|
|
14.7
|
%
|
|
$
|
4,539
|
|
|
≥6.0%
|
|
$
|
6,052
|
|
|
≥8.0%
|
Discover Bank
|
$
|
9,941
|
|
|
13.3
|
%
|
|
$
|
4,493
|
|
|
≥6.0%
|
|
$
|
5,991
|
|
|
≥8.0%
|
Tier 1 capital (to average assets)
|
|
|
|
|
|
|
|
|
|
|
|
Discover Financial Services
|
$
|
11,126
|
|
|
12.9
|
%
|
|
$
|
3,446
|
|
|
≥4.0%
|
|
$
|
4,307
|
|
|
≥5.0%
|
Discover Bank
|
$
|
9,941
|
|
|
11.7
|
%
|
|
$
|
3,410
|
|
|
≥4.0%
|
|
$
|
4,263
|
|
|
≥5.0%
|
CET1 capital (to risk-weighted assets) (Basel III transition)
|
|
|
|
|
|
|
|
|
|
|
|
Discover Financial Services
|
$
|
10,566
|
|
|
14.0
|
%
|
|
$
|
3,404
|
|
|
≥4.5%
|
|
$
|
4,917
|
|
|
≥6.5%
|
Discover Bank
|
$
|
9,941
|
|
|
13.3
|
%
|
|
$
|
3,370
|
|
|
≥4.5%
|
|
$
|
4,867
|
|
|
≥6.5%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(1)
|
Upon adoption of ASU 2015-03, Interest—Imputation of Interest (Subtopic 835-30): Simplifying the Presentation of Debt Issuance Costs, certain balances as of
December 31, 2015
have been restated to reflect the classification of debt issuance costs as a direct deduction of the related liability. See Note 1: Background and Basis of Presentation for additional information.
|
|
|
12.
|
Commitments, Contingencies and Guarantees
|
Lease Commitments
The Company leases various office space and equipment under capital and non-cancelable operating leases, which expire at various dates through 2028. Future minimum payments on capital leases were not material at June 30, 2016. The following table shows future minimum payments on non-cancelable operating leases with original terms in excess of one year (dollars in millions):
|
|
|
|
|
|
June 30, 2016
|
2016
|
$
|
8
|
|
2017
|
14
|
|
2018
|
12
|
|
2019
|
9
|
|
2020
|
8
|
|
Thereafter
|
36
|
|
Total minimum lease payments
|
$
|
87
|
|
|
|
Unused Commitments to Extend Credit
At
June 30, 2016
, the Company had unused commitments to extend credit for loans of approximately
$185.4 billion
. Such commitments arise primarily from agreements with customers for unused lines of credit on certain credit cards and certain other loan products, provided there is no violation of conditions in the related agreements. These commitments, substantially all of which the Company can terminate at any time and which do not necessarily represent future cash requirements, are periodically reviewed based on account usage, customer creditworthiness and loan qualification.
Securitizations Representations and Warranties
As part of the Company’s financing activities, the Company provides representations and warranties that certain assets pledged as collateral in secured borrowing arrangements conform to specified guidelines. Due diligence is performed by the Company which is intended to ensure that asset guideline qualifications are met. If the assets pledged as collateral do not meet certain conforming guidelines, the Company may be required to replace, repurchase or sell such assets. In its credit card securitization activities, the Company would replace nonconforming receivables through the allocation of excess seller’s interest or from additional transfers from the unrestricted pool of receivables. If the Company could not add enough receivables to satisfy the requirement, an early amortization (or repayment) of investors’ interests would be triggered. In its student loan securitizations, the Company would generally repurchase the loans from the trust at the outstanding principal amount plus interest.
The maximum potential amount of future payments the Company could be required to make would be equal to the current outstanding balances of third-party investor interests in credit card asset-backed securities plus the principal amount of any other outstanding secured borrowings. The Company has recorded substantially all of the maximum potential amount of future payments in long-term borrowings on the Company’s condensed consolidated statements of financial condition. The Company has not recorded any incremental contingent liability associated with its secured borrowing representations and warranties. Management believes that the probability of having to replace, repurchase or sell assets pledged as collateral under secured borrowing arrangements, including an early amortization event, is low.
Mortgage Loans Representations and Warranties
The Company sold loans it originated to investors on a servicing-released basis and the risk of loss or default by the borrower is generally transferred to the investor. However, the Company was required by these investors to make certain representations and warranties relating to credit information, loan documentation and collateral. These representations and warranties may extend through the contractual life of the mortgage loan, even though the Company closed the mortgage origination business. Subsequent to the sale, if underwriting deficiencies, borrower fraud or documentation defects are discovered in individual mortgage loans, the Company may be obligated to repurchase the respective mortgage loan or indemnify the investors for any losses from borrower defaults if such deficiency or defect cannot be cured within the specified period following discovery. The Company has established a repurchase reserve based on expected losses. At
June 30, 2016
, this amount was not material and was included in accrued expenses and other liabilities on the condensed consolidated statements of financial condition.
Guarantees
The Company has obligations under certain guarantee arrangements, including contracts and indemnification agreements, which contingently require the Company to make payments to the guaranteed party based on changes in an underlying asset, liability or equity security of a guaranteed party, rate or index. Also included as guarantees are contracts that contingently require the Company to make payments to a guaranteed party based on another entity’s failure to perform under an agreement. The Company’s use of guarantees is disclosed below by type of guarantee.
Counterparty Settlement Guarantees
Diners Club and DFS Services LLC (on behalf of PULSE) have various counterparty exposures, which are listed below.
|
|
•
|
Merchant Guarantee
. Diners Club has entered into contractual relationships with certain international merchants, which generally include travel-related businesses, for the benefit of all Diners Club licensees. The licensees hold the primary liability to settle the transactions of their customers with these merchants. However, Diners Club retains a counterparty exposure if a licensee fails to meet its financial payment obligation to one of these merchants.
|
|
|
•
|
ATM Guarantee.
PULSE entered into contractual relationships with certain international ATM acquirers in which DFS Services LLC retains counterparty exposure if an issuer fails to fulfill its settlement obligation.
|
The maximum potential amount of future payments related to such contingent obligations is dependent upon the transaction volume processed between the time a counterparty defaults on its settlement and the time at which the Company disables the settlement of any further transactions for the defaulting party, which could be
one month
depending on the type of guarantee/counterparty. However, there is no limitation on the maximum amount the Company may be liable to pay. The actual amount of the potential exposure cannot be quantified as the Company cannot determine whether particular counterparties will fail to meet their settlement obligations.
While the Company has some contractual remedies to offset these counterparty settlement exposures (such as letters of credit or pledged deposits), in the event that all licensees and/or issuers were to become unable to settle their transactions, the Company estimates its maximum potential counterparty exposures to these settlement guarantees, based on historical transaction volume, would be as follows (dollars in millions):
|
|
|
|
|
|
June 30,
2016
|
Diners Club:
|
|
Merchant guarantee
|
$
|
143
|
|
PULSE:
|
|
ATM guarantee
|
$
|
1
|
|
|
|
With regard to the counterparty settlement guarantees discussed above, the Company believes that the estimated amounts of maximum potential future payments are not representative of the Company’s actual potential loss exposure given Diners Club’s and PULSE’s insignificant historical losses from these counterparty exposures. As of
June 30, 2016
, the Company had not recorded any contingent liability in the condensed consolidated financial statements for these counterparty exposures, and management believes that the probability of any payments under these arrangements is low.
Merchant Chargeback Guarantees
The Company operates the Discover Network, issues payment cards and permits third parties to issue payment cards. The Company is contingently liable for certain transactions processed on the Discover Network in the event of a dispute between the payment card customer and a merchant. The contingent liability arises if the disputed transaction involves a merchant or merchant acquirer with whom the Discover Network has a direct relationship. If a dispute is resolved in the customer’s favor, the Discover Network will credit or refund the disputed amount to the Discover Network card issuer, who in turn credits its customer’s account. The Discover Network will then charge back the disputed amount of the payment card transaction to the merchant or merchant acquirer, where permitted by the applicable agreement, to seek recovery of amounts already paid to the merchant for payment card transactions. If the Discover Network is unable to collect the amount subject to dispute from the merchant or merchant acquirer (
e.g.
, in the event of merchant default or dissolution) or after expiration of the time period for chargebacks in the applicable agreement, the Discover Network will bear the loss for the amount credited
or refunded to the customer. In most instances, a loss by the Discover Network is unlikely to arise in connection with payments on card transactions because most products or services are delivered when purchased and credits are issued by merchants on returned items in a timely fashion, thus minimizing the likelihood of cardholder disputes with respect to amounts paid by the Discover Network. However, where the product or service is not scheduled to be provided to the customer until a later date following the purchase, the likelihood of a contingent payment obligation by the Discover Network increases. Losses related to merchant chargebacks were not material for the
three and six months ended June 30, 2016 and 2015
.
The maximum potential amount of obligations of the Discover Network arising as a result of such contingent obligations is estimated to be the portion of the total Discover Network transaction volume processed to date for which timely and valid disputes may be raised under applicable law and relevant issuer and customer agreements. There is no limitation on the maximum amount the Company may be liable to pay to issuers. However, the Company believes that such amount is not representative of the Company’s actual potential loss exposure based on the Company’s historical experience. The actual amount of the potential exposure cannot be quantified as the Company cannot determine whether the current or cumulative transaction volumes may include or result in disputed transactions.
The table below summarizes certain information regarding merchant chargeback guarantees (in millions):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Three Months Ended June 30,
|
|
For the Six Months Ended June 30,
|
|
2016
|
|
2015
|
|
2016
|
|
2015
|
Aggregate sales transaction volume
(1)
|
$
|
34,634
|
|
|
$
|
33,799
|
|
|
$
|
65,915
|
|
|
$
|
63,297
|
|
|
|
|
|
|
|
|
|
|
|
(1)
|
Represents period transactions processed on the Discover Network for which a potential liability exists that, in aggregate, can differ from credit card sales volume.
|
The Company did not record any contingent liability in the condensed consolidated financial statements for merchant chargeback guarantees as of
June 30, 2016
or
December 31, 2015
. The Company mitigates the risk of potential loss exposure by withholding settlement from merchants, obtaining third-party guarantees, or obtaining escrow deposits or letters of credit from certain merchant acquirers or merchants that are considered higher risk due to various factors such as time delays in the delivery of products or services.
The table below provides information regarding escrow deposits and settlement withholdings, which are recorded in interest-bearing deposit accounts and accrued expenses and other liabilities on the Company’s condensed consolidated statements of financial condition, respectively (dollars in millions):
|
|
|
|
|
|
|
|
|
|
June 30,
2016
|
|
December 31,
2015
|
Settlement withholdings and escrow deposits
|
$
|
6
|
|
|
$
|
7
|
|
|
|
|
|
|
|
13.
|
Litigation and Regulatory Matters
|
In the normal course of business, from time to time, the Company has been named as a defendant in various legal actions, including arbitrations, class actions and other litigation, arising in connection with its activities. Certain of the actual or threatened legal actions include claims for substantial compensatory and/or punitive damages or claims for indeterminate amounts of damages. The litigation process is not predictable and can lead to unexpected results. The Company contests liability and/or the amount of damages as appropriate in each pending matter.
The Company has historically relied on the arbitration clause in its cardmember agreements, which has in some instances limited the costs of, and the Company’s exposure to litigation, but there can be no assurance that the Company will continue to be successful in enforcing its arbitration clause in the future. Legal challenges to the enforceability of these clauses have led most card issuers, and may cause the Company, to discontinue their use. From time to time, the Company is involved in legal actions challenging its arbitration clause. Bills are periodically introduced in Congress to directly or indirectly prohibit the use of pre-dispute arbitration clauses, and the Dodd-Frank Wall Street Reform and Consumer Protection Act (the "Dodd-Frank Act") authorized the Consumer Financial Protection Bureau (the "CFPB") to conduct a study on pre-dispute arbitration clauses and, based on the study, potentially limit or ban arbitration clauses. On March 10, 2015, the CFPB released its report to Congress on pre-dispute arbitration as required by the Dodd-Frank Act. On October 7, 2015, the CFPB published a potential rulemaking on arbitration agreements. On May 5, 2016, the CFPB issued its proposed arbitration rule that would (i) effectively ban consumer financial companies from using arbitration clauses to prevent class action cases and (ii) require records of all other arbitrations to be provided to the CFPB for potential publication on its
website. The deadline for submitting comments to the proposed rule is August 22, 2016. The timing and provisions of any final rule are uncertain at this time.
The Company is also involved, from time to time, in other reviews, investigations and proceedings (both formal and informal) by governmental agencies regarding the Company’s business including, among other matters, consumer regulatory, accounting, tax and other operational matters, some of which may result in significant adverse judgments, settlements, fines, penalties, injunctions, decreases in regulatory ratings, customer restitution or other relief, which could materially impact the Company's condensed consolidated financial statements, increase its cost of operations, or limit its ability to execute its business strategies and engage in certain business activities. For example, Discover Bank and Discover Financial Services have been the subject of actions by the FDIC and the Federal Reserve, respectively, with respect to anti-money laundering and related compliance programs as described more fully below. In addition, certain subsidiaries of the Company are subject to a consent order with the CFPB regarding certain student loan servicing practices, as described below. Regulatory actions generally can include demands for civil money penalties, changes to certain business practices and customer restitution. Supervisory actions related to anti-money laundering and related laws and regulations will limit for a period of time the Company's ability to enter into certain types of acquisitions and make certain types of investments.
In accordance with applicable accounting guidance, the Company establishes an accrued liability for legal and regulatory matters when those matters present loss contingencies which are both probable and estimable. Litigation and regulatory settlement related expense was not material for the
three and six months ended June 30, 2016
and for the
three months ended June 30, 2015
.
Litigation and regulatory settlement related expense was
$23 million
for the
six months ended June 30, 2015
.
There may be an exposure to loss in excess of any amounts accrued. The Company believes the estimate of the aggregate range of reasonably possible losses (meaning those losses the likelihood of which is more than remote but less than likely) in excess of the amounts that the Company has accrued for legal and regulatory proceedings is up to
$140 million
. This estimated range of reasonably possible losses is based upon currently available information for those proceedings in which the Company is involved, takes into account the Company’s best estimate of such losses for those matters for which an estimate can be made, and does not represent the Company’s maximum potential loss exposure. Various aspects of the legal proceedings underlying the estimated range will change from time to time and actual results may vary significantly from the estimate.
The Company’s estimated range above involves significant judgment, given the varying stages of the proceedings, the existence of numerous yet to be resolved issues, the breadth of the claims (often spanning multiple years and, in some cases, a wide range of business activities), unspecified damages and/or the novelty of the legal issues presented. The outcome of pending matters could be material to the Company’s condensed consolidated financial condition, operating results and cash flows for a particular future period, depending on, among other things, the level of the Company’s income for such period, and could adversely affect the Company’s reputation.
On July 5, 2012, the Antitrust Division of the United States Department of Justice (the “Division”) issued a CID to the Company seeking information regarding an investigation related to potential violations of Sections 1 and 2 of the Sherman Act, 15 U.S.C. §§1-2, by an unidentified party other than Discover. The CID seeks documents, data and narrative responses to several interrogatories and document requests, related to the debit card market. A CID is a request for information in the course of a civil investigation and does not constitute the commencement of legal proceedings. The Division is permitted by statute to issue a CID to anyone whom it believes may have information relevant to an investigation. The receipt of a CID does not presuppose that there is probable cause to believe that a violation of the antitrust laws has occurred or that a formal complaint ultimately will be filed. The Company is cooperating with the Division in connection with the CID.
On August 14, 2012, a purported shareholder, James Groen, filed a shareholder derivative action in the U.S. District Court for the Northern District of Illinois (Groen v. Nelms et al.) against the Company’s board of directors, certain current and former officers and directors and the Company as nominal defendant. On August 27, 2012, a second purported shareholder, the Charter Township of Clinton Police and Fire Retirement System, filed a substantially identical shareholder derivative action in the same court against the same parties (Charter Township of Clinton Police and Fire Retirement System v. Nelms et al.). On September 25, 2012, the actions were consolidated, and on February 19, 2013, the plaintiffs filed an amended consolidated complaint. The consolidated complaint asserts claims against the board of directors and certain current and former officers and directors for alleged breach of fiduciary duty, corporate waste and unjust enrichment arising out of the Company’s alleged violations of the law in connection with the marketing and sale of its protection products. The relief sought in the consolidated complaint includes changes to the Company’s corporate governance procedures; unspecified damages, injunctive relief, restitution and disgorgement from the individual defendants; and attorneys’ fees. On April 5, 2013,
the defendants filed a motion to dismiss the amended consolidated complaint, and on June 5, 2013, briefing on the motion to dismiss was completed. On March 23, 2015, the Court granted the defendants’ motion to dismiss the amended consolidated shareholder derivative complaint without prejudice, while also allowing the plaintiffs until April 10, 2015 to request permission to file a further amended complaint in order to avoid having the case dismissed with prejudice. On April 6, 2015, the plaintiffs filed a motion requesting reconsideration by the Court of its order dismissing the complaint. In addition, on April 10, 2015, the plaintiffs filed a motion requesting permission to file a further amended complaint. On March 17, 2016, the Court denied both the motion for reconsideration and motion for leave to amend and dismissed the case with prejudice. On April 18, 2016, the plaintiffs filed a notice of appeal, and the case is currently pending in the United States Court of Appeal for the Seventh Circuit (Jeanette Bokhari et al. v Discover Financial Services et al.).
On September 2, 2014, a purported shareholder, Steamfitters Local 449 Pension Fund, filed a shareholder derivative action in the Circuit Court of the Nineteenth Judicial Circuit, Lake County, Illinois (Steamfitters Local 449 Pension Fund, derivatively on behalf of Discover Financial Services v. David W. Nelms, et al.) against the Company’s board of directors and certain current and former officers and directors of the Company. The complaint asserts claims for alleged breach of fiduciary duty, corporate waste and unjust enrichment arising out of the Company’s alleged violations of the law in connection with the marketing and sale of protection products. The relief sought in the consolidated complaint includes changes to the Company’s corporate governance procedures, unspecified damages, restitution and disgorgement from the individual defendants and attorneys’ fees. On September 25, 2014, the court entered an order staying the case until 30 days after the U.S. District Court for the Northern District of Illinois enters an order on defendants’ motion to dismiss the amended consolidated complaint in Groen v. Nelms et al. and Charter Township of Clinton Police and Fire Retirement System v. Nelms et al. (as consolidated, the Groen and Charter Township cases are now captioned: In re Discover Financial Services Derivative Litigation). The case remains stayed.
On May 26, 2015, the Company entered into a written agreement with the Federal Reserve Bank of Chicago where the Company agreed to enhance the Company’s enterprise-wide anti-money laundering and related compliance programs. The agreement does not include civil money penalties. This agreement follows the consent order that Discover Bank entered into with the FDIC on June 13, 2014 related to Discover Bank’s anti-money laundering and related compliance programs. In the consent order, Discover Bank agreed to, among other things, enhance its anti-money laundering and related compliance programs.
On July 9, 2015, a class action lawsuit was filed against the Company in the U.S. District Court for the Northern District of Illinois (Polly Hansen v. Discover Financial Services and Discover Home Loans, Inc.). The plaintiff alleges that the Company contacted her, and members of the class she seeks to represent, on their cellular and residential telephones without their express consent or after consent was revoked in violation of the Telephone Consumer Protection Act ("TCPA"). Plaintiff seeks statutory damages for alleged negligent and willful violations of the TCPA, attorneys' fees, costs and injunctive relief. The TCPA provides for statutory damages of
$500
for each violation (
$1,500
for willful violations). On March 9, 2016, Sumner Davenport was substituted as lead plaintiff for Polly Hansen. The Company will seek to vigorously defend against all claims asserted by the plaintiff.
On July 22, 2015, the Company announced that its subsidiaries, Discover Bank, The Student Loan Corporation and Discover Products, Inc. (the “Discover Subsidiaries”), agreed to a consent order with the CFPB resolving the agency’s investigation with respect to certain student loan servicing practices. The CFPB’s investigation into these practices has been previously disclosed by the Company, initially in February 2014. The order requires the Discover Subsidiaries to provide redress of approximately
$16 million
to consumers who may have been affected by the activities described in the order related to certain collection calls, overstatements of minimum payment due amounts in billing statements, and provision of interest paid information to consumers, and provide regulatory disclosures with respect to loans acquired in default. In addition, the Discover Subsidiaries are required to pay a
$2.5 million
civil money penalty to the CFPB. As required by the consent order, on October 19, 2015, the Discover Subsidiaries submitted to the CFPB a redress plan and a compliance plan designed to ensure that the Discover Subsidiaries provide redress and otherwise comply with the terms of the order.
On September 4, 2015, the District Attorney of Trinity County, California filed a protection products lawsuit against the Company in California state court (The People of the State of California Ex Rel, Eric L. Heryford, District Attorney, Trinity County v. Discover Financial Services, et al.). The District Attorney subsequently dismissed this lawsuit on February 19, 2016 and filed a new complaint in federal court in the Eastern District of California on March 4, 2016 alleging the same cause of action. An amended complaint was filed on March 25, 2016. The lawsuit asserts various claims under California's Unfair Competition Law with respect to the Company's marketing and administration of various protection products. Plaintiff seeks declaratory relief, statutory civil penalties, and attorneys’ fees. The Company filed a motion to dismiss the first
amended complaint on April 26, 2016. The Company is not in a position at this time to assess the likely outcome or its exposure, if any, with respect to this matter, but will seek to vigorously defend against all claims asserted by the plaintiff.
On March 8, 2016, a class action lawsuit was filed against the Company in the U.S. District Court for the Northern District of California (B&R Supermarket, Inc., d/b/a Milam’s Market, et al. v. Visa, Inc. et al.) alleging violations of the Sherman Antitrust Act, California's Cartwright Act, and unjust enrichment. Plaintiffs allege a conspiracy to shift fraud liability to merchants with the migration to the EMV security standard and chip technology. Plaintiffs seek damages, attorneys' fees, costs and injunctive relief. On July 15, 2016, Plaintiffs filed an amended complaint. Defendants have until August 25, 2016 to respond to the amended complaint. The Company is not in a position at this time to assess the likely outcome or its exposure, if any, with respect to this matter, but will seek to vigorously defend against all claims asserted by the plaintiffs.
|
|
14.
|
Fair Value Measurements and Disclosures
|
Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. ASC Topic 820,
Fair Value Measurement
, provides a three-level hierarchy for classifying financial instruments, which is based on whether the inputs to the valuation techniques used to measure the fair value of each financial instrument are observable or unobservable. It also requires certain disclosures about those measurements. The three-level valuation hierarchy is as follows:
|
|
•
|
Level 1
: Fair values determined by Level 1 inputs are defined as those that utilize quoted prices (unadjusted) in active markets for identical assets or liabilities that the Company has the ability to access.
|
|
|
•
|
Level 2
: Fair values determined by Level 2 inputs are those that utilize inputs other than quoted prices included in Level 1 that are observable for the asset or liability, either directly or indirectly. Level 2 inputs include quoted prices for similar assets and liabilities in active or inactive markets, quoted prices for the identical assets in an inactive market, and inputs other than quoted prices that are observable for the asset or liability, such as interest rates and yield curves that are observable at commonly quoted intervals. The Company evaluates factors such as the frequency of transactions, the size of the bid-ask spread and the significance of adjustments made when considering transactions involving similar assets or liabilities to assess the relevance of those observed prices. If relevant and observable prices are available, the fair values of the related assets or liabilities would be classified as Level 2.
|
|
|
•
|
Level 3
: Fair values determined by Level 3 inputs are those based on unobservable inputs and include situations where there is little, if any, market activity for the asset or liability being valued. In instances in which the inputs used to measure fair value may fall into different levels of the fair value hierarchy, the level in the fair value hierarchy within which the fair value measurement in its entirety is classified is based on the lowest level input that is significant to the fair value measurement in its entirety. The Company may utilize both observable and unobservable inputs in determining the fair values of financial instruments classified within the Level 3 category.
|
The determination of classification of its financial instruments within the fair value hierarchy is performed at least quarterly by the Company. For transfers in and out of the levels of the fair value hierarchy, the Company discloses the fair value measurement based on the value immediately preceding the transfer.
The Company's assessment of the significance of a particular input to the fair value measurement in its entirety requires judgment and involves consideration of factors specific to the asset or liability. Furthermore, certain techniques used to measure fair value involve some degree of judgment and, as a result, are not necessarily indicative of the amounts the Company would realize in a current market exchange.
During the
six months ended June 30, 2016
, there were no changes to the Company's valuation techniques that had, or are expected to have, a material impact on the Company's condensed consolidated financial position or results of operations.
Assets and Liabilities Measured at Fair Value on a Recurring Basis
Assets and liabilities measured at fair value on a recurring basis are as follows (dollars in millions):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Quoted Price in Active Markets
for Identical
Assets
(Level 1)
|
|
Significant
Other
Observable
Inputs
(Level 2)
|
|
Significant
Unobservable
Inputs
(Level 3)
|
|
Total
|
Balance at June 30, 2016
|
|
|
|
|
|
|
|
Assets
|
|
|
|
|
|
|
|
U.S. Treasury securities
|
$
|
930
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
930
|
|
U.S. government agency securities
|
290
|
|
|
—
|
|
|
—
|
|
|
290
|
|
Residential mortgage-backed securities - Agency
|
—
|
|
|
1,093
|
|
|
—
|
|
|
1,093
|
|
Available-for-sale investment securities
|
$
|
1,220
|
|
|
$
|
1,093
|
|
|
$
|
—
|
|
|
$
|
2,313
|
|
|
|
|
|
|
|
|
|
Derivative financial instruments
|
$
|
—
|
|
|
$
|
59
|
|
|
$
|
—
|
|
|
$
|
59
|
|
|
|
|
|
|
|
|
|
Liabilities
|
|
|
|
|
|
|
|
Derivative financial instruments
|
$
|
—
|
|
|
$
|
88
|
|
|
$
|
—
|
|
|
$
|
88
|
|
|
|
|
|
|
|
|
|
Balance at December 31, 2015
|
|
|
|
|
|
|
|
Assets
|
|
|
|
|
|
|
|
U.S. Treasury securities
|
$
|
1,272
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
1,272
|
|
U.S. government agency securities
|
494
|
|
|
—
|
|
|
—
|
|
|
494
|
|
Residential mortgage-backed securities - Agency
|
—
|
|
|
1,197
|
|
|
—
|
|
|
1,197
|
|
Available-for-sale investment securities
|
$
|
1,766
|
|
|
$
|
1,197
|
|
|
$
|
—
|
|
|
$
|
2,963
|
|
|
|
|
|
|
|
|
|
Derivative financial instruments
|
$
|
—
|
|
|
$
|
22
|
|
|
$
|
—
|
|
|
$
|
22
|
|
|
|
|
|
|
|
|
|
Liabilities
|
|
|
|
|
|
|
|
Derivative financial instruments
|
$
|
—
|
|
|
$
|
38
|
|
|
$
|
—
|
|
|
$
|
38
|
|
|
|
|
|
|
|
|
|
There were no transfers between Levels 1 and 2 within the fair value hierarchy for the
three or six months ended June 30, 2016 and 2015
.
Available-for-Sale Investment Securities
Investment securities classified as available-for-sale consist of U.S. Treasury securities, U.S. government agency securities and residential mortgage-backed securities. The fair value estimates of investment securities classified as Level 1, consisting of U.S. Treasury and government agency securities, are determined based on quoted market prices for the same securities. The Company classifies all other available-for-sale investment securities as Level 2, the fair value estimates of which are obtained from pricing services, where fair values are estimated using pricing models based on observable market inputs or recent trades of similar securities. The fair value estimates of residential mortgage-backed securities are based on the best information available. This data may consist of observed market prices, broker quotes or discounted cash flow models that incorporate assumptions such as benchmark yields, issuer spreads, prepayment speeds, credit ratings and losses, the priority of which may vary based on availability of information.
The Company validates the fair value estimates provided by the pricing services primarily by comparison to valuations obtained through other pricing sources. The Company evaluates pricing variances amongst different pricing sources to ensure that the valuations utilized are reasonable. The Company also corroborates the reasonableness of the fair value estimates with analysis of trends of significant inputs, such as market interest rate curves. The Company further performs due diligence in understanding the procedures and techniques performed by the pricing services to derive fair value estimates.
At
June 30, 2016
, amounts reported in residential mortgage-backed securities reflect government-rated obligations issued by Fannie Mae, Freddie Mac and Ginnie Mae with a par value of
$1.0 billion
, a weighted-average coupon of
2.81%
and a weighted-average remaining maturity of
three years
.
Derivative Financial Instruments
The Company's derivative financial instruments consist of interest rate swaps and foreign exchange forward contracts. These instruments are classified as Level 2 as their fair values are estimated using proprietary pricing models, containing certain assumptions based on readily observable market-based inputs, including interest rate curves, option volatility and foreign currency forward and spot rates. In determining fair values, the pricing models use widely accepted valuation techniques including discounted cash flow analysis on the expected cash flows of each derivative. This analysis reflects the contractual terms of the derivatives, including the period to maturity and the observable market-based inputs. The fair values of the interest rate swaps are determined using the market standard methodology of netting the discounted future fixed cash receipts (or payments) and the discounted expected variable cash payments (or receipts). The variable cash payments are based on an expectation of future interest rates derived from the observable market interest rate curves. The Company considers collateral and master netting agreements that mitigate credit exposure to counterparties in determining the counterparty credit risk valuation adjustment. The fair values of the currency instruments are valued comparing the contracted forward exchange rate pertaining to the specific contract maturities to the current market exchange rate.
The Company validates the fair value estimates of interest rate swaps primarily through comparison to the fair value estimates computed by the counterparties to each of the derivative transactions. The Company evaluates pricing variances amongst different pricing sources to ensure that the valuations utilized are reasonable. The Company also corroborates the reasonableness of the fair value estimates with analysis of trends of significant inputs, such as market interest rate curves. The Company performs due diligence in understanding the impact to any changes to the valuation techniques performed by proprietary pricing models prior to implementation, working closely with the third-party valuation service, and reviews the control objectives of the service at least annually. The Company corroborates the fair value of foreign exchange forward contracts through independent calculation of the fair value estimates.
Assets and Liabilities Measured at Fair Value on a Non-Recurring Basis
The Company also has assets that under certain conditions are subject to measurement at fair value on a non-recurring basis. These assets include those associated with acquired businesses, including goodwill and other intangible assets. For these assets, measurement at fair value in periods subsequent to the initial recognition of the assets is applicable if one or more of the assets is determined to be impaired. During the
three and six months ended June 30, 2016 and 2015
, the Company had no material impairments related to these assets.
Financial Instruments Measured at Other Than Fair Value
The following tables disclose the estimated fair value of the Company's financial assets and financial liabilities that are not required to be carried at fair value (dollars in millions):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Quoted Prices in Active Markets
for Identical
Assets
(Level 1)
|
|
Significant
Other
Observable
Inputs (Level 2)
|
|
Significant
Unobservable
Inputs (Level 3)
|
|
Total
|
|
Carrying
Value
|
Balance at June 30, 2016
|
|
|
|
|
|
|
|
|
|
Assets
|
|
|
|
|
|
|
|
|
|
U.S Treasury securities
|
$
|
1
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
1
|
|
|
$
|
1
|
|
States and political subdivisions of states
|
—
|
|
|
5
|
|
|
—
|
|
|
5
|
|
|
5
|
|
Residential mortgage-backed securities - Agency
|
—
|
|
|
155
|
|
|
—
|
|
|
155
|
|
|
152
|
|
Held-to-maturity investment securities
|
$
|
1
|
|
|
$
|
160
|
|
|
$
|
—
|
|
|
$
|
161
|
|
|
$
|
158
|
|
|
|
|
|
|
|
|
|
|
|
Cash and cash equivalents
|
$
|
10,617
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
10,617
|
|
|
$
|
10,617
|
|
Restricted cash
|
$
|
98
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
98
|
|
|
$
|
98
|
|
Other short-term investments
|
$
|
1,050
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
1,050
|
|
|
$
|
1,050
|
|
Net loan receivables
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
70,938
|
|
|
$
|
70,938
|
|
|
$
|
69,975
|
|
Accrued interest receivables
|
$
|
—
|
|
|
$
|
667
|
|
|
$
|
—
|
|
|
$
|
667
|
|
|
$
|
667
|
|
|
|
|
|
|
|
|
|
|
|
Liabilities
|
|
|
|
|
|
|
|
|
|
Deposits
|
$
|
—
|
|
|
$
|
48,902
|
|
|
$
|
—
|
|
|
$
|
48,902
|
|
|
$
|
48,527
|
|
Long-term borrowings - owed to securitization investors
|
$
|
—
|
|
|
$
|
15,866
|
|
|
$
|
1,047
|
|
|
$
|
16,913
|
|
|
$
|
16,662
|
|
Other long-term borrowings
|
$
|
—
|
|
|
$
|
8,633
|
|
|
$
|
—
|
|
|
$
|
8,633
|
|
|
$
|
8,019
|
|
Accrued interest payables
|
$
|
—
|
|
|
$
|
150
|
|
|
$
|
—
|
|
|
$
|
150
|
|
|
$
|
150
|
|
|
|
|
|
|
|
|
|
|
|
Balance at December 31, 2015
|
|
|
|
|
|
|
|
|
|
Assets
|
|
|
|
|
|
|
|
|
|
U.S Treasury securities
|
$
|
1
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
1
|
|
|
$
|
1
|
|
States and political subdivisions of states
|
—
|
|
|
7
|
|
|
—
|
|
|
7
|
|
|
7
|
|
Residential mortgage-backed securities - Agency
|
—
|
|
|
114
|
|
|
—
|
|
|
114
|
|
|
113
|
|
Held-to-maturity investment securities
|
$
|
1
|
|
|
$
|
121
|
|
|
$
|
—
|
|
|
$
|
122
|
|
|
$
|
121
|
|
|
|
|
|
|
|
|
|
|
|
Cash and cash equivalents
|
$
|
9,572
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
9,572
|
|
|
$
|
9,572
|
|
Restricted cash
|
$
|
99
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
99
|
|
|
$
|
99
|
|
Net loan receivables
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
71,455
|
|
|
$
|
71,455
|
|
|
$
|
70,516
|
|
Accrued interest receivables
|
$
|
—
|
|
|
$
|
660
|
|
|
$
|
—
|
|
|
$
|
660
|
|
|
$
|
660
|
|
|
|
|
|
|
|
|
|
|
|
Liabilities
|
|
|
|
|
|
|
|
|
|
Deposits
(1)
|
$
|
—
|
|
|
$
|
47,714
|
|
|
$
|
—
|
|
|
$
|
47,714
|
|
|
$
|
47,531
|
|
Long-term borrowings - owed to securitization investors
(1)
|
$
|
—
|
|
|
$
|
15,634
|
|
|
$
|
1,220
|
|
|
$
|
16,854
|
|
|
$
|
16,735
|
|
Other long-term borrowings
(1)
|
$
|
—
|
|
|
$
|
8,355
|
|
|
$
|
—
|
|
|
$
|
8,355
|
|
|
$
|
7,915
|
|
Accrued interest payables
|
$
|
—
|
|
|
$
|
158
|
|
|
$
|
—
|
|
|
$
|
158
|
|
|
$
|
158
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(1)
|
Upon adoption of ASU 2015-03, Interest—Imputation of Interest (Subtopic 835-30): Simplifying the Presentation of Debt Issuance Costs, certain balances as of December 31, 2015 have been restated to reflect the classification of debt issuance costs as a direct deduction of the related liability. See Note 1: Background and Basis of Presentation for additional information.
|
The fair values of these financial assets and liabilities, which are not carried at fair value on the condensed consolidated statements of financial condition, were determined by applying the fair value provisions discussed herein. The use of different assumptions or estimation techniques may have a material effect on these estimated fair value amounts. The following describes the valuation techniques of these financial instruments measured at other than fair value.
Cash and Cash Equivalents
The carrying value of cash and cash equivalents approximates fair value due to the low level of risk these assets present to the Company, as well as the relatively liquid nature of these assets, particularly given their short maturities.
Restricted Cash
The carrying value of restricted cash approximates fair value due to the low level of risk these assets present to the Company, as well as the relatively liquid nature of these assets, particularly given their short maturities.
Other Short-Term Investments
The carrying value of other short-term investments approximates fair value due to the low level of risk these assets present to the Company, as well as the relatively liquid nature of these assets, particularly given their short maturities.
Held-to-Maturity Investment Securities
Held-to-maturity investment securities consist of residential mortgage-backed securities issued by agencies and municipal bonds. The fair value of residential mortgage-backed securities included in the held-to-maturity portfolio is estimated similarly to residential mortgage-backed securities carried at fair value on a recurring basis discussed herein. Municipal bonds are valued based on quoted market prices for the same or similar securities.
Net Loan Receivables
The Company's loan receivables are comprised of credit card and installment loans, including the PCI student loans. Fair value estimates are derived utilizing discounted cash flow analyses, the calculations of which are performed on groupings of loan receivables that are similar in terms of loan type and characteristics. Inputs to the cash flow analysis of each grouping consider recent prepayment and interest accrual trends and leverage forecasted loss estimates. The expected future cash flows, derived through the cash flow analysis, of each grouping are discounted at rates at which similar loans within each grouping could be originated under current market conditions. Significant inputs to the fair value measurement of the loan portfolio are unobservable and, as such, are classified as Level 3.
Accrued Interest Receivables
The carrying value of accrued interest receivables, which is included in other assets on the condensed consolidated statements of financial condition, approximates fair value as it is due in less than one year.
Deposits
The carrying values of money market deposits, savings deposits and demand deposits approximate fair value due to the potentially liquid nature of these deposits. For time deposits for which readily available market rates do not exist, fair values are estimated by discounting expected future cash flows using market rates currently offered for deposits with similar remaining maturities.
Long-Term Borrowings - Owed to Securitization Investors
Fair values of long-term borrowings owed to credit card securitization investors are determined utilizing quoted market prices of the same transactions and, as such, are classified as Level 2. Fair values of long-term borrowings owed to student loan securitization investors are calculated by discounting cash flows using estimated assumptions including, among other things, maturity and market discount rates. A portion of the difference between the carrying value and the fair value of the long-term borrowings owed to student loan securitization investors relates to purchase accounting adjustments recorded in connection with the December 2010 purchase of SLC. Significant inputs to these fair value measurements are unobservable and, as such, are classified as Level 3.
Other Long-Term Borrowings
Fair values of other long-term borrowings, consisting of subordinated and senior debt, are determined utilizing current observable market prices for those transactions and, as such, are classified as Level 2. A portion of the difference between the carrying value and the fair value of other long-term borrowings relates to the cash premiums paid in connection with the 2012 fiscal year debt exchanges.
Accrued Interest Payables
The carrying value of accrued interest payables, which is included in accrued expenses and other liabilities on the condensed consolidated statements of financial condition, approximates fair value as it is payable in less than one year.
|
|
15.
|
Derivatives and Hedging Activities
|
The Company uses derivatives to manage its exposure to various financial risks. The Company does not enter into derivatives for trading or speculative purposes. Certain derivatives used to manage the Company’s exposure to interest rate movements and other identified risks are not designated as hedges and do not qualify for hedge accounting.
Derivatives may give rise to counterparty credit risk, which generally is addressed through collateral arrangements as described under the sub-heading "— Collateral Requirements and Credit-Risk Related Contingency Features." The Company enters into derivative transactions with established dealers that meet minimum credit criteria established by the Company. All counterparties must be pre-approved prior to engaging in any transaction with the Company. Counterparties are monitored on a regular basis by the Company to ensure compliance with the Company’s risk policies and limits. In determining the counterparty credit risk valuation adjustment for the fair values of derivatives, the Company considers collateral and legally enforceable master netting agreements that mitigate credit exposure to related counterparties.
All derivatives are recorded in other assets at their gross positive fair values and in accrued expenses and other liabilities at their gross negative fair values. See Note 14: Fair Value Measurements and Disclosures for a description of the valuation methodologies of derivatives. Cash collateral posted and held balances are recorded in other assets and deposits, respectively, in the condensed consolidated statements of financial condition. Collateral amounts recorded in the condensed consolidated statements of financial condition are based on the net collateral posted or held position for each applicable legal entity's master netting arrangement with each counterparty.
Derivatives Designated as Hedges
Derivatives designated and qualifying as a hedge of the exposure to variability in expected future cash flows arising from changes in interest rates, or other types of forecasted transactions, are considered cash flow hedges. Derivatives designated and qualifying as a hedge of the exposure to fluctuations in foreign exchange rates on investments in foreign entities are referred to as net investment hedges. Derivatives designated and qualifying as a hedge of the exposure to changes in the fair value of an asset, liability, or firm commitment attributable to a particular risk, such as interest rate risk, are considered fair value hedges.
Cash Flow Hedges
The Company uses interest rate swaps to manage its exposure to changes in interest rates related to future cash flows resulting from interest payments on credit card securitized debt and deposits. The Company's outstanding cash flow hedges are for an initial maximum period of
five years
for securitized debt and
seven years
for deposits. The derivatives are designated as hedges of the risk of changes in cash flows on the Company's LIBOR or Federal Funds rate-based interest payments and qualify for hedge accounting in accordance with ASC Topic 815,
Derivatives and Hedging
(“ASC 815”).
The effective portion of the change in the fair value of derivatives designated as cash flow hedges is recorded in OCI and is subsequently reclassified into earnings in the period that the hedged forecasted cash flows affect earnings. The ineffective portion of the change in fair value of the derivative, if any, is recognized directly in earnings. Amounts reported in AOCI related to derivatives at
June 30, 2016
will be reclassified to interest expense as interest payments are made on certain of the Company's floating-rate securitized debt or deposits. During the next 12 months, the Company estimates it will reclassify
$34 million
of pretax losses to interest expense related to its derivatives designated as cash flow hedges.
Fair Value Hedges
The Company is exposed to changes in fair value of certain of its fixed-rate debt obligations due to changes in interest rates. The Company uses interest rate swaps to manage its exposure to changes in fair value of certain fixed-rate senior notes, securitized debt, bank notes and interest-bearing brokered deposits attributable to changes in LIBOR, a benchmark interest rate as defined by ASC 815. These interest rate swaps qualify as fair value hedges in accordance with ASC 815. Changes in both (i) the fair values of the derivatives and (ii) the hedged fixed-rate senior notes, securitized debt, bank notes and interest-bearing brokered deposits relating to the risk being hedged are recorded in interest expense. The changes generally provide substantial offset to one another, with any difference, or ineffectiveness recorded in interest expense. Any basis differences
between the fair value and the carrying amount of the hedged item at the inception of the hedging relationship are amortized to interest expense.
Derivatives Not Designated as Hedges
Foreign Exchange Forward Contracts
The Company has foreign exchange forward contracts that are economic hedges and are not designated as accounting hedges. The Company enters into foreign exchange forward contracts to manage foreign currency risk. Changes in the fair value of these contracts are recorded in other income.
Interest Rate Swaps
The Company may have, from time to time, interest rate swap agreements that are not designated as hedges. Such agreements are not speculative and are also used to manage interest rate risk but are not designated for hedge accounting. Changes in the fair value of these contracts are recorded in other income.
The following table summarizes the fair value (including accrued interest) and outstanding notional amounts of derivative instruments and related collateral balances (dollars in millions):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
June 30, 2016
|
|
December 31, 2015
|
|
Notional
Amount
|
|
Number of Outstanding Derivative Contracts
|
|
Derivative Assets
|
|
Derivative Liabilities
|
|
Notional
Amount
|
|
Derivative Assets
|
|
Derivative Liabilities
|
Derivatives designated as hedges
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest rate swaps—cash flow hedge
|
$
|
4,100
|
|
|
8
|
|
|
$
|
—
|
|
|
$
|
88
|
|
|
$
|
4,100
|
|
|
$
|
—
|
|
|
$
|
35
|
|
Interest rate swaps—fair value hedge
|
$
|
4,880
|
|
|
86
|
|
|
59
|
|
|
—
|
|
|
$
|
4,110
|
|
|
22
|
|
|
3
|
|
Derivatives not designated as hedges
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Foreign exchange forward contracts
(1)
|
$
|
15
|
|
|
6
|
|
|
—
|
|
|
—
|
|
|
$
|
32
|
|
|
—
|
|
|
—
|
|
Interest rate swap
(2)
|
$
|
181
|
|
|
1
|
|
|
—
|
|
|
—
|
|
|
$
|
217
|
|
|
—
|
|
|
—
|
|
Total gross derivative assets/liabilities
(3)
|
|
|
|
|
59
|
|
|
88
|
|
|
|
|
22
|
|
|
38
|
|
Less: Collateral held/posted
(4)
|
|
|
|
|
(21
|
)
|
|
(79
|
)
|
|
|
|
(8
|
)
|
|
(33
|
)
|
Total net derivative assets/liabilities
|
|
|
|
|
$
|
38
|
|
|
$
|
9
|
|
|
|
|
$
|
14
|
|
|
$
|
5
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(1)
|
The foreign exchange forward contracts have notional amounts of EUR
6 million
, GBP
5 million
and SGD
1 million
as of
June 30, 2016
, and notional amounts of EUR
19 million
, GBP
7 million
and SGD
1 million
as of
December 31, 2015
.
|
|
|
(2)
|
Interest rate swaps not designated as hedges do not have associated master netting arrangements.
|
|
|
(3)
|
In addition to the derivatives disclosed in the table, the Company enters into forward contracts to purchase when-issued mortgage-backed securities as part of its community reinvestment initiatives. At
June 30, 2016
, the Company had
one
outstanding contract with a notional amount of
$9 million
and immaterial fair value. At
December 31, 2015
, the Company had
one
outstanding contract with a notional amount of
$52 million
and immaterial fair value.
|
|
|
(4)
|
Collateral amounts, which consist of both cash and investment securities, are limited to the related derivative asset/liability balance and do not include excess collateral received/pledged.
|
The following tables summarize the impact of the derivative instruments on income and OCI and indicates where within the condensed consolidated financial statements such impact is reported (dollars in millions):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Amount of (Loss) Gain Recognized in OCI
|
|
|
|
For the Three Months Ended June 30,
|
|
For the Six Months Ended June 30,
|
|
Location
|
|
2016
|
|
2015
|
|
2016
|
|
2015
|
Derivatives designated as hedges
|
|
|
|
|
|
|
|
|
|
Interest rate swaps - cash flow/net investment hedges
|
|
|
|
|
|
|
|
|
|
Total (loss) gain recognized in OCI after amounts reclassified into earnings, pre-tax
|
OCI
|
|
$
|
(10
|
)
|
|
$
|
18
|
|
|
$
|
(53
|
)
|
|
$
|
(17
|
)
|
Total (loss) gain recognized in OCI
|
|
|
$
|
(10
|
)
|
|
$
|
18
|
|
|
$
|
(53
|
)
|
|
$
|
(17
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Amount of (Loss) Gain Recognized in Income
|
|
|
|
For the Three Months Ended June 30,
|
|
For the Six Months Ended June 30,
|
|
Location
|
|
2016
|
|
2015
|
|
2016
|
|
2015
|
Derivatives designated as hedges
|
|
|
|
|
|
|
|
|
|
Interest rate swaps - cash flow hedges
|
|
|
|
|
|
|
|
|
|
Amount reclassified from OCI into income
|
Interest Expense
|
|
$
|
(9
|
)
|
|
$
|
(11
|
)
|
|
$
|
(18
|
)
|
|
$
|
(23
|
)
|
Total amount reclassified from OCI into income on cash flow hedges
|
|
|
(9
|
)
|
|
(11
|
)
|
|
(18
|
)
|
|
(23
|
)
|
|
|
|
|
|
|
|
|
|
|
Interest rate swaps - fair value hedges
|
|
|
|
|
|
|
|
|
|
Gain (loss) on interest rate swaps
|
|
|
13
|
|
|
(4
|
)
|
|
44
|
|
|
1
|
|
(Loss) gain on hedged items
|
|
|
(13
|
)
|
|
4
|
|
|
(44
|
)
|
|
—
|
|
Net ineffectiveness gain
|
Interest Expense
|
|
—
|
|
|
—
|
|
|
—
|
|
|
1
|
|
|
|
|
|
|
|
|
|
|
|
Decrease to interest expense related to net settlements on interest rate swaps
|
Interest Expense
|
|
8
|
|
|
7
|
|
|
17
|
|
|
15
|
|
Total gain on fair value hedges
|
|
|
8
|
|
|
7
|
|
|
17
|
|
|
16
|
|
Total loss on derivatives designated as hedges recognized in income
|
|
|
$
|
(1
|
)
|
|
$
|
(4
|
)
|
|
$
|
(1
|
)
|
|
$
|
(7
|
)
|
|
|
|
|
|
|
|
|
|
|
Derivatives not designated as hedges
|
|
|
|
|
|
|
|
|
|
Total gain on derivatives not designated as hedges recognized in income
(1)
|
Other Income
|
|
$
|
1
|
|
|
$
|
27
|
|
|
$
|
—
|
|
|
$
|
76
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(1)
|
During the
three and six months ended June 30, 2015
, the Company recognized in income total gain of
$4 million
and
$6 million
, respectively, on forward delivery contracts related to the mortgage loan business that was closed during 2015. During the
three and six months ended June 30, 2015
, the Company recognized in income total gain of
$24 million
and
$68 million
, respectively, on interest rate lock commitments related to the mortgage loan business that was closed during 2015. See Note 2: Business Dispositions for
additional
information.
|
Collateral Requirements and Credit-Risk Related Contingency Features
The Company has master netting arrangements and minimum collateral posting thresholds with its counterparties for its fair value and cash flow hedge interest rate swaps, foreign exchange forward contracts and forward delivery contracts. The Company has not sought a legal opinion in relation to the enforceability of its master netting arrangements and, as such, does not report any of these positions on a net basis.
Collateral is required by either the Company or its subsidiaries or the counterparty depending on the net fair value position of these derivatives held with that counterparty. The Company may also be required to post collateral with a counterparty for its fair value and cash flow hedge interest rate swaps depending on the credit rating it or Discover Bank receives from specified major credit rating agencies. Collateral receivable or payable amounts are not offset against the fair value of these derivatives, but are recorded separately in other assets or deposits.
As of
June 30, 2016
, DFS had a right to reclaim
$4 million
of cash collateral that had been posted (net of amounts required to be posted by the counterparty) because the credit rating of the Company did not meet specified thresholds. At
June 30, 2016
, Discover Bank’s credit rating met specified thresholds set by its counterparties. However, if its credit rating is reduced by one ratings notch, Discover Bank would be required to post additional collateral, which would have been
$64 million
as of
June 30, 2016
.
The Company also has agreements with certain of its derivative counterparties that contain a provision where if the Company defaults on any of its indebtedness, including default where repayment of the indebtedness has not been accelerated by the lender, then the Company could also be declared in default on its derivative obligations.
The Company’s business activities are managed in
two
segments: Direct Banking and Payment Services.
|
|
•
|
Direct Banking:
The Direct Banking segment includes Discover-branded credit cards issued to individuals on the Discover Network and other consumer products and services, including private student loans, personal loans, home equity loans, and other consumer lending and deposit products. The majority of Direct Banking revenues relate to interest income earned on the segment's loan products. Additionally, the Company’s credit card products generate substantially all revenues related to discount and interchange, protection products and loan fee income.
|
|
|
•
|
Payment Services:
The Payment Services segment includes PULSE, an automated teller machine, debit and electronic funds transfer network; Diners Club, a global payments network; and the Company’s Network Partners business, which provides payment transaction processing and settlement services on the Discover Network. The majority of Payment Services revenues relate to transaction processing revenue from PULSE and royalty and licensee revenue (included in other income) from Diners Club.
|
The business segment reporting provided to and used by the Company’s chief operating decision maker is prepared using the following principles and allocation conventions:
|
|
•
|
The Company aggregates operating segments when determining reportable segments.
|
|
|
•
|
Corporate overhead is not allocated between segments; all corporate overhead is included in the Direct Banking segment.
|
|
|
•
|
Through its operation of the Discover Network, the Direct Banking segment incurs fixed marketing, servicing and infrastructure costs that are not specifically allocated among the segments, with the exception of an allocation of direct and incremental costs driven by the Company's Payment Services segment.
|
|
|
•
|
The assets of the Company are not allocated among the operating segments in the information reviewed by the Company’s chief operating decision maker.
|
|
|
•
|
The revenues of each segment are derived from external sources. The segments do not earn revenue from intercompany sources.
|
|
|
•
|
Income taxes are not specifically allocated between the operating segments in the information reviewed by the Company’s chief operating decision maker.
|
The following table presents segment data (dollars in millions):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Direct
Banking
|
|
Payment
Services
|
|
Total
|
For the Three Months Ended June 30, 2016
|
|
|
|
|
|
Interest income
|
|
|
|
|
|
Credit card loans
|
$
|
1,734
|
|
|
$
|
—
|
|
|
$
|
1,734
|
|
Private student loans
|
110
|
|
|
—
|
|
|
110
|
|
PCI student loans
|
47
|
|
|
—
|
|
|
47
|
|
Personal loans
|
171
|
|
|
—
|
|
|
171
|
|
Other
|
28
|
|
|
—
|
|
|
28
|
|
Total interest income
|
2,090
|
|
|
—
|
|
|
2,090
|
|
Interest expense
|
339
|
|
|
—
|
|
|
339
|
|
Net interest income
|
1,751
|
|
|
—
|
|
|
1,751
|
|
Provision for loan losses
|
411
|
|
|
1
|
|
|
412
|
|
Other income
|
396
|
|
|
69
|
|
|
465
|
|
Other expense
|
868
|
|
|
38
|
|
|
906
|
|
Income before income tax expense
|
$
|
868
|
|
|
$
|
30
|
|
|
$
|
898
|
|
|
|
|
|
|
|
For the Three Months Ended June 30, 2015
|
|
|
|
|
|
Interest income
|
|
|
|
|
|
Credit card loans
|
$
|
1,620
|
|
|
$
|
—
|
|
|
$
|
1,620
|
|
Private student loans
|
92
|
|
|
—
|
|
|
92
|
|
PCI student loans
|
56
|
|
|
—
|
|
|
56
|
|
Personal loans
|
155
|
|
|
—
|
|
|
155
|
|
Other
|
24
|
|
|
—
|
|
|
24
|
|
Total interest income
|
1,947
|
|
|
—
|
|
|
1,947
|
|
Interest expense
|
311
|
|
|
—
|
|
|
311
|
|
Net interest income
|
1,636
|
|
|
—
|
|
|
1,636
|
|
Provision for loan losses
|
306
|
|
|
—
|
|
|
306
|
|
Other income
|
468
|
|
|
71
|
|
|
539
|
|
Other expense
|
884
|
|
|
43
|
|
|
927
|
|
Income before income tax expense
|
$
|
914
|
|
|
$
|
28
|
|
|
$
|
942
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The following table presents segment data (dollars in millions):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Direct
Banking
|
|
Payment
Services
|
|
Total
|
For the Six Months Ended June 30, 2016
|
|
|
|
|
|
Interest income
|
|
|
|
|
|
Credit card loans
|
$
|
3,467
|
|
|
$
|
—
|
|
|
$
|
3,467
|
|
Private student loans
|
217
|
|
|
—
|
|
|
217
|
|
PCI student loans
|
96
|
|
|
—
|
|
|
96
|
|
Personal loans
|
338
|
|
|
—
|
|
|
338
|
|
Other
|
56
|
|
|
—
|
|
|
56
|
|
Total interest income
|
4,174
|
|
|
—
|
|
|
4,174
|
|
Interest expense
|
673
|
|
|
—
|
|
|
673
|
|
Net interest income
|
3,501
|
|
|
—
|
|
|
3,501
|
|
Provision for loan losses
|
834
|
|
|
2
|
|
|
836
|
|
Other income
|
802
|
|
|
137
|
|
|
939
|
|
Other expense
|
1,719
|
|
|
73
|
|
|
1,792
|
|
Income before income tax expense
|
$
|
1,750
|
|
|
$
|
62
|
|
|
$
|
1,812
|
|
|
|
|
|
|
|
For the Six Months Ended June 30, 2015
|
|
|
|
|
|
Interest income
|
|
|
|
|
|
Credit card loans
|
$
|
3,226
|
|
|
$
|
—
|
|
|
$
|
3,226
|
|
Private student loans
|
182
|
|
|
—
|
|
|
182
|
|
PCI student loans
|
116
|
|
|
—
|
|
|
116
|
|
Personal loans
|
307
|
|
|
—
|
|
|
307
|
|
Other
|
45
|
|
|
—
|
|
|
45
|
|
Total interest income
|
3,876
|
|
|
—
|
|
|
3,876
|
|
Interest expense
|
611
|
|
|
—
|
|
|
611
|
|
Net interest income
|
3,265
|
|
|
—
|
|
|
3,265
|
|
Provision for loan losses
|
694
|
|
|
2
|
|
|
696
|
|
Other income
|
936
|
|
|
145
|
|
|
1,081
|
|
Other expense
|
1,712
|
|
|
88
|
|
|
1,800
|
|
Income before income tax expense
|
$
|
1,795
|
|
|
$
|
55
|
|
|
$
|
1,850
|
|
|
|
|
|
|
|
The Company has evaluated events and transactions that have occurred subsequent to
June 30, 2016
and determined that there were no subsequent events that would require recognition or disclosure in the condensed consolidated financial statements.