KeyCorp (KEY) 10-Q2023 Q1 Quarterly report

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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

FORM 10-Q

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If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐

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Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.

Introduction

This section reviews the financial condition and results of operations of KeyCorp and its subsidiaries for the quarterly periods ended March 31, 2023, and March 31, 2022. Some tables may include additional periods to comply with disclosure requirements or to illustrate trends in greater depth. When you read this discussion, you should also refer to the consolidated financial statements and related notes in this report. The page locations of specific sections and notes that we refer to are presented in the Table of Contents.

Throughout this discussion, references to “Key,” “we,” “our,” “us,” and similar terms refer to the consolidated entity consisting of KeyCorp and its subsidiaries. “KeyCorp” refers solely to the parent holding company, and “KeyBank” refers solely to KeyCorp’s subsidiary bank, KeyBank National Association. “KeyBank (consolidated)” refers to the consolidated entity consisting of KeyBank and its subsidiaries.

We want to explain some industry-specific terms at the outset so you can better understand the discussion that follows.

 

The acronyms and abbreviations identified below are used in the Management’s Discussion & Analysis of Financial Condition & Results of Operations as well as in the Notes to Consolidated Financial Statements (Unaudited). You may find it helpful to refer back to this page as you read this report.

From time to time, we have made or will make forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These statements do not relate strictly to historical or current facts. Forward-looking statements usually can be identified by the use of words such as “goal,” “objective,” “plan,” “expect,” “assume,” “anticipate,” “intend,” “project,” “believe,” “estimate,” “will,” “would,” “should,” “could,” or other words of similar meaning. Forward-looking statements provide our current expectations or forecasts of future events, circumstances, results or aspirations. Our disclosures in this report contain forward-looking statements. We may also make forward-looking statements in other documents filed with or furnished to the SEC. In addition, we may make forward-looking statements orally to analysts, investors, representatives of the media, and others.

Forward-looking statements, by their nature, are subject to assumptions, risks, and uncertainties, many of which are outside of our control. Our actual results may differ materially from those set forth in our forward-looking statements.

There is no assurance that any list of risks and uncertainties or risk factors is complete. Factors that could cause our actual results to differ from those described in forward-looking statements include, but are not limited to:

Any forward-looking statements made by us or on our behalf speak only as of the date they are made, and we do not undertake any obligation to update any forward-looking statement to reflect the impact of subsequent events or circumstances, except as required by applicable securities laws. Before making an investment decision, you should carefully consider all risks and uncertainties disclosed in our 2022 Form 10-K, Part II, Item 1A "Risk Factors" of this report, and any subsequent reports filed with the SEC by Key, as well as our registration statements under the Securities Act of 1933, as amended, all of which are or will upon filing be accessible on the SEC’s website at www.sec.gov and on our website at www.key.com/ir.

Our actions and results during the first quarter of 2023 support our corporate strategy described in the “Introduction” section under the “Corporate strategy” heading on page 49 of our 2022 Form 10-K.

The Consumer Bank serves individuals and small businesses throughout our 15-state branch footprint as well as healthcare professionals nationally through our Laurel Road digital brand by offering a variety of deposit and investment products, personal finance and financial wellness services, lending, student loan refinancing, mortgage and home equity, credit card, treasury services, and business advisory services. In addition, wealth management and investment services are offered to assist non-profit and high-net-worth clients with their banking, trust, portfolio management, life insurance, charitable giving, and related needs.

The Commercial Bank consists of the Commercial and Institutional operating segments. The Commercial operating segment is a full-service, commercial banking platform that focuses primarily on serving the borrowing, cash management, and capital markets needs of middle market clients within Key’s 15-state branch footprint. It is also a significant, national, commercial real estate lender and third-party servicer of commercial mortgage loans and special servicer of CMBS. The Institutional operating segment operates nationally in providing lending, equipment financing, and banking products and services to large corporate and institutional clients. The industry coverage and product teams have established expertise in the following sectors: Consumer, Energy, Healthcare, Industrial, Public Sector, Real Estate, and Technology. This operating segment includes the KBCM platform, which provides a broad suite of capital markets products and services including syndicated finance, debt and equity capital markets, derivatives, foreign exchange, financial advisory, and public finance. Additionally, KBCM provides fixed income and equity sales and trading services to investor clients.

The following discussion provides a summary of recent regulatory developments and should be read in conjunction with the disclosure included in our 2022 Form 10-K under the heading “Supervision and Regulation” in Item 1. Business and under the heading “II. Compliance Risk” in Item 1A. Risk Factors as well as the disclosure included in Part II, Item 1A. "Risk Factors" of this report.

Regulatory capital requirements

KeyCorp and KeyBank are subject to regulatory capital requirements that are based largely on the Basel III international capital framework (“Basel III”). The Basel III capital framework and the U.S. implementation of the Basel III capital framework (“Regulatory Capital Rules”) are discussed in more detail in Item 1. Business of our 2022 Form 10-K under the heading “Supervision and Regulation — Regulatory capital requirements.”

Under the Regulatory Capital Rules, standardized approach banking organizations, such as KeyCorp and KeyBank, are required to meet the minimum capital and leverage ratios set forth in Figure 1 below. At March 31, 2023, KeyCorp’s ratios under the fully phased-in Regulatory Capital Rules are set forth in Figure 1.

Revised prompt corrective action framework

The federal prompt corrective action (“PCA”) framework under the FDIA groups FDIC-insured depository institutions into one of five prompt corrective action capital categories: “well capitalized,” “adequately capitalized,” “undercapitalized,” “significantly undercapitalized,” and “critically undercapitalized.” In addition to implementing the Basel III capital framework in the United States, the Regulatory Capital Rules also revised the PCA capital category threshold ratios applicable to FDIC-insured depository institutions such as KeyBank, with an effective date of January 1, 2015. The revised PCA framework table in Figure 2 identifies the capital category thresholds for a “well capitalized” and an “adequately capitalized” institution under the PCA Framework.

As of March 31, 2023, KeyBank (consolidated) satisfied the risk-based and leverage capital requirements necessary to be considered “well capitalized” for purposes of the PCA framework. However, investors should not regard this determination as a representation of the overall financial condition or prospects of KeyBank because the PCA framework is intended to serve a limited supervisory function. Moreover, it is important to note that the PCA framework does not apply to BHCs, like KeyCorp.

Capital planning and stress testing

On June 23, 2022, the Federal Reserve announced the results of the supervisory stress test that it conducted of 34 BHCs having more than $100 billion in total consolidated assets (including KeyCorp). The Federal Reserve indicated that all BHCs subject to the stress test maintained capital ratios above the minimum required levels under

See Item 1. Business of our 2022 Form 10-K under the heading “Supervision and Regulation - Regulatory capital requirements - Capital planning and stress testing” for a discussion of other developments concerning capital planning and stress testing requirements.

Liquidity requirements

See Item 1. Business of our 2022 Form 10-K under the heading “Supervision and Regulation - Regulatory capital requirements - Liquidity requirements” for a discussion of liquidity requirements, including the Liquidity Coverage Rules.

Deposit insurance and assessments

On March 10, 2023, and March 12, 2023, Silicon Valley Bank (“SVB”) and Signature Bank (“Signature”) were closed by the state banking authorities in California and New York, respectively, and the FDIC was appointed as receiver of SVB and Signature. All deposits of SVB and Signature were transferred to bridge banks established by the FDIC under the systemic risk exception in the FDIA so that the uninsured deposits as well as the insured deposits of both banks were protected by the FDIC. Under the FDIA, the loss to the DIF arising from the use of the systemic risk exception must be recovered through one or more special assessments on insured depository institutions, depository institution holding companies, or both, as the FDIC determines to be appropriate. The FDIA requires the FDIC to consider the following factors in designing any special assessment: the types of entities that benefit from the action taken, economic conditions, the effects on the industry, and such other factors as the FDIC deems appropriate and relevant to the action taken. The FDIC indicated that it expects to issue a notice of proposed rulemaking for a special assessment related to the failures of SVB and Signature in May of 2023. KeyBank and KeyCorp may be subject to any special assessment that the FDIC adopts.

See Item 1. Business of our 2022 Form 10-K under the heading “Supervision and Regulation – FDIA, Resolution Authority and Financial Stability - Deposit insurance and assessments” for a discussion of other developments concerning deposit insurance and assessments.

See Item 1. Business of our 2022 Form 10-K under the heading “Supervision and Regulation - FDIA, Resolution Authority and Financial Stability - Resolution plans” for a discussion of other developments concerning resolution plans.

Volcker Rule

The Volcker Rule is discussed in detail in Item 1. Business of our 2022 Form 10-K under the heading “Supervision and Regulation - Other Regulatory Developments - Volcker Rule.” As of March 31, 2023, we are in the process of conforming and/or divesting certain indirect investments subject to the Volcker Rule.

Community Reinvestment Act

See Item 1. Business of our 2022 Form 10-K under the heading “Supervision and Regulation - Other Regulatory Developments - Community Reinvestment Act” for a discussion of developments concerning the CRA.

Supervision and governance

See Item 1. Business of our 2022 Form 10-K under the heading “Supervision and Regulation - Other Regulatory Developments - Supervision and governance” for a discussion of supervision and governance-related developments, including a discussion of the Large Financial Institution (“LFI”) Rating System.

Regulatory developments concerning COVID-19

Federal LIBOR transition legislation

Developments relating to climate change

On March 21, 2022, the SEC issued for public comment a proposal to amend its rules under the Securities Act of 1933 and the Securities Exchange Act of 1934 to require public companies (including KeyCorp) to provide detailed climate-related information in their registration statements and periodic reports. Among other things, the proposal would require public companies to disclose information about (i) climate-related risks that are reasonably likely to have a material impact on the company’s business or financial statements over the short-, medium- or long-term; (ii) the actual and potential impacts of such risks on the company’s strategy, business model, and outlook; (iii) the role of the board of directors in overseeing climate-related risks and management’s role in assessing and managing such risks; (iv) the impact of climate-related events and transitional activities on line items in the company’s consolidated financial statements as well as the financial estimates and assumptions used in the financial statements; and (v) the company’s direct greenhouse gas emissions, indirect emissions from purchased energy, and, if material, indirect emissions from the company’s value chain (which may include financed emissions in a bank’s loan portfolio). The financial services industry has not yet adopted a standardized methodology for banks to use to quantitatively measure indirect emissions from a bank’s value chain, such as financed emissions. Accordingly, this proposal would require many banks to quantify and disclose financed emissions on a comprehensive scale for the first time. Comments on the SEC’s proposal were originally due by May 20, 2022. The comment period was extended to June 17, 2022. On October 7, 2022, the SEC reopened the comment period on this proposal until November 1, 2022, due to a technological error that resulted in a number of public comments submitted through the SEC’s comment website not being received by the SEC.

On December 2, 2022, the Federal Reserve issued for public comment proposed principles that would provide a high-level framework for the safe and sound management of exposures to climate-related financial risks for large banking organizations supervised by the Federal Reserve, including BHCs with over $100 billion in total consolidated assets (such as KeyCorp). The proposed principles would cover six areas: governance; policies, procedures, and limits; strategic planning; risk management; data, risk measurement, and reporting; and scenario analysis. The proposed principles would also describe how climate-related financial risks can be addressed by banking organizations in connection with various specific risk categories, including credit risk, liquidity risk, operational risk, and legal/compliance risk. The proposal issued by the OCC, which would apply to national banks (such as KeyBank), is discussed in our 2022 Form 10-K. The FDIC’s proposal, which would apply to insured state nonmember banks, state-licensed insured branches of foreign banks, and state savings associations, was issued on March 30, 2022. The Federal Reserve indicated that it intends to coordinate with the other federal banking agencies in issuing any final guidance on this subject. Comments on this proposal were due by February 6, 2023. We are awaiting the final rulemaking.

See Item 1. Business of our 2022 Form 10-K under the heading “Supervision and Regulation - Other Regulatory Developments - Developments relating to climate change” for a discussion of other regulatory developments relating to climate change.

Computer-Security Incident Notification Requirements

See Item 1. Business of our 2022 Form 10-K under the heading “Supervision and Regulation - Other Regulatory Developments – Computer-Security Incident Notification Requirements” for a discussion of regulatory developments relating to computer-security incident notification requirements.

NYSE Proposed Clawback Listing Standards

On October 26, 2022, the SEC adopted final rules implementing the incentive-based compensation recovery (clawback) provisions mandated by Section 954 of the Dodd-Frank Act. The rules, which are set forth under new Rule 10D-1 of the Securities Exchange Act of 1934, as amended, directed U.S. stock exchanges to establish listing standards requiring listed companies to adopt policies providing for the recovery (or clawback), in the event of a required accounting restatement, of incentive-based compensation received by current or former executive officers where such compensation is based on the erroneously reported financial information (a “Clawback Policy”). Under the rules, a company must recover erroneously awarded incentive compensation “reasonably promptly” after such obligation is incurred. Rule 10D-1 also requires that the listing standards include disclosure requirements related to clawbacks.

On February 22, 2023, the NYSE and Nasdaq proposed new listing standards that are substantially identical to Rule 10D-1 under the Exchange Act. Consistent with Rule 10D-1, the proposed NYSE listing standards would require NYSE-listed companies, including KeyCorp, to (i) adopt and implement a compliant Clawback Policy, (ii) file the Clawback Policy as an exhibit to their annual reports, and (iii) provide certain disclosures relating to any compensation recovery triggered by the policy. Under the NYSE proposal, NYSE would suspend trading and commence delisting procedures when it determines that a listed company has not recovered compensation as required by its Clawback Policy reasonably promptly after such obligation is incurred.

The public comment period on NYSE’s proposed listing standards ended on April 3, 2023. The NYSE proposal will become effective when approved by the SEC, which can be no later than November 28, 2023. KeyCorp will be required to adopt a compliant Clawback Policy within 60 days of the effective date.

Following the failures of SVB and Signature and the resulting stress in the banking system, the Federal Reserve created a new Bank Term Funding Program (the “Program”) as an additional source of liquidity available to depository institutions that are in generally sound financial condition. The Program offers loans of up to one year to eligible depository institutions, which would pledge U.S. Treasuries, agency debt, mortgage-backed securities, or other qualifying assets valued at par as collateral. The Program will be in effect until at least March 11, 2024.

As a result of the failures of SVB and Signature in March 2023 and First Republic Bank in May 2023, representatives of federal banking agencies have indicated that consideration is being given to strengthening the oversight and regulation of large regional banks, in particular, those banks with between $100 billion and $250 billion in assets. The strengthened oversight and regulation may consist of new requirements imposed on such banking organizations, including additional capital, liquidity, stress testing, resolution planning, and long-term debt requirements. KeyCorp and KeyBank may be subject to any such new requirements that are adopted.

The expected issuance by the FDIC of a notice of proposed rulemaking for a special assessment related to the recent bank failures is discussed above under the heading “Supervision and regulation - Deposit insurance and assessments.”

Results of Operations

The following chart provides a reconciliation of net income from continuing operations attributable to Key common shareholders for the three months ended March 31, 2022, to the three months ended March 31, 2023 (dollars in millions):

One of our principal sources of revenue is net interest income. Net interest income is the difference between interest income received on earning assets (such as loans and securities) and loan-related fee income, and interest expense paid on deposits and borrowings. There are several factors that affect net interest income, including:

 

To make it easier to compare both the results across several periods and the yields on various types of earning assets (some taxable, some not), we present net interest income in this discussion on a “TE basis” (i.e., as if all income were taxable and at the same rate). For example, $100 of tax-exempt income would be presented as $126, an amount that, if taxed at the statutory federal income tax rate of 21%, would yield $100.

Figure 3 shows the various components of our balance sheet that affect interest income and expense and their respective yields or rates for the current periods and comparative year ago periods. This figure also presents a reconciliation of TE net interest income to net interest income reported in accordance with GAAP for each of those quarters. The net interest margin, which is an indicator of the profitability of the earning assets portfolio less cost of funding, is calculated by dividing annualized TE net interest income by average earning assets.

Key’s provision for credit losses was $139 million for the three months ended March 31, 2023, compared to $83 million for the three months ended March 31, 2022. The increase was largely driven by changes in the economic outlook.

As shown in Figure 4, noninterest income was $608 million, and represented 35% of total revenue for the first quarter of 2023, compared to $676 million, representing 40% of total revenue, for the year-ago quarter.

The following discussion explains the composition of certain elements of our noninterest income and the factors that caused those elements to change.

Trust and investment services income 

Trust and investment services income consists of brokerage commissions, trust and asset management fees, and insurance income. The assets under management that primarily generate certain trust and asset management fees are shown in Figure 5. For the three months ended March 31, 2023, trust and investment services income was down $8 million, or 5.9%, compared to the same period one year ago. This was primarily due to a decrease in average market performance informing fees and market decline impact on recurring fees.

Investment banking and debt placement fees

Service charges on deposit accounts

Service charges on deposit accounts decreased $24 million, or 26.4%, for the three months ended March 31, 2023, compared to the same period one year ago, driven by the new client friendly fee structure for NSF/OD fees and lower account analysis fees due to the interest rate environment.

Cards and payments income

Cards and payments income, which consists of debit card, prepaid card, consumer and commercial credit card, and merchant services income, increased $1 million, or 1.3%, for the three months ended March 31, 2023, compared to the same period one year ago.

Other noninterest income

Other noninterest income includes operating lease income and other leasing gains, corporate services income,

corporate-owned life insurance income, consumer mortgage income, commercial mortgage servicing fees, and other income. Other noninterest income for the three months ended March 31, 2023, decreased $19 million, or 9.2%, from the year-ago quarter, primarily due to a decrease in corporate services income stemming from lower loan fees and market-related adjustments in the prior period. Consumer mortgage income decreased $10 million, reflecting lower saleable volume and lower gain on sale margins. Partially offsetting the decrease was a $10 million increase in commercial mortgage servicing fees.

As shown in Figure 6, noninterest expense was $1.2 billion for the first quarter of 2023, compared to $1.1 billion for the first quarter of 2022.

The following discussion explains the composition of certain elements of our noninterest expense and the factors that caused those elements to change.

Personnel

Personnel expense, the largest category of our noninterest expense, increased by $71 million, or 11.3%, for the three months ended March 31, 2023, compared to the same period one year ago. The increases were driven by an increase of $36 million in severance and other costs related to expense actions, as well as higher salaries.

Other nonpersonnel expense

Other nonpersonnel expense includes net occupancy, computer processing, business services and professional fees, equipment, operating lease expense, marketing, FDIC assessment, and other miscellaneous expense categories. Other nonpersonnel expense for the three months ended March 31, 2023, increased $35 million, or 8.0%, from the year-ago quarter, driven by a $47 million increase in other expense, reflecting $28 million related to our expense actions and an increase in the base FDIC assessment rate of $9 million. Additionally, computer processing expense increased $15 million. Partially offsetting the increase in nonpersonnel expense was an $8 million decline in business services and professional fees, an $8 million decline in operating lease expense and a $7 million decline in marketing expense.

We recorded tax expense of $81 million for the first quarter of 2023 and $90 million for the first quarter of 2022.

Our federal tax expense and effective tax rate differs from the amount that would be calculated using the federal statutory tax rate; primarily due to investments in tax-advantaged assets, such as corporate-owned life insurance, tax credits associated with low-income housing investments, and periodic adjustments to our tax reserves.

Additional information pertaining to how our tax expense (benefit) and the resulting effective tax rates were derived is included in Note 14 (“Income Taxes”) beginning on page 151 of our 2022 Form 10-K.

Business Segment Results

Summary of operations

Summary of operations

Financial Condition

Commercial loan portfolio

Figure 8 provides our commercial loan portfolios by industry classification at March 31, 2023, and December 31, 2022.

Commercial and industrial loans totaled $60.6 billion at March 31, 2023, an increase of $918 million, or 1.5%, compared to December 31, 2022. The increase was broad-based and spread across most industry categories with Finance driving 45% of the increase.

recurring cash flows, with adequate, balanced cash reserves to support our balance sheet exposures through the economic cycle.

As shown in Figure 9, our commercial real estate loan portfolio includes various property types and geographic locations of the underlying collateral. These loans include commercial mortgage and construction loans in both Consumer Bank and Commercial Bank.