Consumer lender Providian (NYSE:PVN) was fined $300 million for "fraudulent practices" back in 2001 -- a big blow to the image of the onetime Wall Street darling.
Since then, company officials have been working to turn its loan portfolio around and rebuild its reputation. Judging from its most recent earnings report, Providian seems to be back on track and heading in the right direction.
Earnings themselves, though, aren't the only focus for a financial company like Providian. Equally important for investors is the company's asset and liability management, along with the composition of that earnings stream.
I'll explain.
Banks are required to hold a certain amount of money against the loans that they make. The actual amount held depends on type of loan and the amount of the loan portfolio. This amount held is to insulate the bank and, more importantly, its owners against credit losses -- hence the name "loan loss reserves."
Providian cut its loan loss reserves by $34 million for the quarter and $100 million for the year. While this number can be manipulated, there is no sign that this number declined for any reason other than increased loan quality.
Funding mix is important, too; the cheaper the bank can access capital (banks usually do this through selling loans, known as securitization, or acquiring deposits), the more money it can make. Deposits are generally the more expensive way to access capital, even in times of low interest rates.
Over the past year, Providian's "deposits/total funding" fell 2.5%. Total funding here represents the amount of deposits and the amount of securitized loans. This number has been falling for the past two years, a sign that the lender is cheapening its borrowing costs. Providian CEO and Chairman Joe Saunders specifically stressed during the earnings call that financing costs are now in line with pre-sanction costs.
Subprime banks and lenders make the vast majority of their profits by fees. How subprime a lender is can be inferred by looking at how much of its net income is fee income; the more fee income, the lower credit quality of its borrowers. Providian, like CompuCredit (NASDAQ:CCRT) and Metris (NYSE:MXT), is considered a subprime lender. While Providian's fee income still far outpaces its interest income, the gap is shrinking, possibly a sign that Providian is indeed migrating toward a higher-credit-quality borrower.
From the liability management perspective, Providian is improving credit quality and lowering borrowing costs, which should help profitability this year. I'd say this earnings release demonstrates that Providian is doing the right things to improve profitability.
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Fool contributor David FitzMaurice owns none of the stocks or funds mentioned in the article. The Motley Fool is investors writing for investors.
