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3 Numbers That Are Off the Charts at Capital One

By John Maxfield - Sep 27, 2013 at 4:44PM

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Capital One's credit card-first mentality has both benefits and drawbacks.

Capital One (COF 1.74%), the longtime credit card issuer, isn't your typical bank.

Most banks buy credit card operations. Capital One, on the other hand, bought banks.

This credit-card-first mentality is apparent in a glance at the company's operating metrics. Take a look at the following table, which shows its return on equity and the five main levers it can lean on to influence profitability.

There are three things to note, here. In the first case, Capital One appears to be vastly superior at managing a portfolio of assets, as its net interest margin is twice that of its peers. The catch is that Capital One's portfolio is dominated by credit card loans, which yield more than residential mortgages or even commercial lines of credit.

But, and this is the second thing, this focus comes back to haunt Capital One, because credit card loans are significantly riskier: They're made to people with worse credit profiles and aren't backed by collateral. You can see this in the fact that the Capital One's credit losses (16.9%) are four times that of the industry median (4.2%).

Indeed, even some of the worst-performing lenders over the past few years don't come close to this. Take SunTrust Banks (STI) as an example. Since the second quarter of last year, 11.2% of its net revenue has been reserved for future loan losses. This is dramatically higher than it should be, but still more than five percentage points less than Capital One.

The final number that's off the charts at Capital One is its contribution from fee income. The Virginia-based bank generates only 19% of its net revenue before loan losses from non-interest sources. This compares to an industry median of 39%.

A more representative example is KeyCorp (KEY 0.61%), a regional lender headquartered in Ohio. Over the last 12 months, it generated 46%, or nearly half, of its revenue from alternative sources, including account maintenance fees, trust income, and revenue from mortgage banking activities.

The fear in this regard is that fee income is typically leaned on to generate revenue in hard times. If and when hard times hit, Capital One won't have this crutch.

At the end of the day, it's hard to argue with Capital One's double-digit return on equity. But at the same time, investors need to be aware of the risks lurking throughout its financial statements.

John Maxfield has no position in any stocks mentioned. The Motley Fool owns shares of KeyCorp. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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Stocks Mentioned

Capital One Financial Corporation Stock Quote
Capital One Financial Corporation
$108.18 (1.74%) $1.85
SunTrust Banks, Inc. Stock Quote
SunTrust Banks, Inc.
KeyCorp Stock Quote
$18.17 (0.61%) $0.11

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