Earnings Call Transcript - COF Q3 2021

Jeff Norris, Senior Vice President of Finance

Thanks very much, Keith, and welcome, everybody, to Capital One's Third Quarter 2021 Earnings Conference Call. As usual, we are webcasting live over the Internet. To access the call on the Internet, please log on to Capital One's website at capitalone.com and follow the links from there. In addition to the press release and the financials, we have included a presentation summarizing our third quarter 2021 results. With me today are Mr. Richard Fairbank, Capital One's Chairman and Chief Executive Officer; and Mr. Andrew Young, Capital One's Chief Financial Officer. Rich and Andrew will walk you through this presentation. To access a copy of the presentation and press release, please go to Capital One's website, click on Investors and click on Quarterly Earnings Release. Please note that this presentation may contain forward-looking statements. Information regarding Capital One's financial performance and any forward-looking statements contained in today's discussion and the materials speak only as of the particular date or dates indicated in the materials. Capital One does not undertake any obligation to update or revise any of this information, whether as a result of new information, future events or otherwise. Numerous factors could cause the actual results to differ materially from those described in forward-looking statements. For more information on these factors, please see the section titled Forward-Looking Information in the earnings release presentation and the Risk Factors section in our annual and quarterly reports accessible at Capital One's website and filed with the SEC. Now I'll turn the call over to Mr. Young. Andrew?

Andrew Young, CFO

Thanks, Jeff, and good afternoon, everyone. I'll start on Slide 3 of tonight's presentation. In the third quarter, Capital One earned $3.1 billion or $6.78 per diluted common share. Included in our results for the quarter was a $45 million legal reserve build. Net of this adjusting item, earnings per share in the quarter were $6.86. On a GAAP basis, pre-provision earnings were $3.6 billion, an increase of 7% relative to a quarter ago. Period-end loans held for investment grew $11.8 billion or 5% as we had strong loan growth across all of our businesses. Recall that we moved $4.1 billion of loans to be held for sale late in the second quarter so average loans in the third quarter grew more modestly at 3%. Revenue increased 6% in the linked quarter, largely driven by the loan growth I just described, coupled with margin expansion in our Card business. Operating expenses grew 3% in the quarter, with total noninterest expense increasing 6%. In addition to strong pre-provision earnings, the P&L was aided by a provision benefit in the quarter as record low charge-offs were more than offset by an allowance release. Turning to Slide 4. I will cover the changes in our allowance in greater detail. We released $770 million of allowance in the third quarter as the effects of continued strong credit performance and a reduction in qualitative factors drove a decline in allowance balance, which was partially offset by loan growth in the quarter. Turning to Slide 5. You can see our allowance coverage ratios continue to decline across all of our segments, driven by the factors I just described. Turning to Page 6. I'll now discuss liquidity. You can see our preliminary average liquidity coverage ratio during the third quarter was 143%. The LCR remained stable and continues to be well above the 100% regulatory requirement. Our liquidity reserves from cash, securities, and Federal Home Loan Bank capacity ended the quarter at approximately $124 billion, down $13 billion from the prior quarter as we continue to run off excess liquidity built during the pandemic. The 9% decline in total liquidity was driven by a modest reduction in the size of our investment portfolio and $8 billion in lower ending cash balances, which were used to fund loan growth and share repurchases. The decline in cash balances had an impact on our net interest margin, which I will discuss in more detail on Page 7. You can see that our third quarter net interest margin was 6.35%, 46 basis points higher than Q2 and 67 basis points higher than the year-ago quarter. The linked quarter increase in NIM was largely driven by four factors. First, the decline in average cash balances I just described; second, margin expansion in our Domestic Card business; third, loan growth in our Domestic Card business; and lastly, the benefit of one additional day in the quarter. Turning to Slide 8. I will end by covering our capital position. Our common equity Tier 1 capital ratio was 13.8% at the end of the third quarter, down 70 basis points from the prior quarter. Net income in the quarter was more than offset by an increase in risk-weighted assets and share repurchases. We repurchased $2.7 billion of common stock in the third quarter and have approximately $2.6 billion remaining of our current board authorization of $7.5 billion. At the beginning of the third quarter, we began operating under the Federal Reserve's stress capital buffer framework, resulting in a minimum CET1 capital requirement of 7% as of October 1. And however, based on our internal modeling, we continue to estimate that our CET1 capital need is around 11%. Before I turn the call over to Rich, let me describe a few items related to our preferred stock. On October 18, we announced our intention to redeem our outstanding preferred stock Series G and Series H in early December. As a result of the full quarter of recent issuances and a partial quarter of the planned redemptions, we expect fourth quarter preferred dividends to remain elevated at around $74 million. Looking ahead to Q1, we expect the run rate for preferred dividends to decline to approximately $57 million per quarter, barring additional activity. With that, I will turn the call over to Rich. Rich?

Richard Fairbank, CEO

Thanks, Andrew. I'll begin on Slide 10 with our Credit Card business. Strong year-over-year purchase volume growth and strong revenue margin drove an increase in revenue compared to the third quarter of 2020, and provision for credit losses improved significantly. Credit Card segment results are largely a function of our domestic card results and trends, which are shown on Slide 11. As you can see on Slide 11, third quarter Domestic Card revenue grew 14% year-over-year. Purchase volume for the third quarter was up 28% year-over-year and up 27% compared to the third quarter of 2019. And the rebound in loan growth continued with ending loan balances up $3.7 billion or about 4% year-over-year. Ending loans also grew 4% from the sequential quarter ahead of typical seasonal growth of around 1%. Ending loan growth was the result of strong growth in purchase volume as well as the traction we're getting with new account originations and line increases, partially offset by continued high payment rates. Payment rates leveled off in the third quarter, but remain near historic highs. The flip side of high payment rates is strong credit, and credit results remain strikingly strong. The Domestic Card charge-off rate for the quarter was 1.36%, a 228 basis point improvement year-over-year. The 30-plus delinquency rate at quarter end was 1.93%, a 28 basis point improvement over the prior year. The pace of year-over-year improvement is slowing, particularly for the delinquency rate. Domestic Card revenue margin was up 218 basis points year-over-year to 18.4%. Two factors drove most of the increase. Revenue margin benefited from spend velocity, which is purchase volume growth and net interchange outpacing loan growth, and favorable current credit performanceenabled us to recognize a higher proportion of finance charges and fees in third quarter revenue as well. This credit-driven revenue impact generally tracks Domestic Card credit trends. Total company marketing expense was $751 million in the quarter, including marketing in card, auto, and retail banking. Our choices in card marketing are the biggest driver of total company marketing trends. We continue to see attractive opportunities to grow our Domestic Card business. Our growth opportunities are enhanced by our technology transformation. Turning opportunities into actual growth requires investment. And once again, we're leaning further into marketing to drive growth and to build our franchise. At the same time, we're keeping a watchful eye on the competitive environment, which is intensifying. Looking ahead, we expect a sequential increase in total company marketing in the fourth quarter that's consistent with typical historical patterns. Pulling up, our Domestic Card business continues to deliver significant value as we invest to build our franchise. Slide 12 summarizes third quarter results for our Consumer Banking business. Consistent auto growth and strong auto credit are the main themes in the third quarter Consumer Banking results. Our digital capabilities and deep dealer relationship strategy continue to drive strong growth in our auto business. Driven by auto, third quarter ending loans increased 12% year-over-year in the Consumer Banking business. Average loans also grew 12%. Auto originations were up 29% year-over-year. On a linked quarter basis, auto originations were down 11% from the exceptionally high level in the second quarter. As we discussed last quarter, pent-up demand and high auto prices had driven a second quarter surge in originations across the auto marketplace. Third quarter ending deposits in the consumer bank were up $2.7 billion or 1% year-over-year. Average deposits were also up 1% year-over-year. Consumer Banking revenue increased 14% from the prior year quarter, driven by growth in auto loans. Third quarter provision for credit losses improved by $48 million year-over-year, driven by an allowance release in our auto business. Credit results in our auto business remained strong. Year-over-year, the third quarter charge-off rate improved 5 basis points to 0.18%, and the delinquency rate improved 11 basis points to 3.65%. Looking at sequential quarter trends, the charge-off rate increased from the unprecedented negative charge-off rate in the second quarter and the 30-plus delinquency rate was up 39 basis points from the second quarter, consistent with historical seasonal patterns. Moving to Slide 13, I'll discuss our Commercial Banking business. Third quarter ending loan balances were up 4% year-over-year, driven by growth in selected industry specialties. Average loans were down 2%. Ending deposits grew 18% from the third quarter of 2020, as middle market and government customers continue to hold elevated levels of liquidity. Quarterly average deposits also increased 18% year-over-year. Third quarter revenue was up 17% from the prior year quarter and 23% from the linked quarter. Recall that revenue in the second quarter was unusually low due to the impact of moving $1.5 billion of commercial real estate loans to held for sale. Commercial credit performance remained strong. In the third quarter, the commercial banking annualized charge-off rate was 5 basis points. The criticized performing loan rate was 6.9%, and the criticized nonperforming loan rate was 0.8%. Our Commercial Banking business is delivering solid performance as we continue to build our commercial capabilities. I'll close tonight with some thoughts on our results and our strategic positioning. In the third quarter, we drove strong growth in Domestic Card revenue, purchase volume, and new accounts. And loan growth is picking up. Credit remains strikingly strong across our businesses, and we continue to return capital to our shareholders. In the marketplace, the pandemic has clearly accelerated digital adoption. The game is changing from new and permanent shifts in virtual and hybrid work to more digital products and exceptional customer experiences to new fintech innovation and business models. The common thread throughout all of this is technology, and the stakes are rising faster than ever before. Competitors are embracing the realization that technology capabilities may be an existential issue. The investment flowing into fintech is breathtaking, and it's growing. We can see investors voting with their feet in stunning fintech valuations. And the war for tech talent continues to escalate, which will drive up tech labor costs even before any headcount increases. All these developments underscore the size of the opportunity for players who lead the way in transforming how banking works. And Capital One is very well positioned to do just that. We are in the ninth year of our technology transformation from the bottom of the tech stack up. We were in original fintech, and we have built modern technology capabilities at scale. But what is also clear in the marketplace is that the time frames for investment and innovation are compressing. The imperative to invest is now. We have been on a long journey to drive down operating efficiency ratio powered by revenue growth and digital productivity gains. Our journey will need to incorporate the investment imperative of the rapidly changing marketplace, and it is likely to pressure operating efficiency ratio along the way. Pulling way up, we're living through an extraordinary time of accelerating digital change. Our modern technology stack is powering our performance and our opportunity. It's setting us up to capitalize on the accelerating digital revolution in banking, and it's the engine that drives enduring value creation over the long term. And now we'll be happy to answer your questions. Jeff?

Jeff Norris, Senior Vice President of Finance

Thank you, Rich. We'll now start the Q&A session.

Ryan Nash, Analyst

So Rich, you talked about competition across the industry has intensified. You noted in both traditional players and fintechs. And yet, it seems like your strategy is working, as evidenced by the better-than-peer growth metrics and credit. So I was just wondering, can you maybe just talk about the competitive environment you're seeing out there? How does it compare to maybe the middle part of the last decade when we saw competition accelerate? And where do you think it goes from here? And then I guess, maybe wrap that in with what does it mean for growth for the company? And I have one follow-up question.

Richard Fairbank, CEO

Okay. Ryan, that’s a great question. Let me address the card competition, which is likely the focus of your inquiry. In the Domestic Card business, competition has certainly become more intense, particularly regarding rewards. Marketing and media activities are approaching pre-pandemic levels, and our competitors are actively investing in marketing and originations. Direct mail has returned to 2019 levels, and originations across the industry have also recovered, exceeding pre-pandemic numbers. Pricing remains generally stable. Our rewards programs have become more attractive, and we monitor that closely. We’ve noticed some modest increases in upfront bonuses, mostly through limited-time offers and travel as demand rises. Our rewards earn rates have also seen an uptick due to new product structures introduced recently, especially in the cashback sector. Additionally, there is a significant increase in activity with fintechs, such as buy-now-pay-later and installment lending, accompanied by remarkable levels of venture capital investment in that industry. This market reaction feels completely natural; if we didn’t observe these trends, I would be concerned. In light of this heightened competition, we still find good growth opportunities, aided by our technology transformation. We are closely monitoring the competition, wary of any adverse selection that may arise, and we are underwriting with the expectation of higher future losses. As for comparing this to the last decade, competition in the credit card sector really began to escalate around the middle of the last decade. During that period, we noticed significant spending on marketing and robust originations, though some behaviors we observed then were concerning, such as looser underwriting practices that did not serve customers' best interests. Our loan growth slowed in the card business as we adjusted in response to what we deemed excessive competition, which we felt could lead to increased origination costs and affect credit quality. Currently, we do not believe we are facing such a moment. We must remain vigilant as competitors amplify their growth efforts, but I believe the marketplace is favorable for us right now. Capital One sees promising opportunities, and with our experience, we will remain alert to any signs of overreaching.

Ryan Nash, Analyst

And if I can just ask one quick follow-up. I know credit is as good as it's ever been. And I know you don't have a crystal ball, but yours is probably better than mine. So I was wondering that given that this downturn has been like no other, how are you thinking about the trajectory of credit over an intermediate time frame? Do you think we could run well below normal for an extended period of time? Or do you think there is the risk of fast normalization as the industry has become more concerned about?

Richard Fairbank, CEO

I believe we are currently in an extraordinary position regarding credit, both in the industry and at Capital One. This applies not only to our Credit Card business but throughout the company. As we consider future developments, it’s important to analyze the factors influencing our current situation. The significant consumer support provided by government stimulus has played a role, although its impact is primarily behind us now. However, there are still some residual benefits for consumer balance sheets. It’s crucial to observe how credit performs without that support moving forward. Additionally, we have seen widespread industry forbearance, and consumers have generally acted rationally during this uncertain period by saving more, spending less, and reducing debt. Moreover, the labor market has remained strong this year, with high demand for workers and steady wage growth, which should help sustain consumers as government stimulus fades away. Looking ahead, it seems likely that credit losses will rise from the particularly low levels we’ve seen recently. However, I feel more confident about predicting this change along with its timing. We’re monitoring for signs of normalization; card delinquencies have modestly increased in August and September, which is typical for this season. Overall, it’s a strong period, and most banks are benefiting from this strength and seizing their opportunities. At Capital One, our prospects are especially promising due to our technological foundations. Nonetheless, we remain vigilant for the normalization that will inevitably occur. When this happens, it's a normal part of the cycle and not necessarily alarming. In fact, it would be surprising if it didn’t happen. We will remain attentive to any extreme behaviors while continuing to embrace our opportunities.

Moshe Orenbuch, Analyst

Great. Rich, you talked a lot about the competitive dynamic in the credit card industry and talked about some steps you're taking from an underwriting standpoint to kind of make up for that. Could you talk a little bit about how you think about the ability to expand credit lines for your customers? Because that's always been a big factor in terms of generating kind of ongoing loan growth and strong spreads. I do have a follow-up question.

Richard Fairbank, CEO

Yes. As you know, we have been discussing our ongoing originations from previous years, even when we approached the market with caution due to the prevailing environment. We often describe this as a coiled spring effect. Our philosophy is to continue strengthening our fundamental operations and then expand our offerings as we see evidence of a robust marketplace and strong individual customers. We are gradually increasing credit lines, which won't be dramatic but aligns with our overall approach. This will serve as an additional boost to our loan growth.

Moshe Orenbuch, Analyst

Got it. As a follow-up, you mentioned the potential pressure on the efficiency ratio. With your strong revenue growth, it seems like that should help in funding investments. Can you discuss what factors might cause the efficiency ratio to be under pressure at certain times versus times when it could improve?

Richard Fairbank, CEO

Yes. Revenue growth is crucial for improving the efficiency ratio. While many companies focus on reducing costs to achieve a sustained efficiency ratio improvement, we believe in investing in technology and growth opportunities to drive revenue growth. This, combined with digital efficiencies, can lead to long-term enhancements in our efficiency ratio. We've experienced about a 400 basis point improvement from 2013 to 2019, although the pandemic disrupted this momentum. I mentioned the pressures on the cost side arising from the rapid digital transformation affecting the market and the hastening need for investment and innovation. Both new and traditional competitors are recognizing the necessity to invest in technology, leading to a fierce competition for tech talent, which has become the most intense talent race I’ve encountered in my thirty years at Capital One. This situation is disappointing because it increases tech costs without offering direct benefits. Regarding fintechs, investments in them have topped $90 billion in the first three quarters of this year, projected to hit $120 billion annually—more than double last year’s amount. These figures are staggering and indicate that our industry is under significant pressure as we respond to this development. They also suggest that banking is ready for transformation, a view we've held for many years. Therefore, it’s essential to invest in technology and leading digital products to secure a competitive edge, and time is of the essence. We are well-positioned to seize market opportunities, having invested for years to create a modern tech foundation, with a strong history in big data and analytics and a sizable customer base and national brand. I’m confident in our position and prospects, but we must continue investing to take advantage of these opportunities. The pressures on the efficiency ratio stem from two primary factors connected to the rapidly evolving marketplace: rising tech wages and the accelerated need for innovation throughout the industry. We want investors to know that we are committed to leveraging this opportunity, even though these factors may pressure the efficiency ratio. Overall, while the investment challenge relates to enhancing growth and building our franchise, it also focuses on driving greater efficiency.

Betsy Graseck, Analyst

Rich, I wanted to understand in the spend numbers that you generated in the quarter. Just wanted to get a sense as to what you're seeing in terms of where there's been change at the margin? Has this spend been accelerating in any specific type of customer, maybe the higher end or the starter routers? And then the degree to which you think that's sustainable here going forward, what are you sensing in terms of spend trajectory from here? And then I have a follow-up. Could you hear me, okay?

Andrew Young, CFO

Betsy, this is Andrew. I can hear you, but we had Rich on mute for a second.

Richard Fairbank, CEO

I was on mute, sorry. Let me start over, Betsy. It was very eloquent. I can't repeat what I said now, but the growth in spending is noticeable across all customer segments, from mass market to our high spenders. Almost every category of spending has increased compared to last year and two years ago. The only area that is catching up compared to two years ago is travel and entertainment, which is now back on track. However, our overall purchase volume is up 27% compared to 2019, indicating that most other categories are significantly advancing. This reflects trends in the marketplace, as well as the strong traction Capital One is gaining in spending across our business. Our marketing efforts and product development have been designed to cultivate a strong spending franchise, and our recent results demonstrate that success. While I won’t provide specific guidance on future trends, the momentum seems promising. Consumers appear to be compensating for lost time during the pandemic, leading to higher spending levels. As we move forward, we anticipate maintaining strong momentum in the marketplace. The growth in purchase volume contributes positively to Capital One's overall growth, which, like other banks, is still somewhat affected by high payment rates. However, we are pleased to see that outstanding growth began to pick up in the recent quarter.

Betsy Graseck, Analyst

That's helpful. My other follow-up question relates to how you view not just the cost per account, but also the value of that account and the timeline for reaching run rate. I bring this up because you earlier mentioned that competition is intense. Someone might conclude from this call that the cost to acquire an account is rising, but what about the value of those accounts reaching full run rate? How do you perceive that in the current environment compared to the past? Is it still around a 12- to 18-month timeframe, or given the current job growth and inflation trends, could there be a longer delay in realizing the value of the accounts you are acquiring now?

Richard Fairbank, CEO

The time it takes to pay back for any originations we make varies by segment. We have been investing for years, not only in marketing but also in building the Capital One brand and creating exceptional technology and customer experiences. We are experiencing the benefits of our investment in the franchise. We mentioned that we are leaning into marketing, which we are actively pursuing. We see good opportunities where we have invested over the years. Despite increasing competition, we maintain good origination traction and a reasonable cost per account originated compared to our historical standards. We are pleased with the early performance of our new accounts, indicating that their value should be strong. Therefore, we see opportunities to continue as we have and monitor market changes on a segment-by-segment basis. For now, we believe the opportunities are favorable, and the return on our growing investment is positive.

Rick Shane, Analyst

Rich, look, you've been very clear about the opportunity, generally speaking, in terms of technology. When we think about technology, I think there are probably four places or four opportunities. It's product, it's customer experience, it's back office, and it's potentially underwriting and adding value there. I'm curious, when you think about those four factors or those four elements, where you see the biggest opportunity to enhance return? And are you seeing misuse of technology and people driving bad decisions or bad outcomes on any of these factors?

Richard Fairbank, CEO

Hello, Rick. The areas you've highlighted indeed represent significant opportunities. I believe the possibilities extend even further than what you've mentioned, but I definitely concur with the four you identified: products, customer experience, back office, and underwriting. Let's consider some real opportunities for us. Firstly, I want to emphasize that what I'm discussing builds on our modern technology infrastructure, which we are enhancing to create exceptional capabilities and solutions. For instance, our new marketing platforms utilize real-time big data to engage more customers with tailored offers, thereby improving conversion rates. Our updated credit decision-making platforms allow us to incorporate more data and advanced machine learning algorithms for better credit evaluations. Additionally, our new fraud prevention system helps us authorize more transactions while simultaneously reducing fraud-related expenses. It's worth taking a moment to discuss fraud. Although investing in fraud prevention is crucial to lowering costs, it also presents opportunities related to customer experience and business growth. For example, in the credit card space for high spenders, ensuring that the card consistently works is vital in a competitive market, which yields substantial benefits. Furthermore, in establishing a national digital bank, our strong fraud prevention measures have facilitated a smooth account opening process nationwide, despite the online fraud risks that can arise. Shifting to risk management, an essential function within banking, our goal is to automate our risk management processes, allowing for full-time, real-time monitoring instead of relying on periodic sampling. This transformation brings numerous advantages. As for enhancing customer experiences, we are expanding our franchises in addition to our core card business and improving flagship card experiences. Products like Capital One Shopping and CreditWise, as well as innovative offerings in the auto industry, such as Auto Navigator, are examples of what we're achieving. This tool provides real-time underwriting for any vehicle nationwide, letting customers know their financing terms before visiting a dealership — an initiative we’ve successfully promoted on national television. We're also advancing in our card partnership sector, where we are winning opportunities as more retailers emphasize digital capabilities in their strategies. Our partnership with leaders like Snowflake, whom we count as our largest customer, has allowed us to gain early stakes while leveraging cutting-edge data management for our internal innovations. On the operational front, we are automating processes to mitigate risks and cut costs. Our investments in modern technology are facilitating reductions in legacy tech expenses, leading to greater efficiencies. Overall, with the benefit of digital productivity gains, we're boosting our speed to market and revenue generation. These growing prospects are creating a positive cycle that attracts top tech talent, further accelerating our progress. Beyond your initial four areas, our technology transformation is significantly enhancing Capital One’s trajectory by driving growth, increasing efficiency, improving risk management, strengthening our brand, and solidifying our appeal as a premier destination for talent. We are optimistic about our position and recognize the need to capitalize on opportunities as industry time frames continue to contract. Thank you for your question, Rick.

Bill Carcache, Analyst

Rich, I wanted to ask specifically about your high-spending transactor business. Are you seeing evidence of the larger banks demonstrating a willingness to go underwater on credit card rewards with the hope of driving engagement and winning business in other areas like wealth management and mortgage? And if so, how do you see these dynamics playing out across the industry in general and Capital One in particular?

Richard Fairbank, CEO

The competition in rewards is quite fierce. We notice this in the marketing efforts, as everyone is aiming for more presence in this area. The product offerings and overall rewards continue to be very competitive. Recently, banks have been updating their products in the market with better rewards, not just in the cash back segment but also at the high end with premium rewards cards. While we operate on tight transaction margins because of market conditions, this is beneficial for consumers. Top banks have transferred many advantages to consumers. I would be surprised if our major competitors at the higher end are losing money on each transaction and trying to recover losses through volume in other areas. There may be some isolated cases of this, but the leading players, including us at Capital One, have invested for years in brand, digital capabilities, customer experience, and reliable card services. This approach allows us to compete beyond just rewards, though they remain important for top players. Ultimately, it’s about creating a sustainable franchise, and I believe that’s what we have at Capital One. A small number of players are making long-term investments to achieve this position, and this benefits all of us.

John Pancari, Analyst

Just on the expense side, I know you indicated on the marketing side, you expect a sequential quarter increase in the fourth quarter, consistent with the historical trends. If you look at it, going back, you're seeing anywhere between $100 million to $300 million linked quarter increase in the fourth quarter in marketing costs. So just wanted to try to get an idea if you can maybe help us size that up. And then one separate thing on the expense side. The efficiency ratio longer-term implication of the IT investment. Just wondering if there's any way to think about what that could interpret into in terms of an impact on the ratio on that operating ratio.

Andrew Young, CFO

John, I'll answer the first question and then hand it over to Rich for the second one. As you mentioned, in the fourth quarter, we usually see a seasonal increase due to volumes and various additional items. Rich has discussed our investments in technology and compensation. While I'm not providing explicit guidance, if you refer to historical trends, there's a lot that indicates where we might be headed in the near term. Rich also addressed our investments over time and how they will influence various factors across the profit and loss statement, including revenue growth related to fraud and other elements. That's how I view the short to medium term. Now, I'll let Rich respond to your second question.

Richard Fairbank, CEO

Yes, John, we announced years ago that the tech transformation we were undertaking would involve higher costs initially, but we anticipated that this transformation and the resulting growth in the marketplace would ultimately improve our operating efficiency in the long run. This improvement has become a crucial element of our value proposition for investors in Capital One. We have already witnessed significant enhancements in our operating efficiency. I mentioned the pressures from increasing tech labor costs and the necessity to invest. While rising labor costs do not directly create value, they do incur expenses. The investment opportunities we are pursuing align with our foundational strategy of enhancing operating efficiency, which is essential for driving more growth over time. By continuing to embrace our tech transformation and focusing on investments at the top of the tech stack, we can capitalize on growth opportunities. We remain committed to improving our efficiency ratio and recognize that our investment strategy plays a critical role in achieving our goals.

John Pancari, Analyst

And then on the credit front, on delinquency trends, just wanted to see if you can talk a little bit about if you're seeing any changes in the lower FICO bands in terms of delinquency trends. We've been seeing that at a couple of other players that they're seeing some pressure on the lower FICO and non-prime areas? Are you seeing anything there, any evidence of upside pressure that would not be otherwise seasonally evident?

Richard Fairbank, CEO

Yes, John. I think that most of what we see tends to be more in the range of normal. But I would be the first to argue that subprime customers have certainly had a number of benefits in the marketplace that, that over time will and are going away. So it would be a natural thing. Normalization is a very natural thing across the board. It would certainly be a natural thing there. We watch all these trends carefully. What we've seen in both card and auto would really be in the category of both seasonal and normal. But I wouldn't draw any big extrapolations from that, just more of an observation of what we see at this point.

Sanjay Sakhrani, Analyst

I guess I have one big picture question for Rich. Obviously, a big topic in the fintech world is embedded banking and how big tech companies might be the central hub for consumers rather than what currently might be the bank app? I know you're making sizable investments to compete, but do you think there's inevitability that behavior shifts towards these aggregators?

Richard Fairbank, CEO

Sanjay, that’s an excellent question. For many years, we've prioritized this strategic issue in our thinking. Since we've observed how, in China, tech apps have integrated all aspects of life, including finances, we recognize it as a significant example of tech firms dominating the front end of banking. The concern is that these companies could overshadow banks, relegating them to utility roles behind the scenes. This has been a critical focal point for us over the years, and we continue to see momentum in both tech companies and banks. On the tech side, we observe growing engagement in various forms of aggregation, far beyond just budgeting apps. This includes a diverse range of consumer needs. With the substantial customer base and engagement capabilities that tech companies possess, coupled with their traction in aggregation, it’s essential for us to pay attention to these developments. There appears to be a competitive race between tech companies and traditional banks regarding who will dominate the front end of banking. Our goal has long been to transform our technology to ensure we can compete effectively, aiming to match the capabilities of leading tech firms so we can develop software and deliver services with the agility of a modern tech company. At Capital One, we have seen significant progress, including growth in our online and mobile customer base, as well as increased engagement and interactions with our services. The traditional banking model was reactive—responding to customer requests when they visited branches. However, technology allows us to be proactive, monitoring customers' finances when they aren't, offering timely insights and guidance. Our recent TV advertisements have focused on real-time alerts to help customers manage their money more effectively. The competition, as you noted, is intensifying, which motivates us to invest. We are confident in our strategy to not only attract more customers but to also establish Capital One as an integral part of our customers' financial lives, ensuring we remain relevant where their attention is focused.

Andrew Young, CFO

Sanjay, you're addressing the main drivers. When comparing card to the corporate side, there are four key factors that influenced card yield this quarter. Rich mentioned the benefits from credit, and we noticed a slight increase in delinquencies during the third quarter, consistent with seasonal patterns, which positively affects late fees. Additionally, we observed seasonally higher revolve rates and the impact of the day's count in the quarter as significant contributors to card yield. When I analyze these factors, it's important to distinguish between those that are seasonal and those influenced by broader economic conditions versus underlying trends. I'll shift focus to provide a corporate perspective on net interest margin, as you've highlighted other aspects that impact us at the corporate level, including a decrease in cash across the company being offset by card growth. These elements, combined with the higher card yield I just mentioned, really benefitted us this quarter. Looking ahead, ongoing normalization of cash and growth in revolving card balances could support net interest margin, while potential headwinds may arise from persistently high payment rates or a decrease in card yield. We'll need to see how these factors balance out moving forward.

John Hecht, Analyst

I have a question about growth opportunities. Are you observing better arbitrage or competitive advantages between revolvers and transactors, or between subprime and prime? Please address this in relation to both cards and auto.

Richard Fairbank, CEO

I don't see any particular segment that stands out. At Capital One, we have been strategically focusing on migrating toward the transactor side of the business for several years. We're not neglecting other areas, but we are significantly investing and enhancing that side. The growth in purchase volume shows the benefits of this strategy. We have also discovered that emphasizing the transacting side, even for revolvers, generates more transactions and contributes to a healthier prime and subprime portfolio. Our growth opportunities are broad-based, although competition remains intense. Regarding the auto business, there are a few key factors that are currently aligning, creating exceptional performance in terms of growth, revenue, and credit. Given this strength, we are cautiously observing competitive pressures. I believe the auto sector is more susceptible to competitive disruptions than the card sector because of the dealer's role in transactions. We're carefully monitoring the competitive landscape, which now includes increased competition from large banks, credit unions, and independent lenders across all credit segments. This competition is evident in pricing, underwriting, and loan terms, as many lenders have expanded their credit criteria beyond pre-pandemic levels. As this competitive environment evolves, we're committed to executing our strategy with discipline, maintaining resilience, and adapting to market conditions. In our underwriting approach, we have taken conservative assumptions, anticipating a rapid normalization of vehicle values to sustainable levels. The auto sector currently faces two opposing trends. There is increasing competition, driven by strong returns that other players want to capture. We remain vigilant to ensure that sound underwriting practices prevail in the market. Meanwhile, we are leveraging our technological capabilities in the auto sector, such as Auto Navigator, and our relationships with dealers, who rely on our technology to improve underwriting and sell vehicles more efficiently. These dual forces have allowed us to achieve strong results in the auto business, but we must remain cautious about future market conditions and recognize that the current favorable alignment of factors may not last indefinitely.

Kevin Barker, Analyst

Just to follow-up on some of the competitive dynamics that you speak about, especially for fintechs. I mean, have you considered possibly more radical change? Whether it's acquiring the fintechs in order to accelerate your growth or your competitive position in the market or potentially trying to develop more radical efficiencies within Capital One in order to spend to address the competitive environment within fintech?

Richard Fairbank, CEO

I apologize for being on mute and appreciate your question, Kevin. As we've mentioned before, scale is very important in the banking industry. I’ve always believed in the power of scale, especially considering my three-decade journey with Capital One, but it has been challenging since we often lacked scale. Many banks are now focusing on acquiring other banks to gain scale, but at Capital One, we are not pursuing bank acquisitions. Instead, we are committed to building a national digital bank, which we believe will be an organic effort. While no company has successfully built one organically before, we are optimistic about our progress. Our acquisition strategy is directed towards technology companies and fintechs, which I highlighted earlier. We have successfully acquired tech companies that align with our technological needs and enhance our capabilities, and we are also interested in fintechs. We recognize the high valuations these companies achieve, so we aim to be patient investors while studying the fintech market closely. We are inspired by their innovations and often collaborate with them, sometimes taking stakes or making acquisitions. Capital One is well-positioned as a fintech acquirer due to our technology infrastructure. Most modern fintechs operate on the cloud, and their tech talent closely resembles ours. Our cultural emphasis on data and analytics has been a core focus since our founding, giving us a competitive advantage in acquisitions. Over the years, we've looked at fintechs and made a few acquisitions, and we are pleased with the results.

Jeff Norris, Senior Vice President of Finance

Well, I think that concludes our earnings call for this evening. Thank you for joining us on the conference call today, and thank you for your continuing interest in Capital One. Remember, the Investor Relations team will be here this evening to answer any further questions you may have. Have a great night.

Operator, Operator

Ladies and gentlemen, this concludes today's conference. We appreciate your participation. You may now disconnect.