DBRS Comments on Associated Banc-Corp’s 4Q10 Results – Senior at BBB Unchanged; Trend Still Negative

DBRS has today commented on the 4Q10 results of Associated Banc-Corp (Associated or the Company). Associated reported a second consecutive quarterly profit with net income to common shareholders of $6.6 million for the fourth quarter, down from $6.9 million in 3Q10. Associated remained profitable in the quarter thanks to an $8 million tax benefit despite reductions in revenues and income before provisions and taxes (IBPT), which continue to be pressured by the low rate environment, the impact of regulatory changes on key fee lines and sluggish loan demand. IBPT was $68.7 million in 4Q10, down 15% from $79.2 million last quarter. Positively, credit quality continued to improve as the Company sold or resolved $163 million of nonperforming loans. Additionally, leading credit indicators suggest ongoing improvement in credit and the provision declined slightly in the fourth quarter.

In DBRS’s view, Associated’s results reflect the progress the Company has made in dealing with its significant asset quality challenges, but they also highlight the difficulty the Company faces in restoring profitability to pre-crisis levels. Compounding the challenge of revenue growth is the upward pressure being exerted on expenses by Associated’s ongoing investment in certain areas, as management looks to the future and works to reposition the bank as one less reliant on commercial real estate and construction lending and with a more balanced risk profile. Provisioning, while down considerably from peak levels, continues to consume a substantial percentage of IBPT. In 4Q10 provisions of $63 million represented 92% of quarterly IBPT, up from 81% in the third quarter. Associated’s current ratings and trend reflect the challenges facing the Company and consider the likelihood that IBPT will remain under pressure in the current environment. Positively, the Company expects provisioning and charge-offs to decline further in 2011. However, core fee revenues are also likely to decline further from 2010 levels. As a result, Associated’s ratings, including its Issuer & Senior Debt rating of BBB, and the Negative trend on all ratings remain unchanged. Further sustained deterioration in core profitability or a reversal of the positive credit trends, which DBRS sees as less likely given the current economic outlook, could have negative rating implications. On the other hand, a return to historic levels of provisioning coupled with improved IBPT performance could result in the trend on Associated’s ratings reverting to Stable.

Associated’s quarterly revenues declined slightly from 3Q10 to $235.6 million in 4Q10. The modest decline was driven by net interest income, which fell 2% due to lower levels of earning assets as Associated reduced its excess liquidity somewhat in the quarter. About $1.1 billion of higher cost non-relationship deposit funding was managed out in 4Q10 which benefited the NIM, but reduced overall levels of earning assets. The NIM was 3.13% in the fourth quarter, up 5 bps from 3Q10. The loan portfolio increased 2% from last quarter to $12.6 billion at year end as Associated retained more if its mortgage production, offsetting further declines in construction and CRE lending. Home equity balances and C&I lending were also up again this quarter.

Total fee revenues for the fourth quarter were $84.7 million, up from $81.9 million last quarter thanks to another strong quarter for mortgage banking and higher capital markets fees. Core fee lines, however, declined for a consecutive quarter, driven by Reg E related reductions to service charges on deposits. Fourth quarter core fee revenues were $57.3 million, down 5.5% from 3Q10. Given the impact of Reg E and changes to consumer behavior and with the Durbin Amendment scheduled to take effect in 2H11, fee revenues are likely to remain under pressure. Associated indicated 2011 noninterest income could be down about 10% from 2010 levels.

Key from DBRS’s perspective, credit continues to improve. The Company was able to reduce nonperforming CRE and construction balances in the quarter by selling or resolving an additional $163 million of nonperforming loans (NPLs). This followed last quarter’s sale of $199 million of NPLs. As a result, total NPAs declined 20.8% from the end of 3Q10 to $618.7 million. At year end, total NPAs represented a still high 4.89% of loans plus OREO, though this was an improvement from 6.29% at the end of last quarter and 8.07% at the end of 2009. Potential problem loans and early stage delinquencies declined for the fourth consecutive quarter (down 14.9% and 3.5%, respectively), supporting the view that credit costs and provisions should continue to improve. Quarterly net charge-offs (NCOs) of $108.2 million included $42 million of charges related to the sale of nonperformers and were down 1.5% from 3Q10. At year-end, Associated’s reserve coverage was adequate in DBRS’s view. The allowance for loan losses represented 3.78% of year-end loans and 83% of nonaccrual balances.

Funding and liquidity remain sound, in DBRS’s view, with deposits funding the entire loan portfolio. The Company’s current high capital levels, including an estimated Tier 1 common equity ratio of 12.26% and an estimated Tier 1 ratio of 17.58%, give Associated increased flexibility as it works through its asset quality problems and executes on its strategic initiatives. These levels also enable the Company to keep its subsidiary comfortably in compliance with its MOU-stipulated capital requirements. DBRS noted that, at year end, Associated’s $525 million of TARP preferred shares remain outstanding.

Notes:
All figures are in U.S. dollars unless otherwise noted.

The applicable methodologies are Global Methodology for Rating Banks and Banking Organizations, Enhanced Methodology for Bank Ratings – Intrinsic and Support Assessments, Rating Bank Subordinated Debt and Hybrid Instruments with Discretionary Payments, and Rating Bank Preferred Shares and Equivalent Hybrids which can be found on the DBRS website under Methodologies.

The sources of information used for this rating include the company documents, the Federal Deposit Insurance Corporation and SNL Financial. DBRS considers the information available to it for the purposes of providing this rating was of satisfactory quality.

Lead Analyst: William Schwartz
Initial Rating Date: 14 January 2010
Most Recent Rating Update: 14 January 2010

For additional information on this rating, please see the linking document below.