DBRS Comments on KeyCorp’s 1Q12 Earnings; Sr. at BBB (high), Unchanged; Trend Stable

DBRS, Inc. (DBRS) has today commented that its ratings for KeyCorp (Key or the Company), including its BBB (high) Issuer & Senior Debt ratings are unchanged after the announcement of the Company’s first quarter 2012 earnings. For the quarter, Key reported net income available to common shareholders of $194 million, which remained flat with the prior quarter, but up 12.1% from $173 million reported in 1Q11.

DBRS sees 1Q12 financial results as reflecting a quarter of good measured progress for Key, with solid credit performance, well-managed expense controls, and net interest margin (NIM) expansion in what is still a challenging economic environment. As a result, on a linked-quarter basis, the Company reported solid revenue growth and expense contraction. Importantly, average loan balances continued to grow moderately in the quarter driven by a 7.2% linked-quarter increase in average commercial, financial, and agricultural (CF&A) loans, which marked the fourth consecutive quarter of growth for this portfolio.

Core revenue growth remains a challenge for Key with its sizable runoff portfolio and the difficult business environment. Nonetheless, DBRS-calculated income before provisions and taxes (IBPT) adjusted for one-time items improved 13.9% over the quarter to $328 million from growth in revenues and improvements in expense. Fee income growth of 14.0% over the quarter to $472 million drove revenue growth with a $14 million net gain from early termination of a leverage lease, a $43 million improvement in net gains from principal investing, and a $19 million improvement in investment banking and capital markets income. Partially offsetting the positive variances were decreases in corporate-owned life insurance, lower levels of gains on loan sales, and various other items.

For the quarter, net interest income of $553 million decreased marginally by 0.72% from $557 million recorded in 4Q11 as a result of the early termination of a leverage lease. Average earning assets declined $992 million, or 1.4%, to $71.4 billion driven by lower short-term investment balances. Nonetheless, as the balance of lower yielding short-term investments decreased, NIM improved 3 bps to 3.16%. Over the near term, DBRS notes that Key’s NIM will benefit from maturing higher cost certificates of deposits, yet will be pressured by higher levels of short-term liquidity from deposit flows, especially when the First Niagara branch acquisition ($2.4 billion in deposits, $400 million in loans) closes in 3Q12.

DBRS comments that noninterest expense was well-controlled and declined 2.0% over the quarter to $703 million. The improvement was attributable to personnel expense that declined modestly by $2 million and non-personnel expense that decreased $12 million primarily driven by lower costs for professional fees and marketing. Key’s reported efficiency ratio declined 5% over the quarter to 68% and is now closer to its targeted range of 60-65%.

Credit quality continued to improve in 1Q12. NCOs fell for the ninth consecutive quarter to 0.92% of average loans (including discontinued operations) from 1.00% in 4Q11 with improvement expected to continue to a long-term NCO target rate of 40 to 50 bps (from continuing operations). NPAs also declined as new loans placed on nonaccrual status were down by a solid 7% to $214 million from 4Q11. As a percentage of loans plus OREO, NPAs (from continuing operations) were 1.55% at March 31, 2012, down 18 bps from 1.73% at December 31, 2011. DBRS notes that Key’s exit loan portfolio balances declined 7.5% to $3.9 billion and contributed $26 million, or 21.7%, of the Company’s total NCOs (including discontinued operations). Despite positive trends, Key recorded a 1Q12 provision of $42 million; the allowance for loan and lease losses provides ample coverage at 141.7% of NPLs.

DBRS perceives the Company’s regulatory and tangible capital ratios as solid. At 1Q12, Key’s estimated Tier 1 common ratio of 11.55% grew 29 bps over the prior quarter while its tangible common equity ratio grew another 38 bps to 10.26%. DBRS notes that the Company plans to buyback stock and may raise its dividend over the near term.

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

The principal applicable methodology is the Global Methodology for Rating Banks and Banking Organisations. Other methodologies used include the DBRS Criteria – Intrinsic and Support Assessments, Rating Bank Subordinated Debt and Hybrid Instruments with Discretionary Payments and Rating Bank Preferred Shares and Equivalent Hybrids, all of which can be found on the DBRS website under Methodologies.

The sources of information used for this rating include 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: Mark Nolan
Approver: Roger Lister
Initial Rating Date: 25 April 2003
Most Recent Rating Update: 4 April 2012

For additional information on this rating, please refer to the linking document under Related Research.