DBRS Confirms Old National Bancorp at BBB (high); Maintains Stable Trend

DBRS, Inc. (DBRS) has today confirmed the ratings of Old National Bancorp (ONB or the Company), including its BBB (high) Issuer & Senior Debt rating. The trend on all ratings remains Stable. The rating actions follow a detailed review of the Company’s operating results, financial fundamentals, and future prospects.

The confirmation and Stable trend reflect Old National’s deeply rooted banking franchise, strong capital position, resilient earnings generation, and improved and relatively sound asset quality. Ratings also consider the Company’s higher than peer expense base and its geographic footprint that extends across many rural markets in Indiana, and to a lesser extent southern Illinois and western Kentucky.

Old National has a well-entrenched mid-west banking franchise with leading deposit market shares in many of the markets it serves. Besides Indianapolis, a higher growth market, the franchise footprint encompasses mostly rural markets, which generally exhibit slower growth characteristics. Although the Company reflected some growth in its core portfolio in 2Q12, organic growth has been tepid, due to the difficult business environment. Nonetheless, over the past year, the Company has grown through acquisitions. Its most recent transaction, Indiana Community Bancorp, closed on September 15, 2012 and added 17 branches and $985 million in assets. In light of the difficult business environment, a challenge for the Company will be to build share in its newer markets.

Resilient earnings generation underpins the Company’s strong capital position, which includes a high tangible common equity ratio of 9.4% (as of June 30, 2012), a Tier I capital ratio of 14.55% and a Total capital ratio of 15.70%. Except for a 4Q09 loss, which reflected a sizable loss on a shared national credit and an other-than-temporary impairment securities charge, Old National has reported quarterly profitability through the current business cycle. The Company’s earnings generation is mostly spread driven, yet its top line reflects a large level of fee income, which is attributable to its sound product offering, including deposit services, wealth management, insurance, investment consulting and investment products. Driving the Company’s spread income is a high net interest margin (NIM: 4.26% for 2Q12), bolstered by an elevated level of accretion from its Integra Bank N.A. (closed on July 29, 2011) and Monroe Bancorp (closed on January 1, 2011) acquisitions. On a core basis, excluding the accretion, Old National’s NIM was a solid 3.50% for 2Q12. Overall, fee income (DBRS calculated: excluding securities gains/losses) represented a solid 36% of total revenues for 2Q12.

Old National’s operating costs and efficiency ratio remain higher than its similarly rated peers, due in part to a lower level of economies of scale, which is typically associated with an operating platform located in rural areas. Importantly, the Company remains committed to managing its expenses and driving down its efficiency ratio. During 2Q12, higher QoQ expenses reflected additional non-core costs related to its efficiency initiative and acquisitions. Old National closed 31 ATMs in 2Q12, and in 3Q12 announced that it intends to consolidate eighteen and sell nine banking centers. DBRS notes that over the intermediate term, the Company’s bottom line will be pressured by consulting expenses associated with its recent BSA/AML Consent Order. Importantly, the Consent Order does not call for the payment of a civil monetary penalty, nor identify any systemic undetected criminal activity or money laundering.

Old National’s asset quality continues to trend positively, yet remains pressured by the difficult business environment. During 2Q12, nonperforming assets (NPAs; excluding residential loans held for sale and covered assets) decreased by $9.3 million, or 7.7%, and represented 2.64% of loans and OREO at June 30, 2012, down from 2.94% at March 31, 2012. Meanwhile, net charge-offs (excluding residential loans held for sale and covered assets) decreased to a very low 0.09% of average loans for 2Q12, from 0.33% for 1Q12. Although adequate at current loss rates, Old National’s loan loss reserves represented a relatively low 50% of nonperforming loans (excluding Integra covered loans) at the end of 2Q12. Somewhat offsetting, are the credit marks taken on its recent acquisitions.

The Company’s funding/liquidity profile remains strong, underpinned by a large core deposit base which represents 135% of net loans (DBRS calculated). A securities portfolio that represents 31% of total assets, along with access to the FHLB and Federal Reserve discount window round out Old National’s liquidity profile. DBRS notes that the Company’s securities portfolio consists mostly of good quality agency mortgage-backed and municipal securities. Nonetheless, the Company does hold a moderate level of somewhat riskier pooled trust preferred and non-agency mortgage-backed securities.

Old National, a financial holding company headquartered in Evansville, Indiana, had $8.7 billion in assets at June 30, 2012.

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

The principal applicable methodology is the Global Methodology for Rating Banks and Banking Organizations. Other methodologies used include the DBRS Criteria – Intrinsic and Support Assessments. Both can be found on the DBRS website under Methodologies.

The sources of information used for this rating include company documents, the Federal Reserve, 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.

This rating is endorsed by DBRS Ratings Limited for use in the European Union.

Lead Analyst: Mark Nolan
Rating Committee Chair: Alan G. Reid
Initial Rating Date: 3 October 2005
Most Recent Rating Update: 26 January 2012

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