DBRS Comments on Regions’ 3Q12 Results – Sr. Debt at BBB; Trend Stable; Ratings Unaffected

DBRS, Inc. (DBRS) today has commented that its ratings for Regions Financial Corporation (Regions or the Company), including its BBB Issuer & Senior Debt rating, are unchanged following the release of the Company’s 3Q12 earnings. The trend on all ratings is Stable. For the quarter, Regions reported net income available to common shareholders of $301 million, up from $284 million in 2Q12. DBRS notes that Regions’ 3Q12 results included a net loss from discontinued operations of $11 million, compared to net income from discontinued operations of $4 million in 2Q12. Additionally, 2Q12 results were negatively impacted by $71 million of costs related to TARP redemption and the final TARP preferred stock dividend.

Reflecting the difficult rate environment, Regions reported that adjusted pre-tax pre-provision income from continuing operations declined 4% from 2Q12 to $469 million. The somewhat disappointing decrease in core profitability was driven by an 8 bps decline in net interest margin (NIM) and higher quarter-over-quarter (QoQ) expenses. Importantly, DBRS notes that some of the increase in expenses is not expected to recur in coming quarters. Positively, the Company reported further growth in C&I lending (up 2.2% from 2Q12, adjusting for loans transferred in the Morgan Keegan sale), solid production in indirect auto and record mortgage banking revenues.

Total revenues (from continuing operations) were $1.4 billion in 3Q12, up slightly from 2Q12. Net interest income declined $21 million QoQ to $817 million in the third quarter. As noted, the NIM declined 8 bps to 3.08% QoQ driven by lower asset yields, which were only partially offset by lower deposit costs. Despite the growth in C&I and indirect auto, average earning assets declined 0.8% QoQ, driven by mortgage prepayments and lower commercial real estate balances (both owner-occupied and investor properties). Regions expects that it will be able to maintain its NIM at or near current levels in coming quarters, and DBRS notes that the Company continues to benefit from the runoff of higher cost time deposits. In 4Q12, $3.0 billion of time deposits, with a cost of 2.1% are scheduled to mature.

Reported noninterest income (from continuing operations) was $533 million in the quarter, up 5% from 2Q12. The QoQ increase was attributed to record mortgage banking revenues of $106 million (2Q12: $90 million). In addition, service charges rebounded from the second quarter, but remain below normal run rates as Regions adjusted the reserve established in 2Q12 for certain anticipated fee refunds to customers. DBRS expects that fee revenues should continue to benefit from solid mortgage banking activity for the next few quarters.

Regions’ non-interest expenses from continuing operations increased 3.2% QoQ to $869 million in 3Q12, and resulted in negative operating leverage in the quarter. Of the $27 million QoQ increase in expenses, $15 million was in the salary and benefits line which reflected higher costs associated with record mortgage production and an increase in long-term incentives. Also, Regions incurred higher marketing costs and conversion costs related to its credit card portfolio, which is now managed in-house. The absence of these costs should reduce 4Q12 expenses by around $8 million. Finally, DBRS notes also that second quarter expenses also benefited from higher net gains on held for sale property. Going forward, DBRS believes that expense control will remain important as Regions works to maintain, and increase, its earnings capacity in what remains a challenging environment for revenue growth.

At September 30, 2012 Regions reported non-performing assets (NPAs) (excluding performing TDRs), of $2.2 billion, down 5% QoQ. NPAs as a percent of loans plus OREO, were 2.93% at the end of 3Q12 compared to 3.04% at the end of 2Q12. Net charge-offs (NCOs) declined slightly in the quarter, down $3 million to $262 million, though at 1.38% of average loans they remain somewhat elevated. New non-performing loans (NPL) formation was up almost $150 million QoQ to $463 million in 3Q12, which management attributed to seasonality. The Company expects gross NPL migration of between $300 million and $400 million in 4Q12, which is more in-line with 1H12 levels. Positively, criticized balances showed continued improvement in the quarter and 90+ day delinquencies were flat QoQ. With a provision that was up slightly QoQ, though still $229 million less than 3Q12 NCOs, Regions’ allowance for loan losses declined to $2.1 billion, but continues to provide ample protection, in DBRS’s view. At the end of 3Q12, the allowance represented 2.74% of total loans and covered 109% of NPLs (excluding performing TDRs). As a state-chartered, non-OCC regulated bank, Regions Bank was not required to implement the new guidance related to consumer loans where the borrower has gone through a Chapter 7 bankruptcy. However, given the Company’s credit monitoring policies, management does not expect the guidance would have a material impact if implemented.

Regions’ capital remains sound in DBRS’s view, and a loan-to-deposit ratio of 79% underpins the Company’s solid liquidity and funding profile. At September 30, 2012, Regions’ Tier 1 Common ratio was an estimated 10.5%, up from 10.0% at the end of 2Q12, and its Tier 1 ratio was 11.5%, up from 11.0% in 2Q12. Regions estimates that at the end of 3Q12 its Basel III Tier 1 Common ratio, reflecting the recent NPR, was 8.7%, up from 8.0% at the end of 2Q12.

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, Rating Bank Subordinated Debt and Hybrid Instruments with Discretionary Payments, and Rating Bank Preferred Shares and Equivalent Hybrids. All 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.

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

Lead Analyst: Mark Nolan
Approver: Alan G. Reid
Initial Rating Date: 5 July 2006
Most Recent Rating Update: 12 June 2012

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