DBRS Comments on KeyCorp’s 2Q13 Results – Senior at BBB (high); Stable Trend

DBRS, Inc. (DBRS) has today commented on the 2Q13 results of KeyCorp (Key or the Company). DBRS rates the Company’s Issuer & Senior debt at BBB (high), with a Stable trend. Key reported net income available to common shareholders of $198 million for the quarter, down from $199 million for 1Q13, and $231 million for 2Q12. Essentially flat QoQ earnings were driven by elevated expenses, which included non-core expenses/charges related to the Company’s expense reduction initiative. Mostly offsetting these headwinds, revenues were slightly up and provisions for loan loss reserves were materially down.

Highlights for the quarter included sustained, yet modest average loan growth, improved asset quality, and the maintenance of a solid liquidity and capital profile. During 2Q13, Key entered into a series of agreements to acquire a commercial mortgage servicing portfolio as well as a special servicing business (with initial closing completed in June and the final closing expected in July). The acquisitions provide additional scale, elevating the Company to one of the top three named servicers of commercial/multifamily loans in the country and the fifth largest special servicer of CMBS. Finally, Key’s efficiency initiative has achieved approximately $171 million of annualized run rate expense savings, as of June 30, 2013. Management expects to attain its targeted $200 million of annualized savings by year-end.

Total revenues increased by a modest 0.2% to $1 billion, sequentially, driven by a 0.9% increase in non-interest income to $429 million, partially offset by a 0.3% decrease in net interest income to $581 million. Improved fee income reflected higher levels of trust and investment services income (up $5 million, or 5.3%), investment banking and debt placement services (up $5 million, or 6.3%), and cards and payments income (up $5 million, or 13.5%). Meanwhile, lower linked-quarter spread income was driven by an 11 basis point narrowing of net interest margin (NIM) to 3.13% (TE basis), partially offset by a 1.9% increase in average earning assets and a higher day count in 2Q13. NIM contraction was attributable to lower loan yields and fees, higher levels of liquidity and securities, and to a lesser degree, the termination and maturity of $4.4 billion of interest rate swaps that were not replaced.

Reflecting the difficult business environment, Key’s loan growth moderated, QoQ. Specifically, average loans grew by $70 million, or 0.1%, in 2Q13, down from $767 million, or 1.5%, growth in 1Q13. Higher 2Q13 average loans mostly reflected increased levels of home equity loans (up $181 million, or 1.8%) and commercial & industrial loans (up $163 million, or 0.7%). Supporting loan growth, average deposits increased by $1.7 billion, or 2.7%, driven by a $1.9 billion, or a 3.4%, increase in non-time deposits. Going forward, Key anticipates loan growth to exceed deposit growth, which should result in relatively stable net interest income.

The Company’s expenses increased 4.4%, QoQ; driven by $37 million of expenses related to its efficiency initiative. During 2Q13, personnel expense increased by $15 million, or 3.8%, reflecting a $9 million increase in severance expense, as well as higher levels of annual merit and incentive compensation. Additionally, net occupancy cost increased by $8 million, or 12.5%, driven by charges related to the consolidation of 33 branches in 2Q13.

Credit quality remained sound and improved, as the Company reported lower levels of linked-quarter non-performing assets (NPAs) and net charge-offs (NCOs). Specifically, Key reported a $12 million, or 1.7%, decline in NPAs from continuing operations, representing a manageable 1.30% of loans and OREO, at June 30, 2013, down from 1.34%, at March 31, 2013. Meanwhile, Key’s NCOs (continuing operations) decreased to a relatively modest 0.34% of average loans for 2Q13, from 0.38% for 1Q13. Finally, Key’s allowance for loan and lease losses remains adequate at 1.65% of period-end loans and 134% of non-performing loans, at June 30, 2013.

Capitalization remains solid and provides an ample buffer for unexpected losses. Despite the 2Q13 $103 million of common share repurchases under Key’s $426 million repurchase program, the Company’s estimated risk weighted capital ratios remain sound, including its Tier 1 common ratio of 11.25%, Tier 1 ratio of 12.01% and Total ratio of 14.75%. Finally, the Company estimates its Basel III Tier 1 common equity ratio to be 10.8%, which is well-above the minimum requirement.

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

[Amended on May the 23rd, 2014 to remove unnecessary disclosures.]