Utility Worries Loom Over UnionBanCal

UnionBanCal (UB) beat sharply reduced fourth-quarter earnings estimates late yesterday, but analysts say the looming California utility crisis threatens to deal the bank another setback just as it takes its credit problems in hand.

The San Francisco-based bank posted earnings of 5 cents a share, above the First Call/Thomson Financial consensus of 1 cent, but dramatically lower than the 83 cents it earned last year. Net income in the latest quarter was $8.4 million, compared with $136.9 million in the same period last year. UnionBanCal shares slipped 19 cents to $28.06 Tuesday.

The big jolt was a $250 million provision to cover the cost of bad loans, representing a whopping 733.3% increase from 1999. When banks put money into what is known as a loan-loss reserve, the cost is deducted from operating profits because losses from lending activities are considered part of the cost of doing business. Like a number of other banks, UnionBanCal is now paying the price for leaping into the syndicated lending (loans shared by three or more institutions) business a few years ago.

Further, UnionBanCal forecast coming credit losses at about $100 million for the first quarter and $250 million to $300 million for all of 2001, exclusive of potential fallout from the energy crisis. "These projections of our loan-loss provisions assume neither a severe economic downturn this year nor a significant effect on the California economy from the current energy crisis," the company said.

More Bad News

Ah, yes. The energy crisis. UnionBanCal noted in an earnings presentation Tuesday that it has "substantial longstanding relationships" with the two major cash-strapped California utilities, Edison International (EIX) and PG&E (PCG). The bank has about $1.65 billion in total exposure to utilities, and as recently as two weeks ago termed the portion made up by the California utilities a "modest" part of that.

UnionBanCal has adopted a somewhat confusing stance on the risk associated with its utility exposure. In a discussion of credit quality today, a spokesman said the bank had reviewed the credits and added capital to its loan-loss reserve to reflect its view of the situation. At the same time, he specified that the loans are not nonperforming (a term covering loans that are past due but haven't been charged off) and added that "if they do move there, we will see a substantial increase in our nonperforming loans." That statement appears to contradict the view that exposure is modest.

Analysts weren't impressed. "I don't think they were terribly forthcoming," says Brock Vandervliet, banks analyst at Lehman Brothers. (Vandervliet rates the stock a neutral, and his firm hasn't done underwriting for the bank.) Indeed, on the conference call, analysts who pressed for more detail drew answers like, "We're trying to limit our guidance."

Been There

In addition to taking writeoffs for syndicated loans, the bank is also experiencing considerable weakness in its auto lease residual business and, as Vandervliet points out, is nearing the tail end of a cost-savings program known as Mission Excel. "They've completely realized the benefits of Mission Excel with cost savings and revenue enhancement," he says, adding that it's now a case of "been there done that."

In a conference call with investors and analysts, a spokesman said the bank is also scaling back its "nonrelationship" lending, which has resulted in a disproportionate share of problem loans. This type of relaxed lending standard, in which a bank knows little about potential borrowers before taking on loans, was common in 1997 and 1998 when the economy was speeding along. This type of lending has caused problems at a number of institutions.

Rosalind Looby, banks analyst at Credit Suisse First Boston, calls the timing of the California utility crisis "unfortunate," given the bank's recent efforts to put its syndicated lending problems behind it. "Unfortunately, California looks like it's going to roll over," she says of the energy crisis.

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