Huntington Bancshares Taking $300M Charge

The regional bank is the latest financial player to be hit by the subprime meltdown.
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Updated from 2:18 p.m. EST

Huntington Bancshares

(HBAN) - Get Report

sank 8.3% Friday, after becoming the latest casualty of the subprime mortgage meltdown.

The Columbus, Ohio-based bank plans to take an after-tax charge of up to $300 million, or 81 cents a share, and expects to post a net loss for the fourth quarter related to increases in allowance for loan losses tied to its exposure to subprime lender

Franklin Credit Management

(FCMC)

. Franklin has ceased making new loans and delayed filing its quarterly results until it can sort out the losses in its loan portfolio.

Huntington, which had $1.5 billion in loans out to Franklin Credit as of Sept. 30, inherited the commercial relationship from Sky Financial Group, which it acquired in July.

"We only recently learned of Franklin's actions to reassess the adequacy of their loan loss reserves," said Huntington Chairman and CEO Thomas Hoaglin. "Franklin's mortgages represent the underlying collateral for our loans to Franklin. As a result of this new information, we needed to reassess the collectability of the Franklin loans."

"The actions we have announced today, we believe, fully address the issues embedded in our Franklin exposure," Hoaglin said.

The news was met with much more caution on Friday at three large ratings agencies, which expressed concern about Huntington's ability to repay its debt and maintain its capital levels as a result of the charge.

Moody's

placed the ratings of the company and its subsidiaries on review for downgrade, while

Standard and Poor's

revised its outlook on the company to negative from stable.

Fitch Ratings

downgraded Huntington's issuer default rating to "A-" from "A" and cut the company's individual rating to "B/C" from "B."

Shares of Huntington closed down $1.33 to $14.75, while Franklin Credit shares tumbled $1.65 to 58 cents.

Huntington's charge marks the latest trickle-down effect from the mortgage crisis.

Banks and mortgage lenders of all sizes have taken hits from significantly beefing up their provisioning for consumer loan losses as mortgage delinquencies and defaults -- not just from borrowers with shaky credit histories -- have spiked. The rise in losses combined with falling home prices caused the market for mortgage-backed securities, a highly profitable business for many banks and Wall Street firms over the last few years, to come to a dead halt this summer.

On Wall Street, the spiraling market for mortgage-based securities like collateralized debt obligations, or CDOs, have led to a number of multi-billion writedown. Among banks hit are

UBS

(UBS) - Get Report

,

Citigroup

(C) - Get Report

and

Merrill Lynch

(MER)

.

Still, Huntington's board of directors reaffirmed their confidence in the sustainability of the company's dividend and said that capital levels at the holding company and bank remain above regulatory well-capitalized levels.

Shares of Franklin Credit lost 80% of their value after the New York-based lender said late Thursday that it suspended new originations and loan purchases and delayed its quarterly earnings results. The company attributed its problems to the deteriorating real estate and mortgage market, as well as the increase in delinquencies involving mortgages originated in 2005 and 2006, particularly for second-lien, or home equity loans.

Franklin Credit expects to record a "substantial" increase in its provision for loan losses from the increased delinquencies and defaults in its portfolio, it said. The provision increase is likely to result in "negative" stockholder's equity for the third quarter.

Huntington has suspended funding to Franklin Credit until it sorts its problems out and reports earnings. But it did agree to temporarily waive any resulting breaches of debt covenants.

Franklin has agreed to pledge "all previously unencumbered assets" as additional security to Huntington, but said it could enter insolvency if an "accommodation" with the bank is not reached and was forced to immediately pay back its debt.

"While we can give no assurances, we are in active discussions with our bank about potential options that could be beneficial for both parties," said Tom Axon, Franklin Credit's chairman and president.

Franklin Credit acquires, originates, and services performing, reperforming and nonperforming subprime residential mortgage loans that are not eligible to be sold to

Fannie Mae

(FNM)

or

Freddie Mac

(FRE)

, according to the firm's Web site. Franklin Credit's subsidiary Tribeca Lending specializes in originating subprime loans that are primarily held in its loan portfolio.

Commonly called "scratch-and-dent" loans, the mortgages "involve elevated credit risk as a result of the nature or absence of income documentation, limited credit histories, higher levels of consumer debt or past credit difficulties," the company says.

Analysts have been concerned about Huntington's relationship with Franklin Credit for some time.

Hoaglin sought to reassure investors and analysts during the company's third-quarter earnings call.

"This has been a long-term relationship and you need to know that we understand their model, their value proposition, and the caliber of their management team very well," he said in October. "We also continuously monitor in detail the performance of the collateral supporting our loans to Franklin.

"We remain comfortable with this relationship and all of our loans to Franklin are performing and there are no delinquencies," he said.

The ratings agencies did not offer such an optimistic outlook on Friday.

"The writedown will result in a sizable net loss in

the fourth quarter and, combined with a large quarterly dividend, will result in a material deterioration in Huntington's capital ratios," according to Moody's.

Huntington is also at risk of a further deterioration in the credit quality of its loan portfolio, particularly in its commercial real estate exposures, Moody's says.

"A substantial portion of Huntington's CRE footprint is in Eastern Michigan and Northern Ohio -- a region of the United States where this asset class has come under significant strain," according to Moody's.

S&P also cited concerns about Huntington's capital ratios.

"Subjectively, this write-down raises questions as to the thoroughness and effectiveness of the pre-acquisition due diligence, or may signal the combined organization's heightened risk appetite," S&P analysts write in a note. "We will monitor new business strategies, growth, portfolio metrics, and future acquisitions for signs of both."

At least one analyst downgraded Huntington on Friday.

Jeff Davis, an analyst at

First Horizon's

(FHN) - Get Report

FTN Midwest Securities, cut his rating to neutral from buy.

Sky Financial had "lent to them since 1990. During that time they had no non-performing loans and no credit losses," Davis says. "What is a little surprising is these

Franklin guys are old hands. They had to know that 2005-2006 was very loose quality

loans."

"I think where Franklin got hung is they bought these pools and then worked with the borrowers where the hope was

to over three to five years rehabilitate

the loans, so they could refinance into a more conventional product," he says. "But with the market locked up, we may find that, in addition to vintage 2005-2006 issues, that the borrowers within their mortgage pools couldn't refinance anywhere else."