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Nat City Surges as Analysts Fuel Buyout Talk

A reported deal with crosstown rival KeyCorp had the troubled Cleveland bank's stock jumping.

Updated from 1 p.m. EDT

National City


surged as much as 8% after Morgan Stanley and Bear Stearns analysts upgraded the troubled bank on speculation that the company could be closer to a sale.

Shares of Nat City ended the day up 57 cents to $9.79 on nearly double the average daily trading volume, after Morgan Stanley analyst Betsy Graseck raised her rating to equal weight from underweight and Bear Stearns analyst David Hilder upped his rating to outperform from underperform on speculation of a sale to crosstown rival


(KEY) - Get KeyCorp Report


The Wall Street Journal


the rumored merger on Wednesday.

Private equity behemoth

Kohlberg Kravis Roberts

was also mentioned in the


article as possibly providing additional capital to the merged companies.

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"While it is highly uncertain that any transaction will result, and difficult to estimate potential pricing, our experience suggests that

Wednesday's report in

The Wall Street Journal

... likely means that the odds of a strategic transaction occurring have increased," Hilder writes in a note.

Separately, Cincinnati-based

Fifth Third Bancorp

(FITB) - Get Fifth Third Bancorp Report

is also in acquisitions talks with Nat City, according to


, which cites people briefed on the matter.

In addition to greater possibility of a sale, Hilder wrote that investors have other compelling reasons to own Nat City shares these days -- namely, the substantial cost savings from a Nat City-Key merger and Nat City's

ownership stake



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Still one potential negative for shareholders is if shares are issued to a third party, such as a KKR, it would increase capital levels but dilute the shareholder base, he writes.

Graseck also concluded that there were "increased prospects the company will be acquired," according to a note. "We recommend closing out short positions."

Graseck estimates the firm could be sold for approximately $12 a share, as the market has largely "priced in" further expectations of credit deterioration and loan loss reserve building.

"Given our expectations of further home price depreciation, credit deterioration and higher borrowing costs, we believe

Nat City is more likely to sell itself than go it alone, which would likely require a further dividend cut and possibly more capital raising," she writes.

Nat City has been


by the housing and mortgage downturn after getting into the business of higher-return subprime mortgage loans and other risky loans as well as its decision to expand into Florida -- right before the housing bubble burst in the sunshine state.

In January, the company hired

Goldman Sachs

(GS) - Get Goldman Sachs Group Inc. (The) Report

as a "capital advisor." It acknowledged this week that Goldman Sachs is assisting the firm in "reviewing a range of strategic alternatives" for the company, but said there "can be no assurance that this review will result in the company undertaking any particular transaction."

Completing a sale of the bank could be difficult. While the rumor mill is abuzz with naming banks considering purchasing the ailing Nat City, the most likely potential buyers such as

JPMorgan Chase

(JPM) - Get JP Morgan Chase & Co. Report


Wells Fargo

(WFC) - Get Wells Fargo & Company Report


U.S Bancorp

(USB) - Get U.S. Bancorp Report

are either tied up with other acquisitions or choosing to sit on the sidelines for now.

Last month, JPMorgan Chase agreed, with the help of the

Federal Reserve

to acquire

Bear Stearns


, while

Bank of America

(BAC) - Get Bank of America Corporation Report

agreed in January to pick up

Countrywide Financial



And while a Key-Nat City merger makes sense from a cost savings perspective, the overlap of branches and footprint between the two banks would mean that as part of the deal the companies would either have to close or sell a portion of the existing branches.

Hilder estimates that if merged, the banks could reduce operating expenses by $1.2 billion -- approximately 15% of their combined 2007 operating costs.

"Key would seem to offer the greatest potential as a partner for National City because the potential cost savings are likely to be larger with Key than with other partners," Hilder writes. "Although certain branch and/or deposit divestitures might be required, the Fleet/Bank Boston merger in 1999 showed that even the apparently most difficult antitrust issues can be solved."