Following the retirement of CEO Ken Thompson and mortgage misery it inherited from Golden West Financial, this is a good time to focus on another area of risk for Wachovia (WB) - Get Report and other large banks: construction and land development loans.

On an aggregate basis, U.S. banks and S&Ls had $630 billion in construction and land development loans as of March 31. Of this total, 4.72% were considered nonperforming, compared to 3.15% in December 2007 and 0.95% in the same period the prior year.

Nonperforming loans include those that are past due 90 days or more. If we include all loans delinquent 30 days or more, 7.19% of construction loans were delinquent as of March 31, up sharply from 4.98% in December 2007 and 2.03% in March 2007.

Many of the 10 U.S. banks with the largest construction portfolios have serious levels of delinquent construction loans:

While Charlotte, N.C., rivals Bank of America NA (held by

Bank of America

(BAC) - Get Report

) and Wachovia lead the list with the largest construction and land development portfolios, these loans represented less than 2% of total assets for Bank of America NA and 3.6% for Wachovia Bank NA.

The Wall Street Journal

published a short piece on Tuesday discussing Wachovia's delinquent construction loans, which comprised 7.68% of total construction loans as of March 31, exceeding the industry aggregate average. This is a rapid increase from 4.73% in December 2007, 1.65% in September 2007 and 0.59% in March 2007.

Considering the likelihood that all the delinquent loans will go bust, Wachovia is looking at $1.84 billion in problem construction loans. After factoring in foreclosure costs, expenses associated with hiring new contractors to complete projects and long marketing times to sell them when completed, Wachovia's losses on these loans could "easily top 50%" according to a veteran special assets manager.

Of course, we don't know what Wachovia will report for the second quarter, but based on recent results, we could be looking at an alarming number of delinquent construction loans as the institution's option-ARM mortgage portfolio continues to twitch.

The banks on the list with the highest asset concentrations in construction loans as of March 31 included Branch Banking and Trust Company (held by


(BBT) - Get Report

), Regions Bank, (a unit of

Regions Financial

(RF) - Get Report

) and M&I Marshall & Ilsley Bank (held by

Marshall & Ilsley



Branch Banking & Trust's construction portfolio comprised 14.9% of total assets as of March 31. Its construction loan quality was the best on the list, with a ratio of nonperforming construction loans of 1.90%, and delinquent construction loans at 3.03%. As you can see in the second table, the institution's overall asset quality measured up pretty well in this environment, with nonperformers comprising 0.89% of total assets and reserves covering 98.41% of nonperforming loans as of March 31.

Regions Bank was in the middle of the pack, with nonperforming construction loans comprising 3.72% of total construction loans and delinquent construction loans 5.79%. Looking at overall asset quality, the nonperforming assets ratio was 1.16%, and reserves covered 95.48% of nonperforming loans, which is pretty strong reserve coverage all things considered.

M&I Marshall & Ilsley Bank had the highest concentration of construction loans, which totaled $10 billion, or 17% of total assets as of March 31. Nonperforming construction loans increased to 4.94% of total construction loans, from 4.64% in December.

More alarmingly, delinquent construction loans increased to 9.17%, from 6.59% in December. M&I's overall asset quality slid over the past two quarters, with nonperforming assets comprising 1.57% of total assets as of March 31, compared to 1.39% in December 2007, 0.89% in September 2007 and 0.65% in March 2007. Reserves covered nearly 68% of nonperformers as of March 31, and the bank had the highest risk-based capital ratio on the list, at 11.79%.

Based on recent filings, Marshall & Ilsley is confident it won't have to raise capital like so many other regional banks. The holding company increased its quarterly dividend to 32 cents a share on April 22, giving shares a current yield of 5.60%. While the holding company filed a shelf registration of 6 million shares on May 8, it said it had no immediate plans to issue common shares, but might do so to fund acquisitions.

It will be interesting to see how things play out over the next few quarters, and whether M&I will be forced to change its tune like so many other regional banks.

Three more large regional banks posted alarming delinquency figures for their construction portfolios:

SunTrust Bank (held by

SunTrust Banks

(STI) - Get Report

) reported nonperforming construction loans at 5.94% of total construction loans, with delinquent loans comprising 10.53% of total construction loans, as of March 31, 2008.

On an overall basis, nonperforming assets comprised 1.51% of total assets, increasing sharply from 1.04% in December 2007. Loan loss reserves covered 65.46% of nonperforming loans as of March 31. This was the lowest reserve ratio on the list. While SunTrust did make a large first-quarter provision for loan losses of $560 million, the institution's reserve coverage as a percentage of nonperforming loans has declined over the past three quarters. SunTrust's risk-based capital ratio of 10.66% was the second lowest on the list.

Unlike many regional banks which have taken one or more quarterly losses over the past year as they beefed-up reserves, SunTrust hasn't been forced to do so. However, if the second quarter presents a similar decline in loan quality to the first, the institution may be forced to post a significant loss, which would probably force the holding company to take steps to preserve capital (cutting dividends or continuing to shrink the balance sheet) or seek more capital..

KeyBank NA (a unit of


(KEY) - Get Report

) had the second-worst construction loan quality on the list. The institution's ratio of nonperforming construction loans was 8.19% and its delinquent construction loan ratio was 13.05% as of March 31.

On May 27, KeyCorp filed an 8-K forecasting that 2008 charge-offs would increase to 1% to 1.3% of average loans. This would compare to net charge-offs of 0.38% during 2008. With a $79 billion loan portfolio, charge-offs could total over a billion, which would wipe-out most of KeyBank's loan loss reserves.

KeyBank's risk-based capital ratio was a decent 11.18% as of March 31, and the holding company raised $740 million in additional capital during the first quarter. Based on the charge-off forecast, more capital raising activity is likely.

Finally, the bank with the worst construction portfolio quality on the list is National City Bank (held by

National City



The institution's ratio of nonperforming construction loans was 8.38% and its ratio of delinquent construction loans was 13.71% as of March 31. That's potentially another $1.65 in bad construction projects that National City will have to will have to take over, complete and dispose, in addition to all the problems it is having in its permanent residential mortgage portfolio.

Recently, several stock analysts upgraded National City's stock, saying it represents value after raising $7 billion in new capital in April.

reported in late May that the holding company was

considering selling assets

, which would also prop up National City's capital ratios. We'll have to wait and see how the institution looks when it releases second-quarter earnings, which will reflect the higher capital levels and, presumably, higher nonperforming loans.

Philip W. van Doorn joined Ratings., Inc., in February 2007. He is the senior analyst responsible for assigning financial strength ratings to banks and savings and loan institutions. He also comments on industry and regulatory trends. Mr. van Doorn has fifteen years experience, having served as a loan operations officer at Riverside National Bank in Fort Pierce, Florida, and as a credit analyst at the Federal Home Loan Bank of New York, where he monitored banks in New York, New Jersey and Puerto Rico. Mr. van Doorn has additional experience in the mutual fund and computer software industries. He holds a Bachelor of Science in business administration from Long Island University.