M&T Bank: Hudson City Deal Delay Loser

NEW YORK ( TheStreet) -- M&T Bank ( MTB) of Buffalo, N.Y., was the loser among major banking names on Friday, with shares sliding 4.5% to close at $100.24.

M&T in August agreed to acquire Hudson City Bancorp ( HCBK) of Paramus, N.J., in a deal originally valued at roughly $3.7 billion in cash and stock. The merger was expected to be completed in the second quarter of 2013.

The two banks together announced early on Friday that the time needed to gain regulatory approval of the deal would be "extended substantially," because "M&T has learned that the Federal Reserve has identified certain regulatory concerns with M&T's procedures, systems and processes relating to M&T's Bank Secrecy Act and anti-money-laundering compliance program."

M&T said it had "already commenced a major initiative, including the hiring of an outside consulting firm, intended to fully address the Federal Reserve's concerns."

Hudson City's shares declined 5.5% to close at $8.29.

Heading into the August deal, Hudson City was under pressure because its long-term leverage strategy of increasing wholesale borrowings and investing in mortgage-backed securities had backfired in the prolonged low-rate environment. The company was forced by regulators to undergo two major balance sheet restructurings during 2011.

Hudson City's net interest margin -- the spread between the average yield on loans and investments and the average cost for deposits and borrowings -- was 1.97% in the fourth quarter, narrowing from 2.02% in the third quarter, but improving from 1.73% a year earlier. The Federal Deposit Insurance Corp. reported in its Quarterly Banking Profile that the aggregate fourth-quarter net interest margin for all U.S. banks was 3.32%.

The merger deal values each share of Hudson City at 0.084 of an M&T share, or $8.42 a share, which is just above where Hudson City's stock closed on Friday.

The companies together said they would extend the date after which either company could walk away from the deal until January 31, 2014, but also said "there can be no assurances that the merger will be completed by that date."

M&T will announce its first-quarter results on Monday, with analysts polled by Thomson Reuters expecting the bank to report a profit of $1.96 a share, declining from $2.16 in the fourth quarter, but increasing from $1.50 in the first quarter of 2012. The company on Tuesday will proceed with its special meeting, including a shareholder vote, on the Hudson City deal.

The consensus among analysts is for Hudson City to report first-quarter EPS of 12 cents a share, increasing from 10 cents in the fourth quarter, but declining from 15 cents in the first quarter of 2012. Hudson City on April 18 will hold its special meeting and shareholder vote on the M&T acquisition.

Jefferies analyst Ken Usdin in a note to clients on Friday said that the announcement implied M&T would be handed down a "formal/informal decree" over its Bank Secrecy Act compliance deficiencies, and that the merger delay was "clearly a negative for both MTB shares and the merger arbitrage spread on both the delay of EPS accretion and greater uncertainty on closing."

"The trouble with regulatory decrees is that the timeframe for their eventual removal is difficult to handicap," Usdin wrote.

According to Usdin, "the worst-case scenario of one of the parties walking away is tough to assign a probability to, but it would seem that both parties would desire the deal to still close (MTB for earnings help and credibility, HCBK for fundamental business model reasons)."

Bank Earnings Season Kicks Off

JPMorgan Chase ( JPM) began the seasonal flurry of earnings reports for the nation's largest banks, reporting record first-quarter earnings of $6.5 billion, or $1.59 a share, soundly beating the consensus EPS estimate of $1.39.

First-quarter highlights for JPMorgan Chase included a $1.2 billion release of loan loss reserves for its Consumer and Community Banking unit, as well as a significant decline in expenses.

Non-interest expense totaled $15.4 billion in the first quarter, declining from $16.0 the previous quarter and $18.3 billion a year earlier. The company said litigation expenses dropped to $0.3 billion in the first quarter from $1.2 billion in the fourth quarter and $2.7 billion in the first quarter of 2012.

Most of the largest U.S. banks are expected by analysts to show significant decline in mortgage revenue for the first quarter, because of slowing refinancing applications and a narrowing of secondary market gain-on-sale spreads.

JPMorgan Chase reported mortgage fees and related income of $1.4 billion for the first quarter, declining from $2 billion, both in the fourth quarter and the first quarter of 2012. The company also said it originated $52.7 billion in mortgage loans during the first quarter, increasing 3% from the previous quarter. This implies that the revenue decline was almost entirely from lower gains on the sale of new loans in the secondary market, which includes, for the most part, Fannie Mae ( FNMA) and Freddie Mac ( FMCC).

Atlantic Equities analyst Richard Staite rates JPMorgan "overweight," with a price target of $54, and said in a report on Friday that excluding the 18-cent after-tax benefit from the reserve release and another two-cent benefit from debit valuation adjustments (DVA), "we calculate adjusted EPS of $1.38 vs our adjusted EPS estimate of $1.33."

JPMorgan Chase's shares declined 1% to close at $49.01.

Wells Fargo

Wells Fargo ( WFC) on Friday also set an earnings record, reporting a first-quarter profit of $5.2 billion, or 92 cents a share, compared to 91 cents the previous quarter and 75 cents a year earlier.

First-quarter mortgage revenue totaled $2.8 billion, declining from $3.1 billion in the fourth quarter, and from $2.9 billion in the first quarter of 2012. First-quarter mortgage loan originations declined to $109 billion from $125 billion the previous quarter.

Wells Fargo's net interest income declined to $10.5 billion from $10.6 billion in the fourth quarter and $10.9 billion in the first quarter of 2012. The net interest margin -- the difference between the average yield on loans and investments and the average cost for deposits and borrowings -- narrowed to 3.48% in the first quarter from 3.56% the previous quarter and 3.91% a year earlier.

The declines in mortgage revenue and interest income were more than offset by declines in expenses. The quarterly provision for loan losses -- that is, the amount added to reserves in anticipation of losses on the loan portfolio -- declined to $1.2 billion in the first quarter, from $1.8 billion in the fourth quarter and $2.0 billion a year earlier. Wells Fargo saw continued improvement to its already solid credit quality, with its annualized ratio of net charge-offs to average loans declining to 0.72% in the first quarter from 1.05% the previous quarter and 1.25% a year earlier. The company said this was the lowest net charge-off ratio since the second quarter of 2006.

Wells Fargo's total noninterest expense declined to $12.4 billion in the first quarter from $12.9 billion the previous quarter and $13.0 billion a year earlier. The company said that the sequential improvement was "primarily due to lower operating losses associated with the Independent Foreclosure Review settlement and a $250 million charitable contribution to the Wells Fargo Foundation in the fourth quarter."

Pressure on net interest margins are an obvious concern for most banks, as the Federal Reserve has kept the short-term federal funds rate in a range of zero to 0.25% since late 2008, and has recently been making monthly purchases of $85 billion in long-term securities, in an effort to hold long-term rates down. This means that most banks have already realized the bulk of the benefit on the cost side, while their assets continue to reprice.

One of the major reasons for the decline in Wells Fargo's net interest margin is the company's success in growing deposits. Wells Fargo CFO Tim Sloan said during the company's earnings conference call that "last year we were able to grow our net interest income by over $0.5 billion; and our expectation is that we should be able to grow it this year." He added that on a quarterly basis, "net interest income has more or less bottomed at about $10.6 billion."

When discussing Wells Fargo's first-quarter mortgage results, KBW analyst Frederick Cannon said in a note to clients that the lender's gain-on-sale margin was down only moderately, but "we view this as a lagging indicator since the company does not recognize revenues at the time of the rate lock, as most originators do."

Wells Fargo's shares were down 1% to close at $37.21.

-- Written by Philip van Doorn in Jupiter, Fla.

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Philip W. van Doorn is a member of TheStreet's banking and finance team, commenting on industry and regulatory trends. He previously served as the senior analyst for TheStreet.com Ratings, responsible for assigning financial strength ratings to banks and savings and loan institutions. Mr. van Doorn previously served as a loan operations officer at Riverside National Bank in Fort Pierce, Fla., 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.

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