FHN

First Horizon National Corporation - 10-Q Summary (Q3 2007)

Business Context and Reporting Period

This report covers the quarterly period ended September 30, 2007. First Horizon National Corporation (FHN) is a national financial services institution operating through Retail/Commercial Banking, Mortgage Banking, Capital Markets, and Corporate segments. The quarter was significantly impacted by credit market disruptions, a contracting housing market, and ongoing restructuring initiatives aimed at improving profitability and redeploying capital.

Key Financial Metrics

Material Changes vs. Prior Period

• Net Loss: The company reported a net loss of $14.2 million in Q3 2007, a reversal from the $67.1 million net income in Q3 2006. This was driven by increased loan loss provisions, restructuring charges, and lower noninterest income.
• Asset Quality Deterioration: Nonperforming assets more than doubled to $268.4 million (up from $118.0 million), primarily due to deterioration in national homebuilder and one-time close construction loan portfolios. The net charge-off ratio increased to 57 basis points from 30 basis points.
• Restructuring Charges: FHN recorded $32.8 million in pre-tax restructuring, repositioning, and efficiency expenses in Q3 2007. This included a $13.0 million goodwill impairment related to the planned sale of 34 bank branches.
• Revenue Decline: Total revenues decreased 22% year-over-year in Q3. Noninterest income dropped significantly, particularly in Mortgage Banking (due to negative gain-on-sale margins) and Capital Markets (due to lower structured finance fees).
• Divestitures: Agreements were reached to sell 34 full-service branches in Atlanta, Baltimore, Dallas, and Northern Virginia. Assets and liabilities related to these branches are classified as held-for-sale.

Guidance, Outlook, and Risks

• Restructuring Outlook: Management anticipates up to $40 million in gains from the branch divestitures in Q4 2007 and Q1 2008. Additional pre-tax expenses of $20–$30 million are expected through Q1 2008 to complete restructuring initiatives. Annual pre-tax improvements of up to $175 million are targeted by Q1 2008.
• Market Conditions: Management expects the remainder of 2007 and 2008 to remain challenging due to volatility in mortgage and credit markets. Competitive pricing pressure and reduced liquidity are expected to continue impacting margins.
• Asset Quality Risks: Asset quality ratios are expected to remain stressed throughout the current housing cycle. Further deterioration in the housing market could result in increased credit costs.
• Liquidity: FHN shifted approximately $2 billion in wholesale borrowings from short-term CDs to lower-cost Federal Home Loan Bank advances due to reduced liquidity in the wholesale CD market. Core deposits remained flat at $13.3 billion.
• Accounting Changes: The company is assessing the impact of several new accounting standards (SAB 109, SFAS 159, SFAS 157) effective in late 2007 or 2008.

Investor Verification Checklist

• Asset Quality Trends: Verify the trajectory of nonperforming loans and charge-offs in the homebuilder and construction portfolios, as these drove the Q3 loss.
• Restructuring Execution: Monitor the timing and magnitude of the expected $40 million gain from branch sales and the realization of the projected $175 million in annual cost savings.
• Mortgage Banking Margins: Assess the sustainability of negative gain-on-sale margins in the mortgage origination business and the effectiveness of hedging strategies for Mortgage Servicing Rights (MSR).
• Liquidity Funding Mix: Review the shift from brokered CDs to FHLB advances and the stability of core deposits in a tightening credit environment.
• Goodwill Impairment: Confirm that the $13.0 million impairment charge related to the branch sales is fully recognized and that no further impairments are anticipated for the remaining portfolio.