ZIONS BANCORPORATION, NATIONAL ASSOCIATION quarterly report, Q2 FY2011

Zions Bancorporation 10-Q Summary

Business context and reporting period

Zions Bancorporation operates community and regional banks and related financial-services businesses across ten Western and Southwestern states. This unaudited Form 10-Q covers the quarter and six months ended June 30, 2011, with comparisons to the same 2010 periods and to December 31, 2010.

Key financial metrics

Metric	Three months ended June 30, 2011	Three months ended June 30, 2010	Six months ended June 30, 2011	Six months ended June 30, 2010
Net interest income	$416.2 million	$413.3 million	$840.0 million	$868.6 million
Provision for loan losses	$1.3 million	$228.7 million	$61.3 million	$494.2 million
Noninterest income	$128.3 million	$109.4 million	$262.5 million	$217.0 million
Noninterest expense	$416.3 million	$430.4 million	$824.6 million	$819.5 million
Net income applicable to controlling interest	$72.9 million	$(113.0) million	$125.7 million	$(173.2) million
Net earnings applicable to common shareholders	$29.0 million	$(135.2) million	$43.8 million	$(221.7) million
Diluted earnings per common share	$0.16	$(0.84)	$0.24	$(1.42)
Net interest margin	3.62%	3.58%	3.69% taxable-equivalent net yield	3.80% taxable-equivalent net yield

Total assets were $51.36 billion at June 30, 2011, compared with $51.03 billion at December 31, 2010 and $52.15 billion at June 30, 2010.
Total loans were $36.95 billion, up 0.2% from year-end 2010 but down 3.1% from June 30, 2010. Construction and land-development loans declined 38.5% year over year.
Deposits were $41.19 billion, up from $40.94 billion at December 31, 2010 and down from $42.01 billion at June 30, 2010. Noninterest-bearing demand deposits increased to $14.48 billion.
Allowance for loan losses was $1.24 billion, compared with $1.44 billion at December 31, 2010 and $1.56 billion at June 30, 2010. The reserve for unfunded lending commitments was $100.3 million.
Nonaccrual loans were $1.26 billion, versus $1.53 billion at December 31, 2010 and $2.13 billion at June 30, 2010. Total nonperforming lending-related assets were $1.51 billion, or 4.06% of net loans and leases plus other real estate owned.
Net loan and lease charge-offs were $112.2 million in the second quarter and $253.7 million for the first six months, compared with $255.2 million and $482.0 million, respectively, in the prior-year periods.
Cash provided by operating activities was $346.2 million for the quarter and $615.4 million year to date. Investing activities used $655.8 million for the quarter and $627.3 million year to date. Financing activities provided $395.5 million for the quarter and $122.8 million year to date.
Cash and due from banks totaled $1.04 billion at June 30, 2011. Consolidated cash and interest-bearing deposits were approximately $6.0 billion, and available additional Federal Home Loan Bank and Federal Reserve borrowing capacity was approximately $13.6 billion.
Long-term debt was $1.88 billion at June 30, 2011. Total shareholders’ equity was $6.91 billion, including $2.33 billion of preferred stock.
Capital ratios improved: Tier 1 common to risk-weighted assets was 9.36%, Tier 1 leverage was 13.44%, Tier 1 risk-based capital was 15.87%, and total risk-based capital was 18.01%.

Material changes versus prior comparable periods

Second-quarter earnings improved substantially, primarily because the loan-loss provision declined by $227.3 million, other real estate expense declined by $24.5 million, investment-security impairment losses declined by $12.9 million, and FDIC premiums declined by $11.2 million.
Year-to-date earnings improvement was driven principally by a $432.9 million reduction in the loan-loss provision and a $41.1 million reduction in investment-security impairment losses.
Net interest income declined $28.6 million year to date as average loans fell 6.1% and average interest-earning asset yields declined, although lower deposit costs and a larger proportion of noninterest-bearing deposits supported the quarterly margin.
Noninterest income increased 17.3% in the second quarter, while noninterest expense decreased 3.3%. Salaries and employee benefits increased because of higher bonus and incentive compensation tied to improved performance.
Preferred stock dividends increased to $43.8 million in the second quarter and $81.9 million year to date, reducing earnings available to common shareholders.
During the first six months, $224.3 million of convertible subordinated debt was converted into preferred stock. Accelerated amortization of the related debt discount increased interest expense by $61.4 million in the quarter and $102.3 million year to date.
The company issued $25.5 million of common stock during the first quarter under a program permitting sales of up to $200 million. During the second quarter, 133,062 shares were acquired from employees for tax withholding under stock compensation plans.

Guidance, outlook, risks, contingencies, and unusual items

Management expects lower credit costs, lower criticized and classified loans, and declining net charge-offs for at least the next several quarters, absent a significant economic downturn.
Management expects the total loan portfolio to remain relatively stable in the third quarter, while commercial construction and land-development loans are expected to continue declining because of weak demand.
The company estimates that the Dodd-Frank debit-card interchange-fee limits will reduce pretax bankcard fee income by approximately $35 million to $40 million annually, or $8.75 million to $10.0 million quarterly, beginning in the fourth quarter of 2011.
The company remains exposed to highly judgmental Level 3 valuations for trust-preferred and other asset-backed CDOs. Available-for-sale Level 3 securities had a fair value of $1.27 billion and an amortized cost of $2.07 billion at June 30, 2011, with approximately $802 million of pretax unrealized losses recognized in accumulated other comprehensive income.
Credit-related impairment losses on investment securities were $5.2 million in the second quarter and $8.3 million year to date. The company recorded additional impairment on CDO, RMBS, and bank trust-preferred securities.
A $1.16 billion notional total return swap transfers credit risk on a portfolio of bank and insurance trust-preferred CDOs to Deutsche Bank. The derivative liability was $5.4 million at June 30, 2011, and management expects ongoing net costs of approximately $5.3 million per quarter while the transaction remains in place.
The company had approximately $1.09 billion of standby letters of credit and approximately $300 million of guarantees of affiliated trusts’ debt. Management believes existing litigation liabilities are adequate, but adverse outcomes could materially affect a particular reporting period.
Management identifies risks from economic weakness, commercial and residential real estate, interest-rate and market volatility, liquidity and funding conditions, regulatory changes including Basel III and Dodd-Frank, FDIC assessments, litigation, capital requirements, and possible U.S. sovereign-credit deterioration.
The Parent did not receive dividends from its banking subsidiaries during the first six months of 2011. Management stated that all bank subsidiaries were profitable during the period and that some dividends or capital returns to the Parent may become possible in the second half of 2011.
Common dividends remained $0.01 per share per quarter, and management did not expect to increase the dividend until TARP CPP preferred stock is repaid. The CPP preferred dividend is scheduled to increase from 5% to 9% in the fourth quarter of 2013 if not redeemed.
Management concluded that disclosure controls and procedures were effective as of June 30, 2011, with no material changes in internal control over financial reporting during the first six months.

Most important facts for investors to verify

Whether the improvement in credit quality and materially lower provisions is sustained, particularly in commercial real estate and construction portfolios.
The adequacy of the $1.24 billion loan-loss allowance relative to nonaccrual loans, troubled debt restructurings, charge-offs, and regional real estate conditions.
The valuation assumptions, impairment sensitivity, and liquidity of the company’s Level 3 CDO portfolio and the potential effect of further OTTI charges on earnings, OCI, and regulatory capital.
The effect of the fourth-quarter 2011 debit-card interchange-fee limits on fee income and earnings.
The magnitude and duration of accelerated convertible-debt discount amortization and the remaining $579.2 million par balance of convertible subordinated debt.
The company’s ability to maintain capital and Parent liquidity while repaying or refinancing TARP preferred stock and meeting potentially higher Basel III capital requirements.
The expected quarterly costs, termination rights, and counterparty exposure associated with the total return swap.
Whether litigation, FDIC loss-sharing adjustments, tax-asset realization, or changes in economic conditions create liabilities or losses beyond current estimates.