Business Context and Reporting Period
Company: First Horizon National Corporation (FHN)
Filing Type: Form 10-Q (Quarterly Report)
Period Ended: September 30, 2008
Overview: FHN is a national financial services institution headquartered in Memphis, Tennessee. The reporting period was significantly impacted by the global financial crisis, leading to a strategic restructuring. Key events included the sale of the national mortgage origination and servicing platform to MetLife Bank, N.A. in August 2008, the discontinuation of national homebuilder and commercial real estate lending, and a major capital raise via a common stock offering in the second quarter.
Key Financial Metrics
| Metric | Q3 2008 | Q3 2007 | 9M 2008 | 9M 2007 |
|---|---|---|---|---|
| Net Income/(Loss) | $(125.1) million | $(14.2) million | $(136.3) million | $78.5 million |
| Diluted EPS | $(0.62) | $(0.11) | $(0.80) | $0.60 |
| Total Assets | $32.8 billion | $37.5 billion | N/A | N/A |
| Shareholders' Equity | $2.6 billion | $2.4 billion | N/A | N/A |
| Net Interest Income | $223.1 million | $237.8 million | $690.1 million | $714.7 million |
| Noninterest Income | $305.2 million | $203.5 million | $1.15 billion | $767.0 million |
| Provision for Loan Losses | $340.0 million | $43.4 million | $800.0 million | $116.2 million |
| Net Charge-offs (Q3) | $154.7 million | $31.4 million | N/A | N/A |
| Allowance for Loan Losses | $760.5 million | $236.6 million | N/A | N/A |
| Nonperforming Assets | $1.02 billion | $268.4 million | N/A | N/A |
Material Changes vs. Prior Period
- Significant Losses: The company reported a net loss of $125.1 million for Q3 2008, a deterioration from the $14.2 million loss in Q3 2007. The nine-month period showed a net loss of $136.3 million compared to net income of $78.5 million in the prior year.
- Provision for Loan Losses: The provision increased dramatically to $340.0 million in Q3 2008 from $43.4 million in Q3 2007. This was driven by severe deterioration in the national construction lending, home equity, and commercial portfolios, with net charge-offs rising to $154.7 million.
- Asset Quality Deterioration: Nonperforming assets surged to $1.02 billion (4.63% of loans and foreclosed real estate) from $268.4 million (1.13%) a year ago. The allowance for loan losses increased to 3.52% of total loans from 1.08%.
- Divestitures: FHN completed the sale of its national mortgage origination and servicing platform to MetLife, recognizing a $17.5 million loss on the divestiture. Additionally, 34 First Horizon Bank branches were sold, resulting in further losses.
- Capital Raise: In Q2 2008, FHN issued 69 million shares of common stock, generating net proceeds of approximately $660 million, which improved the capital position despite the losses.
Guidance, Outlook, and Risks
- Strategic Repositioning: Management is winding down national lending operations to focus on its regional banking franchise in Tennessee and its capital markets business. Future origination activity is expected to be significantly reduced outside the regional footprint.
- Capital Purchase Program (CPP): In October 2008, FHN received preliminary approval to participate in the U.S. Treasury's Capital Purchase Program. The company expects to issue approximately $866 million in non-voting cumulative preferred stock to the Treasury, subject to restrictions on dividends and executive compensation.
- Dividend Policy: The Board replaced the quarterly cash dividend with a stock dividend (1.837% rate) to conserve capital, intending to maintain this policy for the foreseeable future until earnings improve.
- Restructuring Costs: Net costs related to restructuring and efficiency initiatives totaled $81.1 million for the nine months ended September 30, 2008. Management expects additional charges of $5 million to $15 million in Q4 2008 related to the conclusion of the mortgage divestiture.
- Key Risks:
- Credit Risk: Continued deterioration in the housing market and broader economy is expected to increase credit costs, particularly in the One-Time-Close (OTC) and homebuilder portfolios.
- Market Risk: Volatility in capital markets and reduced liquidity may adversely impact revenue execution and the valuation of mortgage servicing rights (MSR) and other retained interests.
- Operational Risk: Significant outsourcing of servicing functions to MetLife and third-party origination partners introduces new operational and compliance risks.
Investor Verification Checklist
- Asset Quality Trends: Verify the trajectory of nonperforming assets and net charge-offs in the National Specialty Lending and Regional Banking segments, specifically regarding the OTC and homebuilder portfolios.
- Allowance Adequacy: Assess whether the 3.52% allowance for loan losses is sufficient given the accelerated recognition of impairment on collateral-dependent loans (SFAS 114) and the potential for further collateral value declines.
- Divestiture Completion: Monitor the final "true-up" of the MetLife transaction expected in Q4 2008 and the associated contingent liabilities.
- CPP Terms: Review the final terms of the Treasury Capital Purchase Program participation, including the impact of the 5% dividend on preferred stock and the dilution from warrants.
- MSR Valuation: Examine the assumptions used in the discounted cash flow models for Mortgage Servicing Rights, particularly prepayment speeds and discount rates, given the sensitivity of these assets to interest rate changes.
- Liquidity Position: Confirm the stability of core deposits and the reliance on wholesale funding sources like the Federal Reserve's Term Auction Facility (TAF) and Federal Home Loan Bank (FHLB) advances.