DBRS Comments on the Q4 Earnings of Susquehanna Bancshares, Inc. – Senior at BBB (high)

DBRS has today commented on the Q4 2008 earnings of Susquehanna Bancshares, Inc. (Susquehanna or the Company), given the continued unsettled conditions in the financial markets and a deteriorating economy. DBRS rates Susquehanna’s Issuer & Senior Debt at BBB (high) with a Stable trend. Susquehanna reported net income available to shareholders of $18.2 million for the quarter, up from $6.4 million in the previous quarter, but down modestly from $18.7 million in Q4 2007. Excluding various one-time charges taken in Q3 2008, earnings would have declined $6.8 million in Q4 2008 driven by higher credit costs and net interest margin (NIM) compression, which more than offset lower expenses. The lower earnings resulted in a return on assets of 0.56%. While weaker, results are still in line with the rating category and DBRS notes that Susquehanna has remained profitable every quarter in a very challenging 2008.

Further deterioration in the economy continued to pressure asset quality. Non-performing assets (NPAs) increased to 1.22% of loans and leases and other real estate owned (OREO) in the fourth quarter, from 1.15% in the previous quarter and from 0.81% in Q4 2007. The major concern within the loan portfolio remains the I-95 corridor from Delaware to Washington D.C., where approximately 35% of all non-accruals are located. Meanwhile, net charge-offs (NCOs) increased to 0.60% of loans and leases for the fourth quarter from 0.35% in the prior quarter and 0.26% a year earlier. Most of the fourth quarter charge-offs were related to real estate and commercial lending. Asset quality should continue to deteriorate, but DBRS notes that the Company remains well positioned to cope with the very difficult environment, especially given the U.S. Treasury’s $300 million preferred shares investment. The investment provides an additional capital cushion to absorb future credit costs and allows Susquehanna sufficient capacity to extend new credit.

Liquidity at the holding company is strong as well, with no debt coming due in the next three years. While regulatory capital ratios were enhanced by the preferred shares investment, the tangible equity ratio is slightly below the Company’s target tangible common equity ratio of 6% and, if other comprehensive income is included, the ratio drops to 5.05%. Susquehanna reaffirmed its dividend, which will continue to pressure tangible common equity if performance does not improve. Given the gloomy economic outlook, DBRS would favorably view a reduction in the dividend to help protect capital.

While NIM declined eight basis points during the quarter to 3.52%, the Company expects NIM to be in the 3.70% range in 2009. Management expects margin expansion as Susquehanna has some expensive funding maturing this year and will also be able to lower rates on other deposit products starting in Q1 2009. Management expects loan growth to outpace deposit growth, which will increase the Company’s reliance on wholesale funding as attracting reasonably priced deposits remains a challenge.

Hann, the Company’s auto-leasing business, contributed pre-tax earnings of $1.6 million in 2008, which was $2.9 million below budget due to higher than expected costs. For the year, Hann originated 10,498 units totaling $257 million. For 2009, Susquehanna expects similar production despite the drop off in consumer demand as many competitors have dropped out of the market. DBRS notes that the Company has a full third-party guarantee on the residual value of the cars, which eliminates the potential for residual write-downs.

Given the Company’s relatively sound asset quality, above-peer fee income levels and solid loan growth, DBRS expects Susquehanna to continue generating operating results and maintaining credit fundamentals expected of banks in its rating range.

Notes:
All figures are in U.S. dollars unless otherwise noted.

The applicable methodology is Rating Banks and Bank Holding Companies Operating in the United States, which can be found on our website under Methodologies.

This is a Corporate (Financial Institutions) rating.