DBRS Comments on Q4 Earnings of FirstMerit Corporation - Senior at A (low)

DBRS has today commented on the Q4 2008 earnings of FirstMerit Corporation (FirstMerit or the Company). Even with a deteriorating economic environment, FirstMerit reported solid earnings of $29.1 million for Q4 2008, down from $29.8 million for the prior quarter and $31.5 million for Q4 2007. On a sequential quarter basis, Q4 2008 net income compressed slightly due to a 9% increase in provisions and non-interest expenses, respectively, mostly offset by a four basis point (bp) widening of its net interest margin (NIM) to 3.82% and an approximately $6 million gain on the sale of Visa, Inc. stock. Compared with a year ago, quarterly net income was negatively impacted by an 82% increase in provisions for loan loss reserves, a 9% decrease in service charges on deposits and a 6% increase in non-interest expenses. Partially offsetting this was a 16 bp widening of its NIM. FirstMerit’s franchise strengths and credit fundamentals remain unchanged, and its ratings, including its A (low)-rated senior obligations and Stable trend, remain unaffected.

Although the rapid deterioration of the economy has led to a considerable escalation in asset quality erosion throughout the banking universe, FirstMerit’s asset quality deterioration was much more restrained. At December 31, 2008, non-performing assets (NPAs) expanded to 0.77% of loans and other real estate owned from 0.59% at September 30, 2008, and 0.53% at December 31, 2007. DBRS notes that the increase in NPAs reflected higher commercial and residential mortgage non-accruals. Meanwhile, net charge-offs (NCOs) increased to 0.82% of average loans, up from 0.64% for the prior quarter and 0.51% for Q4 2007. The bulk of the Company’s gross charge-offs for the quarter was installment, commercial and credit card loans. More than half of the commercial charge-offs were residential home builder projects. DBRS believes that further erosion in FirstMerit’s asset quality is likely, given the deepening recession. For 2008, loan loss provisions of $58.6 million exceeded NCOs by 1.01 times. FirstMerit’s allowance for loan loss reserves-to-non-accruals was solid at 198.7%.

NIM widened during Q4 2008, to 3.82% from 3.78% for the prior quarter and 3.66% for Q4 2007, due to lower funding costs and an opportunistic acquisition of short-term, higher-yielding securities.

FirstMerit’s liquidity position remains acceptable, as core deposits represents 84% (as of September 30, 2008) of net loans. The Company’s securities portfolio, which reflects 25% of total assets, and access to the Federal Home Loan Bank and Federal Reserve discount window round out its liquidity profile. Capital remained solid, as reflected by FirstMerit’s tangible equity-to-tangible assets ratio of 7.27%. On January 9, 2009, the Company issued $125 million of preferred stock to the U.S. Department of the Treasury (the Treasury), as part of the Treasury’s Capital Purchase Program, which helped augment regulatory capital ratios and provide more of a cushion to absorb credit losses. On a pro-forma basis, FirstMerit’s Tier 1 and Total risk-based capital ratios were estimated to be 11.49% and 13.09%, respectively, at December 31, 2008.

Given FirstMerit’s solid deposit franchise in northeastern Ohio, its diverse business model, good earnings and relatively sound asset quality, DBRS expects the Company 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.