First Niagara Financial Group’s spate of acquisitions – while profitable – is turning out to be less valuable than its executives originally thought, because of the sluggish economic recovery, low interest rates and its own lackluster stock.
As a result, First Niagara’s third-quarter results nose-dived Friday, as the bank reported an enormous $665 million one-time “paper” loss, driven entirely by an $800 million accounting write-down on the value of its prior deals.
The write-down doesn’t affect the bank’s operations, accounts, customers or employees, nor its core earnings, which were largely on track. Rather, it is an acknowledgement that the bank overpaid for the acquisitions.
“If the company knew then, what the company knows now, it may very well not have paid as much for some of those acquisitions,” CEO Gary Crosby said in an interview Friday.
Separately, the bank said it also may have to pay up to $45 million in restitution to customers because of an unrelated potential problem with some deposit accounts that executives said they are unable to specify until they are certain.
In its early morning release, the bank said the loss equated to $1.90 per share, compared to a net income of $71.6 million, or 20 cents per share, in the third quarter of 2013. At the pace of recent quarters, the loss essentially erases the equivalent of nine or 10 quarters of earnings.
“I’m disappointed that we must take these two charges,” Crosby said on a conference call with Wall Street analysts. They “unfortunately distract from what is otherwise a fairly solid quarter.”
The news is the latest blow to shareholders of a bank that has overpromised and under-delivered in recent years, despite quadrupling in size in four years into one of the nation’s largest institutions and a major player in Buffalo. Since peaking at $15.06 in February 2011, the stock has tumbled by more than half.
On Friday following the earnings news, investors pummeled the stock further, sending shares down $1.14, or 13.51 percent, to $7.30 – its lowest level in 12 years.
The Buffalo-based banking company said the decision to record the “non-cash goodwill impairment charge” was “based on current market-driven assumptions” and isn’t related to bad loans or other problems with the quality of its assets or customer base. Crosby said the business itself is performing as expected, generating growth for the bank in loans and deposits while holding revenues steady in one of the worst operating climates for financial institutions.
But that’s not enough. The bank’s leadership had originally anticipated that its acquisitions in upstate New York and three other states would produce a higher level of performance and drive more value for the overall company in the long run. That was based on expectations years ago that the economy would recover sooner and with more strength, that the stock market would pick up and that interest rates would rise by now. The bank issued or sold stock to pay for the deals.
Instead, none of those assumptions have panned out, and tighter regulations have made business even tougher. The gap between what the bank paid and what the acquired operations would now be worth had grown too large to ignore under accounting rules. That’s because First Niagara’s stock price is much lower than officials had expected at this point, interest rates aren’t expected to rise much anytime soon and overall economic conditions are different than when the deals were announced. Bank leaders concluded there was no likelihood that would change anytime soon.
So in keeping with strict accounting rules, the bank is slashing the extra value or “goodwill” that it has carried on its books for all of its acquisitions.
Crosby stressed that it “has no impact on our daily operations, our ability to continue to serve customers or our future profitability” and doesn’t hurt its capital levels as measured by regulatory standards.
However, the loss was significant enough that the company will now have to obtain regulatory approval before paying dividends through the first quarter of 2017.
First Niagara already received those approvals for the current quarter, and announced an 8-cent dividend Friday. “Based on conversations with the regulators and barring any unforeseen future developments that will affect future profitability, we believe we can maintain dividends at their current level,” Crosby said.
Additionally, the bank set aside $45 million before taxes because of an unspecified “process issue” that is indirectly “related to certain customer accounts,” officials said.
Bank officials did not provide details, except to say that it is not a data breach or fraud, balances have not been misstated, there’s no criminal investigation, and the bank identified the problem on its own and already reported it to regulators. Crosby said the bank is “conducting an internal review to determine the potential impact on our customers” but only a small number of customers are affected and they “should be confident that their account balance information accurately reflects the funds on deposit with us.”
He added that the bank will take corrective action, “including customer remediation where appropriate,” which includes the reserve. He admitted on the call, however, that “estimating the ultimate amount is a little difficult.”
“Our customers’ money is safe. That’s not the issue,” he said in the interview. “And to the extent that there is restitution that we need to make, we’ll make it as soon as we’re certain of what that is, how much it is, and who.”
Finally, the bank recorded $2 million in pre-tax restructuring charges from its recently announced closings of 17 branches across four states. Officials expect those closings to result in $6 million to $7 million in pre-tax benefits in the fourth quarter.
Not counting those charges, the bank’s operating net income was $63.3 million, or 18 cents per share, matching Wall Street expectations but down 11.6 percent from a year ago and 4.4 percent from the second quarter, when it earned $66.2 million, or 19 cents per share.
Net interest income from taking deposits and making loans fell 1.5 percent to $273.3 million. while fee income plunged 17.5 percent to $75.4 million. The bank set aside $21.2 million for losses, down from a year ago.
Operating expenses rose 7.9 percent to $249 million, including costs for the bank’s multi-year technology initiative. The bank also incurred an additional $7 million in “other elevated expenses that we don’t expect to recur,” Crosby said. Those included a $3 million write-down on the value of a property underlying a commercial real estate loan, as well as $2 million in higher state taxes and $2 million in costs from protecting customers after the Home Depot data security breach.