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MTB > SEC Filings for MTB > Form 10-Q on 8-Aug-2013All Recent SEC Filings

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Form 10-Q for M&T BANK CORP


8-Aug-2013

Quarterly Report


Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations.

Overview

Net income for M&T Bank Corporation ("M&T") in the second quarter of 2013 was $348 million or $2.55 of diluted earnings per common share, compared with $233 million or $1.71 of diluted earnings per common share in the year-earlier quarter. During the initial quarter of 2013, net income totaled $274 million or $1.98 of diluted earnings per common share. Basic earnings per common share were $2.56 in the recent quarter, compared with $1.71 in the second quarter of 2012 and $2.00 in the initial 2013 quarter. The after-tax impact of net acquisition and integration-related expenses (included herein as merger-related expenses) was $5 million ($8 million pre-tax) or $.04 of basic and diluted earnings per common share in the second quarter of 2013, compared with $4 million ($7 million pre-tax) or $.03 of basic and diluted earnings per common share in the year-earlier quarter and $3 million ($5 million pre-tax), or $.02 of basic and diluted earnings per common share in the first quarter of 2013. Such expenses in 2013 were associated with M&T's pending acquisition of Hudson City Bancorp, Inc. ("Hudson City"), headquartered in Paramus, New Jersey, and in 2012 were associated with M&T's May 16, 2011 acquisition of Wilmington Trust Corporation ("Wilmington Trust"), headquartered in Wilmington, Delaware. For the first six months of 2013, net income totaled $623 million or $4.53 of diluted earnings per common share, compared with $440 million or $3.20 of diluted earnings per common share in the first half of 2012. Basic earnings per common share for the six-month periods ended June 30, 2013 and 2012 were $4.56 and $3.21, respectively. The after-tax impact of merger-related expenses during the first six months of 2013 was $8 million ($12 million pre-tax), or $.06 of basic and diluted earnings per common share, compared with $6 million ($10 million pre-tax) or $.05 of basic and diluted earnings per common share during the six-month period ended June 30, 2012.

The annualized rate of return on average total assets for M&T and its consolidated subsidiaries ("the Company") in the recent quarter was 1.68%, compared with 1.17% in the second quarter of 2012 and 1.36% in the first quarter of 2013. The annualized rate of return on average common shareholders' equity was 13.78% in the second quarter of 2013, compared with 10.12% in the year-earlier quarter and 11.10% in the first three months of 2013. During the six-month period ended June 30, 2013, the annualized rates of return on average assets and average common shareholders' equity were 1.52% and 12.47%, respectively, compared with 1.12% and 9.58%, respectively, in the first six months of 2012.

Reflected in the results for the second quarter of 2013 were certain noteworthy items. The Company sold the majority of its privately issued mortgage-backed securities ("MBS") that had been held in the available-for-sale investment securities portfolio for an after-tax loss of $28 million ($46 million pre-tax), or $.22 per diluted common share. In addition, the Company's holdings of Visa and MasterCard shares were sold for an after-tax gain of $62 million ($103 million pre-tax), or $.48 per diluted common share. Finally, during the recent quarter the Company reversed an accrual for a contingent compensation obligation assumed in the May 2011 acquisition of Wilmington Trust that expired, resulting in a $26 million reduction of "other expense - other costs of operations" having an after-tax impact of $15 million, or $.12 of diluted earnings per common share.

On August 27, 2012, M&T announced that it had entered into a definitive agreement with Hudson City under which Hudson City would be acquired by M&T. Pursuant to the terms of the agreement, Hudson City shareholders will receive consideration for each common share of Hudson City in an amount valued at .08403 of an M&T share in the form of either M&T common stock or cash, based on the election of each Hudson City shareholder, subject to proration as specified in the merger agreement (which provides for an aggregate split of

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total consideration of 60% common stock of M&T and 40% cash). As of June 30, 2013 total consideration to be paid was valued at approximately $4.7 billion. At June 30, 2013, Hudson City had $39.7 billion of assets, including $25.3 billion of loans and $10.6 billion of investment securities, and $35.0 billion of liabilities, including $22.6 billion of deposits. The merger has received the approval of the common shareholders of M&T and Hudson City. However, the merger is subject to a number of other conditions, including regulatory approvals.

On April 12, 2013, M&T announced that additional time would be required to obtain a regulatory determination on the applications for the proposed merger with Hudson City. M&T had learned that regulators identified certain concerns with the Company's procedures, systems and processes related to the Company's Bank Secrecy Act and anti-money-laundering compliance program. On June 17, 2013, M&T and Manufacturers and Traders Trust Company ("M&T Bank"), M&T's principal banking subsidiary, entered into a written agreement with the Federal Reserve Bank of New York ("Federal Reserve Bank"). Under the terms of the agreement, M&T and M&T Bank are required to submit to the Federal Reserve Bank a revised compliance risk management program designed to ensure compliance with anti-money laundering laws and regulations and to take certain other steps to enhance their compliance practices. M&T has commenced a major initiative, including the hiring of outside consulting firms, intended to fully address those regulator concerns. In view of the potential timeframe required to implement this initiative, demonstrate its efficacy to the satisfaction of the regulators and otherwise meet any other regulatory requirements that may be imposed in connection with these matters, M&T and Hudson City believe that the timeframe for closing the transaction will be extended substantially beyond the date previously expected. Accordingly, M&T and Hudson City extended the date after which either party may elect to terminate the merger agreement if the merger has not yet been completed from August 27, 2013 to January 31, 2014. Nevertheless, there can be no assurances that the merger will be completed by that date.

Recent Legislative and Regulatory Developments

As discussed in the Company's Form 10-K for the year ended December 31, 2012, the Dodd-Frank Wall Street Reform and Consumer Protection Act ("Dodd-Frank Act") that was signed into law on July 21, 2010 has and will continue to significantly change the bank regulatory structure and affect the lending, deposit, investment, trading and operating activities of financial institutions and their holding companies, and the system of regulatory oversight of the Company. The Dodd-Frank Act requires various federal agencies to adopt a broad range of new implementing rules and regulations, and to prepare numerous studies and reports for Congress, many of which are not yet completed or implemented. The Dodd-Frank Act could have a material adverse impact on the financial services industry as a whole, as well as on M&T's business, results of operations, financial condition and liquidity.

Many aspects of the Dodd-Frank Act still remain subject to rulemaking and will take effect over several years, making it difficult to anticipate the overall financial impact on M&T, its customers or the financial industry more generally. Provisions in the legislation that affect deposit insurance assessments, payment of interest on demand deposits and interchange fees directly impact the net income of financial institutions. Provisions in the legislation that revoke the Tier 1 capital treatment of trust preferred securities and otherwise require revisions to the capital requirements of M&T and M&T Bank could require M&T and M&T Bank to further seek other sources of capital in the future.

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A discussion of the provisions of the Dodd-Frank Act is included in Part II, Item 7 of the Company's Form 10-K for the year ended December 31, 2012.

On July 31, 2013, the U.S. District Court for the District of Columbia issued an order granting summary judgment to the plaintiffs in a case challenging certain provisions of the Federal Reserve's rule concerning electronic debit card transaction fees and network exclusivity arrangements (the "Current Rule") that were adopted to implement Section 1075 of the Dodd-Frank Act - the so-called "Durbin Amendment." The Court held that, in adopting the Current Rule, the Federal Reserve violated the Durbin Amendment's provisions concerning which costs are allowed to be taken into account for purposes of setting fees that are "reasonable and proportional to the costs incurred by the issuer" and therefore the Current Rule's maximum permissible fees were too high. In addition, the Court held that the Current Rule's network non-exclusivity provisions concerning unaffiliated payment networks for debit cards also violated the Durbin Amendment. The Court vacated the Current Rule, but stayed its ruling to provide the Federal Reserve an opportunity to replace the invalidated portions. If the Federal Reserve re-issues rules for purposes of implementing the Durbin Amendment in a manner consistent with this decision, the amount of debit card interchange fees the Company would be permitted to charge likely would be reduced. The amount of such reduction cannot be estimated at this time.

In July 2013, the Federal Reserve Board, the Office of the Comptroller of the Currency and the Federal Deposit Insurance Corporation approved final rules (the "New Capital Rules") establishing a new comprehensive capital framework for U.S. banking organizations. The New Capital Rules generally implement the Basel Committee on Banking Supervision's (the "Basel Committee") December 2010 final capital framework referred to as "Basel III" for strengthening international capital standards. The New Capital Rules substantially revise the risk-based capital requirements applicable to bank holding companies and their depository institution subsidiaries, including M&T and M&T Bank, as compared to the current U.S. general risk-based capital rules. The New Capital Rules revise the definitions and the components of regulatory capital, as well as address other issues affecting the numerator in banking institutions' regulatory capital ratios. The New Capital Rules also address asset risk weights and other matters affecting the denominator in banking institutions' regulatory capital ratios and replace the existing general risk-weighting approach, which was derived from the Basel Committee's 1988 "Basel I" capital accords, with a more risk-sensitive approach based, in part, on the "standardized approach" in the Basel Committee's 2004 "Basel II" capital accords. In addition, the New Capital Rules implement certain provisions of the Dodd-Frank Act, including the requirements of
Section 939A to remove references to credit ratings from the federal agencies' rules. The New Capital Rules are effective for the Company on January 1, 2015, subject to phase-in periods for certain of their components and other provisions.

Among other matters, the New Capital Rules: (i) introduce a new capital measure called "Common Equity Tier 1" ("CET1") and related regulatory capital ratio of CET1 to risk-weighted assets; (ii) specify that Tier 1 capital consists of CET1 and "Additional Tier 1 capital" instruments meeting certain revised requirements; (iii) mandate that most deductions/adjustments to regulatory capital measures be made to CET1 and not to the other components of capital; and
(iv) expand the scope of the deductions from and adjustments to capital as compared to existing regulations. Under the New Capital Rules, for most banking organizations, including M&T, the most common form of Additional Tier 1 capital is non-cumulative perpetual preferred stock and the most common forms of Tier 2 capital are subordinated notes and a portion of the allocation for loan and lease losses, in each case, subject to the New Capital Rules' specific requirements.

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Pursuant to the New Capital Rules, the minimum capital ratios as of January 1, 2015 will be as follows:

4.5% CET1 to risk-weighted assets;

6.0% Tier 1 capital (that is, CET1 plus Additional Tier 1 capital) to risk-weighted assets;

8.0% Total capital (that is, Tier 1 capital plus Tier 2 capital) to risk-weighted assets; and

4.0% Tier 1 capital to average consolidated assets as reported on consolidated financial statements (known as the "leverage ratio").

The New Capital Rules also introduce a new "capital conservation buffer", composed entirely of CET1, on top of these minimum risk-weighted asset ratios. The capital conservation buffer is designed to absorb losses during periods of economic stress. Banking institutions with a ratio of CET1 to risk-weighted assets above the minimum but below the capital conservation buffer will face constraints on dividends, equity and other capital instrument repurchases and compensation based on the amount of the shortfall. Thus, when fully phased-in on January 1, 2019, the capital standards applicable to the Company will include an additional capital conservation buffer of 2.5% of CET1, effectively resulting in minimum ratios inclusive of the capital conservation buffer of (i) CET1 to risk-weighted assets of at least 7%, (ii) Tier 1 capital to risk-weighted assets of at least 8.5%, and (iii) Total capital to risk-weighted assets of at least 10.5%.

The New Capital Rules provide for a number of deductions from and adjustments to CET1. These include, for example, the requirement that mortgage servicing rights, deferred tax assets arising from temporary differences that could not be realized through net operating loss carrybacks and significant investments in non-consolidated financial entities be deducted from CET1 to the extent that any one such category exceeds 10% of CET1 or all such items, in the aggregate, exceed 15% of CET1.

In addition, under the current general risk-based capital rules, the effects of accumulated other comprehensive income or loss ("AOCI") items included in shareholders' equity (for example, marks-to-market of securities held in the available-for-sale portfolio) under U.S. GAAP are reversed for the purposes of determining regulatory capital ratios. Pursuant to the New Capital Rules, the effects of certain AOCI items are not excluded; however, non-advanced approaches banking organizations, including the Company, may make a one-time permanent election to continue to exclude these items. This election must be made concurrently with the first filing of certain of the Company's periodic regulatory reports in the beginning of 2015. The New Capital Rules also preclude certain hybrid securities, such as trust preferred securities, from inclusion in bank holding companies' Tier 1 capital, subject to phase-out in the case of bank holding companies, such as M&T, that had $15 billion or more in total consolidated assets as of December 31, 2009. As a result, beginning in 2015, only 25% of M&T's $1.2 billion of trust preferred securities currently outstanding and expected to be outstanding on the effective date of the New Capital Rules (which is the date of publication in the Federal Register) will be included in Tier 1 capital and in 2016, none of M&T's trust preferred securities will be included in Tier 1 capital. Trust preferred securities no longer included in M&T's Tier 1 capital may nonetheless be included as a component of Tier 2 capital on a permanent basis without phase-out and irrespective of whether such securities otherwise meet the revised definition of Tier 2 capital set forth in the New Capital Rules.

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Implementation of the deductions and other adjustments to CET1 will begin on January 1, 2015 and will be phased-in over a 4-year period (beginning at 40% on January 1, 2015 and an additional 20% per year thereafter). The implementation of the capital conservation buffer will begin on January 1, 2016 at the 0.625% level and increase by 0.625% on each subsequent January 1, until it reaches 2.5% on January 1, 2019.

With respect to the insured depository institution subsidiaries of the Company, the New Capital Rules revise the "prompt corrective action" ("PCA") regulations adopted pursuant to Section 38 of the Federal Deposit Insurance Act, by:
(i) introducing a CET1 ratio requirement at each PCA category (other than critically undercapitalized), with the required CET1 ratio being 6.5% for well-capitalized status; (ii) increasing the minimum Tier 1 capital ratio requirement for each category, with the minimum Tier 1 capital ratio for well-capitalized status being 8% (as compared to the current 6%); and
(iii) eliminating the current provision that provides that a bank with a composite supervisory rating of 1 may have a 3% leverage ratio and still be adequately capitalized. The New Capital Rules do not change the total risk-based capital requirement for any PCA category.

The New Capital Rules prescribe a new standardized approach for risk weightings that expand the risk-weighting categories from the current four Basel I-derived categories (0%, 20%, 50% and 100%) to a larger and more risk-sensitive number of categories, depending on the nature of the assets, generally ranging from 0% for U.S. government and agency securities, to 600% for certain equity exposures, and resulting in higher risk weights for a variety of asset classes.

Management believes that the Company will be able to comply with the targeted capital ratios upon implementation of the revised requirements, as finalized. More specifically, management estimates that the Company's ratio of CET1 to risk-weighted assets under the New Capital Rules on a fully phased-in basis was approximately 8.10% to 8.15% as of June 30, 2013, reflecting a good faith estimate of the computation of CET1 and the Company's risk-weighted assets under the methodologies set forth in the New Capital Rules.

The Company's regulatory capital ratios under risk-based capital rules currently in effect are presented herein under the heading "Capital."

Supplemental Reporting of Non-GAAP Results of Operations

As a result of business combinations and other acquisitions, the Company had intangible assets consisting of goodwill and core deposit and other intangible assets totaling $3.6 billion at each of June 30, 2013 and December 31, 2012 and $3.7 billion at June 30, 2012. Included in such intangible assets was goodwill of $3.5 billion at each of those dates. Amortization of core deposit and other intangible assets, after tax effect, was $8 million ($.06 per diluted common share) during each of the two most recent quarters, compared with $10 million ($.08 per diluted common share) during the second quarter of 2012. For the six-month periods ended June 30, 2013 and 2012, amortization of core deposit and other intangible assets, after tax effect, totaled $16 million ($.12 per diluted common share) and $20 million ($.16 per diluted common share), respectively.

M&T consistently provides supplemental reporting of its results on a "net operating" or "tangible" basis, from which M&T excludes the after-tax effect of amortization of core deposit and other intangible assets (and the related goodwill, core deposit intangible and other intangible asset balances, net of applicable deferred tax amounts) and gains and expenses associated with merging acquired operations into the Company, since such items are considered by management to be "nonoperating" in nature. Although "net operating income" as defined by M&T is not a GAAP measure, M&T's management believes that this information helps investors understand the effect of acquisition activity in reported results.

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Net operating income totaled $361 million in the second quarter of 2013, compared with $247 million in the corresponding 2012 quarter. Diluted net operating earnings per common share for the recent quarter were $2.65, compared with $1.82 in the second quarter of 2012. Net operating income and diluted net operating earnings per common share were $285 million and $2.06, respectively, in the first quarter of 2013. For the first six months of 2013, net operating income and diluted net operating earnings per common share were $646 million and $4.71, respectively, compared with $466 million and $3.41, respectively, in the similar 2012 period.

Net operating income in the recent quarter expressed as an annualized rate of return on average tangible assets was 1.81%, compared with 1.30% and 1.48% in the second quarter of 2012 and first quarter of 2013, respectively. Net operating income represented an annualized return on average tangible common equity of 22.72% in the recently completed quarter, compared with 18.54% and 18.71% in the quarters ended June 30, 2012 and March 31, 2013, respectively. For the first half of 2013, net operating income represented an annualized return on average tangible assets and average tangible common shareholders' equity of 1.65% and 20.76%, respectively, compared with 1.24% and 17.68%, respectively, in the six-month period ended June 30, 2012.

Reconciliations of GAAP amounts with corresponding non-GAAP amounts are provided in table 2.

Taxable-equivalent Net Interest Income

Taxable-equivalent net interest income totaled $684 million in the recent quarter, up 4% from $655 million in the year-earlier quarter. That improvement reflects a $3.5 billion or 5% rise in average earning assets as compared with the second quarter of 2012, partially offset by a 3 basis point (hundredths of one percent) narrowing of the Company's net interest margin, or taxable-equivalent net interest income expressed as an annualized percentage of average earning assets. The rise in average earning assets was attributable to a $4.2 billion increase in average loans outstanding and a $1.1 billion increase in average interest-bearing deposits held at the Federal Reserve Bank, partially offset by a $2.0 billion decline in average balances of investment securities. The higher average loan balances outstanding were largely attributable to increased demand for commercial loans and commercial real estate loans. Taxable-equivalent net interest income was increased by $13 million during the recent quarter, resulting from an improvement in estimated cash flows expected to be collected on acquired loans. Stabilizing economic conditions and better than expected repayments led to a reduction in estimated future credit losses on acquired loans of $130 million, resulting in an approximate 2% increase in projected cash flows that will be recognized as interest income over the remaining terms of those loans. Taxable-equivalent net interest income in the recent quarter was 3% above the $663 million recorded in the initial quarter of 2013. That improvement reflects a $1.6 billion increase in average earning assets, predominantly the result of a $1.9 billion rise in average interest-bearing deposits held at the Federal Reserve Bank, partially offset by a decline in average balances of investment securities of $509 million. The recent quarter's net interest margin of 3.71% was unchanged from 2013's first quarter.

For the first six months of 2013, taxable-equivalent net interest income was $1.35 billion, 5% higher than $1.28 billion in the corresponding 2012 period. That increase was largely attributable to higher average earning assets, which rose $3.7 billion or 5% from $69.4 billion in the first half of 2012 to $73.2 billion in the first six months of 2013. Contributing to the growth in average earning assets were higher balances of commercial loans and commercial real estate loans due to increased demand for such loans.

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Average loans and leases rose 7% to $66.0 billion in the recent quarter from $61.8 billion in the second quarter of 2012. Commercial loans and leases averaged $17.7 billion in the second quarter of 2013, up $1.6 billion or 10% from $16.1 billion in the year-earlier quarter. Average commercial real estate loans rose 5% to $26.1 billion in the recent quarter from $24.7 billion in the second quarter of 2012. Average residential real estate loans outstanding rose 17% to $10.8 billion in the second quarter of 2013 from $9.2 billion in the corresponding quarter of 2012. Included in that portfolio were loans originated for sale, which averaged $977 million in the recent quarter, compared with $281 million in the second quarter of 2012. The growth in residential real estate loans reflects the Company's decision during the third quarter of 2011 to retain for portfolio a higher proportion of originated loans. However, beginning in September 2012, the Company again began originating for sale the majority of residential real estate loans originated due to the significant growth in the portfolio and the pending Hudson City acquisition. Average consumer loans and leases totaled $11.4 billion in the recent quarter, $360 million or 3% lower than $11.8 billion in 2012's second quarter. That decrease was largely due to lower average balances of automobile and home equity loans and outstanding lines of credit.

During the second quarter of 2013, the Company securitized approximately $296 million of residential real estate loans previously originated by the Company and held in its loan portfolio. The residential real estate loans were guaranteed by the Federal Housing Administration ("FHA"), and substantially all of the resulting Government National Mortgage Association ("Ginnie Mae") mortgage-backed investment securities have been retained by the Company in the held-to-maturity portfolio. An additional $1.0 billion of FHA loans in the Company's residential real estate loan portfolio will be securitized in the third quarter of 2013 and the resulting Ginnie Mae mortgage-backed securities will largely be retained in the Company's investment securities portfolio. The Company also expects to securitize up to approximately $1.5 billion of loans held in its consumer loan portfolio during the third quarter of 2013. The Company is securitizing loans to improve its regulatory capital ratios and strengthen its liquidity and risk profile, including the ability to pledge any of the retained assets, as a result of changing regulatory requirements. The fair value of loans to be securitized exceeded their amortized cost at June 30, 2013.

Average loan balances in the recent quarter rose $128 million from the first quarter of 2013. Average outstanding commercial loan and lease balances increased $385 million, or 2%, and average balances of commercial real estate loans rose $136 million, or 1%, while average residential real estate loans declined $336 million, or 3%, and average consumer loans decreased $57 million from 2013's first quarter. The decline in residential real estate loans reflects payments received and the recent quarter securitization of FHA residential real estate loans. The accompanying table summarizes quarterly changes in the major components of the loan and lease portfolio.

AVERAGE LOANS AND LEASES

(net of unearned discount)
. . .
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