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FHN > SEC Filings for FHN > Form 10-Q on 7-Nov-2013All Recent SEC Filings

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Form 10-Q for FIRST HORIZON NATIONAL CORP


7-Nov-2013

Quarterly Report


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

  General Information                                                           78

  Forward-Looking Statements                                                    79

  Financial Summary                                                             79

  Statement of Condition Review                                                 89

  Capital                                                                       91

  Asset Quality-Trend Analysis of Third Quarter 2013 to Third Quarter 2012      93

  Risk Management                                                               104

  Repurchase Obligations, Off-Balance Sheet Arrangements, and Other
Contractual Obligations                                                         110

  Market Uncertainties and Prospective Trends                                   118

  Critical Accounting Policies                                                  120

  Non-GAAP Information                                                          123


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FIRST HORIZON NATIONAL CORPORATION

MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL

CONDITION AND RESULTS OF OPERATIONS

GENERAL INFORMATION

First Horizon National Corporation ("FHN") began as a community bank chartered in 1864 and as of September 30, 2013, was one of the 40 largest publicly traded banking organizations in the United States in terms of asset size.

The corporation's two major brands - First Tennessee and FTN Financial-provide customers with a broad range of products and services. First Tennessee provides retail and commercial banking services throughout Tennessee and is the largest bank headquartered in the state. FTN Financial ("FTNF") is an industry leader in fixed income sales, trading, and strategies for institutional clients in the U.S. and abroad.

FHN is composed of the following operating segments:

Regional banking offers financial products and services including traditional lending and deposit-taking to retail and commercial customers largely in Tennessee and surrounding markets. Regional banking provides investments, financial planning, trust services and asset management, credit card and cash management. Additionally, the regional banking segment includes correspondent banking which provides credit, depository, and other banking related services to other financial institutions nationally.

Capital markets provides financial services for depository and non-depository institutions through the sale and distribution of fixed income securities, loan sales, portfolio advisory services, and derivative sales.

Corporate consists of unallocated corporate expenses, expense on subordinated debt issuances, bank-owned life insurance ("BOLI"), unallocated interest income associated with excess equity, net impact of raising incremental capital, revenue and expense associated with deferred compensation plans, funds management, tax credit investment activities, acquisition-related costs, and various charges related to restructuring, repositioning, and efficiency initiatives.

Non-strategic includes exited businesses and wind-down national consumer lending activities, other discontinued products, loan portfolios, and service lines, and certain charges related to restructuring, repositioning, and efficiency initiatives.

On June 7, 2013, First Tennessee Bank National Association ("FTBNA"), a subsidiary of FHN, acquired substantially all of the assets and assumed substantially all of the liabilities of Mountain National Bank ("MNB") from the Federal Deposit Insurance Corporation ("FDIC"), as receiver. Excluding purchase accounting adjustments FHN acquired approximately $452 million in assets, including approximately $249 million in loans excluding loan discounts, and assumed approximately $362 million of MNB deposits. Refer to Note 2-Acquisitions and Divestitures for additional information.

For the purpose of this management's discussion and analysis ("MD&A"), earning assets have been expressed as averages, unless otherwise noted, and loans have been disclosed net of unearned income. The following financial discussion should be read with the accompanying unaudited Consolidated Condensed Financial Statements and Notes in this report. Additional information including the 2012 financial statements, notes, and MD&A is provided in FHN's 2012 Annual Report.

Non-GAAP Measures

Certain ratios are included in the narrative and tables in MD&A that are non-GAAP, meaning they are not presented in accordance with generally accepted accounting principles ("GAAP") in the U.S. FHN's management believes such measures are relevant to understanding the capital position and results of the company. The non-GAAP ratios presented in this filing are the net interest margin using net interest income adjusted for fully taxable equivalent ("FTE") and the tier 1 common capital ratio. These measures are reported to FHN's management and board of directors through various internal reports. Additionally, disclosure of the non-GAAP capital ratio provides a meaningful base for comparability to other financial institutions as this ratio has become an important measure of the capital strength of banks as demonstrated by its use by banking regulators in reviewing capital adequacy of financial institutions. Non-GAAP measures are not formally defined by GAAP or codified in currently effective federal banking regulations, and other entities may use calculation methods that differ from those used by FHN. Tier 1 Capital is a regulatory term and is generally defined as the sum of core capital (including common equity and instruments that cannot be redeemed at the option of the holder) adjusted for certain items under risk-based capital regulations. Risk-weighted assets is a regulatory term which includes total assets adjusted for credit risk and is used to determine regulatory capital ratios. Refer to Table 24 for a reconciliation of non-GAAP to GAAP measures and presentation of the most comparable GAAP items.


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FORWARD-LOOKING STATEMENTS

This MD&A contains forward-looking statements with respect to FHN's beliefs, plans, goals, expectations, and estimates. Forward-looking statements are statements that are not a representation of historical information but rather are related to future operations, strategies, financial results, or other developments. The words "believe," "expect," "anticipate," "intend," "estimate," "should," "is likely," "will," "going forward," and other expressions that indicate future events and trends identify forward-looking statements. Forward-looking statements are necessarily based upon estimates and assumptions that are inherently subject to significant business, operational, economic and competitive uncertainties and contingencies, many of which are beyond FHN's control, and many of which, with respect to future business decisions and actions (including acquisitions and divestitures), are subject to change. Examples of uncertainties and contingencies include, among other important factors, global, general and local economic and business conditions, including economic recession or depression; the level and length of deterioration in the residential housing and commercial real estate markets; potential requirements for FHN to repurchase previously sold or securitized mortgages or securities based on such mortgages; potential claims relating to the foreclosure process; expectations of and actual timing and amount of interest rate movements, including the slope of the yield curve, which can have a significant impact on a financial services institution; market and monetary fluctuations, including fluctuations in mortgage markets; inflation or deflation; customer, investor, regulatory, and legislative responses to any or all of these conditions; the financial condition of borrowers and other counterparties; competition within and outside the financial services industry; geopolitical developments including possible terrorist activity; natural disasters; effectiveness and cost-efficiency of FHN's hedging practices; technological changes; fraud, theft, or other incursions through conventional, electronic, or other means; demand for FHN's product offerings; new products and services in the industries in which FHN operates; and critical accounting estimates. Other factors are those inherent in originating, selling, servicing, and holding loans and loan-based assets, including prepayment risks, pricing concessions, fluctuation in U.S. housing and other real estate prices, fluctuation of collateral values, and changes in customer profiles. Additionally, the actions of the Securities and Exchange Commission ("SEC"), the Financial Accounting Standards Board ("FASB"), the Office of the Comptroller of the Currency ("OCC"), the Board of Governors of the Federal Reserve System ("Federal Reserve"), the Federal Deposit Insurance Corporation ("FDIC"), Financial Industry Regulatory Authority ("FINRA"), the Consumer Financial Protection Bureau ("Bureau"), the Financial Stability Oversight Council ("Council"), and other regulators and agencies; regulatory, administrative, and judicial proceedings and changes in laws and regulations applicable to FHN; and FHN's success in executing its business plans and strategies and managing the risks involved in the foregoing, could cause actual results to differ, perhaps materially, from those contemplated by the forward-looking statements. FHN assumes no obligation to update or revise, whether as a result of new information, future events, or otherwise, any forward-looking statements that are made in this Quarterly Report or otherwise from time to time. Actual results could differ and expectations could change, possibly materially, because of one or more factors, including those presented in this Forward-Looking Statements section, in other sections of this MD&A, in other parts of and exhibits to this Quarterly Report on Form 10-Q for the period ended September 30, 2013, and in documents incorporated into this Quarterly Report.

FINANCIAL SUMMARY

For third quarter 2013, FHN reported a net loss available to common shareholders of $107.5 million or $.45 loss per diluted share compared to net income of $25.8 million or $.10 earnings per diluted share in third quarter 2012. For the nine months ended September 30, 2013, FHN reported a net loss available to common shareholders of $25.6 million or $.11 loss per diluted share compared to a net loss of $68.4 million or $.27 loss per diluted share for the nine months ended September 30, 2012. The impact on net income available to common shareholders from preferred stock dividends was $1.6 million and $4.3 million, respectively, for the three and nine months ended September 30, 2013, and $0 in the comparative periods of 2012. The third quarter decline in income compared to third quarter 2012 was driven by a significant increase in expenses coupled with a decrease in revenues, which more than offset a reduction in the loan loss provision. During the nine months ended September 30, 2013, the improvement in results compared to the prior year was driven by a significant decrease in expenses and the loan loss provision, which more than offset a decline in revenues.

In fourth quarter 2013, FHN entered into a definitive resolution agreement ("DRA") with the Federal National Mortgage Association ("FNMA," "Fannie Mae," or "Fannie") resolving certain selling representation and warranty repurchase obligations associated with loans originated from 2000 to 2008 excluding certain loans FHN no longer services. In association with new information that encompasses a broader population of loans obtained leading up to the DRA, FHN recorded a $200.0 million repurchase and foreclosure provision in third quarter 2013. See the discussion of FHN's repurchase and obligations within the Repurchase, Obligations, Off-Balance Sheet Arrangements, and Other Contractual Obligations section of MD&A and Note 10-Contingencies and Other Disclosures for additional details. Additionally, in third quarter 2013, FHN signed a definitive agreement to sell substantially all remaining legacy mortgage servicing. The servicing is expected to be transferred to the buyer during the next few months.

Total revenue for the three and nine months ended September 30, 2013 was $309.3 million and $929.8 million, respectively, compared to $337.0 million and $1.0 billion for the three and nine months ended September 30, 2012. The decline in revenue in both periods was primarily driven by a reduction in capital markets income due to less favorable market conditions in 2013 relative to 2012 and a


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decrease in net interest income ("NII"). In third quarter 2013, the decline in revenue was partially offset by higher mortgage banking income primarily due to an increase in net hedging results reflecting the terms of the servicing sale agreement mentioned above. For the nine months ended September 30, 2013, a decrease in mortgage banking income, as well as a decline in securities gains also contributed to the decrease in revenue.

Expenses in third quarter 2013 increased 65 percent to $433.6 million from the prior year primarily due to an increase in the repurchase and foreclosure provision. Repurchase and foreclosure provision expense was $200.0 million in third quarter 2013 compared to $0 in third quarter 2012, due to additional new information received in connection with the DRA mentioned above. Offsetting a portion of this increase, expenses were favorably affected by lower personnel expenses and a decline in losses from litigation and regulatory matters. Expenses for the nine months ended September 30, 2013, decreased 19 percent, or $210.8 million, to $901.5 million compared to the same period of 2012. The decrease was largely due to reductions in the repurchase and foreclosure provision, personnel expense, and a decline in losses from litigation and regulatory matters. Repurchase and foreclosure provision expense was $200.0 million for the nine months ended September 30, 2013, compared to $299.3 million for the nine months ended September 30, 2012. Personnel expense declined 16 percent during the nine months ended September 30, 2013, driven by a reduction in pension-related expenses and lower capital markets variable compensation, as well as a 6 percent reduction in average headcount. For the nine months ended September 30, 2013, these decreases were partially offset by an increase in legal and professional fees. With few exceptions, all other expense categories remained flat or declined for the three and nine months ended September 30, 2013, due to FHN's continued focus on cost reductions and efficiency throughout the organization.

The provision for loan losses was $10.0 million and $40.0 million in third quarter 2013 and 2012, respectively, and $40.0 million and $63.0 million for the nine months ended September 30, 2013 and 2012, respectively. Provision expense in both periods of 2012 includes approximately $30.0 million associated with the implementation of regulatory guidance related to discharged bankruptcies. Both periods reflect aggregate improvement in the loan portfolio. Improvement from third quarter 2012 resulted in a 9 percent decline in the allowance for loan losses ("ALLL") and an 80 percent decline in net charge-offs from a year ago. Non-performing loans increased from a year ago which was largely driven by further implementation of regulatory guidance.

Return on average common equity and return on average assets for third quarter 2013 were negative 20.39 percent and negative 1.69 percent, respectively, compared to positive 4.59 percent and positive .45 percent, respectively, in third quarter 2012. During the nine months ended September 30, 2013 and 2012, the return on average common equity was negative 1.58 percent and negative 3.92 percent, respectively, and the return on average assets was negative .07 percent and negative .32 percent, respectively. The Tier 1 capital ratio was 13.26 percent as of September 30, 2013, compared to 13.15 percent on September 30, 2012. Total period-end assets decreased to $24.2 billion on September 30, 2013, from $25.7 billion on September 30, 2012. Average loans declined 5 percent and 2 percent to $15.7 billion and $15.9 billion, respectively, in the three and nine months ended September 30, 2013 relative to the same periods in 2012. Average core deposits increased 5 percent and 2 percent to $16.0 billion and $15.8 billion, respectively, in the three and nine months ended September 30, 2013. Shareholders' equity declined to $2.4 billion on September 30, 2013 from $2.5 billion on September 30, 2012.

BUSINESS LINE REVIEW

Regional Banking

Pre-tax income within the regional banking segment was $75.8 million during third quarter 2013, compared to $70.9 million in third quarter 2012. During the nine months ended September 30, 2013, the regional banking pre-tax income was $220.2 million compared to $210.8 million for the nine months ended September 30, 2012. The increase in pre-tax income in both periods was primarily driven by a reduction in expenses which more than offset an increase in the loan loss provision and lower revenues.

Total revenue declined 1 percent for the quarter ended September 30, 2013 to $212.4 million from a year ago which was largely driven by a decline in NII. NII was $148.5 million in third quarter 2013 down from $151.1 million in third quarter 2012. The decrease in NII was largely attributable to a decline in loans to mortgage companies, partially offset by an increase in consumer real estate installment loans and commercial balances from a year ago. Noninterest income was $63.9 million in third quarter 2013 compared to $64.2 million in third quarter 2012. The slight decline in noninterest income was largely driven by lower non-sufficient funds ("NSF")/overdraft fees which were $11.7 million in 2013 compared to $13.0 million in 2012. NSF fees have been affected by lower volume from a decrease in the number of small balance deposit accounts, a refinement in sort order processes, and overall changes in consumer behavior. Mortgage origination income declined $1.5 million to $0 for the three months ended September 30, 2013, compared to 2012 due to a shift from originations to referrals. Additionally, in third quarter 2012 FHN recognized a $1.2 million gain on sales of bank properties.

The declines in noninterest income were mitigated by increases in wealth management-related fees as well as trust services income. In 2013, brokerage management fees and commissions were up 25 percent to $10.9 million from a year ago. Additionally, fees from trust services increased 10 percent, or $.6 million from a year ago. Both increases are largely due to FHN's strategic focus on growing these businesses through customer growth and expanding services for existing customers.


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Provision expense was $5.2 million in third quarter 2013 compared to $2.9 million in third quarter 2012. The increase in provision reflects a continued slower pace of favorable grade migration, reduction in the pace of improvement in loss rates relative to 2012, and stabilizing asset quality metrics.

Noninterest expense declined $10.1 million, or 7 percent, to $131.4 million in third quarter 2013, relative to third quarter 2012. The decrease in expenses in 2013 as compared to 2012 was largely attributable to a reduction of pension-related expenses resulting from the freeze of the pension plans on December 31, 2012, coupled with headcount reductions from a year ago. Losses from foreclosed assets decreased by $1.4 million to $.3 million in third quarter 2013 as collateral values have stabilized since 2012. The decline in expenses was somewhat offset by increases in advertising expenses and professional fees. The $1.1 million increase in advertising costs was due in part to the strategic focus and branding associated with the FTB Advisor brand and professional fees were up $1.6 million as a result of consulting projects in 2013. Nearly all other expenses declined or were flat because of FHN's continued focus on cost reductions and efficiency throughout the organization.

Total revenue for the nine months ended September 30, 2013, declined 2 percent from $636.6 million in 2012 to $626.8 million in 2013 driven by declines in both NII and fee income. For the nine months ended September 30, 2013 and 2012, NII was $441.9 million and $447.2 million, respectively. The decline in NII was driven by a decline in loans to mortgage companies and the continuing low interest rate environment. Fee income was $184.9 million in 2013 compared to $189.3 million in 2012. For the year-to-date periods, NSF fees and mortgage origination income declined $4.6 million and $3.3 million, respectively, consistent with the reasons driving the quarterly declines described above. In addition, 2012 includes $3.0 million of gains associated with sales of bank properties. Consistent with quarterly trends, these year-to-date declines were mitigated by an increase in wealth management-related income which increased $4.8 million, or 19 percent, while fees from trust services were up $1.6 million or 9 percent from a year ago.

Provision expense during the nine months ended September 30, 2013 and 2012, was $15.9 million and $.3 million, respectively, and reflects a slowing rate of improvement during 2013.

During the nine months ended September 30, 2013, noninterest expense declined $34.8 million, or 8 percent, to $390.7 million as compared to the same period of 2012. The decrease in expenses associated with the pension freeze, headcount reductions from a year ago, and foreclosed assets were partially offset by an increase in professional fees as well as an increase in advertising expenses. In addition, for the nine months ended September 30, 2013, contract employment increased $1.8 million to $2.6 million and computer software increased $1.6 million to $10.9 million in 2013. The increases in contract employment and computer software expense for the year-to-date period of 2013 compared to 2012 is largely driven by technology-related projects within the regional bank. Except as otherwise discussed, nearly all other expense categories were relatively flat or lower for the nine months ended September 2013 versus 2012 because of FHN's focus on cost reductions and efficiency.

Capital Markets

Pre-tax income in the capital markets segment was $9.8 million for the quarter ended September 30, 2013 compared to $21.0 million in 2012 and $41.0 million for the nine months ended September 30, 2013, compared to $72.8 million for the same period in 2012. The decrease in pre-tax income in 2013 compared to 2012 was driven by a decline in fixed income revenue. For the quarterly periods, average daily revenue ("ADR") decreased from $1.2 million in third quarter 2012 to $850 thousand in third quarter 2013. For the nine month periods, ADR was $1.0 million in 2013 versus $1.3 million in 2012. The declines in fixed income revenue during 2013 reflect less favorable market conditions in 2013, including market volatility and an increase in interest rates beginning in the latter part of the second quarter of 2013. Additionally, uncertainty surrounding potential actions of the Federal Reserve contributed to lower fixed income revenue in 2013. Other product revenue increased $3.4 million to $9.7 million in third quarter 2013 and increased $7.5 million to $28.0 million for the nine months ended September 30, 2013 due primarily to an increase in revenues from loan trading and related activities.

Noninterest expense was $58.0 million in third quarter 2013 compared to $64.6 million in third quarter 2012. For the nine months ended September 30, 2013, noninterest expense was $179.6 million compared to $205.8 million in 2012. The decline in noninterest expense for these periods is due to lower variable compensation expenses as a result of lower fixed income revenues in 2013, partially offset by increases in legal and professional fees.

Corporate

The pre-tax loss for the corporate segment was $25.4 million compared to $19.7 million during the quarters ended September 30, 2013 and 2012, respectively. The decline in third quarter 2013 pre-tax results compared to 2012 was the result of lower revenue in 2013 as expenses remained flat year over year. For the nine months ended September 30, 2013, the pre-tax loss was $66.9 million compared to $59.9 million for the same period in 2012. During the nine months ended September 30, 2013, the decrease in results was also driven by lower revenues which more than outpaced a decline in expense.


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Net interest expense was $10.3 million in third quarter 2013 compared to $6.1 million in third quarter 2012 primarily due to a lower-yielding securities portfolio. Noninterest income (including securities gains) was $6.6 million in third quarter 2013 compared to $7.9 million in 2012. The decrease in noninterest income was due to $.8 million in interest related to a tax refund recognized in third quarter 2012, and a reduction in BOLI driven by lower policy benefits in 2013 relative to the prior year. Noninterest expense was relatively flat from a year ago at $21.6 million for third quarter 2013. A decline in expense in third quarter 2013 was due to a $1.5 million impairment of a tax credit investment that was recognized in 2012. This decline was offset by the impact of $1.8 million of gains recognized in 2012 related to clean up calls exercised by FHN on first lien securitization trusts.

For the nine months ended September 30, 2013, total revenue was a loss of $10.7 million compared to income of $3.2 million for the same period in 2012. The decline in revenue was largely driven by net interest expense of $28.9 million in 2013 compared to $17.8 million in 2012 which was driven by a lower-yielding securities portfolio. Fee income also contributed to the declines in year-to-date revenue as noninterest income was $18.2 million in 2013 compared to $21.0 million in 2012. A decline in BOLI income, interest related to tax refunds recognized in 2012, and deferred compensation all contributed to the decrease in noninterest income from a year ago. Changes in deferred compensation income are mirrored by changes in deferred compensation expense which is included in personnel expense.

For the nine months ended September 30, 2013, noninterest expense declined $6.8 million, or 11 percent, to $56.2 million. The decrease in expense is due in part to a reduction in personnel costs and a $5.5 million decline in expenses from tax credit investments which includes the impairment recognized in 2012 discussed above. The decline in personnel-related expenses is largely due to a reduction in salary expense associated with headcount reductions, lower restructuring charges in 2013 relative to 2012, and a decrease in deferred compensation expense. These declines were partially offset by a $1.4 million increase in professional fees related to various consulting projects throughout the organization and the impact of gains recognized in third quarter 2012 associated with the exercise of cleanup calls.

Non-Strategic

The non-strategic segment had a pre-tax loss of $194.5 million for the quarter ended September 30, 2013, compared to a pre-tax loss of $38.3 million in third quarter 2012. The pre-tax loss in 2013 was driven by a significant increase in expenses coupled with a decline in revenues which more than offset a reduction . . .

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