PNC Financial Services Group Inc (PNC) 2009 Q1 法說會逐字稿

Good morning, my name is [Silvia], and I will be your conference operator today.

At this time I would like to welcome everyone to the PNC Financial Services Group first-quarter 2009 earnings conference call.

All lines have been placed on mute to prevent any background noise.

After the speakers' remarks, there will be a question-and-answer session.

(Operator Instructions).

I will now turn the call over to Mr.

Bill Callihan, Director of Investor Relations.

Sir, you may begin your conference.

Thank you and good morning.

Welcome to today's conference call for the PNC Financial Services Group.

Participating on our call this morning will be PNC's Chairman and Chief Executive Officer, Jim Rohr, and Rick Johnson, the Company's Chief Financial Officer.

The following statements contain forward-looking information.

Actual results and future events could differ, possibly materially from those that we have anticipated in our statements and from our historical performance due to a variety of factors.

Those factors include items described in today's conference call, press release, related materials, and in our 2008 10-K and various other SEC filings available on our corporate web site.

These statements speak only as of April 23rd, 2009, and PNC undertakes no obligation to update them.

We also provide details of reconciliations to GAAP of non-GAAP financial measures we may discuss.

These details may be found in today's conference call, press release, and financial supplement, in our presentation slides and appendix, and in various SEC reports and other documents.

These are all available on our corporate web site at PNC.com in the "investor relations" section.

Now I'd like to turn the call over to Jim Rohr.

Thank you, Bill.

Good morning, everyone.

Thank you for joining us today.

We are pleased with our first-quarter results given the current environment.

And I'm particularly pleased with the over $1.5 billion of pretax, pre-provision earnings that we've produced.

Rick will get into the details in a minute.

But let me highlight a few of the key items.

First, revenue for the quarter was driven by strong net interest income and better than expected non-interest income.

There were some unusual items in the quarter, but basically they offset each other, and the expenses remained well controlled.

The provision for credit losses was slightly higher than expected and double the charge-offs for the quarter resulting -- quarter, resulting in increased loan loss reserves.

Non-performing assets increased in line with the broader economic downturn, but also due to our ongoing efforts to review and assess National City's loan portfolio.

A process that is now 90% complete.

Looking ahead, we expect further NPAs to grow in the coming quarters, primarily due to the economy, but not at this rate of growth that we saw in this quarter.

The bottom line is that our team has done an extraordinary job in terms of generating a strong quarter, the second highest in the company's history.

While strengthening the balance sheet.

In addition, we grew customers, while integrating National City.

These efforts are paying off as the quarter was solid, and the acquisition is already exceeding our expectations.

In fact, the transaction was accretive to first-quarter earnings and we expect it to be accretive for the full year.

Now let me turn briefly to the economy.

The current environment by any measure makes our accomplishments even more impressive.

Loan demand is down across the country as consumers and businesses are clearly cautious and are delaying major purchases.

We think the economy will continue to struggle throughout the year.

Unemployment will continue to rise, most likely throughout the entire year.

And housing prices are continuing to fall, but at a declining rate.

We've seen some signs that the downturn may be bottoming, but it's too soon to tell.

And these uncertainties only confirm the importance of executing our proven business strategy, while maintaining strong capital and liquidity positions.

And our first-quarter performance further strengthened these positions as we see in our key value drivers.

We are pleased with our tier-one capital ratio.

We ended the quarter with a ratio of 10.2%, and we believe this ratio will continue to increase throughout the rest of the year.

Our tangible common equity ratio of 3.3% at the end of the first quarter is actually better than it looks.

Given that we are a core-funded bank with a loan-to-deposit ratio of 88%, we're able to hold our securities portfolio to recovery of value.

So when we think of our tangible common equity ratio, we exclude the impact of AOCI bringing the ratio to 4.4%.

And with regard to the lending environment, we are doing a number of things to help restore consumer confidence and help the economy get back on its feet.

PNC is committed to meeting the credit needs of qualified customers in these difficult economic times.

On the consumer side, we are working with eligible borrowers who face foreclosure with loan modifications.

We've significantly increased staffing to support these mitigation activities.

On the commercial side, we've enhanced our calling efforts to small business and corporations, and we're offering promotions with special financing rates.

And these activities have helped us to originate and renew approximately $26 billion in loans and commitments in the first quarter.

Moving to our business segments, they performed well in the quarter given the operating environment.

In our banking businesses, we met or exceeded our sales goals across the board.

And I'm especially pleased with our ability to win business in our acquired markets.

One example of this is that more than $2 billion of deposits have come into our corporate banking unit from the National City franchise since we announced the acquisition.

In retail banking, legacy PNC gained 18,000 net new consumer and business checking customers in the first quarter compared to 9,000 in the same period last year.

A flight to quality, we believe.

That organic growth which excludes relationships added from National City and other acquisitions really reflects the restraint -- the strength of our brand.

Corporate and institutional banking had a strong quarter.

Corporate receiver fees alone were $200 million in the first quarter, driven primarily by treasury management.

And we are seeing strong cross selling of products to legacy National City customers already.

And the residential mortgage banking performed very well in the first quarter thanks to low interest rates which drove higher refinancing activity and due to income from mortgage servicing rights.

Under [Cianaqui's] leadership we are actively managing this business to bring it into alignment with our desired risk profile.

Moving on to three other businesses who had good sales quarters and reduced costs in line with the revenue.

These next three businesses are positioning themselves for growth when the economy recovers.

Unfortunately, they were all affected by declining equity market valuations in the first quarter.

Our asset management group saw strong sales of traditional bank deposit products in the quarter.

Global investment servicing recently signed a new agreement with Raymond James financial services, a major brokerage company, to provide client wealth reporting and subaccounting technology.

And this reflects the value of the [All Bridge] Solutions acquisition and our subaccounting expertise.

And Black Rock reported a quarterly profit of $84 million on Tuesday.

They had a solid fixed income performance in the quarter, and they indicated that they now have a strong pipeline of new business.

As you know, PNC owns about one-third of Black Rock.

These three businesses are well positioned.

They've taken costs out and are well positioned to generate increased profitability when the markets return.

Another item is that we established our distressed asset portfolio at the beginning of the first quarter.

And they've assembled an experienced team to manage these assets.

These fair value marks that we took on a large portion of the assets in this portfolio along with our experience, puts us in a good position to evaluate government-supported programs and other opportunities to manage these assets.

Because of our capital and liquidity positions, we have the flexibility to be patient.

But we would sell these assets if the terms or conditions were appropriate.

Overall, I'm pleased with the first-quarter results, and we've generated strong profits in a very difficult environment.

Now let me give you a brief update on our integration activities.

We believe the acquisition of National City is truly a transformational event in our Company's history as it doubled our asset size and significantly enhanced our distribution platform.

We've been a combined Company for just over three months, and we've made significant progress on our integration during that time.

We've established at least four levels of leadership in our new organization, throwing in the best resources from PNC and National City, augmented by -- by some outside talent, as well.

And reflecting our experience with past integrations, we have a proven guide to follow.

The integration is on track from a cost savings standpoint.

We are leveraging what we learned from One PNC.

And that highly successful product provided us with best practices in a number of areas that we can now apply to our acquisition.

On a relative basis, this has made it easier to identify cost savings and gives us confidence that we will achieve our objectives.

Let me share some of our early wins associated with the integration.

First, we implemented a standard loan approval process.

We implemented a centralized loan on deposit pricing policy.

We also implemented a consistent expense policy.

We're migrating to common compensation practices that reward performance consistent with our business model.

We limited hiring in anticipation of integration.

We stopped development of systems to be converted.

We reduced the number of contract programmers.

We're in process of reducing or eliminating duplicate contracts and leveraging scale and pricing on remaining contracts.

And earlier this month we announced agreements to divest 61 branch locations, and we expect the transactions to close in the third quarter.

The conversion timeline has been set, and the first wave of customer conversions is scheduled for the fourth quarter of this year.

And that process will continue through 2010.

By adhering to our overall strategic focus, we are on pace to exceed the strategic objectives of the National City acquisition as we continue to build a great Company.

Now Rick will provide you with more detail about our first-quarter results.

Rick?

Thank you, Jim.

And good morning, everyone.

PNC reported net income of $530 million for the first quarter, or $1.03 per diluted earnings per share.

These strong results were delivered by our business model with its focus on revenue diversification, returning to a moderate risk profile, disciplined expense management, and effective capital management.

We believe this same business model which positioned us for the National City acquisition will guide us through the execution of the successful integration of this Company.

Now let me turn to my key takeaways for this quarter.

First, our strong first-quarter revenue performance was driven by net interest income and a diversified noninterest income revenue stream led by residential mortgage revenues.

Second, our expenses remain well controlled as we are well on our way to achieving our integration cost saves.

Third, we were not immune to the challenging economic environment as reflected by our growth in non-performing assets.

However, net charge-offs ratios remain stable, our pretax, pre-provision earnings were well in excess of credit costs, and we strengthened our credit reserves.

And finally, we continue to strengthen our key capital ratios and our liquidity position.

Now if you turn to slide six, at PNC we continue to benefit from having a diversified revenue stream.

Our net interest income of $2.3 billion reflected the strength of our customer lending and deposit businesses and included the benefit of higher yielding loan securities and cheaper deposits acquired in our acquisition of National City.

Our net interest margin for the quarter increased to 3.81%, driven by higher yields on our loan and investment securities portfolio and lower deposit costs, partially offset by an increase in the cost of borrowed funds.

Non-interest income of $1.6 billion was better than we expected for the quarter.

Funds servicing and asset management revenues, which together make up about 10% of our total revenue, were pressured by downturns in the global equity markets for most of the quarter.

Similarly, growth in consumer services and deposit service fees which make up 14% of our revenue were muted by the slowdown in consumer spending driven by seasonality and the economy.

Corporate services at 6% of revenue were driven by our treasury management business, which is now a $1 billion revenue business annually.

As we began to leverage our middle market product capabilities across our new franchise.

Now residential mortgage delivered very strong results.

We benefit from refinancing activity which drove residential mortgage origination and sales revenue to $175 million or 5% of total revenue.

Originations were nearly $7 billion for the quarter with 83% coming from refinancing.

In addition, mortgage servicing revenues were $256 million or a 7% of total revenue.

And this includes net mortgage servicing rights, hedging gains of $202 million, which is clearly not sustainable.

We were early adopters of the changes announced by the FASB and recognized other than temporary impairments on our investment securities for the quarter of $149 million.

This credit impairment represented approximately 20% of the fair value mark on the securities.

Now we supported this change in OTTI accounting from the FASB.

However, the FASB clarification on fair value accounting provided minimum relief on our overall securities valuations.

As a reminder, we completed the restructuring of our Black Rock LTIP obligation in the first quarter, thereby removing quarterly volatility from this obligation in the future.

And as a result, we recognized a gain of $103 million.

This gain was completely offset by impairment charges of $125 million related to our private equity and other alternative investments.

Now let's take a look at positive operating leverage on slide seven.

Over the years, we've talked about growing revenues faster than expenses to prepare for the inevitable increase in credit costs.

Well here we are, and we are well prepared.

We created pretax, pre-provision earnings of $1.5 billion for the first quarter of 2009.

This is nearly $1 billion higher than the fourth quarter of 2008, and well in excess of the nearly $900 million of credit costs in the current quarter.

Without the focus on operating leverage, we would not have been prepared for this inevitable downturn in our economy.

And now our expenses remain well managed as we were well on our way to achieving our integration goals, savings -- cost savings goals for the quarter.

We captured $116 million in cost savings in the first quarter related to the integration of our two firms.

That's more than $400 million on an annualized basis compared to our two-year goal of $1.2 billion.

Overall, we believe we are on track to exceed our integration cost targets.

Now let's turn to our balance sheet on slide eight.

Our loan-to-deposit ratio was 88% at the end of the first quarter.

Already back to our pre-acquisition levels of this time last year.

Now being a core-funded bank is a key component of our business model and is especially important in today's market as it gives us significant advantages in funding client needs.

From a linked quarter standpoint, we are pleased with the lending opportunities and deposit growth we're seeing in many of our markets.

On a consolidated basis, deposits were up $1.8 billion versus the end of last quarter.

This was significant given that we allowed $6 billion in higher cost brokered CDs to run off in the first quarter.

Regarding loans, as Jim mentioned, we originated and renewed approximately $26 billion in loans and commitments to lend in the first quarter.

Consumer originations which included residential mortgage were $10 billion, driven by nearly $7 billion in first mortgage originations.

On the commercial side, new commitments totaled $5 billion.

Additionally, we renewed more than $11 billion in credit to existing accounts.

However, overall loan balances declined as customers continue to reduce their debt obligations and delay major expenditures in response to the downturn in the economy.

Now let's take a look to our second largest asset class, investment securities.

And Slide nine is a look at our investment security portfolio.

This $46 billion portfolio represented 16% of our balance sheet at the end of the first quarter.

The net unrealized losses on this portfolio improved $4.4 billion from $5.4 billion at year end, primarily due to slightly better market conditions in both agency and non-agency securities.

We have stated several times that the underlying assets in the portfolio are high quality.

The portfolio was substantially comprised of well-diversified, high-quality securities with US Treasury, government agencies, and government agency residental mortgage-backed securities representing 56% of the total.

In total, 92% of the portfolio is comprised of agency or investment-grade equivalents.

In addition, the expected weighted average life of the fixed income securities was 3.4 years as of March 31, which we believe is one of the shortest in the industry.

And we clearly have the liquidity to be patient as these short dated assets pull to par and we recapture much of the market valuation.

Turning to credit quality, slide ten shows our credit metrics over the past five quarters.

Overall, credit deterioration is in line with the worsening economy.

And our reserving continues to reflect this environment.

Nonperforming assets were up $1.3 billion versus last quarter, with about $500 million related to PNC's loan books and $800 million related to heritage National City's books.

Both of these numbers reflect the worsening economy.

And in the case of National City, a more detailed review of the underlying loan portfolio.

Let me talk about particular areas where we're seeing some stress.

We saw a linked quarter increase of more than $500 million in commercial real estate and real estate-related loans.

Specifically, we are seeing stress in office and retail-related commercial real estate properties.

In terms of geography, the largest increases were from acquired loans in Florida and Maryland.

Other commercial lending NPAs increased by more than $550 million, driven primarily by deterioration in manufacturing, health care, other service providers, and retail.

Total consumer lending non-performing assets were up nearly $200 million from December 31st, primarily driven by acquired residential mortgages.

Now while nonperforming assets are up, our net charge-off to loans for the quarter was 1.01%.

Which remain consistent with the prior quarter and was well below the peer group.

As you can see from looking at the slide, we have been adding to reserves for the past five quarters with a provision to average loans exceeding a net charge-off ratio.

As a result, the relative for loan losses increased to 2.5%, which we feel differentiates our balance sheet.

Looking ahead to the next quarter, we expect our pretax, pre-provision earnings to be strong enough that even if the economy continues to deteriorate at the current pace, the cost of credit will be manageable.

Now let's move to capital and liquidity.

As Jim mentioned, we see capital and liquidity as key differentiators particularly at this point in the cycle.

As slide 11 indicates, we've strengthened our capital ratios and liquidity in the first quarter.

We managed the Company using economic capital with tier one as the best external measure, but we do acknowledge that tangible common equity is also a valuation driver.

And both ratios had a meaningful increase from year end.

The tier-one ratio improved from 9.7% to 10.2%, and the tangible common equity ratio improved from 2.9% to 3.3%.

Now keep if mind that our capital ratios were reduced by 80 to 90 basis points at year end, as we recorded significant loan impairments related to our National City acquisition.

These losses are now behind us.

In addition to that, our tangible common equity ratio would be 4.4% or 110 basis points higher if you were to exclude the AOCI mark.

Now we were able to build our key capital ratios by managing both sides of the equation.

Our earnings helped to increase tier-one intangible common equities, while lower risk-weighted assets used for tier-one calculations and lower total assets used for tangible liquidity ratios also provided benefits.

Our overall balance sheet repositioning initiatives helped drive these declines.

And going forward, our decision to reduce our dividend will enable more of these earnings to flow to our capital position.

As we look to the rest of 2009, we expect net interest income to be flat to down as the maturity of high yielding assets will be partially offset by interest-bearing deposit repricing.

We believe the equity markets may rebound in advance of an economic recovery, resulting in some improvement to our segments of our fee-based businesses.

But it is unlikely that we will repeat the strong performance in residential mortgage fees that we saw in the first quarter, particularly the servicing rights hedging gains.

Likewise, we do not expect the same level of securities impairment losses next quarter.

Expense management will remain a key driver in 2009 as we intend to maintain our focus on continuous improvement and to achieve cost-saving targets associated with our integration.

However, we do expect higher charges from the FDIC when terms for deposit premiums are finalized.

We do not expect credit costs to abate in the next quarter, but we believe that the rate of change will begin to slow.

Clearly the outcome will largely depend on the strength or weakness of the US economy.

In any case, strong operating leverage will enable us to manage through the challenges.

Even with caveats about the current environment, we are comfortable with the outlook of our performance for the rest of the year.

Now with that I'll turn it back to Jim.

Thank you, Rick.

We are very pleased with our first-quarter performance given the challenging environment.

We feel that this demonstrated our ability to remain focused on executing our business model in a difficult economy while moving forward with the National City integration.

The current economic recession will make 2009 a very difficult year.

But that does not diminish our enthusiasm about the opportunities that we see before us.

I am very confident that we will successfully integrate National City and that we will achieve our cost savings goal of $1.2 billion, and align our balance sheet to reflect a moderate risk profile that you have become used to seeing us with.

When the economy recovers, I would expect credit costs to normalize.

Combined with our diverse revenue stream, I believe that our business model should be able to deliver a return on assets of between 1.3% to 1.5% as we have in the past.

Our first quarter is an excellent step in this process.

Clearly, we believe the combination of National City and PNC will create tremendous opportunities for shareholder values as we continue to build a great Company.

With that, we would be pleased to take your questions.

Sylvia, could you give our participants the instructions, please?

(Operator Instructions) We'll pause for a moment to compile the Q&A roster.

Your next question comes from David George from Baird.

Good morning.

Good morning, David.

Good morning, guys.

Had a question on the Nat City transaction.

If I understand it correctly, there was a little over $1.3 billion in negative goodwill that was created which if I understand it correctly gives you the ability to take further writedowns on the acquired loan books from Nat City.

What was that negative number on goodwill at the end of the quarter?

And did you use any of that to mark down the Nat City book in Q1?

Thanks.

That's a great question, David.

David, we actually in the quarter impaired another $1.9 billion of loans which had been impaired at 12-31-08.

And obviously got back to figure that out.

The actual valuation adjustment on that was about $1.2 billion.

So we in effect used up the negative goodwill in the course of the quarter.

Now I don't expect that level of additional impaired loans to be identified or that level of impairments.

We-- we really got through 90% of the book here.

And I think the rest of it will be at a much smaller level.

Okay.

Thank you.

Yes.

Next question, please.

The next question comes from Betsy Graseck from Morgan Stanley.

Hello, Betsy.

Thanks.

Good morning.

Follow-up on the last question and then a couple others.

One is on the follow-up.

You indicated that you didn't think that you would be finding new non-performers at Nat City going forward.

Could you give us a sense as to why they might not have just been included in the December assessment of what the NPLs were and what changed in the quarter to reclassify those as performing to impaired?

Yes.

Actually, Betsy let me clarify one point.

We will see more non-performers coming out of National City particularly as it relates to their performing book.

And obviously depending on how the -- the economy evolves.

So I didn't want to imply we won't find that.

What I was referring to is the fact that we're allowed over the course of this year to go back to 12-31-08 and identify loans that were impaired at 12-31-08.

And that's what the $1.9 billion of loans were.

And as we got to the end of the year, we looked at all the high-risk areas that we had.

And we looked at as many files as we could over a certain dollar amount.

And through the first quarter, we're continuing to do that.

And to the extent we find loans that had been impaired as of 12-31-08, we'll go back and readjust our opening balance sheet for the year.

So I think also, though, during the course of the quarter, I mentioned that we found in addition to that about $800 million of nonperforming loans which deteriorated subsequent to 12-31-08 in the quarter.

Right.

Okay.

So any changes to the impaired portfolio would hit the capital account, and any changes that would come from the nonimpaired portfolio at Nat City would flow through like a regular impairment?

That's correct.

Okay.

And -- Go ahead.

I was going to switch the topic to the accretion in the quarter from Nat City.

I think you indicated it was accretive.

Can you give us a sense as to how much and how you think that's going to trend here?

Because I think the accretion is coming earlier than expected.

Yes.

That's exactly right.

And it's coming along earlier simply because of what we've seen in terms of the mortgage business in the first quarter.

You've had just an enormous refinancing boom as you're well aware.

And we had significant gains on hedging servicing rights, about $200 million worth.

That puts us in a really good position to be confident.

One, that we are accretive.

We exceeded our expectations in the first quarter related to that.

But also really confident that we'll be there for the remainder of the year.

I think the next factor which will start to kick in is the cost saves.

We've taken $400 million on an annualized basis the first quarter.

That's quite a bit.

Probably more than we expected this early in the process.

And we will continue to move that number up throughout the year and into next year.

So have you changed the expectation for year end cost saves based on the fact that you've done --

Yes -- It's too early.

I mean, we have good expectations around it.

But it's too early to give another commitment.

Okay.

So we should just continue with the cost saves that you had outlined earlier?

I think that would be appropriate.

Yes.

A lot of the cost saves, as you know, are tied to the bridge consolidations.

We can't -- some of the cost savings, as Rick points out, we were able to move ahead.

The branch consolidations we really can't.

So --

And those won't begin until the fourth quarter of this year.

Yes.

Okay.

And then just lastly on the Nat City footprint.

Clearly there are areas which are experiencing some accelerating trends and deterioration like western Michigan.

Could you kind of comment about just the overall footprint and how you're seeing the delinquency trends and if there's any green chute so to speak?

Well, let me comment on the consumer portfolio first.

Because I think we've been relatively pleased that after doing the impairment that we did on most of the National City book, we have seen on the consumer portfolio that charge-offs have kind of increased marginally quarter to quarter.

And delinquencies have actually flattened out.

I don't want to get too excited about that too soon.

But the numbers look pretty good on consumer side.

On the commercial side, it's clearly the impact is in the residential development space in terms of what we're seeing there.

And we also are seeing stress in what I'll call metals and the auto space.

Two of those are clearly driving some of our commercial and manufacturing nonperforming loans.

We're seeing that both in metals and auto.

So it will be a combination of the two of those.

And I would say that it's concentrated in Michigan, little bit in Chicago.

And probably a little bit in Northern Ohio.

And Florida also has a residential space.

Remember, in Georgia and Florida, they had a lot of residential real estate activities.

Okay.

Thank you.

Next question, please.

Your next question comes from Paul Miller from FBR Capital Markets.

Yes, on the -- thank you, guys.

On the mortgage banking side, I mean everybody's been reporting really solid mortgage banking.

But a lot of it is due to the government pushing rates down.

Can you tell me, what do you think is sustainable?

And also how much benefit are you getting from the steep year curve?

Is that flowing through mortgage banking on your held for trading account for those mortgages, or is that flowing through your net -- your NIM?

Well, most of the mortgages we originate and sell.

So there's really not a lot of carry that we're going to generate through that activity.

The main reason for the gains related to the servicing portfolio in hedging that was that we were just -- long volatility on the hedging of that position.

And we generated as a result significant gains in that without a lot of downside risk in terms of putting those positions on.

And if you could, could you repeat your first question?

Well, no -- I mean how much do you think is sustainable relatively speaking?

Do you think -- usually refi booms are very volatile.

Do you think it's going to last throughout the year?

What do you think of the revenues as sustainable through the second half of the year?

I would probably say throughout this period we can sustain between $150 million and $200 million of revenue.

I think to go -- we're not going to hit the $400 million level because that has $200 million of hedging gains.

And I would say clearly the -- the $175 million that we created in refinancing activities is clearly rich given the low rates.

And then, last question.

I believe you -- you were guiding for $3 billion of provisions for the year.

You did $880 million this quarter, which is a very strong number, and I like it.

But are you still -- are you changing that estimate?

You think you're going higher than that $3 billion?

Or are you still comfortable with that $3 billion in provisions for the year?

We actually gave that guidance back when we released earnings at year end.

We actually didn't put that guidance into our K simply because we got to the conclusion that there's a lot of factors here that are going to affect this.

I think, I really don't want to give guidance for the full year.

Okay.

Thank you very much, gentlemen.

Okay.

Next question, please.

Your next question is come Ed Najarian from ISI Group.

Good morning, Ed.

Good morning, guys.

How are you?

Good.

I think some of my questions have been asked and answered.

So I'll try not to ask them again.

But I'm trying to dig a little bit more into this increase in NPAs on the commercial side that we're seeing.

I'm guessing that most of that's coming as you previously indicated, I think, from the Nat City portfolio.

And then flipping over to the additional $1.2 billion in impairments that you talked about, is -- taking that extra $1.2 billion of impairments, is that one of the reasons that you were able to record such a significant increase in NPAs on the commercial side and on the commercial real estate side without posting a big charge-off number?

In other words, should we conclude that some of that -- some of that writedown of what we've seen added to NPAs this quarter came through that $1.2 billion impairment and not through the income statement?

And then if that's true, can you give us some outlook of should we expect material additional deterioration on the commercial side or what's sort of your outlook in terms of what's going on in commercial lending, especially in the Midwest?

Thanks.

Okay, Ed.

That's quite a list.

Let me see if I captured it all.

Let's start with the $1.8 billion of -- $9 billion of loans that we impaired back to 12-31-08.

Most of those were commercial loans.

And we took impairment charges on those of $1.2 billion, which went directly against the negative goodwill, okay.

So by doing that, obviously that did not affect the first-quarter's results, okay.

Subsequent to that, Ed, we actually had an increase in commercial non-performing assets of approximately $1.1 billion.

And I would suggest to you that that's about a 50/50 split between PNC and Nat City.

Probably more so to Nat City given the fact that we were able to dig deeper into files.

But those files were associated with deterioration we saw from January 1 of this year to March 31 of this year.

And so as a result, we did have an increase in commercial non-performing assets in National City, primarily related to metals and auto.

And we had an increase in PNC's non-performing commercial assets related -- non-real estate related, of about $300 million which would be primarily driven by a lot of our asset-based lending activities, as well as some health care providers that we had to reserve for.

On the real estate side, it was actually 50/50 between National City and PNC in terms of commercial real estate and the increases we saw there.

Okay.

Just one quick followup.

To the extent that you wrote down the value of some of those assets that moved into non-performing status this quarter, were a portion of those writedowns taken in that $1.2 billion of additional impairment charges that you talked about?

That's correct.

Can you tell us what that amount is?

Well $1.2 billion, Ed --

Oh, okay.

So all the $1.2 billion is reflected on stuff that moved into NPA status this year?

No, the $1.2 billion is related to that which moved into impaired status as of the end of the year and therefore reduced the negative goodwill to zero.

In addition to which we had $1.3 billion of increase in non-performing assets in the quarter.

Which is why we had a provision of $880 million versus charge-offs of about $430 million, $450 million.

By taking the $1.2 billion of charges back to negative goodwill, certainly they were not in the $450 million that we recognized in the current quarter.

Okay.

Thank you.

Okay.

Sorry about it -- this is complicated stuff.

My apologies if it's not being clear.

No worries.

It's fine.

Thanks a lot.

Okay.

Next question, please.

Your next question is from Brian Foran from Goldman Sachs.

Good morning, Brian.

Hi, actually it's Richard Ramsden from Goldman Sachs.

Can I just ask a couple of questions?

Again, just a follow-up question to make sure I fully understand the non-performing asset development.

I think you disclosed last quarter that about $3 billion of the marked National City loan portfolio was non-performing.

I don't think you've given an update of that number for Q1.

Can you share it with us?

No, actually the nonperforming loans related to Nat City that we brought over was actually only $250 million.

And the reason why it was only $250 million is most of the loans that National City had previously considered non-performing, we impaired.

And so therefore when you impair the loan, you don't bring over it as a non-performing loan.

You no longer call it non-performing.

And you impair it in the amount of the life of the loan loss.

Okay.

So I think it's very important.

One of the things we're talking about is how do you value the balance sheet.

And at the end of the year, we valued the balance sheet as best we could given the time frame that we had.

Marking the assets to market including the impaired loans on life of the loan losses.

As of -- with knowledge as of the end of the year.

The $1.2 billion in goodwill that we applied to the assets as of the end of the year was because we found out more information about a loan book as of the end of the year.

And we have 12 months to make those adjustments.

Okay.

So you -- the second question I wanted to ask was on T.A.R.P repayment.

I mean, again, if you just update us on your thinking.

Whether you would be able to -- whether you think you'll be able to increase leverage when it comes to repaying T.A.R.P, or if you think you'll need to replace that capital?

Well, I think we have a meeting tomorrow to find out how the stress test goes.

And I think saying anything about repaying T.A.R.P.

before you find out the results of the stress test are clearly -- would clearly be premature.

We've run the stress tests before, our stress tests show us having the ability to continue to generate incremental -- increase our capital account going forward.

But, with regards to T.A.R.P., I think in this environment we just have to be careful.

I think it's always good to have more capital than less during an economic crisis like this.

And we'll look at that once -- one we get the results of the stress test.

Okay.

All right.

Thanks a lot.

Next question, please.

Your next question is from John McDonald from Sanford Bernstein.

Good morning, John.

Good morning.

Rick, wondering how much of the purchased accounting marks might flow back into NII as accretable yield?

You had previously said that over the next couple of years, something on the order of $6 billion might flow back into net interest income, and maybe $1 billion or $2 billion this year.

Do you have an update on that?

Does that change because of the purchase accounting adjustments you did this quarter?

John, it's pretty close to the same numbers.

What you'll find this year will be about an accretable yield throughout the whole year, for about $1.6 billion.

And we took about $600 million in Q1.

Half of that coming from our loans and the other half coming from repricing the CDs.

From National City's portfolio.

$300 million each.

But you'll see in total for the year about $1.6 billion.

And then for the life close that $6 billion prior that you said?

Yes.

Within reason.

Might be a little lower.

Okay.

That came in through this quarter in the form of net interest income?

That's, correct, John.

Okay.

Then just want to clarify what the drivers of the AOCI improvement and whether the FASB changes had an impact.

So I guess first, did the changes in the OTTI definitions impact your realized losses this quarter?

On the OTTI side?

Yes, absolutely, John.

Because of the change to only recognize the credit impairment, we only booked 20% of the fare value mark related to the loans that were impaired.

Right.

Okay.

So, yes.

So that's the 149 that you saw.

Right.

Of OTTI charges.

But on the other side in terms of your unrealized losses, you didn't have any benefit from adopting a mark-to-model approach on illiquid securities.

that what you're saying?

It's deminimus, John.

The only thing the FASB really did is allow you in some cases to not be as slavish as we've been in the past to quoted prices from broker and pricing services.

As where we could we could just miss those.

But that was a very, very small portion of our mark.

So you thought that those changes might have an impact and I think we're supportive of them.

But in the end, the changes were so marginal it didn't really move the needle for you?

Yes, John.

The preliminary document by the FASB used terms like pricing and liquid markets in the final document put out by the FASB.

it said pricing in illiquid markets markets.

So therefore what appeared to be on the table in terms of the ability to improve the marks was taken off the table.

Okay.

So the final had minimal impact.

Okay.

Okay.

And then just on the mortgage, outside of the mortgage hedge gains, looks like you had about $200 million in mortgage revenues.

And assume it was a big production quarter.

Is there any way to give us a feel for how outsized that production might have been, gain on sale might have been relative to what Nat City was doing in the past what might be considered normal or average?

Do you expect production strength to condition?

Yes.

We had about $175 million related to the construction activities.

I think you could consider $140 million to $150 million on a continuous basis in a more normal environment.

And then add on top of that maybe $40 million to $50 million that we should make from the servicing business regardless of the hedging gains.

That will give you an idea that we're between $150 million and $200 million on a repeating basis.

Okay.

How about the private equity, is there any way to give an outlook for what you might expect there?

Yes.

I think I mentioned that I do not expect the impairment losses we incurred in the quarter.

When I say that, I mean across the securities portfolio as well as private equity, as well as alternatives.

I don't want expect-- the cumulative of all of that in the quarter was about $275 million.

I'm not expecting that much next quarter.

Okay.

And you were clear about the provision and guidance and lack of visibility given the economy there.

Is that also prior to your prior revenue guidance where you said about $14.5 billion for this year?

We haven't updated that guidance, John.

And I'm really not prepared to give full-year guidance at this stage.

Okay.

Thank you very much.

Okay.

Next question, please.

Your next question is from Nancy Bush from NAB Research.

Good morning, guys.

Good morning, Nancy.

A couple of questions here.

I think you said you ran off about $6 billion in brokerage CDs during the quarter.

Can you tell us how much more there is to go there?

And just sort of give a discussion of the whole repricing of the Nat City deposit base.

How is that going, and what should we expect?

It's actually, the repricing is going very well.

To be honest with you, I think we're retaining a lot more of the balances than we had originally anticipated.

Even though we're able to drop the pricing, I'm not sure that will hold necessarily.

As we go into the rest of the year.

We still have on the National City side approximately $13 billion of CDs that are maturing during the year at an average rate of about 360.

So still a lot of value to be achieved in repricing those.

And we've got about $8 billion of CDs on the PNC side.

So a total of $21 billion in total that will mature between now and the end of the year.

Secondly, on the cost saves that you're realizing at Nat City where you're running a bit ahead, could you tell us where -- what parts of the Company where you running ahead in cost saves?

And Jim, maybe give us color about what has been a positive surprise and what may be negative surprises you'v encountered?

Frankly, the positive surprise, the one positive surprise has been the enthusiasm of the National City employees to embrace PNC and really to get on with the integration.

They have been just terrific.

I think the 18 months before the acquisition was probably tough.

And as a result they really see this as a tremendous opportunity to start over.

And they've been great.

Some of the things that we've been able to do early on is that they had a very, very, large, contract programming staff.

That contract programming staff was dedicated to supporting a number of their systems that were in development.

Quite frankly, we won't obviously be developing the systems any longer.

So a number of that staff has been reduced.

We've been able to take out about 800 jobs so far.

71 at PNC and the rest in National City.

So that's a little bit ahead of schedule.

We've been able to put together our purchasing programs under the online purchasing that we do here at PNC.

And as those contracts come up, we keep renewing the contracts with larger discounts.

And there's a whole series of things.

One PNC allowed us to really cause tens and tens of people within PNC to look at best practices across their individual business.

And frankly when we went into National City who had not gone through the process, the ability to identify savings were across the board.

And virtually every activity, was extraordinary.

I'll give you one example.

When we did One PNC, we had 280 square feet per employee.

We moved that to 230 and learned that 180 was best this class or best practice really.

We got to National City, they were at 350 square feet per person with a plan to try to get to 300.

We're going to go from 350 to 180 for National City.

And that will save us -- when we get it completed, it will give us a savings of about $70 million.

There's just on an annualized basis.

There's just a number of things like that where they were -- there were opportunities.

And we're taking advantage of them as quickly as we can.

Some take time like real estate.

And others like contract programmers, we've been able to move ahead faster.

Rick, just one quick clarification.

On the impaired assets from Nat City, can move them in and out for 12 months?

I mean, is there sort of a 12-month get out of jail free card here for moving things around?

No.

Not really.

If we put them as impaired at the end of the year it's because we had the evidence to support that it was impaired at the end of the year.

There would be no reason for us to take it out of impaired after we did that.

Okay.

Thanks.

So the only thing we would do is add to it.

Okay.

Thank you.

Again, I don't believe we'll add to it in a material way from this point forward.

Next question, please.

Your next question is from [Matthew Schultheis from Ferris & Baker].

Good morning.

How are you?

Good morning.

A couple of really small questions.

I'm a little confused and I'm sure's my lack of math skills, as to how you got a preferred dividend of 47 and only 332 for the year.

Seems to me if you're paying 5% on $7 billion it should be something like $400 million.

Yes.

That payment is only through February 15.

Next quarter it will be double that amount.

Okay.

We took the T.A.R.P.

on December 31.

So we only had 15 days on the first pay period.

It will be a full 90 days.

Okay.

That makes sense.

45 and 90.

Sorry.

Okay.

On your MSR, you're carrying it at 62 bips of loan service for others.

And I'm wondering how much of that is in effect of mark to market of National City?

Morgan servicing rights bought from them because I'm used to something more like 100 basis points.

I think if you look at the industry, we're certainly on the lower end of most of the marks.

By the way, the whole portfolio is from National City.

PNC was not in the residential mortgage space in a big way prior to this, and we were not in the servicing business.

We're probably at the lower end of the range.

But I think if you look, you'll find a number of others are probably right now between 70 and 85 basis point on their portfolios.

Okay.

I guess pre-payment speeds are going to hurt that evaluation.

Accelerating pre-payments fees are going to hurt that evaluation.

You have $22 billion in distressed loans left.

How much of that is left over from what you booked with National City?

That is all National City.

The $22 billion is -- I'm sorry.

No.

We put some in n there, too.

You guys said about $15 billion in there or something like that that came from you guys and $10 billion from National City or something roughly.

We moved in about -- I'm going to say 1.45 -- cross border leasing was probably $1.8 billion.

Then we moved it about $3 million of real estate development loans.

Okay.

But of that $22 billion how much was the original -- as I said, I think you had a net National City position of $10 billion in there?

How much of that is still in there, or how much of that has moved to performing or charged off or whichever?

Could you repeat the question, please.

Yes, I think when you add the $27 billion at the end of the year, you had roughly $10 billion of that was acquired from National City.

It was $15 billion, but you took a $5 billion [and side arm] impairment on it.

So I'm wondering of that $10 billion, how much of that is still in that $22 billion, or how much of that has gone on to performing or, what have you?

I think you may be getting the distressed the portfolio confused with the impaired book.

Not all of the impaired loans are in the portfolio.

And not all of the loans that are in the distressed portfolio are impaired.

So when you actually go back to the $27 billion we put there originally, we actually moved in I'd say probably -- I'm going to say $22 billion of that was coming out of National City.

And then additionally, PNC added maybe about $5 billion of that.

A portion of that being related to our previous acquisitions where we picked up a lot of residential development lending.

That we don't expect to participate in currently.

As well as the cross border leasing.

Now, this quarter we actually reduced the distress portfolio by about $5 billion because we discovered that we had about $2.8 billion of loans in there as we sorted through the portfolio that we were comfortable -- really weren't part of the distressed activities.

Then we took the impairment on that port yo.

About $1 billion we also had about $1 billion paydowns in the quarter.

Okay.

Matt, we can go through this maybe a little more offline.

Get you more --

Okay.

All right?

And one last question.

It is kind of a large issue or not issue but it's just a broad 25,000 foot view of the world.

GIS, it seems you could book that and sell the gain -- not entirely but sell a majority ownership position in it and be able to book the rest of it as basically an equity gain.

And that would obviously flow down into your equity position.

And was wondering if you've got -- given any thought to that?

Well, we always think about those things and the value of that Company would be certainly undervalued in today's environment.

Either the equity book is so short that the multiples are much lower than they have historically been.

So and that business actually had added a lot of customers recently.

So I think frankly this would not be the time to sell GIS if we ever wanted to.

All right.

Thank you very much.

Next question, please.

Your next question is from Collyn Gilbert from Stifel Nicholas.

Thanks, good morning, guys.

Just two kind of quick questions.

Jim, in your opening comments when you had made the comment that the rate of NPA growth you expect it to slow, is that just because you guys scrubbed Nat City's books so aggressively coming off of year end?

Yes, I think the first quarter's NPA growth really came from the economy.

And from scrubbing the National City books.

As Rick said, and I mentioned, we're over 90% complete with that scrubbing process.

And as a result, we wouldn't expect -- we expect the economy to continue to deteriorate, but we wouldn't expect the NPAs to continue to deteriorate at that pace.

That rate.

Okay.

Also then also, too, Jim, is there any way that you can quantify the comments you made in terms of perhaps selling some portion of the distressed portfolio into the PIP?

You had mentioned if the Terms and conditions were -- if the terms and conditions were good.

Can you give a little bit more color as to --?

We had discussions with the FDIC.

As a matter of fact, I mean with Chairman [Bear] myself.

She called and asked if we'd be interested.

And you would look at a structure like them where there's a lot of unknowns in that structure.

Its not just the pricing, which everyone is happy to point to the pricing.

But there's a number of other issues that would have to be worked out.

So I think the point of we'd be interested in selling parts of the portfolio like we would a lot of things if the conditions were correct.

And there's -- I think there's a lot that's left to be worked out in terms of the details around the [P-PIP].

You think the clarity on those details will come in conjunction with the stress test, or is this going to be a later event?

Well, clearly we started hearing about the stress test tomorrow.

So it's hard to imagine that the details could come any sooner than that.

So we'll get the stress test hopefully out of the way.

And hopefully we'll hear more about the details around some of the other government programs.

Okay.

That was all I had.

Thanks.

Thanks.

Next question, please.

Your next question is from Jason Goldberg from Barclays Capital.

Hi, Jason.

Hi.

Good morning.

I want to confirm.

You said that $600 million of net interest income came from purchased accounting accretion?

Yes.

That's correct, Jason.

But you also have to keep in mind the fact that we paid a much better value for those assets by paying fair value.

So while we call it purchase accounting, it's real economics.

Right.

I guess -- x that, I mean the NIM would be closer to around 3%?

Just trying to get a send of kind of what the --

I think that's fair.

Nat City was run at 2.5.

And we're running at 3.4.

So I don't think you're too far off.

And I guess how do you -- I guess the overall NIM comes down.

How do you see kind of the core NIM progressing?

I think it will get a little softer in the second quarter simply because to the extent that we have assets repricing, we're going to have repricing at lower rates.

You in we're going to get some benefit back on that from some of the CDs maturing.

But I -- but I think we're right now in a short duration equity position.

So you'll have assets repricing faster than you'll see deposits repricing.

I think it looks like period end assets were down about $5 billion win quarter.

How should we think about kind of the pace of balance sheet shrinkage looking out?

Well, it's going to be dependent on paydowns and customer behavior and pre-payments.

That's going to be the biggest driver.

All right.

And then -- I guess you're not supposed to look at your January guidance anymore.

But I guess maybe just some clarity with respect to tax rate.

I think you came in around 20% or so this quarter.

Then your prior guidance was around the 26% area.

Just how should we maybe think about that item?

Yes, we had tax credits in the quarter which made it unusually low.

I think you see a tax rate somewhere between 23% and 25% for the year.

Okay.

Thank you.

Thanks, Jason.

Next question, please.

Your next question is from Al Savastano from Fox-Pitt Kelton.

Good morning, Al.

You gave us some color on where you had concerns in Nat City's loan portfolio.

Can you give us some color where on the legacy PNC portfolio where you might have some concerns?

Yes.

I'd say in the commercial space, it's probably a little bit of a manufacturing space.

And as well as some of the health care areas where we have a large asset based lending business, as you know.

And will while they're not performing, a number of those credits won't have as high a loss given defaults.

But you are seeing stress in that marketplace.

And then clearly, residental development projects continue to be challenged in this environment.

And so we are seeing an increase there, as well.

Consumer lending, though, is holding up very strong still.

Thank you.

The charge-off rate held up, as Rick said, in the quarter at -- 1.01%.

So the charge-off rate is holding up very well.

Yes.

All right.

Next question, please.

Your next question is from Gerard Cassidy from RBC Capital Markets.

Hello, Gerard.

Good morning, Gerard.

Good morning, guys.

One just factual question.

Do you have the 90 days past due and still accruing numbers?

I noticed in the fourth quarter they jumped quite a bit from the third quarter of last year.

Would you have them for the first quarter yet?

The ones that I do have at least on the consumer side in particular, and they're staying -- they're staying pretty flat to where they were before.

So we're not seeing any uptick at the moment.

But I think it's that time of the year seasonally where, maybe there's a reason why they're staying down tax things, tax payments and so on.

So I --I don't want to get too excited about that just yet, but it's looking really good at the moment.

Would it be fair to say then that we could probably maybe see them stabilize from the fourth-quarter level as an estimate rather than going up by any meaningful amount?

Yes -- I think your biggest issue going forward is going to be keeping an eye on unemployment.

Right?

I think at the moment when you think of your home equity activity, it not really the LTV, or the FICO, it is whether somebody has a job.

And our expectation is unemployment will increase between now and the end of the year.

So that could put pressure on the delinquencies, and it could put pressure on the charge-offs.

In fact, in that 90-day past due number, at the end of the year, what percentage would you say is consumer versus non-consumer delinquencies in the number that you report?

About.

Gerard.

I couldn't give you answer on that.

Okay.

We'll get back to you.

Okay.

You touched on, Rick, though, it's interesting.

On the consumer side many of the problems that Nat City had a year ago was due to what I would suggest maybe as aggressive underwriting.

People who maybe could not have afforded the loans even in the full employment situation.

Are you seeing more now to your point about the underlying economics of the economy is having a greater impact on the consumer delinquencies than poor underwriting?

No.

Actually, it's interesting.

If you think about the books where they have the high charge-offs, it was in their subprime mortgage.

It was in the brokered home equity.

And most of that activity we impaired.

So we got a lot of charges behind us.

If you look at the core equity portfolio, it actually was well underwritten and performing pretty consistently with how we perform.

The interesting thing to think about that really is that their core business was really a good business.

And every time you looked at them, I mean they lost $525 million last year in the mortgage business.

Obviously the subprime and the brokered home equity.

The brokered home equity was just staggeringly bad.

I mean, just staggeringly bad.

And once you impair those assets, the rest of the Company looks actually a lot more like the economy.

Okay.

One final more general question.

If General Motors and Chrysler both file bankruptcy as many people believe they might, is that a significant event?

When you talk to your guys on the frontline -- everyone knows they're struggling right now.

And I would assume that many of their suppliers are struggling because they're not selling as many cars.

But the actual event of bankruptcy, should that happen, is that a kind of a step down in the economy in the Midwest to your guys' knowledge even though I know it's very weak right now?

I think it's very difficult to tell exactly how the bankruptcy works.

Chapter 11 -- I'm familiar with companies who have spend seven or eight years in Chapter 11 and continued to operate and -- and have the similar output that they had before.

I think the issues are that they clearly have contracts and work practices that make it uneconomic for them to produce cars.

If they can -- if they can take their expenses down by going through a bankruptcy, I think it probably improves -- improves the circumstances for everyone.

We do not have a big concentration in any way, shape, or form in the big three.

As a matter of fact, we're very comfortable with where we are with the big three.

It's not an issue.

I think the issue will be, what happens to the region from an employment point of view over time.

We saw it in Pittsburgh many years ago when the steel industry downsized.

Over the next three or four years, you lost a fair amount of jobs, and there's out migration so that the -- that Pittsburgh has recovered rather dramatically.

I'm not sure that Detroit would as well.

I think it depends on how they go about managing the bankruptcy, if they go there.

Whatever would happen, it wouldn't happen overnight.

It would -- it would be a situation that takes place over time.

Thank you.

I believe we have time for one more, operator?

Your next question comes from Samuel Crawford from Stone Harbor.

Good morning, Samuel.

Good morning.

Made it just under the bell.

Thank you.

Had a really minor question.

Just about the asset-based lending in particular.

I wonder if you could provide a little more detail on loss intensity that you are seeing there and the degree to which working out those assets has slowed down in the current environment?

How much resistance you're getting from the marketplace and how it's showing up in recovery values?

It's clear that given the customer base there we're seeing it impact the non-performing assets.

But we have not seen charge-offs as of yet.

All right.

Very good.

Thank you.

Thank you.

All right, Jim, you want to --

Thank you very much, everyone.

We appreciate you joining us this morning.

We think that we had a very good quarter.

The business model performed well despite some very difficult economic conditions.

The integration of National City, as we said, is exceeding our expectations.

As one of America's largest financial institutions, we're stepping up our responsibilities to lend and lead in the pursuit of economic recovery.

And I believe that as the economy does improve, we believe that we are very, very well positioned for growth.

Thank you for joining us this morning.

Thank you.

Ladies and gentlemen, this concludes today's conference call.

You may now disconnect.