SunTrust Banks Inc. Q1 2010 Earnings Call Transcript

Apr.21.10 | About: SunTrust Banks, (STI)

SunTrust Banks Inc. (NYSE:STI)

Q1 2010 Earnings Call

April 21, 2010 8:00 am ET

Executives

Jim Wells - Chief Executive Officer

Mark Chancy - Chief Financial Officer

Tom Freeman - Chief Risk Officer

Bill Rogers - President

Steve Shriner - Director of Investor Relations

Analysts

Craig Siegenthaler - Credit Suisse

Matt O’Connor – Deutsche Bank

Nancy Bush - NAB Research

Betsy Grasek – Morgan Stanley

Meredith Whitney – Meredith Whitney Advisory Group

Ed Najarian – ISI Group

Brian Foran - Goldman Sachs

Operator

Welcome to the SunTrust first quarter earnings conference call. (Operator instruction) I would like to introduce your speaker, Mr. Steve Shriner, the Director of Investor Relations.

Steve Shriner

Good morning, welcome to SunTrust’s first quarter earnings conference call. Thank you for joining us.

In addition to the press release, we have also provided a presentation that covers the topics today. Slide two outlines the content, which includes an overview of the quarter, financial results discussion and a credit review. The press release presentation and detailed financial schedules are available on our website, which is www.suntrust.com. This information can be accessed by going to the Investor Relations section of the website.

With me today, among other members of our Executive Management team, are Jim Wells, our Chief Executive Officer; Mark Chancy, our Chief Financial Officer and Tom Freeman, our Chief Risk Officer. Jim will start the call with an overview of the quarter, Mark will then discuss financial performance and Tom will conclude with the review of asset quality. At the conclusion of formal remarks, we will open the session for questions.

Before we get started, I need to remind that our comments today may include forward-looking statements. These statements are subject to risks and uncertainty and actual results could differ materially. We list the factors that may cause actual results to differ materially in our press release and SEC filing, which are also available on our website. Further, we do not intend to update any forward-looking statements to reflect circumstances or events that occur after the date the forward-looking statements are made and we disclaim any responsibility to do so.

During the call, we will discuss non-GAAP financial measures in talking about the company’s performance. You can find the reconciliation of these measures to GAAP financial measures in our press release and on the website.

Finally, SunTrust is not responsible for and does not edit nor guarantee the accuracy of our earnings teleconference transcripts provided by third parties. The only authorized live and archived webcast are located on our website.

With that, I will turn it over to Jim.

Jim Wells

Good morning, everyone. Glad you are with us this morning. Our first quarter results improved to a loss of $0.46 versus a loss of $0.64 last quarter as earnings continued to be impacted by elevated credit costs.

While overall home price depreciation slowed uncertainty remains around the direction of future home prices, especially in certain markets. Revenue remains soft driven by a decline in mortgage production volume coupled with mark to market losses on our fair value, publically held debt. Also, loan demand has yet to pick up as clients have focused on capital preservation and debt reduction and have accessed the debt markets in lieu of bank loans.

However, as the economy has shown signs of improvement and so have our results. The most notable sign of improvement was in asset quality which resulted in the significant decrease in credit related costs compared to last quarter. Charge offs remain stable compared to the fourth quarter though if you exclude the actions that Tom Freeman will detail later in the call charge offs would have declined sequentially. Additionally, nonperforming assets, the allowance for loan losses and 90 plus delinquencies were all stable quarter to quarter while provision expense for nonperforming loans and early stage delinquencies all decreased.

We believe this marks a continuation of improved asset quality trends as the improvements in charge offs and delinquencies were broad based among the portfolios and we experienced the second sequential quarter of overall positive asset quality metrics. In addition the apparent beginning of economic improvement, our client focused strategies, lower cost deposit mix and expense management discipline also contributed to encouraging operating trends.

Favorable deposit mix trends continued this quarter with growth in money market balances and a decrease in higher cost time deposits. After an extended period of growth consumer and commercial deposits were stable, a trend one would expect with economic improvement. However, we are improving client satisfaction in getting to the drivers that build loyalty by understanding individual preferences and aligning our business model to respond in a fashion that is improving client satisfaction and retention.

The net interest margin increased due largely to our ability to shift our funding mix to lower cost deposits and to improve loan pricing. Stable client deposits and improved mix enabled the reduction in higher cost sources of funding and that, along with lower rates paid, pushed the margin higher. The result of disciplined expense management was evident across controlling operating expenses again this quarter. We continue to capitalize on the strength we have built and remain focused on continually covering efficiency improvement opportunities. And those cycle costs including other real estate and credit and collection costs are collectively high they are down significantly from the prior quarter as from the same quarter of last year.

What this all comes down to is the positive results from improved economic conditions and our continuing efforts are reflected in various aspects of core performance. Notable examples of our success include deposit mix and pricing, the impact of asset liability management actions on margin and expense management. We remain focused on uncovering opportunities to improve execution across the organization as we seek to increase client satisfaction to grow our core business.

Turning to slide four I will spend a moment discussing our capital position before turning the call over to Mark. As you can see, slide four depicts our current estimated capital ratios and book value per share. We maintain a solid capital position with an estimated Tier 1 common rate of 7.65% and a Tier 1 ratio exceeding 13%. We continue to have substantial liquidity as deposit inflows have been largely retained in cash and invested in high quality, government-backed securities. Book value was $35.40 and tangible common was $22.76 at the close of the quarter.

Our position on TARP repayment remains unchanged. We are well positioned to repay TARP at the appropriate time. Separately, last week we announced we are exploring options relating to RidgeWorth. We are simply continuing our longstanding practice of evaluating ways to manage our business mix to maximize value for our shareholders. This evaluation does not apply to the majority of our wealth management business and is not tied to any movement on our part to repay TARP. Even if we do move forward with the transaction the impact would not be material enough to have a significant effect on our capital planning or our financial results.

To conclude we believe that as economic recovery continues to gain traction our strong capital position and level of liquidity will enable us to operate from a position of strength to capitalize on opportunities in the markets and businesses in which we compete and to drive improved shareholder value. We are increasingly encouraged by current operating trends and our outlook for the future.

There are a number of factors, some internal and some external, that cause us to believe the worst is behind us. As economic recovery seems certain, the remaining uncertainty relates primarily to the pace and strength of the economic improvement and its lingering impact on home prices. Our positive asset quality and operating trends give us reason to be optimistic about our performance as 2010 progresses. Our strong foundation coupled with our client focused execution, risk mitigation capabilities and the long-term economic prospects of our markets position us to deliver improving financial performance.

I would like to turn the call over to Mark now.

Mark Chancy

Thanks Jim and good morning everybody. I will begin my comments today on slide five of the earnings presentation with a summary income statement.

For the quarter we posted a loss for common shareholders of $229 million or $0.46 per share. As has been the case in recent quarters the loss was driven by elevated charge offs, cyclically sensitive expenses and to a lesser extent soft revenue generation in certain units. The effects of the recession also continued to impact our results. Loan demand remained weak. Mortgage production volume declined significantly versus 2009 levels and noninterest income declined sequentially in a number of our larger line items.

However, the amount of the reported loss declined significantly compared to last quarter. Improved results were largely due to lower provision and noninterest expenses, lower mortgage repurchase reserves and a stable net interest margin. Overall, the improvement in our results is occurring coincident with the recovering economy and some of the positive trends are primarily related to the environment. On the other hand we are directly driving the improvement in many areas.

Notable and visible examples of our success include deposit mix and pricing, expense management and the impact of asset liability management actions on net interest margin. Less noticeable now but critically important to our future is our increasing success in attracting and retaining clients with improved service and innovative products and services.

So with that brief summary of first quarter results I will now shift to slide 6 and a balance sheet review. Overall, average loan balances excluding nonaccruals declined 1% and 11% as compared to last quarter and last year respectively. The decline in balances in our higher risk categories continue. Construction balances continued their rapid decline, down another 14% in the current quarter and down 45% compared to last year. The resident mortgage and home equity line portfolios also continued their downward trends.

Commercial and industrial loans reversed trend and increased slightly. However, the increase was due to bringing an average of $1.4 billion back on the balance sheet as a result of FAS 167. Excluding this impact, C&I continued this downward trend although the pace of decline slowed considerably. Line of credit utilization among our larger corporate and mid-sized clients now averages 21% for our largest clients and 33% for our midsized clients.

While these utilization rates are down over 10 percentage points and 5 percentage points respectively the decline in this quarter was only 2 percentage points for larger clients and was stable for our mid-sized clients. We are hopeful that borrowing by credit worthy clients will stabilize soon and then pick back up in the second half of the year but our belief at this point is based largely on the slowing pace of decline and anecdotal information from dialogue with our clients.

Now moving onto deposits at the bottom of the slide you can see core deposits declined slightly. However, please note the positive shift in mix continued. Lower cost deposit volumes increased as the small declines in DDA and NOW driven by seasonal commercial client activity were more than offset by growth in money market balances. The overall reduction in deposit balances was driven by CD balances which similar to last quarter were allowed to decline. We also reduced average broker and foreign deposits by $1.7 billion in the quarter or 33%.

Our current liquidity position has enabled us to take the actions I just mentioned to refine and lower the cost of our funding profile. We also took actions with our securities portfolio so please turn to slide 7 for a brief review of the available for sale portfolio securities.

The portfolio continues to be concentrated in higher quality and very liquid assets. Government and agency securities in the first four rows are the bulk of the portfolio with the Treasuries being held in anticipation of ultimate TARP repayment. The other equity holdings are largely [Coke], Federal Reserve and Federal Home Loan Bank stock.

During the quarter we decreased our holdings of agency debt and agency mortgage backed securities and increased our asset backed securities position. The overall portfolio grew significantly in 2009 due to the strong inflow of deposits and declining loan demand. Given what appears to be an improving economy and a higher probability we are moving closer to an increasing rate environment we began to take action to reduce our longer term securities exposure.

Specifically we sold $2 billion in mortgage backed securities during the quarter. Additionally, for similar purposes and in order to better diversify our portfolio we sold U.S. agency debt and purchased asset backed securities. The new ABS securities are high quality and are backed by newly originated consumer automobile loans. We will continue to take actions that best balance our excess liquidity against returns while retaining maximum flexibility to respond to changes in the market environment.

I will now take a moment to talk about the margin on slide 8. Net interest margin expanded slightly this quarter increasing by five basis points to 3.32%. We had originally expected some margin compression in the quarter driven by off balance sheet consolidations, the full impact of the relatively low yielding U.S. Treasury securities and an expectation of declining deposits. However, deposit volume, mix and pricing combined with improved loan pricing largely offset the negative impacts such that day count was the largest driver of margin expansion during the quarter.

As we look out into the second quarter and beyond we do not expect additional margin expansion in the near-term. In fact, day count benefit reversal combined with scenario analysis around some of the key variables such as loan and deposit volumes, pricing and market interest rates suggests margin could trend down slightly in the second quarter. For the second quarter and the remainder of the year we are currently expecting margin to be relatively stable within a range around 3.25%.

Moving to slide 9 and provision expense, Tom will cover credit in detail in just a minute so I am going to be brief here. Total provision for credit losses for the quarter was $862 million, down $112 million from the fourth quarter. Charge offs of $821 million in the quarter are approximately equal to the fourth quarter level. Please note the increase in the charge off ratio is therefore purely driven by lower outstanding loan balances. Charge offs this quarter include two actions totaling $182 million that Tom will review in detail in a few minutes. The reason I mention it now is to make the point that if these additional steps had not been taken during the quarter net charge offs would have declined sequentially for the second quarter in a row.

The increase in the allowance for loan losses was $56 million in the quarter compared to $96 million in the fourth quarter which brings the allowance to $3.2 billion and 2.8% of loans. The reserve was relatively stable including a reduction in the reserve for unfunded commitments. Despite the notable improvement in asset quality the allowance remained relatively stable for the time being as the outlook for economic improvement and home values remains uncertain.

Now moving onto noninterest income on slide 10, noninterest income in the quarter was down 6% and down 38% as compared to last quarter and last year respectively. After adjustments for certain items in each quarter noninterest income actually increased by 4% and then declined 28% respectively. The adjustments primarily relate to fair value marks and securities gains and as in prior quarters we have provided the underlying detail for those adjustments in the appendix of today’s presentation.

In the quarter the largest adjustments are for fair value securities marks and a $20 million loss associated with our fair value debt and related hedges as SunTrust’s credit spread continued to tighten. The primary reason for the adjusted year-over-year decline in noninterest income is a roughly $280 million reduction in mortgage production income driven by a nearly 60% decline in origination volume. Income was also negatively affected by $100 million increase in mortgage, rep and warranty costs on a year-over-year basis.

On a sequential basis the increase in noninterest income is mostly due to mortgage related revenues. Rep and warranty costs which are included in mortgage production income declined by $92 million and mortgage servicing income increased primarily due to the performance of the NSR asset and our related hedges. Additionally, core trading income improved sequentially driven by increased fixed income sales and trading client revenues and improved performance in corporate treasury.

Sequential revenue declines were reported in Trust and Investment Management income and in service charges on deposit accounts. Trust income declined primarily due to annual performance fees reported in the fourth quarter of 2009. The decline in service charge revenue was driven by a lower rate of NSF OD incidences in the quarter. We are actively engaged in analyzing and preparing to implement required changes to our service charge practices as required by Reg E on July 1st.

Based on different scenarios for client opt-in we could see a reduction in our overall service and charge income of 10-20% during the second half of this year. We also believe the initial reduction in fee income will be greater in the first quarter or two after implementation as clients continue to opt-in and as we in the industry develop new and enhanced products and services.

Now please turn to slide 11 and more detail around the mortgage rep and warranty repurchase trends we provide. This slide depicts the mortgage rep and warranty related trends. This is the same information presented last quarter, updated with first quarter results. The top left portion of this slide highlights the increasing impact on earnings and growth in the reserve during 2009. In the first quarter of 2010 the reserve increased only slightly but charge offs declined significantly.

Specifically, the line item labeled “Additions” represents the cost reported as a reduction to mortgage production income in the quarter and you can see the cost declined to $128 million in the first quarter as compared to $220 million in the fourth quarter of last year. The charge offs recognized in the first quarter declined to $118 million or $10 million less than the additions to the reserve. This resulted in a modest increase in the overall reserve to $210 million.

The graph on the right illustrates why losses declined and reserves were stable. New request volume declined in the quarter and the inventory of pending requests continued its decline. While we are pleased that new request volume declined it is not clear to us how much of the decline may be related to seasonality, sustainable cyclical factors or simply agency work flows.

As a result, we are not expecting new request volumes to decline significantly in the near-term. On the bottom left of this slide you can see the vintage of repurchase requests was basically stable on a sequential basis with most of the volume coming from higher loss vintages in 2007 and prior. We do expect that normal, seasoning patterns for origination vintages will continue to shift new request volume to newer vintages over time.

On the bottom right are some key statistics that illustrate the lower risk profile of the newer vintages. Lower levels of Alt-A, higher FICO and the higher percentage of full doc loans in newer vintages suggests lower frequency of losses. Newer vintages exhibit lower LTVs and were originated during and after a period of significant home price depreciation. This suggests that in addition to lower frequency of loss new vintages will experience lower loss severity as well.

In conclusion, near-term losses and reserve levels will largely be driven by the volume of new repurchase requests. While new request volumes are difficult to predict if they stabilize at first quarter levels we expect charge offs and reserves to decline gradually over the remainder of 2010 as the shift to newer vintages naturally occurs. However, if new request volumes increase and/or older vintage request volumes remain high charge offs and reserves could remain at current levels of even higher.

Now turning to slide 12 for a review of expenses. Noninterest expense declined 37% when compared to the first quarter of 2009 and 6% compared to last quarter. On this slide we have adjusted for some items that are detailed in the appendix of today’s presentation. There were no large adjustments during the current quarter. A large adjustment in the first quarter of last year was primarily related to goodwill impairment.

Excluding certain adjustments expenses were down 5% compared to last year and down 4% compared to last quarter. We have included an analysis of the key items impacting the comparison. The total year-over-year decrease in adjusted expenses is approximately $64 million. Reductions in credit related and pension expenses contributed to the positive expense performance as they declined year-over-year while FDIC related expenses clearly increased. The net of these three items is a $54 million decrease in expenses and the expense change net of these items is a decrease of $10 million noted at the bottom.

This means that excluding special items and cyclically sensitive expenses the net of all other expenses is down slightly on a year-over-year basis. The conclusion of the sequential quarter analysis is exactly the same.

So the highlights of what I have discussed this morning are that; one, our earnings loss has narrowed. Two, the provision expense declined due to improved asset quality. Three, margin increased despite weak loan demand driven by a continued shift in our funding mix to lower cost deposits. Four, noninterest income remains soft though improved versus last quarter in part due to a decline in mortgage rep and warranty costs. Finally, noninterest expenses have declined as cyclically sensitive expenses are lower and we have managed all other expenses tightly.

We are encouraged by current operating and operating trends. The remaining questions are related to how quickly and strongly the economy recovers and where home prices will trend from here. At this time we are looking forward to continued improvement in our results as 2010 progresses.

With that I will turn the call over to Tom Freeman to discuss asset quality.

Tom Freeman

Thanks Mark. This morning I am going to review our asset quality beginning on slide 13. As Mark and Jim noted earlier in the call asset quality continued to improve this quarter. Provision expense, nonperforming loans, nonperforming assets and early state delinquencies all decreased. Additionally, charge offs, the allowance for loan losses and 90 plus delinquencies were all stable quarter to quarter.

A couple of numbers on this slide were influenced by actions we took in the quarter related to nonperforming loans. While overall charge offs were flat quarter-over-quarter at $821 million the base level of charge offs was lower. Added to this lower base were incremental charge offs on aged residential mortgage nonperformers resulting from a change in policy. We also decided to sell a portfolio of mortgage loans and as a result reduced nonperforming loans and recorded an incremental charge off. I will address these actions in more detail later in the presentation.

Please turn to slide 14 for a review of the loan portfolio. This portfolio review of asset quality illustrates broad based improvement in early stage delinquencies among the consumer portfolios. This is the fourth consecutive quarter of improvement in early stage delinquencies. Overall, charge offs remain stable at $821 million with the charge off ratio increasing due purely to a reduction in loan balances. As in past quarter absolute asset quality issues remain centered in the residential real estate related portfolios including residential mortgages, home equity products, land and residential construction.

The commercial portfolio continues to perform well overall. Commercial loan charge offs and early stage delinquencies were stable in the quarter and nonperforming loans declined by over $100 million for the third quarter in a row. We continue to see some potential for volatility in more cyclically sensitive industries. However, our view is that overall C&I asset quality is stable and improving at this point in the cycle.

Overall commercial real estate portfolio including owner occupied and income producing properties is performing well. The charge off ration in the quarter remained in the single digits and early stage delinquencies were stable. While commercial real estate nonperforming loans increased in the quarter to $464 million they represent a relatively low 3% of the portfolio.

Given the conditions in the commercial real estate market we expect additional stress and credit losses in this portfolio. However, we also believe our portfolio will perform comparatively well given its composition and the way it was underwritten. As noted a moment ago asset quality improved in the consumer portfolios. Early stage delinquencies declined across most portfolios and charge off ratios were stable to down.

The only exceptions were in the residential 1-4 family and credit card portfolios. The 1-4 family charge off ratio increased due to actions we took related to nonperforming loans. The dollar increase in credit card charge offs were $7 million due to one-time timing adjustments associated with bringing credit card servicing in-house.

I am going to talk about each of the higher risk residential real estate secured and construction portfolios in detail in a moment. So for now I will summarize. Overall home equity performance has been stable as charge offs were generally flat while early stage delinquency declined. Early stage delinquencies declined meaningfully in the mortgage portfolio and the increase in charge offs was entirely related to our decision to sell assets and a change in accounting policy. Construction charge offs declined by almost one-half. We expect more charge offs in this portfolio with uneven quarter to quarter results due to the nature of the workout process. However, I can assure you we are aggressively pursuing a resolution of nonperformers in this portfolio.

Next I am going to discuss our real estate secured portfolios in more detail beginning with the residential mortgage portfolio on slide 15. Asset quality in the residential mortgage portfolio continued to show improvement in the first quarter although this portfolio continues to perform poorly on an absolute basis. The key point this quarter is that balances were flat and asset quality in the large core portfolio improved.

Please note that overall core balances were flat as a result of the repurchase of nearly $500 million in government-guaranteed Ginnie Mae mortgages. In addition, while higher risk segment balances continue to decline asset quality metrics for these portfolios were stable. The impact of our decision to sell assets and a change in our charge off accounting policy on long-dated foreclosures is evident in the asset quality metrics on this slide. However, the improvement in early stage delinquencies noted earlier was not impacted by our actions and as a result our outlook for this portfolio has improved.

Early stage delinquency trends indicate a lower frequency of default in the future. Additionally, home price deterioration appears to be slowing in a number of our markets. There remain risks to this outlook. First, sustained softness in jobs among our markets could impact the frequency of loss. Second, loss severity could be negatively impacted by weakness in home values resulting from an influx of foreclosed homes into the market, higher mortgage rates and the elimination of government subsidies for homebuyers.

This dynamic is particularly true in Florida. The net result is that while we are optimistic about the future there are market headwinds outside of our control that could negatively impact asset quality. However, even with those risks in mind our outlook for charge offs in the residential mortgage portfolio has improved.

Moving to home equity lines on slide 16, overall the home equity portfolio performance has been relatively stable. Elevated credit metrics are largely driven by higher risk segments of the portfolio. Loans that were originated by third-parties, loans in Florida and loans with higher loan-to-value ratios. Values in these segments continue to decline due to runoff and charge offs with no new production and little line availability.

Core portfolio balances which represent approximately 70% of the HELOC portfolio were basically stable. The core portfolio performed better than the higher risk segments but showed a sequential increase in charge offs in the first quarter of roughly $10 million due to higher losses related to consumer bankruptcies.

Now if you turn to slide 17 I will talk about our construction portfolio. Construction balances declined over 13% in the quarter or nearly $900 million. To put this in context, construction balances in 2007 exceeded $14 billion and are now down nearly $9 billion or 60%. Construction to perm portfolio balances and nonperformers continue to run down as new production remains minimal and workout efforts continue on the nonperformers.

Residential builder charge offs decreased significantly this quarter due to the uneven nature of timing in the workout process. We continue to aggressively manage the portfolio through foreclosures and workouts. As a result and due to continued variability in land values we expect charge offs in this portfolio to increase next quarter. However, as I just mentioned the basic nature of the process particularly in the judicial foreclosure state of Florida renders timing difficult to gauge with accuracy.

This is truly a timing issue, not an income issue, since we continue to be comfortable with the reserves on this portfolio. It is also important to note that 30 days plus delinquency declined significantly again this quarter in the largest portfolios while the [A&D] portfolio segments and the overall portfolio showed increases. In fact, this increase in the overall delinquency ratio was purely a denominator issue since the dollars delinquent declined by $8 million.

The [A&D] delinquency increase stands out but the higher ratios are driven by lower balances combined with a small dollar increase in delinquencies. In the [legacy builder A&D] segment delinquent dollars increased by $7 million while the commercial [A&D] increase was due to 15 loans totaling $12 million. Construction related nonperforming loans increased somewhat this quarter. However, we continue to believe that nonperforming loans in the builder portfolio are at or near their peak.

The majority of loans in the portfolio that are going to have problems have been identified and are in the workout process. As these workouts progress we expect the related charge offs to increase next quarter and remain elevated and uneven over the remainder of 2010. Credit performance in the commercial construction portfolio remains acceptable overall. Balances declined significantly, charge offs declined and nonperformers increased only modestly.

Please turn to slide 18 where I will cover our nonperforming loan actions we took this quarter. As I noted earlier, we took actions this quarter that impacted the level of nonperforming loans and charge offs. In the table on the left you can see the impact of these actions was to increase charge offs by $182 million over base charge offs of $639 million that we would have reported otherwise. Nonperforming loan balances were reduced by $342 million as a result of these actions. This represents the sum of the held-for-sale carrying balance of $160 million plus $182 million charge off.

Let me describe the two actions we took in more detail including our rationale. The first action was a change in our process for reporting charge offs on residential mortgage nonperforming loans. Specifically, we reported $131 million in incremental charge offs on first lien residential mortgage loans that have been in the foreclosure process for more than 12 months. Our previous practice was to charge the loan down to an average of 85% of market value and 180 days past due and not record further charge offs until the final foreclosure.

Given the extended foreclosure timeframes particularly in Florida and the decline in value that occurred in collateral values we determined it would be appropriate to record an additional adjustment 12 months after the initial charge off. Our original charge off policy did not envision that foreclosure timeframes would extend well beyond 12 months. Additionally, it makes more sense to make this change now that property values in many markets appear to be stabilized. This action accelerates the timing of when we recognize the potential additional charge offs resulting from foreclosure.

The $131 million brings forward charge offs that we would have reported later. We do not believe the impact of this policy adjustment in future quarters will be material. One final note on this topic, the change applies only to residential first lien mortgages primarily held in Florida.

The second action in the quarter was the decision to sell $211 million of nonperforming residential mortgage loans. As a result, we recorded an incremental charge off of $51 million in the quarter and classified these loans as held-for-sale. We are actively marketing this portfolio and intend to complete the sale in the second quarter. We have chosen to take this action now as liquidity and market pricing for nonperforming mortgage loans has improved as the decline in underlying home values has slowed.

The improvement in the market is evidenced by the relatively small additional charge off especially when viewed in light of the concentration of loans in this portfolio that are located in Florida and California. In addition, the size of the portfolio is rather small and allows us to test the market appetite and pricing for various geographic and product profiles. The sale also allows us to better allocate default management resources and avoid the time and expense of long foreclosure timeframes for selected loans.

Please turn to slide 19 for a review of our mortgage modification efforts and resulting troubled debt restructures (TDRs). The key point to take away from this slide are that the pace of mortgage modifications has slowed and that 95% of the growth in TDRs in the quarter was in the accruing category. TDRs increased by less than $300 million in the current quarter as compared to over $500 million in each of the previous three quarters. The slower pace of growth is primarily related to a lower inflow of newly delinquent loans and also peer modifications of more seriously delinquent.

Non-accruing TDRs increased by $14 million in the quarter as compared to $236 million in the fourth quarter. The last point I would like to make here is that TDRs continue to be almost exclusively first and second lien residential mortgages and home equity lines of credit. Additional detail on the performance of our modified loans is included in the next slide. This table shows 73% of the TDRs are current on all principle and interest payments and an additional 13% are in early stage delinquency. To put this payment status in context, accruing TDR balances totaled $1.3 billion at the end of the third quarter as opposed to $1.9 billion today. This means that over 2/3 of the accruing TDRs have aged at least six months and as you can see on this slide 88% of the accruing TDRs are current on principle and interest payments at the end of March.

Our primary means by which these accruing residential TDRs exit the portfolio is through payoff or refinance. The $400 million of current but non-accruing TDRs will continue to be reported as non-accruing until they go through a six month cure period after which they will move into an accruing TDR status. Accruing TDRs that become 120 days past due are moved to a non-accrual TDR status.

Overall, the performance of the accruing TDRs is continuing to exceed our expectations for the first quarter with 95% of the accruing TDRs being current or one payment past due, the performance of this portfolio was much closer to traditional mortgage portfolios than it is to a restructured portfolio. Obviously performance on this portfolio could deteriorate, however we are pleased with the performance to date.

I will summarize the key points from today’s credit update before turning the call back over to Steve. Please turn to slide 21. Overall, asset quality has improved. However, nonperforming loans and charge offs remain high. During the quarter early stage delinquencies, base charge offs and nonperforming loans all declined. The nonperforming assets were stable. Improvements in base charge offs and delinquencies were broad based among the portfolios. Balances continue to decline and asset quality metrics continued to improve in our consumer residential real estate portfolios.

$182 million in incremental charge offs were reported in the quarter for a change in internal policy for aged first mortgage NPLs and for a small portfolio of nonperforming loans that was transferred to held-for-sale. The pace of mortgage modifications slowed considerably in the fourth quarter and the proportion that is current on principle and interest payments increased slightly from last quarter to 73%.

At the current time we expect overall second quarter charge offs to be stable to down versus the first quarter. The run rate of base charge offs of roughly $640 million is expected to be stable to slightly up depending on the status of residential construction workouts and the pace of improvement in the consumer portfolios. Of course, if we were to decide to sell additional nonperforming loans that would also influence where we fall within the overall expected range of targets. With that, I will turn it back over to Steve.

Steve Shriner

Thanks Tom. Before we take questions I am going to wrap up with some key takeaways from today’s call. We posted a loss in the quarter driven largely by elevated credit costs and soft revenue generation particularly related to loan demand and certain noninterest income items.

As you know the impact of the recession on our asset quality and earnings will take awhile to recede. However, the process of improvement now appears to have clearly begun. Asset quality improved again this quarter and leading indicators suggest further improvement during the remainder of the year. Our capital position remains solid. We believe that we have strong capital today and enough capital to leverage for growth as the economy strengthens tomorrow. Liquidity and funding have been well managed as have expenses. Perhaps most importantly we have made a lot of little changes that have improved daily execution, increased accountability and enhanced products and services.

We have more work to do here but these actions are gaining momentum and improving client satisfaction. Taken all together these things give us confidence that our earnings power is well leveraged to economic recovery. We are ready to begin taking questions now. In order to accommodate as many as possible I would ask that you limit yourself to one question and one follow-up. Operator, we are ready for the first question.

Question and Answer Session

Operator

(Operator Instructions) The first question comes from the line of Craig Siegenthaler - Credit Suisse.

Craig Siegenthaler - Credit Suisse

It sounds like in your commentary on charge offs the range we should really think about for next quarter is between the base level which was about 639 and a reported level of 821. Is that correct? Would you expect charge offs to really trend closer to the bottom part of that range or the top part of that range given your guidance today?

Tom Freeman

I have trouble with Steve in even defining a range specifically for this reason. I think it will be within the range. I think it has a lot to do with some of the residential restructures we are doing specifically on the homebuilder side and whether or not the opportunity to take any other actions depending upon the secondary markets we are currently seeing out there for the potential sale of further assets.

I feel pretty comfortable within the range, but trying to pick where in the range we are going to do is going to depend on what the markets look like over the quarter.

Craig Siegenthaler - Credit Suisse

But you hear, to define that question a little better, on the bottom of slide 12 you point out the run rate of base charge offs is expected to be stable to slightly up. That would be off the base of 639. Should we expect another significant level of kind of non-base charge offs related to acceleration of held-for-sale residential mortgages?

Steve Shriner

Really the statement itself in Tom’s prepared comments were designed to kind of focus you on a base rate of charge offs that is stable to slightly up, we have not completed the transaction related to the NPLs and the reason the range is large is we are leaving some optionality for ourselves if that transaction goes well to come back in the market with a second transaction. Does that help?

Operator

The next question comes from the line of Matt O’Connor – Deutsche Bank.

Matt O’Connor – Deutsche Bank

Your [inaudible] margin isn’t improving as much as some other banks we are seeing. I would just point out on page 7 of the deck here your securities book is more liquid than others and it does seem like you are shortening it. It feels like there is some dry powder and I guess if you could just help us put all of this together, when rates start to rise how much leverage is there in the [inaudible] margin? Then take a stab at what a more normal NIM would look like.

Mark Chancy

I think you have it right. We have a fair amount of dry powder. We have reduced our securities portfolio by a couple of billion dollars and our liquidity position is outstanding as we ended the first quarter. Actually a little better, as we said in the prepared remarks, than anticipated given the deposits have maintained their levels and the mix further improved. So we are evaluating the rate environment. We are seeing the economy improve and there is a translation as to when that will affect longer term rates. We are using both on balance sheet securities as well as off balance sheet opportunities like interest rate swaps to manage the duration of the balance sheet.

So we will use all of those types of tools to try and manage through what is likely to be a rising rate environment. I will remind you the nonperforming loans affect margin currently by a little over 20 basis points. So that is one element that is a significant headwind that that we are working our way through with current margin around 3.25% to 3.30%.

Matt O’Connor – Deutsche Bank

Any more detail on how you are positioned right now? Are you asset sensitive? If rates were to go up would it be listed in NIM?

Mark Chancy

When you look at the various analyses we are relatively neutral. We don’t have any significant asset or liability sensitivities but one of the things we are doing is we are maintaining a very liquid balance sheet to be able to move as the environment changes and in anticipation of a rising rate.

Operator

The next question comes from the line of Nancy Bush - NAB Research.

Nancy Bush - NAB Research

A quick question on your initial commentary I think on page 3 about uncovering opportunities across the company. Can you just give us some color on that? Is that expense? Is that certain revenue initiatives?

Jim Wells

Actually both. The expense side is we are doing a lot of front to back re-engineering of processes. I think in the mortgage business or several other places that are longer time consumers than some of the shorter term things we have done in the last year or so. We have also done a lot of research and product development sort of work that is going on that we think will enhance revenues. The basic issue obviously is whether or not C&I loan growth or any other sort of loan growth shows up and when does it show up. As a general proposition we have been investing all through this thing both on the expense side in terms of cutting costs and increasing productivity as well as on the revenue side with new products, training and those kinds of expenses. Actually that answer is both.

Nancy Bush - NAB Research

I would ask as an add-on I was in College Park recently and was astonished to see a new SunTrust branch there. What are the branch development or branch opening plans around Atlanta and is there a number of branches and an expense level we can look at there this year?

Jim Wells

I don’t remember the numbers exactly but over the last 5-6 years we have probably averaged 30-40 or some 50 branches opened and 20-30 closed. So we are constantly dealing with the network to make sure it is in the right places and the mix is in stores of traditional freestanding and store front and what not is proper. We don’t really have a target. We are trying to be opportunistic about this sort of thing. We don’t really have a goal as some people have stated of building X branches over the next year or two. It is not time to think that way I don’t believe.

Operator

The next question comes from the line of Betsy Grasek – Morgan Stanley.

Betsy Grasek – Morgan Stanley

Could you talk a little bit about where you anticipate your normalized NIM and ROA/ROE kind of settling out?

Jim Wells

Mark I think has covered the normalized NIM pretty well. Basically we think it is going to be 3.25 or above, maybe a little below depending on what the asset mix becomes. The ROA issue is traditionally over the decades SunTrust has been sort of a 110 ROA mix of business. My own view is that it is certainly larger than one barring some unforeseen burden placed on us either regulatorily or politically. The, I think, reality is it will be from 1-1.25 for awhile and then we will have to see how it shakes out.

ROE, you tell me what the capital ratio is and I will tell you what the ROE is. If you want to tell me I will give you some math here and tell you.

Betsy Grasek – Morgan Stanley

I suppose the questions to follow-up on ROA is the kind of expense ratios you are anticipating and the timeframe to get there.

Jim Wells

It is hard to say because obviously the mix is shifting inside the various businesses which has a great deal to do with an efficiency ratio analysis. The reality is, if you look at the fact for some number of quarters, 4 or 6 or 8 or something like that, we have shown core deposit declines year-over-year each quarter and I think you can assume of the days of the low 60’s efficiency ratio are gone. I think you can also assume we are investing in productivity and efficiency as well as the culture shift that has occurred over the last couple of three years.

So I don’t know whether it is mid 50’s or around there somewhere but it is probably something like that. I think we are going to have to shift out some of the mix issues and see where we go.

Betsy Grasek – Morgan Stanley

So that is over the next couple of years? That kind of timeframe?

Jim Wells

It is just like I said about equity. If you can tell me what normal looks like I could answer that but probably.

Operator

The next question comes from the line of Meredith Whitney – Meredith Whitney Advisory Group.

Meredith Whitney – Meredith Whitney Advisory Group

I was curious to see your experience in terms of offloading your foreclosure mix because that was the most interesting part of the quarter to me. What is the foreclosure environment in for specifically? Anecdotal evidence would say it has been very slow and when you talk about testing the market in terms of moving things from foreclosure actually into the market or actually from nonaccrual into foreclosure what are those tests going to be like? Can you provide more color?

Tom Freeman

Let me make sure I understand the question so I am not answering something different from what you are asking. Are you interested in our experience and the timeframe and difficulty of foreclosures in Florida? Is that the first part of the question?

Meredith Whitney – Meredith Whitney Advisory Group

Yes.

Tom Freeman

It has been very extended. Initially one would expect and we find in almost all jurisdictions we are able to resolve foreclosure issues within a 12 month timeframe. In Florida it is extended to almost 2 years on average and continues to extend as we do that. That being said, with stability in home prices beginning to show up all over Florida and in fact some increasing markets, the market out there looks to be for early stage foreclosures with some of the buyers out there in the marketplace which is an interesting comment I believe upon expectations for house prices within the Florida market.

Jim Wells

Just to add on, the action we took has to do with nonperforming loans that are in the process of foreclosure.

Meredith Whitney – Meredith Whitney Advisory Group

I am not [sure] I understand they have been in the process for obviously an extended period of time right?

Tom Freeman

These were primarily early stage foreclosures that we sold.

Meredith Whitney – Meredith Whitney Advisory Group

So what happens if more people go to market because anecdotally you heard this quarter more people in Florida are actually moving properties on the market and there is the supply jam that disrupts pricing. Did you then sort of halt that process or suspend that process to wait for a better time? How does that work?

Tom Freeman

One of the reasons we were anxious to do it this quarter is we saw some real stability between supply and demand in the marketplace at the current time. People looked at it and there was demand for purchase of a product. We will continue to be evaluating what is going on in the market. What we don’t want to do is over a longer period of time is impair the value of these loans to our shareholders by simply dumping them out in the marketplace.

Meredith Whitney – Meredith Whitney Advisory Group

Could you comment on the growth in your mortgage portfolio? Do you expect your mortgage originations to be in line with the industry this year? Also the growth in your credit card portfolio which has been nice relative to the rest of the market.

Jim Wells

I am sorry, we have to move onto the next caller please.

Operator

The next question comes from the line of Ed Najarian – ISI Group.

Ed Najarian – ISI Group

A quick question for Jim I guess. In your opening remarks you talked about the repayment of TARP at the appropriate time. Could you give us any sense of when the appropriate time is in your mind?

Jim Wells

I have talked about this for months and months and I will repeat what I have said if that is useful to you. I am not sure it should be but it is. The reality is we are very sensitive about the dilution that might be required, and I say might because I don’t know, were we to repay TARP say now for example. What we are trying to do is to balance our devotion to our existing shareholders and the dilutive effect that might occur with potential increases in stock price or reduced requirements or whatever. What we are doing is we are running a balancing act here we think is benefiting everybody and certainly has so far.

Ed Najarian – ISI Group

So your sense would be you are waiting for your stock price to be higher, therefore your potential shares you would issue would be less diluted?

Jim Wells

What I said specifically was we are trying to balance our inherent disinclination to further dilute our shareholders with the need to and obviously our core capability of having liquidity and what not to repay TARP. That is all I am going to say about it. I think that is pretty clear. If it isn’t clear call Steve up and we will say it again I guess.

Ed Najarian – ISI Group

I will use my one follow-up to…

Jim Wells

You have had it Ed. Over.

Ed Najarian – ISI Group

What is that?

Jim Wells

You have had your follow-up. It is over.

Operator

The next question comes from the line of Brian Foran - Goldman Sachs.

Brian Foran - Goldman Sachs

Is the CD repricing tailwind over with the total CD book now around $25 billion and at 2% cost or is that still a modest benefit going forward? Two, I apologize if I missed if but could you remind us of the Florida home price assumption embedded in all of your credit commentary?

Bill Rogers

I think your presumption on the CD repricing the big benefit is basically over where we had some things that were at a poor [handle] have sort of rolled off. Now it is more of an incremental view that we are working around the edges. The runoff in CDs now is at a more normalized level than it was previously.

Tom Freeman

The house prices, we used as a base for our forecast Case-Shiller indices and are running off of those. Our experience however with the Case-Shiller data over the past several quarters has been the expectation is for the actual declines have been less than what Case-Shiller has been done but we are using the Case-Shiller indices as the foundation for our forecast.

Steve Shriner

With that thank you all for joining us.

Operator

Thank you. This concludes today’s conference. Thank you for participating. You may disconnect at this time.

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