DBRS Downgrades Marshall & Ilsley Corporation to A (low) –Trend Remains Negative

DBRS has today downgraded all long-term ratings of Marshall & Ilsley Corporation (M&I or the Company) and its subsidiaries, including M&I’s Issuer & Senior Debt to A (low) from “A”. Concurrently, the short-term ratings of the Company’s banking subsidiaries were lowered to R-1 (low) from R-1 (middle). The short-term rating of M&I was confirmed at R-1 (low). The trend on all ratings remains Negative except for the short-term ratings of the bank subsidiaries, which are Stable.

The rating action follows the Company’s announcement of a large net loss of $391.2 million in Q4 2008. For the full year, M&I’s net loss from continuing operations totaled $555.6 million compared to net income from continuing operations of $496.9 million in 2007. In certain circumstances, DBRS can tolerate losses of up to one year’s worth of income before provisions and taxes before a negative rating is action is taken. DBRS notes that M&I has significantly surpassed this threshold for fiscal year 2008.

The maintenance of the Negative trend reflects DBRS’s concern over M&I’s elevated asset quality challenges in a rapidly deteriorating economic environment that could likely impact all asset classes, not just the previously problematic $9 billion construction and development (C&D) loan portfolio. While DBRS views positively the fact that management has been aggressive in recognizing loss content as evidenced by the $647 million in partial charge-offs (a haircut of approximately 30%) already taken against non-accrual loans, DBRS expects further credit deterioration over the next several quarters that could negatively impact earnings.

The Company’s ratings are underpinned by M&I’s dominant market position within Wisconsin that produces a solid recurring and diversified revenue stream. DBRS notes that the vast majority of the asset quality problems have originated outside of M&I’s home market of Wisconsin. While the quarterly loss caused the Company’s tangible common equity ratio to decline, the U.S. Treasury Department’s preferred stock investment through the Capital Purchase Program elevated total capital metrics. The ratings also take into account worse than peer asset quality and a heavy reliance on wholesale funding.

The large quarterly loss was driven by continued deterioration in asset quality resulting in a large loan loss provision of $850 million. DBRS notes that the provision did exceed net charge-offs (NCOs) by $170 million, which built the reserve to 2.41% of loans. While the reserve looks strong, it represents just 66% of non-performing loans (NPLs). The problematic $9 billion C&D portfolio accounted for 18% of the total loan portfolio, 68% of NCOs and 56% of all NPLs in the fourth quarter. Land loans represented $2.1 billion of this portfolio and the majority of this exposure is in Arizona, which is being particularly hard hit by rapidly falling housing prices. Overall, NPLs to gross loans and leases remains elevated at 3.62%, sharply higher than 2.70% at the end of the third quarter. Meanwhile, Q4 2008 NCOs were very high at 5.38% of average loans.

Historically, M&I has relied heavily on wholesale funding and this reliance has only increased over the past year. In Q4 2008, average bank-issued deposits declined 4% on an acquisition-adjusted basis. DBRS will monitor this negative trend closely and would view any core deposit growth favorably.

Positively, M&I was able to grow net interest income through net interest margin (NIM) improvement. On a linked quarter basis, NIM expanded 12 basis points. However, DBRS expects NIM to come under pressure from the low interest rate environment and continuing intense competition for deposits. To protect capital, the Company reduced its dividend to $0.01 per share, which DBRS views favorably.

The Company also announced several expense initiatives that are expected to save approximately $100 million pre-tax annually. The expense reductions will be achieved through workforce reductions, of which 80% have already been achieved, and other expense cuts. Associated with the workforce reductions, M&I incurred a $9 million pre-tax charge related to severance costs during the quarter.

DBRS notes that significant additional credit charges of the scale to materially impact earnings and invade capital could result in future negative rating actions. Conversely, the absence of significant future credit costs could likely result in the restoration of the trend to Stable.

Note:
All figures are in U.S. dollars unless otherwise noted.

The applicable methodology is Rating Banks and Bank Holding Companies Operating in the United States, which can be found on our website under Methodologies.

This is a Corporate (Financial Institutions) rating.