Ill-Fated 2012 Branch Deal Still Haunts First Niagara

First Niagara Financial Group in Buffalo, N.Y., continues to be haunted by its 2012 purchase of more than 100 HSBC branches.

Unfortunately, the $38 billion-asset company is dealing with more problems than that ill-fated deal. In the aggregate, these issues led management to record a whopping $800 million goodwill impairment charge for the third quarter.

Fortunately for the rest of the banking industry, First Niagara's litany of woes appears to be the result of the company's growth strategy, despite management's attempt to blame broader macroeconomic factors — a slow economy and negative long-term interest rate outlook — for the oversized writedown. Those factors reduced the value of assets First Niagara obtained from past acquisitions, the company said.

The challenge for analysts was determining which factors were specific to First Niagara and which ones were potential landmines for other banks.

Ambiguity during the company's Friday conference call is making it difficult to determine the ultimate source of trouble, said Daniel Marchon, an analyst at Raymond James. It will be hard to fully assess the situation until First Niagara releases more details, he said.

"It goes back to the lack of clarity," Marchon said. "I can't even point to whether these issues are old or new. We don't know if they were things that had been going on for a while and they fell through the cracks, or if these are things that happened more recently."

Recent changes in upper management further cloud the situation. First Niagara's former chief executive, John Koelmel, was ousted in March 2013. His successor, Gary Crosby, was promoted from interim to permanent CEO in December.

The writedown was one of several hiccups during the quarter. First Niagara also recorded a $45 million reserve to correct a problem with a process issue tied to customer deposit accounts. It also had a $2 million charge to compensate customers affected by the Home Depot cyberattack.

"I'm disappointed that we must take these two charges," Crosby said during the conference call, referring to the goodwill impairment and customer deposit charges.

Nonperforming assets spiked 10% from a year earlier, and service charges tied to deposit accounts fell 25% for reasons that were largely unexplained by management.

First Niagara's news did not please investors. Its shares fell 12%, to $7.46 in afternoon trading, on volume of nearly 20 million shares, higher than its three-month daily average of 2.8 million shares.

HSBC can't be blamed as the sole scapegoat for First Niagara's woes, but it is a good place to begin the conversation, said Joseph Fenech, an analyst at Hovde Group.

When First Niagara announced its agreement to buy 195 branches from HSBC in 2011, the company planned to fund much of the purchase through an appreciation of its stock price, Fenech said.

A debate between congressional Republicans and President Obama over the federal debt ceiling pressured stocks downward soon after the deal was announced. First Niagara's stock has not recovered since. Consider that the KBW Bank Index has climbed 50% from July 29, 2011, to Oct. 23, 2014. In the same period, First Niagara's stock has dropped 31%.

Lacking a strong stock price, First Niagara was forced to cut its dividend and sell common stock, perpetual noncumulative preferred shares and subordinated notes to help fund the HSBC purchase.

Combined with continued low-interest rates, First Niagara was forced to record the goodwill impairment, Greg Norwood, the company's chief financial officer, said in an interview. "Given our acquisition timing, the macroeconomic environment that was anticipated has yet to come to fruition," he said.

Though First Niagara is largely blaming macroeconomic issues, it's unlikely other banks will be forced to record large goodwill impairments, even if they were active acquirers, Fenech said. That's largely because First Niagara's stock has performed poorly at the same time that it was growing rapidly.

"The issues here are different for First Niagara than for other banks," Fenech said. "Their stock held up well through the early part of the financial crisis, but then it started to not do well after the HSBC deal."

The goodwill impairment is noncash and will not affect First Niagara's capital or tangible equity ratios, Norwood said. Still, the company will need regulatory approval for the foreseeable future to pay dividends. The charge also led First Niagara to report a third-quarter loss of $665 million, or $1.90 a share.

Other issues are harder to explain, industry observers said. Management gave little insight into the issues surrounding the reserve for deposit account problems, though Norwood said the issue does not involve fraud. Management is relying on internal and external resources to research the situation, he said.

That issue may be tied to the fact that First Niagara grew so fast, but did not maintain adequate spending levels to keep pace with needed technology and compliance upgrades, Fenech said.

The myriad issues announced Friday are not necessarily related. The $2 million charge tied to Home Depot's cyberattack, for example, is unrelated to the $45 million reserve for process issues on customer deposit accounts, Norwood said.

As if all of those issues weren't enough for First Niagara, the company also had to deal with the recent, unexpected death of a key director. James Boldt, a former CEO of Computer Task Group in Buffalo, died on Oct. 13 of undisclosed causes. Boldt had chaired a subcommittee with oversight of First Niagara's ongoing technology initiative. Austin Adams, former chief information officer at JPMorgan Chase, was tapped to succeed Boldt to chair that subcommittee.