KeyBank 2008 Annual Report Download - page 22

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MANAGEMENT’S DISCUSSION & ANALYSIS OF FINANCIAL CONDITION & RESULTS OF OPERATIONS KEYCORP AND SUBSIDIARIES
are provided through a 14-state branch network organized into four
geographic regions defined by management: Northwest, Rocky Mountains,
Great Lakes and Northeast. Key’s National Banking group includes
those corporate and consumer business units that operate nationally,
within and beyond our 14-state branch network, as well as internationally.
The specific products and services offered by the Community and National
Banking groups are described in Note 4.
Figure 1 shows the geographic diversity of the Community Banking
group’s average core deposits, commercial loans and home equity loans.
Year ended December 31, 2008 Geographic Region
Rocky
dollars in millions Northwest Mountains Great Lakes Northeast Nonregion
(a)
Total
Average core deposits $9,765 $3,505 $14,111 $13,134 $1,592 $42,107
Percent of total 23.2% 8.3% 33.5% 31.2% 3.8% 100.0%
Average commercial loans $4,322 $2,054 $4,837 $3,237 $1,385 $15,835
Percent of total 27.3% 13.0% 30.5% 20.4% 8.8% 100.0%
Average home equity loans $2,827 $1,342 $2,912 $2,637 $128 $9,846
Percent of total 28.7% 13.6% 29.6% 26.8% 1.3% 100.0%
(a)
Represents coredeposit, commercial loan and home equity loan products centrally managed outside of the four Community Banking regions.
FIGURE 1. COMMUNITY BANKING GEOGRAPHIC DIVERSITY
Figure 18 on page 42 shows the diversity of Key’s commercial real estate
lending business based on industrytype and location. The homebuilder
loan portfolio within the National Banking group has been adversely
affected by the downturn in the U.S. housing market. The deteriorating
market conditions in the residential properties segment of Key’s commercial
real estate construction portfolio, principally in Florida and southern
California, have caused Key to experience a significant increase in the levels
of nonperforming assets and net charge-offs since mid-2007. Management
has taken aggressive steps to reduce Key’s exposure in this segment of the
loan portfolio. As previously reported, during the fourth quarter of
2007, Key announced its decision to cease conducting business with
nonrelationship homebuilders outside of its 14-state Community Banking
footprint. During the second quarter of 2008, Key initiated a process to
further reduce exposure through the sale of certain loans. As a result
of these actions, Key has reduced the outstanding balances in the
residential properties segment of the commercial real estate loan portfolio
by $1.264 billion, or 36%, over the past twelve months. Additional
information about the loan sales is included in the “Credit risk
management” section, which begins on page 60.
Results for the National Banking group have also been affected adversely
by increasing credit costs and volatility in the capital markets, leading to
declines in the market values at which Key records certain assets (primarily
commercial real estate loans and securities held for sale or trading).
During 2008, Key and others in the banking industry continued to
experience commercial and industrial loan growth, due in part to
increased reliance by borrowers on commercial lines of credit in response
to the challenging economic environment.
Critical accounting policies and estimates
Key’sbusiness is dynamic and complex. Consequently,management must
exercise judgment in choosing and applying accounting policies and
methodologies. These choices arecritical; not only arethey necessary to
comply with U.S. generally accepted accounting principles (“GAAP”),
they also reflect management’sview of the appropriate way to record and
report Key’s overall financial performance. All accounting policies are
important, and all policies described in Note 1 (“Summary of Significant
Accounting Policies”), which begins on page 77, should be reviewed for
agreater understanding of how Key’s financial performance is recorded
and reported.
In management’sopinion, some accounting policies aremorelikely
than others to have a significant effect on Key’s financial results and to
expose those results to potentially greater volatility. These policies apply
to areas of relatively greater business importance, or require management
to exercise judgment and to make assumptions and estimates that affect
amounts reported in the financial statements. Because these assumptions
and estimates arebased on current circumstances, they may change
over time or prove to be inaccurate.
Management relies heavily on the use of judgment, assumptions and
estimates to make a number of coredecisions, including accounting for
the allowance for loan losses; loan securitizations; contingent liabilities,
guarantees and income taxes; derivatives and related hedging activities;
and assets and liabilities that involve valuation methodologies. A brief
discussion of each of these areas follows.
Allowance for loan losses. The loan portfolio is the largest category of
assets on Key’s balance sheet. Management considers a variety of data
to determine probable losses inherent in the loan portfolio and to
establish an allowance that is sufficient to absorb those losses. For
example, management applies historical loss rates to existing loans
with similar risk characteristics and exercises judgment to assess the
impact of factors such as changes in economic conditions, lending
policies, underwriting standards, and the level of credit risk associated
with specific industries and markets. Other considerations include
expected cash flows and estimated collateral values.