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We have maintained our ‘Neutral’ recommendation on Zions Bancorp. (ZION - Analyst Report), reflecting no dilution in shareholders value following the repayment of Troubled Asset Relief Program (TARP) money. However, we remain concerned about the prevailing low interest rate environment, sluggish economic growth, the company’s asset sensitive balance sheet, losses related to CDO exposure and regulatory pressures.

In September 2012, Zions finally redeemed the remaining 50% ($700 million) of its TARP preferred equity. Earlier in March, the company had redeemed 50% of the preferred equity. Similarly, in March, another major regional bank, Regions Financial Corp. (RF - Analyst Report) repaid $3.5 billion of TARP dues. The full repayment of $1.4 billion of TARP dues relieve Zions of a huge financial obligation and will enable it to enhance its capital ratios as well as stabilize its balance sheet.

Further, improving credit quality continues to be a major strength for Zions. Management expects continuous improvement in credit trends in the subsequent quarters due to a continuous reduction in non-accrual loans, which is expected to push down net charge-offs and the provision for loan losses. Also, the company anticipates credit costs to continue to decline going forward, resulting from reductions in loan balances in categories that have exhibited higher loss rates.

In addition, acquisitions have played a major role in Zions’ growth story. Over the last several years, the company has acquired nearly 30 banks and thrifts, along with a handful of insurance brokers and other financial service businesses. We believe that the company would not be averse to inorganic growth once its near-term concerns are eliminated.

On the flip side, we anticipate continuous deposit pricing pressures, sluggish loan demand and low interest rate environment along with growth in higher-cost funding accounts to weigh on Zions’ net interest margin (NIM). Though management expects NIM to benefit from modest loan growth, the maturity and repricing schedule of the loans and the continued conversions of debt into preferred equity will keep NIM under pressure over the next several quarters.

Further, modest core deposit growth could cause a negative mix shift. Despite marginal improvements in deposits in the first half of 2012, Zions expects deposit growth to continue to lag loan growth in the near term. Moreover, a portion of future loan growth might be funded from alternative higher-cost funding sources.

Zions currently retains a Zacks #3 Rank, which translates into a short-term Hold rating.
 

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