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We are reaffirming our Neutral recommendation on Hudson City Bancorp (HCBK - Analyst Report), based on its fundamentals, current operating environment and the recent deal, under which M&T Bank Corp. (MTB - Analyst Report) will takeover Hudson City.

The company reported second quarter 2012 earnings of 15 cents per share, a penny ahead of the Zacks Consensus Estimate. However, results compared unfavorably with prior-year quarter’s earnings of 19 cents per share.

Hudson City’s results were aided by a decrease in expense as well as an expansion in fee income. Yet, net interest income moved down and the continuation of the low interest rate environment impacted its net interest margin.

Notably, in August, M&T agreed to takeover Hudson City in a cash and stock deal worth $3.7 billion, based on M&T’s closing stock price on August 24. As per the deal terms, each Hudson City share will get consideration valued at 0.08403 of an M&T share in the form of either M&T stock or cash. The transaction is likely to close in the second quarter of 2013.

Amidst a low interest rate environment and despite restructuring, Hudson City’s business model encountered challenges in its growth trajectory. Though it recently announced initiatives to diversify, it did not have adequate flexibility with respect to its balance sheet. Hence, this deal is a strategic fit for Hudson City.

The deal would combine Hudson City’s retail network with M&T’s full service commercial banking suite and help in expanding the premier community banking franchise in eastern U.S. and give M&T the fourth largest deposit share in New Jersey. Hence, the shareholders can benefit from this enhanced scale of business of the combined entity.

However, credit metrics at Hudson City have been a matter of concern over the last couple of years. Moreover, along with the pressure on net interest margin, the reduction in the size of its balance sheet from the restructuring transaction, would lead to a reduction of its net interest income.

Moreover, Hudson City currently retains its Zacks #3 Rank, which translates into a short-term Hold rating.

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