In taking $8.9 million of charges over the first two quarters of the year, Fulton Financial Corp. of Lancaster, Pa., had appeared to be moving past its nonprime mortgage troubles.
But the $15.4 billion-asset Fulton surprised analysts last week by taking its largest charge yet — $16 million — to send third-quarter profits plunging 31% from a year earlier, to $33.6 million. It fell well short of expectations.
Now analysts are predicting more charges this quarter.
Robert Hughes of KBW Inc.'s Keefe, Bruyette & Woods Inc. said that Fulton's management had an "unsettling" lack of clarity about the extent of the problems, and that it is "pretty clear" another charge is likely.
"I think it hurts management's credibility that the company has been so slow in getting its arms around this," he said.
The problems arose from the mortgage unit of Resource Bank in Virginia Beach, which Fulton acquired in April 2004. In the first two quarters Resource was forced to buy back tens of millions of dollars of loans it had sold in the secondary market, because borrowers failed to make a payment during the initial three months.
R. Scott Smith Jr., Fulton's chairman, president, and chief executive officer, said in a conference call Wednesday that the bulk of the third-quarter charges related to potential borrower misrepresentation. Fulton has identified $27 million of loans originated by Resource Mortgage in which borrowers may have provided false information.
Because of the problems, Mr. Smith said, Fulton would retain an outside consultant to review all loans originated by the mortgage unit. He said that he would update analysts once the review is completed.
Resource Mortgage's managers have been replaced, and the offices responsible for virtually all the potential losses have been closed or are being closed, he said.
Of the $16 million charge, $9.9 million will be set aside to cover the loans with potential borrower misrepresentation, $3.6 million will be used to write down the value of previously repurchased loans and foreclosed property, and $2.2 million will be used for additional requests from secondary market investors to buy back loans.
Frank Schiraldi of Sandler O'Neill & Partners LP was one of several analysts caught off guard by the magnitude of the latest charge.
"I think Wall Street expected for this to be more behind them than it is," Mr. Schiraldi said.
Matthew Schultheis, an analyst at Ferris, Baker Watts Inc., estimated that Fulton could take up to $10 million of further charges over the next two quarters. Still, he upgraded Fulton's stock to "buy," from "neutral," for investors with high risk tolerance.
The shares, which were trading at $12.41 Friday afternoon, had dropped 8% since the earnings announcement late Tuesday. They were down 26% for the year.
Gerard Cassidy, an analyst at Royal Bank of Canada's RBC Capital Markets, said that Fulton has been a conservative lender and might have been slow to understand the problems from Resource Mortgage's less conservative credit culture. "They bought what they thought was a can of caviar and it turned out to be a can of worms."
Mr. Cassidy also said he is not surprised that problems with possible misrepresentation emerged this quarter, after the early payment defaults in the first two quarters. "I think they go hand in hand. This sector of the housing market had a lot of bad people in it."
But even after the mortgage issues are resolved, he fears more trouble with credit quality could lie ahead, because of Fulton's exposure to construction loans.
Despite the problems at Resource Mortgage, Mr. Scott said that Fulton is looking for growth at Resource Bank, which he hopes to evolve from a nationwide mortgage lender into a stronger retail and small-business bank throughout Virginia. The bank, which is merging with its parent's flagship Fulton Bank, will open a branch this year and several more next year, he said.
