PNC to buy ailing National City for $5.6 billion

By Dan Wilchins and Joseph A. Giannone

NEW YORK (Reuters) - PNC Financial Services Group Inc (PNC.N) agreed to buy ailing National City Corp NCC.N in a government-supported $5.6 billion deal to rescue the large Ohio lender and create the No. 5 U.S. bank by deposits.

The transaction doubles PNC's size and will provide it with a bigger branch network and a much larger base of deposits, which can provide cheap funding and increased financial stability.

The deal is the first since government officials signaled earlier this week that they would approve of banks using parts of a $250 billion U.S. Treasury Department capital infusion to acquire weaker rivals.

PNC expects some $20 billion of writedowns from National City's loans, losses that dwarf the accounting value of the entire Cleveland-based bank. National City said earlier this week the company was recently worth $17.2 billion, based on shareholder equity on its balance sheet.

"That's why you've been seeing financial institutions get pounded this year, because no one knows what their assets are worth," said Steve Persky, chief executive of Dalton Investments in Los Angeles.

National City aggressively invested in its mortgage business beginning in the 1990s, a bet that paid off earlier this decade, but turned out to be perilous as the U.S. housing market cratered.

The company sold off its First Franklin Financial Corp subprime mortgage lending business in late 2006, but held on to billions of dollars of subprime mortgages. It was also too slow in shedding other bad mortgage assets.

National City also bought one Florida bank in 2006 and another in early 2007, just before that state's real estate market headed south.

"They had way too many mortgage loans on their books and they wanted to unwind them, but it was such a big chunk of their balance sheet they couldn't do it in time," said Bill Fitzpatrick, an equity research analyst at Optique Capital Management in Milwaukee.

National City would join Bear Stearns Cos, Merrill Lynch, Sovereign Bancorp Inc SOV.N, Wachovia Corp WB.N and Washington Mutual Inc (WAMUQ.PK) among U.S. financial companies that have been or are being swallowed up by lenders considered healthier.

GOVERNMENT MONEY

PNC said its offer valued National City at $2.23 a share, roughly 19 percent below Thursday's closing price. It will pay 0.0392 share for each National City share plus $384 million in cash to certain warrant holders.

In tandem with this deal, Pittsburgh-based PNC plans to sell $7.7 billion of preferred shares and warrants to the U.S. Treasury under the Troubled Assets Relief Program, making it the first regional bank to participate in the program.

The government said last week it was injecting $125 billion into nine large U.S. banks and planned to give another $125 billion to other banks.

A senior government regulatory official said on Monday that merger opportunities will be among the factors Treasury will consider in deciding which banks get government investments.