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Bank of America Corporation (BAC - Analyst Report) has delivered a positive earnings surprise of about 28% for the second quarter. The banking behemoth reported earnings per share of 32 cents, beating the Zacks Consensus Estimate of 25 cents. This also compares favorably with the earnings of 19 cents in the prior-year quarter.

Our proven model predicted that BofA will beat earnings as it had the right combination of two key ingredients – the earnings ESP (Read: Zacks Earnings ESP: A Better Method) of +4.00% and Zacks Rank #3 (Hold).

Results for the reported quarter were aided by a reduction in noninterest expenses and a slowdown in the provision for credit losses. Though top line showed a year-over-year improvement, it was not a major contributing factor this quarter. The improvement was partially offset by the absence of year-ago gains related to liability management actions and lower mortgage banking income.  

The quarter witnessed improved credit quality across major portfolios, higher brokerage income, improved equity investment income and a compelling investment banking performance, thanks to better capital market activities. BofA maintained its #2 rank in Global Investment Banking fees. Yet, loss in Consumer Real Estate Services increased over the year-ago quarter.

The company significantly strengthened its balance sheet as reflected by improved capital ratios. Strong time-to-required funding and reduced long-term debt were also among the positives.

Quarter in Detail

Fully taxable-equivalent revenues (net of interest expense) were $22.9 billion, up 3% from $22.2 billion in the prior-year quarter. However, revenues were in line with the Zacks Consensus Estimate.

Net interest income on a fully taxable-equivalent basis was $10.8 billion, up 10% from $9.8 billion in the year-ago quarter. Reduced premium amortization and hedge ineffectiveness, reductions in long-term debt balances, lower rates paid on deposits and higher commercial loan balances were primarily responsible for the increase, which was partially offset by a reduction on consumer loan balances as well as lower asset yields. Net interest yield improved to 2.44% from 2.21% in the year-ago quarter.

Noninterest income came in at $12.2 billion, down 2% from $12.4 billion in the prior-year quarter. The deterioration stemmed from a decline in other income, which more than offset higher in investment banking fees, equity investment income and investment and brokerage income.  

Noninterest expense was $16.0 billion, down 6% from $17.0 billion in the year-ago quarter. Lower litigation expense, lesser expenses in Legacy Assets and Servicing (LAS) and reduction in personnel expense through the Project New BAC initiatives were the main contributors to the reduction.

Book value per share as of Jun 30, 2013 was $20.18 compared with $20.19 as of Mar 31, 2013 and $20.16 as of Jun 30, 2012. Tangible book value per share as of Jun 30, 2013 was $13.32 compared with $13.36 at the end of the prior quarter and $13.22 at the end of the year-ago quarter.

Credit Quality

Supported by the ongoing economic recovery, credit quality continued to improve during the quarter with net charge-offs declining across almost all major portfolios from the prior-year quarter. Provision for credit losses decreased 29% sequentially and 32% year over year to $1.2 billion.

As of Jun 30, 2013, nonperforming loans, leases and foreclosed properties ratio was 2.33%, down 20 basis points (bps) sequentially and 54 bps year over year. Net charge-off ratio decreased 20 bps sequentially and 70 bps year over year to 0.94%.

Capital Ratios

At the end of the reported quarter, the company’s Tier 1 common capital ratio including Market Risk Final Rule was 10.83% compared with 10.49% at the end of the prior quarter. Tangible common equity ratio was 6.98% compared with 6.88% at the end of the prior quarter and 6.83% at the end of the prior-year quarter.

Competitive Landscape

Among other banking giants, JPMorgan Chase & Co. (JPM - Analyst Report), Wells Fargo & Company (WFC - Analyst Report) and The Goldman Sachs Group Inc. (GS - Analyst Report) have already reported better-than-expected second quarter results and upheld the banking image.

Banks have been reporting strong results, primarily on the back of favorable macroeconomic elements. Top-line growth and lower provision are the primary result drivers for banks this time around.

Our Viewpoint

BofA’s progress in strengthening its balance sheet and liquidity is reflected through improved capital ratios. Nevertheless, we expect continuous litigations and various regulatory issues to impact its results in the near to medium term.

Overall, the company has recovered significantly over the last few quarters, as evident from the approval of its latest capital plan. In addition to realigning its balance sheet in accordance with regulatory changes, the company has taken measures to contain cost. These efforts vouch for better prospects going forward.

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