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Regions Financial Corporation’s (RF - Analyst Report) second-quarter 2013 earnings from continuing operations came in at 21 cents per share, in line with the Zacks Consensus Estimate. However, results compared unfavorably with the prior-quarter earnings of 23 cents per share.

In the reported quarter, Regions’ capital actions undertaken enhanced the company’s financial performance by reducing funding costs and providing higher returns to shareholders through an increase in common stock dividends (up 200%) and repurchase of common shares.

However, some of these actions reduced pre-tax net income to common shareholders by $56 million and earnings per share by 3 cents in second-quarter 2013.

Net income available to common shareholders was $259 million or 18 cents per share, down from $327 million or 23 cents per share reported in the prior quarter.

Performance in Detail

Total revenue (net of interest expense) came in at $1.3 billion, in line with the Zacks Consensus Estimate. However, revenues increased modestly on a sequential basis.

Regions reported adjusted pre-tax pre-provision income from continuing operations of $421 million, down 7.9% sequentially.  Excluding $56.0 million in costs related to the early termination of certain debt and preferred securities coupled with securities gains, pre-tax pre-provision income surged 6% sequentially.

Net interest margin rose 3 basis points sequentially to 3.16% in the quarter, attributed to lower deposit costs and reduced cash holdings at the Federal Reserve. Funding mix showed an improvement as average low-cost deposits inched up as a percentage of total deposits from 86% in the prior quarter to 88%.

Taxable equivalent net interest income was $821 million, up 1.0% sequentially. The rise was mainly attributed to growth in loans, an additional day count along with the persistent decline in deposit costs.

On the flip side, Regions’ non-interest income was $497 million, down 1% sequentially. Non-interest income included $8 million in securities gains. Reduced service charges income and mortgage revenues led to the fall in non-interest income. In the quarter under review, mortgage production stood at about $1.9 billion, up 6% sequentially.

Non-interest expense increased 5% sequentially to $884 million. Excluding $56 million in costs associated with capital plan actions, non-interest expense declined 2%. Better expense management partially mitigated the increase in salaries and benefits expenses.

Credit Quality

Credit quality was a mixed bag during the second quarter at Regions. Non-performing assets reduced 5% sequentially to $1.7 billion. Net charge-offs decreased 20% sequentially to $144 million. Additionally, net charge-offs as a percentage of average net loans stood at 0.77%, down 22 basis points sequentially.

However, inflow of non-performing loans surged 18% sequentially to $328 million. Moreover, provision for loan losses more than doubled to $31 million as compared with the prior quarter.

Capital Position

Regions’ capital position was strong at the end of the quarter. As of Jun 30, 2013, Regions’ Tier 1 capital ratio came in at 11.7% compared with 12.3% in the prior quarter.

Tier 1 common capital ratio was 11.2%, in line with the prior quarter. The company’s loan-to-deposit ratio was 81.0% as of the same date, up from 79% in the prior quarter. Tangible common book value per share came in at $7.11 in the reported quarter compared with $7.29 in the prior quarter.

Our Viewpoint

We believe the company’s favorable funding mix, improved core business performance, its expansion mode and strategies will continue to yield profitable earnings in the upcoming quarters. Additionally, significant improvement in its credit quality and control in non-interest expenses would act as positive catalysts.

Moreover, replacement of higher cost liabilities by lower cost liabilities is expected to reduce funding costs further, thereby enhancing overall profitability. Yet, regulatory issues and reducing fee income remain major areas of concern.

Regions currently carries a Zacks Rank #2 (Buy). Besides Regions, other banks in Southeast that are currently performing well include Capital City Bank Group Inc. (CCBG - Snapshot Report), Home Bancshares, Inc. (Conway, AR) (HOMB - Snapshot Report) and WesBanco Inc. (WSBC - Snapshot Report). All the 3 companies carry a Zacks Rank #1 (Strong Buy).

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