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Brazil’s Itau Unibanco Holding S.A. (ITUB - Analyst Report) reported second-quarter 2013 recurring earnings of R$3.6 billion ($1.74 billion), up 2.9% sequentially. Including non-recurring items, Itau Unibanco’s second-quarter 2013 net income came in at R$3.58 billion ($1.73 billion), marginally higher than the prior-quarter earnings of R$3.47 billion ($1.73 billion).

The sequential increase was primarily attributed to stable expenses for allowance of loan and lease losses and increased managerial financial margin with clients along with higher banking service fees and income from banking charges. However, decreased financial margin with market and elevated non-interest expenses were the headwinds.

Operating revenues of R$19.2 billion ($9.3 billion) at Itau Unibanco in the reported quarter surged 2.1% sequentially. Managerial financial margin jumped 0.9% sequentially to R$11.6 billion ($5.6 billion). Net interest margin with clients increased 30 basis points sequentially to 9.4% in the reported quarter.

Banking Service Fees and Income from Banking Charges moved up 5.9% sequentially to R$5.4 billion ($2.6 billion). Revenues from insurance, pension plans and capitalization operations increased 5.7% sequentially to R$1.4 billion ($0.7 billion).

Itau Unibanco’s non-interest expenses came in at R$8.6 billion ($4.2 billion), up 3.6% sequentially. Notably, the company experienced a 2.4% rise in personnel expenses and administrative expenses surged 6.9% from the prior quarter, primarily impacted by elevated marketing expenses and higher expenses with third-party services.

In the quarter under review, the efficiency ratio reached 49.1%, reflecting an increase of 110 basis points from the prior quarter. An increase in the efficiency ratio reflects a decline in profitability. However, expenses for provisions for loan and lease losses at Itau Unibanco decreased slightly on a sequential basis to R$4.9 billion ($2.4 billion).

The nonperforming loan ratio (loan transactions more than 90 days overdue) was 4.2% in the reported quarter, decreasing 30 basis points sequentially. Moreover, nonperforming loans declined 5.3% sequentially to R$16.0 billion ($7.7 billion).

Itau Unibanco’s credit portfolio, including endorsements and sureties, reached R$445.1 billion ($215.3 billion) as of Jun 30, 2013, inching up 2.5% from the prior quarter.

As of Jun 30, 2013, Itau Unibanco’s total assets amounted to R$1.06 trillion ($0.5 trillion), up 2.9% from the end of the prior quarter. Assets under administration stood at R$608.5 billion ($294.4 billion), up 4.6% sequentially.

Moreover, annualized recurring return on average equity increased to 19.3% in the reported quarter from 19.1% in the prior quarter. The Bank for International Settlements (BIS) capital ratio was 17.5%, down 20 basis points sequentially.

Outlook

For the year 2013, the company expects expenses for provision for loan losses to range from R$19 billion ($9.2 billion) – R$22 billion ($10.7 billion). Moreover, non-interest expenses are expected to increase in the range of 4% – 6%, with total credit portfolio in the range of 8% – 11%.

Further, banking service fees and revenue of insurance, pension plan and capitalization are expected to elevate in the range of 15% –18%.

In Conclusion

Itau Unibanco’s diversified product mix, increasing operating revenues and expanded credit portfolio are encouraging. Additionally, we believe that improving asset quality remains a positive catalyst for Itau Unibanco. However, increasing competition, elevated expenses and the stressed conditions in the Brazilian economy pose risks.

Itau Unibanco currently carries a Zacks Rank #3 (Hold). Some foreign banks that are worth considering include BBVA Banco Franc (BFR - Snapshot Report) and Sumitomo Mitsui Financial Group Inc. (SMFG - Snapshot Report) with a Zacks Rank #1 (Strong Buy) while Mitsubishi UFJ Financial Group, Inc. (MTU - Analyst Report) with a Zacks Rank #2 (Buy).

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