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E*TRADE Financial Corporation (ETFC - Analyst Report) reported third-quarter 2013 net income of 16 cents per share, in line with the Zacks Consensus Estimate. However, results improved significantly from a net loss of 10 cents per share in the prior-year quarter.

Reduced operating expenses with a rise in total daily average revenue trades (DARTs) were the positives for the quarter. In addition, increase in customer assets, reduced provision for loan losses and a strong capital position added fuel to the fire. However, volatile global markets and reduced revenues were the headwinds.

E*TRADE reported net income of $47 million as compared with the prior-year quarter’s net loss of $29 million.

Notably, concurrent with the earnings release, E*TRADE announced the divestiture of its market making business, G1 Execution Services, to an affiliate of Susquehanna International Group, LLP for $75 million. The deal, which is anticipated to close in 3 to 6 months, awaits certain regulatory approvals and other customary closing conditions.

Moreover, E*TRADE will enter into an order flow arrangement under which the company, subject to the best execution standards, will route 70% of its customer equity order flow to G1 Execution Services over the next 5 years.

Performance in Detail

Net revenue declined 14.9% year over year to $416.8 million in the quarter, attributed to lower non-interest income as well as reduced net operating interest income. Moreover, the reported revenues lagged the Zacks Consensus Estimate of $418 million.

The DARTs for the reported quarter increased 13% year over year to 145,000.

Net new brokerage assets reported were $2.4 billion, up from $1.9 billion in the prior-year quarter. At the end of the quarter, E*TRADE reported 4.6 million customer accounts, including 3.0 million brokerage accounts. However, net new brokerage accounts of 13,111 were lower than 18,247 accounts in the prior-year quarter.

Net operating interest income decreased 7.7% year over year to $240.8 million in the quarter under review. The decline was due to lower interest income, partially offset by decreased interest expenses. However, net interest spread in the quarter was 2.30%, up from 2.28% in the last-year quarter.

Non-interest income decreased 23.2% year over year to $176 million. The fall was primarily due to lower net gains on loans and securities, partially offset by increased fees and service charges along with elevated commissions.

Total operating expenses were $270.7 million in the quarter, which includes $6 million of restructuring charges. Excluding these charges, core operating expenses declined 7.8% year over year to $264.3 million from $286.6 million.

Credit Quality

Overall, credit quality was a mixed bag during the quarter. Net charge-offs declined 42% sequentially to $29 million. Provision for loan losses decreased 18.9% to $37.4 million on a sequential basis. Yet, allowance for loan losses inched up 1.8% sequentially to $459 million.

Balance Sheet

E*TRADE reduced its balance-sheet risk further. The company’s loan portfolio was $9.0 billion at the end of the reported quarter, down 21% year over year.

The company’s total customer assets stood at $241 billion, up from $204 billion in the prior-year quarter. Total assets ended the quarter at $45.5 billion, down from $47.4 billion as of Dec 31, 2012.

The company commands a strong capital position. As of Sep 30, 2013, E*TRADE reported Tier 1 common ratio of 12.9% compared with 10.9% in the prior-year quarter. Total risk-based capital ratio was 16.6%, up from 14.3% in the prior-year quarter. Tier 1 leverage ratio was 6.6%, up from 5.8% in the year-ago quarter.

Competitive Landscape

Among other investment brokers, Charles Schwab Corporation’s (SCHW - Analyst Report) third-quarter 2013 earnings beat the Zacks Consensus Estimate, while results at Interactive Brokers Group, Inc. (IBKR - Analyst Report) came in line with the Zacks Consensus Estimate. Further, TD Ameritrade Holding Corporation (AMTD - Analyst Report) is scheduled to report its fiscal fourth-quarter 2013 (ended Sep 30, 2013) on Oct 29.

In Conclusion

E*TRADE’s initiatives to reduce balance sheet risk appear to be promising, although, it will put near-term pressure on the net interest margin. The company’s strong capital position, increase in customer assets and improvement in DARTs are impressive.

Moreover, decrease in expenses reflects the company’s successful cost reduction initiatives. Further, E*TRADE’s decision to focus on core operations and exit the market making business is expected to improve profitability.

Yet, amid a challenging economy, a declining top line and market volatility remain looming concerns. E*TRADE currently carries a Zacks Rank #1 (Strong Buy).

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