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E*TRADE Financial Corporation (ETFC - Analyst Report) reported fourth-quarter 2013 net income of 20 cents per share, in line with the Zacks Consensus Estimate. However, results improved significantly from a net loss of 65 cents per share in the prior-year quarter.

Rise in total daily average revenue trades (DARTs) along with reduced delinquencies 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, mounting operating expenses and reduced revenues were the headwinds.

E*TRADE reported net income of $58 million compared with the prior-year quarter’s net loss of $186 million.

For full-year 2013, net income was $204.1 million or 70 cents per share, improving from a net loss of $112.6 million or 39 cents per share in the prior year. Moreover, full-year earnings beat the Zacks Consensus Estimate by a penny. Notably, results exclude the impact related to exit of the market making business of $118.0 million or 41 cents per share.

Performance in Detail

Net revenue declined 4.4% year over year to $447.1 million in the quarter, attributed to lower non-interest income as well as reduced net operating interest income. However, the reported revenues outpaced the Zacks Consensus Estimate of $428.0 million.

For full-year 2013, total net revenue dropped 10.5% year over year to $1.7 billion, driven by a fall in net operating interest income and non-interest income. Yet, full year revenues were in line with the Zacks Consensus Estimate.

The DARTs for the reported quarter increased 25% year over year to 160,000. Moreover, DARTs for the full year were 151,000, up 9.4% year over year.

Net operating interest income decreased 1.2% year over year to $257.1 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 2.40%, up from 2.38% in the last-year quarter.

Non-interest income decreased 8.4% year over year to $190 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 $295.1 million in the quarter, which includes $5 million of restructuring charges. Excluding these charges, core operating expenses increased 3.1% year over year to $290.1 million from $281.4 million.

Net new brokerage assets reported were $3.2 billion, up from $2.3 billion in the prior-year quarter. At the end of the final quarter, E*TRADE reported 4.6 million customer accounts, including 3.0 million brokerage accounts, up from 4.5 million accounts in the prior-year quarter. Moreover, net new brokerage accounts of 22,217 were higher than 10,339 accounts in the prior-year quarter.

Credit Quality

Overall, credit quality improved during the quarter. Net charge-offs declined 77% sequentially to $23.2 million. Provision for loan losses decreased 77% to $17.3 million on a year-over-year basis. Allowance for loan losses decreased 6% year over year to $453.0 million.

Total special delinquencies (30 to 89 days delinquent) decreased 21% year over year to $271 million in E*TRADE’s entire loan portfolio. Total delinquencies (30 to 179 days delinquent) declined 25% year over year to $380 million.

Balance Sheet

E*TRADE reduced its balance-sheet risk further. The company’s loan portfolio was $8.6 billion at the end of the reported quarter, down 18.9% year over year.

The company’s total customer assets stood at $261 billion, up from $201 billion in the prior-year quarter. Total assets ended the quarter at $46.3 billion, down from $47.4 billion as of Dec 31, 2012.

Brokerage related cash increased 17% year over year to $39.7 billion during the reported quarter. Customers were net buyers of about $0.8 billion of securities, compared with $0.5 billion in the prior-year quarter.

The company commands a strong capital position. As of Dec 31, 2013, E*TRADE reported Tier 1 common ratio of 13.8% compared with 10.3% in the prior-year quarter. Total risk-based capital ratio was 17.4%, up from 13.7% in the prior-year quarter. Tier 1 leverage ratio was 6.7%, up from 5.5% in the year-ago quarter.

Competitive Landscape

Among other investment brokers, Charles Schwab Corporation (SCHW - Analyst Report) and TD Ameritrade Holding Corporation’s (AMTD - Analyst Report) December quarter ended with an earnings beat, while results at Interactive Brokers Group, Inc. (IBKR - Analyst Report) lagged the Zacks Consensus Estimate.

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, E*TRADE’s decision to focus on core operations and exit the market making business during the year is expected to improve profitability further.

However, increase in expenses reflects the company’s undisciplined expense management. Additionally, amid a challenging economy, a declining top line and market volatility remain looming concerns. E*TRADE currently carries a Zacks Rank #2 (Buy).

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