SunTrust's Beats on Revenue Growth

SunTrust Banks Inc.’s ( STI - Analyst Report ) second-quarter 2012 earnings came in at 50 cents per share, surpassing the Zacks Consensus Estimate of 44 cents. This compares favorably with the earnings of 33 cents in the year-ago quarter.

Better-than-expected earnings were primarily driven by improved top line, partially offset by escalating operating expenses. Enhanced credit quality and strong capital ratios were also quite impressive.

SunTrust’s net income came in at $270 million compared with $174 million in the prior-year quarter.

Quarter in Detail

SunTrust’s total revenue was recorded at $2.25 billion, up 2.2% year over year. Total revenue also exceeded the Zacks Consensus Estimate of $2.17 billion by 3.7%.

Net interest income (NII) inched up 1.6% from the prior-year quarter to $1.31 billion. The increase was driven by higher loan balances, positive changes in deposit mix and reduced rates on long-term debt as well as interest bearing deposits, partly mitigated by declining yields on average earning assets.

Net interest margin came down 14 basis points (bps) from the year-ago quarter to 3.39%. The fall was attributable to reduced loan yields, which were partially offset by a decline in interest bearing liabilities and lower rates on long-term debts.

Non-interest income was $940 million, up 3.1% from the prior-year quarter. The year-over-year improvement was primarily attributable to increased mortgage-related revenue and trading income, which were partially mitigated by lower securities gains along with reduced investment banking income and card fees.

Non-interest expense grew 0.3% to $1.55 billion on a year-over-year basis. The marginal increase was led by higher personnel costs as well as expenses pertaining to redemption of trust preferred securities, partly offset by lower Federal Deposit Insurance Corporation (FDIC) premiums, credit costs and marketing expenditures.

SunTrust’s efficiency ratio improved to 68.83% from 70.17% in the prior-year quarter. The decline in efficiency ratio indicates an increase in profitability

Credit Quality

Credit quality continued to improve during the quarter. Provision for credit losses declined 23.5% year over year to $300 million.

Nonperforming loans dropped 117 bps year over year to 1.97% of total loans. Likewise, net charge-offs fell 62 bps from the year-ago quarter to 1.14% of annualized average loans.

Capital Ratios

SunTrust’s capital ratios witnessed mixed movement during the quarter. While tangible equity to tangible asset ratio improved 24 bps year over year to 8.31% and tier 1 common ratio increased 18 bps to 9.40%, Tier 1 capital ratio was down 96 bps from the prior-year quarter to 10.15%.

The decline was attributable to redemption of trust preferred securities worth $38 million. However, the capital ratios remained well above the current regulatory requirements as well as the proposed Basel III level.

Performance of Peers

State Street Corporation’s ( STT - Analyst Report ) second-quarter 2012 operating earnings marginally surpassed the Zacks Consensus Estimate. The sequential improvement came on the back of enhanced net interest revenue and reduced operating expenses. The capital ratios of the company also remained strong in the quarter. However, lower fee revenue was the headwind.

Moreover, another peer KeyCorp's ( KEY - Analyst Report ) second-quarter 2012 net income from continuing operations beat the Zacks Consensus Estimate. Stable non-interest income, continued improvement in credit quality and robust capital ratios were the primary highlights for the quarter. However, dwindling net interest income and escalating operating expenses slightly subdued the results.

Conclusion

Better average client deposits, robust credit quality and favorable deposit mix are amongst SunTrust’s key strengths. Moreover, its recent acquisitions and cost-cutting programs are quite encouraging despite the persistent low interest rate environment and industry challenges.

However, in spite of SunTrust’s stable capital position, it failed the stress test and missed the opportunity to deploy additional capital to its shareholders. The company decided not to indulge in any further capital deployment activities, as per its resubmission plan to the Comprehensive Capital Assessment Review (CCAR) process. It aims to build a stronger capital base to withstand any economic downturns.

SunTrust currently retains a Zacks #3 Rank, which translates into a short-term Hold rating. Considering the fundamentals, we also maintain a long-term Neutral recommendation on the shares.