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Fifth Third Bancorp’s (FITB - Analyst Report) fourth-quarter adjusted earnings per share of 45 cents beat the Zacks Consensus Estimate of 42 cents. The results also came in ahead of the year-ago earnings of 33 cents.

Including an 11 cents gain on the sale of Vantiv Inc. (VNTV - Snapshot Report) shares, debt extinguishment costs of 9 cents related to the termination of FHLB (Federal Home Loan Bank) debt, negative adjustment on the valuation of Vantiv warrants of a penny, additional charges of 2 cents associated with an increase in reserve for mortgage repurchase claims as well as charges associated with the valuation of Visa Inc.’s (V - Analyst Report) total return swap of a cent, the company reported net income of $390 million or 43 cents per share in the reported quarter. In the year-ago quarter, net income was reported at $305 million or 33 cents.
For full year 2012, net income available to common shareholders came in at $1.5 billion or $1.66 per share. This surpassed the Zacks Consensus Estimate of $1.63 per share and were also up by 41% compared with the prior-year earnings of $1.1 billion, or $1.18 per share.
Better-than-expected results reflected improved top line supported by increased non-interest income. Moreover, enhanced credit quality was a positive. However, a decline in the net interest income is a concern.
Total revenue for the quarter came in at $1.78 billion, substantially higher than the Zacks Consensus Estimate of $1.64 billion. Moreover, revenue climbed 21% year over year.  For full year 2012, total revenue was $6.6 billion, which compared favorably with the Zacks Consensus Estimate of $6.3 billion. Further, it increased 10% from 2011.
Quarter in Detail
Fifth Third’s net interest income came in at $903 million, down 2% year over year. The decline was due to lower asset yields, partially mitigated by higher average loan balances, run-off in higher-priced certificate of deposits  along with mix shift to lower cost deposit products. Net interest margin came in at 3.49%, down 18 basis points (bps) from the year-ago period.
Excluding loans held-for-sale, average loan and lease balances increased 5% year over year to $83.9 billion. Average core deposits climbed up 5% year over year to $84.3 billion.
Fifth Third’s non-interest income grew substantially by 60% year over year to $880 million. The increase was largely attributable to higher mortgage banking and corporate banking revenues along with a $157 million gain related to the sale of Vantiv shares.
However, the company’s non-interest expenses escalated 17% from the year-ago quarter to $1.2 billion. Expenses included $134 million of debt extinguishment costs related to the termination of FHLB debt, $26 million of additional expenses due to the increase in the representation and warranty reserve and $13 million in charges associated with increased litigation reserves.
In the year-ago quarter, expenses included $10 million charges due to increased litigation reserves, primarily associated with bankcard association membership. Excluding these items, non-interest expenses advanced 1% from the prior-year period due to higher compensation costs.  
Credit Quality
Fifth Third’s credit metrics improved in the reported quarter. Net charge-offs were $147 million or 70 bps of average loans and leases compared with $156 million or 75 bps recorded in the prior quarter and $239 million or 119 bps in the prior-year quarter. This marked the lowest level since the third quarter of 2007.
Provision for loans and leases increased 17% sequentially and 38% year over year to $ million. Total nonperforming assets, including loans held-for-sale, were $1.3 billion or 1.49% of total loans, leases and other real estate owned (OREO). It fell 12% from the prior quarter and 33% from the prior-year quarter.
Capital Position
Fifth Third’s capital ratios were a mixed bag. The Tier 1 common equity ratio increased 16 bps year over year to 9.51%. The tangible common equity to tangible assets ratio was 8.83% (excluding unrealized gains/losses) and 9.10% (including unrealized gains/losses) compared with 8.68% and 9.04%, respectively, in the prior year quarter.
However, the Tier 1 capital ratio declined 126 bps year over year to 10.65%. The Leverage ratio decreased 105 bps to 10.05% and the total capital ratio declined 167 bps to 14.42% in the quarter.
Fifth Third posted an increase in both book value and tangible book value per share. As of Dec 31, 2012, book value per share was $15.10 and tangible book value per share was $12.33, up from $13.92 and $11.25, respectively, as of Dec 31, 2011. 
Capital Deployment Activity
Fifth Third entered into a share repurchase agreement with a counterparty on Nov 6, 2012, whereby it purchased around $125 million of its outstanding common stock. In the reported quarter, this transaction decreased Fifth Third’s share count by 7.7 million shares on the transaction date, which had a 4 million impact on average share count. Fifth Third anticipates the settlement of the contract to occur on or by Feb 7, 2013.
Additionally, Fifth Third entered into another share repurchase agreement with a counterparty on Dec 14, 2012, whereby Fifth Third purchased roughly $100 million of its outstanding common stock. For the reported quarter, this transaction reduced the company’s share count by 6.3 million shares on the initial transaction date, which had a 1 million impact on average share count. Fifth Third anticipates the settlement of the forward contract to occur on or by Mar 14, 2013. The company’s annual capital plan had a remaining $125 million in additional potential repurchases through Mar 31, 2013.
Our Take
Going forward, with a diversified traditional banking platform, Fifth Third remains well poised to benefit from a recovering economy along with its footprints. Its traditional commercial banking franchise, diverse revenue mix, improved credit quality and enhanced capital position serve as positive catalysts for the stock. Further, we believe that its capital deployment activities will boost shareholders’ confidence.
However, a low interest rate environment, regulatory issues as well as competitive pressures are the headwinds.
Fifth Third currently retains a Zacks Rank #2 (Buy).

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