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Fifth Third Tops, Keeps Mood Upbeat

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Aided by gains on the valuation of warrant that it holds in Vantiv Inc.’s , Fifth Third Bancorp (FITB - Free Report) has posted improved earnings in the second quarter of 2012.

Fifth Third reported net income of $376 million or 40 cents per share in the reported quarter, compared with $328 million or 35 cents in the year-ago quarter. Excluding the gain on the valuation of the warrant Fifth Third holds in Vantiv, Fifth Third would have earned 36 cents per share in the reported quarter. This also came ahead of the Zacks Consensus Estimate of 35 cents.

Moreover, the company experienced a year over year increase in mortgage banking income. Also provisions for loan losses reported a decline.

Total revenue at Fifth Third was $1.58 billion in the second quarter, slightly above the Zacks Consensus Estimate of $1.54 billion. Revenue also increased 3% year over year reflecting increase in the net interest income and non-interest income.

Notably, U.S.-based Vantiv was formerly known as Fifth Third Processing Solutions (“FTPS”), a payment processing company. Fifth Third had spun-off FTPS in 2009 after which a joint venture was initiated between Advent International and Fifth Third Bank, a subsidiary of Fifth Third.

The company was named Vantiv in June 2011. Notably, Vantiv Inc. opted for an initial public offering of Class A shares on the company. The offering was completed in March 2012.

Quarter in Detail

Fifth Third’s net interest income came in at $899 million, up 3% year over year. The uptick was driven by higher average loan balances, run-off in higher-priced CDs and mix shift to lower cost deposit products, partially offset by lower asset yields. Net interest margin came in at 3.56%, down 6 basis points (bps) from the year ago period.

Excluding loans held-for-sale, average loan and lease balances inched up 1% sequentially and 6% year over year. Average core deposits were relatively stable, increasing slightly sequentially, and climbed up 5% year over year, as transaction deposit growth was partly offset by continued run-off of other time deposits.

Fifth Third’s non-interest income moved up 3% year over year to $678 million. Warrant gains in the reported quarter and increase in mortgage banking income contributed to the increase in non-interest income. Yet, the positives were partly dwarfed by the impact of debit interchange legislation on card and processing revenue. 

However, Fifth Third’s non-interest expenses advanced 4% from the year-ago quarter to $937 million. In the quarter under review, the company experienced a $9 million reduction to FDIC insurance expense and an $8 million benefit from the sale of affordable housing investments. In the yea-ago quarter, expenses included debt extinguishment gains which reduced other noninterest expense by $6 million. Excluding these items, expenses advanced 5% from the prior year period.

Credit Quality

Credit metrics improved in the reported quarter at Fifth Third. Net charge-offs were $181 million or 88 bps of average loans and leases compared with a respective $220 million or 108 bps in the prior quarter and $304 million or 156 bps in the prior year quarter. This marked the lowest level since the fourth quarter of 2007.

Provision for loans and leases descended 21% sequentially and 37% year over year to $71 million. Total nonperforming assets, including loans held-for-sale, were $1.7 billion or 1.96% of total loans, leases and OREO. It fell 6% from the prior quarter.

Capital Position

Growth in retained earnings attributed to Fifth Third’s improved capital ratios in the reported quarter. Sequentially, the Tier 1 common equity ratio increased 13 bps to 9.77%. The tangible common equity to tangible assets ratio was 9.15% (excluding unrealized gains/losses) and 9.49% (including unrealized gains/losses) compared with 9.02% and 9.37%, respectively, in the prior quarter.

The Tier 1 capital ratio advanced 11 bps sequentially to 12.31%. The Leverage ratio increased 8 bps to 11.39% and the total capital ratio moved up 17 bps to 16.24% in the quarter.

Fifth Third posted an increase in both book value and tangible book value per share. As of June 30, 2012, book value per share was $14.56 and tangible book value per share was $11.89, up from $14.30 and $11.64, respectively, as of March 31, 2012.

Resubmission of Capital Plan

Notably, following its failure to clear the stress test in March this year, Fifth Third has resubmitted its capital plan on June 8 and Fed will respond within 75 days after re-submission. Though the new plan included similar capital actions and distributions as proposed in the earlier plan, in the newer version, the company has modified the timing of such moves. To abide by the norms of the financial reform legislation, the company is also redeeming its trust preferred securities.

During the quarter under review, the company also bought back $75 million of common shares with the gains realized in Vantiv’s initial public offering. This move was allowed by the Fed following its capital plan review during this year stress test.

Peer Performance

Among its peers, Bank of America Corporation (BAC - Free Report) reported second quarter earnings of 19 cents per share, marginally outpacing the Zacks Consensus Estimate of 15 cents. Results were aided by improved noninterest income, substantial slowdown in provision for credit losses and reduced noninterest expense. On the flip side was lower net interest income due to a weak interest rate environment.

Another peer, Comerica Inc. (CMA - Free Report) , reported earnings per share of 73 cents, comfortably beating the Zacks Consensus Estimate of 62 cents. The company experienced growth in its average loans, helped by higher average commercial loans. Average deposits also advanced in the quarter. However, lower loan yields partially offset the benefit. Furthermore, the company experienced growth in fee income. Also, expenses were well-controlled.

The other peer, SunTrust Banks Inc. (STI - Free Report) is scheduled to report its earnings on July 20.

Overall, we have seen the major Wall Street banks reporting better-than-expected earnings this quarter on lower loan loss provisions and well-controlled expenses, But robust top-line growth remains elusive at these banks this quarter reflecting the stressed macro economic environment and the fundamental pressure on the sector in particular.

Our Take

Going forward, with a diversified traditional banking platform, Fifth Third remains well poised to benefit from a recovering economy along its footprints. Its traditional commercial banking franchise, diverse revenue mix, improved credit quality and enhanced capital position serves as a positive catalyst for the stock.

We believe that share buybacks with Vantiv gains are in the best interest of the company and its shareholders. Yet, a low interest rate environment, regulatory issues as well as competitive pressures are the headwinds for the stock.

Fifth Third currently retains a Zacks #2 Rank, which translates into a short-term Buy rating. However, considering the fundamentals, we maintain a long-term Neutral recommendation on the stock.

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