DBRS Comments on SunTrust Banks, Inc.’s 2Q12 Earnings – Senior at A (low), Unchanged; Trend Stable

DBRS, Inc. (DBRS) has today commented on the 2Q12 earnings of SunTrust Banks, Inc. (SunTrust or the Company). DBRS rates the Company’s Issuer & Senior Debt rating at A (low) with a Stable trend. SunTrust reported second quarter net income available to common shareholders of $270 million, up 10% from $245 million in the prior quarter and a significant 55% from $174 million a year ago.

DBRS views the quarterly results as solid with improving earnings, strong mortgage banking results, positive operating leverage, modest loan growth, and broad-based improvements in asset quality. Revenue (excluding securities gains) was relatively stable, up a modest $32 million, or 1%, during the quarter, driven primarily by strong fee income results that more than offset the 3% decline in net interest income. Moreover, SunTrust has already realized annualized expense savings of $250 million through its Playbook for Profitable Growth (PPG) program, which has targeted $300 million in expenses savings by the end of 2013.

Non-interest income increased $64 million, or 7%, q-o-q to $940 million reflecting SunTrust’s significantly improved mortgage production-related revenues of $103 million. Specifically, strong mortgage-production related results were driven by higher origination volumes, wider gain on sale margins and a $20 million decrease in the mortgage repurchase provision. Moreover, most of the consumer and commercial fee income categories improved as well with card fees (8% growth), trading income (23%), and other charges and fees (13%) all showing improvement, which more than offset a 14% decline in mortgage servicing revenue.

Of note, reserves for mortgage repurchases increased $51 million during the quarter to $434 million. Repurchase demands increased 9% over the quarter to $489 million and continued to be concentrated in the 2006 to 2008 vintages. SunTrust anticipates that repurchase demand levels will remain elevated in the coming quarters and continue to weigh on earnings, albeit at a slowing rate later in the year.

Net interest income of $1.3 billion remained under pressure and declined 3% over the quarter as a result of the anticipated reduction in swap-related interest income. Consequently, the margin declined 10 bps to 3.39%, as earning assets yields compressed 11 bps. Rates on interest bearing liabilities remained relatively stable and benefited from a favorable shift in the deposit mix.

In addition, average loans grew modestly by $823 million, or 1%, during the quarter reflecting loan growth in the large corporate lending and commercial banking segments. The Company was able to deliver loan growth despite continued reductions in certain real estate-related asset classes and higher-risk loan categories including commercial construction, home equity and mortgage products. DBRS notes that higher risk loan balances have contracted $2.1 billion, or 18%, over the past year.

In 2Q12, noninterest expenses were well controlled and stable at $1.5 billion with the seasonal decline in expenses offset by higher credit-related and other operating expenses, and higher FDIC premiums. Additionally, SunTrust recorded a non-cash charge of $13 million associated with its trust preferred redemption. The Company’s efficiency ratio is still high at 68.33%, but SunTrust continues to make progress towards its goal of having an efficiency ratio below 60%.

Asset quality continued to improve during the quarter with declining net charge-offs (NCOs), nonperforming loans and assets, and early stage delinquencies. Specifically, early stage delinquencies declined by 8 bps to 0.51% (excludes government guaranteed mortgages and student loans), while nonperforming loans improved by 7% to $2.5 billion, or 1.97% of total loans. Positively, the improvement was broad-based, but primarily related to reductions within the CRE and residential and commercial construction categories. Lastly, NCOs declined by 17% to $350 million, or 1.14% of average loans (annualized). Given the strong improvement in asset quality, the Company was able to lower the provision for credit losses by $17 million to $300 million for the quarter (or $50 million less than net charge-offs). Overall, the allowance for loan and lease losses was a sufficient $2.35 billion, or 1.85% of loans, at 2Q12.

Capital metrics were mixed during the quarter with better earnings bolstering the Company’s solid Tier 1 common equity ratio 7 bps over the quarter to 9.40% and the tangible common equity ratio by 17 bps to 8.15%. DBRS notes however, that the Company redeemed approximately $1.225 billion of trust preferred securities in 2Q12. As a result, SunTrust’s Tier 1 capital ratio declined 85 bps to 10.15%. Also noteworthy was SunTrust’s resubmission of its capital plans to the Fed in June of 2012 and its election to not request an increase in the current dividend level or any other return of capital. Management stated that these actions were precipitated by the close proximity to the resubmission of the 2013 CCAR process.

Notes:
All figures are in U.S. dollars unless otherwise noted.

The principal applicable methodology is the Global Methodology for Rating Banks and Banking Organizations. Other methodologies used include the DBRS Criteria – Intrinsic and Support Assessments. Both can be found on the DBRS website under Methodologies.

The sources of information used for this rating include company documents, the Federal Deposit Insurance Corporation and SNL Financial. DBRS considers the information available to it for the purposes of providing this rating was of satisfactory quality.

This rating is endorsed by DBRS Ratings Limited for use in the European Union.

Lead Analyst: William Schwartz
Approver: Alan G. Reid
Initial Rating Date: 28 November 2005
Most Recent Rating Update: 8 August 2011

For additional information on this rating, please refer to the linking document under Related Research.