STT State Street Corporation

State Street Corporation (STT) reported its fourth-quarter 2012 operating earnings of $1.11 per share, substantially beating the Zacks Consensus Estimate of $1.00. This also compares favorably with the last-quarter earnings of 99 cents.

After considering certain non-recurring items – provisions for litigation exposure and other costs, charitable contribution, acquisition costs, restructuring charges, benefit related to claims associated with Lehman bankruptcy , effect on income tax rate of non-operating adjustments, discount accretion related to former conduit securities, tax effect of audit settlement associated with a 2010 acquisition and discrete tax benefit related to former conduit securities – net income  came in at $468 million or $1.00 per share. This compares unfavorably with the prior-quarter net income of $654 million or $1.36 per share.

Better-than-expected results benefited from improvement in the top line, partly offset by higher operating expenses. Although asset position remained robust, capital ratios showed mixed trends.

State Street’s net income available to shareholders was $521.0 million on an operating basis, up 10.0% from $473 million in the prior quarter. For 2012, net income stood at $1.89 billion, climbing 2.5% from $1.85 billion in 2011.

For full-year 2012, operating earnings came in at $3.95 per share, surpassing the Zacks Consensus Estimate of $3.84 and earnings of $3.73 in the previous year.

Behind the Headline

Revenue on an operating basis came in at $2.46 billion, improving 3.2% from $2.39 billion in the prior quarter. Operating revenue was marginally ahead of the Zacks Consensus Estimate of $2.37 billion.

Operating revenue for 2012 was $9.73 billion, up 1.7% from $9.56 billion in the previous year. Full year revenues were 2.0% ahead of the Zacks Consensus Estimate of $9.54 billion.

Net interest revenue on an operating basis deteriorated 1.8% from previous quarter to $600 million. Net interest margin was 1.36% in the quarter, down 8 basis points from the prior quarter.

Fee revenue came in at $1.81 million, jumping 5.1% from $1.72 billion in the previous quarter. The rise was attributable to increases in services fees, trading services fees, management fees, securities finance fees as well as processing and other fees.

On an operating basis, non-interest expenses were $1.71 billion, rising 3.0% from the prior quarter. The increase was primarily driven by higher information systems and communication expenses, transaction processing service costs, occupancy expenses as well as other expenses.

Asset Position

Total assets under custody and administration were $24.37 trillion as of Dec 31, 2012, up nearly 4% sequentially and 11.8% on a year-over-year basis. Moreover, State Street’s total assets under management stood at $2.09 billion, up 1.2% from the last quarter and 13.2% from the prior-year quarter.

Capital and Profitability Ratios

State Street’s capital ratios displayed mixed movements. As of Dec 31, 2012, Tier 1 capital ratio was 19.1%, down from 19.8% as of Sep 30, 2012 but up from 18.8% as of Dec 31, 2011. Likewise, Tier 1 common to risk-weighted assets decreased to 17.1% as of Dec 31, 2012 from 17.8% as of Sep 30, 2012 but increased from 16.8% as of Dec 31, 2011.

Further, the estimated Basel III Tier 1 common ratio fell to 10.8% as of Dec 31, 2012 from 11.3% as of Sep 30, 2012. Return on common equity (on an operating basis) came in at 10.3%, increasing from 9.6% in the last quarter and 9.5% from year-ago quarter.

Share Repurchase

In March, after receiving the approval for its capital plan, the company announced a new share repurchase program authorizing the purchase of up to $1.8 billion of stock through the first quarter of 2013. During the reported quarter, State Street bought back 10.9 million shares at an aggregate cost of $480 million. For 2012, the company bought back nearly 33.4 million shares worth over $1.4 billion.

The company has $360 million remaining under its stock repurchase authorization, effective through March 2013.

Competitive Landscape

One of State Street’s peers, The Bank of New York Mellon Corporation’s (BK) fourth-quarter 2012 earnings of 53 cents per share were in line with the Zacks Consensus Estimate. However, this compares unfavorably with the prior quarter earnings of 61 cents.

Lower top line and higher operating expenses adversely impacted the results of the quarter. However, asset quality continued to show improvement and capital ratios remained healthy. Further, BNY Mellon’s asset position improved.

Our Take

We anticipate State Street’s restructuring programs along with stable core servicing and investment management franchises to help offset its financial weakness. Further, the recent acquisitions will further augment the revenue.

The low interest rate environment and deteriorating net interest revenue are expected to dent State Street’s top line in the upcoming quarters. Despite these concerns, sound capital deployment activities will boost investors’ confidence in the stock.

State Street currently retains a Zacks Rank #3 (Hold). We also maintain a long-term Neutral recommendation on the stock.

 
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