* Q4 net income 612 mln euros vs 548.7 mln forecast
* To propose dividend at 0.35 euros/share
* C.Agricole says solvency ratios above target
* Shares outperform broader market (Adds details, analyst comments)
By Maya Nikolaeva and Matthias Blamont
PARIS, Feb 19 (Reuters) - France's Credit Agricole flagged improving conditions in its main markets of France and Italy on Wednesday as it proposed its first shareholder payout since 2010 and beat its own annual solvency targets.
The number-three listed French bank by market value reported 2013 net income of 2.5 billion euros ($3.4 billion), turning a page on two straight years of losses marked by a painful exit from Greece, Italy-related provisions and a pullout from riskier investment-banking activities.
The bank said the economic outlook for France and Italy was improving slightly and that it would need to set aside less money for bad loans.
"Our fundamentals are sound," Chief Executive Jean-Paul Chifflet told journalists. "We believe that the French economy will get better in 2014... and in Italy revenues should improve and reserves for bad loans should stabilise".
Shares in Credit Agricole outperformed broader markets , rising 1.6 percent by 0938 GMT.
"The results reflect that the situation is back to normal," Pierre Chedeville, an analyst at CM-CIC Securities said in a note to clients.
Credit Agricole said it expects its net interest margin - a metric that shows how profitable its lending is - to be flat in its main French market in 2014. The French recovery is so far struggling to pick up speed, with unemployment near 11 percent.
Credit Agricole has slimmed down its investment banking business over recent years and has cut costs, as tougher regulation and volatile markets hurt, in what it called a successful refocusing on core domestic retail operations.
"Buoyant" results at its retail business and stronger inflows in savings management and its asset management arm Amundi helped offset a decline in investment banking revenues in 2013.
The bank, which plans to unveil a three-year strategic plan on March 20, reiterated its ambition to have the largest network of bank branches among European lenders by 2020.
Credit Agricole has not yet disclosed targets for return on equity or dividend payout ratios, unlike French rivals Societe Generale and BNP Paribas.
The bank said it would propose a dividend of 0.35 euro per share, either in cash or shares. Major shareholder SAS Rue la Boetie is opting for payment in shares, the bank said. Credit Agricole offered a higher dividend payout ratio than SocGen, but lower than BNP, at 35 percent.
SOLID CAPITAL STRUCTURE
Credit Agricole said it was ahead of schedule on solvency targets last year, exceeding regulatory requirements and outperforming rivals.
Regulators and rating agencies are looking at Credit Agricole at the group level to analyse its capital.
The listed bank Credit Agricole is controlled by a network of regional savings banks that together form the Credit Agricole Group.
Its fully-loaded common equity Tier 1 ratio under international rules was 11.2 percent at Dec. 31 versus the bank's forecast of 11 percent and the 8.5 percent required by regulators.
The group leverage ratio stood at 3.8 percent, versus 3.5 percent at the end of the third quarter and 3 percent required by regulators.
"We are not worried, but vigilant," Chifflet said, referring to the details it will have to supply to the European Central Bank's asset quality review, which will involve around 130 experts scrutinizing the group's balance sheet. Around 20 of them have already started.
Credit Agricole shares are trading at a 20 percent discount to its European peers, Deutsche Bank analysts say citing concerns about the solvency of the group's listed entity. Its fully-loaded common equity Tier 1 ratio came in at 8.3 percent as of January versus a forecast of 7.8 to 8 percent.
Credit Agricole said retained earnings, new accounting methods at its Italian unit and a reduction in risk-weighted assets helped the bank exceed solvency targets for 2013.
The bank reported a better than expected fourth-quarter net profit of 612 million euros, compared with a 3.98 billion net loss for the same period a year earlier. That exceeded the 548.74 million of mean estimates in a Thomson Reuters I/B/E/S poll of analysts.
Tax benefits in France and Italy, gains from lower loan-loss provisions and cost cuts helped offset a loss of 132 million euros related to the planned sales of its Bulgarian unit and its Nordic consumer finance entities, mainly in Sweden and Denmark. ($1 = 0.7272 euros) (Editing by Andrew Callus and Erica Billingham)