Lately, I've been writing about regional banks. I recently established a position in National Bankshares (NKSH) (Seeking Alpha article here) and am watching First of Long Island (FLIC) (Seeking Alpha article here) to see the effects of Sandy and for a more advantageous entry price. Here, I take a look at a regional bank located in Maine. While there are a lot of things I like about this particular business, I'm not quite ready to invest as described in the conclusion.
Camden National Corporation (CAC) is a regional bank located primarily on the coast of Maine. It operates Camden National Bank and a wealth management company, Acadia Trust, N.A. Camden National Bank has 38 banking offices.
I came across Camden National when screening for regional banks that had achieved Returns on Equity greater than 10% for the past ten years running. It was one of fifteen regional banks to meet this threshold. In particular, this means that Camden National turned in a strong performance through the financial crisis.
The Bad News
First, the bad news from my personal viewpoint. While Camden National weathered the financial crisis well, it has not sustained dividend increases. The dividend has been frozen at $1.00 per share since 2008 with the exception of a special dividend of $.50 per share at the end of 2011. At the current price, this gives a dividend yield around 3%.
In addition, the Debt/Equity ratio is just above 2.0, which I find a bit high (although this ratio has to be thought about differently for financial institutions as debt can be fuel for lending). This is down from a high of 4.31 in 2006.
Finally, the 2008 annual report discusses the impact of the financial crisis on Camden National. The bank did not engage in subprime lending and thus didn't take a huge hit on the loan portfolio. However, its investment portfolio suffered. Here is management's discussion:
Even though Camden National never made subprime loans, we were impacted by the turbulence in the mortgage market. Late in 2007, the Company invested in auction rate securities that were backed by preferred shares of the Federal Home Loan Mortgage Corporation, more commonly known as Freddie Mac. At the time of the investment, the auction rate security market met our liquidity requirements if we chose to sell the securities, and the preferred shares of Freddie Mac met our risk requirements. Indeed, the Freddie Mac shares were deemed investment-grade by the major rating agencies. But then two things happened. In early 2008, the ability to sell auction rate securities evaporated as major investment houses stopped supporting that market. And in September 2008, the U.S. government placed Freddie Mac into conservatorship amid fears it might fail. The two events caused an impairment of the collateral underlying our auction rate securities resulting in an investment write-down of $15.0 million.
Notable Corporate Events
There are some recent corporate events that prospective investors should be aware of: 1) In January of 2008, Camden National completed a merger with Union Bankshares Company, 2) In October of 2012, Camden National acquired 15 bank branching locations and the associated deposits from Bank of America (BAC), and 3) Camden National continued a stock repurchase program in 2012, which authorizes the repurchase of up to 6.5% of the common stock if conditions warrant (a similar program was authorized in 2011, which repurchased about 1% of the common stock).
With regards to the acquisition of Bank of America branches and deposits, the official closing date is January 2013, so the results won't appear on Camden National's financial statements and reports until early 2013.
Regional Banking Thesis Illustrated
Camden National illustrates the broader regional banking investment thesis: by being regionally located and specialized, they get to know their customers and can better meet their financial needs than a larger institution that doesn't have the same community outreach and customer service.
In the 2008 annual report, they discuss their response to low lobster prices and high energy costs, a combination that could seriously hurt one of the primary Maine coastal industries:
Also in the fall of 2008, the lenders at the Bank recognized that the lobster industry would be facing formidable challenges due to depressed lobster prices and high energy costs. As Senior Lending Ofﬁcer Tim met with his lending team and worked collaboratively with other bankers and the Finance Authority of Maine (OTC:FAME) to help craft a solution. Within days, bankers statewide and representatives of FAME were meeting to discuss how they could create a plan to provide assistance to lobstermen.
Tim worked directly with representatives of FAME and other bankers to develop guidelines for their "Lobster Industry Loan Program," which was introduced within 30 days of their initial discussion. Since the launch of this collaborative program, Camden National Bank has helped to provide much-needed assistance to one of Maine's most important industries.
If this sort of community involvement isn't a recipe for "sticky" customers, I don't know what is...
Below, I give some graphs highlighting Camden National's performance over the last 10 years.
First is a graph of earnings per share and dividends per share in the past 10 years and TTM. Overlaid is the dividend payout ratio.
The next graph showcases Returns on Assets and Equity over the past 10 years. The Returns shown here are on average equity as reported by Camden National. When I found Camden via finviz.com's stock screener and Morningstar's RoE data, the RoE was not taken over average equity (the 2008 number was a bit higher using Morningstar's data, which is how it passed my initial screen). Here, we clearly see the impact of the financial crisis.
The next graph gives a closer look at the balance sheet and supplies the deposits, loans and total assets. Overlaid on the graph is the ratio of loans to deposits, which is one measure of how well a bank is turning deposits into loans.
Finally, stockholder's equity over the past 10 years.
Bank Specific Metrics
The bank is well capitalized. As of September 2012, the Tier 1 capital to risk-weighted assets was 15.13%, the Total capital to risk-weighted assets was 16.39%, and the Tier 1 leverage capital ratio was 9.57%. These numbers are important to monitor since if they become too low (as measured by regulation), the bank's Return on Equity will decrease as the bank raises the capital ratios. In this case, Camden National appears to be well-capitalized and doesn't appear as if it will need to take drastic action in response to Basel III.
For the nine months ending September 30, 2012, Camden National achieved a return on assets of 1.09%, a return on tangible equity of 14.31%, and a net interest margin of 3.39%, and an efficiency ratio of 54.77%. In addition, the bank's provision for credit losses decreased by $563,000 to $2.7 million, which is a good sign as it means that the amount of non-performing loans decreased and charge-offs stabilized.
Camden National reported a ratio of non-performing assets to total assets of 1.06% on September 30, 2012, down from 1.27% on December 31, 2011. The numbers for non-performing loans to total loans are 1.67% and 1.82% respectively. In both cases, these numbers are moving in a very good direction.
In valuing a financial services firm, I follow Damodaran's thoughts in The Little Book of Valuation. I look at the Price / Book ratio as a relative measure and then a Dividend Discount Model.
Camden National's Price / Book ratio is about 1.1 (Price to Tangible Book is 1.4). Morningstar reports that the 5-year average P/B ratio for Camden is about 1.3, so Camden looks mildly undervalued by this measure. Assuming the acquisition of Bank of America branches is a good thing and with the non-performing loans and asset numbers moving in a good direction, I think we can confirm this valuation.
Next, I work through a Dividend Discount Model to get a rough valuation. In this case, given the frozen dividend, I plan to take the results of the model with an additional grain of salt. That said, here are the assumptions I'm building into the model:
- The RoE for the next 5 years will be roughly in line with the TTM figure of 10.98%.
- The dividend payout ratio of the next 5 years will be roughly 30%.
- The cost of equity (discount rate) for the next 5 years is about 7%.
- The RoE in the long-term for computing the terminal value after 5 years will drop to 8.5%.
- The long-term earnings growth rate will be 3%, which when combined with an RoE of 8.5% gives a payout ratio of 65%.
- The cost of equity after 5 years will rise to 8%.
Putting this together and using a TTM Earnings per share figure of 3.27 gives:
Adding up the present values of the forecast cash flows gives an intrinsic value estimate of $45.75 / share. At the current close of market price of 33.83, this represents a margin of safety of 26%.
The intrinsic value from the dividend discount model seems to reinforce the conclusion from looking at the P/B ratio that Camden National is at present undervalued.
There are many aspects of Camden National that I like, and I am comfortable with the current price. However, as I said in the introduction, I am not ready to add it to my portfolio. One of my entry criterion is a growing dividend. Camden National was proud that it maintained the dividend through the financial crisis, but I think enough time has passed that I want to see a resumption of dividend increases before investing. I also plan to stay in touch to see what the reported numbers look like regarding the acquisition of BoA branches. With a market capitalization this small ($260 million) and a currently attractive price, if the acquisition looks like it is going to provide a lot of value that isn't immediately noticed by the market, I may invest on those grounds.
Additional disclosure: All data referenced in this article comes from Camden National's annual reports, the latest 10-Q, and Morningstar.com.