Regions Financial: $42 Stock After Fog Clears

| About: Regions Financial (RF)

We've talked before about Suntrust Bank (NYSE:STI) and more importantly, Alabama based Regions Financial (NYSE:RF) as possible acquisition targets for behemoths (like Citigroup) looking to break into the white hot Florida banking environment. Here's a couple of key takeaways from a report we're currently putting together:

1) Regions operates retail and commercial banking businesses stretching from the Mississippi River to Texas. With $140 billion in assets (post AmSouth merger; in May, RF paid nearly $9.8B for the local bank), nearly $100 billion in deposits, and 2,000 branches/1,700 ATMS in 16 states, Regions Financial is no longer a teenager operating in grown man's land. Regions Financial also owns investment brokerage house Morgan Keegan, which accounts for roughly 15% of RF's bottom line. Regions will soon be the 10th largest bank in the US, and thus a veritable threat to Wachovia (NASDAQ:WB) and Bank of America (NYSE:BAC) as well as smaller regionals.

2) Regions Financial reported 2Q06 EPS of $0.75 last week. There was upside to account for on nearly every performance front -- including vastly improving credit -- but management quickly provided its own wet blanket by reassuring the investment community that NIM (net interest margin) would wane in the back half of 06. We believe management is being too conservative and a Q3 surprise, albeit not as exhilarating as Q2's, could be in the works, even as loan growth decelerates slightly. In sum, we feel bank valuations are improving because of recent market weakness and RF, which boasts major presence in every state it's active in, is a prime example.

3) RF is currently trading at an attractive valuation of 14 x trailing 12 EPS and at 13 x estimated 2006 numbers, both at a discount to the broad market. More compelling is that the bank is going for less than 2 x book value, an anomaly given that most banks, especially with RF's solid financial health, trade anywhere between 2.5 and 3.5 x book value. We believe that as the AmSouth/RF deal begins to flesh out its synergies and cost saves -- and the Fed finally pauses its rate hike jihad -- the market will quickly give RF the proper valuation it deserves. As our thesis plays out ($42 price target by Q1/Q2 2007), investors can get paid for their patience (4% dividend yield).

4) Risks to investing in RF include, but aren't limited to: eroding local/national economic conditions, deterioating credit quality, and capital market weakness (impairing Morgan Keegan's operations). In addition, RF management has reiterated that acquisitions will play a pivotal role in the bank's strategic direction -- aggressive acquirers tend to shoot their own foot off and our hope is that RF will refrain from overpaying for its transactions and/or diluting existing shareholders.

5) Region's Financial is now in the big leagues and investors need to recognize that. We believe RF deserves a higher price to book multiple (implying a valuation more in-line with top 10 banks) and rate the stock a HOLD. We recommend that investors sit tight and blow out positions north of $42, our 6 month price target.

RF 1-yr chart: