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Summary

  • Despite recent concerns about a prolonged weak interest rate environment and margin compression, Regions has always been a standout performer, especially in terms of loan growth.
  • More important than revenue growth will be what management says about the overall landscape of the bank's assets - Particularly non-performers.
  • I project these shares to reach $15 on the basis of long-term return on equity of 8.5%.

Shares of Regions Financial (NYSE:RF) have been in a holding pattern even since the stock was downgraded by Miller Tabak analysts Thomas Mitchell. Mitchell lowered his recommendation to hold from buy while raising his price target to $11.33 from $11.15. According to Mitchell's note, his downgrade was due to Regions' outperformance.

Shares of Regions, which is a full-service financial bank that services 16 states across the Midwest and South, are up some 40% over the past 12 months. This compares favorably to the KBW Bank Index, which is up roughly 30% during that span. The bank's range of services includes both commercial and consumer banking. And when you factor in a growing mortgage and wealth management business, you have one of the best diversified financial institutions on the market today.

On Tuesday, Region will report first-quarter earnings. Management will look to prove why the Birmingham, Alabama bank deserves investors' confidence. Although profits are expected to decrease slightly, analysts seem broadly positive about the bank's direction. The Street will be looking for 20 cents in earnings per share, which will be 3 cents shy of last year's mark of 23 cents. For the full year, analysts are expecting earnings of 85 cents per share.

In terms of revenue, the company is projected to post $1.30 billion. This, too, will represent a year-over-year decline of 8%. Last year, Regions posted revenue of $1.41 billion. For the year, revenue is projected to come in at $5.33 billion.

With better-than-expected results coming in from large money-center banks like Wells Fargo (NYSE:WFC) and JPMorgan Chase (NYSE:JPM), investors in smaller regional banks may seem disappointed by these results. But as well as JPMorgan and Wells Fargo have performed, they both posted year-over-year revenue declines. So the expected decline for Regions is more symptomatic of the industry and not specific to the bank itself.

What's more, despite recent concerns about a prolonged weak interest rate environment and margin compression, Regions has always been a standout performer, especially in terms of loan growth. The bank has consistently demonstrated an ability to keep its loan balances steady, especially in areas like production of commercial and industrial loans.

Consider, over the past four quarters, Regions has posted an average profit increase of 2% on average year-over-year, including a 68% surge in the first quarter. Plus, let's not discount that the company posted a 2% revenue increase in the January quarter of $1.44 billion, which offset a 6% year-over-year revenue drop in the third quarter.

More important than revenue growth will be what management says about the overall landscape of the bank's assets - Particularly how it deals with those that have not performed as well as expected. Accordingly, investors should focus on the bank's performance in net interest margin (NIM), which is a profitability measure that looks at how much interest income a bank earns less the amount of interest it pays out to depositors and other lenders.

For the quarter, a NIM above 3% should be considered a win. Given Regions' reliance on consumer banking services, a strong NIM determines management's ability to grow revenue. This is because Regions makes money from the difference between the interest it pays out to depositors relative to what it takes in from loans.

For now, I remain encouraged by the bank's strong year-over-year improvement. From my vantage point, now is the best time to buy the stock, given that these shares are trading at 0.9 times book value. This compares favorably to Wells Fargo and JPMorgan, which trade at 1.61 and 1.02, respectively. So when applying the same metric to Regions, the stock is meaningfully undervalued.

I project these shares to reach $15 on the basis of long-term return on equity of 8.5%. Although there are many high-quality banks out there, Regions is one of only a handful that has a business that is easy to understand. With shares trading at a P/E of 13 and a dividend yield of 1.20%, it's hard to imagine a better bargain out there.

Source: Why Regions Financial Is Heading To $15