In an earlier article (see here), I argued that while regional banks are exposed to greater risks than what the market acknowledges, Fifth Third (FITB) and Huntington (HBAN) are trading well below intrinsic value. Since my article was published, both considerably outperformed the market: the former appreciated by 14.3%; the latter by 15.3%. While I continue to believe that reward exceeds risk for both financials, I find that the differential has meaningfully declined. In light of this, it is worthwhile mentioning one bank that the Street is bullish on: PNC Financial Services (PNC).
From a multiples perspective, PNC is cheaper than Fifth Third. It trades at a respective 9.5x and 9.6x past and forward earnings while Fifth Third trades at a respective 11.7x and 9.6x past and forward earnings. To put this into perspective, the much larger Wells Fargo (WFC) trades between the two at 10.7x past earnings and offers the lowest dividend yield at 1.7%. The Street still rates it a "buy", but I think more of a "hold" is warranted. In addition, PNC has a beta half of Fifth Third's and maintains much better liquidity. Net debt stands at only 45% of market value compared to 92.6% of the market value for Fifth Third. Analysts, accordingly rate PNC near a "strong buy" and Fifth Third a "buy".
With that said, the latter is on track to unveil impressive earnings. At the third quarter earnings call, Fifth Third's CEO, Kevin Kabat, noted stellar performance:
"Today, Fifth Third reported third quarter net income to common shareholders of $373 million and earnings per share of $0.40. That EPS result was up 14% sequentially and 82% from a year ago. Our return on assets rose to 1.34% and we generated return on tangible common equity of 15%. Additionally, tangible book value per share of $11.05 increased 5% sequentially and 13% from a year ago. It was a pretty strong result especially considering the slow economic growth, low interest rate environment that we're operating in. In fact, this is the highest quarterly net income we've reported since mid-2006, with the exception of the third quarter of '09, when we booked the processing joint venture gain".
I have little doubt that this excellence will continue onto next quarter. The firm has solid control over liabilities and benefitted from a pick up in activity. Commercial loan growth and margins are expected to improve, which will attract investor entry by alleviating fears. The IPO of Vantive will be around a quarter of a percentage point accretive to the Tier 1 Common Ratio, which has significantly improved. Lastly, four-thirds of the franchises are located in the Midwest, which is experience strong organic growth.
Consensus estimates for Fifth Third's EPS are that it will grow by 93.7% to $1.22 and then by 16.4% and 8.5% more in the following two years. Assuming a multiple of 11.5x and a conservative 2012 EPS of $1.37, the rough intrinsic value of the stock is $15.76, implying 16.8% upside. Of the 3 revisions to estimates, all have gone up for a net change of 0.7%.
PNC is attractive to many investors due to its turnaround success in weathering an economic storm. The bank performed incredibly well in one of the tightest credit environments in history. Not only was TARP fully repaid, the company doubled its assets, returned free cash flow to shareholders, and doubled its assets. The Tier 1 common ratio was also expanded to 10%, which de-risked the business and established the fundamentals necessary for outperformance. PNC has also done well restructuring its business. The divestment of Global Investment Services and buyout of National City will be accretive to long-term EPS and increase efficiency. From selling off underperforming assets to entering Florida, the company is well positioned to rise in the event of a full recovery. One critical risk, however, is that the bank has around 7% of its assets exposed to real estate.
Consensus estimates for PNC's EPS are that it will grow by 8.2% to $6.21 and then by 10% and 7.8% more in the following two years. Assuming a multiple of 11x and a conservative 2012 EPS of $6.14, the rough intrinsic value of the stock is $67.54, implying 12.7% upside. If the multiple were to hold steady and 2012 EPS turns out to be 3.8% below the consensus, the stock would fall by 4.4%.