Meta Financial Is An Under-The-Radar Bargain

| About: Meta Financial (CASH)

Summary

Meta Financial continues to post stellar results.

The bank's hybrid tech/deposit strategy has positioned it for sustained long-term earnings growth.

The company is valued in-line with banking peers, but it deserves a premium.

I want a wider margin of safety, but I think the stock will perform very well.

In the days of perpetually more efficient markets, I remain fascinated by names that fly under the radar. And, generally speaking, I continue to bang my head against the wall for not capitalizing on some of these market inefficiencies. The latest regret is Meta Financial (NASDAQ:CASH). I wrote about the name in January of 2014 and passed because of concerns about management, and a rosy valuation.

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Shares are up a solid 33% since publishing, with shareholders also receiving $1.30 in dividends. The company reported another outstanding quarter earlier this week, and shares are sitting at an all-time high. Let's take a look at the company's FY16 third quarter results, and the prospects for earnings expansion going forward.

Q3 driven by high quality loans, tax refund services, and cards

Meta Financial's third quarter, and for the matter, its 2016 results, have been driven mostly by three factors: a high quality loan portfolio, tax refund services, and its prepaid debit cards business.

Meta's high quality loan portfolio is partially a factor of its favorable geographic location. The company is highly concentrated in Polk County, Iowa, home to Des Moines, affordable housing, and strong employment. Unemployment in the area currently sits at just 3.6%, and the median housing price in Des Moines is just $117k vs. a median household income of $62k. As a result of this high quality portfolio in a very attractive area, non-performing assets stood at just 0.07% of assets and 0.7% of total loan values at the end of Q3. In fact, the allowance for loan losses was down about $0.2m y/y-impressive considering the company's loan portfolio is 32% higher than it was a year ago.

The beauty of Meta's business model is that while it has a large loan portfolio, the firm's other business lines augment earnings and reduce the bank's reliance on lending to generate profits.

Meta's cash cow over the past few years has been its prepaid card business. One of the "unintended" consequences of Dodd-Frank was to eliminate free checking accounts, creating a prepaid debit banking system that is highly profitable for Meta financial-a supplier of these prepaid cards. Not only does Meta earn money for issuing these cards and processing transactions, but it also secures a very low-cost float on which it can invest in securities and earn income. These cards help explain the bank's 0.13% cost of funds. These cards are used in several ways, including prepaid debit and tax refunds.

Meta augmented this expertise with its $50m acquisition of Fort Knox Financial Services. With this acquisition, Meta leverages its relationship with financial institutions to sell this service, and it thus has, in all likelihood, increased the value of the asset under its ownership. The deal has been highly accretive, adding $23m in non-interest income YTD.

What is Meta's earnings power?

Overall, earnings are up over 100% YTD to $27M, with EPS up 59% as the company had to issue stock to pay for its Fort Knox acquisition in 2015. Overall, the company looks to have about $4-4.25 in earnings power for FY16, and likely close to $5 in FY17 if the company can maintain its momentum. I expect Meta's tax software, Refund Advantage, will continue to take share under its ownership.

Additionally, given persistently low interest rates and strong economic fundamentals in the bank's key region, I think the company should have strong demographic tailwinds to drive profitability in its lending business. I think the company can continue to achieve mid-single digits loan growth for the next five years. The combination of the tax business as well as the lending business should lead to compounded annual earnings growth in excess of 7% for the next five years. Come 2020, I think the bank can earn about $6.50-7.25 per share.

Valuation in-line with peers

Meta's superior earnings power and growth profile are already partially captured in the company's valuation. At 1.4x book, the company is trading right in-line with its peers (shown below).

Bank

TTM PE

TTM P/B

TrustCo Bank Corp. NY

15.2x

1.5x

Peoples Bancor

18.0x

1.4x

First Defiance Financial

13.8x

1.7x

Dime Community Bancshares

7.7x

1.3x

First Busey

15.7x

1.8x

Capitol Federal Financial

23.5x

1.3x

Oritani Financial

13.4x

1.4x

Waterstone Financial

21.4x

1.1x

Beneficial Bancorp

58.7x

1.1x

Meta Financial

14.0x

1.4x

Mean

20.8x

1.4x

Median

15.7x

1.4x

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However, I strongly believe that Meta deserves a premium relative to its peers. Meta isn't going to have a lot of hidden asset value given its recent acquisition, but I think the value of its technology will not be fully captured in the balance sheet. As a result, I believe shares should trade at 1.6x book-near the high end of the peer set ($62). This isn't a phenomenal risk/reward at current levels, but I do think my earnings estimates could prove to be conservative, particularly if interest rates rise. While Meta will see some increase in its cost of deposits, it should be able to maintain its low cost float from its prepaid business, improving its overall net income margin.

In any event, Meta, like most micro caps, is prone to large swings, so shares could easily drop into a more favorable risk/reward situation. I am definitely purchasing shares at my Q3 tangible book target of $39.50, but I would also be fairly interest to purchase shares around 1.2x book. The market is clever enough to realize that Meta should trade at a book value premium to the likes of major banking centers like JP Morgan (NYSE:JPM) and Bank of America (NYSE:BAC), so I think buying around the $47.40 level makes sense.

As for existing shareholders, congratulations, you are smarter than me. Continue to enjoy a solid dividend on top of your capital appreciation.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.