Peoples Bancorp's (NASDAQ:PEBO) earnings are expected to slightly increase next year on the back of loan growth. The company's plans to invest in non-banking business are also expected to support earnings growth. On the other hand, NIM compression and growth of non-interest expense are expected to constrain the bottom line.
PEBO's earning assets grew this year due to the First Prestonsburg acquisition, which will keep net interest income elevated next year. Moreover, PEBO's loan portfolio is expected to further grow in 2020 as payoffs, which had surged upon the beginning of a down trend in interest rate cycle, naturally taper off. Furthermore, as mentioned in the 3QFY19 conference call, PEBO has a healthy pipeline, with some construction deals expected to start funding up soon.
Consequently, I'm expecting PEBO's loan book to grow by 5.1% in 2020. The management anticipates organic loan growth of 2% to 4% for the full-year of 2019, and growth of 5% to 7% for 2020.
PEBO's average yields for the overall loan book are quite interest-rate-sensitive as approximately 40% of its loan portfolio is subject to changes in LIBOR or prime rate. Due to the Fed rate cuts this year and the possibility of another cut in early 2020, loan yields are expected to continue to remain under pressure.
Some of the pressure is expected to be offset by deposit re-pricing. Moreover, PEBO's deposit mix has slightly improved in the third quarter, with non-interest bearing deposits making up 20.2% of total deposits as opposed to 19.1% at the end of the second quarter of 2019. This improved deposit mix can also somewhat help ease the pressure on net interest margin, NIM.
In light of the above mentioned factors, I'm expecting NIM to decline by 16bps quarter over quarter in 4QFY19. Further, I'm expecting average margin in 2020 to be 19bps below the average margin in 2019.
As mentioned in the conference call, the management expects NIM to be between 3.65% and 3.7% for full-year 2019, and NIM to be between 3.5% and 3.6% for the full-year 2020.
The combined effect of loan growth and NIM compression will lead to an anticipated net interest income growth of 1.9% in 2020. The positive effect of higher net interest income on PEBO's bottom line is expected to be partly offset by higher non-interest expenses. I expect these expenses to grow at a low rate of 2% year over year. The growth rate is expected to be low because of the high base effect as one-off merger expenses had pushed up non-interest expenses in 2019.
On the other hand, I expect growth in non-interest income to drive earnings growth next year. The management is considering investing in non-banking businesses, including insurance, investment, and equipment leasing businesses, to diversify PEBO's income. Therefore, I'm expecting PEBO's non-interest income to grow by 4.4% year over year in 2020.
As mentioned in the 3QFY19 conference call, the management expects non-interest income excluding net gains and losses to be between $15 million and $16 million for the fourth quarter of 2019. For 2020 the management expects growth to be in the mid-single digits. Moreover, the management expects core non-interest expenses for the fourth quarter of 2019 to be between $32 million and $33 million. For 2020 the management expects core non-interest expense growth to be in the low-single digits.
I expect PEBO's earnings to increase by 3.8% year over year in 2020 to $54.9 million. On per share basis I expect earnings to grow to $2.63 in 2020 from an estimated $2.60 in 2019.
I'm expecting PEBO to maintain its quarterly dividend in 2020 at $0.34 per share, leading to full year dividend of $1.36 and dividend yield of 4.12%. There is very little threat of a dividend cut as the forecast suggests a payout ratio of 51.7% in 2020, which is higher than the three-year historical average but still a comfortable level. Moreover, PEBO is well capitalized which minimizes any need to cut dividends for capital adequacy purposes. PEBO's Tier I capital ratio was reported at 14.19% at the end of September, versus minimum regulatory requirement of 8.5%.
PEBO's equity is expected to take a hit from the implementation of the Current Expected Credit Losses (OTCPK:CECL) accounting standard. As mentioned in the conference call, the management estimates CECL implementation to lead to a 25% to 35% increase in the credit loss balance. Mostly based on this guidance, I'm expecting the new accounting standard to result in an increase in credit loss balance of $5.9 million. The standard implementation will lead to a reduction in equity by approximately the same amount, i.e. $5.9 million.
Considering the combined effect of CECL implementation, net income addition, and dividend payout, I'm expecting PEBO's common equity to increase to $614 million by the end of 2020. This amount translates to book value per share of $29.42, as shown in the table below.
I'm using the average of PEBO's price to book ratio, P/B, since 2016 to value the stock. Before 2016 PEBO's return on equity was too low, so its price to book ratio before that year is not relevant. The average historical multiple is 1.16, as shown in the table below.
Multiplying the average P/B ratio with the forecast book value per share of $29.4 gives a target price of $34.1 for December 2020. This price target implies only a 3.4% upside from PEBO's October 29 closing price.
Due to a potential price upside of only 3.4% I'm adopting a neutral stance on PEBO. At the current market price the stock is not attractive, but its attractiveness will increase if its price dips to $31.0, which is 10% below the target price. I suggest investing in PEBO at that level.
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