- Its strong footprint and good core lending base are likely to drive outsized loan growth.
- Improvement in the credit profile lends itself to better future valuations.
- Expense management is helping to drive a more efficient and profitable bank.
While most fundamental analysts would likely agree, higher the stock market goes, the harder it is to find truly solid investments. Since most everything in life is relative, the bank space offers one of the best opportunities to compare peer banks against one another. The extremely large sample size (hundreds of banks) in a deeply homogenous industry allows for a very clear look into "winners" and "losers" amongst the industry.
While most people outside of the Hoosier state haven’t heard it, I think it's finally time for German American (NASDAQ:GABC) to become a little more widely known. GABC is based in Jasper, Indiana, and operates a footprint of 70 branches located throughout southern Indiana and northern Kentucky. With its solid community bank backbone and $5.3 billion balance sheet, GABC is well positioned for continued success. Unlike most banks its size, GABC also has a sizable wealth management division that helps the company diversify its revenue streams and deepen existing relationship.
In terms of a valuation, GABC currently trades at 1.9x price to tangible book value per share. While its valuation might seem high relative to peers, when looking at the chart below one can see that its current valuation offers a noteworthy discount to historical levels. When looking at midwestern peer banks, GABC trades for a slight premium, just 0.3x (peers trade closer to 1.6x price to tangible book value).
Recent Performance Trends
The second quarter produced a very healthy result, so good in fact that I believe it is the first sign of proof that GABC has turned the corner (faster than peer banks) and should strong 2H21 performances. The better than expected pre-provision earnings and negative provision fuelled the noteworthy results.
Digging a little deeper into the weeds, one can see that core revenue of $54.7 million included $3.3 million of PPP fees. Outside of its loan and deposit franchise, its core fee income of $13.6 million included a healthy 11% quarter over quarter increase in wealth management fees. Card interchange revenue also increased more than 20% from first quarter levels, driven by card utilization increases, most of which can be attributed to local Indiana economies opening back up.
Working our way down the income statement, operating expenses fell a little more than 3% in the quarter (with respect to first quarter levels). This was mainly driven by the recently announced expense optimization plan, which is clearly starting to gain traction. Management also noted that additional expense savings would likely be captured in the fall.
Shifting to the balance sheet, core loans (which exclude any PPP related loans) increased at a 5% linked quarter annualized pace in the second quarter. While this trend is pretty strong, it continues to be masked by the top-line reported number, which included PPP loan forgiveness.
While the solid expense management is a very welcome sign for shareholders, the prospects for loan growth are likely to drive the future movement in the shares. When I was looking at the local economic data and commentary from surrounding banks, I got the sense that core loans are likely to increase at a faster pace the second half of this year.
I am modeling a low-to-mid single digit full year loan growth projection, which would be slightly better than the national average of roughly flat year to date. Conversely to that, deposits could actually slow a little.
In the second quarter, deposits were a little softer than what I was expecting, which is a good sign that the margin is likely to find it footing soon (if not rebounding higher). Don’t get me wrong, GABC still has an ample amount of excess liquidity on its balance sheet that will need to be deployed, but the recent trend appears positive.
From a credit perspective, GABC took a $5 million credit reversal that was subtracted from the allowance in 2Q. This loan loss provision recapture ran through the income statement and helped drive the sizable bottom-line beat.
Also, for a second consecutive quarter, management noted paydowns on certain adversely-rated loans. In its press release, GABC removed the student housing sector as a “COVID-sensitive” industry and indicated trends within COVID-sensitive industries had continued to improve. I suspect near term provisioning needs could be very minimal assuming conditions do not deteriorate.
German American is a very solid bank that have proven itself even keeled, especially during the weakest of economic environments. It has continued to make clean loans and handsomely reward long-term shareholders over the course of the past decade.
When it comes to the banking space, some investors like to look at earnings per share, while others look to see how financial metrics stack up against peers. At any given time there are dozens of cross-industry ratios to examine.
That being said, all of them tell you different things at different times. While there is no "right answer", I have always found the best metric to watch for long-term investments is the rate at which tangible book value per share grows (TBVPS). In my opinion, it tells you management is looking to grow the franchise for the next ten years, not just the next ten months. GABC has done a great job growing its TBVPS. In my opinion, it is a solid bank that should be in all long-term investment portfolios.
This article was written by
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