2 Acquisitions Are Paying Off For This Company
Chad is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
Investors can become so focused on a company's past history, that it blinds them to the possibilities in the future. I believe that Capital One Financial (NYSE: COF) is just such a company. In the past, Capital One has not had the best reputation. It seems like investors are choosing to focus on what has already happened, rather than on what the company is doing right now. With some strategic acquisitions over the last year or so, Capital One has positioned itself to offer a broader product lineup, and seems to offer significant value at the current time.
In the most recent quarter, Capital One reported revenue up 39.19%, and EPS increased 13.56%, both on a year-over-year basis. While these growth rates are the direct result of the ING Direct and HSBC U.S. Credit Card business acquisitions, Capital One saw organic growth in multiple areas as well. For instance, the company's home loan balances increased by 4%, commercial banking loans were up 3%, and auto finance loans increased 5%. Where the acquisitions made a tremendous difference is, in the company's average loans and deposits compared to last year. Capital One saw year-over-year loan growth of 56.31%. Just for point of comparison, BB&T (NYSE: BBT), saw retail lending increase 12%. Since Capital One now owns the Sharebuilder brokerage business, E*TRADE (NASDAQ: ETFC) and The Charles Schwab Company (NYSE: SCHW) are direct competitors as well. While Capital One saw loan balances increase substantially, E*TRADE witnessed loan balances decline by almost 14%, and Schwab saw lending increase by just 3%. Total credit card loans were impacted specifically by the HSBC acquisition, which caused a 43.53% increase at Capital One. The company trounced the competition again, as BB&T saw a relatively lower 10% increase in its credit card portfolio. While the HSBC acquisition helped the company's loan balances, the ING Direct purchase made a big difference in the company's deposits.
Year-over-year deposit growth jumped 66% primarily due to the integration of ING Direct. While many of these depositors are admittedly interest-rate sensitive, if Capital One can maintain a competitive money market rate, its higher interest rate credit card business will benefit from these additional deposits. Looking at the company's competition, shows Capital One turning in industry beating results. BB&T for instance, show deposit growth of less than 10%, E*TRADE showed deposit account balances up 10%, and though Charles Schwab saw total assets increase by 28%, none could match Capital One. As you can see, Capital One is performing as well or better than most of its competition in deposits and lending. However, the company has room to improve its credit quality and balance sheet.
Investors have to expect a higher amount of delinquencies considering Capital One's large concentration of credit card lending. However, the percentage of past due balances is actually highest within the company's auto portfolio. In the most recent quarter, 30+ days past due loans overall were at 2.54%, but 30+ day past due auto loans came in at over 6%. This would seem to suggest Capital One needs to examine its auto lending criteria as it is unusual for secured loans to have a higher past due percentage than unsecured loans. Relative to its competition, Capital One's delinquency rate is higher, with BB&T showing non-performers at 1.35%, and Charles Schwab reporting a delinquency rate of less than 1%. E*TRADE has a much higher delinquency rate of as much as 7% in part of their portfolio, because of the company's risky lending practices which are being wound down. However, Capital One makes up for these higher delinquencies with a much higher net interest margin of just under 7%. By comparison, E*TRADE shows a net interest margin of just 2.28%, and even BB&T at 3.94% can't come close to matching Capital One. Looking at Capital One's balance sheet, there's just one issue that should be addressed. The company is currently sitting on about $6 billion in cash, and over $60 billion worth of securities. These investments are yielding about 2.3%, yet Capital One's senior and subordinated notes of about $11 billion cost 3.08%. In addition, the company has about $12 billion worth of other borrowings at a cost of just under 3%. These numbers would seem to argue that Capital One should consider using some of its investments to pay off its long-term debt. While there is not a huge difference between the company's long-term debt cost and its investment income, any negative difference means the company is losing money while sitting on this pile of securities. Making a move like this would help increase earnings in the future, and the company already looks like an attractive value at the current time.
If you look at Capital One's valuation relative to its peers, the company seems to offer a good entry point to long-term investors at the current time. The shares trade for just over eight times projected earnings, but analysts are calling for 9.3% earnings growth in the next few years. While Capital One's dividend of about 0.34% isn't much to write home about, this dividend should increase as the company grows its earnings and gets further away from its previous financial troubles. Of its competitors, only BB&T seems to offer a potentially better alternative. The company pays a yield of about 2.8%, and sells for around 10 times projected earnings. With analysts calling for about 10% EPS growth, BB&T also sells for a multiple about equal to its growth rate. While Charles Schwab is certainly a respectable institution, the stock currently sells for well over two times its projected growth rate and seems expensive. In addition, Schwab's dividend can't match BB&T, which would argue for sticking with BB&T. E*TRADE has far too many problems in its banking and lending division, and until these issues are resolved, I would have a hard time recommending the stock. Capital One on the other hand, offers investors a unique mix of banking, credit cards, and now brokerage, all selling for a reasonable price. As a leading credit card issuer, Capital One seems well-positioned to benefit as the economy improves. For investors the question isn't “What's In Your Wallet?” as much as “What's In Your Portfolio?”
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