Suntrust: A Compelling Long-Term Stock
Maxwell is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
SunTrust Banks (NYSE: STI) is the largest regional bank still remaining in the Southeast United States, and the 11th largest domestic bank overall by assets. It had substantial mortgage exposure in Miami, perhaps the most negatively impacted real estate market in the United States in the recent recession. Without a major investment bank or other avenues to offset mortgage losses, Suntrust suffered as much as any bank in the nation in the recent recession. It is recovering, albeit painfully slowly, and its first quarter of 2012 further evidenced the slow pace of SunTrust’s recovery.
Earnings for the first quarter of 2012 were $250 million, or $0.46 per share. It was a nearly six fold improvement from the first quarter of 2011's eight cents per share. The recent performance also crushed analysts’ estimates for the quarter of $0.33 cents, by a wide 40% Has SunTrust actually gotten over the hump on its road back from recession era losses? Read on.
In the years from the beginning of the current form of SunTrust in 1985 until 2007, this company never failed to post earnings that generated a return of at least 1.0% on assets, except in years with extreme one-time events. The dividend was raised every year, and the efficiency ratio was in the 55% - 60% range every year. So, while the first quarter of 2012 looks dandy compared with last year, it looks positively dismal when perceived through a longer viewed time frame. For the record, SunTrust’s return on assets in the first quarter of 2012 was 0.57%. Not until earnings are at least twice what they were in the quarter, will I ever be able to write that SunTrust is truly back. The company still has much work to do on the expense side of the ledger, as the efficiency ratio was 69.5%.
But I do see better days ahead. SunTrust’s geographic footprint, I believe, will economically outperform the nation as a whole over the next ten years. And steps toward recovering have obviously begun. In that vein, it was a net positive that SunTrust did not pass the Federal Reserve's recent stress test. I prefer to see the bank increase further its capital position before committing to additional distributions of capital. It is my belief that lowering the anticipation levels of shareholders is a good thing.
A closer look at the balance sheet and income statement show some positive signs, as well. Average loans outstanding in the first quarter of 2012 of $122.5 billion were $7.2 billion, or about 6% higher than the year ago quarter. That, combined with lower interest costs, led to a $45 million, or 5% increase in net interest income versus the year ago. The interest margin was 3.49%; four basis points below the year ago level, but a three basis point improvement from the 4th quarter of 2011. We have seen most banks' margins start to improve just as SunTrust’s from a low point in the fourth quarter of 2011. That is a real positive for the banking industry going forward.
Non-interest income in the quarter was just one percent below the year ago quarter, as losses from the Durbin Amendment were offset by higher mortgage fee income. Non-interest expenses continued upward by 5% on a sequential basis, largely due to personnel costs. SunTrust is trying to get a handle on those costs as it terminated its defined benefit pension plans late in 2011.
But what really drove SunTrust’s profit improvement more than any single factor, was its provision for loan losses was $130 million less in the first quarter of 2012 than in the first quarter of 2011. The reduction was justified as credit metrics improved substantially in every way. The caveat to the bright credit picture is the somewhat unknown amount of future mortgage repurchase demands. As with all banks, SunTrust warranted upon selling loans to the likes of Fannie Mae that if material misrepresentations or omissions were made in mortgage applications, SunTrust would reimburse the agency. At March 31, 2012, SunTrust had reserved for $383 million for losses in that arena; time will tell if that is sufficient.
Otherwise, going forward, I expect credit metrics to substantially improve through 2012 and 2013 back to historically normal levels. Mortgage and commercial loan activity should continue to provide growth opportunities. SunTrust is not a sure bet, but I see its earnings out to mid-decade representing a 1.0% return on assets, or over $3 per share. That should support a stock price double or more its current value. I have owned SunTrust stock since the 1980's, and added substantially to my holdings in 2009. I am glad I did, and despite the company's sales of its historical and valuable stake in Coca-Cola, I am not selling anytime soon.
Regions Financial (NYSE: RF) is another large Southeastern Regional, who has struggled even more than SunTrust has struggled. It has recorded full year losses four years in a row, and was the last of the big banks to repay its TARP debt. It did so last quarter by selling its key Morgan Keegan asset to Raymond James Financial, along with a dilutive stock offering. That was indeed a case of doing what it had to do, however distasteful, and I give props to management for successfully executing a very busy quarter.
Regions posted a first quarter, 2012 profit of $145 million, or $0.11 per share. It was the best quarter, on a per share basis, since 2008. Regions has been in survival mode rather than growth mode these past couple years, and a review of the company's credit metrics shows great promise. The ratio of nonperforming assets to loans fell from about 4.8% in the first quarter of 2011, to about 3.4% in the first quarter of 2012. Further declines are likely going forward, giving Regions some breathing room.
The next step for the company is to be able to be steadily profitable. Its provisions for loan losses fell to just $117 million in the first quarter of 2012 from $482 million in the year earlier quarter. Absent that $365 million year over year gain and Regions would have lost money. The very modest reserve provision shows a great deal of confidence in its recent underwriting, and in macro-economic conditions. Time will tell. I believe Regions is a decent, but no better than that, bet for a speculator. It is not yet suitable for a long term investor.
Of course, the 900 pound gorilla of southern banking is Charlotte-based Bank of America (NYSE: BAC). As the former North Carolina National Bank, it has hundreds of branches in Florida, Georgia, and the Carolinas, in addition to its money center and West Coast presences. So, among its almost too numerous to list problems of the past four years, it was also fully exposed to the imploding real estate markets in Miami and elsewhere. As we all know, Bank of America compounded that by also fully participating in most of the country's worst real estate markets, and all the fraud allegations that the Countrywide acquisition brought. I suppose the worst is possibly behind Bank of America, but that is far from a certainty.
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