BFST - Business First Bancshares: Attractively Valued But Q3 Earnings Likely To Be Flattish

2023-10-25 05:37:56 ET

Summary

• Louisiana’s strong job market bodes well for loan growth in the near term.
• The net interest margin is likely to slip further because of the recent deterioration of the deposit mix as well as the lagged effect of previous rate hikes.
• The December 2023 target price suggests a high upside from the current market price. Further, Business First Bancshares is offering a modest dividend yield.
• The risk level appears low. Uninsured deposits are the only risk factor that bears monitoring.

Earnings of Business First Bancshares (BFST) will likely be flattish this year. Anticipated loan growth will lift earnings while pressure on the margin will drag earnings. Overall, I’m expecting the company to report earnings of $0.59 per share for the third quarter of 2023, $2.39 per share for 2023, and $2.25 per share for 2024. The year-end target price suggests a high upside from the current market price. As a result, I’m adopting a buy rating on Business First Bancshares stock.

Further Margin Slippage Likely

Business First Bancshares’ net interest margin declined by 43 basis points in the first half of the year as interest rates rose. The company’s balance sheet is positioned in a manner that earnings suffer in both rising and falling rate environments, as indicated by the results of the management’s rate-sensitivity analysis given in the 10-Q filing .

Like most other banks, one of the biggest changes in Business First Bancshares’ balance sheet this year has been a detrimental shift in the deposit mix. The proportion of non-interest-bearing deposits slipped to 28.5% by the end of June 2023 from 32.1% at the end of December 2022 and 36.5% at the end of June 2022. This deposit migration would have made the deposit cost more vulnerable to interest rate changes during the third quarter of the year compared to previous quarters. Therefore, the margin can be expected to have declined further during the third quarter of the year.

I believe the up-rate cycle has ended and there will be no more Fed Funds rate hikes through the end of my forecast horizon, i.e. the end of 2024. Therefore, I believe only the lagged residual effect of previous rate hikes will be visible through the middle of 2024. In the second half of 2024, I expect the margin to decrease to a large degree again because I’m anticipating rate cuts.

Overall, I’m expecting the net interest margin to have decreased by five basis points in the third quarter of the year. Further, I’m expecting the margin to dip by two basis points each quarter through the middle of 2024, and then decrease by five basis points in each of the last two quarters of 2024.

Positive Macro Factors to Sustain Loan Growth

Business First Bancshares’ loan portfolio grew by 6.3% in the first half of 2023. Although the rate of growth has slowed this year compared to last year, it is still quite high when compared to the organic growth of previous years. I think loan growth will slow down in the upcoming quarters because of high-interest rates. However, the growth rate will likely remain at a decent level thanks to macroeconomic factors.

Headquartered in Baton Rouge, LA, Business First Bancshares operates throughout Louisiana. The company also has a substantial presence in Texas. Therefore, unemployment rates for the two states are good indicators of credit appetite in Business First Bancshares’ markets, and consequently the loan demand. As shown below, Louisiana’s unemployment rate has dipped in recent months, which means loan growth could be better in the second half of the year compared to the first half. The opposite is the case for Texas.

The economies of Texas and Louisiana are materially affected by the oil and gas markets. I’m expecting energy prices to remain elevated in the near term due to the current geopolitical issues. The higher prices should result in higher energy production in dollar terms in these states.

Considering these factors, I’m expecting the loan portfolio to grow by 2% each quarter through the end of 2024. The following table shows my balance sheet estimates.

Risks Appear Subdued

Business First Bancshares’ risk level appears low due to the following factors.

1. The loan portfolio’s credit risk is quite low as non-performing loans made up just 0.36% of total loans at the end of June 2023.
2. Despite the company’s location, the oil and gas segment makes up just 4.1% of total loans, as mentioned in the second quarter’s presentation . Therefore, risks from this volatile segment are limited. However, most of the loan portfolio is indirectly affected by the oil and gas segment as loans are concentrated in Louisiana and Texas.
3. Gross unrealized losses on the Available-for-Sale securities portfolio amounted to $102.47 million at the end of June 2023. This unrealized loss is around 19% of total equity, which isn’t too high considering BFST’s equity market value has declined by 21% over the last twelve months.

The only risk factor that bears monitoring is the high proportion of uninsured deposits in total deposits. Total uninsured deposits made up 38.1% of total deposits at the end of June 2023, as mentioned in the 10-Q filing.

Adopting a Buy Rating

Business First Bancshares is offering a dividend yield of 2.6% at the current quarterly dividend rate of $0.12 per share. The earnings and dividend estimates suggest payout ratios of 20% for 2023 and 21% for 2023, which are in line with the five-year average of 21%. Further, Business First Bancshares does not change its dividend level often. As a result, I’m not expecting any change in the dividend rate through the end of 2024.

I’m using the historical price-to-tangible book (“P/TB”) and price-to-earnings (“P/E”) multiples to value Business First. The stock has traded at an average P/TB ratio of 1.29 and an average P/E ratio of around 10.3x in the past, as shown below.

Multiplying the average P/TB multiple with the forecast tangible book value per share of $17.8 gives a target price of $23.0 for the end of 2023. This price target implies a 26.1% upside from the October 23 closing price. The following table shows the sensitivity of the target price to the P/TB ratio.

Equally weighting the target prices from the two valuation methods gives a combined target price of $23.8 , which implies a 30.9% upside from the current market price. Adding the forward dividend yield gives a total expected return of 33.5%. Hence, I’m adopting a buy rating on Business First Bancshares.

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